ADAPTEC INC, 10-Q, 2000-02-11

ADAPTEC INC
10-Q, 2000-02-11
COMPUTER COMMUNICATIONS EQUIPMENT

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

------------------------

FORM 10-Q

(MARK ONE)

<TABLE>
<C> <S>
/X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
</TABLE>

FOR THE QUARTERLY PERIOD ENDED DECEMBER 31, 1999

<TABLE>
<C> <S>
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
</TABLE>

FOR THE TRANSITION PERIOD FROM ______________ TO ______________

COMMISSION FILE NUMBER 0-15071

------------------------

ADAPTEC, INC.

(Exact name of registrant as specified in its charter)

<TABLE>
<S> <C>
DELAWARE 94-2748530
(State of Incorporation) (I.R.S. Employer Identification No.)

691 S. MILPITAS BLVD., MILPITAS, CALIFORNIA 95035
(Address of principal executive offices) (Zip Code)
</TABLE>

(408) 945-8600
Registrant's telephone number, including area code

N/A
(Former name, former address and former fiscal year, if changed since last
report)

------------------------

Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes /X/ No / /

The number of shares outstanding of the Company's common stock as of
December 31, 1999 was 103,947,039.

This document consists of 44 pages, excluding exhibits, of which this is
page 1.

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<PAGE>
TABLE OF CONTENTS

<TABLE>
<CAPTION>
PAGE
--------
<S> <C>
PART I. FINANCIAL INFORMATION

Item 1. Financial Statements:

Condensed Consolidated Statements of Operations......... 3

Condensed Consolidated Balance Sheets................... 4

Condensed Consolidated Statements of Cash Flows......... 5

Notes To Condensed Consolidated Financial Statements.... 6-23

Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations:

Results of Operations................................... 24-33

Liquidity and Capital Resources......................... 33-34

Factors Affecting Future Operating Results.............. 34-40

Pro Forma Financial Results............................. 41-42

Item 3. Quantitative and Qualitative Disclosures About
Market Risk............................................. 42

PART II. OTHER INFORMATION

Item 1. Legal Proceedings................................. 43

Item 6. Exhibits and Reports on Form 8-K.................. 43

SIGNATURES.................................................. 44
</TABLE>

2
<PAGE>
PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

ADAPTEC, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)

<TABLE>
<CAPTION>
THREE MONTH NINE MONTH
PERIOD ENDED PERIOD ENDED
----------------------------- -----------------------------
DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31,
1999 1998 1999 1998
------------- ------------- ------------- -------------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C>
Net revenues................................ $211,446 $183,872 $598,104 $508,424
Cost of revenues............................ 69,529 74,719 202,583 217,544
-------- -------- -------- --------
Gross profit................................ 141,917 109,153 395,521 290,880
-------- -------- -------- --------
Operating expenses:
Research and development.................. 25,804 35,156 73,539 119,970
Sales, marketing and administrative....... 41,496 40,809 121,106 129,905
Amortization of goodwill and other
intangibles............................. 3,094 2,715 5,844 9,826
Write-off of acquired in-process
technology.............................. 16,739 -- 19,755 45,482
Restructuring and other charges........... 9,599 -- 9,599 62,187
-------- -------- -------- --------
Total operating expenses.................... 96,732 78,680 229,843 367,370
-------- -------- -------- --------
Income (loss) from operations............... 45,185 30,473 165,678 (76,490)
Interest and other income................... 8,119 7,916 39,183 24,961
Interest expense............................ (2,811) (2,992) (8,732) (9,106)
-------- -------- -------- --------
Income (loss) before provision (benefit) for
income taxes.............................. 50,493 35,397 196,129 (60,635)
Provision (benefit) for income taxes........ 18,825 10,385 61,757 (974)
-------- -------- -------- --------
Net income (loss)........................... $ 31,668 $ 25,012 $134,372 $(59,661)
======== ======== ======== ========
Net income (loss) per share:
Basic..................................... $ 0.31 $ 0.23 $ 1.30 $ (0.54)
======== ======== ======== ========
Diluted................................... $ 0.29 $ 0.23 $ 1.23 $ (0.54)
======== ======== ======== ========
Shares used in computing net income (loss)
per share:
Basic..................................... 103,267 108,040 103,311 111,274
======== ======== ======== ========
Diluted................................... 110,424 110,881 109,591 111,274
======== ======== ======== ========
</TABLE>

See accompanying notes to condensed consolidated financial statements.

3
<PAGE>
ADAPTEC, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(UNAUDITED)

<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
1999 1999
------------ ----------
(IN THOUSANDS)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents................................. $ 171,133 $ 317,580
Marketable securities..................................... 546,967 426,332
Accounts receivable, net.................................. 75,823 67,158
Inventories............................................... 71,939 50,838
Prepaid expenses.......................................... 18,648 11,312
Other current assets...................................... 24,916 136,797
---------- ----------
Total current assets.................................... 909,426 1,010,017
Property and equipment, net................................. 134,252 126,734
Goodwill and other intangibles.............................. 233,732 2,238
Other long-term assets...................................... 51,843 34,079
---------- ----------
$1,329,253 $1,173,068
========== ==========

LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.......................................... $ 39,818 $ 39,487
Accrued liabilities....................................... 180,145 112,879
---------- ----------
Total current liabilities............................... 219,963 152,366
---------- ----------
4 3/4% Convertible Subordinated Notes....................... 229,800 230,000
Other long-term liability................................... 10,800 --
Contingencies (Notes 16 and 18)

Stockholders' equity:
Common stock.............................................. 104 106
Additional paid-in capital................................ 94,745 194,521
Retained earnings......................................... 730,447 596,075
Accumulated other comprehensive income.................... 43,394 --
---------- ----------
Total stockholders' equity.............................. 868,690 790,702
---------- ----------
$1,329,253 $1,173,068
========== ==========
</TABLE>

See accompanying notes to condensed consolidated financial statements.

4
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ADAPTEC, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

<TABLE>
<CAPTION>
NINE MONTH
PERIOD ENDED
---------------------------
DECEMBER 31, DECEMBER 31,
1999 1998
------------ ------------
(IN THOUSANDS)
<S> <C> <C>
NET CASH PROVIDED BY OPERATING ACTIVITIES................... $237,239 $120,455
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of certain net assets in connection with
acquisitions, net......................................... (186,416) (34,126)
Purchases of property and equipment......................... (7,253) (32,203)
Net proceeds from the sale of property and equipment........ 1,941 --
Net proceeds from the sale of land held for sale............ 16,577 --
Net proceeds from the sale of PTS........................... -- 4,543
Purchases of marketable securities.......................... (961,390) (479,033)
Sales of marketable securities.............................. 630,371 350,634
Maturities of marketable securities......................... 283,174 205,692
Purchases of minority investments........................... (3,372) --
-------- --------
NET CASH (USED FOR) PROVIDED BY INVESTING ACTIVITIES........ (226,368) 15,507
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from the issuance of common stock.................. 88,593 11,567
Proceeds from the issuance of put warrants.................. 3,725 --
Repurchases of common stock................................. (244,132) (106,514)
Principal payments on long-term debt........................ (5,504) (5,550)
-------- --------
NET CASH USED FOR FINANCING ACTIVITIES...................... (157,318) (100,497)
-------- --------
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS........ (146,447) 35,465

CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD............ 317,580 227,183
-------- --------
CASH AND CASH EQUIVALENTS AT END OF PERIOD.................. $171,133 $262,648
======== ========
</TABLE>

See accompanying notes to condensed consolidated financial statements.

5
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ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

DECEMBER 31, 1999

(UNAUDITED)

1. BASIS OF PRESENTATION

In the opinion of management, the accompanying unaudited condensed
consolidated interim financial statements have been prepared on a consistent
basis with the March 31, 1999 audited consolidated financial statements and
include all adjustments, consisting of only normal recurring adjustments, except
as described in Notes 7 through 11, necessary to provide a fair statement of the
results for the interim periods presented. These interim financial statements
should be read in conjunction with the consolidated financial statements and
footnotes thereto in the Company's Annual Report on Form 10-K for the year ended
March 31, 1999. For presentation purposes, the Company has indicated its third
quarter of fiscal 1999, as having ended on December 31, whereas in fact, the
Company's third quarter of fiscal 1999 ended on January 1, 1999. The results of
operations for the three and nine month periods ended December 31, 1999, are not
necessarily indicative of the results to be expected for the entire year.
Additionally, certain items previously reported in specific financial statement
captions have been reclassified to conform to the current presentation.

On June 8, 1999, the Company received a comment letter from the Securities
and Exchange Commission ("SEC") regarding certain of the Company's previous
filings under the Securities Exchange Act of 1934, primarily relating to
disclosures in the Company's Management's Discussion and Analysis of Financial
Condition and Results of Operations and Notes to Consolidated Financial
Statements. Accordingly, the Company has responded to the SEC's inquiries and
provided additional disclosures in its fiscal 1999 Annual Report on Form 10-K
and all subsequent 1934 Act filings, including this Report on Form 10-Q for the
third quarter of fiscal 2000. However, there can be no assurance that the SEC
will not take exception with the Company's disclosures and require that the
Company make additional disclosures in its periodic reports or further amend its
previous filings.

2. COMPREHENSIVE INCOME

As of April 1, 1998, the Company adopted Statement of Financial Accounting
Standards No. 130 ("SFAS 130"), "Reporting Comprehensive Income". SFAS 130
requires components of comprehensive income, including unrealized gains or
losses on the Company's available-for-sale securities and foreign currency
translation adjustments, to be reported in the financial statements or notes
thereto. The adoption does not impact net income (loss). Comprehensive income
(loss) consists of net income (loss) and other comprehensive income.

6
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ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

2. COMPREHENSIVE INCOME (CONTINUED)

The components of comprehensive income (loss), net of income taxes,
included:

<TABLE>
<CAPTION>
THREE MONTH PERIOD ENDED
-------------------------------------
DECEMBER 31, 1999 DECEMBER 31, 1998
----------------- -----------------
(IN THOUSANDS)
<S> <C> <C>
Net income.................................. $31,668 $25,012
Change in net unrealized gain on
available-for-sale securities............. 43,394 --
------- -------
Total....................................... $75,062 $25,012
======= =======
</TABLE>

<TABLE>
<CAPTION>
NINE MONTH PERIOD ENDED
-------------------------------------
DECEMBER 31, 1999 DECEMBER 31, 1998
----------------- -----------------
(IN THOUSANDS)
<S> <C> <C>
Net income (loss)........................... $134,372 $(59,661)
Change in net unrealized gain on
available-for-sale securities............. 43,394 --
-------- --------
Total....................................... $177,766 $(59,661)
======== ========
</TABLE>

Accumulated other comprehensive income presented in the accompanying
Condensed Consolidated Balance Sheet represents the accumulated net unrealized
gain on available-for-sale securities, net of income taxes, primarily related to
the Company's investment in JNI common stock (Note 8). The realization of these
gains is dependent on the market value of the securities, which is subject to
fluctuation, and the Company's ability to sell the securities under its current
limitations. There can be no assurance if and when these gains will be realized.

3. RECENT ACCOUNTING PRONOUNCEMENTS

In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133 ("SFAS 133"), "Accounting for Derivative
Instruments and Hedging Activities". SFAS 133 establishes accounting and
reporting standards for derivative instruments and for hedging activities and
requires recognition of all derivatives as assets or liabilities and measurement
of those instruments at fair value. In June 1999, the Financial Accounting
Standards Board issued Statement of Financial Accounting Standards No. 137
("SFAS 137"), "Accounting for Derivative Instruments and Hedging
Activities--Deferral of the Effective Date of FASB Statement No. 133," which
deferred the required date of adoption of SFAS 133 for one year, to fiscal years
beginning after June 15, 2000. The Company will adopt this statement in its
first quarter of fiscal 2002, but does not expect the adoption of SFAS 133 to
have a material impact on the Company's financial position, results of
operations or cash flows.

7
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ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

4. BALANCE SHEET DETAIL

Inventories are stated at the lower of cost (first-in, first-out) or market.
The components of inventory were as follows:

<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
1999 1999
------------ ---------
(IN THOUSANDS)
<S> <C> <C>
Raw materials......................................... $24,395 $16,354
Work-in-process....................................... 10,598 8,202
Finished goods........................................ 36,946 26,282
------- -------
$71,939 $50,838
======= =======
</TABLE>

The components of accrued liabilities were as follows:

<TABLE>
<CAPTION>
DECEMBER 31, MARCH 31,
1999 1999
------------ ---------
(IN THOUSANDS)
<S> <C> <C>
Tax related........................................... $ 84,200 $ 65,754
Accrued compensation and related taxes................ 39,696 22,137
Acquisition related................................... 19,262 491
Sales and marketing related........................... 7,787 7,708
Other................................................. 29,200 16,789
-------- --------
$180,145 $112,879
======== ========
</TABLE>

5. LINES OF CREDIT

In December 1999, the Company assumed a $10.0 million revolving line of
credit, of which $5.5 million was outstanding, in conjunction with the purchase
of Distributed Processing Technology Corporation ("DPT") (Note 8). The line of
credit was paid in full as of December 31, 1999 and subsequently, the Company
terminated this line of credit in January 2000.

In March 1999, the Company obtained an unsecured $60.0 million revolving
line of credit which expires on March 25, 2000. No borrowings were outstanding
under this line of credit as of December 31, 1999. The interest rate and
commitment fee is based on a pricing matrix, which correlates with the Company's
credit rating. Under the arrangement, the Company is required to maintain
certain financial ratios among other restrictive covenants. The Company was in
compliance with all such covenants as of December 31, 1999.

6. LONG-TERM DEBT

In February 1997, the Company issued $230.0 million of 4 3/4% Convertible
Subordinated Notes due on February 1, 2004. The Company received net proceeds of
$223.9 million. The holders of the notes are entitled to convert the notes into
common stock at a conversion price of $51.66 per share through February 1, 2004.
The notes are redeemable in whole or in part, at the option of the Company, at
any time on or after February 3, 2000 at declining premiums to par. Debt
issuance costs are being amortized ratably

8
<PAGE>
ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

6. LONG-TERM DEBT (CONTINUED)

over the term of the notes. During the third quarter of fiscal 2000, a 4 3/4%
Convertible Subordinated Note for $0.2 million was converted by a note holder
into 3,871 shares of the Company's common stock.

In June 1992, the Company entered into a $17.0 million term loan agreement
bearing interest at 7.65%, with principal and interest payable in quarterly
installments of $850,000. In the first quarter of fiscal 1999, the Company paid
the remaining outstanding principal and interest due on the loan.

7. STATEMENTS OF OPERATIONS

Restructuring and other charges included:

<TABLE>
<CAPTION>
THREE MONTH NINE MONTH
PERIOD ENDED PERIOD ENDED
------------------- -------------------
DEC. 31, DEC. 31, DEC. 31, DEC. 31,
1999 1998 1999 1998
-------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Acquisition related costs (Note 10)........ $ -- $ -- $ -- $21,463
Restructuring charges (Note 9)............. -- -- -- 33,330
Asset impairment and other charges (Notes
10 and 16)............................... 9,599 -- 9,599 7,394
------ ------ ------ -------
Total restructuring and other charges...... $9,599 $ -- $9,599 $62,187
====== ====== ====== =======
</TABLE>

Interest and other income included:

<TABLE>
<CAPTION>
THREE MONTH NINE MONTH
PERIOD ENDED PERIOD ENDED
------------------- -------------------
DEC. 31, DEC. 31, DEC. 31, DEC. 31,
1999 1998 1999 1998
-------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Interest income........................... $8,119 $7,916 $24,750 $24,961
Gain on sale of land (Note 11)............ -- -- 3,513 --
Gain on exchange of warrant (Note 8)...... -- -- 10,920 --
------ ------ ------- -------
Total interest and other income........... $8,119 $7,916 $39,183 $24,961
====== ====== ======= =======
</TABLE>

8. BUSINESS COMBINATIONS AND RELATED PARTY TRANSACTIONS

DPT: In December 1999, the Company purchased DPT, a leading supplier of
high-performance storage solutions, including RAID controllers and storage
subsystems, for $185.2 million in cash and assumed stock options valued at
$51.8 million. The stock options were valued using the Black-Scholes valuation
model. As part of the purchase agreement, $18.5 million of the purchase price
was held back for unknown liabilities that may have existed as of the
acquisition date. The holdback was included in "Accrued liabilities" in the
Condensed Consolidated Balance Sheet as of December 31, 1999. The holdback will
be paid for such unknown liabilities or to the seller within 12 months from the
acquisition date and was included as part of the purchase price of the
transaction. Additionally, the Company incurred

9
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ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

8. BUSINESS COMBINATIONS AND RELATED PARTY TRANSACTIONS (CONTINUED)

$1.1 million in professional fees, including legal, valuation and accounting
fees related to the acquisition, which were capitalized as part of the purchase
price of the transaction.

Assuming the business combination had taken place as of April 1, 1998,
amortization of goodwill and other intangibles would have increased by
$39.4 million and $40.7 million for the nine month periods ended December 31,
1999 and December 31, 1998, respectively. The Company will disclose further pro
forma financial information in a subsequent filing on Form 8-K/A.

The Company accounted for the acquisition of DPT using the purchase method
of accounting and, excluding the write-off of acquired in-process technology,
the impact of the acquisition was not material to the Company's consolidated
financial results of operations from the acquisition date through December 31,
1999. The preliminary allocation of the Company's purchase price to the tangible
and identifiable intangible assets acquired and liabilities assumed is
summarized below.

The preliminary allocation was based on an independent appraisal and
estimate of fair value.

<TABLE>
<CAPTION>
(IN THOUSANDS)
<S> <C>
Net tangible assets......................................... $ 4,262
In-process technology....................................... 16,739
Goodwill and other intangible assets:
Goodwill.................................................. 147,825
Purchased technology...................................... 38,621
Covenant not to compete................................... 9,332
Acquired employees........................................ 6,832
Distribution network...................................... 9,292
OEM relationships......................................... 5,190
--------
217,092
--------
Net assets acquired......................................... $238,093
========
</TABLE>

The net tangible assets acquired were comprised primarily of inventory,
property and equipment and receivables offset by accrued liabilities, including
amounts due under a line of credit (Note 5). The acquired in-process technology
was written-off in the third quarter of fiscal 2000. The estimated weighted
average useful life of the intangible assets for purchased technology, covenant
not to compete, acquired employees, distribution network, OEM relationships and
the residual goodwill, created as a result of the acquisition of DPT, is
approximately four years.

The $16.7 million allocation of the purchase price to the acquired
in-process technology has been determined by identifying research projects in
areas for which technological feasibility had not been established and no
alternative future uses existed. The Company acquired technology consisting of
next generation RAID controllers. The value was determined by estimating the
expected cash flows from the project once commercially viable, discounting the
net cash flows back to their present value, and then applying a percentage of
completion to the calculated value as defined below.

10
<PAGE>
ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

8. BUSINESS COMBINATIONS AND RELATED PARTY TRANSACTIONS (CONTINUED)

NET CASH FLOWS. The net cash flows from the identified project was based on
estimates of revenues, cost of sales, research and development costs, selling,
general and administrative costs, royalty costs and income taxes from the
project. These estimates were based on the assumptions mentioned below. The
research and development costs excluded costs to bring the acquired in-process
project to technological feasibility.

The estimated revenues were based on management projections of the acquired
in-process project. The business projections were compared with and found to be
in line with industry analysts' forecasts of growth in substantially all of the
relevant markets. Estimated total revenues from the acquired in-process
technology product are expected to peak in fiscal 2003 and decline in fiscal
2004 as other new products are expected to become available. These projections
were based on estimates of market size and growth, expected trends in
technology, and the nature and expected timing of new product introductions by
the Company and its competitors.

Projected gross margins were based on DPT's historical margins, which were
in line with the Company's RAID segment that acquired DPT. The estimated
selling, general and administrative costs, as well as research and development
costs, were consistent with DPT's historical cost structure.

ROYALTY RATE. The Company applied a royalty charge of 25% of operating
income for each in-process project to attribute value for dependency on
predecessor core technologies.

PERCENTAGE OF COMPLETION. The percentage of completion was determined using
costs incurred by DPT prior to the acquisition date compared to the remaining
research and development to be completed to bring the project to technological
feasibility. The Company estimated, as of the acquisition date, the project was
60% complete and the estimated costs to complete the project were approximately
$7.8 million.

The Company expects to complete the project within 15 months from the
acquisition date. However, development of this project remains a significant
risk to the Company due to the remaining effort to achieve technical
feasibility, rapidly changing customer markets and significant competitive
threats from numerous companies. Failure to bring these products to market in a
timely manner could adversely impact sales and profitability of the Company in
the future. Additionally, the value of the intangible assets acquired may become
impaired.

CEQUADRAT: In July 1999, the Company purchased CeQuadrat GmbH
("CeQuadrat"), a developer of CD-R software products, for $24.0 million in cash.
As part of the purchase agreement, $4.8 million of the purchase price was held
back for unknown liabilities that may have existed as of the acquisition date.
The holdback was included in "Accrued liabilities" in the Condensed Consolidated
Balance Sheet as of September 30, 1999. In the third quarter of fiscal 2000, the
Company paid the holdback to an escrow

11
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ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

8. BUSINESS COMBINATIONS AND RELATED PARTY TRANSACTIONS (CONTINUED)

account, thereby reducing accrued liabilities in the Condensed Consolidated
Balance Sheet as of December 31, 1999. The holdback will be paid for such
unknown liabilities or to the seller within 12 months from the acquisition date
and was included as part of the purchase price of the transaction. Additionally,
the Company incurred $0.3 million in professional fees, including legal,
valuation and accounting fees related to the acquisition, which were capitalized
as part of the purchase price of the transaction.

The Company accounted for the acquisition of CeQuadrat using the purchase
method of accounting and, excluding the write-off of acquired in-process
technology, the impact of the acquisition was not material to the Company's
consolidated financial results of operations from the acquisition date. The
allocation of the Company's purchase price to the tangible and identifiable
intangible assets acquired and liabilities assumed is summarized below.

The allocation was based on an independent appraisal and estimate of fair
value.

<TABLE>
<CAPTION>
(IN THOUSANDS)
<S> <C>
Net tangible assets......................................... $ 123
In-process technology....................................... 3,016
Goodwill and other intangible assets:
Goodwill.................................................. 10,341
Purchased technology...................................... 3,140
Covenant not to compete................................... 4,360
Acquired employees........................................ 1,173
OEM relationships......................................... 1,186
Trade name................................................ 953
-------
21,153
-------
Net assets acquired......................................... $24,292
=======
</TABLE>

The net tangible assets acquired were comprised primarily of cash and
receivables offset by accrued liabilities. The acquired in-process technology
was written-off in the second quarter of fiscal 2000. The estimated weighted
average useful life of the intangible assets for purchased technology, covenant
not to compete, acquired employees, OEM relationships, trade name and the
residual goodwill, created as a result of the acquisition of CeQuadrat, is
approximately three years.

12
<PAGE>
ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

8. BUSINESS COMBINATIONS AND RELATED PARTY TRANSACTIONS (CONTINUED)

The $3.0 million allocation of the purchase price to the acquired in-process
technology was determined by identifying research projects in areas for which
technological feasibility had not been established and no alternative future
uses existed. The Company acquired technology consisting of next generation
consumer-oriented CD-R software, next generation professional-oriented CD-R
software and CD backup software; the amount of in-process technology allocated
to each of the projects was $0.6 million, $2.2 million and $0.2 million,
respectively. The value for each of the projects was determined by estimating
the expected cash flows from the projects once commercially viable, discounting
the net cash flows back to their present value, and then applying a percentage
of completion to the calculated value as defined below.

NET CASH FLOWS. The net cash flows from the identified projects were based
on estimates of revenues, cost of sales, research and development costs,
selling, general and administrative costs, royalty costs and income taxes from
those projects. These estimates were based on the assumptions mentioned below.
The research and development costs excluded costs to bring acquired in-process
projects to technological feasibility.

The estimated revenues were based on management projections of the acquired
in-process projects for the next generation consumer-oriented CD-R software,
next generation professional-oriented CD-R software and the CD backup software.
The business projections were compared with and found to be in line with
industry analysts' forecasts of growth in substantially all of the relevant
markets. Estimated total revenues from all of the acquired in-process technology
products are expected to peak in fiscal 2002 and decline in fiscal 2003 as other
new products are expected to become available. These projections were based on
estimates of market size and growth, expected trends in technology, and the
nature and expected timing of new product introductions by the Company and its
competitors.

Projected gross margins were based on CeQuadrat's historical margins, which
were in line with the Company's Software segment that acquired CeQuadrat. The
estimated selling, general and administrative costs, as well as research and
development costs, were consistent with CeQuadrat's historical cost structure.

ROYALTY RATE. The Company applied a royalty charge of 30% of operating
income for each in-process project to attribute value for dependency on
predecessor core technologies.

DISCOUNT RATE. Discounting the net cash flows back to their present value
was based on the cost of capital for well managed venture capital funds which
typically have similar risks and returns on investments. The cost of capital
used in discounting the net cash flows from acquired in-process technology was
30% for each of the acquired in-process technology projects. Higher required
rates of return, which would correspond to higher risk, are partially mitigated
by the Company's expertise in the CD-R market.

PERCENTAGE OF COMPLETION. The percentage of completion for the projects was
determined using costs incurred by CeQuadrat prior to the acquisition date
compared to the remaining research and development to be completed to bring the
projects to technological feasibility. The Company estimated, as of the
acquisition date, the next generation consumer-oriented CD-R software, next
generation professional-oriented CD-R software and the CD backup software
projects were 82%, 69% and 82% complete, respectively, and the estimated costs
to complete the projects were approximately $0.1 million in aggregate.

13
<PAGE>
ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

8. BUSINESS COMBINATIONS AND RELATED PARTY TRANSACTIONS (CONTINUED)

All of the in-process technology projects acquired from CeQuadrat were
completed during the third quarter of fiscal 2000, and estimated costs to
complete the projects were in line with estimates. The next generation
professional-oriented CD recording software and the CD backup software began
shipping in the third quarter of fiscal 2000. The Company does not anticipate
that the next generation consumer-oriented CD recording software will be
commercially released.

RIDGE: In May 1998, the Company purchased Ridge Technologies, Inc.
("Ridge"), a development stage company, for 1.2 million shares of the Company's
common stock valued at $21.2 million, and assumed stock options valued at
$13.1 million. Prior to the acquisition, the Company owned a 19.9% interest in
Ridge with a carrying value of $1.5 million and Grant Saviers, former Chairman
and CEO of the Company, was a director of Ridge. The Company incurred
$0.8 million in professional fees, including legal, valuation and accounting
fees related to the acquisition, which were capitalized as part of the purchase
price of the transaction. In-process technology was valued at $39.4 million and
was written-off in the first quarter of fiscal 1999. In August 1998, the Company
divested the storage subsystems business, abandoned the in-process technology
projects (these projects remained incomplete from the date of acquisition
through abandonment) and wrote-off the remaining unamortized goodwill of
$0.6 million and other intangible asset of $1.2 million associated with Ridge.
The aggregate impact of this acquisition was not material to the Company's
consolidated financial results of operations from the acquisition date. The
tangible liabilities assumed exceeded the tangible assets acquired. The purchase
price allocation is included in the Company's fiscal 1999 Annual Report on
Form 10-K.

ADI: In April 1998, the Company purchased read channel and preamplifier
ASIC technologies ("ASIC technologies") from Analog Devices, Inc. ("ADI") for
$34.4 million in cash. The ASIC technologies purchased from ADI were to be
incorporated into the mainstream removable Peripheral Technology Solutions
("PTS") business line upon completion. Grant Saviers, former Chairman and CEO of
the Company, is a director of ADI. The Company incurred $0.4 million in
professional fees, including legal, valuation and accounting fees related to the
acquisition, which were capitalized as part of the purchase price of the
transaction. The acquired in-process technology was valued at $6.1 million and
was written-off in the first quarter of fiscal 1999. In January 1999, the
Company sold the mainstream removable PTS business line, including the
in-process technologies purchased from ADI (these projects remained incomplete
from the date of acquisition through their disposition), and relieved the
remaining unamortized goodwill of $18.3 million and other intangible asset of
$1.7 million associated with the ASIC technologies purchased from ADI. The
aggregate impact of this acquisition was not material to the Company's
consolidated financial results of operations from the acquisition date. The
purchase price allocation is included in the Company's fiscal 1999 Annual Report
on Form 10-K.

JNI: Under an Asset Acquisition Agreement, dated November 12, 1998, between
JNI Corporation ("JNI") and the Company ("Asset Acquisition Agreement"), the
Company sold certain fibre channel technology, products and property and
equipment to JNI. As consideration for the assets received, JNI issued to the
Company 1,132,895 shares of JNI Series A Convertible Preferred Stock. In
addition, JNI issued to the Company warrants to purchase up to 2,436,551 shares
of JNI Series A Convertible Preferred Stock (the share amounts contained in this
Report on Form 10-Q for the third quarter of fiscal 2000 reflect a 70% reverse
stock split effected by JNI in October 1999). Exercisibility of the warrants was
contingent

14
<PAGE>
ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

8. BUSINESS COMBINATIONS AND RELATED PARTY TRANSACTIONS (CONTINUED)

upon JNI attaining certain milestones such as net revenue levels from products
based on the acquired technology, new product introductions or a change in
majority control including an initial public offering of JNI's stock before
January 31, 2001.

On September 30, 1999, pursuant to an offer from JNI, the Company exchanged
an existing contingent warrant to purchase shares of JNI Series A Convertible
Preferred Stock for an immediately exercisable warrant to purchase 840,000
shares of JNI Series A Convertible Preferred Stock. The remaining contingent
warrants expired unexercisable on October 27, 1999, the effective date of JNI's
initial public offering. Upon the closing of the initial public offering the
Series A Convertible Preferred Stock automatically converted into shares of
common stock.

As a result of the exchange of the warrant described above, the Company
recorded a gain of $10.9 million ($6.6 million net of income taxes) in the
second quarter of fiscal 2000, reflecting the excess of fair value of the
warrant received over the carrying amount of the warrant surrendered. The
Company valued the JNI warrant received using the Black-Scholes valuation model.
The gain was included in "Interest and other income" in the Condensed
Consolidated Statements of Operations for the nine-month period ended
December 31, 1999. The fair value of the warrant received is included in "Other
long-term assets" in the Condensed Consolidated Balance Sheet.

The Company possesses certain limited registration rights beginning two
years following the date of JNI's initial public offering with respect to the
1,132,895 shares of JNI common stock acquired in November 1998 and the 840,000
shares issuable upon exercise of the warrant. However, the Company may sell the
unregistered common shares beginning one year from the date the shares were
acquired or the warrant is exercised subject to certain restrictions related to
the trading volume or total outstanding shares of JNI.

JNI stock became publicly traded in the third quarter of fiscal 2000 as a
result of their initial public offering. Accordingly, the Company's investment
in JNI common stock is stated at fair value and included in "Marketable
securities" and the unrealized gain, net of income taxes, is included in "Other
comprehensive income" in the Condensed Consolidated Balance Sheet at
December 31, 1999 (Note 3).

Due to the governmental and contractual restrictions in excess of one year
placed on the disposal of the shares underlying the warrant, the warrant does
not qualify as a marketable security under Statement of Financial Accounting
Standards No. 115 ("SFAS 115"), "Accounting for Certain Investments in Debt and
Equity Securities". Accordingly, the warrant is accounted for under the
historical cost basis and regularly evaluated for recoverability. When the
disposal restrictions are within one year of lapsing, the warrant will be
accounted for as an available-for-sale security under SFAS 115, which requires
investments to be recorded at their fair value. Unrealized gains or losses, net
of income taxes, will be recorded as other comprehensive income in the equity
section of the Condensed Consolidated Balance Sheet.

9. RESTRUCTURING

In the first quarter of fiscal 1999, the Company recorded a restructuring
charge of $8.8 million, comprised primarily of severance and benefits. In the
second quarter of fiscal 1999, the Company recorded a restructuring charge of
$24.5 million, net of an adjustment to the restructuring charge taken in the
first

15
<PAGE>
ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

9. RESTRUCTURING (CONTINUED)

quarter of fiscal 1999 of $1.4 million. The second quarter restructuring charge
was comprised primarily of severance and benefits and the write-off of fixed
assets, inventory and other current and long-term assets. In the fourth quarter
of fiscal 1999, the Company recorded a restructuring charge of $6.6 million, net
of an adjustment to the restructuring charges taken in the first and second
quarters of fiscal 1999 of $1.2 million. The fourth quarter restructuring charge
was comprised primarily of severance and benefits.

In total, the Company recorded $39.9 million in restructuring charges during
fiscal 1999, of which $17.4 million were non-cash charges. During fiscal 1999,
the Company paid $20.0 million in cash relating to restructuring activities. The
restructuring reserve balance at March 31, 1999 was comprised of $1.5 million
for severance and benefits and $1.0 million for other charges, primarily lease
payments for vacated facilities. As of December 31, 1999, substantially all of
the reserve balance has been paid out.

10. ASSET IMPAIRMENT AND OTHER CHARGES

The Company regularly evaluates the recoverability of long-lived assets by
measuring the carrying amount of the assets against the estimated future
undiscounted cash flows associated with them. At the time such evaluations
indicate that the future undiscounted cash flows are not sufficient to recover
the carrying value of such assets, the assets are adjusted to their fair values.
Based on these evaluations, the Company recorded non-cash impairment charges of
$4.0 million in the second quarter of fiscal 1999, including $1.4 million in
manufacturing equipment deemed unnecessary due to non-temporary declines in
production volume and the write-off of $2.6 million of non-trade related
receivables previously classified in "Other current assets" in the Condensed
Consolidated Balance Sheets.

Additionally, the Company recorded executive termination costs of
$3.4 million in the second quarter of fiscal 1999, relating to three executives.
The costs consisted of $1.9 million in severance and benefits payments and
$1.5 million in non-cash stock compensation charges resulting from amended
option agreements.

In February 1998, the Company entered into an agreement to purchase all of
the outstanding stock of Symbios, Inc., a wholly-owned subsidiary of Hyundai
Electronics America ("HEA"). In June 1998, the Company and HEA mutually agreed
to terminate the agreement. The Company paid a $7.0 million termination fee and
$6.7 million in nonconsummation fees to HEA. Additionally, the Company incurred
$7.8 million in other acquisition-related charges, including legal, consulting
and other costs. The Company expensed the entire $21.5 million in fees
associated with this terminated acquisition in the first quarter of fiscal 1999.

11. ASSETS HELD FOR SALE

In March 1999, the Company sold land located in California for net proceeds
of $5.1 million resulting in a gain of $1.6 million recorded in the fourth
quarter of fiscal 1999. Net proceeds from the sale were received in April 1999.

As of March 31, 1999, the Company had $41.1 million in assets held for sale
which were included in "Other current assets" in the Condensed Consolidated
Balance Sheet, representing several pieces of land in California and land and a
building in Colorado. In April 1999, the Company sold land held for sale in

16
<PAGE>
ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

11. ASSETS HELD FOR SALE (CONTINUED)

California for net proceeds of $11.5 million resulting in a gain of
$3.5 million recorded in the first quarter of fiscal 2000. The gain is included
in "Interest and other income" in the Condensed Consolidated Statement of
Operations for the nine-month period ended December 31, 1999. Net proceeds from
the sale were received in April 1999.

During the third quarter of fiscal 2000, the Company took the Colorado land
and building off the market in order to make improvements to the property. At
which time the improvements are completed, the Company will make a determination
as to its future requirements for the property. Accordingly, the Colorado land
and building have been reclassed to "Property and equipment" in the Condensed
Consolidated Balance Sheet as of December 31, 1999. As of December 31, 1999,
$12.9 million remained in assets held for sale, representing land located in
California. In January 2000, the Company entered into a contract to sell the
remaining land held for sale in California, however, the Company does not expect
to transfer ownership for several months.

12. NET INCOME (LOSS) PER SHARE

Following is a reconciliation of the numerators and denominators of the
basic and diluted net income (loss) per share computations for the periods
presented below.

<TABLE>
<CAPTION>
THREE MONTH PERIOD ENDED THREE MONTH PERIOD ENDED
DECEMBER 31, 1999 DECEMBER 31, 1998
--------------------------------------- ---------------------------------------
INCOME SHARES PER-SHARE INCOME SHARES PER-SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT (NUMERATOR) (DENOMINATOR) AMOUNT
----------- ------------- --------- ----------- ------------- ---------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C> <C> <C>
BASIC NET INCOME PER SHARE
Net income available to common
stockholders.................. $31,668 103,267 $0.31 $25,012 108,040 $0.23
===== =====
EFFECT OF DILUTIVE SECURITIES
Common stock equivalents........ -- 7,157 -- 2,841
------- ------- ------- -------
DILUTED NET INCOME PER SHARE
Net income available to common
stockholders and assumed
conversions................... $31,688 110,424 $0.29 $25,012 110,881 $0.23
======= ======= ===== ======= ======= =====
</TABLE>

17
<PAGE>
ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

12. NET INCOME (LOSS) PER SHARE (CONTINUED)

<TABLE>
<CAPTION>
NINE MONTH PERIOD ENDED NINE MONTH PERIOD ENDED
DECEMBER 31, 1999 DECEMBER 31, 1998
--------------------------------------- ---------------------------------------
INCOME SHARES PER-SHARE LOSS SHARES PER-SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT (NUMERATOR) (DENOMINATOR) AMOUNT
----------- ------------- --------- ----------- ------------- ---------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C> <C> <C>
BASIC NET INCOME (LOSS) PER
SHARE
Net income (loss) available to
common stockholders........... $134,372 103,311 $1.30 $(59,661) 111,274 $(0.54)
===== ======
EFFECT OF DILUTIVE SECURITIES
Common stock equivalents........ -- 6,280 -- --
-------- ------- -------- -------
DILUTED NET INCOME (LOSS) PER
SHARE
Net income (loss) available to
common stockholders and
assumed conversions........... $134,372 109,591 $1.23 $(59,661) 111,274 $(0.54)
======== ======= ===== ======== ======= ======
</TABLE>

Additional options to purchase 156,000 shares of common stock were
outstanding at December 31, 1999, but were not included in the computation of
diluted weighted average shares outstanding because the options' exercise price
was greater than the average market price of the common shares during the third
quarter of fiscal 2000. The conversion of 4,452,000 shares of common stock
related to the 4 3/4% Convertible Subordinated Notes were also not included in
the computation of diluted net income per share for the third quarter and first
nine months of fiscal 2000 because they were anti-dilutive.

For the three month period ended December 31, 1998, additional options to
purchase 4,187,000 shares of common stock were outstanding at December 31, 1998,
but were not included in the computation of diluted weighted average shares
outstanding because the options' exercise price was greater than the average
market price of the common shares during the third quarter of fiscal 1999. For
the nine month period ended December 31, 1998, 20,981,000 shares of common stock
were outstanding at December 31, 1998, but were not included in the computations
of net loss per share because they were anti-dilutive. The conversion of
4,452,000 shares of common stock related to the 4 3/4% Convertible Subordinated
Notes were not included in the computations of net income (loss) per share for
the third quarter and first nine months of fiscal 1999 because they were
anti-dilutive.

13. STOCK REPURCHASES

In January 1998, the Company's Board of Directors approved a stock buy back
program under which the Company could repurchase up to 10.0 million shares of
its common stock in the open market. In October 1998, the Company's Board of
Directors approved a stock buy back program under which the Company could
repurchase up to $200.0 million of its common stock in the open market. In
May 1999, the Company's Board of Directors approved another stock buy back
program under which the Company could repurchase up to an additional
$200.0 million of its common stock in the open market. The Company repurchased
and retired 7,902,000 and 8,746,000 shares of its common stock for
$244.1 million and $106.5 million during the first nine months of fiscal 2000
and 1999, respectively, under the buy back programs. The transactions were
recorded as reductions to common stock and additional paid-in-capital.

18
<PAGE>
ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

13. STOCK REPURCHASES (CONTINUED)

As of December 31, 1999, $56.6 million remained authorized for stock buy
back under the May 1999 program.

In the second quarter of fiscal 2000, the Company sold put warrants that
could have obligated the Company to buy back up to 1.0 million shares of its
common stock at prices ranging from $37 to $39 in exchange for up front premiums
of $3.7 million. In the third quarter of fiscal 2000, the put warrants expired
unexercised.

14. STOCK PLANS

During the second quarter of fiscal 2000, the Company's Board of Directors
and its stockholders approved the Company's 1999 Stock Plan and reserved for
issuance thereunder (a) 1,000,000 shares of common stock plus (b) any shares of
common stock reserved but ungranted under the Company's 1990 Stock Plan as of
the date of stockholder approval plus (c) any shares returned to the 1990 Stock
Plan after the date of stockholder approval of the 1999 Stock Plan as a result
of termination of options under the 1990 Stock plan. Upon stockholder approval
of the 1999 Stock Plan, the 1990 Stock Plan was terminated with respect to new
option grants.

The 1999 Stock Plan provides for granting of incentive and nonstatutory
stock options to employees, consultants and directors of the Company. Options
granted under this plan are for periods not to exceed ten years, and are granted
at prices not less than 100% and 85% for incentive and nonstatutory stock
options, respectively, of the fair market value on the date of grant. Generally,
stock options become fully vested and exercisable over a four-year period.

15. INCOME TAXES

Income tax provisions (benefits) for interim periods are based on estimated
annual income tax rates. The difference between the Company's effective income
tax rate and the U.S. federal statutory income tax rate is primarily due to
income earned in Singapore where the Company is subject to a significantly lower
effective income tax rate. The Company recorded an income tax provision of
$18.8 million representing 37.3% of income before provision for income taxes for
the third quarter of fiscal 2000 compared to an income tax provision of
$10.4 million representing 29.3% of income before provision for income taxes for
the third quarter of fiscal 1999. The effective income tax rate used to
calculate the income tax provision for the third quarter of fiscal 2000 was
higher than 28% primarily as a result of the book write-offs associated with the
acquisition of DPT, for which no current tax benefit will be derived. The
effective income tax rate used to calculate the income tax provision for the
third quarter of fiscal 1999 was greater than 28% primarily as a result of book
write-offs, which are not deductible for tax purposes.

19
<PAGE>
ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

16. CONTINGENCIES

A class action lawsuit is pending in the United States District Court for
the Northern District of California against the Company and certain of its
officers and directors. The class action lawsuit alleges that the Company made
false and misleading statements at various times during the period between
April 1997 and January 1998 in violation of federal securities laws. The
complaint does not set forth purported damages. The Company believes the class
action lawsuit is without merit and intends to defend itself vigorously.

In addition, a derivative action was filed in the Superior Court of the
State of California against the Company and certain of its officers and
directors, alleging that the individual defendants improperly profited from
transactions in the Company's stock during the same time period referenced by
the class action lawsuit. In July 1999, the Company entered into an agreement to
settle the derivative action. Under the terms of the agreement, the Company will
reimburse the fees and costs incurred by the plaintiff's attorney of $600,000.
The settlement does not affect the class action lawsuit still pending. The court
approved the settlement on December 21, 1999, and, as a result, the derivative
action has been dismissed. The liability is included in "Accrued liabilities" in
the Condensed Consolidated Balance Sheet at December 31, 1999.

As previously disclosed, the Company has been negotiating with a third party
concerning a potential patent cross-license agreement. Subsequently, the Company
reached a tentative agreement with that party for a patent cross-license. Under
the proposed agreement, each party will be granted a license for specified
patents of the other party covering the period from January 1, 1990, through
June 30, 2004. The license fee to be paid by the Company under the proposed
cross-license agreement will range from $11 million to $25 million, depending on
the outcome of an evaluation of certain patents by an independent party. The
Company's best estimate of the total license fee that will be payable under the
proposed cross-license agreement is $18.0 million. The portion of the estimated
license fee allocated to revenues from periods prior to December 31, 1999 of
$9.6 million was written-off and included in "Restructuring and other charges"
in the Condensed Consolidated Statement of Operations for the three and nine
month periods ended December 31, 1999. The remaining license fee pertaining to
future periods was allocated to an intangible asset and will be amortized over
the period from January 1, 2000 through June 30, 2004. At December 31, 1999,
$0.9 million of the intangible asset was included in "Prepaid expenses" and
$7.5 million was included in "Other long-term assets" in the Condensed
Consolidated Balance Sheet. $7.2 million of the total estimated license fee is
included in "Accrued liabilities" and the remaining $10.8 million is included in
"Other long-term liability" in the Condensed Consolidated Balance Sheet at
December 31, 1999.

The Company is a party to other litigation matters and claims which are
normal in the course of its operations, and while the results of such litigation
and claims cannot be predicted with certainty, the Company believes that the
final outcome of such matters will not have a materially adverse impact on the
Company's consolidated financial position or results of operations.

The IRS is currently auditing the Company's federal income tax returns for
its fiscal years 1994 through 1996. No proposed adjustments have been received
for these years. The Company believes sufficient taxes have been provided in
prior years and that the ultimate outcome of the IRS audits will not have a
material adverse impact on the Company's financial position or results of
operations.

20
<PAGE>
ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

17. SEGMENT REPORTING

The Company adopted Statement of Financial Accounting Standards No. 131
("SFAS 131"), "Disclosures about Segments of an Enterprise and Related
Information" in its fiscal 1999 Annual Report on Form 10-K. The Company
evaluated its product segments in accordance with SFAS 131 and concluded that
its reportable segments are Host I/O, RAID (Redundant Array of Independent
Disks), Software and PTS.

The Host I/O segment designs, develops, manufactures and markets host bus
adapter ("HBA") boards and chips that allow computers to transfer information to
and from peripherals, such as hard disk drives, scanners, CD-ROMs, CD-Rs,
CD-RWs, DVD-ROMs, and Zip and Jaz drives among many other devices. The Company's
HBAs are based on Small Computer System Interface ("SCSI") technology and are
utilized in servers, high-end workstations, desktops and laptops where high
performance I/O is a vital component of overall system performance.

The RAID segment designs, develops, manufactures and markets bus-based and
microprocessor-based RAID solutions. These products are utilized from
entry-level workstations to enterprise-class servers. The Company's RAID
controllers provide performance and functionality, incorporate the latest
technical innovations, and offer superior software functionality to make RAID
fast, simple and reliable.

In December 1999, the Company acquired DPT, a Florida-based company and
leading supplier of high-performance storage solutions, including adapters, RAID
controllers, storage subsystems, and management software. Operating results of
DPT were not material from the acquisition date (December 22, 1999) through
December 31, 1999. Beginning in the fourth quarter of fiscal 2000, operating
results of DPT will be combined with those of the Company, specifically the RAID
segment.

The Software segment designs, develops and markets primarily application
software for optical peripherals, including CD-R, CD-RW and DVD recordable
devices. In addition, the segment offers software utility products that
simplifies connecting a SCSI host adapter and peripherals to a microcomputer
system. The Company's application software products allow users to store data,
including audio, video and still photos, to virtually all marketed CD-R and
CD-RW drives using industry standard formats. The application software, along
with the peripherals, provide users with a cost effective alternative to other
forms of removable media for general purpose computing needs, including the
ability to transfer downloaded music from the Internet to CDs for private use or
creating compilations of music from purchased music CD labels. The Company's
CD-R software offerings are available as stand-alone products, and also ship
built-in or "bundled" with most CD-R drives in the desktop market.

In July 1999, the Company acquired CeQuadrat, a German-based software
company, also providing CD-R and CD-RW products. With the acquisition, came
enhanced product development and engineering expertise, as well as a greater
European customer base. Results of CeQuadrat have been combined with those of
the Company, specifically the Software segment, beginning in the second quarter
of fiscal 2000.

The business lines that comprised the PTS segment were sold in
November 1998 and January 1999 to Texas Instruments, Inc. ("TI") and ST
Microelectronics, Inc. ("ST"), respectively. This segment designed, developed,
manufactured and marketed proprietary integrated circuits ("ICs") for use in
mass storage devices and other peripherals.

Summarized pre-tax financial information concerning the Company's reportable
segments is shown in the following table. The Company does not identify or
allocate assets or depreciation by operating

21
<PAGE>
ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

17. SEGMENT REPORTING (CONTINUED)

segments nor are the segments evaluated under these criteria. The "Other" column
includes corporate related items and income and expenses not allocated to
reportable segments, primarily unusual transactions and business lines divested
in fiscal 1999.

<TABLE>
<CAPTION>
THREE MONTH NINE MONTH
PERIOD ENDED PERIOD ENDED
------------------- --------------------
DEC. 31, DEC. 31, DEC. 31, DEC. 31,
1999 1998 1999 1998
-------- -------- -------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
HOST I/O:
Net revenues..................................... $161,096 $137,240 $468,757 $ 368,121
Segment profit................................... 72,413 47,507 205,092 105,552

RAID:
Net revenues..................................... 26,186 8,156 78,306 18,006
Segment profit (loss)............................ 1,038 (4,830) 5,247 (14,613)

SOFTWARE:
Net revenues..................................... 23,156 13,563 47,783 35,542
Segment profit................................... 3,366 1,950 2,246 5,907

PTS:
Net revenues..................................... -- 24,266 -- 84,791
Segment loss..................................... -- (9,078) -- (29,794)

OTHER:
Net revenues..................................... 1,008 647 3,258 1,964
Segment loss..................................... (26,324) (152) (16,456) (127,687)
</TABLE>

The following table presents the details of "Other" segment loss:

<TABLE>
<CAPTION>
THREE MONTH NINE MONTH
PERIOD ENDED PERIOD ENDED
------------------- --------------------
DEC. 31, DEC. 31, DEC. 31, DEC. 31,
1999 1998 1999 1998
-------- -------- -------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Profit (loss) from divested business lines........... $ -- $ 41 $ -- $ (31,618)
Unallocated corporate loss........................... (5,294) (5,117) (17,553) (4,255)
Interest and other income............................ 8,119 7,916 39,183 24,961
Interest expense..................................... (2,811) (2,992) (8,732) (9,106)
Write-off of acquired in-process technology.......... (16,739) -- (19,755) (45,482)
Restructuring and other charges...................... (9,599) -- (9,599) (62,187)
-------- ------- -------- ---------
Total................................................ $(26,324) $ (152) $(16,456) $(127,687)
======== ======= ======== =========
</TABLE>

22
<PAGE>
ADAPTEC, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

DECEMBER 31, 1999

(UNAUDITED)

18. SUBSEQUENT EVENT

In January 2000, the Company entered into a four-year agreement with Agilent
Technologies, Inc. ("Agilent") to co-develop, market and sell fibre channel host
bus adapters. In exchange, the Company issued warrants to Agilent to purchase
1,160,000 shares of the Company's common stock at $62.25 per share. The warrants
were valued at $37.1 million using the Black-Scholes valuation model. The value
of the warrants will be recorded as an intangible asset in the fourth quarter of
fiscal 2000 and will be amortized ratably over the term of the agreement. In
addition, the Company will license Agilent's fibre channel host adapter and
software driver technology and pay royalties to Agilent based on revenue from
certain products, with aggregate guaranteed minimum royalty payments of
$60.0 million over the term of the agreement.

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<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

RESULTS OF OPERATIONS

The following table sets forth the items in the Condensed Consolidated
Statements of Operations as a percentage of net revenues:

<TABLE>
<CAPTION>
THREE MONTH NINE MONTH
PERIOD ENDED PERIOD ENDED
------------------- -------------------
DEC. 31, DEC. 31, DEC. 31, DEC. 31,
1999 1998 1999 1998
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Net revenues................................ 100.0% 100.0% 100.0% 100.0%
Cost of revenues............................ 32.9 40.6 33.9 42.8
----- ----- ----- -----
Gross margin................................ 67.1 59.4 66.1 57.2
----- ----- ----- -----
Operating expenses:
Research and development.................. 12.2 19.1 12.3 23.6
Sales, marketing and administrative....... 19.6 22.2 20.2 25.6
Amortization of goodwill and other
intangibles............................. 1.5 1.5 1.0 1.9
Write-off of acquired in-process
technology.............................. 7.9 -- 3.3 8.9
Restructuring and other charges........... 4.5 -- 1.6 12.2
----- ----- ----- -----
Total operating expenses.................... 45.7 42.8 38.4 72.2
----- ----- ----- -----
Income (loss) from operations............... 21.4 16.6 27.7 (15.0)
Interest and other income................... 3.8 4.3 6.6 4.9
Interest expense............................ (1.3) (1.6) (1.5) (1.8)
----- ----- ----- -----
Income (loss) before provision (benefit) for
income taxes.............................. 23.9 19.3 32.8 (11.9)
Provision (benefit) for income taxes........ 8.9 5.7 10.3 (0.2)
----- ----- ----- -----
Net income (loss)........................... 15.0% 13.6% 22.5% (11.7)%
===== ===== ===== =====
</TABLE>

SEC COMMENT LETTER. On June 8, 1999, the Company received a comment letter
from the Securities and Exchange Commission ("SEC") regarding certain of the
Company's previous filings under the Securities Exchange Act of 1934, primarily
relating to disclosures in the Company's Management's Discussion and Analysis of
Financial Condition and Results of Operations and Notes to Consolidated
Financial Statements. Accordingly, the Company has responded to the SEC's
inquiries and provided additional disclosures in its fiscal 1999 Annual Report
on Form 10-K and all subsequent 1934 Act filings, including this Report on
Form 10-Q for the third quarter of fiscal 2000. However, there can be no
assurance that the SEC will not take exception with the Company's disclosures
and require that the Company make additional disclosures in its periodic reports
or further amend its previous filings.

BUSINESS SEGMENTS. The Company adopted Statement of Financial Accounting
Standards No. 131 ("SFAS 131"), "Disclosures about Segments of an Enterprise and
Related Information" in its fiscal 1999 Annual Report on Form 10-K. The Company
evaluated its product segments in accordance with SFAS 131 and concluded that
its reportable segments are Host I/O, RAID (Redundant Array of Independent
Disks), Software and PTS.

24
<PAGE>
The RAID segment designs, develops, manufactures and markets bus-based and
microprocessor-based RAID solutions. These products are utilized from entry
level workstations to enterprise-class servers. The Company's RAID adapters
provide performance and functionality, incorporate the latest technical
innovations, and offer superior software functionality to make RAID fast, simple
and reliable.

In December 1999, the Company acquired Distributed Processing Technology
Corporation ("DPT"), a Florida-based company and leading supplier of
high-performance storage solutions, including RAID controllers and storage
subsystems. Operating results of DPT were not material from the acquisition date
(December 22, 1999) through December 31, 1999. Beginning in the fourth quarter
of fiscal 2000, operating results of DPT will be combined with those of the
Company, specifically the RAID segment.

The Software segment designs, develops and markets primarily application
software for optical peripherals, including CD-R, CD-RW and DVD recordable
devices. In addition, the segment offers software utility products that simplify
connecting a SCSI host adapter and peripherals to a microcomputer system. The
Company's application software products allow users to store data, including
audio, video and still photos, to virtually all marketed CD-R and CD-RW drives
using industry standard formats. The application software, along with the
peripherals, provide users with a cost effective alternative to other forms of
removable media for general purpose computing needs, including the ability to
transfer downloaded music from the Internet to CDs for private use or creating
compilations of music from purchased music CD labels. The Company's CD-R
software offerings are available as stand-alone products, and also ship built-in
or "bundled" with most CD-R drives in the desktop market.

NET REVENUES. Net revenues were $211.4 million and $598.1 million for the
third quarter and first nine months of fiscal 2000, respectively, an increase of
15.0% and 17.6% from net revenues of $183.9 million and $508.4 million for the
third quarter and first nine months of fiscal 1999, respectively.

Net revenues for the third quarter of fiscal 2000 were comprised of
$161.1 million from the Host I/O segment, an increase of 17.4% from the third
quarter of fiscal 1999, $26.2 million from the RAID segment, an increase of
221.1% from the third quarter of fiscal 1999, $23.1 million from the Software
segment, an increase of 70.7% from the third quarter of fiscal 1999, and
$1.0 million representing unallocated corporate net revenues. Net revenues for
the third quarter of fiscal 1999 also included $24.3 million from the divested
PTS segment. Excluding the divested PTS segment, total net revenues increased
$51.8 million or 32.5% in the third quarter of fiscal 2000, compared to the
third quarter of fiscal 1999.

Net revenues for the first nine months of fiscal 2000 were comprised of
$468.8 million from the Host I/O segment, an increase of 27.3% from the first
nine months of fiscal 1999, $78.3 million from the RAID segment, an increase of
334.9% from the first nine months of fiscal 1999, $47.8 million from the
Software segment, an increase of 34.4% from the first nine months of fiscal
1999, and $3.2 million representing unallocated corporate net revenues. Net
revenues for the first nine months of fiscal 1999 also included $84.8 million
from the divested PTS segment. Excluding the divested PTS segment, total net
revenues increased $174.5 million or 41.2% in the first nine months of fiscal
2000, compared to the first nine months of fiscal 1999.

Net revenues from the Host I/O segment increased in the third quarter and
first nine months of fiscal 2000, compared to the third quarter and first nine
months of fiscal 1999, primarily as a result of increased

25
<PAGE>
demand for high performance I/O. The demand for high performance I/O increased
due to growth in on-line applications like electronic commerce, on-line
publishing, and the proliferation of the Internet and corporate intranets. The
growth in the Host I/O segment net revenues was in line with overall growth in
the server market, partially offset by a decline in net revenues from the
desktop market, as a result of Ultra-DMA penetration. Additionally, net revenues
for the first nine months of fiscal 1999 were adversely impacted as the Company
focused on reducing inventory in the distribution channel in the second quarter
of fiscal 1999.

Net revenues from the RAID segment increased in the third quarter and first
nine months of fiscal 2000, compared to the third quarter and first nine months
of fiscal 1999, primarily as a result of sales of the Company's high-end RAID
product which was first introduced in the third quarter of fiscal 1999.
Additionally, net revenues from the RAID segment increased as a result of year
over year growth in its low-end RAID products through channel distribution.
Currently, the Company ships to one significant RAID OEM customer. However, the
Company is continuing to market its RAID products to all major server
manufacturers and continues to work closely with the OEMs on the design of
current and next generation products to meet customer requirements. The Company
expects its acquisition of DPT will play an important role in not only extending
the range of RAID products, but also expanding its customer base.

Net revenues from the Software segment increased in the third quarter and
first nine months of fiscal 2000, compared to the third quarter and first nine
months of fiscal 1999, primarily due to worldwide growth in the CD-R and CD-RW
drive markets and additional design wins with PC system OEMs in fiscal 2000.
Additionally, net revenues increased due to shipments of the Company's release
of Easy CD Creator 4.0 Deluxe product, which launched domestically in the second
quarter and worldwide in the third quarter of fiscal 2000. The acquisition of
CeQuadrat, beginning in the second quarter of fiscal 2000, also contributed
additional net revenues, specifically in Europe. The Company's software royalty
revenues have increased from higher unit volume shipments attributable to the
rapidly expanding CD-R peripheral market, although per unit royalties have
declined.

GROSS MARGIN. Gross margin in the third quarter and first nine months of
fiscal 2000 was 67.1% and 66.1%, respectively, compared to 59.4% and 57.2% in
the third quarter and first nine months of fiscal 1999. The higher gross margin
experienced in the first nine months of fiscal 2000 primarily resulted from the
exclusion of net revenues and cost of sales from PTS products included in the
fiscal 1999 gross margin. The PTS products generally obtained a lower gross
margin than the Host I/O segment, which represents the largest percentage of net
revenues. Excluding the divested PTS segment, gross margin in the third quarter
and first nine months of fiscal 1999 was 64.4% and 62.6%, respectively.
Excluding the divested PTS segment, the increase in gross margin was due to
manufacturing efficiencies obtained through greater production volumes, as well
as improved pricing obtained from the Company's global suppliers in the first
nine months of fiscal 2000.

RESEARCH AND DEVELOPMENT. Spending for research and development was
$25.8 million and $73.5 million for the third quarter and first nine months of
fiscal 2000, respectively, representing a decrease of 26.6% and 38.7% from
$35.2 million and $120.0 million for the third quarter and first nine months of
fiscal 1999, respectively. The decrease in spending for research and development
was primarily due to $7.9 million and $29.2 million of spending related to the
divested PTS segment included in the third quarter and first nine months of
fiscal 1999, respectively. The decrease in spending for research and development
was also attributable to Company-wide cost reduction programs initiated in
fiscal 1999 which included reductions in workforce and the curtailment of costs
related to the divesting of certain unprofitable business activities. The
Company initiated cost reduction programs in order to bring operating expenses
in line with net revenues and the business divestitures were completed to
further management's objective to refocus the business. Research and development
expenses, as a percentage of net revenues, decreased to 12.2% and 12.3% in the
third quarter and first nine months of fiscal 2000, respectively, from 19.1% and
23.6% in the third quarter and first nine months of fiscal 1999, respectively.

26
<PAGE>
SALES, MARKETING AND ADMINISTRATIVE EXPENSES. Spending for selling
marketing and administrative activities was $121.1 million for the first nine
months of fiscal 2000, a decrease of 6.8% from $129.9 million for the first nine
months of fiscal 1999. Spending for selling, marketing and administrative
activities for the third quarter and first nine months of fiscal 1999 included
$1.3 million and $5.6 million, respectively, from the divested PTS segment. The
decrease in fiscal 2000, compared to fiscal 1999, was also attributable to
Company-wide cost reduction programs initiated in fiscal 1999, specifically
reductions in workforce. The Company initiated the cost reduction programs in
order to bring operating expenses in line with net revenues. Spending for
selling, marketing and administrative activities was $41.5 million for the third
quarter of fiscal 2000, representing a slight increase of 1.7% from
$40.8 million for the third quarter of fiscal 1999. In the third quarter of
fiscal 2000, the increase was primarily attributable to the acquisition of
CeQuadrat and the expansion of the marketing and sales activities of the RAID
segment, partially offset by the cost reductions programs and the divestiture of
the PTS segment described above. Sales, marketing and administrative expenses,
as a percentage of net revenues, decreased to 19.6% and 20.2% in the third
quarter and first nine months of fiscal 2000, respectively, from 22.2% and 25.6%
in the third quarter and first nine months of fiscal 1999, respectively.

AMORTIZATION OF GOODWILL AND OTHER INTANGIBLES. Amortization of goodwill
and other intangibles was $3.1 million and $5.8 million for the third quarter
and first nine months of fiscal 2000, respectively, compared to $2.7 million and
$9.8 million for the third quarter and first nine months of fiscal 1999,
respectively. Amortization of goodwill and other intangibles for fiscal 2000
includes goodwill associated with the acquisition of Data Kinesis, Inc. ("DKI")
and goodwill and other intangible assets associated with the acquisition of
CeQuadrat and DPT. If the acquisition of DPT had taken place as of April 1,
1998, amortization of goodwill and other intangibles would have increased by
$39.4 million and $40.7 million for the nine month periods ended December 31,
1999 and December 31, 1998, respectively. Amortization of goodwill and other
intangibles for fiscal 1999 includes goodwill associated with the acquisition of
DKI, Western Digital's Connectivity Solutions Group and Future Domain
Corporation, and goodwill and other intangible assets associated with the
acquisition of read channel and preamplifier ASIC technologies ("ASIC
technologies") purchased from Analog Devices, Inc. ("ADI") and Ridge
Technologies, Inc. ("Ridge").

WRITE-OFF OF ACQUIRED IN-PROCESS TECHNOLOGY. In December 1999, the Company
purchased DPT, a leading supplier of high-performance storage solutions,
including RAID controllers and storage subsystems for $185.2 million in cash and
assumed stock options valued at $51.8 million. The stock options were valued
using the Black-Scholes valuation model. As part of the purchase agreement,
$18.5 million of the purchase price was held back for unknown liabilities that
may have existed as of the acquisition date. The holdback was included in
"Accrued liabilities" in the Condensed Consolidated Balance Sheet as of
December 31, 1999. The holdback will be paid for such unknown liabilities or to
the seller within 12 months from the acquisition date and was included as part
of the purchase price of the transaction. Additionally, the Company incurred
$1.1 million in professional fees, including legal, valuation and accounting
fees related to the acquisition, which were capitalized as part of the purchase
price of the transaction.

27
<PAGE>
The Company accounted for the acquisition of DPT using the purchase method
of accounting and, excluding the write-off of acquired in-process technology,
the impact of the acquisition was not material to the Company's consolidated
financial results of operations from the acquisition date through December 31,
1999. The preliminary allocation of the Company's purchase price to the tangible
and identifiable intangible assets acquired and liabilities assumed is
summarized below.

The preliminary allocation was based on an independent appraisal and
estimate of fair value.

The net tangible assets acquired were comprised primarily of inventory,
property and equipment and receivables offset by accrued liabilities, including
amounts due under a line of credit. The acquired in-process technology was
written-off in the third quarter of fiscal 2000. The estimated weighted average
useful life of the intangible assets for purchased technology, covenant not to
compete, acquired employees, distribution network, OEM relationships and the
residual goodwill, created as a result of the acquisition of DPT, is
approximately four years.

In July 1999, the Company purchased CeQuadrat GmbH ("CeQuadrat"), a
developer of CD-R software products, for $24.0 million in cash. As part of the
purchase agreement, $4.8 million of the purchase price was held back for unknown
liabilities that may have existed as of the acquisition date. The holdback was
included in "Accrued liabilities" in the Condensed Consolidated Balance Sheet as
of September 30, 1999. In the third quarter of fiscal 2000, the Company paid the
holdback to an escrow account, thereby reducing accrued liabilities in the
Condensed Consolidated Balance Sheet as of December 31, 1999. The holdback will
be paid for such unknown liabilities or to the seller within 12 months from the
acquisition date and was included as part of the purchase price of the
transaction. Additionally, the Company incurred $0.3 million in professional
fees, including legal, valuation and accounting fees related to the acquisition,
which were capitalized as part of the purchase price of the transaction.

28
<PAGE>
The Company accounted for the acquisition of CeQuadrat using the purchase
method of accounting and, excluding the write-off of acquired in-process
technology, the impact of the acquisition was not material to the Company's
consolidated financial results of operations from the acquisition date. The
allocation of the Company's purchase price to the tangible and identifiable
intangible assets acquired and liabilities assumed is summarized below.

The allocation was based on an independent appraisal and estimate of fair
value.

All of the in-process technology projects acquired from CeQuadrat were
completed during the third quarter of fiscal 2000, and estimated costs to
complete the projects were in line with estimates. The next generation
professional-oriented CD recording software and the CD back up software began
shipping in the third quarter of fiscal 2000. The Company does not anticipate
that the next generation consumer-oriented CD recording software will be
commercially released.

In May 1998, the Company purchased Ridge Technologies, Inc. ("Ridge"), a
development stage company, for 1.2 million shares of the Company's common stock
valued at $21.2 million, and assumed stock options valued at $13.1 million.
Prior to the acquisition, the Company owned a 19.9% interest in Ridge with a
carrying value of $1.5 million and Grant Saviers, former Chairman and CEO of the
Company, was a director of Ridge. The Company incurred $0.8 million in
professional fees, including legal, valuation and accounting fees related to the
acquisition, which were capitalized as part of the purchase price of the
transaction. In-process technology was valued at $39.4 million and was
written-off in the first quarter of fiscal 1999. In August 1998, the Company
divested the storage subsystems business, abandoned the in-process technology
projects (these projects remained incomplete from the date of acquisition
through abandonment) and wrote-off the remaining unamortized goodwill of
$0.6 million and other intangible

29
<PAGE>
asset of $1.2 million associated with Ridge. The aggregate impact of this
acquisition was not material to the Company's consolidated financial results of
operations from the acquisition date. The tangible liabilities assumed exceeded
the tangible assets acquired. The purchase price allocation is included in the
Company's fiscal 1999 Annual Report on Form 10-K.

In April 1998, the Company purchased read channel and preamplifier ASIC
technologies ("ASIC technologies") from Analog Devices, Inc. ("ADI") for
$34.4 million in cash. The ASIC technologies purchased from ADI were to be
incorporated into the mainstream removable Peripheral Technology Solutions
("PTS") business line upon completion. Grant Saviers, former Chairman and CEO of
the Company, is a director of ADI. The Company incurred $0.4 million in
professional fees, including legal, valuation and accounting fees related to the
acquisition, which were capitalized as part of the purchase price of the
transaction. The acquired in-process technology was valued at $6.1 million and
was written-off in the first quarter of fiscal 1999. In January 1999, the
Company sold the mainstream removable PTS business line, including the
in-process technologies purchased from ADI (these projects remained incomplete
from the date of acquisition through their disposition), and relieved the
remaining unamortized goodwill of $18.3 million and other intangible asset of
$1.7 million associated with the ASIC technologies purchased from ADI. The
aggregate impact of this acquisition was not material to the Company's
consolidated financial results of operations from the acquisition date. The
purchase price allocation is included in the Company's fiscal 1999 Annual Report
on Form 10-K.

RESTRUCTURING CHARGES. In the first quarter of fiscal 1999, the Company
recorded a restructuring charge of $8.8 million, comprised primarily of
severance and benefits. In the second quarter of fiscal 1999, the Company
recorded a restructuring charge of $24.5 million, net of an adjustment to the
restructuring charge taken in the first quarter of fiscal 1999 of $1.4 million.
The second quarter restructuring charge was comprised primarily of severance and
benefits and the write-off of fixed assets, inventory and other current and
long-term assets. In the fourth quarter of fiscal 1999, the Company recorded a
restructuring charge of $6.6 million, net of an adjustment to the restructuring
charges taken in the first and second quarters of fiscal 1999 of $1.2 million.
The fourth quarter restructuring charge was comprised primarily of severance and
benefits.

ASSET IMPAIRMENT AND OTHER CHARGES. As previously disclosed, the Company
has been negotiating with a third party concerning a potential cross-license
agreement. Subsequently, the Company reached a tentative agreement with that
party for a patent cross-license. Under the proposed agreement, each party will
be granted a license for specified patents of the other party covering the
period from January 1, 1990, through June 30, 2004. The license fee to be paid
by the Company under the proposed cross-license agreement will range from
$11 million to $25 million, depending on the outcome of an evaluation of certain
patents by an independent party. The Company's best estimate of the total
license fee that will be payable under the proposed cross-license agreement is
$18.0 million. The portion of the estimated license fee allocated to revenues
from periods prior to December 31, 1999 of $9.6 million was written-off in the
third quarter of fiscal 2000. The remaining license fee pertaining to future
periods was allocated to an intangible asset and will be amortized over the
period from January 1, 2000 through June 30, 2004.

The Company recorded non-cash impairment charges of $4.0 million in the
second quarter of fiscal 1999, including $1.4 million in manufacturing equipment
deemed unnecessary due to non-temporary declines in production volume and the
write-off of $2.6 million of non-trade related receivables previously classified
in "Other current assets" in the Condensed Consolidated Balance Sheets.

30
<PAGE>
Additionally, the Company recorded executive termination costs of
$3.4 million in the second quarter of fiscal 1999, relating to three executives.
The costs consisted of $1.9 million in severance and benefits payments and
$1.5 million in non-cash stock compensation charges resulting from amended
option agreements.

INTEREST AND OTHER INCOME. Interest and other income for the third quarter
and first nine months of fiscal 2000 was $8.1 million and $39.2 million,
respectively, compared to $7.9 million and $25.0 million for the third quarter
and first nine months of fiscal 1999, respectively. Interest and other income
for the first nine months of fiscal 2000 consisted of $24.8 million of interest
income, $3.5 million from the gain on the sale of land recorded in the first
quarter of fiscal 2000 and $10.9 million from the gain on exchange of a warrant
to purchase JNI Corporation ("JNI") common stock recorded in the second quarter
of fiscal 2000 described below. Interest and other income for the first nine
months of fiscal 1999 consisted only of interest income. Excluding the gain on
the sale of land and the gain on exchange of the warrant, interest income for
the third quarter and first nine months of fiscal 2000 remained flat compared to
the prior year.

Under an Asset Acquisition Agreement, dated November 12, 1998, between JNI
and the Company ("Asset Acquisition Agreement"), the Company sold certain fibre
channel technology, products and property and equipment to JNI. As consideration
for the assets received, JNI issued to the Company 1,132,895 shares of JNI
Series A Convertible Preferred Stock. In addition, JNI issued to the Company
warrants to purchase up to 2,436,551 shares of JNI Series A Convertible
Preferred Stock (the share amounts contained in this Report on Form 10-Q for the
third quarter of fiscal 2000 reflect a 70% reverse stock split effected by JNI
in October 1999). Exercisibility of the warrants was contingent upon JNI
attaining certain milestones such as net revenue levels from products based on
the acquired technology, new product introductions or a change in majority
control including an initial public offering of JNI's stock before January 31,
2001.

As a result of the exchange of the warrants described above, the Company
recorded a gain of $10.9 million ($6.6 million net of income taxes) in the
second quarter of fiscal 2000, reflecting the excess of fair value of the
warrant received over the carrying amount of the warrant surrendered. The
Company valued the JNI warrant received using the Black-Scholes valuation model.
The gain was included in "Interest and other income" in the Condensed
Consolidated Statements of Operations for the nine-month period ended
December 31, 1999. The fair value of the warrant received is included in "Other
long-term assets" in the Condensed Consolidated Balance Sheet.

31
<PAGE>
warrant is exercised subject to certain restrictions related to the trading
volume or total outstanding shares of JNI.

INTEREST EXPENSE. Interest expense was $2.8 million and $8.7 million for
the third quarter and first nine months of fiscal 2000, respectively, compared
to $3.0 million and $9.1 million for the third quarter and first nine months of
fiscal 1999, respectively. The interest expense was primarily related to the
4 3/4% Convertible Subordinated Notes.

During the third quarter of fiscal 2000, a 4 3/4% Convertible Subordinated
Note for $0.2 million was converted by a note holder into 3,871 shares of the
Company's common stock.

INCOME TAXES. Income tax provisions (benefits) for interim periods are
based on estimated annual income tax rates. The difference between the Company's
effective income tax rate and the U.S. federal statutory income tax rate is
primarily due to income earned in Singapore where the Company is subject to a
significantly lower effective income tax rate. The Company recorded an income
tax provision of $18.8 million representing 37.3% of income before provision for
income taxes for the third quarter of fiscal 2000 compared to an income tax
provision of $10.4 million representing 29.3% of income before provision for
income taxes for the third quarter of fiscal 1999. The effective income tax rate
used to calculate the income tax provision for the third quarter of fiscal 2000
was higher than 28% primarily as a result of the book write-offs associated with
the acquisition of DPT, for which no current tax benefit will be derived. The
effective income tax rate used to calculate the income tax provision for the
third quarter of fiscal 1999 was greater than 28% primarily as a result of book
write-offs, which are not deductible for tax purposes.

SUBSEQUENT EVENT. In January 2000, the Company entered into a four-year
agreement with Agilent Technologies, Inc. ("Agilent") to co-develop, market and
sell fibre channel host bus adapters. In exchange, the Company issued warrants
to Agilent to purchase 1,160,000 shares of the Company's common stock at $62.25
per share. The warrants were valued at $37.1 million using the Black-Scholes
valuation model. The value of the warrants will be recorded as an intangible
asset in the fourth quarter of fiscal 2000 and amortized ratably over the term
of the agreement. In addition, the Company will license Agilent's fibre channel
host adapter and software driver technology and pay royalties to Agilent based
on revenue from certain products, with aggregate guaranteed minimum royalty
payments of $60.0 million over the term of the agreement.

RECENT ACCOUNTING PRONOUNCEMENTS. In June 1998, the Financial Accounting
Standards Board issued Statement of Financial Accounting Standards No. 133
("SFAS 133"), "Accounting for Derivative Instruments and Hedging Activities".
SFAS 133 establishes accounting and reporting standards for derivative
instruments and for hedging activities and requires recognition of all
derivatives as assets or liabilities and measurement of those instruments at
fair value. In June 1999, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 137 ("SFAS 137"), "Accounting
for Derivative Instruments and Hedging Activities--Deferral of the Effective
Date of FASB Statement No. 133," which deferred the required date of adoption of
SFAS 133 for one year, to fiscal years beginning after June 15, 2000. The
Company will adopt this statement in its first quarter of fiscal 2002, but does
not expect the adoption of SFAS 133 to have a material impact on the Company's
financial position, results of operations or cash flows.

YEAR 2000. The inability of computers, software and other equipment
utilizing microprocessors to recognize and properly process data fields
containing a 2-digit year is commonly referred to as the Year 2000 Compliance
issue. As a result, some systems may be unable to accurately process certain
date-based information.

During fiscal 1998, the Company completed implementation of Enterprise
Resource Planning ("ERP") software to replace the Company's core business
applications, which support sales and customer service, manufacturing,
distribution, and finance and accounting. The ERP software was selected not only
because it was Year 2000 Compliant, but more importantly, to add functionality
and efficiency to the business processes of the Company. The Company completed
Year 2000 testing of the ERP software in fiscal 1999 and its has not presented
any significant Year 2000 Compliance issues as of the date of this Report.

In the first half of fiscal 1998, the Company also began a project to
analyze and assess the remainder of its business not addressed by the ERP
software such as other computer and network hardware and

32
<PAGE>
software, production process controllers and related manufacturing equipment.
Internal and external resources were used to complete any required modification
and tests for Year 2000 Compliance. The replacement or upgrade of its internal
use software is primarily commercial off-the-shelf software and non-compatible
hardware. As of the date of this Report, the Company has not experienced any
significant operational problems for the Company or its customers as a result of
Year 2000 Compliance.

As of the date of this Report, the Company believes that its products are
Year 2000 Compliant. The majority of the Company's products are not date
sensitive. However, for those products that are date sensitive, the Company, as
a standard part of its product development cycle, has had procedures, tests, and
methodologies in effect since fiscal 1997 to ensure each product's Year 2000
Compliance readiness.

Prior to January 1, 2000, the Company defined its critical suppliers and
communicated with them to determine their Year 2000 Compliance readiness and the
extent to which the Company is vulnerable to any third party Year 2000
Compliance issues. Although the Company has not experienced any significant
problems with its suppliers as of the date of this report, there can be no
guarantee that the systems of other companies, on which the Company's operations
rely, will not malfunction for years into and beyond the turn of the century,
that those systems will be remediated in a timely manner, or that a failure to
become Year 2000 Compliant by another company, or a conversion that is
incompatible with the Company's systems, would not have a material adverse
impact on the Company.

The Company's costs to date related to the Year 2000 Compliance issue
consist primarily of reallocation of internal resources to evaluate and assess
systems and products as described above and to plan testing and remediation
efforts. The total cost to the Company for Year 2000 Compliance activities has
not been and is not anticipated to be material to its financial position or
results of operations in any given year (less than $1.0 million). Such costs
exclude costs to implement the ERP system and the reallocation of internal
resources, as these costs are not considered incremental to the Company. These
costs and the date on which the Company plans to complete the Year 2000
Compliance remediation and testing processes are based on management's best
estimates, which were derived utilizing various assumptions of future events
including the continued availability of certain resources, third party
modification plans and other factors. However, there can be no guarantee that
these estimates will be achieved and actual results could differ materially from
those plans.

The Company has developed a contingency plan for some of its applications
and systems to address any of the consequences of internal or external failures
to be Year 2000 Compliant. The Company has also created a contingency plan for
internal and external sources, including key suppliers.

LIQUIDITY AND CAPITAL RESOURCES

OPERATING ACTIVITIES. Net cash provided by operating activities for the
first nine months of fiscal 2000 totaled $237.2 million compared to
$120.5 million for the first nine months of fiscal 1999. Net cash provided by
operating activities for the first nine months of fiscal 2000 was primarily
attributable to net income of $134.4 million, adjusted for non-cash expenses
including depreciation and amortization expense of $30.1 million, the write-off
of acquired in-process technology of $19.8 million, write-off of estimate
license fees attributable to the proposed cross-license agreement of
$9.6 million. Net income was also adjusted for non-cash income, including the
gain on sale of land of $3.5 million and the gain on exchange of a warrant to
purchase JNI common stock of $6.6 million (net of income taxes). Additionally,
net cash provided by operating activities in the first nine months of fiscal
2000 was generated by the decrease in deferred tax assets of $24.5 million and
other current assets of $20.2 million and an increase in accounts payable and
accrued liabilities of $28.5 million, partially offset by the increase in
inventories of $14.2 million and the increase in prepaid expenses of
$5.3 million.

INVESTING ACTIVITIES. Net cash used for investing activities for the first
nine months of fiscal 2000 totaled $226.4 million, compared to net cash provided
by investing activites for the first nine months of fiscal 1999 of
$15.5 million. Net cash used for investing activities for the first nine months
of fiscal 2000

33
<PAGE>
included investments in marketable securities of $47.8 million (net of sales and
maturities of marketable securities). Additionally, the Company paid
$186.4 million (net of cash received) in connection with the acquisition of
CeQuadrat and DPT. The Company spent $7.3 million for capital expenditures and
$3.4 million for additional minority investments. The Company received
$18.5 million in proceeds from the sale of property and equipment.

FINANCING ACTIVITIES. Net cash used for financing activities for the first
nine months of fiscal 2000 totaled $157.3 million, compared to $100.5 million
for the first nine months of fiscal 1999. During the first nine months of fiscal
2000, the Company repurchased 7.9 million shares of its common stock from the
open market for $244.1 million. The stock repurchases were partially offset by
proceeds of $88.6 million received from the issuance of common stock to
employees through the Company's stock option and employee stock purchase plans.

In the second quarter of fiscal 2000, the Company sold put warrants that
could have obligated the Company to repurchase up to 1.0 million shares of its
common stock at prices ranging from $37 to $39 in exchange for up front premiums
of $3.7 million. In the third quarter of fiscal 2000, the warrants expired
unexercised.

LIQUIDITY. As of December 31, 1999, the Company's principal sources of
liquidity consisted of $718.1 million of cash, cash equivalents and marketable
securities, of which $74.8 million is restricted from sale through April 2000.
Additionally, the Company has available an unsecured $60.0 million revolving
line of credit which expires in March 2000. The Company is currently negotiating
an extension of this line of credit. No amounts were due under the line of
credit as of December 31, 1999. The Company believes that existing working
capital, together with expected cash flows from operations and available sources
of bank, equity and equipment financing, will be sufficient to support its
operations for the next twelve months.

FACTORS AFFECTING FUTURE OPERATING RESULTS

This report contains forward-looking statements that involve risks and
uncertainties. For example, Management's Discussion and Analysis of Results of
Operations and Financial Condition includes statements relating to expected
sales growth, gross margins, anticipated operating expenditures and anticipated
capital expenditures. The statements contained in this document that are not
purely historical are forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934, including without limitation statements regarding the
Company's expectations, beliefs, intentions or strategies regarding the future.
All forward-looking statements included in this document are based on
information available to the Company on the date hereof, and the Company assumes
no obligation to update any such forward-looking statements. The Company's
actual results could differ materially from those anticipated in these
forward-looking statements as a result of certain factors, including those set
forth in the following risk factors and elsewhere in this document. In
evaluating the Company's business, prospective investors should consider
carefully the following factors in addition to the other information set forth
in this document.

FUTURE OPERATING RESULTS SUBJECT TO FLUCTUATION. In the first half of
fiscal 1999, the Company's operating results were adversely affected by shifts
in corporate and retail buying patterns, increased competition, emerging
technologies, economic instability in Asia and turbulence in the computer disk
drive industry. In addition, fiscal 1999 operating results were significantly
impacted by unusual charges and credits including write-offs of acquired
in-process technology, costs related to the termination of the Symbios
acquisition, restructuring charges, impairment of assets, terminations of senior
executives, the gain on the sale of PTS and the gain on the sale of land.
Operating results for the nine month period ended December 31, 1999 were
significantly impacted by unusual charges and credits including write-offs of
acquired in-process technology, write-off of estimated license fees attributable
to the proposed cross-license agreement, gain on the exchange of a warrant to
purchase JNI common stock and the gain on the sale of land. Additionally,
operating results were affected by the recent acquisition of CeQuadrat GmbH

34
<PAGE>
beginning in the second quarter of fiscal 2000. Operating results will be
affected by the acquisition of Distributed Processing Technology Corporation
("DPT"), beginning in the fourth quarter of fiscal 2000, including increased
goodwill and other intangibles amortization expense. In the future, operating
results may be affected by the cross-license agreement between the Company and
Agilent Technologies, Inc. ("Agilent"), including increased intangible
amortization expense. In the future, the Company's operating results may
fluctuate as a result of the factors described above and as a result of a wide
variety of other factors, including, but not limited to, cancellations or
postponements of orders, shifts in the mix of the Company's products and sales
channels, changes in pricing policies by the Company's suppliers, interruption
in the supply of custom integrated circuits, the market acceptance of new and
enhanced versions of the Company's products, product obsolescence and general
worldwide economic and computer industry fluctuations. In addition, fluctuations
may be caused by future accounting pronouncements, changes in accounting
policies, and the timing of acquisitions of other business products and
technologies and any associated charges to earnings. The volume and timing of
orders received during a quarter are difficult to forecast. The Company's
customers from time to time encounter uncertain and changing demand for their
products. Customers generally order based on their forecasts. If demand falls
below such forecasts or if customers do not control inventories effectively,
they may cancel or reschedule shipments previously ordered from the Company. The
Company has historically operated with a relatively small backlog, especially
relating to orders of its Host I/O products and has set its operating budget
based in part on expectations of future revenues. Because much of the Company's
operating budget is relatively fixed in the short-term, if revenues do not meet
the Company's expectations, then the Company's operating income and net income
may be disproportionately affected. Operating results in any particular quarter,
which do not meet the expectations of securities analysts, are likely to cause
volatility in the price of the Company's common stock.

CERTAIN RISKS ASSOCIATED WITH THE HIGH-PERFORMANCE COMPUTER MARKET. The
Company's Host I/O products are used primarily in high performance computer
systems designed to support bandwidth-intensive applications and operating
systems. Historically, the Company's growth has been supported by increasing
demand for systems that support client/server and Internet/intranet
applications, computer-aided engineering, desktop publishing, multimedia, and
video. Beginning in the second half of fiscal 1998, the demand for such systems
slowed as more businesses chose to use relatively inexpensive PC's for desktop
applications and information technology managers shifted resources toward
resolving Year 2000 problems and investing in network infrastructure. Should
demand for such systems continue to slow, the Company's business or operating
results could be materially adversely affected by a resulting decline in demand
for the Company's products.

CERTAIN RISKS ASSOCIATED WITH THE SERVER MARKET. The Company's RAID
products are used primarily in workstations and enterprise servers. The use of
RAID technology in this market is an industry standard, however, there can be no
assurance that another technology will not replace RAID in the disk array
controller marketplace or that there will be continuing widespread acceptance or
growth of the use of RAID products in general, or the Company's RAID controllers
in particular, in that market. Should demand for such systems slow or should the
Company's products not be widely accepted, the Company's business or operating
results could be materially adversely affected by a resulting decline in demand
for the Company's products.

CERTAIN RISKS ASSOCIATED WITH THE SOFTWARE MARKET. The Company's Software
products are used primarily in high performance computer systems to enable the
control of SCSI peripherals and/or enable CD-R and CD-RW. The Company's sales
are primarily to major OEM's and distributors, thus the Company's business
depends on general economic and business conditions and the growth of the CD-R
and high-performance computer markets. Should demand for the Company's products
slow and/or the CD-R market not develop as quickly as expected, the Company's
business or operating results could be materially adversely affected by a
resulting decline in demand for the Company's products.

35
<PAGE>
RELIANCE ON INDUSTRY STANDARDS, TECHNOLOGICAL CHANGE, DEPENDENCE ON NEW
PRODUCTS. Various standards and protocols that evolve with time characterize
the computer industry. The Company's current products are designed to conform to
certain industry standards and protocols such as SCSI, UltraSCSI, Ultra2 SCSI,
Ultra3 SCSI, PCI, RAID, and Fast Ethernet. In particular, a majority of the
Company's revenues are currently derived from products based on the SCSI
standard. If consumer acceptance of these standards was to decline, or if they
were replaced with new standards, and if the Company did not anticipate these
changes and develop new products, the Company's business or operating results
could be materially adversely affected. For example, the Company believes that
changes in consumers' perceptions of the relative merits of SCSI based products
and products incorporating a competing standard, Ultra-DMA, have materially
adversely affected the sales of the Company's products and may materially
adversely affect the Company's future sales.

The markets for the Company's products are characterized by rapidly changing
technology, frequent new product introductions, and declining average selling
prices over product life cycles. The Company's future success is therefore
highly dependent upon the timely completion and introduction of new products at
competitive price/performance levels. The success of new product introductions
is dependent on several factors, including proper new product definition,
product costs, timely completion and introduction of new product designs,
quality of new products, differentiation of new products from those of the
Company's competitors, and market acceptance of the Company's and its customers'
products. As a result, the Company believes that continued significant
expenditures for research and development will be required in the future. There
can be no assurance that the Company will successfully identify new product
opportunities and develop and bring new products to market in a timely manner,
that products or technologies developed by others will not render the Company's
products or technologies obsolete or noncompetitive, or that the Company's
products will be selected for design into the products of its targeted
customers. The failure of any of the Company's new product development efforts
could have a material adverse effect on the Company's business or operating
results. In addition, the Company's revenues and operating results could be
materially adversely impacted if its customers shifted their demand to a
significant extent away from board-based I/O solutions to application-specific
ICs.

COMPETITION. The markets for all of the Company's products are intensely
competitive and are characterized by rapid technological advances, frequent new
product introductions, evolving industry standards, and price erosion. In the
host adapter market, the Company competes with a number of host adapter
manufacturers, including LSI Logic Corporation and other small host adapter
manufacturers. The Company's principal competitors for RAID solutions in the
server market are American Megatrends, Inc., Mylex Corporation (a wholly-owned
subsidiary of IBM), and captive suppliers. The Company's principal competitors
in the Software segment range from small operations to large consumer software
companies. As the Company has continued to broaden its bandwidth management
product offerings into the desktop, server, and networking environments, it has
experienced, and expects to experience in the future, significantly increased
competition both from existing competitors and from additional companies that
may enter its markets. Some of these companies have greater technical,
marketing, manufacturing, and financial resources than the Company. There can be
no assurance that the Company will have sufficient resources to meet growing
product demand, that the Company will be able to make timely introduction of new
leading-edge solutions in response to competitive threats, that the Company will
be able to compete successfully in the future against existing or potential
competitors or that the Company's business or operating results will not be
materially adversely affected by price competition.

CERTAIN RISKS ASSOCIATED WITH ACQUISITIONS. In July 1999, the Company
acquired CeQuadrat and in December 1999, the Company acquired DPT. Both
acquisitions were accounted for using the purchase method of accounting. In
January 2000, the Company entered into an agreement with Agilent to co-develop,
market and sell fibre channel host bus adapters. As part of its overall
strategy, the Company may continue to acquire or invest in complementary
companies, products, or technologies and to enter into

36
<PAGE>
joint ventures and strategic alliances with other companies. Risks commonly
encountered in such transactions include the difficulty of assimilating the
operations and personnel of the combined companies, the potential disruption of
the Company's ongoing business, the inability to retain key technical and
managerial personnel, the inability of management to maximize the financial and
strategic position of the Company through the successful integration of acquired
businesses, additional expenses associated with amortization of acquired
intangible assets, dilution of existing equity holders, the maintenance of
uniform standards, controls, procedures, and policies, and the impairment of
relationships with employees and customers as a result of any integration of new
personnel. There can be no assurance that the Company will be successful in
overcoming these risks or any other problems encountered in connection with this
or other business combinations, investments, or joint ventures, or that such
transactions will not materially adversely affect the Company's business,
financial condition, or operating results.

YEAR 2000 COMPLIANCE ISSUES. The inability of computers, software and other
equipment utilizing microprocessors to recognize and properly process data
fields containing a 2-digit year is commonly referred to as the Year 2000
Compliance issue. As a result, some systems may be unable to accurately process
certain date-based information.

During fiscal 1998, the Company completed implementation of Enterprise
Resource Planning ("ERP") software to replace the Company's existing core
business applications. Additionally, the Company has analyzed the remainder of
its business not addressed by the ERP software and has, through its standard
product development cycle, ensured its products are Year 2000 Compliant through
procedures, tests and methodologies that have been in effect since fiscal 1997.
Although the Company has encountered no significant problems with its internal
systems as of the date of this Report, if internal systems do not properly
recognize and process date information for years into and beyond the turn of the
century, there could be a material adverse impact on other Company's operations.
A significant disruption of the Company's financial or business systems would
materially adversely impact the Company's ability to process orders, manage
production and issue and pay invoices. The Company's inability to perform these
functions for a long period of time could result in a material adverse impact on
the Company's result of operations and financial condition. Failure of these
systems could cause a disruption in the manufacturing process and could result
in a delay in completion and shipment of product.

The Company has communicated with others with whom it does significant
business, including major distributors, suppliers, customers, vendors and
financial service organizations, to assess their Year 2000 Compliance readiness
with respect to both their operations and the products and services they supply.
The analysis will continue into fiscal 2000, with corrective action taken
commensurate with the criticality of affected products and services. Although,
the Company has not encountered any significant problems with others with whom
it does significant business as of the date of this Report, if companies with
whom the Company does significant business fail because of a Year 2000
malfunction for years into and beyond the turn of the century, there could be a
material adverse impact on the Company's operating results. The Company believes
it has been impacted by its customers' redirection of corporate management
information system budgets towards resolving Year 2000 Compliance issues.
Continuation of this trend could lower the demand for the Company's products if
corporate buyers defer purchases of high-end business PCs.

As of the date of this Report, the Company has not encountered any
significant problems with its applications and systems or its internal and
external sources. However, the Company has developed a contingency plan for some
of its applications and systems to address any of the consequences of internal
or external failures to be Year 2000 Compliant. The Company has also created a
contingency plan for internal and external sources, including key suppliers. The
potential ramifications of a Year 2000 type failure are potentially far-reaching
and largely unknown. The Company cannot assure that a contingency plan in effect
at the time of a system failure will adequately address the immediate or
long-term effects of a failure, or that such a failure would not have a material
adverse impact on the Company's operations or financial results in spite of
prudent planning.

37
<PAGE>
DEPENDENCE ON WAFER SUPPLIERS AND OTHER SUBCONTRACTORS. All of the finished
silicon wafers used for the Company's products are currently manufactured to the
Company's specifications by independent foundries. The Company currently
purchases most of its wafers through a supply agreement with TSMC. The
manufacture of semiconductor devices is sensitive to a wide variety of factors,
including the availability of raw materials, the level of contaminants in the
manufacturing environment, impurities in the materials used, and the performance
of personnel and equipment. While the quality, yield, and timeliness of wafer
deliveries to date have been acceptable, there can be no assurance that
manufacturing yield problems will not occur in the future. In addition, although
the Company has various supply agreements with its supplier, a shortage of raw
materials or production capacity could lead the Company's wafer supplier to
allocate available capacity to customers other than the Company, or to internal
uses. Any prolonged inability to obtain wafers with competitive performance and
cost attributes, adequate yields, or timely deliveries from its foundries would
delay production and product shipments and could have a material adverse impact
on the Company's business or operating results. The Company expects that it
will, in the future, seek to convert its fabrication process arrangements to
smaller wafer geometries and to more advanced process technologies. Such
conversions entail inherent technological risks that can affect yields and
delivery times. If for any reason the Company's current supplier was unable or
unwilling to satisfy the Company's wafer needs, the Company would be required to
identify and qualify additional foundries. There can be no assurance that any
additional wafer foundries would become available, that such foundries would be
successfully qualified, or that such foundries would be able to satisfy the
Company's requirements on a timely basis.

In order to secure wafer capacity, the Company from time to time has entered
into "take or pay" contracts that committed the Company to purchase specified
wafer quantities over extended periods, and has made prepayments to foundries.
In the future, the Company may enter into similar transactions or other
transactions, including, without limitation, non-refundable deposits with or
loans to foundries, or equity investments in, joint ventures with or other
partnership relationships with foundries. Any such transaction could require the
Company to seek additional equity or debt financing to fund such activities.
There can be no assurance that the Company will be able to obtain any required
financing on terms acceptable to the Company.

Additionally, the Company relies on subcontractors for the assembly and
packaging of the ICs included in its products. The Company has no long-term
agreements with its assembly and packaging subcontractors. In addition, the
Company is increasingly using board subcontractors to better balance production
runs and capacity. There can be no assurance that such subcontractors will
continue to be able and willing to meet the Company's requirements for such
components or services. Any significant disruption in supplies from, or
degradation in the quality of components or services supplied by, such
subcontractors could delay shipments and result in the loss of customers or
revenues or otherwise have a material adverse impact on the Company's business
or operating results.

CERTAIN ISSUES RELATED TO DISTRIBUTORS. The Company's distributors
generally offer a diverse array of products from several different
manufacturers. Accordingly, there is a risk that these distributors may give
higher priority to selling products from other suppliers, thus reducing their
efforts to sell the Company's products. A reduction in sales efforts by the
Company's current distributors could have a material adverse impact on its
business or operating results. The Company's distributors may on occasion build
inventories in anticipation of substantial growth in sales, and if such growth
does not occur as rapidly as anticipated, distributors may decrease the amount
of product ordered from the Company in subsequent quarters. In addition, there
has recently been an industry trend towards the elimination of price protection
and distributor incentive programs and channel assembly. These trends could
result in a change in distributor business habits, with distributors possibly
deciding to decrease the amount of product held so as to reduce inventory
levels. This in turn could reduce the Company's revenues in any given quarter
and give rise to fluctuation in the Company's operating results. In addition,
the Company may from time to time take

38
<PAGE>
actions to reduce inventory levels at distributors. These actions could reduce
the Company's revenues in any given quarter and give rise to fluctuations in the
Company's operating results.

DEPENDENCE ON KEY PERSONNEL. The Company's future success depends in large
part on the continued service of its key technical, marketing, and management
personnel, and on its ability to continue to attract and retain qualified
employees, particularly those highly skilled design, process, and test engineers
involved in the design enhancements and manufacture of existing products and the
development of new products and processes. The competition for such personnel is
intense, and the loss of key employees could have a material adverse impact on
the Company's business or operating results.

CERTAIN RISKS ASSOCIATED WITH INTERNATIONAL OPERATIONS. The Company's
manufacturing facility and various subcontractors it utilizes from time to time
are located primarily in Asia. Additionally, the Company has various sales
offices and customers throughout Europe, Japan, and other countries. The
Company's international operations and sales are subject to political and
economic risks, including political instability, currency controls, exchange
rate fluctuations, and changes in import/export regulations, tariffs, and
freight rates. The Company may use forward exchange contracts to manage any
exposure associated with certain foreign currency denominated commitments. In
addition, because the Company's wafer supplier, TSMC, is located in Taiwan, the
Company may be subject to certain risks resulting from the political instability
in Taiwan, including conflicts between Taiwan and the People's Republic of
China.

INTELLECTUAL PROPERTY PROTECTION AND DISPUTES. The Company has historically
devoted significant resources to research and development and believes that the
intellectual property derived from such research and development is a valuable
asset that has been and will continue to be important to the success of the
Company's business. Although the Company actively maintains and defends its
intellectual property rights, no assurance can be given that the steps taken by
the Company will be adequate to protect its proprietary rights. In addition, the
laws of certain territories in which the Company's products are or may be
developed, manufactured, or sold, including Asia and Europe, may not protect the
Company's products and intellectual property rights to the same extent as the
laws of the United States. The Company has from time to time discovered
counterfeit copies of its products being manufactured or sold by others.
Although the Company maintains an active program to detect and deter the
counterfeiting of its products, should counterfeit products become available in
the market to any significant degree, it could materially adversely impact the
business or operating results of the Company.

From time to time, third parties may assert exclusive patent, copyright, and
other intellectual property rights to technologies that are important to the
Company. There can be no assurance that third parties will not assert
infringement claims against the Company in the future, that assertions by third
parties will not result in costly litigation or that the Company would prevail
in such litigation or be able to license any valid and infringed patents from
third parties on commercially reasonable terms. Litigation, regardless of its
outcome, could result in substantial cost and diversion of resources of the
Company. Any infringement claim or other litigation against or by the Company
could materially adversely impact the Company's business or operating results.

NEED FOR INTEROPERABILITY. The Company's products must be designed to
interoperate effectively with a variety of hardware and software products
supplied by other manufacturers, including microprocessors, peripherals, and
operating system software. The Company depends on significant cooperation with
these manufacturers in order to achieve its design objectives and produce
products that interoperate successfully. While the Company believes that it
generally has good relationships with leading system, peripheral, and
microprocessor suppliers, there can be no assurance that such suppliers will not
from time to time make it more difficult for the Company to design its products
for successful interoperability or decide to compete with the Company.

NATURAL DISASTERS. The Company's corporate headquarters in California are
located near major earthquake faults. Any damage to the Company's information
systems caused as a result of an earthquake,

39
<PAGE>
fire or any other natural disasters could have a material impact on the
Company's business, financial condition and results of operations. Additionally,
the Company's primary wafer supplier is located in Taiwan, which has recently
experienced significant earthquakes. Although there was no major damage to their
facilities or the equipment, additional earthquakes could interrupt the
Company's manufacturing process and have a material adverse impact on the
Company's business, financial condition or results of operations.

VOLATILITY OF STOCK PRICE. The stock market in general, and the market for
shares of technology companies in particular, has from time to time experienced
extreme price fluctuations, which have often been unrelated to the operating
performance of the affected companies. In addition, factors such as
technological innovations or new product introductions by the Company, its
competitors, or its customers may have a significant impact on the market price
of the Company's common stock. Furthermore, quarter-to-quarter fluctuations in
the Company's results of operations caused by changes in customer demand,
changes in the microcomputer and peripherals markets, or other factors, may have
a significant impact on the market price of the Company's common stock. In
addition, the Company's stock price may be affected by general market conditions
and international macroeconomic factors unrelated to the Company's performance.
These conditions, as well as factors that generally affect the market for stocks
of high technology companies, could cause the price of the Company's common
stock to fluctuate substantially over short periods.

EQUITY PRICE RISK. The Company is exposed to equity price risk with its
investment in JNI common stock included in "Marketable securities" and its
investment in a warrant to purchase JNI common stock included in "Other
long-term assets" in the Condensed Consolidated Balance Sheet at December 31,
1999. An adverse change in the price of JNI common stock and limitations on the
sale of that stock could have an adverse material impact on the Company's
financial results if the Company was to sell its investment at a loss and it
could have a material adverse impact on the Company's financial position.

DERIVATIVES. In the second quarter of fiscal 2000, the Company sold put
warrants that could have obligated the Company to buy back shares of its common
stock at prices greater than market value in exchange for up front premiums. In
the third quarter of fiscal 2000, the put warrants expired unexercised. In the
future, the Company may sell additional derivative instruments, which could have
a material adverse impact on the Company's financial position.

40
<PAGE>
PRO FORMA FINANCIAL RESULTS

The following pro forma results of operations for the three and nine month
periods ended December 31, 1999 and 1998, do not represent the Company's results
of operations or earnings per share information in accordance with generally
accepted accounting principles. Pro forma operating results have been presented
to provide period to period comparability of the Company's underlying operating
results excluding revenue and expenses related to the PTS business lines sold in
the third and fourth quarters of fiscal 1999, amortization of goodwill and other
intangibles, write-off of acquired in-process technology, restructuring and
other charges, gain on the sale of land, gain on the exchange of a warrant to
purchase JNI common stock, and the related income tax effects associated with
each of these items. The pro forma results of operations presented are not
necessarily indicative of future operating results and should be read in
conjunction with the historical financial statements and related notes.

<TABLE>
<CAPTION>
PRO FORMA
THREE MONTH PERIOD ENDED
--------------------------------------------
DECEMBER 31, 1999 DECEMBER 31, 1998
------------------- -------------------
(1) (2)
<S> <C> <C> <C> <C>
Net revenues............................................. $211,446 100.0% $159,606 100.0%
Cost of revenues......................................... 69,529 32.9 56,752 35.6
-------- ----- -------- -----
Gross profit............................................. 141,917 67.1 102,854 64.4
-------- ----- -------- -----
Operating expenses:
Research and development............................... 25,804 12.2 27,267 17.1
Sales, marketing and administrative.................... 41,496 19.6 39,492 24.7
-------- ----- -------- -----
Total operating expenses................................. 67,300 31.8 66,759 41.8
-------- ----- -------- -----
Income from operations................................... 74,617 35.3 36,095 22.6
Interest and other income................................ 8,119 3.8 7,916 5.0
Interest expense......................................... (2,811) (1.3) (2,992) (1.9)
-------- ----- -------- -----
Income from operations before provision for income
taxes.................................................. 79,925 37.8 41,019 25.7
Provision for income taxes............................... 22,379 10.6 11,485 7.2
-------- ----- -------- -----
Net income............................................... $ 57,546 27.2% $ 29,534 18.5%
======== ===== ======== =====
Net income per share:
Basic.................................................. $ 0.56 $ 0.27
======== ========
Diluted................................................ $ 0.52 $ 0.27
======== ========
Shares used in computing net income per share:
Basic.................................................. 103,267 108,040
======== ========
Diluted................................................ 114,876 110,881
======== ========
</TABLE>

- ------------------------

(1) As a percentage of net revenues for the three month period ended
December 31, 1999

(2) As a percentage of net revenues for the three month period ended
December 31, 1998

41
<PAGE>

<TABLE>
<CAPTION>
PRO FORMA
NINE MONTH PERIOD ENDED
--------------------------------------------
DECEMBER 31, 1999 DECEMBER 31, 1998
------------------- -------------------
(1) (2)
<S> <C> <C> <C> <C>
Net revenues............................................. $598,104 100.0% $423,633 100.0%
Cost of revenues......................................... 202,583 33.9 158,244 37.4
-------- ----- -------- -----
Gross profit............................................. 395,521 66.1 265,389 62.6
-------- ----- -------- -----
Operating expenses:
Research and development............................... 73,539 12.3 90,805 21.4
Sales, marketing and administrative.................... 121,106 20.2 124,285 29.3
-------- ----- -------- -----
Total operating expenses................................. 194,645 32.5 215,090 50.7
-------- ----- -------- -----
Income from operations................................... 200,876 33.6 50,299 11.9
Interest and other income................................ 24,750 4.2 24,961 5.9
Interest expense......................................... (8,732) (1.5) (9,106) (2.2)
-------- ----- -------- -----
Income from operations before provision for income
taxes.................................................. 216,894 36.3 66,154 15.6
Provision for income taxes............................... 60,730 10.2 17,769 4.2
-------- ----- -------- -----
Net income............................................... $156,164 26.1% $ 48,385 11.4%
======== ===== ======== =====
Net income per share:
Basic.................................................. $ 1.51 $ 0.43
======== ========
Diluted................................................ $ 1.42 $ 0.43
======== ========
Shares used in computing net income per share:
Basic.................................................. 103,311 111,274
======== ========
Diluted................................................ 114,043 113,073
======== ========
</TABLE>

- ------------------------

(1) As a percentage of net revenues for the nine month period ended
December 31, 1999

(2) As a percentage of net revenues for the nine month period ended
December 31, 1998

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

For financial market risks related to changes in interest rates and foreign
currency exchange rates, reference is made to Part II, Item 7A, Quantitative and
Qualitative Disclosures About Market Risk, in the Registrant's Annual Report on
Form 10-K for the year ended March 31, 1999.

The Company is exposed to equity price risk relating to its
available-for-sale securities. The Company has not attempted to reduce or
eliminate its market exposure on the equity securities. The realization of the
unrealized gains on its equity securities is dependent on the market value of
the securities, which is subject to fluctuation and the Company's ability to
sell the securities under its current limitations. There can be no assurance if
and when the unrealized gains will be realized. For each 10% decline in market
value of its available-for-sale equity securities from December 31, 1999, the
Company's marketable securities would decline in value by $7.5 million.

This represents an update to the Quantitative and Qualitative Disclosure
About Market Risk contained in the Company's Annual Report on Form 10-K for the
year ended March 31, 1999.

42
<PAGE>
PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

A derivative action was filed in the Superior Court of the State of
California against the Company and certain of its officers and directors,
alleging that the individual defendants improperly profited from transactions in
the Company's stock during the same time period referenced by the class action
lawsuit. In July 1999, the Company entered into an agreement to settle the
derivative action. Under the terms of the agreement, the Company will reimburse
the fees and costs incurred by the plaintiff's attorney of $600,000. The
settlement does not affect the class action lawsuit still pending. The
settlement was approved by the court on December 21, 1999, and, as a result, the
derivative action has been dismissed. The liability is included in "Accrued
liabilities" in the Condensed Consolidated Balance Sheet at December 31, 1999.

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

(a) Exhibits:

<TABLE>
<CAPTION>
NUMBER EXHIBIT DESCRIPTION
- ------ -------------------
<C> <S>
2.1 Agreement and Plan of Reorganization, dated as of
December 3, 1999, by and among Adaptec, Inc., Adaptec Mfg.
(S) Pte. Ltd., Adaptec Acquisition Corp., Distributed
Processing Technology Corp., and Stephen H. Goldman.
(Incorporated by reference to Exhibit 2.1 to Form 8-K as
filed January 6, 2000)

27.1 Financial Data Schedule for the quarter ended December 31,
1999
</TABLE>

(b) Reports on Form 8-K:

No reports on Form 8-K were filed during the quarter.

43
<PAGE>
SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.

<TABLE>
<S> <C> <C>
ADAPTEC, INC.

By: /s/ ANDREW J. BROWN Date: February 11, 2000
-------------------------------------------
Andrew J. Brown
Vice President, Finance
Chief Financial Officer
(Principal Financial Officer)

By: /s/ KENNETH B. AROLA Date: February 11, 2000
-------------------------------------------
Kenneth B. Arola
Vice President
Corporate Controller
(Principal Accounting Officer)
</TABLE>

<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000

<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> MAR-31-2000
<PERIOD-START> OCT-01-1999
<PERIOD-END> DEC-31-1999
<CASH> 171,133
<SECURITIES> 546,967
<RECEIVABLES> 78,834
<ALLOWANCES> 3,011
<INVENTORY> 71,939
<CURRENT-ASSETS> 909,426
<PP&E> 245,217
<DEPRECIATION> 110,965
<TOTAL-ASSETS> 1,329,253
<CURRENT-LIABILITIES> 219,963
<BONDS> 229,800
0
0
<COMMON> 104
<OTHER-SE> 868,586
<TOTAL-LIABILITY-AND-EQUITY> 1,329,253
<SALES> 211,446
<TOTAL-REVENUES> 211,446
<CGS> 69,529
<TOTAL-COSTS> 69,529
<OTHER-EXPENSES> 96,732
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 2,811
<INCOME-PRETAX> 50,493
<INCOME-TAX> 18,825
<INCOME-CONTINUING> 31,668
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 31,668
<EPS-BASIC> 0.31
<EPS-DILUTED> 0.29

</TABLE>