VENTANA MEDICAL SYSTEMS INC, 10-K405, 1999-03-31

VENTANA MEDICAL SYSTEMS INC
10-K405, 1999-03-31
SURGICAL & MEDICAL INSTRUMENTS & APPARATUS

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

FORM 10-K

[x] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

For the calendar year ended December 31, 1998.

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934.

For the transition period from _________ to _________.

Commission File Number: 000-20931

VENTANA MEDICAL SYSTEMS, INC.
(Exact name of registrant as specified in its charter)

Delaware 94-2976937
(State or other jurisdiction of (I.R.S. employer
incorporation or organization) identification no.)

3865 North Business 85705
Center Drive (Zip Code)
Tucson, AZ
(Address of principal executive offices)

Registrant's telephone number, including area code: (520) 887-2155

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:

Common Stock, $0.001 par value
(Title of class)

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 [ ]

Indicate by check mark if disclosures of delinquent filers pursuant to
Item 405 of the Regulation S-K is not contained herein, and will not be
contained, to the best of Registrant's knowledge, in definitive proxy or
information statements incorporated by reference in part III of this Form 10-K
or any amendment to this Form 10-K. [X]

The aggregate value of voting stock held by non-affiliates of the
Registrant was approximately $166,581,268 based upon the average of the high and
low prices of the Registrant's Common Stock reported for such date on the Nasdaq
National Market. Shares of Common Stock have been excluded in that such persons
may be deemed to be affiliates. The determination of affiliate status is not
necessarily a conclusive determination for other purposes. As of December 31,
1998, the Registrant had outstanding 13,381,819 shares of Common Stock.

DOCUMENTS INCORPORATED BY REFERENCE

Not applicable

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VENTANA MEDICAL SYSTEMS, INC.

INDEX

Page
Number
------
PART I............................................................... 1

Item 1. BUSINESS................................................. 1
Item 2. PROPERTIES............................................... 23
Item 3. LEGAL PROCEEDINGS........................................ 23
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS...... 24

PART II.............................................................. 25

Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS.............................. 25
Item 6. SELECTED FINANCIAL DATA.................................. 26
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS...................... 27
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK.............................................. 36
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.............. 36
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE...................... 36
PART III............................................................. 37

Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT....... 37
Item 11. EXECUTIVE COMPENSATION................................... 40
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT............................................... 40
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS........... 40

PART IV.............................................................. 41

Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS
ON FORM 8-K.............................................. 41

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PART I

ITEM 1. BUSINESS

THE COMPANY

This Report on Form 10-K contains certain 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. Actual events or results may differ
materially from those projected in the forward-looking statements as a result of
the factors described herein and in the documents incorporated herein by
reference. Such forward-looking statements include, but are not limited to,
statements concerning the risk of cancer; cancer screening; improvements in
automated IHC; business strategy; development and introduction of new products;
research and development; marketing, sales and distribution; manufacturing;
competition; third-party reimbursement; government regulation; and operating and
capital requirements.

Ventana was incorporated in California in June 1985 and was
reincorporated in Delaware in December 1993. As used in this Report on Form
10-K, the terms "Ventana" and the "Company" refer to Ventana Medical Systems,
Inc. and its subsidiaries, Ventana Medical Systems, S.A., Ventana Medical
Systems GmbH, Ventana Medical Systems Japan K.K., Biotechnology Tools, Inc., and
BioTek Solutions, Inc. unless the context otherwise requires. The Company's
principal executive offices are located at 3865 North Business Center Drive,
Tucson, Arizona 85705. Its telephone number is (520) 887-2155.

Overview

Ventana develops, manufactures and markets instrument/reagent systems
that automate tissue preparation and slide staining in histology laboratories
worldwide. Tissue preparation involves removing water from the sample and
embedding the sample in paraffin for tissue preservation and subsequent cutting
prior to mounting on slides. Slide staining is used to perform
immunohistochemistry ("IHC"), special stains ("SS"), and in situ hybridization
("ISH") tests for the analysis of cells and tissues on microscope slides. These
tests are important tools used in diagnosing and selecting appropriate treatment
for cancer and infectious diseases. The Company believes that it is the
worldwide leader in the automated IHC testing market, as the Company estimates
that its worldwide installed base is several times as large as the combined
installed base of all of the Company's current competitors. Ventana has placed
instruments with leading cancer centers, including the Mayo Clinic, the Dana
Farber Cancer Institute, The Johns Hopkins University, the M.D. Anderson Cancer
Center, the Fred Hutchinson Cancer Center, and Memorial Sloan-Kettering Cancer
Center. Each Ventana proprietary system placed typically provides a recurring
revenue stream as customers consume reagents and supplies with each test
conducted. Consequently, two key elements of the Company's strategy are to
increase the number of instrument placements and to maximize the recurring
revenue stream per placement through increased sales of reagents and supplies.

In late 1991, Ventana began commercial shipment of its first system, the
Ventana 320 instrument and related reagents used for automated IHC tests. Since
then, Ventana has developed and introduced the Ventana ES, the successor to the
320, the Ventana gen II, which is capable of performing ISH tests in addition to
IHC tests, and the NexES as a successor to the ES. In October 1998, Ventana
introduced the NexES Special Stains to automate the application of special
stains to tissue to diagnose bacterial, viral or connective tissue disorders.
These patient priority systems use Ventana's proprietary horizontal slide
processing technology to perform multiple tests rapidly on a single patient
biopsy. In February 1996, Ventana acquired BioTek Solutions, Inc. ("BioTek")
which introduced its first automated IHC system, the TechMate 1000, in 1992, and
has also introduced the successor TechMate 500 instrument as well as the
TechMate 250 instrument. BioTek's batch processing systems use proprietary
vertical slide processing technology to reliably and cost effectively process
high volumes of single tests on multiple patient biopsies. These complementary
product lines enable Ventana to serve a broad range of customers. Smaller
hospitals, which generally do not handle a high volume of cancer patients,
typically use patient priority systems to meet their automated testing needs.
Reference and research laboratories that serve numerous institutions typically
use batch-processing systems to process large volumes of tests. Large hospitals
with a high volume of patients and a broad range of test requirements may use
both patient priority and batch processing systems.

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Recent studies have indicated that the mortality rates of certain types of
cancer have decreased which may be attributed to, among other factors, earlier
detection and selection of appropriate therapies. The vast majority of IHC
testing associated with cancer diagnosis and treatment in the United States is
conducted in an aggregate of approximately 2,200 clinical institutions and
reference and research laboratories which the Company estimates creates the
opportunity for the placement of as many as 2,500 automated IHC testing
instruments. The Company estimates that the placement opportunities for SS
instruments in the U. S. are slightly larger than for IHC instruments. The
Company believes that less than 60% of such institutions and laboratories
currently conduct IHC testing on an automated basis. The international market
for automated IHC, SS and ISH testing is estimated by the Company to be
approximately 1.5 times the size of the United States market, with Europe
accounting for the majority of the international market potential. It is further
estimated that automated IHC staining systems have penetrated less than 25% of
European labs and less than 5% of the labs in Japan and the rest of the world.
SS staining is performed manually on a worldwide basis.

Currently, most IHC and all special stains testing is performed manually
which often yields inconsistency of test results. As compared to manual IHC
testing, Ventana's automated systems provide improved reliability,
reproducibility and consistency of test results. The systems' economic
advantages include faster turnaround time, increased test throughput and a
reduced dependence on skilled laboratory technicians, thereby reducing costs per
test. Additional benefits include the ability to perform new and emerging
diagnostic tests and improved visual clarity, which aids the interpretation of
test results and the ability to obtain maximum clinical information from
minimally sized biopsies. The Company believes it will play a critical,
expanding role in cancer science as researchers will use Ventana systems to
accelerate the identification and development of new tests and that its
installed base of instruments will speed the commercialization and clinical
implementation of such new tests. The Company anticipates that its reagent test
menu will expand due to the major emphasis of cancer research on the
identification of new prognostic IHC and ISH indicators.

In October 1998, Ventana acquired Biotechnology Tools, Inc. ("BTTI") a
commercial manufacturer of microtomes and tissue processors. Tissue processors
and microtomes are directly involved in the preparation of tissue specimens used
by the NexES IHC, NexES SS, and ISH systems. BTTI introduced its first tissue
processor, the PTP-1530 in late 1992. The PTP-1530 is a batch instrument that
has a specimen chamber that serves as the site of fluid exchange. Within the
specimen chamber, a series of fluids are passed that stabilize and infiltrate
the tissue with paraffin wax. This overnight process is performed on every
tissue specimen that is obtained in a clinical setting. The PTP-1530, introduced
to Ventana customers as the Ventana Renaissance can process up to 350 specimens
simultaneously. The PTP-1530 has a number of unique features that differentiate
it from the competition including a pulse magnetic stirring system that
significantly improves the quality of processed specimens.

In addition to the PTP-1530, BTTI manufactured a series of manual,
semi-automated, and automated microtomes for the histology and electron
microscopy laboratory. Microtomes are precision devices that have to
reproducibly cut thin slices from paraffin embedded blocks in the range of 2 -
20 millionths of a meter in thickness. Ventana has introduced three of the
microtomes into the market as the Ventana 100, 200, and 300 Series.

In November 1998, Ventana acquired substantially all of the oncology
assets of Oncor, Inc. to control the delivery of certain gene-based tests in
furtherance of the Company's ISH expansion strategy.

INDUSTRY OVERVIEW

Immunohistochemistry

Cancer is the second leading cause of death in the United States.
According to the American Cancer Society estimates, 1.3 million new cancer cases
were diagnosed in 1998 and 564,800 died of the disease in the United States.
Currently, approximately 11 million people in the United States have a history
of invasive cancer. In the United States, the lifetime risk of developing
invasive cancer is 47% for males and 38% for females. The risk of developing
cancer increases with age. Among the principal forms of cancer are prostate,
lung, breast, colon, rectal, urinary, ovarian and cervical cancer, along with
leukemia and lymphoma.

Early detection is one of the primary factors in increasing the
long-term survival of cancer patients. It is believed to be at least partially
responsible for decreases in mortality rates that have recently been observed
for several types of cancer. Health care professionals are increasing their
emphasis on and use of screening and early

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detection programs for cancer because cancer treatments are generally
significantly more effective and less costly the earlier that cancer is
detected. Complementing screening and early detection are recent advances in
less invasive biopsy methods that can obtain tissue samples from progressively
smaller tumors. As a result of these developments, there has been a steady
increase in the initial diagnosis of invasive cancer. However, smaller tissue
samples are often difficult to analyze with traditional diagnostic tests,
increasing the dependence of surgical pathologists on IHC for accurate diagnosis
of early stage cancer.

After preliminary screening of a biopsy to determine the presence of
cancer, IHC is the principal diagnostic test method used for cancer diagnosis
and therapy selection. IHC tests use specific antibodies to identify and detect
antigens (proteins) in cells and tissues, which assist pathologists in assessing
various aspects of a patient's cancer. IHC tests, or assays, have two major
components: primary antibodies and detection chemistries. The primary antibody
is the specific antibody used to bind to the antigen in question. Detection
chemistries are composed of multiple reagents including secondary antibodies,
enzyme conjugates/complexes and chromogenic enzyme substrates, which allow
visualization of the primary antibody.

IHC tests are performed on cells and tumor tissue to:

- determine the type of cancer

- determine the site of the primary tumor

- determine the degree of malignancy

- determine if the cancer has metastasized

- assist in the selection of the most appropriate therapy

- monitor patient progress

- develop a prognosis

Correct prognosis is essential in selecting the appropriate therapy
regimen and monitoring program for individual cancer patients. IHC assays
provide significant prognostic information such as cell cycle and hormone
receptor status which, in many cases, cannot be obtained from other tests. This
information allows the pathologist to improve risk assessment on an individual
patient basis. IHC testing is therefore instrumental to controlling and reducing
health care costs and improving cancer survival rates because earlier, more
accurate diagnoses and prognoses can lead to earlier, more targeted therapy and
may reduce the risk of use of an incorrect or inappropriate treatment.

Manual IHC assays require skilled technical personnel to perform as many
as 60 individual processes and can require several days to complete. For the
assay to be successful, each process must be performed in the proper sequence
and for the proper length of time. In addition, the length of time and the
reagents used for each of the steps varies depending upon the primary antibody
used in the assay. The complexity of manual IHC assays leads to poor
reproducibility and inconsistency of results. Therefore, while IHC has been used
routinely in clinical diagnosis for over 10 years, the requirement of skilled
technical personnel, labor intensity (approximately 40 slides per day per
technician) and lack of standardization has limited the growth of clinical IHC.

The development of new diagnostic systems composed of instruments and
reagents has resulted in the automation of tests in a number of diagnostic
market segments. The trend toward automation of diagnostic testing began in the
1960s with the automation of hematology testing by Coulter Electronics
Corporation and clinical chemistry testing by Technicon Instruments Corporation.
In the 1980s, Abbott Laboratories, Inc. ("Abbott") introduced two instruments
with proprietary prepackaged reagents to automate immunoassay tests performed on
serum or urine. Ventana's systems are fundamental enabling technologies that
overcome major obstacles, including the inherent limitations of manual
processing, which have historically prevented both the broader use and growth of
IHC.

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Special Stains

Special stains use a variety of dyes to stain specific tissue
components. Special stains have had a long history of use in the diagnosis of
cancer, the identification of specific tissue components, and the identification
of infectious agents.

Special stains tests are performed on cell and tissue specimens to:

- Determine the type of cancer

- Determine the site of primary tumor

- Determine the degree of pathologic change

- Identify tissue structures

- Identify infectious agents

- Assist in the selection of appropriate therapy

Special stains are technically more difficult to perform than an IHC
stain. This difficulty arises both during the preparation of reagents as well as
in the performance of the assay. Each special stain may require different
reagents, each of which may have limited stability. In addition to the
difficulty involved with the preparation and management of reagents, producing a
high quality special stain slide requires the technician to manage multiple
reagents at a variety of temperatures for different lengths of time. The
technical challenges associated with this procedure illustrate why performing
quality special stains has been considered more an "art" than a "science." The
Ventana NexES SS system was designed to overcome the technical challenges
associated with manual special stains. The enabling technology associated with
this system when combined with the prepackaged special stains reagents were
designed to produce high quality, reproducible staining using an easy to use,
automated platform.

In Situ Hybridization

ISH tests are advanced tests for infectious disease and cancer diagnosis
and other applications that generate visual signals based on probes used to
detect the presence of specific nucleic acids (DNA/RNA) contained in a cell.
Over the next decade, Ventana believes that ongoing research and development in
the field of molecular analysis will result in the continued introduction of new
ISH tests.

ISH assays are technically far more challenging and labor intensive than
IHC assays. In addition to requiring a similar number of processes which must be
performed in the proper sequence and for the proper length of time, ISH assays
require multiple wash solutions, or buffers, and the temperature at which each
of the steps must be executed typically ranges from 37 degrees C to 98 degrees
C. Furthermore, the conditions for each of these processes is dependent upon the
specific probe being used. Due to this extreme degree of technical difficulty,
there are very few clinical laboratories capable of performing manual ISH
assays. Ventana's gen II system represents a fundamental enabling technology for
the rapid, accurate and cost effective identification of unique RNA and DNA
(probe diagnostics) and is designed to overcome the inherent limitations of
manual processing.

Tissue Processors and Microtomes

The preparation of surgical specimens in a laboratory requires the
pathologist or physician's assistant (P.A.) to describe the specimen, and to
sample appropriate regions for microscopic examination. In this process, tissue
specimens are placed into a plastic cassette that is used to immobilize the
tissue during tissue processing. The routine preparation of tissue samples
occurs on a Tissue Processor, an automated batch instrument that facilitates the
fixation, dehydration, clearing, and infiltration of the tissue specimen. This
process results in the stabilization of the tissue specimen, and its
infiltration in a supporting medium (paraffin). The paraffin infiltrated tissue
specimen is

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then oriented within a mold and embedded in fresh paraffin wax. The development
of automated systems for tissue processing has significantly improved the
quality of the prepared tissue.

Since the quality of the processed specimen clearly impacts the
sensitivity and reliability of the IHC, SS and ISH produced on the Ventana
staining systems, Ventana's entry into tissue processing is an important step in
assuring the quality of Ventana's core business. The Ventana Renaissance is a
batch tissue processor that can process up to 350 specimens simultaneously. The
Renaissance has a number of unique features that differentiate it from the
competition including a pulse magnetic stirring system that significantly
enhances processing quality, and a paraffin cleaning system that extends the
life of the paraffin.

In order to prepare slides for microscopic examination, the tissue
blocks are placed onto a microtome, which is a precision device used to cut thin
sections for microscopic examination. The quality of the prepared sections is
critically important in the evaluation of surgical specimens. In addition to the
tissue processor, BTTI manufactured a series of manual, semi-automated, and
automated microtomes used in the preparation of microscopic sections. The three
microtome lines are currently branded as the Ventana 100, 200, and 300 series.
Since repetitive motion injuries pose significant risks to technicians who use
microtomes, the semi-automated and automated microtomes were designed reduce the
repetitive motions used in tissue sectioning.

VENTANA STRATEGY

The Company's strategy is to strengthen its worldwide leadership
position in the automated IHC testing market and to develop and expand the
automated SS and ISH testing markets. In order to implement this strategy, the
Company intends to:

Maximize Instrument Placements. The Company's strategy is to strengthen
its competitive position in the automation of IHC testing by establishing a
larger installed base of instruments that current or future market entrants must
overcome. The Company estimates that its worldwide installed base is several
times as large as the combined installed base of instruments of all of the
Company's current competitors. The Company believes that its placement of
instruments in 43 of the 58 cancer centers identified as principal cancer
research centers by the National Cancer Institute provides a powerful reference
tool for potential new customers. To facilitate instrument placements, the
Company offers customers a wide selection of instruments, which address the
patient priority needs of hospital clinical laboratories and the batch
processing needs of large hospitals and reference and research laboratories. In
order to satisfy the broad spectrum of customers' operational and financial
criteria, the Company intends to continue to offer several instrument
procurement options, including leases, direct sales, rentals and the Qualified
Reagent Installed Base program ("QRIB") and to expand the range and price points
of its instrument offerings. In a QRIB, the Company provides the customer with
the use of an instrument for up to six months, provided the customer purchases a
minimum of $3,000 in IHC or $2,500 in SS consumables. At the end of the
six-month period, the customer must elect to purchase, rent or return the
system. The Company believes it can accelerate the rate of expansion of its
installed base by emphasizing the placement of instruments through QRIBs.

Maximize Revenue Stream Per Placement. Each instrument placed typically
provides the Company with a recurring revenue stream through the sale of
reagents and supplies. The Company seeks to increase this revenue stream by
converting all existing manual tests performed by the customer to full
automation and by selling to the customer all reagents required for such tests.
The Company then seeks to have the customer expand its test menu through the
inclusion of all tests that are offered by Ventana as well as new tests as they
are introduced. To meet these objectives, the Company's systems have been
designed as broad enabling platforms, which permit customers to easily expand
their test menu. The Company also has a comprehensive customer education
program, which includes on-site technical training in instrument use, user group
meetings and Company-sponsored national teleconferences with leading medical
experts who regularly update customers on diagnostic and testing developments.

Develop New and Enhanced Products. Since 1991, the Company has
successfully introduced and commercialized the Ventana NexES SS, the Ventana
NexES IHC, the Ventana ES, the gen II, the TechMate 500 and the TechMate 250, as
well as systems to support all these instrument platforms. Ventana is also
developing additional instruments to automate other labor-intensive activities
in histology labs and is also developing next generation ISH instruments. The
Company intends to continue to innovate in the field of automated cellular
diagnostics through the development and introduction of new instruments,
software and reagents.

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Encourage Standardization of Clinical Diagnostic Practices. The Company
intends to support efforts to standardize clinical practices in the diagnosis
and complete characterization of various types of cancer through professional
education programs for pathologists and research collaborations. Uniform
practice guidelines for the laboratory diagnosis of cancer are just now
beginning to be established and accepted. As an example, the American Society of
Clinical Oncology recently released its recommendations for the use of selected
hormone/protein markers in which it recommended that all breast cancer cases be
tested for estrogen receptor and progesterone receptor in order to select the
optimal course of therapy. The Company's automated systems allow for the
widespread standardization of testing methods that could be clinically relevant
in this effort. In addition, the Company's educational programs will be designed
to disseminate these and other practice recommendations as they are developed
and to assist clinicians and professional organizations in the formulation of
additional guidelines.

Expand Intellectual Property Position. The Company seeks to expand its
intellectual property position by entering into strategic alliances, acquiring
rights of first refusal on future commercial developments and licensing existing
technologies. The Company evaluates and intends to pursue the licensing of
nucleic acid probe technology for ISH applications from biopharmaceutical
companies, research institutions and others.

PRODUCTS

The Company offers proprietary systems composed of instrumentation,
reagents and consumable products which are designed to enable clinical and
research laboratories to perform standardized IHC, SS and ISH testing. The
proprietary nature of the Company's systems is based upon the interrelationship
among the electronics and mechanical and software control of the instrument and
the stabilization, composition, packaging and delivery of reagents. The
Company's broad line of products includes patient priority systems targeted to
hospital clinical laboratories and batch-processing systems targeted to large
hospital clinical laboratories and reference and research laboratories. The
Company's patient priority systems are "closed" in that customers must purchase
detection chemistries from Ventana in order to operate the instruments. Although
the Company's existing batch processing systems are "open," providing the
customer with the ability to purchase reagents from either the Company or other
sources, users of approximately 83% of the Company's United States installed
batch processing systems regularly purchase reagents from the Company. The
following are the principal benefits of automated cellular and tissue analysis
using the Company's integrated systems as compared with manual methods:

- improved reliability, reproducibility and consistency of test
results

- faster turnaround time for test results

- increased test throughput for the testing laboratory

- ability to perform new and emerging molecular tests

- reduced dependence on skilled laboratory technicians

- ability to perform special staining applications (batch processing
instruments)

- ability to obtain maximum clinical information from minimally-sized
biopsies

- ability to document processing protocols (patient priority
instruments)

- enhanced cellular differentiation through multiple staining on a
single slide

- standardization of slide preparation among institutions

In addition to these critical clinical and operational advantages, the
Company has determined that its automated approach has cost advantages as well.

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Instrument Products

Patient Priority Instruments. Ventana currently offers two patient
priority systems, the Ventana NexES and the Ventana gen II. The Ventana patient
priority systems provide a complete automated approach, requiring users to only
prepare specimens and place them on microscope slides. The patient priority
systems are barcode driven and are designed for multiple tests on a single
patient biopsy with rapid turnaround time and walk-away convenience. A barcode
label affixed to each slide positively identifies the slide and the test
procedures to be performed. The instrument scans the barcodes on the slides and
the reagent dispenses and processes each slide with the unique steps necessary
to perform each test. The Company's proprietary software controls all aspects of
the test procedures. The steps of dispensing, incubating (i.e. temperature and
time control) and washing are performed by the instrument using a series of
proprietary chemical/mechanical methods developed by Ventana. These methods are
critical to obtaining precise, sensitive and rapid test results and make the
system reliable and easy to use. Typically, the processing of slides on the
instrument requires less than two hours.

The Ventana NexES is based upon a modular design and an external
personal computer operating under a Windows 95 environment for software control.
Each module holds up to 20 slides in the reaction chamber and 25 reagents on its
reagent carousel. The modular design of the NexES and external personal computer
permits the linkage of up to eight NexES IHC or SS modules together, creating
the capacity to process up to 160 slides. The NexES therefore offers users a
significant degree of flexibility as users can purchase from one to eight
modules depending upon their test volume requirements. The Special Stains System
has a new enabling technology, the aspiration and dispense system (ADS) that
provides flexibility in dispensing volume, while allowing the instrument to use
reagents with different chemical properties. In addition to the ADS system, the
kinetic heating system has been modified to provide for the 60 degree celsius
heating that is required for quality Special Stains.

The Ventana gen II uses the same basic architecture as the Ventana ES
instrument and has additional functions enabling it to perform ISH tests. These
functions are (i) an improved heating system which allows for incubation
temperatures of up to 98 degrees C, (ii) rapid incubation temperature cycling
and (iii) additional and improved wash stations which permit the use of multiple
buffers and instrument controlled changes in the concentration of buffers.
Ventana's gen II system represents a fundamental enabling technology for the
rapid, accurate and cost effective identification of unique RNA and DNA (probe
diagnostics) and is designed to overcome the inherent limitations of manual
processing.

Batch Processing Instruments. The Company's line of TechMate batch
processing instruments are designed for large volume testing using a single
antibody on multiple patient biopsies and research applications in which long
incubation times and unique detection chemistries are required. The Company's
batch processing instruments employ capillary action to perform IHC tests.
Patient biopsies are placed on capillary gap slides, which maintain a space of
predetermined width between adjacent slides when loaded into TechMate systems.
Reagents are loaded into disposable reagent trays and programmable software
directs the instrument to apply the reagents in the proper sequence. The
instrument immerses the bottoms of the slides in the reagents as programmed and
the reagents are drawn up the slide and over the tissue specimen by capillary
action. After each reagent application and incubation, the instrument removes
the reagent from the specimen by placing the slides onto disposable blotting
pads.

The Company's original batch instrument, the TechMate 1000, has a
300-slide capacity. This large capacity is suited to large reference
laboratories, which run a limited number of antibody tests on vast numbers of
patient biopsies. The Company has ceased production of the TechMate 1000. The
successor instrument, the TechMate 500, has a 120-slide capacity, which is
applicable to both large and moderately-sized reference laboratories and large
research laboratories. The TechMate 250, which has a 40-slide capacity, is
targeted primarily for the European and other international markets.

Tissue Processor and Microtomes

The Renaissance tissue processor is a batch instrument that can
accommodate up to 350 specimens per run. This completely enclosed system can be
configured as a floor or bench top unit. The Renaissance has easy to use
software that has unlimited programmability. The Renaissance has a pulse
magnetic stirrer that, in conjunction with kinetic technology significantly
improves the quality of prepared tissue. The quality control system with the
Renaissance allows the user to monitor the quality of their reagents using a
reagent quality monitoring system, and

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to extend the life of their reagents using a paraffin cleaning system. The
Ventana series of microtomes offer a complete range of instruments including a
fully manual, semi-automated, and automated system. The 100 Series manual
microtome is a manual microtome designed for the budget-minded lab. The 200
Series microtome is a semi-automated microtome, which has an automated trim
function reducing the repetitive motion, associated with trimming. The 300
Series Microtome is a fully automated microtome which features automated
trimming and cutting, significantly reducing the repetitive motion involved in
paraffin sectioning.

Reagent and Consumable Products

Reagent Products

Reagent products are composed of primary antibodies and detection
chemistries, each of which is required for an IHC test. Customers that have
patient priority systems must use Ventana detection chemistries on all tests;
such customers have the option of purchasing primary antibodies from Ventana or
other sources. Customers who have the Company's batch processing systems have
the option of purchasing both antibodies and detection chemistries from Ventana
or other sources. Users of approximately 83% of the Company's United States
installed batch processing systems regularly purchase reagents from the Company.

Primary Antibodies. Ventana sells a line of in excess of 175 primary
antibodies used to detect antigens in combination with detection chemistry kits
on the Company's instruments. Ventana markets all of the antibodies used to
perform the IHC tests that currently account for more than 90% of total IHC test
volume.

Detection Kits. Detection chemistries typically account for
approximately 65-70% of the total expenditures for reagents required to perform
IHC tests using the Company's instruments. Ventana produces a line of detection
chemistries for use on both patient priority and batch processing systems which
provide the user with standardized reagents, thereby giving the user convenient
and rapid results. The detection chemistries have been developed by the Company
using proprietary formulations which, when combined with the Company's primary
antibodies and other reagents, optimize the results of tests performed on the
Company's instruments. These kits generate the visual signal in an IHC reaction
at the site where a primary antibody is bound to a specific antigen or molecule
in the cell or tissue. The patient priority system utilizes detection kits which
include (i) a DAB Kit which generates a brown color; (ii) an AEC Kit which
generates a deep red color; (iii) an Alkaline Phosphatase Red Kit which
generates a bright red color; and (iv) an Alkaline Phosphatase Blue Kit which
generates a deep blue color. The Company currently sells DAB and Alkaline
Phosphatase Red for use with its batch processing instruments. The detection
kits are designed to perform tests on a wide variety of specimens, so a
laboratory can, for example, perform tests on tissue preserved in paraffin and
on frozen tissue simultaneously. The Company's detection chemistries have been
formulated to provide long term stability for reproducibility and ease of use as
well as a high signal to noise ratio for optimal sensitivity.

Special Stain Kits. Ventana sells 10 Special Stain kits that perform
greater than 85% of all the tests performed in the Histology laboratory. The
Company's Special Stain Kits were developed using proprietary formulations. The
Special Stains kit, when combined with the NexES Special Stains system, produce
high quality, robust staining that is optimized for use on the system. The kits
produce a visual signal at the site of dye binding allowing the pathologist to
characterize pathologic changes of infectious agents. The kits have been
formulated to provide long term stability while maintaining a high signal to
noise ratio.

Consumable Products

Ventana offers a line of consumable ancillary products that are
necessary for processing slides on the Company's instruments. These include
buffers for optimizing the IHC reaction and counterstains for staining cell
nuclei, which are used with both patient priority and batch processing
instruments. The buffers ensure good morphology, low backgrounds and high
signals. The counterstains provide additional convenience for the customer by
eliminating the need for additional processing of the slides after staining on
the instrument. For use with patient priority instruments, Ventana also supplies
a proprietary liquid coverslip used to inhibit evaporation during processing in
the instrument, fixatives for maintaining the morphology of cells or tissues,
enzymes for unmasking antigens and slide barcodes for use in identifying the
slide and its specific IHC reaction steps. For use with batch processing
instruments, the Company also provides disposable reagent trays which are used
to hold the reagents during IHC reactions, capillary gap slides and wicking pads
used for reagent removal between applications.

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MARKETS AND CUSTOMERS

Immunohistochemistry

There are approximately 4,200 acute care hospitals and clinics in the
United States. Of these, there are approximately 1,900 hospitals with over 200
beds, which perform the vast majority of surgical and other medical procedures
related to cancer diagnosis and treatment. In addition, there are approximately
200 reference and research laboratories and approximately 100 biotechnology and
pharmaceutical companies, which also perform substantial numbers of IHC and ISH
tests. These health care institutions represent a total instrument site
potential of 2,200 locations. Ventana considers this to be its core market
segment for cancer testing and focuses the bulk of its sales and marketing
efforts on these institutions.

The Company estimates there are as many as 2,500 IHC instrument
placement opportunities in the 2,200 potential instrument site locations in the
United States. The international market for instrument placements is estimated
by the Company to be approximately 1.5 times the size of the United States
market. Europe is estimated to account for the majority of the international
market potential, and Japan, the Pacific Rim and Latin American markets
constitute the balance of the international market opportunity.

The Company believes that less than 60% of the United States potential
instrument sites currently conduct IHC testing on an automated basis. The
Company believes that its worldwide installed base is several times as large as
the combined installed base of instruments of all of the Company's current
competitors.

Ventana has placed instruments with leading cancer centers, including
the Mayo Clinic, the Dana Farber Cancer Institute, The Johns Hopkins University,
the M.D. Anderson Cancer Center, the Fred Hutchinson Cancer Center, and Memorial
Sloan-Kettering Cancer Center.

Special Stains

The Special Stains instrument market is larger than the IHC market, in
that virtually all labs perform Special Stains. The Company estimates that there
are greater than 8,000 labs worldwide performing Special Stains providing as
many as 10,000 instrument placement opportunities.

Tissue Processor and Microtome

The tissue processor and microtome market is the largest market
available in the histology laboratory with as many as 12,000 instrument
placement opportunities in the tissue processor market and 48,000 instrument
opportunities available in the microtome market. On an annual basis, 6 companies
compete for the 1,000 tissue processor placements, and 9 companies compete for
the 3,000 microtome placements per year.

SALES, MARKETING AND CUSTOMER SUPPORT

Ventana markets and sells its instruments and reagents through a direct
sales force in North America, certain European countries, and Japan. It has also
established distribution relationships in other countries and has a distribution
arrangement with DAKO, a manufacturer and supplier of reagents used in manual
IHC testing, which was inherited with the BioTek acquisition and only relates to
batch processing systems for certain countries outside the United States.

In the United States and Canada, Ventana's systems are sold through its
direct sales force. The sales force is organized around geographic territories,
which have been designed to provide each sales representative with an
approximately equal number of sales opportunities. The sales force is also
divided between a key account sales force, which is focused on large users, a
U.S. hospital sales force, which calls on all other accounts, and a tissue
processor/microtome sales force. The Company's sales representatives typically
have technical backgrounds or prior medical capital equipment sales experience.
The Company's sales representatives are incentivized to increase instrument
placements. The sales representatives as well as the technical marketing
representatives are incentivized to maximize recurring reagent sales.

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Ventana's sales force in Europe markets and sells Ventana's patient
priority systems directly in France, Germany, Austria, Switzerland, Benelux,
Scandinavia, and the U. K. and markets and sells through distributor
relationships in Italy, Spain and various former East Bloc countries. This sales
force is geographically organized and is compensated in a manner similar to the
United States sales force. Ventana expects to significantly expand its direct
sales and marketing activities in Europe in 1999. Ventana's sales force in Japan
consists of sales and support personnel. Ventana expects to significantly expand
its direct sales and marketing activities in Japan after the Company receives
import permits for its reagents.

BioTek entered into its agreement with DAKO in September 1994. DAKO is a
market leader in Europe in supplying reagents for use in manual IHC tests. The
agreement provided DAKO with exclusive rights to distribute TechMate instruments
and related accessories in Europe and several other territories. The agreement
also permits DAKO to supply customers with its own reagents for the instruments
in return for paying BioTek a fixed dollar royalty amount. For each TechMate 500
instrument installed at a customer site, the royalty is payable over a five-year
term. For each TechMate 250 shipped to DAKO, a prepaid royalty amount of $7,000
is paid by DAKO. Under the agreement, DAKO is subject to certain minimum
purchase requirements for instruments.

In connection with BioTek's agreement with DAKO, DAKO made two loans
secured by a pledge of substantially all of BioTek's assets. DAKO also made
prepayments on future instrument sales and reagent royalties to BioTek. These
loans and prepayments were used to fund TechMate 250 instrument development and
working capital requirements. In May 1998, the Company and DAKO entered into an
amended and restated distribution agreement for the purpose of addressing
several matters including the pricing dispute for the TechMate 250. The new
agreement provides for the aggregate amount of the negotiated reduction in the
TechMate price to be added to the BioTek debt to DAKO and for the entire debt to
be unsecured. The restated debt, which at December 31, 1998 was included as
long-term debt in the Company's Consolidated Financial Statements in the amount
of $1.6 million, accrues interest at 7% per annum payable quarterly commencing
January 1, 2000. Principal payments on the debt are to be made in 16 quarterly
installments, starting March 31, 2000.

Ventana's sales and marketing strategy for its systems is focused on
increasing its penetration of the hospital and laboratory market through several
instrument placement options. The Company places instruments through direct
sales including nonrecourse leases, instrument rentals and the Company's QRIBs.
In a QRIB, the Company provides the customer with the use of an instrument for
up to six months, provided the customer purchases a minimum of $3,000 IHC or
$2,500 SS consumables. At the end of the six-month period, the customer must
elect to purchase, rent or return the system.

A key component of the Company's business strategy is to increase the
sale of reagents into its installed instrument base through a high level of
customer support. The Company's technical marketing representatives assist in
training customers in the use of the Company's systems and seek to increase
customer reagent utilization by facilitating the transfer of workload from
manual procedures. Through direct customer contact, the Company's technical
marketing representatives are able to promote sales of reagents and suggest new
IHC test applications to customers. New customers receive initial training on
the systems either in the field or at Ventana's facilities in Tucson, Arizona.
The Company's technical marketing representatives then visit the customer to
provide additional on-site training. Thereafter, Ventana actively supports
customers with periodic product bulletins and provides 24-hour customer
telephone support. Ventana actively markets its products through participation
at industry trade shows, video and audio presentations by leading pathologists
and direct mail.

MANUFACTURING

The Company manufactures its patient priority instruments at its
facilities in Tucson, Arizona. The Company has recently expanded its patient
priority instrument offering through the addition of NexES Special Stains,
rotary microtomes and tissue processors. Manufacturing facilities and operations
in Tucson have also expanded and the company believes that this expansion will
provide the Company with sufficient manufacturing capacity to meet its
anticipated requirements for patient priority instruments for approximately the
next two years. Components for patient priority instruments are purchased from a
variety of suppliers, subject to stringent quality specifications. The
components are assembled by Ventana's highly skilled manufacturing technicians
into finished products. A quality assurance group performs tests at regular
intervals in the manufacturing cycle to verify compliance with the Company's
specifications and regulatory requirements, including Good Manufacturing
Practices ("GMP") requirements.

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A number of the components used in the Ventana instrument families are
fabricated on a custom basis to the Company's specifications and are currently
obtained from a limited number of sources. To date, however, the Company has not
experienced any material disruptions in the supply of such components. The
Company continues to qualify and partner with additional suppliers. To date, the
Company has not experienced significant difficulties with manufacturing yields
and has experienced minimal manufacturing waste in the patient priority
instrument manufacturing process.

The Company has relationships with third-party manufacturers for the
manufacture of batch processing instruments. The Company has contracted with
Kollsman Manufacturing Company, Inc. for the manufacture of TechMate 500
instruments and with LJL Biosystems, Inc.
for the manufacture of TechMate 250 instruments.

Reagents sold for use with the Company's patient priority instruments
are manufactured by Ventana, which purchases basic raw materials and performs
value-added manufacturing processes, such as formulation, fill and packaging, at
its facilities. Certain components and raw materials, primarily antibodies, used
in the manufacturing of the Company's reagent products are currently provided by
single source vendors. To date, the Company has not experienced any material
disruptions in supply from these vendors and has experienced levels of
manufacturing waste in the reagent manufacturing process that it believes to be
below industry averages.

Reagents sold for use with the Company's batch processing instruments
have been manufactured at Ventana's Tucson facilities since September 1996.
Probes are manufactured in Gaithersburg, Maryland. Ventana is positioned to
capture margin and value added which was lost through payments to third-party
manufacturers, to increase economies of scale in both raw material purchasing
and manufacturing, to standardize procedures and processes, to increase control
over scheduling and to improve manufacturing flexibility.

The Company's current reagent manufacturing process at its Tucson,
Arizona and Gaithersburg, Maryland facilities is semi-automated. The Company
anticipates that as production volumes increase it will increase the level of
automation. The Company currently has sufficient reagent manufacturing capacity
to meet its anticipated needs for approximately the next two years. The
Company's long-term plans are to build a new reagent manufacturing facility in
the Tucson area to increase its reagent manufacturing capacity and increase the
level of automation of the manufacturing process. The Company anticipates
commencing construction of this facility in 1999.

The Company's manufacturing operations are required to be conducted in
accordance with GMP guidelines. GMP requires the Company to maintain
documentation and process control in a prescribed manner with respect to
manufacturing, testing and quality control. In addition, the Company is subject
to FDA inspections to verify compliance with FDA requirements. The Company also
intends to implement manufacturing policies and procedures, which will enable
the Company to receive ISO 9000 certification. ISO 9000 standards are global
standards for manufacturing process control and quality assurance. The Company
will be required to obtain the CE mark for continued sale of its products in the
countries comprising the European Union. The CE mark is an international symbol
of quality assurance and compliance with applicable European Union medical
device directives.

RESEARCH & DEVELOPMENT AND ENGINEERING

The Company has focused its research, development and engineering
efforts on the development of innovative reagent and instrument systems.

As of December 31, 1998, Ventana's Research & Development and
Engineering groups consisted of 41 persons, many of whom have graduate degrees.
Ventana's research and development activities are performed primarily in-house
by Ventana employees. These efforts are supplemented by consulting services and
assistance from Ventana's scientific advisors. The Company is developing
reagents for existing instrument bases and new products. In addition, the
Company is developing new instruments and enhancing existing instruments.

During the fiscal years ended December 31, 1998, 1997 and 1996, Ventana
spent $5.1 million, $3.1 million and $2.7 million, respectively, on research and
development.

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Reagent Development Projects

Ventana's reagent development is divided into four principal areas.
These include new antibody development, detection chemistries, special stain
chemistries, and ISH chemistries. Ventana continues to monitor third-party
development of new primary antibodies. Antibodies recognizing new prognostic
markers for monitoring breast cancer patients were introduced in February 1998.
These, in combination with other antibodies currently available from Ventana,
constitute a panel of antibodies useful in determining therapeutic alternatives
and predicting therapy outcomes for breast cancer patients. In addition,
fluorescent-labeled antibodies have been developed which were first sold in
March 1998. These antibodies are useful in determining the renal and
dermatopathological status of patients. Ventana also continues to improve the
sensitivity and specificity of detection chemistries. An amplification kit was
introduced in the third quarter of 1997 which, when used in conjunction with any
of Ventana's existing detection chemistries, allows smaller amounts of
diagnostic markers to be visualized in tissues. In addition, projects are
ongoing that will further improve the sensitivity of the present detection
choices.

Reagent development also supports the development of new instrument
systems. A complete reagent product line was introduced in conjunction with the
August 1997 market launch of the NexES instrument. Projects to provide reagents
for instrument systems continue in two major new instrument system development
areas - special stains and ISH. Development of nucleic acid probe and detection
ISH kits, to detect the causative agents for numerous infectious diseases, is
ongoing. An agreement with Chiron to utilize bDNA technology for HIV and other
infectious disease agents was completed in the first quarter of 1998 and will
provide the required sensitivity for ISH tests. The Company is currently in
discussion with various universities, hospitals, and commercial organizations
regarding other potential areas of opportunities for the ISH system.

Instrumentation Development Projects

Ventana's instrumentation development is focused on continuous product
improvement and new product innovation. The Company believes that the platform
used by the modular IHC system, NexES, will enable it to develop more rapidly
new products, which achieve these goals. This strategy proved successful in 1998
with the NexES Special Stains system being developed and commercialized in less
than 12 months. This modular development strategy is continuing in 1999 with two
new modules under development, which will further automate and integrate the
histology laboratory.

In addition, the Company will be introducing in the first half of 1999,
a microtome and tissue processor family of products developed from the platforms
acquired from BTTI. These products are used in the front end of the histology
lab prior to slide preparation for subsequent staining on Ventana's NexES
modules. This system will use a proprietary label, which has been developed
exclusively for Ventana's instrument system.

Ventana continues to explore new opportunities in instrument systems,
which add value to the customer. Plans are being developed for new systems to
further capitalize on the Company's success with its patient priority and batch
processing systems.

PATENTS AND PROPRIETARY RIGHTS

Ventana has pursued a strategy of patenting key technology as it relates
to both the automation and the chemistry of analyzing cells and tissues on
microscope slides. Ventana holds 16 United States patents and 20 foreign patents
and has filed additional United States and foreign patent applications. Six of
Ventana's United States patents were issued in 1997. Several of Ventana's issued
United States patents relate to reagent formulations and methods, including a
reagent formulation characterized by long-term stability and a method of
inhibiting evaporation of reagents during processing. Other issued United States
patents relate to a reagent dispenser, a tissue fixative and various aspects of
the capillary gap technology and methods and devices for batch processing of
slides. Pending applications relate to mechanical aspects of automated
instruments for performing reactions on slides and processing methods used in
these instruments. In addition, a patent application filed by the Company covers
an evaporation inhibitor liquid that is effective for high temperature
applications. The expiration dates of the Company's issued United States patents
range from September 2005 to November 2013.

There can be no assurance that the Company's patent applications will
result in patents being issued or that any issued patents will provide adequate
protection against competitive technologies or will be held valid if

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challenged. Others may independently develop products or processes similar to
those of the Company or design around or otherwise circumvent patents issued to
the Company.

Because patent applications in the United States are maintained in
secrecy until patents are issued and since publication of discoveries in
scientific literature tends to lag behind actual discoveries by several months,
Ventana cannot be certain that it was the first creator of inventions covered by
its patents or pending patent applications or that it was the first to file
patent applications for such inventions. Moreover, the Company may have to
participate in interference proceedings declared by the United States Patent and
Trademark Office to determine the priority of inventions, which could result in
substantial cost to the Company. In the event that any relevant claims of
third-party patents are upheld as valid and enforceable, the Company could be
prevented from practicing the subject matter claimed in such patents, or would
be required to obtain licenses from the patent owners of each of such patents or
to redesign its products or processes to avoid infringement. There can be no
assurance that such licenses would be available or, if available, would be
available on terms acceptable to the Company or that the Company would be
successful in any attempt to redesign its products or processes to avoid
infringement. If the Company does not obtain necessary licenses, it could be
subject to litigation and encounter delays in product introductions while it
attempts to design around such patents. Alternatively, the development,
manufacture or sale of such products could be prevented. Litigation would result
in significant cost to the Company as well as diversion of management time. The
outcome of any such litigation cannot be predicted with any assurance. Adverse
determinations in any such proceedings could have a material adverse effect on
the Company's business, financial condition and results of operations.

Ventana also relies upon trade secret protection for its confidential
and proprietary information. There can be no assurance that others will not
independently develop substantially equivalent proprietary information or
techniques, gain access to Ventana's trade secrets or disclose such technology,
or that Ventana can effectively protect its trade secrets. Litigation to protect
Ventana's trade secrets would result in significant cost to the Company as well
as diversion of management time. Adverse determinations in any such proceedings
or unauthorized disclosure of Ventana trade secrets could have a material
adverse effect on Ventana's business, financial condition and results of
operations.

Ventana's policy is to require its employees, consultants and
significant scientific collaborators to execute confidentiality agreements upon
the commencement of an employment or consulting relationship with Ventana. These
agreements generally provide that all confidential information developed or made
known to the individual during the course of the individual's relationship with
Ventana is to be kept confidential and not disclosed to third parties except in
specific circumstances. Agreements with employees provide that all inventions
conceived by the individual in the course of rendering services to Ventana shall
be the exclusive property of Ventana. There can be no assurance, however, that
these agreements will not be breached or that they will provide meaningful
protection or adequate remedies for unauthorized use or disclosure of Ventana's
trade secrets.

COMPETITION

Competition in the diagnostic industry is intense and is expected to
increase. Competition in the diagnostic industry is based on, among other
things, product quality, performance, price and the breadth of a company's
product offerings. Ventana's instrument and reagent systems for IHC tests
compete with products offered by various manufacturers as well as with manual
diagnostic methods. In addition, flow cytometry can be used for cellular testing
and may, in certain markets, be competitive with the Company's products. The
Company's competitors may succeed in developing products that are more reliable
or effective or less costly than those developed by the Company and may be more
successful than the Company in manufacturing and marketing their products.
Although the Company plans to continue to develop new and improved products,
there are other companies engaged in research and development of diagnostic
devices or reagents, and the introduction of such devices or alternative methods
for diagnostic testing could hinder the Company's ability to compete effectively
and could have a material adverse effect on the Company's business, financial
condition and results of operations.

In the instrument market, several companies, including Leica (a division
of Leitz Microscope GmbH), Shandon Scientific Limited (a division of Thermo
Biosystems, Inc.), BioGenex Laboratories, Inc. ("BioGenex") and DAKO (U.S.),
offer instruments that perform IHC tests and can be used with any supplier's
reagents, which may be attractive to certain customers. The Company estimates
that its installed base of instruments is more than four times the combined
installed base of instruments of all of the Company's current competitors. The
Company has included

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semi-automated instruments manufactured by its competitors in arriving at its
estimates of its market share. In addition, future growth in the market for
automated IHC instruments may result in additional market entrants and increased
competition, including more aggressive price competition. Many of the companies
selling or developing diagnostic devices and instruments and many potential
entrants in the automated IHC market have financial, manufacturing, marketing
and distribution resources significantly greater than those of Ventana. In
addition, many of these current and potential competitors have long-term
supplier relationships with Ventana's existing and potential customers. These
competitors may be able to leverage existing customer relationships to enhance
their ability to place new IHC instruments. Competition in the market for
automated IHC instruments, including the advent of new market entrants and
increasing price competition, could have a material adverse effect on the
Company's business, financial condition and results of operations.

In the market for reagents, the Company encounters competition from
suppliers of primary antibodies and detection chemistries. The major suppliers
of primary antibodies in the anatomical pathology market in the United States
are DAKO, BioGenex and Beckman Coulter. The principal suppliers of detection
chemistries in the United States are Vector Laboratories, BioGenex and DAKO. The
Company's patient priority instruments require the use of the Company's
detection chemistries but can be used with primary antibodies supplied by third
parties, and the Company's batch processing instruments can be used with both
detection chemistries and primary antibodies supplied by third parties.
Accordingly, the Company encounters significant competition in the sale of
reagents for use on those of its instruments that can be used with reagents
supplied by third parties. Lower prices for reagents used in manual IHC tests
could also limit the growth of automation. Certain of the Company's current and
potential competitors in the reagent market have financial, manufacturing,
marketing and distribution resources greater than those of the Company.
Competition in the market for reagents could also increase as a result of new
market entrants providing more favorable reagent supply arrangements than the
Company, including lower reagent prices. In particular, DAKO has introduced a
lower cost semi-automated IHC instrument in the United States and is offering
reagent supply arrangements that have resulted in increased competition for both
instruments and reagents. In addition, new entrants in the instrument market may
seek to enhance their competitive position through reduced reagent pricing or
more favorable supply arrangements; the Company's current instrument customers
may find it attractive to purchase primary antibodies for patient priority
instruments and primary antibodies and detection chemistries for batch
processing instruments from such competitors. Increased competition in the
reagent market could have a material adverse effect on the Company's business,
financial condition and results of operations.

GOVERNMENT REGULATION

The manufacturing, marketing and sale of the Company's products are
subject to regulation by governmental authorities in the United States and other
countries. In the United States, clinical diagnostic devices are subject to
rigorous Food and Drug Administration ("FDA") regulation. The Federal Food, Drug
and Cosmetic Act governs the design, testing, manufacture, safety, efficacy,
labeling, storage, record keeping, approval, advertising and promotion of the
Company's products. Obtaining regulatory approval for new products within this
regulatory framework may take a number of years and involves the expenditure of
substantial resources. In addition, there can be no assurance that this
regulatory framework will not change or that additional regulation will not
arise, which may affect approval of or delay an application or require
additional expenditures by the Company.

The FDA regulates, as medical devices, instruments, diagnostic tests and
reagents that are traditionally manufactured and commercially marketed as
finished test kits or equipment. Some clinical laboratories, however, choose to
purchase individual reagents intended for specific analytes and develop and
prepare their own finished diagnostic tests. Although neither the individual
reagents nor the finished tests prepared from them by the clinical laboratories
have traditionally been regulated by the FDA, the FDA has recently proposed a
rule that, if adopted, would regulate the reagents sold to clinical laboratories
as medical devices. The proposed rule would also restrict sales of these
reagents to clinical laboratories certified under the Clinical Laboratory
Improvement Amendments of 1988 ("CLIA") as high complexity testing laboratories.
The Company intends to market some diagnostic products as finished test kits or
equipment and others as individual reagents; consequently, some or all of these
products will be regulated as medical devices.

The Company's clinical diagnostic systems are regulated by the FDA under
a 3-tier classification system -- Class I, II and III. The degree of regulation,
as well as the cost and time required to obtain regulatory approvals, generally
increases from Class I to Class III. Most diagnostic devices are regulated as
Class I or Class II devices, although certain diagnostic tests for particular
diseases may be classified as Class III devices. Prior to entering commercial
distribution, most Class I, II, or III medical devices must undergo FDA review
under one of two basic

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review schemes depending upon the type of device or procedure. These review
schemes are the 510(k) pre-market notification process and the pre-market
approval ("PMA") process. A 510(k) notification is generally a filing submitted
to demonstrate that the device in question is "substantially equivalent" to
another legally marketed device. Approval under this procedure may be granted
within 90 days, but generally takes longer, and in some cases up to a year or
more. Class I and II devices, as well as certain Class III devices, for which
the FDA has not called for a PMA, are reviewed under the 510(k) process. For all
other Class III products, the manufacturer must file a PMA to show that the
product is safe and effective based on extensive clinical testing and controlled
trials among several diverse testing sites and population groups. These
controlled trials may be conducted under an Investigational Device Exemption
("IDE") cleared by the FDA, or they may be conducted without FDA review if
exempt from IDE requirements. The PMA process typically involves significantly
more clinical testing than does the 510(k) procedure and could involve a
significantly longer FDA review period after the date of filing. In responding
to a PMA application, the FDA can either accept it for filing or reject it and
require the manufacturer to include additional information in a resubmitted
application. PMA applications that are accepted for filing may be reviewed by a
FDA scientific advisory panel, which issues either a favorable or unfavorable
recommendation regarding the device. The FDA is not bound by the panel's
recommendation, but tends to give it significant weight. By law, the PMA process
is to be completed within 180 days of acceptance of the PMA application for
filing, although this time period can be, and typically is, extended by the FDA.
A PMA application can take from one to several years to complete, and there can
be no assurance that any submitted PMA application will ultimately be approved.
Further, clearance or approval may place substantial restrictions on to whom and
the indications for which the product may be marketed or to whom it may be
marketed. Additionally, there can be no assurance that the FDA will not request
additional data, or request that the Company conduct further clinical studies.

All of the detection chemistries and most of the primary antibody
products being sold by the Company are currently classified as Class II devices.
Many of Ventana's detection chemistries have received 510(k) clearance from the
FDA. Some of the antibodies being marketed by the Company are labeled for in
vitro diagnostic use and have received 510(k) clearance from the FDA. The
Company may wish to market certain antibodies with a label indicating that they
can be used in the diagnosis of particular diseases, including cancer. These
devices may be classified as Class III devices and may therefore require a PMA.

After products have been cleared for marketing by the FDA, the Company
will be subject to continuing FDA obligations. Clearances may be withdrawn or
products may be recalled if compliance with regulatory standards is not
maintained or if problems occur after the product reaches the market. The FDA
may require surveillance programs to monitor the effect of products, which have
been commercialized, and has the power to prevent or limit further marketing of
the product based on the results of these post-marketing programs. The FDA
enforces regulations prohibiting the marketing of products for unapproved uses.
Further, if the Company wanted to make changes on a product after FDA clearance
or approval, including changes in indications or intended use or other
significant modifications to labeling or manufacturing, additional clearances or
approvals would be required. The FDA has broad regulatory and enforcement powers
including the ability to levy fines and civil penalties, suspend or delay
issuance of approvals, seize or recall products, withdraw clearances or
approvals, restrict or enjoin the marketing of products, and impose civil and
criminal penalties, any one or more of which could have a material adverse
effect upon the Company.

The Company is subject to FDA GMP regulations. The Company is in the
process of implementing policies and procedures which are intended to allow the
Company to receive ISO 9000 certification. ISO 9000 standards are worldwide
standards for manufacturing process control, documentation and quality
assurance. There can be no assurance that the Company will be successful in
meeting ISO 9000 certification requirements. Under GMP regulations and ISO 9000
standards, the Company is subject to ongoing FDA and international compliance
inspections.

Laboratories using the Company's diagnostic devices for clinical use in
the United States are regulated under CLIA, which is intended to ensure the
quality and reliability of medical testing. Regulations implementing CLIA
establish requirements for laboratories and laboratory personnel in the areas of
administration, participation

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and proficiency testing, patient test management, quality control, personnel,
quality assurance and inspection. Under these regulations, the specific
requirements that a laboratory must meet depend on the complexity of the test
being performed by the laboratory. Under CLIA regulations, all laboratories
performing moderately complex or highly complex tests will be required to obtain
either a registration certificate or certificate of accreditation from the
Health Care Financing Administration. CLIA requirements may prevent some
clinical laboratories from using certain of the Company's diagnostic products.
Therefore, there can be no assurance that CLIA regulations and future
administrative interpretations of CLIA will not have a material adverse impact
on the Company by limiting the potential market for the Company's products.

The Company sells products in certain international markets and plans to
enter additional international markets. International sales of medical devices
are subject to foreign government regulation, the requirements of which vary
substantially from country to country. These range from comprehensive device
approval requirements for some or all of the Company's medical device products
to requests for product data or certifications. FDA approval is required for the
export of Class III devices.

In addition to the foregoing, the Company is subject to numerous
federal, state and local laws and regulations relating to such matters as safe
working conditions, laboratory and manufacturing practices, fire hazard control,
disposal of hazardous or potentially hazardous substances and other
environmental matters. To date, compliance with these laws and regulations has
not had a material effect on the Company's financial position, and the Company
has no plans for material capital expenditures relating to such matters. The
Company currently uses third-party disposal services to remove and dispose of
the hazardous materials used in its processes. The Company could in the future
encounter claims from individuals, governmental authorities or other persons or
entities in connection with exposure to or disposal or handling of such
hazardous materials or violations of environmental laws by the Company or its
contractors and could also be required to incur additional expenditures for
hazardous materials management or environmental compliance. Costs associated
with environmental claims, violations of environmental laws or regulations,
hazardous materials management and compliance with environmental laws could have
a material adverse effect on the business, financial condition or results of
operations of the Company.

Although the Company believes it will be able to comply with all
applicable regulations regarding the manufacture and sale of diagnostic
products, such regulations are always subject to change and depend heavily upon
administrative interpretations. Delays in or failure to receive clearances or
approvals of products the Company plans to introduce, or changes in the
applicable regulatory climates could have a material adverse effect upon the
business, financial condition or results of operations of the Company.

THIRD-PARTY REIMBURSEMENT

Third-party payors, such as governmental programs and private insurance
plans, can indirectly affect the pricing or relative attractiveness of the
Company's products by regulating the maximum amount of reimbursement they will
provide to the Company's customers for diagnostic testing services. In recent
years, health care costs have risen substantially, and third-party payors have
come under increasing pressure to reduce such costs. In this regard, legislative
proposals relating to health care reform and cost containment have been
introduced at the state and federal levels. The cost-containment measures that
health care payors are instituting and the impact of any health care reform
could have a material adverse effect on the levels of reimbursement the
Company's customers receive from third-party payors and as a result on the
Company's ability to market and sell its products. Such factors could have a
material adverse effect on the Company's business, financial condition and
results of operations.

PRODUCT LIABILITY AND RECALLS; PRODUCT LIABILITY INSURANCE

The marketing and sale of the Company's diagnostic instruments and
reagents entails risk of product liability claims. The Company has product
liability insurance coverage with a per occurrence maximum of $2.0 million and
an aggregate annual maximum of $5.0 million. There can be no assurance that this
level of insurance coverage will be adequate or that insurance coverage will
continue to be available on acceptable terms or at all. A product liability
claim or recall could have a material adverse effect on the Company's business,
reputation, financial condition and results of operations.

16
<PAGE> 19

EMPLOYEES

As of December 31, 1998, Ventana employed 352 persons full time. Of
these employees, 167 were engaged in sales, marketing and service, 41 in
research and development, 106 in manufacturing and 38 in general and
administrative functions. None of Ventana's employees are covered by a
collective bargaining agreement. Ventana considers its relations with its
employees to be satisfactory.

BACKLOG

Ventana typically ships orders for instruments and reagents shortly
after receipt, and accordingly does not maintain a significant backlog.

ADDITIONAL RISK FACTORS

Continuing Losses; Uncertainty of Future Profitability

The Company has incurred significant cumulative losses from its
inception in 1985 through December 31, 1998. The Company's ability to achieve
and sustain profitability is dependent on a variety of factors including the
extent to which its instrument and reagent systems continue to achieve market
acceptance, the Company's ability to sell reagents to its customers, the
Company's ability to compete successfully, the Company's ability to develop,
introduce, market and distribute existing and new diagnostic systems, the level
of expenditures incurred by the Company in investing in product development and
sales and marketing, the Company's ability to expand manufacturing capacity as
required and the receipt of required regulatory approvals for products developed
by the Company. There can be no assurance that the Company will be successful in
these efforts. Moreover, the level of future profitability, if any, cannot be
accurately predicted and there can be no assurance that profitability will be
sustained on a quarterly or annual basis, or at all, or that the Company will
not incur operating losses in the future.

Future Fluctuations in Operating Results

The Company derives revenues from the sale of reagents and instruments.
The initial placement of an instrument is subject to a longer, less consistent
sales cycle than the sale of reagents, which begin and are typically recurring
once an instrument is placed. The Company's future operating results are likely
to fluctuate substantially from period to period because instrument sales are
likely to remain an important part of revenues in the near future. The degree of
fluctuation will depend on the timing, level and mix of instruments placed
through direct sales and instruments placed through QRIBs and rentals. In
addition, average daily reagent use by customers may fluctuate from period to
period, which may contribute to future fluctuations in revenues.

Other factors that may result in fluctuations in operating results
include the timing of new product announcements and the introduction of new
products and new technologies by the Company and its competitors, market
acceptance of the Company's current or new products, developments with respect
to regulatory matters, availability and cost of raw materials from its
suppliers, competitive pricing pressures, increased research and development
expenses, and increased marketing and sales expenses associated with the
implementation of the Company's market expansion strategies for its instrument
and reagent products. Future instrument and reagent sales could also be
adversely affected by the configuration of the Company's patient priority
systems, which require the use of the Company's detection chemistries,
particularly if and to the extent that competitors are successful in developing
and introducing new IHC instruments or if competitors offer reagent supply
arrangements having pricing or other terms more favorable than those offered by
the Company. Such increased competition in reagent supply could also adversely
affect sales of reagents to batch processing instrument customers since those
instruments do not require the use of the Company's reagents. In connection with
future introductions of new products, the Company may be required to incur
charges for inventory obsolescence in connection with unsold inventory of older
generations of products. To date, however, the Company has not incurred material
charges or expenses associated with inventory obsolescence in connection with
new product introductions. In addition, a significant portion of the Company's
expense levels is based on its expectation of a higher level of revenues in the
future and are relatively fixed in nature. Therefore, if revenue levels are
below expectations, operating results in a given period are likely to be
adversely affected.

17
<PAGE> 20

Rate of Market Acceptance and Technological Change

Use of automated systems to perform diagnostic tests is relatively new.
Historically, the diagnostic tests performed by the Company's systems have been
performed manually by laboratory personnel. The rate of market acceptance of the
Company's products will be largely dependent on the Company's ability to
persuade the medical community of the benefits of automated diagnostic testing
using the Company's products. Market acceptance and sales of the Company's
products may also be affected by the price and quality of the Company's and its
competitors' products. The Company's products could also be rendered obsolete or
noncompetitive by virtue of technological innovations in the fields of cellular
or molecular diagnostics. Failure of the Company's products to achieve market
acceptance would have a material adverse effect on the Company's business,
financial condition and results of operations.

Risks Associated with Development and Introduction of New Products

The Company's future growth and profitability will be dependent, in large part,
on its ability to develop, introduce and market new instruments and reagents
used in diagnosing and selecting appropriate treatment for cancer and additional
disease states. The Company depends in part on the success of medical research
in developing new antibodies, nucleic acid probes and clinical diagnostic
procedures that can be adapted for use in the Company's systems. In addition,
the Company will need to obtain licenses on satisfactory terms to certain of
these technologies, for which there can be no assurance. Certain of the
Company's products are currently under development, initial testing or
preclinical or clinical evaluation by the Company. Other products are scheduled
for future development. Products under development or scheduled for future
development may prove to be unreliable from a diagnostic standpoint, may be
difficult to manufacture in an efficient manner, may fail to receive necessary
regulatory clearances, may not achieve market acceptance or may encounter other
unanticipated difficulties. The failure of the Company to develop, introduce and
market new products on a timely basis or at all could have a material adverse
effect on the Company's business, financial condition and results of operations.

Manufacturing Risks

The Company has only manufactured patient priority instruments and
reagents for commercial sale since late 1991, and manufacturing of the Company's
batch processing instruments is performed by third parties. As the Company
continues to increase production of such instruments and reagents and develops
and introduces new products, it may from time to time experience difficulties in
manufacturing. The Company must continue to increase production volumes of
instruments and reagents in a cost-effective manner in order to be profitable.
To increase production levels, the Company will need to scale-up its
manufacturing facilities, increase its automated manufacturing capabilities and
continue to comply with the current good manufacturing practices ("GMPs")
prescribed by the United States Food and Drug Administration ("FDA") and other
standards prescribed by various federal, state and local regulatory agencies in
the United States and other countries, including the International Standards
Organization ("ISO") 9000 Series certifications. There can be no assurance that
manufacturing and quality problems will not arise as the Company increases its
manufacturing operations or that such scale-up can be achieved in a timely
manner or at a commercially reasonable cost. Manufacturing or quality problems
or difficulties or delays in manufacturing scale-up could have a material
adverse effect on the Company's business, financial condition and results of
operations.

18
<PAGE> 21
Dependence Upon Key Suppliers

The Company's reagent products are formulated from both chemical and
biological materials utilizing proprietary Ventana technology as well as
standard processing techniques. Certain components and raw materials, primarily
antibodies, used in the manufacturing of the Company's reagent products are
currently provided by single-source vendors. There can be no assurance that the
materials or reagents needed by the Company will be available in commercial
quantities or at acceptable prices. Any supply interruption or yield problems
encountered in the use of materials from these vendors could have a material
adverse effect on the Company's ability to manufacture its products until a new
source of supply is obtained. The use of alternative or additional suppliers
could be time consuming and expensive. In addition, a number of the components
used to manufacture instruments are fabricated on a custom basis to the
Company's specifications and are currently available from a limited number of
sources. Consequently, in the event the supply of materials or components from
any of these vendors were delayed or interrupted for any reason or in the event
of quality or reliability problems with such components or suppliers, the
Company's ability to supply such instruments could be impaired, which could have
a material adverse effect on the Company's business, financial condition and
results of operations.

Risks Associated with Past and Future Acquisitions

Although the Company has no pending agreements or commitments, the
Company may make additional acquisitions of complementary businesses, products
or technologies in the future. Acquisitions of companies, divisions of
companies, or products entail numerous risks, including (i) the potential
inability to successfully integrate acquired operations and products or to
realize anticipated synergies, economies of scale or other value, (ii) diversion
of management's attention and (iii) loss of key employees of acquired
operations. No assurance can be given that the Company will not incur problems
with respect to any future acquisitions, and there can be no assurance that any
future acquisitions will result in the Company becoming profitable or, if the
Company achieves profitability, that such acquisition will increase the
Company's profitability. Furthermore, there can be no assurance that the Company
will realize value from any such acquisition, which equals or exceeds the
consideration paid. Any such problems could have a material adverse effect on
the Company's business, financial condition and results of operations. In
addition, any future acquisitions by the Company may result in dilutive
issuances of equity securities, the incurrence of additional debt, large
one-time write-offs and the creation of goodwill or other intangible assets that
could result in amortization expense. These factors could have a material
adverse effect on the Company's business, financial condition and results of
operations.

Risks Relating to Patents and Proprietary Rights

The Company's success depends, in part, on its ability to obtain
patents, maintain trade secret protection and operate without infringing the
proprietary rights of others. There can be no assurance that the Company's
patent applications will result in patents being issued or that any issued
patents will provide adequate protection against competitive technologies or
will be held valid if challenged. Others may independently develop products
similar to those of the Company or design around or otherwise circumvent patents
issued to the Company. In the event that any relevant claims of third-party
patents are upheld as valid and enforceable, the Company could be prevented from
practicing the subject matter claimed in such patents, or would be required to
obtain licenses from the patent owners of each of such patents or to redesign
its products or processes to avoid infringement. There can be no assurance that
such licenses would be available or, if available, would be on terms acceptable
to the Company or that the Company would be successful in any attempt to
redesign its products or processes to avoid infringement. If the Company does
not obtain necessary licenses, it could be subject to litigation and encounter
delays in product introductions while it attempts to design around such patents.
Alternatively, the Company's development, manufacture or sale of such products
could be prevented by the patent holder. Litigation would result in significant
cost to the Company as well as diversion of management time. Adverse
determinations in any such proceedings could have a material adverse effect on
the Company's business, financial condition and results of operations.

19
<PAGE> 22

Uncertainty of Future Funding of Capital Requirements

The Company anticipates that its existing capital resources and
available borrowing capacity under the Company's revolving credit line will be
adequate to satisfy its capital requirements for the next 12 months. The
Company's future capital requirements will depend on many factors, including the
extent to which the Company's products gain market acceptance, the mix of
instruments placed through direct sales or through QRIBs, progress of the
Company's product development programs, competing technological and market
developments, expansion of the Company's sales and marketing activities, the
cost of manufacturing scale-up activities, possible acquisitions of
complementary businesses, products or technologies, the extent and duration of
operating losses, the Company's ability to sustain profitability and timing of
regulatory approvals. The Company may require additional capital resources and
there is no assurance such capital will be available to the extent required, on
terms acceptable to the Company or at all. Any such future capital requirements
could result in the issuance of equity securities, which would be dilutive to
existing stockholders.

Dependence on Key Personnel

The Company is dependent upon the retention of principal members of its
management, Board of Directors, scientific, technical, marketing and sales staff
and the recruitment of additional personnel. The Company does not have an
employment agreement with any of its executive officers. The Company does not
maintain "key person" life insurance on any of its personnel. The Company
competes with other companies, academic institutions, government entities and
other organizations for qualified personnel in the areas of the Company's
activities. The inability to hire or retain qualified personnel could have a
material adverse effect on the Company's business, financial condition and
results of operations.

Uncertainties Related to Government Funding

A portion of the Company's products are sold to universities, research
laboratories, private foundations and other institutions where funding is
dependent upon grants from government agencies, such as the National Institutes
of Health. Research funding by the government could be significantly reduced.
Any such reduction may materially affect the ability of many of the Company's
research customers to purchase the Company's products.

FDA and Other Government Regulation

The manufacturing, marketing and sale of the Company's products are
subject to extensive and rigorous government regulation in the United States and
in other countries. In the United States and certain other countries, the
process of obtaining and maintaining required regulatory approvals is lengthy,
expensive and uncertain. In the United States, the FDA regulates, as medical
devices, clinical diagnostic tests and reagents, as well as instruments used in
the diagnosis of adverse conditions. The Federal Food, Drug, and Cosmetic Act
governs the design, testing, manufacture, safety, efficacy, labeling, storage,
record keeping, approval, advertising and promotion of the Company's products.
There are two principal FDA regulatory review paths for medical devices: the
510(k) pre-market notification ("510(k)") process and the pre-market approval
("PMA") process. The PMA process typically requires the submission of more
extensive clinical data and is costlier and more time-consuming to complete than
the 510(k) process.

20
<PAGE> 23
sales of these reagents to clinical laboratories certified under the Clinical
Laboratory Improvement Amendments of 1988 ("CLIA") as high complexity testing
laboratories. The Company intends to market some diagnostic products as finished
test kits or equipment and others as individual reagents; consequently, some or
all of these products may be regulated as medical devices.

Medical devices generally require FDA approval or clearance prior to
being marketed in the United States. The process of obtaining FDA clearances or
approvals necessary to market medical devices can be time-consuming, expensive
and uncertain, and there can be no assurance that any clearance or approval
sought by the Company will be granted or that FDA review will not involve delays
adversely affecting the marketing and sale of the Company's products. Further,
clearances or approvals may place substantial restrictions on the indications
for which the product may be marketed or to whom it may be marketed.
Additionally, there can be no assurance that the FDA will not require additional
data, require that the Company conduct further clinical studies or obtain a PMA
causing the Company to incur further cost and delay.

With respect to automated IHC testing functions, the Company's
instruments have been categorized by the FDA as automated cell staining devices
and have been exempted from the 510(k) notification process. To date, ISH tests
have not received FDA approval or clearance and, therefore, use of the gen II
for ISH tests will be restricted to research applications. New instrument
products that the Company may introduce could require future 510(k) clearances.
Certain antibodies that the Company may wish to market with labeling indicating
that they can be used in the diagnosis of particular diseases may require PMA
approval. In addition, the FDA has proposed that some of the antibody products
that Ventana may wish to market be subjected to a pre-filing certification
process. Certain of the Company's products are currently sold for research use
and are labeled as such.

Failure to comply with applicable regulatory requirements can, among
other consequences, result in fines, injunctions, civil penalties, suspensions
or loss of regulatory approvals, recalls or seizures of products, operating
restrictions and criminal prosecutions. In particular, the FDA enforces
regulations prohibiting the marketing of products for non-indicated uses. In
addition, governmental regulations may be established that could prevent or
delay regulatory approval of the Company's products. Delays in or failure to
receive approval of products the Company plans to introduce, loss of or
additional restrictions or limitations relating to previously received
approvals, other regulatory action against the Company or changes in the
applicable regulatory climate could individually or in the aggregate have a
material adverse effect on the Company's business, financial condition and
results of operations.

The Company is also required to register as a medical device
manufacturer with the FDA and is inspected on a routine basis by the FDA for
compliance with its regulations. The Company's clinical laboratory customers are
subject to CLIA, which is intended to ensure the quality and reliability of
medical testing.

In addition to these regulations, the Company is subject to numerous
federal, state and local laws and regulations relating to such matters as safe
working conditions and environmental matters. There can be no assurance that
such laws or regulations will not in the future have a material adverse effect
on the Company's business, financial condition and results of operations.

Risks Relating to Availability of Third-Party Reimbursement and Potential
Adverse Effects of Health Care Reform

The Company's ability to sustain revenue growth and profitability may
depend on the ability of the Company's customers to obtain adequate levels of
third-party reimbursement for use of certain diagnostic tests in the United
States, Europe and other countries. Currently, the availability of third-party
reimbursement is limited and uncertain for some IHC tests.

In the United States, the Company's products are purchased primarily by
medical institutions and laboratories which bill various third-party payors,
such as Medicare, Medicaid, other government programs and private insurance
plans, for the health care services provided to their patients. Third-party
payors may deny reimbursement to the Company's customers if they determine that
a prescribed device or diagnostic test has not received appropriate FDA or other
governmental regulatory clearances or approvals, is not used in accordance with
cost-effective treatment methods as determined by the payor, or is experimental,
unnecessary or inappropriate. The success of the Company's products may depend
on the extent to which appropriate reimbursement levels for the costs of such
products and related treatment are obtained by the Company's customers from
government authorities, private health insurers and other organizations, such as
health maintenance organizations ("HMOs"). Third-party

21
<PAGE> 24
payors are increasingly challenging the prices charged for medical products and
services. The trend towards managed health care in the United States and the
concurrent growth of organizations such as HMOs could significantly influence
the purchase of health care services and products. In addition, the federal
government and certain members of Congress have proposed, and various state
governments have adopted or are considering, programs to reform the health care
system. These proposals are focused, in large part, on controlling the
escalation of health care expenditures. The cost containment measures that
health care payors are instituting and the impact of any health care reform
could have a material adverse effect on the levels of reimbursement the
Company's customers receive from third-party payors and the Company's ability to
market and sell its products and consequently could have a material adverse
effect on the Company's business, financial condition and results of operations.

Environmental Matters

Certain of the Company's manufacturing processes, primarily processes
involved in manufacturing certain of the Company's reagent products, require the
use of potentially hazardous and carcinogenic chemicals. The Company is required
to comply with applicable federal, state and local laws regarding the use,
storage and disposal of such materials. The Company currently uses third-party
disposal services to remove and dispose of the hazardous materials used in its
processes. The Company could in the future encounter claims from individuals,
governmental authorities or other persons or entities in connection with
exposure to or disposal or handling of such hazardous materials or violations of
environmental laws by the Company or its contractors and could also be required
to incur additional expenditures for hazardous materials management or
environmental compliance. Costs associated with environmental claims, violations
of environmental laws or regulations, hazardous materials management and
compliance with environmental laws could have a material adverse effect on the
Company's business, financial condition and results of operations.

Potential Volatility of Stock Price

The Company's Common Stock, like the securities of other medical device
and life sciences companies, has exhibited price volatility, and such volatility
may occur in the future. In addition, the stock market has from time to time
experienced extreme price and volume fluctuations that have affected the market
price of many companies and have often been unrelated to the operating
performance of particular companies. Factors such as fluctuations in the
Company's operating results, announcements of technological innovations or new
products by the Company or its competitors, FDA and other government regulation,
developments with respect to patents or proprietary rights, public concern as to
the safety of products developed by the Company or others, changes in financial
analysts' estimates or recommendations regarding the Company and general market
conditions may have a material adverse effect on the market price of the
Company's Common Stock. The Company's results of operations may, in future
periods, fall below the expectations of public market analysts and investors
and, in such event, the market price of the Company's Common Stock could be
materially adversely affected.

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<PAGE> 25
ITEM 2. PROPERTIES

Ventana's U. S. research laboratories, instrument and reagent
manufacturing facilities and administrative offices are located in approximately
85,000 square feet of leased space in Tucson, Arizona and Gaithersburg,
Maryland. The leases for these facilities expire at various times between
November 1999 and March 2001, subject to renewal terms. The Company believes its
facilities are adequate to meet its current requirements with new facility
construction anticipated in 1999 under commercially reasonable lease terms.

ITEM 3. LEGAL PROCEEDINGS

In March 1995, BioGenex sued BioTek in the U.S. District Court for the
Northern District of California for infringement of certain patent rights held
by BioGenex relating to an antigen retrieval method used in IHC tests.
BioGenex's claims included claims of both direct, indirect and contributory
infringement. BioTek denied infringement and asserted several defenses,
including the invalidity of the patent. In April 1995, BioTek ceased offering
the products that were the subject of the alleged infringements. A
court-mandated judicial settlement conference was held in January 1997 and no
settlement was reached. In May 1997, a judgement for approximately $850,000 was
rendered against BioTek, which BioTek appealed. In April 1998, the Court of
Appeals denied the appeal and the Company promptly satisfied all obligations
stemming from the judgment.

In January 1997, four individuals who are former BioTek noteholders who
held in the aggregate approximately $1.1 million in principal amount of BioTek
notes filed an action, Tse, et al v. Ventana Medical Systems, Inc., et al. No.
97-37, against the Company and certain of its directors and stockholders in the
United states District Court for the District of Delaware. The complaint
alleges, among other things, that the Company violated federal and California
securities laws and engaged in common law fraud in connection with the BioTek
shareholders' consent to the February 1996 merger of BioTek into Ventana and the
related conversion of BioTek notes into Ventana notes. Plaintiffs seek
substantial compensatory damages several times in excess of the principal amount
of their BioTek notes, as well as substantial punitive damages, and fees and
costs. On April 25, 1997, plaintiffs filed an Amended Complaint. The Amended
Complaint makes the same allegations as the original Complaint, and adds a claim
under North Carolina securities laws. In May of 1997, the Company made a motion
to transfer the action to the district of Arizona, or alternatively to the
Central District of California, which was denied by the court. On December 16,
1997, the Company filed a motion to dismiss the Amended Complaint. This motion
was partially accepted and partially denied by the Court. Based on the facts
known to date, the Company believes that the claims are without merit and
intends to vigorously contest this suit. After consideration of the nature of
the claims and the facts relating to the merger and the BioTek note exchange,
the Company believes that it has meritorious defenses to the claims and that
resolution of this matter will not have a material adverse effect on the
Company's business, financial condition and results of operations; however, the
results of the proceedings are uncertain and there can be no assurance to that
effect.

On July 16, 1997, a shareholder demand to review and copy corporate
documents pursuant to Section 220 of the Delaware General Corporation Law was
denied by the Company. As a result, an action entitled, Leung v. Ventana Medical
Systems, Inc., CA. No. 15812, was filed in the Court of Chancery for the State
of Delaware. The plaintiff, who is related to the plaintiffs in the securities
action, discussed in the preceding paragraph, seeks inspection of certain books
and record of the Company. Defendants believe the plaintiff seeks the documents
for an improper purpose and intend to defend this case vigorously. A trial on
March 3, 1998 resulted in the judge ordering the parties to reach an agreement
without a court order. The agreement provides for the plaintiff's attorney only
to review the corporate documents supplied.

In connection with the disagreement as to the price to be charged by
BioTek to DAKO for the sale of TechMate 250 instruments, DAKO filed an
arbitration request with the International Chamber of Commerce in July 1997. In
May 1998, the parties resolved their differences and the arbitration proceedings
were dropped.

In May 1998, a former employee filed a lawsuit in the Northern District
of California against the company, alleging sex discrimination retaliation and
wrongful termination and other related wrongdoings. The Company has disputed the
allegations. An Early Neutral Evaluation took place in November 1998.
Depositions are scheduled and discovery continues. Based upon its review of the
matter, the Company does not believe that its resolution will have a material
adverse effect on the Company's business, financial condition or results of
operations.

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<PAGE> 26

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

No matters were submitted to a vote of security holders during the
fourth quarter of 1998.
PART II

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

The Company's Common Stock has been traded on the Nasdaq National Market
(ticker symbol VMSI) since July 26, 1996. The number of record holders of the
Company's Common Stock at December 31, 1998 was 277. The Company has not paid
any dividends since its inception and does not intend to pay any dividends in
the foreseeable future. In addition the Company is precluded under its bank line
of credit from paying dividends without the bank's consent.

Quarterly high and low stock prices are as follows:

<TABLE>
<CAPTION>
QUARTER ENDED HIGH LOW
----------------- ------- -------
<S> <C> <C>
December 31, 1998 $23.625 $14.125
September 30, 1998 $29.625 $13.625
June 30, 1998 $28.375 $23.125
March 31, 1998 $26.625 $15.25

December 31, 1997 $17.00 $13.125
September 30, 1997 $17.125 $13.00
June 30, 1997 $14.50 $ 9.00
March 31, 1997 $19.00 $13.50
</TABLE>

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<PAGE> 27
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA

The selected consolidated statement of operations data set forth below
for the years ended December 31, 1998, 1997 and 1996 are derived from the
Company's audited Consolidated Financial Statements included elsewhere in this
Report on Form 10-K. The selected consolidated statement of operations data set
forth below for the years ended December 31, 1995 and 1994, except for the
components of net sales, are derived from audited financial statements of the
Company not included in this Report on Form 10-K. The historical financial
information for the periods presented are not necessarily indicative of the
results which may be realized in the future. The selected consolidated financial
data set forth below should be read in conjunction with "Management's Discussion
and Analysis of Financial Condition and Results of Operations" and the
Consolidated Financial Statements and Notes thereto included elsewhere in this
Report on Form 10-K.

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------------------------------------
1994 1995 1996 1997 1998
-------- -------- -------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA(1):
Sales:
Instruments ......................... $ 2,588 $ 4,644 $ 8,591 $ 9,248 $ 15,737
Reagents and other ................ 3,339 5,969 15,538 22,905 31,967
-------- -------- -------- -------- --------
Total net sales ................ 5,927 10,613 24,129 32,153 47,704
Cost of goods sold .................. 2,531 4,282 10,632 11,138 14,542
-------- -------- -------- -------- --------
Gross profit ........................ 3,396 6,331 13,497 21,015 33,162
Operating expenses:
Selling, general and
administrative .................. 6,899 7,435 11,206 16,953 23,805
Research and development .......... 1,926 2,239 2,749 3,050 5,057
Nonrecurring expenses ............. -- -- 10,262 1,656 3,160
Amortization of acquisition
costs ........................... -- -- 424 509 599
-------- -------- -------- -------- --------
Income (loss) from operations ....... (5,429) (3,343) (11,144) (1,153) 541
Other income (expense) .............. 59 74 (137) 781 1,089
-------- -------- -------- -------- --------
Net income (loss) ................... $ (5,370) $ (3,269) $(11,281) $ (372) $ 1,630
======== ======== ======== ======== ========
Per share data (2):
Net income (loss) per share, as
adjusted, basic ................... $ (.80) $ (.43) $ (1.22) $ (.03) $ .12
======== ======== ======== ======== ========
Net income (loss) per share, as
adjusted, diluted ................. $ (.80) $ (.43) $ (1.22) $ (.03) $ .11
======== ======== ======== ======== ========
Shares used in computing net
income (loss) per share, as
adjusted, basic ................... 6,725 7,571 9,243 12,778 13,320
======== ======== ======== ======== ========
Shares used in computing net
income (loss) per share, as
adjusted, diluted .................. 6,725 7,571 9,243 12,778 14,627
======== ======== ======== ======== ========
BALANCE SHEET DATA:
Cash, cash equivalents and
short-term investments ............ $ 2,511 $ 1,103 $ 11,067 $ 18,902 $ 2,424
Long-term debt and redeemable
preferred stock ................... 30,237 35,180 12,500 471 1,907
Working capital ..................... 3,720 2,765 15,888 28,714 23,162
Total assets ........................ 7,279 7,378 32,410 48,352 56,280
Accumulated deficit ................. (24,275) (29,980) (33,410) (33,782) (32,152)
Total stockholders
equity (deficit) .................. (24,131) (29,856) 15,270 42,403 45,784
</TABLE>

(1) See Notes 12, 13 and 14 to Consolidated Financial Statements in Form 10-K
attached for information regarding the acquisitions of BioTek Solutions,
Inc., Biotechnology Tools, Inc., and certain assets of Oncor, Inc.

(2) See Note 1 to Consolidated Financial Statements in Form 10-K attached for
information concerning the computation of 1996 net loss per share, as
adjusted.

26
<PAGE> 28
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

The following discussion of the financial condition and results of
operations of Ventana should be read in conjunction with the Consolidated
Financial Statements and related Notes thereto included elsewhere in this Form
10-K. This Report on Form 10-K contains certain 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. Actual events or results may differ
materially from those projected in the forward-looking statements as a result of
the factors described herein and in the documents incorporated herein by
reference. Such forward-looking statements include, but are not limited to,
statements concerning the risk of cancer; cancer screening; improvements in
automated IHC; business strategy; development and introduction of new products;
research and development; marketing, sales and distribution; manufacturing;
competition; third-party reimbursement; government regulation; and operating and
capital requirements.

OVERVIEW

Ventana develops, manufactures and markets instrument/reagent systems
that automate tissue preparation and slide staining in histology laboratories
worldwide. Tissue preparation involves removing water from the sample and
embedding the sample in paraffin for tissue preservation and subsequent cutting
prior to mounting on slides. Slide staining is used to perform
immunohistochemistry ("IHC"), special stains ("SS"), and in situ hybridization
("ISH") tests for the analysis of cells and tissues on microscope slides. These
tests are important tools used in diagnosing and selecting appropriate treatment
for cancer and infectious diseases. Each Ventana proprietary system placed
typically provides a recurring revenue stream as customers consume reagents and
supplies sold by the Company with each test conducted. IHC reagents consist of
two components: a primary antibody and a detection chemistry that is used to
visualize the primary antibody; SS reagents consist of various chemicals and
dyes. Therefore, the principal economic drivers for the Company are the number,
type and method of placement of instruments and the amount of reagents and
consumables used by the customer. The Company's strategy is to maximize the
number of instruments placed with customers and thereby increase its ongoing,
higher margin reagent revenue stream. The Company expects that reagents will
comprise a greater proportion of total revenues in the future as its installed
base of instruments increases.

Acquisition of Certain Oncor Assets

On November 23, 1998, the Company acquired all of the oncology assets of
Oncor, Inc. The acquisition provided the Company with a proprietary probe
technology as well as facilities that have been approved for manufacturing PMA
products. Ventana acquired the Oncor assets for $5.5 million, a significant
portion of which related to intangible assets. These intangible assets included
$2.9 million for acquired in-process research and development ("in process R&D")
for projects that did not have future alternative uses. This allocation
represents the fair market value based on risk-adjusted cash flows related to
the in-process R&D projects. At the date of acquisition, the development of
these projects had not yet reached technological feasibility and the in-process
R&D had no alternative future uses. Accordingly, these costs were written off in
the fiscal quarter ended December 31, 1998. Of the remaining purchase price of
$2.3 million, approximately $1.6 million was allocated to identifiable
intangibles and goodwill, and is being amortized over 5 to 15 years. The
acquisition was paid for with existing cash equivalents.

On the date of its acquisition, Oncor's in-process R&D value was
comprised of two primary R&D programs that were expected to reach completion
between late 1999 and 2000. These projects included the introduction of new
probes aimed at detecting Her2 gene amplification and human papilloma virus
("HPV"). At the acquisition date, Oncor's R&D programs ranged in completion from
10% to 95%, and total continuing R&D commitments to complete the projects were
expected to be approximately $1.0 million. These estimates are subject to
change, given the uncertainties of the development process, and no assurance can
be given that deviations from these estimates will not occur. Additionally,
these projects will require maintenance expenditures when and if they reach a
state of technological and commercial feasibility.

27
<PAGE> 29

The Company believes that it is positioned to complete each of the major
R&D programs acquired from Oncor. However, there is risk associated with the
completion of the projects, and there is no assurance that any project will meet
with either technological or commercial success. In the event the Company is
unable to achieve the expected results, the Company is likely to experience
delays in new product introductions with attendant reductions in revenues and
margins.

Value Assigned to Purchased In-Process R&D

The value assigned to purchased in-process R&D was determined by
estimating the costs to develop Oncor's purchased in-process R&D into
commercially viable products, estimating the resulting net cash flows from the
projects and discontinuing the net cash flows to their present value. The
revenue estimates used to value the in-process R&D were based on estimates of
relevant market sizes and growth factors, expected trends in technology and the
nature and expected timing of new product introductions by the Company and its
competitors.

The rates utilized to discount the net cash flows to their present value
are based on a 30% weighted average cost of capital.

The estimates used by the Company in valuing in-process R&D were based
upon assumptions the company believes to be reasonable but which are inherently
uncertain and unpredictable. The Company's assumptions may be incomplete or
inaccurate, and no assurance can be given that unanticipated events and
circumstances will not occur. Accordingly, actual results may vary from the
projected results.

Acquisition of Biotechnology Tools, Inc.

On October 14, 1998, the Company acquired all of the stock of BTTI for
$6.5 million. The acquisition provided Ventana with competitive products in the
tissue processing and microtome (tissue cutting) market. The BTTI products do
not have a proprietary disposable or consumable element designed to be used with
them. Ventana's objective will be to enhance the market position of these
products as well as to design in a disposable or consumable element.

Acquisition of BioTek Solutions, Inc.

In February 1996, Ventana acquired BioTek for aggregate consideration of
$19.1 million, consisting of cash, promissory notes and the assumption of
liabilities. BioTek, founded in 1990, markets and sells automated diagnostic
systems that perform reliable, high volume batch processing of a single IHC test
on multiple patient biopsies. Ventana acquired BioTek for several strategic
reasons including its installed instrument base and complementary product line.
Historically, BioTek generated lower gross and operating margins than Ventana
due to its employment of a different business strategy, which primarily involved
the use of third parties for key components of its business operations. BioTek's
instruments were produced by third-party manufacturers, which prevented BioTek
from capturing manufacturing margin. BioTek's instruments have an open
configuration, enabling the customer to use reagents purchased from BioTek or
others, which impacted both the price and volume of reagents purchased, by
customers from BioTek. In contrast, patient priority instruments have a closed
configuration requiring the customer to use Ventana's prepackaged detection
chemistries. BioTek also realized lower gross margins on reagents than Ventana
due to its utilization of intermediate materials in the manufacturing process,
which resulted in the capture of fewer value-added steps. BioTek used CMS and
DAKO as third-party distributors in the United States and international markets,
respectively, and supported its United States sales efforts with field sales and
technical support personnel. As a result, BioTek experienced lower gross margins
on United States sales than if it had sold its products directly as well as a
higher level of selling expense than typically incurred in conjunction with
third-party distribution arrangements.

Ventana's strategy regarding BioTek has been to integrate the operations
of BioTek into the Ventana business model, in which manufacturing, sales and
marketing activities are performed by Company employees. The Company completed
in 1997 the conversion of BioTek's reagent manufacturing activities to the
process used by Ventana in which basic raw materials are used and important
value-added steps are performed internally. The Company has manufacturing
agreements with Kollsman for production of the TechMate 500 instrument and with
LJL for production the TechMate 250 instrument. The Company and CMS agreed to
terminate in October 1997 the United States distribution agreement between
BioTek and CMS. The international distribution agreement with DAKO expires in
December 1999.

28
<PAGE> 30

Company Operations

The Company places instruments through direct sales, including
nonrecourse leases, instrument rentals and the Company's qualified reagent
installed base program ("QRIB"). In a QRIB, the Company provides the customer
with the use of an instrument for a period up to six months provided the
customer purchases a minimum of $3,000 in IHC consumables and $2,500 in SS
consumables. At the end of the six-month period, the customer must elect to
purchase, rent or return the system. For QRIB placements, the Company incurs the
cost of manufacturing or procuring instruments and recognizes revenues only at
the time of the instrument is either sold or rented rather than at the time of
instrument placement. The manufacturing cost of instruments placed through QRIBs
or rentals is charged to cost of goods sold by depreciating standard costs over
a period of four years.

From its inception in 1985 through December 31, 1998, Ventana incurred
aggregate net losses of $32.2 million. Although the Company achieved an
operating profit in 1998, the level of future profitability, if any, cannot be
accurately predicted and there can be no assurance that profitability will be
sustained on a quarterly or annual basis, or at all, or that the Company will
not incur operating losses in the future.

The Company's future results of operations may fluctuate significantly
from period to period due to a variety of factors. The initial placement of an
instrument is subject to a longer, less consistent sales cycle than the sale of
reagents which begin and typically are recurring once an instrument is placed.
The Company's operating results are likely to fluctuate substantially from
period to period because instrument sales are likely to remain an important part
of revenues in the near future. The degree of fluctuation will depend on the
timing, level and mix of instruments placed through direct sales and instruments
rented. In addition, average daily reagent use by customers may fluctuate from
period to period, which may contribute to future fluctuations in revenues. Sales
of instruments may also fluctuate from period to period because sales to the
Company's international distributors typically provide such distributors with
several months of instrument inventory, which the distributors will subsequently
seek to place with end-users. The Company's instrument installed base includes
instruments shipped to DAKO and recognized as sales. Furthermore, due both to
the Company's increased sales focus on smaller hospitals and laboratories and
the relatively high reagent sales growth rates in recent fiscal periods, the
rate of growth in reagent sales in future periods is likely to be below that
experienced during the past several fiscal periods. Other factors that may
result in fluctuations in operating results include the timing of new product
announcements and the introduction of new products and new technologies by the
Company and its competitors, market acceptance of the Company's current or new
products, developments with respect to regulatory matters, availability and cost
of raw materials purchased from suppliers, competitive pricing pressures,
increased sales and marketing expenses associated with the implementation of the
Company's market expansion strategies for its instruments and reagent products,
and increased research and development expenditures. Future instrument and
reagent sales could also be adversely affected by the configuration of the
Company's patient priority systems, which require the use of the Company's
detection chemistries, particularly if and to the extent that competitors are
successful in developing and introducing new IHC instruments or if competitors
offer reagent supply arrangements having pricing or other terms more favorable
than those offered by the Company. Such increased competition in reagent supply
could also adversely affect sales of reagents to batch processing instrument
customers since those instruments do not require the use of the Company's
reagents. In connection with future introductions of new products, the Company
may be required to incur charges for inventory obsolescence in connection with
unsold inventory of older generations of products. To date, however, the Company
has not incurred material charges or expenses associated with inventory
obsolescence in connection with new product introductions. In addition, a
significant portion of the Company's expense levels is based on its expectation
of a higher level of revenues in the future and is relatively fixed in nature.
Therefore, if revenue levels are below expectations, operating results in a
given period are likely to be adversely affected.

Total net sales grew from $5.9 million in 1994 to $47.7 million in 1998,
a compound annual growth rate of 68%. Instrument sales grew from $2.6 million in
1994 to $15.7 million in 1998, a compound annual growth rate of 57%. Reagent
sales increased from $3.3 million in 1994 to $32.0 million in 1998, a compound
annual growth rate of 76%. The growth in revenues is primarily attributable to
the growth in instrument placements and the instrument installed base and the
associated corresponding increase in the aggregate recurring reagent revenue
stream.

Gross margin increased from 57% in 1994 to 70% in 1998 as both
instrument and reagent gross margins increased. Gross margin increased due to a
higher level of revenues available to cover fixed costs and to economies of
scale and efficiencies in purchasing and manufacturing activities. Research and
development and selling, general and administrative expenses were maintained at
levels that anticipated a higher level of revenues in the future, which

<PAGE> 31
resulted in operating losses in each year between 1994 and 1996. The
nonrecurring expenses of $1.7 million related to the litigation against BioTek
were the primary reason for the Company experiencing an operating loss in 1997.

RESULTS OF OPERATIONS

Years Ended December 31, 1998, 1997 and 1996

Ventana acquired BioTek on February 26, 1996, BTTI on October 14, 1998
and certain assets of Oncor, Inc. on November 23, 1998.

Net Sales. Presented below is a summary of net sales for each of the
three years ended December 31, 1998, 1997 and 1996.

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------------------------------------------------
1996 1997 1998
----------------- ----------------- -----------------
% OF % OF % OF
$ SALES $ SALES $ SALES
------- ----- ------- ----- ------- -----
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
SALES SUMMARY:
Instruments $ 8,591 36% $ 9,248 29% $15,737 33%
Reagents and other 15,538 64% 22,905 71% 31,967 67%
------- ---- ------- ---- ------- ----
Total net sales $24,129 100% $32,153 100% $47,704 100%
======= ==== ======= ==== ======= ====
</TABLE>

Net sales for the year ended December 31, 1998 increased by 48% to $47.7
million from $32.2 million for the year ended December 31, 1997. Net sales for
the year ended December 31, 1997 increased by 33% to $32.2 million from $24.1
million for the year ended December 31, 1996. The increases in net sales were
attributable to increases in instrument sales as well as increases in reagent
sales. Instrument sales increased over the prior year by 70% in 1998 and 8% in
1997. Reagent sales increased over the prior year by 40% in 1998 and 47% in
1997.

Instrument sales in 1998 increased due to the high demand for NexES IHC
instrument introduced late in 1997, due to sales of the NexES Special Stains
instrument introduced late in 1998, and due to sales of BTTI instruments
acquired late in 1998. Instrument sales in 1997 increased due to a 40% increase
in unit volume, which was partly attributable to the fact that BioTek's TechMate
instruments were sold throughout 1997, but only for 10 months in 1996. However,
this volume increase was partially offset by the relatively low unit prices
received from DAKO.

Reagent and other sales in 1998 increased due to sales of reagents to
new customers from new instruments placed during the year, increased sales to
existing customers, and service revenues from the growing installed base coming
off warranty. The growth in reagent sales was limited by lower royalty revenues,
stemming from fewer instruments shipped to DAKO in 1998 than 1997 on which the
Company receives prepaid royalties. In 1997, reagent and other sales increased
due to the increase in the installed base and higher reagent prices.

The portion of the Company's sales generated by its European segment
increased to 12% in the year ended December 31, 1998 from 10% in the year ended
December 31, 1997, and 8% in the year ended December 31, 1996. The increase in
the proportion of sales generated in Europe in 1997 and 1998 was attributable to
major investments in European infrastructure. The Company has also begun to
build an infrastructure in Japan, but sales in Japan represented less than 2% of
total sales in that country through December 31, 1998.

Gross Margin. Gross profit for the year ended December 31, 1998
increased to $33.2 million from $21.0 million in the year ended December 31,
1997 and $13.5 million in the year ended December 31, 1996. Gross margin was 70%
in 1998 as compared to 65% in 1997 and 56% in 1996. The increase in gross margin
from 1997 to 1998 was primarily due to the shipment of the NexES instrument,
which has a lower manufacturing cost than the ES and due to higher margins on
reagents due to the implementation of aggressive cost reduction programs and the
integration of BioTek reagent manufacturing process into the Ventana model. The
increase in gross margin from 1996 to 1997 was primarily due to the impact of
the lower cost NexES instrument introduced in August 1997 to replace the higher
cost ES and due to economies of scale in reagent costs. BioTek experienced lower
gross margins than Ventana on a stand-alone basis because of BioTek's (i) use of
third-party distributors, (ii) lower value-added

30
<PAGE> 32
reagent manufacturing strategy and (iii) lower reagent volumes and pricing due
to the open configuration of BioTek's instruments. The decline in gross margin
caused by these factors was partially offset by increased economies of scale and
manufacturing efficiencies brought about by the integration of batch processing
and reagent manufacturing into Ventana's Tucson, Arizona manufacturing
operations. Instrument gross margins declined slightly during 1996 as a result
of the addition of the lower gross margin sales of TechMate instruments.

Research and Development. Research and development expense in the year
ended December 31, 1998 increased to $5.1 million from $3.1 million in the year
ended December 31, 1997 and $2.7 million in the year ended December 31, 1996.
Research and development expenses for 1998 related primarily to the development
of new reagents and instruments, including the Special Stains instrument and new
prognostic markers. Research and development expense in 1997 and 1996 related
primarily to the development of new reagents and instruments, including the
NexES instrument, the gen II instrument and development of additional primary
antibodies.

Selling, General and Administrative. Presented below is a summary of the
components of SG&A expense and their respective percentages of net sales during
the years ended December 31, 1998, 1997 and 1996.

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------------------------------------------------------------
1996 1997 1998
---------------------- --------------------- ---------------------
$ % OF SALES $ % OF SALES $ % OF SALES
------- ---------- ------- ---------- ------- ---------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
SG&A SUMMARY:
Sales and
marketing $ 8,387 35% $12,409 39% $18,536 39%
Administration 2,819 11% 4,544 14% 5,269 11%
------- ---- ------- ---- ------- ----
Total SG&A $11,206 46% $16,953 53% $23,805 50%
======= ==== ======= ==== ======= ====
</TABLE>

SG&A expense in the year ended December 31, 1998 increased to $23.8
million from $17.0 million in the year ended December 31, 1997 and $11.2 million
in the year ended December 31, 1996. SG&A expense as a percentage of net sales
was 50% of net sales in 1998, which was a decrease from 53% of net sales in 1997
and an increase from 46% of net sales in 1996. The fluctuation in SG&A expense
from period to period reflects the growth of Ventana's internal sales and
marketing organization to implement its market expansion strategy and a
corresponding increase in infrastructure expenses to support a larger business
base and ongoing clinical practice standardization programs. The growth in sales
and marketing expense is the result of the decision by the Company to service
the market through its own sales and marketing staff, expenses necessary to
support the growth of the Company and in 1996 expenses associated with ongoing
support activities resulting from the BioTek acquisition. The increase in
administrative expense is associated with the Company's regulatory strategy,
costs associated with supporting an expanding business base, particularly in
Europe and Japan, and costs associated with new administrative systems and
functions.

INCOME TAXES

Ventana and BioTek have neither provided for nor paid any ordinary
federal income taxes since their respective inceptions because neither company
generated taxable income in any fiscal year. Ventana was required to make
estimated payments in 1998 for alternative minimum purposes. At December 31,
1998, Ventana had net operating loss carryforwards for federal and state
purposes of approximately $1.5 and $0.4 million, respectively. These federal and
state carryforwards will begin to expire in 1999, if not previously utilized.
The Company also has research and development tax credit carryforwards of
approximately $1.2 million which will begin to expire in 2005, if not previously
utilized. Utilization of Ventana's net operating loss carryforwards will be
subject to limitations due to the "change in ownership" provisions of the
Internal Revenue Code of 1986, as amended (the "Code") as a result of the
Company's prior issuances of equity securities. These carryforwards, therefore,
may expire prior to being fully utilized. Future financings may cause additional
changes in ownership and further limitations on the use of federal net operating
loss carryforwards. Due to the losses incurred by Ventana since inception,
deferred tax assets of approximately $8.8 million at December 31, 1998, related
to these carryforwards, credits and temporary differences, have been fully
reserved in accordance with Statement of Financial Accounting Standards No. 109,
"Accounting for Income Taxes" ("FAS 109"), except for certain alternative
minimum tax credit carryforwards at December 31, 1998 for which management
believes it is more likely than not that such benefits will be realized.

31
<PAGE> 33
QUARTERLY CONSOLIDATED RESULTS OF OPERATIONS

The following table contains summary unaudited quarterly consolidated
statements of operations data for the four quarters ended December 31, 1998 and
the four quarters ended December 31, 1997. Management has prepared the quarterly
consolidated statements of operations data on the same basis as the Consolidated
Statements of Operations contained in this Report on Form 10-K. The Company's
results of operations have varied and may continue to fluctuate significantly
from quarter to quarter. Results of operations in any period should not be
considered indicative of the results to be expected for any future period.

SUMMARY QUARTERLY
CONDENSED CONSOLIDATED FINANCIAL DATA

<TABLE>
<CAPTION>
1998
----------------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
------- ------- ------- -------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Sales:
Instruments ......................... $ 3,595 $ 3,827 3,047 5,268
Reagents and other .................. 6,760 7,755 8,061 9,391
------- ------- ------- -------
Total net sales .................... 10,355 11,582 11,108 14,659
Cost of goods sold ..................... 3,453 3,477 3,303 4,309
------- ------- ------- -------
Gross profit ........................... 6,902 8,105 7,805 10,350
Operating expenses:
Selling, general and
administrative ..................... 4,974 5,547 5,699 7,585
Research and development ............ 1,200 1,391 1,435 1,031
Nonrecurring expenses .................. -- -- -- (1)3,160
Amortization of intangibles ............ 127 127 128 217
------- ------- ------- -------
Income (loss) from operations .......... 601 1,040 543 (1,643)
Other income ........................... 210 262 594 23
------- ------- ------- -------
Net income (loss) ...................... $ 811 $ 1,302 $ 1,137 $(1.620)
======= ======= ======= =======
Net income (loss) per share,
basic .............................. $ .06 $ .10 $ .09 ($ .12)
======= ======= ======= =======
Net income (loss) per share,
diluted ............................ $ .06 $ .09 $ .08 ($ .12)
======= ======= ======= =======
Shares used in computing net
income (loss) per share, basic ......... 13,255 13,298 13,351 13,375
======= ======= ======= =======
Shares used in computing net
income (loss) per share, diluted ...... 14,557 14,847 14,742 13,375
======= ======= ======= =======
</TABLE>

32
<PAGE> 34

<TABLE>
<CAPTION>
1997
--------------------------------------------------
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
------- -------- -------- -------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Sales:
Instruments ................................ $ 1,971 $ 1,919 2,142 3,216
Reagents and other ......................... 4,987 5,534 5,872 6,512
------- -------- -------- -------
Total net sales ........................... 6,958 7,453 8,014 9,728
Cost of goods sold ............................ 2,701 2,780 2,511 3,146
------- -------- -------- -------
Gross profit .................................. 4,257 4,673 5,503 6,582
Operating expenses:
Selling, general and administrative ........ 3,378 3,630 4,555 5,390
Research and development ................... 729 714 702 905
Nonrecurring expenses ......................... -- (2)1,656 -- --
Amortization of intangibles ................... 127 127 128 127
------- -------- -------- -------
Income (loss) from operations ................. 23 (1,454) 118 160
Interest income (expense) ..................... 186 76 (5) 524
Net income (loss) ............................. $ 209 $ (1,378) $ 113 $ 684
======= ======== ======== =======
Net income (loss) per share
Basic and diluted ......................... $ .02 $ (.11) $ .01 $ .05
======= ======== ======== =======
Shares used in computing net income (loss)
per share .................................... 12,924 12,924 13,989 14,176
======= ======== ======== =======
</TABLE>

(1) The non-recurring expenses in the fourth quarter of 1998 related to the
write-off of in-process research and development costs associated with the
acquisition of certain assets of Oncor ($2,900) and the costs of
terminating a U.S.-based distributor ($260). The in-process research and
development write-off is discussed more fully in Item 7 on page 27 and 28.
Regarding the distributor costs, the Company agreed to buy back certain
products from the distributor at the original prices paid by the
distributor and consequently accrued the difference between those prices
and the Company's manufacturing cost for those products. The Company has
decided to distribute all its products in the U.S. through its direct
sales force.

(2) The $1,656 non-recurring expenses in the second quarter of 1997 related to
the award in the BioGenex patent infringement lawsuit, including
associated legal expenses. This is more fully discussed in Item 3 on page
23.

LIQUIDITY AND CAPITAL RESOURCES

Since inception, the Company's expenses have significantly exceeded its
revenues, resulting in accumulated losses of $32.2 million as of December 31,
1998. The Company has funded its operations primarily through the private
placement of approximately $31.6 million in equity and debt securities, its July
1996 initial public offering which resulted in net proceeds to the Company of
$17.0 million and its February 1997 follow-on offering which resulted in net
proceeds to the Company of $26.1 million. As of December 31, 1998 the Company's
principal source of liquidity consisted of cash and cash equivalents of $2.4
million and borrowing capacity under its $5.0 million bank revolving line of
credit. As of December 31, 1998, none of the line of credit had been utilized.
Borrowings under the Company's bank credit facility are secured by a pledge of
substantially all of the Company's assets and bear interest at the bank's prime
rate. The Company recently increased its revolving line of credit to $10
million.

The Company's liquidity was greatly impacted in 1998 by three events:
(1) the decision to purchase for cash 100% of the common stock of BTTI, (2) the
decision to purchase for cash certain assets of Oncor, Inc., and (3) the
decision to repurchase 40,000 shares of the Company's own common stock. All
transactions occurred in the fourth quarter and together reduced available cash
by almost $14 million ($8 million for BTTI, $5 million for certain assets of
Oncor, and $0.6 million for the stock repurchase). Expenditures for BTTI and the
Oncor assets included the impact of planned efficiency moves such as reducing
accounts payable, purchasing additional inventory and the partial integration of
operations. As a consequence of these actions, the Company expects cash and
interest income to remain at low levels for the foreseeable future.

33
<PAGE> 35

During the year ended December 31, 1998, the Company used for operations
and investing activities approximately $18.2 million in cash versus $4.5 million
for the year ended December 31, 1997. During the second half of 1998, a
deterioration in accounts receivable collections was experienced due to pricing
errors on invoices, extension of payment terms and insufficient collection
follow-up activities. The Company has focused on improving the accuracy of
pricing, stronger controls on extension of terms and added collection personnel,
which is expected to result in an improvement in the collection trend.
Significant financial commitments over the next 18 months include implementing a
major upgrade of the Company's management information system ("MIS") and
contracting for a new facility. The MIS upgrade will cost between $1.5 million
and $2.0 million and is expected to be completed in 1999. About 50% of this cost
was spent in 1998. The new facility, for which construction is anticipated to
commence in 1999, will be a "build-to-suit" facility financed by the landlord.
The Company's commitment will consist of a long-term lease with costs per square
foot comparable to existing Company facilities. The building design will allow
for reasonable expansion opportunities over the lease term. Overall facilities
costs are expected to increase over time in relation to the Company's growth
rate. The new facility should be at least partially occupied by Company
personnel by early 2001.

The Company believes that cash generated from product sales and
available borrowing capacity under bank credit facilities will be sufficient to
satisfy its working capital requirements for the next 12 months. The Company's
future capital requirements will depend on many factors, including the extent to
which the Company's products gain market acceptance, the mix of instruments
placed through direct sales, QRIBs or Rentals, progress of the Company's product
development programs, competing technological and market developments, expansion
of the Company's sales and marketing activities, the cost of manufacturing scale
up activities, possible acquisitions of complementary businesses, products or
technologies, the extent and duration of operating losses and the timing of
regulatory approvals. The Company may be required to raise additional capital in
the future through the issuance of either debt instruments or equity securities,
or both. There is no assurance that such capital will be available to the extent
required or on terms acceptable to the Company, or at all.

FOREIGN EXCHANGE RISK

The Company does not currently hedge against foreign currency
fluctuations, because it does not believe that it runs a serious risk of
experiencing permanent impairment to any material assets denominated in foreign
currency, but intends to re-evaluate this situation from time to time. To the
extent local currency revenues and expenses in the Company's foreign
subsidiaries are translated into U.S. dollars at differing rates over time, the
Company may experience fluctuations in its operating results. In addition, to
the extent that the Company's European subsidiaries have receivables and
liabilities in non-local currencies, unrealized gains and losses may be recorded
in other income (expense) as a result of currency rate fluctuations. The Company
conducts a relatively small but growing portion of its business in the following
currencies: (1) the French franc, (2) the Japanese yen, and (3) the Italian
lira. The Company reported as other income (expense) a foreign exchange gain of
$.3 million in 1998 and a loss of $.3 million in 1997. There were no material
foreign exchange gains or losses in any previous year.

IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS

In March 1998, the AICPA issued SOP 98-1, Accounting for the Costs of Computer
Software Developed for or Obtained for Internal Use. The Company will adopt the
SOP on January 1, 1999. The SOP requires the capitalization of certain costs
incurred after the date of adoption in connection with the developing or
obtaining software for internal use. As the Company already has a policy of
capitalizing internal use software, the Company does not believe that the
adoption of this SOP will have a material effect on the Company's consolidated
results of operations or financial position.

READINESS FOR THE YEAR 2000

The Company is engaged in a company-wide project to prepare its business
for the change in date from the year 1999 to 2000. The Company has assembled a
Year 2000 project team consisting of Company employees and third-party
consultants. The goal of the Year 2000 project is to assure that there are no
major interruptions in the Company's business operations relating to the
transition to the year 2000. The scope of the Company's Year 2000 project
includes (i) identifying and taking appropriate corrective action to remedy the
Company's software, hardware and embedded technology, (ii) working with the
payroll service, with which the Company communicates, electronically, to help
protect such activity from being adversely affected by the Year 2000, and (iii)
contacting key

34
<PAGE> 36
vendors and service providers and requesting assurances that such third parties
will be Year 2000 compliant. The status of the Year 2000 project is reported
regularly to senior management and the Board of Directors.

The Year 2000 project team has implemented a compliance process to
address Year 2000 issues in the Company's software and hardware systems and
embedded technology consisting of the following nine steps: (1) inventory, (2)
risk assessment, (3) prioritization, (4) impact analysis, (5) remediation, (6)
testing, (7) certification, (8) deployment, and (9) approval. The Company's
critical systems have been the project team's top priority. The Company's
critical systems include those systems which are the most essential to the
Company to continue its operations without interruption. The Company believes it
has completed its compliance process beyond the deployment and testing phases
for approximately 90 percent of its critical software and hardware systems, with
approximately 80 percent of its critical software and hardware systems having
been tested and 20 percent currently being tested. With regard to embedded
technology, the Company has completed the remediation and testing phases for 60
percent of its facilities. The business software and hardware of recently
acquired companies and assets is not compliant and will be replaced by the
implementation of the new Oracle ERP System. The Company's target for completing
its compliance process for all of its critical systems is mid 1999. The
Company's target for completing its compliance process for its non-critical
systems is the end of 1999.

The Company is directly working with certain key third parties to
remediate and test affected systems where practicable. The Company sent surveys
to key vendors and service providers requesting information regarding the status
of their Year 2000 readiness. The Company is also in the process of reviewing
the public Year 2000 disclosures of key customers. Based upon this information,
the Company is in the process of identifying potential critical Year 2000 issues
involving key third parties, if any, and either resolving those issues or
developing contingency plans to the extent practicable.

All costs and expenses incurred to address the Year 2000 issue are
charged against income on a current basis. The total cost of the project is
expected to be approximately $30,000. These costs include costs of internal
employees and third-party consultants involved in the project and the costs of
software and hardware. The Company does not expect these costs and expenses to
have a material adverse effect on the Company's financial condition.

While the Company continues to focus on solutions for Year 2000 issues,
and expects to complete its Year 2000 project in a timely manner, the Company is
in the process of identifying potential major business interruptions that could
reasonably likely result from Year 2000 issues and will develop contingency
plans designed to address such potential interruptions. The Company may also
develop contingency plans designed to generally help protect the Company from
unanticipated Year 2000 business interruptions. Contingency plans are
anticipated to include, for example, the identification of alternate suppliers
or service providers, increases in safety levels of raw material and finished
goods inventories, and the development of alternate procedures. The Company's
contingency plans will be developed and modified over time as it receives better
information regarding the Year 2000 status of its systems and embedded
technology and third party readiness.

The most reasonably likely worst case scenario which could result from
the failure of the Company or its customers, vendors or other key third parties
to adequately address Year 2000 issues would include a temporary interruption or
curtailment in the Company's manufacturing or distribution operations at one or
more of its facilities. Such failures could also cause a delay or curtailment in
the processing of orders and invoices and the collection of revenues, as well as
the inability to maintain accurate accounting records, and lead to increased
costs and loss of sales. If these failures would occur, depending upon their
duration and severity, they could have a material adverse effect on the
Company's business, results of operations and financial condition.

Management's estimates regarding expected completion dates and costs
involved in the Company's Year 2000 project are based upon various assumptions
regarding future events, including the availability of resources, the success of
third parties in addressing their Year 2000 issues, and other factors. While
management believes the Company is addressing the Year 2000 issue, there is no
guarantee that these estimated completion dates and costs will be achieved. In
the event that the estimated completion dates and costs differ materially from
the actual completion dates and costs, such could have a materially adverse
effect on the Company's financial condition and results of operations. In
addition, the Company cannot reasonably estimate the impact of Year 2000 on the
Company if key third parties, including financial institutions, suppliers,
customers, service providers, public utilities and governments, are unsuccessful
in completing their Year 2000 efforts.

35
<PAGE> 37

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

The Company's interest rate risk is very limited, as it has only a
minimal amount of fixed-rate (7%) long-term debt. Future cash outflows relating
to the Company's long-term debt follow ($000):

Although the Company has foreign currency risk, to date the Company has not
entered into any foreign currency contracts to hedge such exposures. Additional
discussion applicable to this matter is contained at page 34.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

The Independent Auditors' Report, Consolidated Financial Statements and
Notes to Consolidated Financial Statements begin on page F-1.

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE

Not Applicable.

36
<PAGE> 38

PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The following table sets forth certain information regarding the
directors and executive officers of the Company as of March 31, 1999:

<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<S> <C> <C>
Jack W. Schuler (1) (3) (III) 58 Chairman of the Board of Directors
John Patience (2) (III) 51 Vice Chairman of the Board of Directors
Henry T. Pietraszek (I) 52 President, Chief Executive Officer and Director
Christopher M. Gleeson 49 Executive Vice President and Chief Operating Officer
Michael K. Cusack 41 Vice President, International
Kendall B. Hendrick 39 Vice President, Engineering
Carl B. Kunkleman 39 Vice President, Sales
Johnny D. Powers, Ph.D. 37 Vice President, Operations and GM Molecular Diagnostics
Bernard O. C. Questier 45 Vice President, European Operations
Russell Richerson, Ph.D. 47 Vice President, Research & Development
Pierre H. Sice 55 Vice President, Chief Financial & Administrative
Officer and Secretary
Tamaki Tateiwa 59 Vice President, Japan Operations
Stephen A. Tillson, Ph.D. 58 Vice President, Scientific Affairs and Quality
Assurance
Rex J. Bates (2) (II) 75 Director
Edward M. Giles (1) (3) (II) 63 Director
Thomas M. Grogan, M.D. (2) (III) 53 Director
James R. Weersing (1)(2)(3)(I) 59 Director
</TABLE>

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

(1) Member of the Compensation Committee.

(2) Member of the Audit Committee.

(3) Member of the Nominating Committee

(I) Class I director.

(II) Class II director.

(III) Class III director.

MR. SCHULER has served as a director of Ventana since April 1991 and as
Chairman of the Board of Directors since November 1995. Mr. Schuler has been
Chairman of the Board of Directors of Stericycle, Inc., a specialized medical
waste management company, since March 1990. Mr. Schuler is also a partner in
Crabtree Partners, a Chicago based venture capital firm. Prior to joining
Stericycle, Mr. Schuler held various executive positions at Abbott from December
1972 through August 1989, serving most recently as President and Chief Operating
Officer. He is currently a director of Medtronic, Inc., Somatogen, Inc. and
Chiron Corporation. Mr. Schuler received a B.S. in Mechanical Engineering from
Tufts University and an M.B.A. from Stanford University.

MR. PATIENCE has served as a director of Ventana since July 1989 and as
Vice Chairman since January 1999. Mr. Patience was a co-founder and served as a
General Partner of Marquette Venture Partners, a venture capital investment
firm, from January 1988 until March 1995. Since April 1995, Mr. Patience has
been a partner in Crabtree Partners, a Chicago-based venture capital firm. Mr.
Patience was previously a partner in the consulting firm of McKinsey & Co.,
specializing in health care. He is currently a director of TRO Learning, Inc.
and Stericycle, Inc. Mr. Patience received a B.A. in Liberal Arts and an L.L.B.
from the University of Sydney, Australia and an M.B.A. from the University of
Pennsylvania Wharton School of Business.

37
<PAGE> 39

MR. PIETRASZEK became President, Chief Executive Officer and a director
in March 1997. Prior to joining the Company, Mr. Pietraszek served as President
and Chief Executive Officer of Biostar, Inc., a medical diagnostic company. From
1975 to 1994, Mr. Pietraszek held a variety of executive positions at Abbott
Laboratories and Takeda Chemical Industries. From 1982 to 1986, he served as
President of Dainabot K.K., a joint venture between Abbott and Dainippon
Pharmaceutical Company of Japan and from 1980 to 1982 he was Vice President of
Field Service Operations for Abbott's Diagnostic Division. He is a director of
Specialty Laboratories. Mr. Pietraszek received a B.S. in Marketing from Gannon
University.

MR. GLEESON joined Ventana as Executive Vice President and Chief
Operating Officer in March 1999. Prior to joining the Company, Mr. Gleeson
was Senior Vice President of Bayer Diagnostics and General Manager of its
Critical Care Division. From 1993 to 1996, he served as General Manager of the
U. S. Commercial Operations for Chiron Diagnostics, and prior to that, the
founder, owner and Managing Director of Australian Diagnostics Corporation, a
leading diagnostics distributor in Australia. He is a director of Pharmanetics,
Inc. Mr. Gleeson attended Monash University in Melbourne, Australia.

MR. CUSACK joined Ventana as Vice President of Marketing in September
1994 and assumed responsibility as Vice President, International in June 1996.
Mr. Cusack has also served as President Directeur General of Ventana Medical
Systems, S.A., a wholly owned subsidiary of Ventana, since September 1995. From
November 1992 until joining Ventana, Mr. Cusack acted as General Manager, Europe
and Mideast for CYTYC S.A.R.L., a medical diagnostics company with operations in
the United States and abroad. Prior to CYTYC, Mr. Cusack held various marketing
and managerial positions with Abbott's Diagnostics Division. Mr. Cusack received
a B.S. from the University of Delaware and an M.B.A. from Temple University.

MR. HENDRICK joined Ventana as Vice President of Engineering in August
1998. From April 1990 to August 1998, Mr. Hendrick held various product
development management positions with Abbott Laboratories, Diagnostics Division,
most recently as the Director of the Architect(TM) Research & Development
Program. Mr. Hendrick holds a B.S. in Mechanical Engineering from Virginia
Polytechnic Institute.

MR. KUNKLEMAN joined Ventana as Vice President of Sales in June 1997.
From April 1990 to June 1997 Mr. Kunkleman held various sales and marketing
positions at TAP Pharmaceuticals, a joint venture between Abbott Laboratories
and Takeda Chemical. Mr. Kunkleman received a B.S. in Marketing from the
University of Maryland.

DR. POWERS joined Ventana as Vice President of Operations in November
1996. From June 1990 until joining Ventana, Dr. Powers held various management
positions with Organon Teknika Corporation, a medical diagnostic company,
serving most recently as Director of Manufacturing Technologies. Dr. Powers
holds a Ph.D. in Chemical Engineering from North Carolina State University, an
M.S. in Chemical Engineering from Clemson University, an M.B.A. from Duke
University and a B.A. in Chemistry from Wake Forest University.

MR. QUESTIER has served as Vice President of European Operations of
Ventana since February 1996. From October 1990 until joining Ventana in October
1995, Mr. Questier held a number of management positions in E.I. DuPont de
Nemours, most recently as Business Manager for NEN Life Science Products in
Europe. Mr. Questier received a degree in Chemical Engineering from the
Technical Institute in Oostende, Belgium.

DR. RICHERSON joined Ventana as Vice President, Research and Development
in June 1997. From 1986 until joining Ventana, Dr. Richerson held various
research and management positions with Abbott Laboratories' Diagnostics
Division, most recently as the Director of the AxSym Product Development and as
the Director of Probe Development. Dr. Richerson holds a Ph.D. in Biochemistry
from the University of Texas at Austin and a B.S. in Medical Technology from
Louisiana State University.

MR. SICE joined Ventana as Vice President, Chief Financial Officer and
Chief Administrative Officer in March 1997. Mr. Sice was Executive Vice
President and Chief Financial Officer from 1994 until 1997, and Vice President
and Chief Financial Officer from 1988 until 1994 at SensorMedics Corporation, a
medical device company. From 1986 until 1988 Mr. Sice served as Senior Vice
President and Chief Financial Officer of Datalin

38
<PAGE> 40
Service Company. From 1978 until 1986 Mr. Sice was employed at MAI Basic Four
Inc. in various financial management capacities. Mr. Sice received a B.S. in
Mechanical Engineering from Illinois Institute of Technology and a M.B.A. from
the University of Michigan.

MR. TATEIWA has served as President of Ventana's wholly owned subsidiary
in Japan. Ventana Medical Systems Japan K.K. in Tokyo, since August 1997. From
1977 to 1997, Mr. Tateiwa held various management positions with Dainabot K.K.
Mr. Tateiwa received a B.S. in Engineering from the University of
Electro-Communications in Japan.

DR. TILLSON has served as Vice President of Scientific Affairs and
Quality Assurance since August 1995. From the time of his joining Ventana in May
1992 until July 1995, Dr. Tillson served as Director of Scientific Affairs and
Quality Assurance. From January 1990 to May 1992, Dr. Tillson served as a
principal of Ticon Company Consulting. He has 25 years experience in the
diagnostic and pharmaceutical industry. Dr. Tillson holds a Ph.D. from Purdue
University and received a B.S. from California State Polytechnic University and
an M.B.A. from St. Mary's College of California.

MR. BATES has served as a director of Ventana since April of 1996. From
August 1991 to May 1995, Mr. Bates served on the Board of Directors of Twentieth
Century Industries and was a member of its compensation committee. Prior to
Twentieth Century Industries, Mr. Bates served as the Vice-Chairman of the Board
of Directors of the State Farm Mutual Automobile Insurance Company. Mr. Bates
also served as State Farm's Chief Investment Officer. In March of 1991, Mr.
Bates retired from State Farm. Prior to Mr. Bates' employment with State Farm,
he was a partner in the investment firm of Stein, Roe & Farnham in Chicago. Mr.
Bates received a B.S. and an M.S. from the University of Chicago.

MR. GILES has served as a director of Ventana since September 1992. Mr.
Giles has served as Chairman of The Vertical Group, Inc., a venture capital
investment firm, since January 1989. Mr. Giles was previously President of F.
Eberstadt & Co., Inc., a securities firm, and Vice Chairman of Peter B. Cannell
& Co., Inc., an investment management firm. He is currently a director of
McWhorter Technologies, Inc. and Synthetech, Inc. Mr. Giles received a B.S.Ch.E.
in Chemical Engineering from Princeton University and an M.S. in Industrial
Management from the Massachusetts Institute of Technology.

DR. GROGAN is a founder, a director and Chairman Emeritus of Ventana. He
has served as a director since the founding of the Company in June 1985 and as
Chairman of the Board of Ventana from June 1985 to November 1995. He is
currently a professor of pathology at the University of Arizona, College of
Medicine, where he has taught since 1979. He received a B.A. in Biology from the
University of Virginia and an M.D. from George Washington School of Medicine.
Dr. Grogan completed a post-doctorate fellowship at Stanford University.

MR. WEERSING has served as a director of Ventana since October 1994.
Since 1984, Mr. Weersing has been a Managing Director of MBW Venture Partners, a
venture capital investment firm. Mr. Weersing has also served as President of
JRW Technology, Inc., a consulting firm. Mr. Weersing served as a director of
Circadian, Inc., an asthma dosage management company, from December 1993 until
January 1996. Circadian filed a petition under Chapter 7 of the federal
bankruptcy laws in January 1996. Mr. Weersing received an B.S.M.E. and an M.B.A.
from Stanford University.

39
<PAGE> 41

Item 11. EXECUTIVE COMPENSATION

The information required by this item is incorporated by reference to
the information under caption "Executive Compensation" in the Proxy
Statement.

Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

The information required by this item is incorporated by reference to
the information under caption "Record Date and Stock Ownership" in the
Proxy Statement.

Item 13. CERTAIN TRANSACTIONS

The information required by this item is incorporated by reference to
the information under the caption "Certain Transactions" in the Proxy
Statement.

40
<PAGE> 42
PART IV

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 10K

1. FINANCIAL STATEMENTS

The following Financial Statements of Ventana Medical Systems,
Inc. and Report of Ernst & Young LLP, Independent Auditors, are
in this Form 10-K.

<TABLE>
<CAPTION>
PAGE
----
<S> <C>
VENTANA MEDICAL SYSTEMS, INC.
Report of Ernst & Young LLP, Independent Auditors F-1
Audited Consolidated Financial Statements
Consolidated Balance Sheets as of December 31, 1997 and 1998 F-2
Consolidated Statements of Operations for the years ended December 31, 1996, 1997
and 1998 F-3
Consolidated Statements of Convertible Redeemable Preferred Stock and Stockholders'
Equity (Deficit) for the years ended December 31, 1996, 1997 and 1998 F-4
Consolidated Statements of Cash Flows for the years ended
December 31, 1996, 1997 and 1998 F-5
Notes to Consolidated Financial Statements F-6
</TABLE>

2. FINANCIAL STATEMENT SCHEDULES FOR THE YEARS ENDED DECEMBER 31,
1998, 1997 AND 1996:

Schedule II - Valuation and Qualifying Accounts has been
provided on page 44. All other schedules are omitted, because the
information required to be set forth therein is not applicable or is
shown in the Financial Statements or notes thereto.

3. EXHIBITS

<TABLE>
<CAPTION>
Exhibit
Number Exhibits
------ --------
<S> <C>
3.1(i)(b)(1) Restated Certificate of Incorporation of Registrant.
3.1(ii)(b)(1) Bylaws of Registrant.
4.1(1) Specimen Common Stock Certificate.
10.1(a)(1)+ DAKO Distribution Agreement dated September 27, 1994.
10.1(b)(1)+ First Amendment to DAKO Distribution Agreement dated March 24, 1995.
10.1(c)(1)+ Further amendments to First Amendment to DAKO Distribution Agreement dated March 24, 1995.
10.1(d)(2)++ Second amendment to DAKO Distribution Agreement dated September 25, 1996.
10.1(e)(3)++ Amended and Restated DAKO Distribution Agreement dated May 18, 1998.
10.2(a)(1) Kollsman Secured Promissory Note dated December 4, 1994.
10.2(b)(1) Development Secured Promissory Note dated March 24, 1995.
10.3(1)+ Curtin Matheson Scientific, Inc. Distribution Agreement dated January 18, 1993.
10.4(a)(1) Restricted Stock Purchase Agreement with Jack W. Schuler dated April 19, 1996 -- Tranche 1.
10.4(b)(1) Restricted Stock Purchase Agreement with Jack W. Schuler dated April 19, 1996 -- Tranche 2.
10.4(c)(1) Restricted Stock Purchase Agreement with Jack W. Schuler dated April 19, 1996 Tranche 3.
10.4(d) Services Extension Agreement with Jack W. Schuler dated January 26, 1998.
10.5(a)(1) Restricted Stock Purchase Agreement with John Patience dated April 19, 1996 Tranche 1.
10.5(b)(1) Restricted Stock Purchase Agreement with John Patience dated April 19, 1996 Tranche 2.
10.5(c) Services Extension Agreement with John Patience dated January 26, 1998.
10.6(1) Form of Indemnification Agreement for directors and officers.
10.7(a)(1) 1988 Stock Option Plan and forms of agreements thereunder.
10.7(b)(1) 1996 Stock Option Plan and forms of agreements thereunder.
10.8(a)(1) 1991 Employee Stock Purchase Plan.
10.8(b)(1) 1996 Employee Stock Purchase Plan.
10.8(c)(1) 1996 Directors Option Plan.
10.9(1) Questier Employment Agreement dated October 20, 1995.
10.10(1) Restated Investors Rights Agreement dated February 20, 1996.
</TABLE>

41
<PAGE> 43

<TABLE>
<S> <C>
10.11(1) Sublease of Premises between the Registrant and Jerry R. Jones &Associates, Inc., dated
February 29, 1996, with attached Master Lease, dated October 26, 1988.
10.12(1) Master Lease Purchase Agreement between the Registrant and Copelco Leasing Corporation dated
April 13, 1994.
10.13(a)(1) Agreement and Plan of Reorganization dated January 19, 1996.
10.13(b)(1) Agreement and Plan of Merger dated February 26, 1996.
10.13(c)(1) Escrow Agreement dated February 26, 1996.
10.14(a)(1) Form of Stock Purchase Warrant to Purchase shares of Series D Preferred Stock.
10.14(b)(1) Form of Preferred Stock Purchase Warrant.
10.14(c)(1) MBW and Marquette Warrants dated August 21, 1992.
10.14(d)(1) Schuler Warrant dated September 30, 1992.
10.15(a)(1) Form of Convertible Unsecured Promissory Note.
10.15(b)(1) Form of Convertible Unsecured Promissory Note.
10.17(1)+ NovoCastra Laboratories Ltd. Distribution Agreement dated August 19, 1992
10.18(1)+ LJL BioSystems, Inc. TechMate 250 Production Agreement dated May 1, 1996.
10.19(a)(1) Silicon Valley Bank Loan and Security Agreement dated February 20, 1995.
10.19(b)(1) Amendment to Silicon Valley Bank Loan and Security Agreement dated March 28, 1996.
10.19(c) Amendment to Silicon Valley Bank Loan and Security Agreement dated August 15, 1997.
10.20(a) Bank of America Business Loan Agreement dated June 9, 1998.
10.20(b) Amendment to Bank of America Business Loan Agreement dated October 1, 1998.
10.20(c) Amendment to Bank of America Business Loan Agreement dated March 17, 1999.
10.21(4) Acquisition of Biotechnology Tools, Inc. dated October 14, 1998.
10.21(5) Amendment No. 1 to Acquisition of Biotechnology Tools, Inc. dated October 14, 1998.
13.1(3) The Registrant's Quarterly Report on Form 10-Q for the period ended September 30, 1998.
21.1(1) Subsidiaries of the Registrant.
23.1 Consent of Ernst & Young LLP, Independent Auditors.
27.1 Financial Data Schedule.
</TABLE>

(1) Incorporated by reference to the like-numbered exhibit to Registrant's
Registration Statement on Form S-1 (Commission File No. 333-4461),
declared effective by the Commission July 26, 1996.

(2) Incorporated by reference to the like-numbered exhibit to Registrant's
Registration Statement on Form S-1 (Commission File No. 333-18471),
declared effective by the Commission February 11, 1997.

(3) Incorporated by reference to Form 10Q filed August 14, 1998 (Commission
File No. 000-20931).

(4) Incorporated by reference to Form 8K filed October 29, 1998 (Commission
File No. 2-20931).

(5) Incorporated by reference to Form 8K-A filed December 28, 1998 (Commission
File No. 2-20931).

+ Confidential Treatment has been granted for certain portions of this
Exhibit.

++ Confidential Treatment has been requested for certain portions of this
Exhibit.

42
<PAGE> 44
SIGNATURES

Pursuant to the requirements of the Securities Act, the registrant
certifies that it has reasonable grounds to believe that it meets all of the
requirements for filing on Form 10-K and has duly caused this registration
statement to be signed on its behalf by the undersigned, thereunto duly
authorized, in the City of Tucson, State of Arizona, on this 30th day of March,
1998.

VENTANA MEDICAL SYSTEMS, INC.

By: /s/ Pierre H. Sice
-----------------------------------
Pierre H. Sice
Vice President and
Chief Financial Officer

POWER OF ATTORNEY

KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below hereby constitutes and appoints Pierre H. Sice and Christopher D.
Mitchell, and each of them acting individually, as his attorney-in-fact, each
with full power of substitution, for him in any and all capacities, to sign any
and all amendments to this Annual Report on 10-K, and to file the same, with
exhibits thereto and other documents in connection therewith, with the
Securities and Exchange Commission, hereby ratifying and confirming all that
said attorney-in-fact, or his substitutes, may do or cause to be done by virtue
hereof.

Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed by the following persons in the
capacities indicated:

<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----
<S> <C> <C>
/s/ Henry T. Pietraszek President and March 30, 1999
- --------------------------- Chief ExecutiveOfficer
(Henry T. Pietraszek) (Principal Executive Officer)

/s/ Pierre H. Sice Vice President and March 30, 1999
- --------------------------- Chief Financial Officer
(Pierre H. Sice) (Principal Financial and Accounting Officer)

/s/ Edward M. Giles Director March 30, 1999
- ---------------------------
(Edward M. Giles)

/s/ Thomas M. Grogan Director March 30, 1999
- ---------------------------
(Thomas M. Grogan)

/s/ John Patience Director March 30, 1999
- ---------------------------
(John Patience)

/s/ Jack W. Schuler Director March 30, 1999
- ---------------------------
(Jack W. Schuler)

/s/ James R. Weersing Director March 30, 1999
- ---------------------------
(James R. Weersing)

/s/ Rex J. Bates Director March 30, 1999
- ---------------------------
(Rex J. Bates)
</TABLE>

43
<PAGE> 45
SCHEDULE II

VALUATION AND QUALIFYING ACCOUNTS

DECEMBER 31, 1998

(IN THOUSANDS)

<TABLE>
<CAPTION>
BALANCE AT ADD. CHARGES ADD. CHARGES
BEGINNING OF TO COSTS AND TO OTHER BALANCE AT
DESCRIPTION PERIOD EXPENSES ACCOUNTS DEDUCTIONS END OF PERIOD
- ----------- ------------ ------------ ------------- ---------- -------------
<S> <C> <C> <C> <C> <C>
Year Ended December 31, 1998
Deducted from asset accounts:
Allowance for doubtful accounts $ 300 $ 392 $ 41 $ 39 $ 694
===== ===== ===== ===== =====
(1) (3)
Year Ended December 31, 1997
Deducted from asset accounts:
Allowance for doubtful accounts $ 47 $ 251 $ 11 $ 9 $ 300
===== ===== ===== ===== =====
(1) (3)
Year Ended December 31, 1996
Deducted from asset accounts:
Allowance for doubtful accounts $ 31 $ 14 $ 17 $ 15 $ 47
===== ===== ===== ===== =====
(2) (3)
</TABLE>

(1) Charged to revenue

(2) Opening balance of acquired company

(3) Uncollectible accounts written off, net of recoveries

44
<PAGE> 46
EXHIBIT INDEX

<TABLE>
<CAPTION>
Exhibit No. Description
- ----------- -----------
<S> <C>
10.4(d) Services Extension Agreement with Jack W. Schuler dated January
26, 1998.

10.5(c) Services Extension Agreement with John Patience dated January 26,
1998.

10.20(a) Bank of America Business Loan Agreement dated June 9, 1998.

10.20(b) Amendment to Bank of America Business Loan Agreement dated October
1, 1998.

10.20(c) Amendment to Bank of America Business Loan Agreement dated March
17, 1999.

23.1 Consent of Ernst & Young LLP, Independent Auditors

27.1 Financial Data Schedule
</TABLE>

45
<PAGE> 47

Report of Ernst & Young LLP, Independent Auditors

Board of Directors
Ventana Medical Systems, Inc.

We have audited the accompanying consolidated balance sheets of Ventana Medical
Systems, Inc., at December 31, 1998 and 1997, and the related consolidated
statements of operations, convertible redeemable preferred stock and
stockholders' equity (deficit), and cash flows for each of the three years in
the period ended December 31, 1998. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.

We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Ventana
Medical Systems, Inc., at December 31, 1998 and 1997, and the consolidated
results of their operations and their cash flows for each of the three years in
the period ended December 31, 1998, in conformity with generally accepted
accounting principles.

Tucson, Arizona
February 2, 1999

F-1
<PAGE> 48

Ventana Medical Systems, Inc.

Consolidated Balance Sheets
(In thousands, except share data)

<TABLE>
<CAPTION>
DECEMBER 31,
----------------------
1998 1997
-------- --------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 2,424 $ 18,902
Trade accounts receivable, net of allowance for
doubtful accounts of $694 and $300, respectively 16,531 8,047
Inventories 11,009 5,134
Prepaid expenses 645 846
Other current assets 1,142 1,263
-------- --------
Total current assets 31,751 34,192
Property and equipment, net 9,937 6,105
Intangibles, net 14,592 8,055
-------- --------
Total assets $ 56,280 $ 48,352
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 3,536 $ 2,584
Other current liabilities 5,053 2,894
-------- --------
Total current liabilities 8,589 5,478
Long-term debt 1,907 471
Commitments and Contingencies
Stockholders' equity:
Common stock - $.001 par value; 50,000,000 shares
authorized, 13,421,819 and 13,247,226 shares
issued and outstanding at December 31, 1998 and
1997, respectively 13 13
Additional paid-in-capital 78,716 76,313
Accumulated deficit (32,152) (33,782)
Accumulated other comprehensive income (193) (141)
Treasury stock - 40,000 shares in 1998, at cost (600) --
-------- --------
Total stockholders' equity 45,784 42,403
-------- --------
Total liabilities and stockholders' equity $ 56,280 $ 48,352
======== ========
</TABLE>

See accompanying notes.

F-2
<PAGE> 49

Ventana Medical Systems, Inc.

Consolidated Statements of Operations
(In thousands, except per share data)

<TABLE>
<CAPTION>
YEARS ENDED
DECEMBER 31,
----------------------------------
1998 1997 1996
------- -------- --------
<S> <C> <C> <C>
Sales:
Instruments $15,737 $ 9,248 $ 8,591
Reagents and other 31,967 22,905 15,538
------- -------- --------
47,704 32,153 24,129

Cost of goods sold 14,542 11,138 10,632
------- -------- --------
Gross profit 33,162 21,015 13,497

Operating expenses:
Selling, general and administrative 23,805 16,953 11,206
Research and development 5,057 3,050 2,749
Non-recurring expenses 3,160 1,656 10,262
Amortization of acquisition costs 599 509 424
------- -------- --------
Income (loss) from operations 541 (1,153) (11,144)
Interest and other income (expense) 1,089 781 (137)
------- -------- --------
Income (loss) before income taxes 1,630 (372) (11,281)
Provision for income taxes -- -- --
------- -------- --------
Net income (loss) $ 1,630 $ (372) $(11,281)
======= ======== ========

Net income (loss) per share:
Basic $ .12 $ (.03) $ (1.22)
======= ======== ========
Diluted $ .11 $ (.03) $ (1.22)
======= ======== ========

Shares used in computing net income
(loss) per share:
Basic 13,320 12,778 9,243
======= ======== ========
Diluted 14,627 12,778 9,243
======= ======== ========
</TABLE>

See accompanying notes.

F-3
<PAGE> 50

Ventana Medical Systems, Inc.

Consolidated Statements of Convertible Redeemable Preferred Stock
and Stockholders' Equity (Deficit)

(In thousands, except share data)

CONVERTIBLE REDEEMABLE
PREFERRED STOCK
--------------------------------------

SERIES A SERIES C SERIES D TOTAL
--------------------------------------
<S> <C> <C> <C> <C>
Balance at January 1, 1996 $ 536 $ 10,696 $ 23,948 $ 35,180
Net loss -- -- -- --
Translation adjustment -- -- -- --

Comprehensive loss -- -- -- --

Sale of Series D preferred stock -- -- 413 413
Accretion of preferred stock
redemption requirement -- 328 1,027 1,355
Conversion of preferred stock
upon completion of initial
public offering (536) (11,024) (25,388) (36,948)
Proceeds of initial public offering,
net of expenses $1,221 -- -- -- --
Conversion of debt into common stock -- -- -- --
Sale of common stock - other -- -- -- --
-------------------------------------

Balance at December 31, 1996 -- -- -- --
Net loss -- -- -- --

Translation adjustment -- -- -- --

Comprehensive loss -- -- -- --

Proceeds from public offering, net
of expenses $530 -- -- -- --
Sale of common stock - other -- -- -- --
-------------------------------------

Balance at December 31, 1997 -- -- -- --
Net income -- -- -- --
Translation adjustment -- -- -- --

Comprehensive income -- -- -- --

Sale of common stock - other -- -- -- --
Repayment of director's loans -- -- -- --
Purchase of common stock -- -- -- --
-------------------------------------

Balance at December 31, 1998 $ -- $ -- $ -- $ --
=====================================
</TABLE>

<TABLE>
<CAPTION>
STOCKHOLDERS' EQUITY (DEFICIT)
--------------------------------------------------------------------------
COMMON STOCK
----------------- ACCUMULATED
OTHER
ADDITIONAL COMPREHEN-
PAID-IN ACCUMULATED SIVE TREASURY
SHARES AMOUNT CAPITAL DEFICIT INCOME STOCK TOTAL
--------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at January 1, 1996 1,020,164 $ 1 $ 243 $(29,980) $(120) $ -- $(29,856)
Net loss -- -- -- (11,281) -- -- (11,281)
Translation adjustment -- -- -- -- (96) -- (96)
--------
Comprehensive loss -- -- -- -- -- -- (11,377)
--------
Sale of Series D preferred stock -- -- -- -- -- -- --
Accretion of preferred stock
redemption requirement -- -- -- (1,355) -- -- (1,355)
Conversion of preferred stock
upon completion of initial
public offering 6,716,997 7 27,735 9,206 -- -- 36,948
Proceeds of initial public offering,
net of expenses $1,221 1,963,975 2 17,042 -- -- -- 17,044
Conversion of debt into common stock 222,973 -- 3,016 -- -- -- 3,016
Sale of common stock - other 1,054,129 1 849 -- -- -- 850
---------------------------------------------------------------------------

Balance at December 31, 1996 10,978,238 11 48,885 (33,410) (216) -- 15,270
Net loss -- -- -- (372) -- -- (372)
Translation adjustment -- -- -- -- 75 -- 75
--------
Comprehensive loss -- -- -- -- -- -- (297)
--------
Proceeds from public offering, net
of expenses $530 1,881,066 2 26,132 -- -- -- 26,134
Sale of common stock - other 387,922 -- 1,296 -- -- -- 1,296
---------------------------------------------------------------------------

Balance at December 31, 1997 13,247,226 13 76,313 (33,782) (141) -- 42,403
Net income -- -- -- 1,630 -- -- 1,630
Translation adjustment -- -- -- -- (52) -- (52)
--------
Comprehensive income -- -- -- -- -- -- 1,578
--------
Sale of common stock - other 174,593 -- 1,502 -- -- -- 1,502
Repayment of director's loans -- -- 901 -- -- -- 901
Purchase of common stock -- -- -- -- -- (600) (600)
---------------------------------------------------------------------------

Balance at December 31, 1998 13,421,819 $13 $78,716 $(32,152) $(193) $(600) $ 45,784
===========================================================================
</TABLE>

See accompanying notes.

F-4
<PAGE> 51

Ventana Medical Systems, Inc.

Consolidated Statements of Cash Flows
(In thousands)

<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
------------------------------------
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
OPERATING ACTIVITIES:
Net income (loss) $ 1,630 $ (372) $(11,281)
Adjustments to reconcile net income
(loss) to net cash used in operating
activities:
Depreciation and amortization 2,850 2,029 1,052
Purchased in-process research and
development 2,900 -- 7,900
Provision for deferred taxes 145 -- --
Gain on early extinguishment of debt -- -- 300

Changes in operating assets and
liabilities net of effects from
acquisitions:
Accounts receivable (6,340) (4,017) (2,598)
Inventories (4,160) (1,862) (1,377)
Other assets 198 (1,065) (288)
Accounts payable (63) 846 181
Other current liabilities 296 (643) (1,626)
-------- -------- --------
Net cash used in operating activities (2,544) (5,084) (7,737)

INVESTING ACTIVITIES:
Purchase of property and equipment (5,377) (4,263) (815)
Purchase of intangible assets (5) (44) (192)
Acquisition of certain Oncor, Inc. assets (5,000) -- --
Acquisition of Biotechnology Tools, Inc. (5,257) -- --
Acquisition of BioTek Solutions, Inc. -- -- (2,500)
Sales (purchases) of short-term
investments available for sale activities -- 4,877 (4,877)
Net cash (used in) provided by
investing activities (15,639) 570 (8,384)
-------- -------- --------
FINANCING ACTIVITIES:
Repayments of notes payable -- (10,279) --
Net proceeds from public offering -- 26,134 17,044
Issuance of debt (including amounts from
related parties) and stock 2,403 1,296 7,624
Purchase of common stock (600) -- --
Repayment of debt, net of gain on
extinguishment (46) -- (3,364)
-------- -------- --------
Net cash provided by financing activities 1,757 17,151 21,304
Effect of exchange rate changes on cash (52) 75 (96)
-------- -------- --------
Net (decrease) increase in cash and cash
equivalents (16,478) 12,712 5,087
Cash and cash equivalents, beginning
of year 18,902 6,190 1,103
-------- -------- --------
Cash and cash equivalents, end of year $ 2,424 $ 18,902 $ 6,190
======== ======== ========
</TABLE>

See accompanying notes.

F-5
<PAGE> 52

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements
(In thousands, except per share data)

December 31, 1998

1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES

Organization: Ventana Medical Systems, Inc. (the "Company") develops,
manufactures, and markets proprietary instruments and reagents that automate
diagnostic procedures used for molecular analysis of cells. At present, the
Company's principal markets are North America, Europe, and Japan.

Use of Estimates: The preparation of financial statements in accordance with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.

Principles of Consolidation: The consolidated financial statements include the
accounts of the Company and its wholly-owned subsidiaries, Ventana Medical
Systems, S.A., Ventana Medical Systems GmbH, Ventana Medical Systems Japan K.K.,
BioTek Solutions, Inc. (BioTek) and BioTechnology Tools, Inc. (BTTI). All
significant intercompany accounts and transactions have been eliminated.

Cash and Cash Equivalents: Cash equivalents include investments (primarily money
market accounts and overnight reverse repurchase agreements) with maturities of
three months or less from the date of purchase.

Inventories: Inventories, principally chemical, biological and instrument parts
and reagents and finished instruments, are stated at the lower of cost (first-in
first-out basis) or market.

Property and Equipment: Property and equipment are stated at cost. Depreciation
is computed using the straight-line method over estimated useful lives of three
to ten years. Amortization of leasehold improvements is calculated using a
straight-line method over the term of the lease. Maintenance and repairs are
charged to operations as incurred.

Property and equipment includes diagnostic instruments used for sales
demonstrations or placed with customers under several types of arrangements,
including cancelable reagent plans (RPs), qualified reagent installed bases
(QRIBs) and rentals. New instruments are no longer placed into the RP program.
However, certain long-standing agreements continue on a month-to-month basis,
wherein the customer is required to purchase a minimum quantity of reagents in
order to keep the instrument. QRIB instruments are placed with customers for
evaluation periods of up to six months. The customer is required to purchase a
minimum amount of reagents and at the end of the evaluation period must
purchase, rent or return the instrument. The manufacturing cost of
demonstration, RP, QRIB and rental instruments is amortized over a period of 36
to 48 months to cost of goods sold.

F-6
<PAGE> 53

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

Intangibles: Intangible assets consist primarily of goodwill, customer base,
developed technology, workforce in place and supply agreements acquired in the
acquisitions of BioTek (see Note 12), BTTI (see Note 13) and of certain assets
and technology from Oncor, Inc. (see Note 14) and patents. Such assets are
amortized on a straight-line basis over estimated useful lives ranging from 5 to
20 years.

Impairment is recognized in operating results if a permanent decline in value
occurs. The Company measures possible impairment of its intangible assets
periodically by comparing the cash flows generated by those assets to their
carrying values. The Company periodically evaluates the useful lives assigned to
the various categories of intangible assets considering such factors as (i)
demand, obsolescence, competition, market share, and other economic factors;
(ii) legal and regulatory provisions; and (iii) the periods expected to be
benefited.

Revenue Recognition: Sales of instruments and reagents are generally recognized
upon shipment. Revenues from reagents sold under RPs and similar leasing
arrangements are recognized when reagents are shipped. Service revenue is
recognized as service is rendered.

For the year ended December 31, 1997, sales to DAKO A/S, a European distributor
for the Company, represented approximately 20% of consolidated net sales. For
the year ended December 31, 1996, sales to DAKO A/S and Curtin Matheson
Scientific, a subsidiary of Fischer Scientific, Inc. represented 17% and 16% of
consolidated net sales, respectively. No single customer accounted for 10% or
more of the Company's 1998 net sales.

Concentration of Credit Risk: The Company sells its instruments and reagent
products primarily to hospitals, medical clinics, reference laboratories, and
universities. Credit losses have been minimal to date. The Company invests its
excess cash primarily in U.S. government securities and bank money market
accounts and has an established policy relating to diversification and
maturities that is designed to maintain safety and liquidity. The Company has
not experienced any material losses on its cash equivalents or short-term
investments.

Non-recurring Expenses: The 1998 non-recurring expenses primarily relate to the
cost of research and development in process acquired from Oncor, Inc. (see Note
14). The 1997 non-recurring expenses relate primarily to a legal judgment
against BioTek. Non-recurring expenses in 1996 consisted of the estimated costs
of integrating BioTek's operations into Ventana's and the cost of research and
development in process acquired from BioTek (see Note 12).

Foreign Currency Translations: Foreign currency financial statements of the
Company's foreign subsidiaries are converted into United States dollars by
translating balance sheet accounts at the current exchange rate at year end and
statement of operations accounts at

F-7
<PAGE> 54

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

the average exchange rate for the year, with resulting translations adjustments
included in accumulated other comprehensive income. The effect on the statements
of operations of transaction gains and losses is insignificant for all years
presented.

Income Taxes: The Company accounts for income taxes using the liability method.
Deferred tax assets and liabilities are determined based on differences between
financial reporting and tax bases of assets and liabilities and are measured
using enacted tax rates and laws expected to be in effect when the differences
are expected to reverse. Valuation allowances are established when necessary to
reduce the carrying amount of deferred tax assets to their net realizable value.

Fair Value of Financial Instruments: The Company's cash equivalents, accounts
receivable, accounts payable and long-term debt represent financial instruments
as defined by Statement of Financial Accounting Standards No. 107, Disclosures
About Fair Value of Financial Instruments. The carrying value of these financial
instruments is a reasonable approximation of fair value, due to their current
maturities. The fair value of the Company's borrowings is estimated using
discounted cash flow analyses, based upon the current incremental borrowing
rates for similar arrangements.

Stock-Based Compensation: The Company has elected to follow Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to Employees ("APB
No. 25") and related Interpretations in accounting for its employee stock
options because, as discussed below, the alternative fair value accounting
provided for under Statement of Financial Accounting Standards No. 123,
Accounting for Stock-Based Compensation ("SFAS No. 123"), requires the use of
option valuation models that were not developed for use in valuing employee
stock options. Under APB No. 25, because the exercise price of the Company's
stock options equals or exceeds the fair market value of the underlying stock on
the dates of grant, no compensation expense is recognized.

Accumulated Other Comprehensive Income: As of January 1, 1998, the Company
adopted Financial Accounting Standards Board Statement No. 130, Reporting
Comprehensive Income (SFAS No. 130). SFAS No. 130 establishes new rules for the
reporting and display of comprehensive income and its components; however, the
adoption of SFAS No. 130 had no impact on the Company's consolidated results of
operations, financial position, stockholders' equity or cash flows. SFAS No. 130
requires the foreign currency translation adjustments, which prior to adoption
were reported separately in stockholders' equity, to be included in other
comprehensive income. Prior year financial statements have been reclassified to
conform to the requirements of SFAS No. 130. Accumulated other comprehensive
income at December 31, 1998, 1997 and 1996 consists exclusively of foreign
currency translation adjustments.

Income (loss) per Share: In February 1997, the Financial Accounting Standards
Board issued SFAS No. 128, Earnings per Share (SFAS No. 128). SFAS No. 128
replaced the

F-8
<PAGE> 55

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

calculation of primary and fully diluted earnings per share with basic and
diluted earnings per share. Unlike primary earnings per share, basic earnings
per share excludes any dilutive effects of options, warrants and convertible
securities. Diluted earnings per share is very similar to the previously
reported fully diluted earnings per share. Income (loss) per share amounts for
all periods have been presented, and where appropriate, restated to conform to
the requirements of SFAS No. 128, as well as Staff Accounting Bulletin No. 98
(issued by the Securities and Exchange Commission in February 1998), which
amends the determination of and accounting for "cheap stock" in periods prior to
an initial public offering. The effect of dilutive securities is computed using
the treasury stock method.

Loss per share in both 1997 and 1996 is computed using the weighted average
number of shares of common stock outstanding; common equivalent shares from
stock options and warrants are excluded from the computation in those years as
their effect is antidilutive.

The following tables sets forth the components of the computation of 1998 basic
and diluted earnings per share:

<TABLE>
<S> <C>
Numerator:
Net income $ 1,630
=======

Denominator:
Basic:
Weighted average shares 13,320

Effect of dilutive securities:
Employee stock options 776
Warrants 531
-------
14,627
=======
</TABLE>

The 1996 net loss per share, historical basis, was as follows:

<TABLE>
<S> <C>
Net loss $(11,281)
Less accretion of preferred stock dividends (1,355)
--------
Net loss applicable to common stock $(12,636)
========
Net loss per common share $ (2.14)
========
Weighted average shares outstanding 5,907
========
</TABLE>

F-9
<PAGE> 56

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

The as adjusted calculation of 1996 net loss per share presented in the
consolidated statements of operations has been computed as described above, but
also gives effect to the conversion of all outstanding shares of convertible
redeemable preferred stock into common stock upon closing of the Company's
initial public offering (determined using the if-converted method) and the
exercise of warrants to purchase Series D preferred stock which would otherwise
have expired upon completion of the Offering.

Impact of Recently Issued Accounting Standards: In March 1998, the AICPA issued
SOP 98-1, Accounting for the Costs of Computer Software Developed for or
Obtained for Internal Use. The Company will adopt the SOP on January 1, 1999.
The SOP requires the capitalization of certain costs incurred after the date of
adoption in connection with developing or obtaining software for internal use.
As the Company already has a policy of capitalizing internal use software, the
Company does not believe that the adoption of this SOP will have a material
effect on the Company's consolidated results of operations or financial
position.

2. INVENTORIES

Inventories consist of the following:

<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------
1998 1997
------- ------
<S> <C> <C>
Raw materials and work-in-process $ 5,165 $4,033
Finished goods 5,844 1,101
------- ------
$11,009 $5,134
======= ======
</TABLE>

3. PROPERTY AND EQUIPMENT

Property and equipment consist of the following:

<TABLE>
<CAPTION>
DECEMBER 31,
------------------------
1998 1997
------------------------
<S> <C> <C>
Diagnostic instruments $ 7,267 $ 4,830
Machinery and equipment 4,835 2,684
Computers and related equipment 2021 1,970
Leasehold improvements 561 472
Furniture and fixtures 305 177
------------------------
14,989 10,133
Less accumulated depreciation and amortization 5,759 4,028
Projects in progress 707 --
------------------------
$ 9,937 $ 6,105
========================
</TABLE>

F-10
<PAGE> 57

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

4. INTANGIBLE ASSETS

Intangible assets consist of the following:

<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------
1998 1997
-----------------------
<S> <C> <C>
Customer base $ 4,100 $4,100
Developed technology 2,800 2,800
Goodwill 7,637 1,756
Supply contract 1,200 --
Workforce in place 100 --
Patents 492 488
-----------------------
16,329 9,144
Less amortization 1,737 1,089
-----------------------
$14,592 $8,055
=======================
</TABLE>

5. OTHER CURRENT LIABILITIES

Other current liabilities consist of the following:

<TABLE>
<CAPTION>
DECEMBER 31,
------------------------
1998 1997
------------------------
<S> <C> <C>
Accrued payroll and payroll taxes $ 1,161 $ 421
Accrued commissions 385 146
Deferred revenue 1,037 334
Accrued legal or settlement reserves 338 946
Contingent purchase consideration 900 --
Sales tax (receivable) payable (95) 410
Long-term debt, current portion 59 --
Other accrued expenses 1,268 637
------------------------
$ 5,053 $2,894
========================
</TABLE>

F-11
<PAGE> 58

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

6. LINE OF CREDIT

The Company had $5,000 available under a line of credit arrangement with a bank
which is subject to renewal in May 1999. Borrowings under the line are
collateralized by the Company's receivables, inventories, machinery and
equipment, and intellectual property. The line contains certain financial
covenants (measured quarterly) with which the Company must comply, prohibits the
payment of dividends on the Company's stock and limits the number of treasury
shares the Company may purchase. No borrowings were outstanding under the line
at December 31, 1998. The bank waived non-compliance with the Company's
financial covenants as of the December 31, 1998 measurement date.

7. LONG-TERM DEBT

Long-term debt consists of the following:

<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1998 1997
--------------------
<S> <C> <C>
Note payable to a customer over 16 quarters
beginning March 31, 2000, interest accruing at
7% beginning January 1, 2000 $1,588 $ --
Capital lease obligations, various terms and
interest rates 378 --
Note payable to a customer, rolled-into new note
in 1998 -- 471
--------------------
1,966 471
Less current portion 59 --
--------------------
$1,907 $471
====================
</TABLE>

Future payments under the above obligations are as follows at December 31, 1998:

The note payable to a customer at December 31, 1998 is net of imputed interest
of $63 relating to the period through January 1, 2000 during which no interest
accrues.

The Company issued Exchange Notes in connection with the BioTek acquisition. On
March 25, 1996, approximately $3,016 of the Exchange Notes were converted into

F-12
<PAGE> 59

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

common stock. On October 18, 1996, the Company redeemed for $3,400 Exchange
Notes with a face value of $3,700. The resulting gain on extinguishment of debt
was reflected in operating results in the fourth quarter of 1996. All Exchange
Notes were repaid by February 1997. In accordance with the note terms, all
interest was forgiven, as the Exchange notes were repaid prior to February 26,
1997. The reversal of the $603 of previously accrued interest expense is
included in operating results in the first quarter of 1997.

8. STOCKHOLDERS' EQUITY

During 1997, the Company granted options to purchase a total of 300 shares at
$12.625 per share, fair market value on the date of the grant, to two Directors
of the Company for consulting services to be performed through February 2000.

On February 26, 1996, the Company sold 647 shares of common stock to two
directors of the Company and a related partnership at a price of $1.62 per share
for their efforts and assistance in completing the BioTek acquisition and
assisting management with its integration of the acquired company. Receivables
of $901 due from the directors have been netted against Common Stock at December
31, 1997 and 1996. These loans, including interest at the rate of 6%, were
repaid on February 26, 1998.

Upon closing of the Company's initial public offering on July 26, 1996, all
outstanding shares of its Series A, C and D redeemable Convertible Preferred
stock were converted into 6,717 shares of Common Stock.

Warrants for the purchase of 719 shares of Common Stock were outstanding and
fully exercisable at December 31, 1998, at an exercise price of $5.82 per share.
These warrants may be exercised on a net basis and will begin to expire in
February 2001, to the extent not previously exercised.

Under the Company's 1988 Stock Option Plan ("the 1988 Plan"), up to 1,340 shares
of common stock have been reserved for grant to employees and directors. In
order to be incentive stock options (ISOs), options must be granted at not less
than 100% of fair market value of the Company's stock on the date of grant.
Options generally vest over a four year period and expire five to ten years
after the date of grant. However, the Board of Directors, at its discretion, may
decide the period over which options become exercisable and their expiration
dates.

In April 1996, the Company's Board of Directors authorized the 1996 Stock Option
Plan ("the 1996 Plan"). A total of 1,750 shares of common stock have been
reserved for issuance under the 1996 Plan. In order to be ISOs, options must be
granted at not less than 100% of the fair market value of the Company's stock on
the dates of grant. Options generally vest over four years (grants made prior to
1998) or five years (1998 grants) and expire in ten years.

F-13
<PAGE> 60

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

In April 1996, the Board of Directors authorized the 1996 Employee Stock
Purchase Plan ("the 1996 Purchase Plan"). A total of 200 shares of common stock
have been reserved for issuance under the 1996 Purchase Plan. A total of 100
shares of common stock have been issued under the 1996 Purchase Plan at a prices
ranging from $8.18 per share to $18.38 per share. The 1996 Purchase Plan permits
eligible employees to purchase common stock through payroll deductions, subject
to certain limitations. The price at which stock may be purchased under the 1996
Purchase Plan is equal to 85% of the fair market value of the common stock on
the lower of the first day of each 24 month offering period or the last day of
each subsequent purchase period.

In June 1996, the Company adopted the 1996 Director Stock Option Plan (the
"Director Plan") and reserved a total of 250 shares of common stock for issuance
thereunder. Commencing with the Company's 1997 annual meeting of stockholders,
each nonemployee director was to be granted a nonstatutory option to purchase an
amount of shares of the Company's common stock equal to 5 shares multiplied by a
fraction, the numerator of which shall be $15.00 and the denominator of which
shall be the fair market value of one share of the Company's common stock on the
dates of grant. The exercise price of options granted under the Director Plan
are equal to the fair market value of one share of the Company's common stock on
the dates of grant. A total of 60 shares were issued under the Plan at $10.125 -
$26.37 per share. Effective November 1998, the Director Plan was modified such
that options are granted on a discretionary basis at fair value on the date of
grant. 99 shares were issued under this version of the Plan in 1998, bringing
the total shares issued under the prior and current version of the Director Plan
to 159. Each option granted under the Director Plan vests on a cumulative
monthly basis over a one-year period and has a 10-year term. The Director Plan
will terminate in June 2001, unless terminated earlier.

In September 1998, the Company's Directors approved the repurchase of up to 750
shares of the Company's common stock. A total of 40 shares were repurchased
under this authorization in 1998.

On March 9, 1998, the Company's Board of Directors approved the establishment of
a rights plan. Pursuant to this plan, the Board of Directors declared a dividend
distribution of one Preferred Shares Purchase Right on each outstanding share of
the Company's Common Stock for shareholders of record on May 8, 1998. Each right
entitled stockholders to buy 1/1000th of a share of the Company's Series A
Participating Preferred Stick at an exercise price of eighty-five dollars
($85.00). The Rights become exercisable following the tenth day after a person
or group announces an acquisition of 20% or more of the Company's Common Stock
or announces commencement of a tender offer the consummation of which would
result in ownership by the person or group of 20% or more of the Common Stock.
The Company is entitled to redeem the Rights at $0.01 per Right at any time on
or before the tenth day following acquisition by a person or group of 20% or
more of the Company's Common Stock. If, prior to redemption of the Rights, a
person or group acquires 20% or more of the Company's Common Stock, each Right
not owned by a holder of 20% or more of the Common Stock will entitle its holder
to purchase, at the Right's then current exercise price, that number of shares
of Common Stock of the Company (or, in certain circumstances as determined by
the Board of Directors, cash, other property or other securities) having a
market value at that time of twice the Right's exercise price. If, after the
tenth day following acquisition by a person or group of 20% or more of the
Company's Common Stock, the Company sells more than 50% of its assets or earning
power or is acquired in a merger or other business combination transaction, the
acquiring person must assume the obligation under the Rights and the Right will
become exercisable to acquire Common Stock of the acquiring person at the
discounted price. At any time after an event triggering exercisability of the
Rights at a discounted price and prior to the acquisition by the acquiring
person of 50% or more of the outstanding Common Stock, the Board of Directors of
the Company may exchange the Rights (other than those owned by the acquiring
person or its affiliates) for Common Stock of the Company at an exchange ratio
of one share of Common Stock per Right.

F-14
<PAGE> 61

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

Pro forma information regarding net income and earnings per share is required
by SFAS No. 123, and such information has been determined as if the Company had
accounted for its employee stock option and employee stock purchase plan under
the fair value method of that statement. The fair value for these options was
estimated at the date of grant using a Black-Scholes option pricing model with
the following weighted average assumptions for 1998, 1997 and 1996: risk-free
interest rate of 6.0% and 6.28% divided yield of 0$. volatility factor of the
expected market price of the Company's common stock of .619 an .726 and .755,
and an expected life of the options of 5 years.

The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options which have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions including the expected stock price volatility. Because
the Company's stock options have characteristics significantly different from
those of traded options, and because changes in the subjective input assumptions
can materially affect the fair value estimate, in management's opinion, the
existing models do not necessarily provide a reliable single measure of the fair
value of its stock options.

F-15
<PAGE> 62

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the related vesting period. The Company's pro forma
information follows:

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
----------------------------------------
1998 1997 1996
----------------------------------------
<S> <C> <C> <C>
As reported $ 1,630 $ (372) $(11,281)
Pro forma compensation expense (3,640) (2,188) (411)
----------------------------------------
Pro forma net income (loss) (2,010) $(2,560) $(11,692)
========================================
Pro forma net income (loss) per share $ (0.14) $ (0.20) $ (1.26)
========================================
</TABLE>

Pro forma compensation expense presented may not be representative of future pro
forma expense, when amortization of multiple years of awards may be reflected.

A summary of the Company's stock option activity, and related information is as
follows:

<TABLE>
<CAPTION>
OUTSTANDING STOCK OPTIONS
--------------------------------
WEIGHTED AVERAGE
NUMBER OF EXERCISE
OPTIONS PRICE PER SHARE
--------------------------------
<S> <C> <C>
Balance at January 1, 1996 650 $ 0.95
Granted 271 9.65
Exercised (183) 0.89
Canceled (23) 0.84
---------------------------
Balance at December 31, 1996 715 3.89
Granted 1,436 11.89
Exercised (224) 1.71
Canceled (300) 5.92
---------------------------
Balance at December 31, 1997 1,627 10.88
Granted 540 19.68
Exercised (121) 7.52
Canceled (126) 11.76
---------------------------
Balance at December 31, 1998 1,920 $ 13.52
===========================
</TABLE>

F-16
<PAGE> 63

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

The weighted average fair values of stock options granted during 1998, 1997, and
1996, for which the exercise price was equal to the fair market value of the
stock were $10.12, $7.55, and $7.42 per share, respectively. The weighted
average fair value of stock options granted during 1996 for which the exercise
price exceeded the fair market value of the stock was $0.89 per share.

<TABLE>
<CAPTION>
STOCK OPTIONS AT DECEMBER 31, 1998
-------------------------------------------------------------
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
-------------------------------------------------------------
WEIGHTED
WEIGHTED AVERAGE
AVERAGE REMAINING WEIGHTED
NUMBER OF EXERCISE CONTRACTUAL AVERAGE
RANGE OF EXERCISE OPTIONS PRICE LIFE NUMBER EXERCISE
PRICES OUTSTANDING OUTSTANDING (YEARS) EXERCISABLE PRICE
----------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$0.60 - $1.62 127 $ .92 6.0 108 $ .93
$10.00 - $10.15 269 $10.02 8.1 126 $10.04
$12.25 - $14.63 904 $12.43 8.3 107 $12.45
$15.00 - $17.00 343 $16.32 9.0 100 $16.09
$20.13 - $27.38 277 $21.81 9.4 64 $26.97
---------------------------------------------------------
Totals 1,920 $13.52 8.1 505 $11.96
=========================================================
</TABLE>

9. INCOME TAXES

The Company's deferred tax assets consist of the following:

<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1998 1997
--------------------
<S> <C> <C>
Non-current:
In-process R&D write-off $ 1,154 $ --
Net operating loss carryforwards 525 5,206
Capitalized research and development 3,506 2,755
General business credit carryforwards 1,247 968
Depreciation expense 968 360
Other 211 -
Current:
AMT credit carryforward 145 -
Miscellaneous 1,021 1,002
--------------------
Total deferred tax assets 8,777 10,291
Valuation reserve (8,632) (10,291)
--------------------
Net deferred tax assets $ 145 $ --
====================
</TABLE>

The valuation allowance for deferred tax assets decreased by $1,659 and
increased by $574 in the years ended December 31, 1998 and 1997, respectively to
fully offset all deferred tax assets except those pertaining to AMT credit
carryforwards for which management believes it is more likely than not that such
benefits will be utilized. The 1998 deferred tax benefit of $145 exactly offset
the 1998 current expense of $145, and thus no 1998 tax provision is reflected in
the accompanying consolidated statement of operations.

F-17
<PAGE> 64

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

Temporary differences between the net operating losses for financial reporting
and income tax purposes primarily relate to the deferral of research and
development expenses for tax purposes.

At December 31, 1998, the Company has net operating loss carryforwards for
federal and state income tax purposes of approximately $1,466 and $444,
respectively. These federal and state carryforwards will begin to expire in 1999
if not previously utilized. The Company also has research and development tax
credit carryforwards of approximately $1,200 which will begin to expire in 2005,
if not previously utilized. Utilization of the Company's net operating loss
carryforwards will be subject to limitations due to the "change in ownership"
provisions of the Internal Revenue Code of 1996, as amended, as a result of the
Company's prior issuances of equity securities. These carryforwards, therefore,
may expire prior to being fully utilized. Future financings may cause additional
changes in ownership and further limitations on the use of federal net operating
loss carryforwards. In addition, the Company has certain foreign net operating
loss carryforwards approximating $3,800 which begin to expire in 2001.

10. COMMITMENTS AND CONTINGENCIES

The Company conducts its corporate operations from leased facilities. In
addition to monthly rental payments, the Company is responsible for certain
monthly operating and maintenance expenses of such facilities. The lease expires
in 2001. The future minimum rental payments under this and other operating lease
arrangements at December 31, 1998 are as follows:

Rent expense totaled $548, $580 and $448 for the years ended December 31, 1998,
1997 and 1996, respectively.

In July 1997, the U.S. District Court in San Jose, California awarded a judgment
of approximately $850 to a competitor based on alleged patent infringement by a
subsidiary of the Company. This amount was fully expensed by the second quarter
of 1997. The matter was appealed by the Company, with such appeals denied in
April 1998. Accordingly, a total of $881 (including interest) was paid by the
Company in May 1998 to extinguish this judgment.

F-18
<PAGE> 65

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

DAKO initiated binding arbitration with the Company in 1997 regarding the
pricing of the Company's TechMate 250 product. The dispute was settled in 1998
with the Company agreeing to pay DAKO a total of $1,651 beginning January 2000
(see Note 7).

Four former BioTek noteholders have filed an action against the Company and
certain of its directors and stockholders alleging the Company violated federal
and California securities law and engaged in common law fraud in connection with
the BioTek acquisition and conversion of BioTek notes. The Company filed a
motion to dismiss this action, which was granted in part in September 1998.

The Company is also involved in various other actions arising in the normal
course of business. Management, in conjunction with outside counsel,
periodically reviews such matters and makes any accruals deemed necessary.
Management is of the opinion that the disposition of all claims outstanding will
not have a material effect on the Company's financial position, cash flows or
results of operations.

11. OPERATING SEGMENT AND ENTERPRISE DATA

The Company has three reportable segments: North America (primarily the United
States), Europe (primarily France and Germany) and Japan (formed in 1998). These
operating segments are the segments of the Company for which separate financial
information is available and for which operating profit/loss amounts are
regularly evaluated by the Company's Chief Operating Decision Maker (its Board
of Directors) in deciding how to allocate resources and in assessing
performance.

The Company's Chief Operating Decision Maker evaluates performance and allocates
resources based on profit or loss from operations. The accounting policies of
the reportable segments are the same as those described in the summary of
significant accounting policies. Inventory transfers to foreign subsidiaries are
made at standard cost. The North America operations include corporate activity
(including all interest income) that benefits the Company as a whole. The
following summary includes both net sales to unaffiliated customers and
transfers between geographic areas. Net sales are attributed to segments based
on the location from which the shipment to the customer was made; reagents and
instruments are sold in each segment.

F-19
<PAGE> 66

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1998
--------------------------------------------------------
NORTH ELIMINA-
AMERICA EUROPE JAPAN TIONS TOTALS
------- ------- ------- ------ -------
<S> <C> <C> <C> <C> <C>
Sales to external customers $41,469 $ 5,633 $ 602 $ -- $47,704
Non-recurring expenses 3,160 -- -- -- 3,160
Depreciation and amortization
expense 2,565 263 22 -- 2,850
Segment profit (loss) 3,147 (821) (810) 114 1,630
Segment assets 74,724 7,220 1,037 (26,701) 56,280
Expenditures for long-lived assets 12,154 238 166 -- 12,558
</TABLE>

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1997
----------------------------------------------
NORTH ELIMINA-
AMERICA EUROPE TIONS TOTALS
----------------------------------------------
<S> <C> <C> <C> <C>
Sales to external customers $28,808 $ 3,345 $ -- $ 32,153
Non-recurring expenses 1,656 -- -- 1,656
Depreciation and amortization expense 1,934 95 -- 2,029
Segment profit (loss) 852 (876) (348) (372)
Segment assets 52,831 3,842 (8,321) 48,352
Expenditures for long-lived assets 3,985 278 -- 4,263
</TABLE>

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31, 1996
-------------------------------------------------
NORTH ELIMINA-
AMERICA EUROPE TIONS TOTALS
-------------------------------------------------
<S> <C> <C> <C> <C>
Sales to external customers $ 22,257 $ 1,872 $ -- $ 24,129
Non-recurring expenses 10,262 -- -- 10,262
Depreciation and amortization expense 932 120 -- 1,052
Segment profit (loss) (10,410) (871) -- (11,281)
Segment assets 49,530 1,525 (18,645) 32,410
Expenditures for long-lived assets 9,635 135 -- 9,770
</TABLE>

F-20
<PAGE> 67

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

12. BIOTEK ACQUISITION

The Company acquired BioTek for $19,100 on February 26, 1996. The acquisition
has been accounted for as a purchase. The results of BioTek are included in the
accompanying consolidated financial statements from the date of acquisition.

The purchase price for BioTek consisted of:

<TABLE>
<CAPTION>
<S> <C>
Cash consideration 2,500
Stock issued to BioTek noteholders 3,016
Exchange Notes issued 8,968
Note payable - escrow for contingencies 234
Net historical liabilities assumed 4,389
-------
$19,107
=======
</TABLE>

The purchase price was allocated as follows:

<TABLE>
<S> <C>
Tangible net assets $ 2,252
In-process research and development 7,900
Goodwill and other intangibles 2,055
Developed technology 2,800
Customer base 4,100
-------
Total purchase price $19,107
=======
</TABLE>

The Company charged to expense at the date of the acquisition $7,900 relating to
the portion of the purchase price allocated to those in-process research and
development projects where technological feasibility had not yet been
established and where there are no alternative future uses. This amount is
included as a component of non-recurring expenses in the accompanying
consolidated statements of operations. The remaining non-recurring expenses of
$2,400 consist of integration and other indirect acquisition costs.

Unaudited pro forma results of operations for the year ended December 31, 1996,
assuming consummation of the purchase as of January 1, 1996 and as adjusted to
reflect the sale of common stock by the Company and the application of the net
proceeds therefrom, are as follows:

<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
1996
------------
<S> <C>
Net sales $25,211
Net loss $(2,353)
Net loss per share $ (0.22)
</TABLE>

F-21
<PAGE> 68

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

13. ACQUISITION OF BTTI

The Company acquired BTTI on October 14, 1998 for $6,457. The acquisition has
been accounted for as a purchase. The results of operations of BTTI are included
in the accompanying consolidated financial statements from the date of
acquisition. BTTI manufactures and markets a wide range of microtome products,
tissue processors, cryogenic hardware and peripheral equipment, primarily for
research and educational institutions in the United States, Europe and Japan.

The purchase price for BTTI consisted of:

<TABLE>
<S> <C>
Cash consideration $3,800
Cash to BTTI shareholders, infused into BTTI 1,457
Escrow for contingencies 1,200
------
$6,457
======
</TABLE>

The purchase price for BTTI was allocated as follows:

<TABLE>
<S> <C>
Tangible net assets $ 391
Goodwill 5,566
------
$5,957
======
</TABLE>

The Company has recorded $700 of the possible $1,200 in contingent consideration
at December 31, 1998, as that represents management's best estimate of the
amount which will ultimately be paid in 1999. Should any or all of the
additional $500 be paid in 1999, it will be classified as additional goodwill.
Goodwill recorded in connection with this transaction is being amortized on a
straight-line basis over a 15-year period.

Unaudited pro forma results of operations for the years ended December 31, 1998
and 1997, assuming consummation of the purchase by January 1, 1997, are as
follows

<TABLE>
<CAPTION>
1998 1997
---------------------
<S> <C> <C>
Net sales $51,628 $37,379
Net income (loss) $ 859 $(1,068)
Net income (loss) per share $ .06 $ (.08)
</TABLE>

F-22
<PAGE> 69

Ventana Medical Systems, Inc.

Notes to Consolidated Financial Statements (continued)
(In thousands, except per share data)

14. ACQUISITION OF CERTAIN TECHNOLOGY AND ASSETS FROM ONCOR, INC.

The Company acquired certain oncology diagnostic technology and assets from
Oncor, Inc. on November 23, 1998 for $5,500, $5,000 of which was paid in cash.
The Company plans to incorporate certain aspects of the acquired technology in
future products. The Company charged to expense at the date of the acquisition
$2,900 relating to the portion of the purchase price allocated to those
in-process research and development projects where technological feasibility had
not yet been established and where there are no alternative future uses. This
amount is included as non-recurring expense in the accompanying consolidated
statements of operations.

The purchase price for the technology was allocated as follows:

<TABLE>
<S> <C>
Tangible net assets $ 685
In-process research and development expense 2,900
Goodwill 315
Supply agreement 1,200
Workforce in place 100
------
$5,200
======
</TABLE>

The Company is amortizing goodwill on a straight-line basis over 15 years The
value assigned to an existing supply agreement assumed by the Company is being
amortized on a straight-line basis over the life of the patent underlying the
key technology involved in the supply agreement. The workforce in place costs
are being amortized on a straight-line basis over 5 years.

The Company has not recorded $300 of the $5,500 purchase price as of December
31, 1998, as management does not believe such amount will ultimately be paid.
Should such amounts require payment in 1999, they will be classified as
additional goodwill.

F-23

<PAGE> 1
EXHIBIT 10.4(d)

[VENTANA MEDICAL SYSTEMS, INC. LETTERHEAD]

February 26, 1998

Mr. Jack W. Schuler
C/O Crabtree Partners
1419 Lake Cook Road
Suite 410
Deerfield, IL 60015

Dear Jack:

This letter is to confirm the extension for an additional two years of the
arrangement (the "Arrangement") under which you have agreed to devote a
significant portion of your professional working time to the business and
affairs of Ventana Medical Systems, Inc., ("Ventana" or the "Company").

Under the extension of the Arrangement, you would receive a grant of a
nonstatutory option to purchase 150,000 shares of Common Stock of the Company
at an exercise price of $12.625 per share, the fair market value of the
Company's Common Stock on the date that the extension of the Arrangement, as
well as the grant of these additional options, was approved by the Company's
Board of Directors. These options would vest on a cumulative monthly basis over
24 months commencing February 26, 1998; provided that during such 24 month
vesting period you devote, on a cumulative average basis, at least 50% of your
professional working time to matters related to the Company.

Please acknowledge your agreement with the foregoing by signing the
enclosed counterpart of this letter.

Very truly yours,

/s/ HANK PIETRASZEK
- -------------------
Hank Pietraszek
President & CFO

Acknowledged and agreed as of this 23rd day of April, 1998.

/s/ JACK W. SCHULER
-------------------------
Jack W. Schuler

<PAGE> 1
EXHIBIT 10.5(c)

[VENTANA MEDICAL SYSTEMS, INC. LETTERHEAD]

February 26, 1998

Mr. John Patience
C/O Crabtree Partners
1419 Lake Cook Road
Suite 410
Deerfield, IL 60015

Dear John:

Please acknowledge your agreement with the foregoing by signing the
enclosed counterpart of this letter.

Very truly yours,

/s/ HANK PIETRASZEK
- -------------------
Hank Pietraszek
President & CFO

Acknowledged and agreed as of this 26th day of February, 1998.

/s/ JOHN PATIENCE
-------------------------
John Patience

<PAGE> 1

EXHIBIT 10.20(a)

[BAND OF AMERICA LOGO] BUSINESS LOAN AGREEMENT

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

This Agreement dated as of June 9, 1998 is between Bank of America National
Trust and Savings Association (the "Bank") and Ventana Medical Systems, Inc.
(the "Borrower").

1. LINE OF CREDIT AMOUNT AND TERMS

1.1 LINE OF CREDIT AMOUNT.

(a) During the availability period described below, the Bank will provide a
line of credit to the Borrower. The amount of the line of credit (the
"Commitment") is Five Million and No/100 Dollars ($5,000,000.00).

(b) This is a revolving line of credit with a within line facility for letters
of credit. During the availability period, the Borrower may repay
principal amounts and reborrow them.

(c) The Borrower agrees not to permit the outstanding principal balance of the
line of credit plus the outstanding amounts of any letters of credit,
including amounts drawn on letters of credit and not yet reimbursed, to
exceed the Commitment.

1.2 AVAILABILITY PERIOD. The line of credit is available between the date of
this Agreement and May 31, 1999 (the "Expiration Date") unless the
Borrower is in default.

1.3 INTEREST RATE.

(a) Unless the Borrower elects an Optional interest rate as described below,
the interest rate is the Reference Rate.

(b) The Reference Rate is the rate of interest publicly announced from time to
time by the Bank in San Francisco, California, as its Reference Rate. The
Reference Rate is set by the Bank based on various factors, including the
Bank's costs and desired return, general economic conditions and other
factors, and is used as a reference point for pricing some loans. The Bank
may price loans to its customers at, above or below the Reference Rate.
Any change in the Reference Rate shall take effect at the opening of
business on the day specified in the public announcement of a change in
the Bank's Reference Rate.

1.4 REPAYMENT TERMS.

(a) The Borrower will pay interest on June 1, 1998 and on the first day of
each month thereafter until payment in full of any principal outstanding
under this line of credit.

(b) The Borrower will repay in full all principal and any unpaid interest or
other charges outstanding under this line of credit no later than the
Expiration Date.

(c) The Borrower may prepay the loan in full or in part at any time. The
prepayment will be applied to the most remote installment of principal due
under this Agreement.

1.5 OPTIONAL INTEREST RATES. Instead of the interest rate based on the
Reference Rate, the Borrower may elect to have all portions of the line of
credit (during the availability period) bear interest at the rate(s) described
below during an interest period agreed to by the Bank and the Borrower. Each
interest rate is a rate per year. Interest will be paid on the last day of each
interest period, and on the first day of each month during the interest period.
At the end of any interest period, the interest rate will revert to the rate
based on the Reference Rate, unless the Borrower has designated another
optional interest rate for the portion.

1
<PAGE> 2
1.6 FIXED RATE. The Borrower may elect to have all or portions of the
principal balance of the line of credit bear interest at the Fixed Rate, subject
to the following requirements:

(a) The "Fixed Rate" means the fixed interest rate the Bank and the Borrower
agree will apply to the portion during the applicable interest period.

(b) The interest period during which the Fixed Rate will be in effect will be
no shorter than 14 days and no longer than one year.

1.7 LIBOR RATE. The Borrower may elect to have all or portions of the
principal balance of the line of credit bear interest at the LIBOR Rate plus
1.75 percentage points.

Designation of a LIBOR Rate portion is subject to the following requirements:

(a) The interest period during which the LIBOR Rate will be in effect will be
one, two, three, four, five, six, seven, eight, nine, ten, eleven, or
twelve months. The last day of the interest period and the actual number of
days during the interest period will be determined by the Bank using the
practices of the London inter-bank market.

(b) Each LIBOR Rate portion will be for an amount not less than Five Hundred
Thousand Dollars ($500,000).

(c) THE "LIBOR Rate" means the interest rate determined by the following
formula, rounded upward to the nearest 1/100 of one percent. (All amounts
in the calculation will be determined by the Bank as of the first day of
the interest period.)

LIBOR = London Inter-Bank Offered Rate
------------------------------
(1.00 - Reserve Percentage)

Where,

(i) "London Inter-Bank Offered Rate" means the interest rate at which
the Bank's London Branch, London, Great Britain, would offer U.S.
dollar deposits for the applicable interest period to other major
banks in the London inter-bank market at approximately 11:00 a.m.
London time two (2) London Banking Days before the commencement of
the interest period. A "London Banking Day" is a day on which the
Bank's London Branch is open for business and dealing in offshore
dollars.

(ii) "Reserve Percentage" means the total of the maximum reserve
percentages for determining the reserves to be maintained by member
banks of the Federal Reserve System for Eurocurrency Liabilities, as
defined in the Federal Reserve Board Regulation D, rounded upward to
the nearest 1/100 of one percent. The percentage will be expressed
as a decimal, and will include, but not be limited to, marginal,
emergency, supplemental, special, and other reserve percentages.

(d) The Borrower shall irrevocably request a LIBOR Rate portion no later than
9:00 a.m. Phoenix time three (3) banking days before the commencement of
the interest period.

(e) The Borrower may not elect a LIBOR Rate with respect to any portion of the
principal balance of the line of credit which is scheduled to be repaid
before the last day of the applicable interest period.

(f) Any portion of the principal balance of the line of credit already bearing
interest at the LIBOR Rate will not be converted to a different rate during
its interest period.

(g) Each prepayment of a LIBOR Rate portion, whether voluntary, by reason of
acceleration or otherwise, will be accompanied by the amount of accrued
interest on the amount prepaid and a prepayment fee as described below. A
"prepayment", for the purposes of this paragraph, is a payment of an amount
on a date earlier than the scheduled payment date for such amount as
required by this Agreement. The prepayment fee shall be equal to the amount
(if any) by which:

<PAGE> 3
(i) the additional interest which would have been payable during the
interest period on the amount prepaid had it not been prepaid, exceeds

(ii) the interest which would have been recoverable by the Bank by placing
the amount prepaid on deposit in the domestic certificate of deposit
market, the eurodollar deposit market, or other appropriate money
market selected by the Bank, for a period starting on the date on
which it was prepaid and ending on the last day of the interest period
for such portion (or the scheduled payment date for the amount
prepaid, if earlier).

(h) The Bank will have no obligation to accept an election for a LIBOR Rate
portion if any of the following described events has occurred and is
continuing:

(i) Dollar deposits in the principal amount, and for periods equal to the
interest period, of a LIBOR Rate portion are not available in the
London inter-bank market; or

(ii) the LIBOR Rate does not accurately reflect the cost of a LIBOR Rate
portion.

1.8 OFFSHORE RATE. The Borrower may elect to have all or portions of the
principal balance of the line of credit bear interest at the Offshore Rate,
subject to the following requirements:

(a) The "Offshore Rate" means the interest rate the Bank and the Borrower
agree will apply to the portion during the applicable interest period.

(b) The interest period during which the Offshore Rate will be in effect will
be no shorter than 30 days and no longer than one year. The last day of the
interest period will be determined by the Bank using the practices of the
offshore dollar inter-bank market.

(d) The Borrower may not elect an Offshore Rate with respect to any portion of
the principal balance of the line of credit which is scheduled to be repaid
before the last day of the applicable interest period.

(e) Any portion of the principal balance of the line of credit already bearing
interest at the Offshore Rate will not be converted to a different rate
during its interest period.

(f) Each prepayment of an Offshore Rate portion, whether voluntary, by reason
of acceleration or otherwise, will be accompanied by the amount of accrued
interest on the amount prepaid, and a prepayment fee equal to the amount
(if any) by which;

(i) the additional interest which would have been payable on the amount
prepaid had it not been paid until the last day of the interest
period, exceeds

(ii) the interest which would have been recoverable by the Bank by placing
the amount prepaid on deposit in the offshore dollar market for a
period starting on the date on which it was prepaid and ending on the
last day of the interest period for such portion.

(g) The Bank will have no obligation to accept an election for an Offshore
Rate portion if any of the following described events has occurred and is
continuing:

(i) Dollar deposits in the principal amount, and for periods equal to the
interest period, of an Offshore Rate portion are not available in the
offshore Dollar inter-bank markets; or

(ii) The Offshore Rate does not accurately reflect the cost of an Offshore
Rate portion.

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<PAGE> 4
1.9 LETTERS OF CREDIT. This line of credit may be used for financing:

(a) Standby letters of credit with a maximum maturity of 365 days,

(b) The amount of letters of credit outstanding at any one time (including
amounts drawn on letters of credit and not yet reimbursed) may not exceed
Two Million and No/100 Dollars ($2,000,000.00) for standby letters of
credit.

THE BORROWER AGREES:

(a) Any sum drawn under a letter of credit may, at the option of the Bank, be
added to the principal amount outstanding under this Agreement. The amount
will bear interest and be due as described elsewhere in this Agreement.

(b) If there is a default under this Agreement, to immediately prepay and make
the Bank whole for any outstanding letters of credit.

(c) The issuance of any letter of credit and any amendment to a letter of
credit is subject to the Bank's written approval and must be in form and
content satisfactory to the Bank and in favor of a beneficiary acceptable
to the Bank.

(d) To sign the Bank's form Application and Agreement for Commercial Letter of
Credit or Application and Agreement for Standby Letter of Credit.

(e) To pay any issuance and/or other fees that the Bank notifies the Borrower
will be charged for issuing and processing letters of credit for the
Borrower.

(f) To allow the Bank to automatically charge its checking account for
applicable fees, discounts, and other changes.

2. FEES AND EXPENSES

2.1 FEES. (a) Unused Commitment Fee. The Borrower agrees to pay a fee on any
difference between the Commitment and the amount of credit it actually uses,
determined by the weighted average loan balance maintained during the specified
period. The fee will be calculated at 1/4% per year.

This fee is due on July 1, 1998 and on the 1st day of each following
quarter, until the expiration of the availability period.

2.2 EXPENSES. The Borrower agrees to immediately repay the Bank for expenses
that include, but are not limited to, filing, recording and search fees,
appraisal fees, title report fees, and documentation fees.

2.3 REIMBURSEMENT COSTS.

(a) The Borrower agrees to reimburse the Bank for any expenses it incurs in the
preparation of this Agreement and any agreement or instrument required by
this Agreement. Expenses include, but are not limited to, reasonable
attorneys' fees, including any allocated costs of the Bank's in-house
counsel.

(b) The Borrower agrees to reimburse the Bank for the cost of periodic audits
and appraisals of the personal property collateral securing this Agreement,
at such intervals as the Bank may reasonably require. The audits and
appraisals may be performed by employees of

3. COLLATERAL

3.1 PERSONAL PROPERTY. The Borrower's obligations to the Bank under this
Agreement will be secured by personal property the Borrower now owns or will own
in the future as listed below. The collateral is further defined in security
agreement(s) executed by the Borrower.

<PAGE> 5
In addition, all personal property collateral securing this Agreement shall
also secure all other present and future obligations of the Borrower to the
Bank (excluding any consumer credit covered by the federal Truth in Lending
law, unless the Borrower has otherwise agreed in writing). All personal
collateral securing any other present or future obligations of the Borrower to
the Bank shall also secure this Agreement.

(a) Machinery and equipment.

(b) Inventory.

(d) Patents, trademarks and other general intangibles.

4. DISBURSEMENTS, PAYMENTS AND COSTS

4.1 REQUESTS FOR CREDIT. Each request for an extension of credit will be made
in writing in a manner acceptable to the Bank, or by another means acceptable
to the Bank.

4.2 DISBURSEMENTS AND PAYMENTS. Each disbursement by the Bank and each payment
by the Borrower will be:

(a) made at the Bank's branch (or other location) elected by the Bank from
time to time;

(b) made for the account of the Bank's branch selected by the Bank from time
to time;

(d) evidenced by records kept by the Bank. In addition, the Bank may, at its
discretion, require the Borrower to sign one or more promissory notes.

4.3 TELEPHONE AND TELEFAX AUTHORIZATION

(a) The Bank may honor telephone or telefax instructions for advances or
repayments or for the designation of optional interest rates or the
issuance of letters of credit given by any one of the individual signer(s)
of this Agreement or a person or persons authorized in writing by any one
of the signer(s) of this Agreement.

(b) Advances will be deposited in, and repayments will be withdrawn from, the
Borrower's account number 252352864, or such other of the Borrower's
accounts with the Bank as designated in writing by the Borrower.

(c) The Borrower indemnifies and excuses the Bank (including its officers,
employees, and agents) from all liability, loss, and costs in connection
with any act resulting from telephone or telefax instructions it
reasonably believes are made by any individual authorized by the Borrower
to give such instructions. This indemnity and excuse will survive this
Agreement's termination.

4.4 DIRECT DEBIT (PRE-BILLING)

(a) The Borrower agrees that the Bank will debit the Borrower's account number
252352864, or such other of the Borrower's account with the Bank as
designated in writing by the Borrower (the "Designated Account") on the
date each payment of interest and any fees from the Borrower becomes due
(the "Due Date"). If the Due Date is not a banking day, the Designated
Account will be debited on the next banking day.

(b) Approximately 10 days prior to each Due Date, the Bank will mail to the
Borrower a statement of the amounts that will be due on that Due Date (the
"Billed Amount"). The calculation will be made on the assumption that no
new extensions of credit or payments will be made between the date of the
billing statement and the Due Date, and that there will be no changes in
the applicable interest rate.

(c) The Bank will debit the Designated Account for the Billed Amount,
regardless of the actual amount due on that date (the "Accrued Amount").
If the Billed Amount debited to the Designated Account differs from the
Accrued

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<PAGE> 6
Amount, the discrepancy will be treated as follows:

(i) If the Billed Amount is less than the Accrued Amount, the Billed
Amount for the following Due Date will be increased by the amount of
the discrepancy. The Borrower will not be in default by reason of any
such discrepancy.

(ii) If the Billed Amount is more than the Accrued Amount, the Billed
Amount for the following Due Date will be decreased by the amount of
the discrepancy.

Regardless of any such discrepancy, interest will continue to accrue based
on the actual amount of principal outstanding without compounding. The Bank
will not pay the Borrower interest on any overpayment.

(d) The Borrower will maintain sufficient funds in the Designated Account to
cover each debit. If there are insufficient funds in the Designated
Account on the date the Bank enters any debit authorized by this Agreement,
the debit will be reversed.

(e) The Borrower may terminate this direct debit arrangement at any time by
sending written notice to the Bank at the address specified at the end of
this Agreement.

4.5 BANKING DAYS. Unless otherwise provided in this Agreement, a banking day
is a day other than a Saturday or a Sunday on which the Bank is open for
business in Arizona. For amounts bearing interest at an offshore rate (if any),
a banking day is a day other than a Saturday or a Sunday on which the Bank is
open for business in California and is dealing in offshore dollars. All
payments and disbursements which would be due on a day which is not a banking
day will be due on the next banking day. All payments received on a day which
is not a banking day will be applied to the credit on the next banking day.

4.6 TAXES. The Borrower will not deduct any taxes from any payments it makes
to the Bank. If any government authority imposes any taxes on any payments made
by the Borrower, the Borrower will pay the taxes and will also pay to the Bank,
at the time interest is paid, any additional amount which the Bank specifies as
necessary to preserve the after-tax yield the Bank would have received if such
taxes had not been imposed. Upon request by the Bank, the Borrower will confirm
that it has paid the taxes by giving the Bank official tax receipts (or
notarized copies) within 30 days after the due date. However, the Borrower will
not pay the Bank's net income taxes.

4.7 ADDITIONAL COSTS. The Borrower will pay the Bank, on demand, for the
Bank's costs or losses arising from any statute or regulation, or any request
or requirement of a regulatory agency. The costs and losses will be allocated
to the loan in a manner determined by the Bank, using any reasonable method.
The costs include the following:

(a) Any reserve or deposit requirements; and

(b) Any capital requirements relating to the Bank's assets and commitments
for credit.

4.8 INTEREST CALCULATION. Except as otherwise stated in this Agreement, all
interest and fees, if any, will be computed on the basis of a 360-day year and
the actual number of days elapsed. This results in more interest or a higher
fee than if a 365-day year is used.

4.9 INTEREST ON LATE PAYMENTS. At the Bank's sole option in each instance, any
amount not paid when due under this Agreement (including interest) shall bear
interest from the due date at the Reference Rate plus 2.00 percentage points.
This may result in compounding of interest.

4.10 DEFAULT RATE. Upon the occurrence and during the continuation of any
default under this Agreement, advances under this Agreement will at the option
of the Bank bear interest at a rate per annum which is 3.00 percentage point(s)
higher than the rate of interest otherwise provided under this Agreement. This
will not constitute a waiver of any default.

5. CONDITIONS. The Bank must receive the following items, in form and content
acceptable to the Bank, before it is required to extend any credit to the
Borrower under this Agreement:

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<PAGE> 7
5.1 AUTHORIZATIONS. Evidence that the execution, delivery and performance by
the Borrower of this Agreement and any instrument or agreement required under
this Agreement have been duly authorized.

5.2 GOVERNING DOCUMENTS. A copy of the Borrower's articles of incorporation.

5.3 SECURITY AGREEMENTS. Signed original security agreements, assignments, and
financing statements (together with Collateral in which the bank requires a
possessory security interest), which the Bank requires.

5.4 EVIDENCE OF PRIORITY. Evidence that security interests and liens in favor
of the Bank are valid, enforceable, and prior to all others' rights and
interests, except those the Bank consents to in writing.

5.5 INSURANCE. Evidence of insurance coverage, as required in the "Covenants"
section of this Agreement.

5.6 ENVIRONMENTAL QUESTIONNAIRE. A completed Bank form Environmental
Questionnaire and Disclosure Statement, together with an environmental site
assessment concerning any potential toxic or hazardous condition.

5.7 OTHER ITEMS. Any other items that the Bank reasonably requires.

6. REPRESENTATIONS AND WARRANTIES. When the Borrower signs this Agreement, and
until the Bank is repaid in full, the Borrower makes the following
representations and warranties. Each request for an extension of credit
constitutes a renewed representation.

6.1 ORGANIZATION OF BORROWER. The Borrower is a corporation duly formed and
existing under the laws of the state where organized.

6.2 AUTHORIZATION. This Agreement, and any instrument or agreement required
hereunder, are within the Borrower's powers, have been duly authorized, and do
not conflict with any of its organizational papers.

6.3 ENFORCEABLE AGREEMENT. This Agreement, and each other agreement or
document executed and delivered to the Bank in connection with this Agreement,
is a legal, valid and binding agreement of the Borrower, enforceable against
the Borrower in accordance with its terms, and any instrument or agreement
required hereunder, when executed and delivered, will be similarly legal,
valid, binding and enforceable.

6.4 GOOD STANDING. In each state in which the Borrower does business, it is
properly licensed, in good standing, and, where required, in compliance with
fictitious name statutes.

6.5 NO CONFLICTS. This Agrement does not conflict with any law, agreement, or
obligation by which the Borrower is bound.

6.6 FINANCIAL INFORMATION. All financial and other information that has been,
or will be, supplied to the Bank is:

(a) Sufficiently complete to give the Bank accurate knowledge of the
Borrower's financial condition.

(b) In form and content required by the Bank.

6.7 LAWSUITS. There is no lawsuit, tax claim or other dispute pending or
threatened against the Borrower, which, if lost, would impair the Borrower's
financial condition or ability to repay the loan, except as have been disclosed
in writing to the Bank prior to the date of this Agreement.

6.8 COLLATERAL. All collateral required in this Agreement is owned by the
grantor of the security interest free of any title defects or any liens or
interests of others.

6.9 PERMITS, FRANCHISES. The Borrower possesses all permits, memberships,
franchises, contracts and licenses

<PAGE> 8

required and all trademark rights, trade name rights, patent rights and
fictitious name rights necessary to enable it to conduct the business in which
it is now engaged.

6.10 OTHER OBLIGATIONS. The Borrower is not in default on any obligation for
borrowed money, any purchase money obligation or any other material lease,
commitment, contract, instrument or obligation.

6.11 INCOME TAX RETURNS. The Borrower has no knowledge of any pending
assessments or adjustments of its income tax for any year.

6.12 NO EVENT OF DEFAULT. There is no event which is, or with notice or lapse
of time or both would be, a default under this Agreement.

6.13 LOCATION OF BORROWER. The Borrower's place of business (or, if the
Borrower has more than one place of business, its chief executive office) is
located at the address listed under the Borrower's signature on this Agreement.

6.14 REPRESENTATIONS CONCERNING THE YEAR 2000. The Borrower acknowledges that
it has received a copy of the brochure prepared by the Bank entitled "On Turning
00" and that it has reviewed this material and is aware of the possible impact
of the year 2000 problem (that is, the risk that computer applications may not
be able to properly perform date-sensitive functions after December 31, 1999)
upon its computer applications and ongoing business. The Borrower represents
that any corrective action necessary will be taken and that the Borrower does
not believe the year 2000 problem will result in a material adverse change in
the Borrower's business condition (financial or otherwise), operations,
properties or prospects, or ability to repay the credit.

7. COVENANTS The Borrower agrees, so long as credit is available under this
Agreement and until the Bank is repaid in full:

7.1 USE OF PROCEEDS. To use the proceeds of the credit only for working
capital needs.

7.2 FINANCIAL INFORMATION. To provide the following financial information and
statements and such additional information as requested by the Bank from time to
time:

(a) Within 90 days of the Borrower's fiscal year end, the Borrower's annual
financial statements. These financial statements must be audited (with an
unqualified opinion) by a Certified Public Accountant ("CPA") acceptable to
the Bank. The statements shall be prepared on a consolidated basis.

(b) Within 45 days of quarter end, copies of the Borrower's Form 10-Q
Quarterly Report.

(d) Within 45 days of each quarter end, the Borrower shall provide to the Bank
copies of statements from depository institutions or brokerage firms, or
other evidence acceptable to the Bank of the Borrower's liquid assets.

(e) Within 90 days of Borrower's fiscal year end, the Borrower shall provide
to the Bank a Compliance Certificate.

(f) Within 45 days of quarter end, the Borrower shall provide to the Bank a
Compliance Certificate.

7.3 QUICK RATIO. To maintain on a consolidated basis a ratio of quick assets
to current liabilities of at least 3.00:1.0, measured quarterly.

"Quick assets" means cash, short-term cash investments, net trade receivables
and marketable securities not classified as long-term investments.

7.4 MINIMUM LIQUIDITY. To maintain at all times, a minimum of at least Five
Million and No/100 Dollars ($5,000,000.00) in the form of Cash or Readily
Marketable Securities, measured quarterly.

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<PAGE> 9
7.5 TANGIBLE NET WORTH. To maintain on a consolidated basis tangible net worth
equal to at least Thirty One Million and No/100 Dollars ($31,000,000.00),
measured quarterly.

"Tangible net worth" means the gross book value of the borrower's assets
(excluding goodwill, patents, trademarks, trade names, organization expense,
treasury stock, unamortized debt discount and expense, deferred research and
development costs, deferred marketing expenses, developed technology, customer
lists and other like intangibles) less total liabilities, including but not
limited to accrued and deferred income taxes, and any reserves against assets.

7.6 TOTAL LIABILITIES TO TANGIBLE NET WORTH RATIO. To maintain on a
consolidated basis a ratio of Total Liabilities to Tangible Net Worth not
exceeding 0.50:1.0, measured quarterly.

"Total Liabilities" means the sum of current liabilities plus long term
liabilities.

7.7 PROFITABILITY. The Borrower, on a consolidated basis, shall incur no single
quarterly loss in excess of Five Hundred Thousand and No/100 Dollars
($500,000.00) and no two consecutive quarterly losses (excluding non-cash
expenses associated with acquisitions and write-downs of in-process technology).
The Borrower shall incur no fiscal year end loss in any amount (including
non-cash expenses associated with acquisitions and write-downs of in-process
technology).

7.8 OTHER DEBTS. Not to have outstanding or incur any direct or contingent
debts (other than those to the Bank), or become liable for the debts of others
without the Bank's written consent. This does not prohibit:

(a) Acquiring goods, supplies, or merchandise on normal trade credit.

(b) Endorsing negotiable instruments received in the usual course of business.

(d) Debts and lines of credit and leases in existence on the date of this
Agreement disclosed in writing to the Bank.

(e) Additional debts and lease obligations for business purposes which do not
exceed a total principal amount of One Million and No/100 Dollars
($1,000,000.00) outstanding at any one time.

7.9 OTHER LIENS. Not to create, assume, or allow any security interest or lien
(including judicial liens) on property the Borrower now or later owns, except:

(a) Deeds of trust and security agreements in favor of the Bank.

(b) Liens for taxes not yet due.

(d) Additional purchase money security interests in personal or real property
acquired after the date of this Agreement, if the total principal amount of
debts secured by such liens does not exceed One Million and No/100 Dollars
($1,000,000.00) at any one time.

7.10 CAPITAL EXPENDITURES. Not to spend or incur obligations for more than Three
Million and No/100 Dollars ($3,000,000.00) in any single fiscal year to acquire
fixed or capital assets.

7.11 DIVIDENDS. Not to declare or pay any dividends on any of its shares except
dividends payable in capital stock of the Borrower, and not to purchase, redeem
or otherwise acquire for value any of its shares, or create any sinking fund in
relation thereto.

7.12 OUT OF DEBT PERIOD. To repay any advances in full, and not to draw any
additional advances on its revolving line of credit, for two periods of at least
30 consecutive days, one in each semi-annual period of the line-year.
"Line-year" means the period between the date of this Agreement and May 31,
1999, and each subsequent one-year

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<PAGE> 10
period (if any).

7.13 NOTICES TO BANK. To promptly notify the Bank in writing of:

(a) Any lawsuit over Five Hundred Thousand and No/100 Dollars ($500,000.00)
against the Borrower.

(b) Any substantial dispute between the Borrower and any government authority.

(d) Any material adverse change in the Borrower's financial condition or
operations.

(e) Any change in the Borrower's name, legal structure, place of business, or
chief executive office if the Borrower has more than one place of
business.

7.14 BOOKS AND RECORDS. To maintain adequate books and records.

7.15 AUDITS. To allow the Bank and its agents to inspect the Borrower's
properties and examine, audit, and make copies of books and records at any
reasonable time. If any of the Borrower's properties, books or records are in
the possession of a third party, the Borrower authorizes that third party to
permit the Bank or its agents to have access to perform inspections or audits
and to respond to the Bank's requests for information concerning such
properties, books and records.

7.16 COMPLIANCE WITH LAWS. To comply with the laws, (including any fictitious
name statute), regulations, and orders of any government body with authority
over the Borrower's business.

7.17 PRESERVATION OF RIGHTS. To maintain and preserve all rights, privileges,
and franchises the Borrower now has.

7.18 MAINTENANCE OF PROPERTIES. To make any repairs, renewals, or
replacements to keep the Borrower's properties in good working condition.

7.19 PERFECTION OF LIENS. To help the Bank perfect and protect its security
interests and liens, and reimburse it for related costs it incurs to protect
its security interests and liens.

7.20 COOPERATION. To take any action requested by the Bank to carry out the
intent of this Agreement.

7.21 INSURANCE.

(a) INSURANCE COVERING COLLATERAL. To maintain all risk property damage
insurance policies covering the tangible property comprising the
collateral. Each insurance policy must be in an amount acceptable to the
Bank. The insurance must be issued by an insurance company acceptable to
the Bank and must include a lender's loss payable endorsement in favor of
the Bank in a form acceptable to the Bank.

(b) GENERAL BUSINESS INSURANCE. To maintain insurance satisfactory to the
Bank as to amount, nature and carrier covering property damage (including
loss of use and occupancy) to any of the Borrower's properties, public
liability insurance including coverage for contractual liability, product
liability and workers' compensation, and any other insurance which is
usual for the Borrower's business.

(c) EVIDENCE OF INSURANCE. Upon the request of the Bank, to deliver to the
Bank a copy of each insurance policy or, if permitted by the Bank, a
certificate of insurance listing all insurance in force.

7.22 ADDITIONAL NEGATIVE COVENANTS. Not to, without the Bank's written
consent:

(a) Engage in any business activities substantially different
from the Borrower's present business.

(b) Liquidate or dissolve the Borrower's business.

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<PAGE> 11
Bank consent will include proforma financial statements demonstrating
covenant compliance. Credit taker's stockholders shall own at least 60% of
the outstanding voting securities of the surviving entity or its parent.

(d) Lease, or dispose of all or a substantial part of the Borrower's business
or the Borrower's assets.

(e) Acquire or purchase a business or its assets, except for unfinanced
acquisitions that do not exceed Five Million and No/100 Dollars
($5,000,000.00) in the aggregate in any calendar year, provided Borrower is
in and will continue to be in compliance with all other terms and
conditions of the Loan Agreement.

(f) Sell or otherwise dispose of any assets for less than fair market value or
enter into any sale and leaseback agreement covering any of its fixed or
capital assets.

(g) Voluntarily suspend its business.

7.23 ERISA PLANS. To give prompt written notice to the Bank of:

(a) The occurrence of any reportable event under Section 4043(b) of ERISA for
which the PBGC requires 30 day notice.

(b) Any action by the Borrower to terminate or withdraw from a Plan or the
filing of any notice of intent to terminate under Section 4041 of ERISA.

(d) The commencement of any proceeding with respect to a Plan under Section
4042 of ERISA.

8. HAZARDOUS WASTE. The Borrower will indemnify and hold harmless the Bank
from any loss or liability directly or indirectly arising out of the use,
generation, manufacture, production, storage, release, threatened release,
discharge, disposal or presence of a hazardous substance. This indemnity will
apply whether the hazardous substance is on, under or about the Borrower's
property or operations or property leased to the Borrower. The indemnity
includes but is not limited to attorneys' fees (including the reasonable
estimate of the allocated cost of in-house counsel and staff). The indemnity
extends to the Bank, its parent, subsidiaries and all of their directors,
officers, employees, agents, successors, attorneys and assigns. For these
purposes, the term "hazardous substances" means any substance which is or
becomes designated as "hazardous" or "toxic" under any federal, state or local
law. This indemnity will survive repayment of the Borrower's obligations to the
Bank.

9. DEFAULT. If any of the following events occur, the Bank may do one or more
of the following: declare the Borrower in default, stop making any additional
credit available to the Borrower, and require the Borrower to repay its entire
debt immediately and without prior notice. If an event of default occurs under
the paragraph entitled "Bankruptcy" below with respect to the Borrower, the
entire debt outstanding under this Agreement will automatically be due
immediately.

9.1 FAILURE TO PAY. The Borrower fails to make a payment under this Agreement
when due.

9.2 LIEN PRIORITY. The Bank fails to have an enforceable first lien (except
for any prior liens to which the Bank has consented in writing) on or security
interest in any property given as security for the extensions of credit under
this Agreement.

9.3 FALSE INFORMATION. The Borrower has given the Bank false or misleading
information or representations.

9.4 BANKRUPTCY. The Borrower files a bankruptcy petition, a bankruptcy
petition is filed against the Borrower, or the Borrower makes a general
assignment for the benefit of creditors.

9.5 RECEIVERS. A receiver or similar official is appointed for the Borrower's
business, or the business is terminated.

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<PAGE> 12
9.6 JUDGMENTS. Any judgments or arbitration awards are entered against the
Borrower, or the Borrower enters into any settlement agreements with respect to
any litigation or arbitration, in an aggregate amount of One Million and
No/100 Dollars ($1,000,000.00) or more in excess of any insurance coverage.

9.7 GOVERNMENT ACTION. Any government authority takes action that the Bank
believes materially adversely affects the Borrower's financial condition or
ability to repay.

9.8 MATERIAL ADVERSE CHANGE. A material adverse change occurs in the
Borrower's financial condition, properties or prospects, or ability to repay
the extensions of credit under this Agreement.

9.9 CROSS-DEFAULT. Any default occurs under any agreement in connection with
any credit the Borrower has obtain from anyone else or which the Borrower has
guaranteed.

9.10 DEFAULT UNDER RELATED DOCUMENTS. Any guaranty, subordination agreement,
security agreement, deed of trust, or other document required by this Agreement
is violated or no longer in effect.

9.11 OTHER BANK AGREEMENTS. The Borrower fails to meet the conditions of, or
fails to perform any obligation under any other agreement the Borrower has with
the Bank or any affiliate of the Bank.

9.12 ERISA PLANS. The occurrences of any one or more of the following events
with respect to the Borrower, provided such event or events could reasonably
be expected, in the judgment of the Bank, to subject the Borrower to any tax,
penalty or liability (or any combination of the foregoing) which, in the
aggregate, could have a material adverse effect on the financial condition of
the Borrower with respect to a Plan:

(a) A reportable event shall occur with respect to a Plan which is, in the
reasonable judgment of the Bank, likely to result in the termination of
such Plan for purposes of Title IV of ERISA.

(b) Any Plan termination (or commencement of proceedings to terminate a Plan)
or the Borrower's full or partial withdrawal from a Plan.

9.13 OTHER BREACH UNDER AGREEMENT. The Borrower fails to meet the conditions of,
or fails to perform any obligation under, any term of this Agreement not
specifically referred to in this Article. If, in the Bank's opinion, the breach
is capable of being remedied, then the breach will not be considered an event of
default under this Agreement for a period of ten (10) days after the date on
which the Bank gives written notice of the breach to the Borrower; provided,
however, that the Bank will not be obligated to extend any additional credit to
the Borrower during that period.

10. ENFORCING THIS AGREEMENT; MISCELLANEOUS

10.1 GAAP. Except as otherwise stated in this Agreement, all financial
information provided to the Bank and all financial covenants will be made under
generally accepted accounting principles, consistently applied.

10.2 ARIZONA LAW. This Agreement is governed by Arizona law.

10.3 SUCCESSORS AND ASSIGNEES. This Agreement is binding on the Borrower's and
the Bank's successors and assignees. The Borrower agrees that it may not assign
this Agreement without the Bank's prior consent. The Bank may sell
participations in or assign this loan, and may exchange financial information
about the Borrower with actual or potential participants or assignees. If a
participation is sold or the loan is assigned, the purchaser will have the right
of set-off against the Borrower.

10.4 ARBITRATION

(a) This paragraph concerns the resolution of any controversies or claims
between the Borrower and the Bank including, but not limited to, those that
arise from:

(i) This Agreement (including any renewals, extensions or modifications of
this Agreement);

(ii) Any document, agreement or procedure related to, or delivered in
connection with this Agreement;

<PAGE> 13
(iii) Any violation of this Agreement; or

(iv) Any claims for damages resulting from any business
conducted between the Borrower and the Bank, including
claims for injury to persons, property or business interest
(torts).

(b) At the request of the Borrower or the Bank, any such controversies or
claims will be settled by arbitration in accordance with the United States
Arbitration Act. The United States Arbitration Act will apply even though
this Agreement provides that it is governed by Arizona law.

(c) Arbitration proceedings will be administered by the American Arbitration
Association and will be subject to its commercial rules of arbitration.

(d) For purposes of the application of the statute of limitations, the filing
of an arbitration pursuant to this paragraph is the equivalent of the
filing of a lawsuit, and any claim or controversy which may be arbitrated
under this paragraph is subject to any applicable statute of limitations.
The arbitrators will have the authority to decide whether any such claim
or controversy is barred by the statute of limitations and, if so, to
dismiss the arbitration on that basis.

(e) If there is a dispute as to whether an issue is arbitrable, the
arbitrators will have the authority to resole any such dispute.

(f) The decision that results from an arbitration proceeding may be submitted
to any authorized court of law to be confirmed and enforced.

(g) This provision does not limit the right of the Borrower or the Bank to:

(i) Exercise self-help remedies such as setoff;

(ii) Foreclose against or sell any real or personal property collateral;
or

(iii) Act in a court of law, before, during or after the arbitration
proceeding to obtain:

(A) an interim remedy; and/or

(B) additional or supplementary remedies.

(h) The pursuit of or a successful action for interim, additional or
supplementary remedies, or the filing of a court action, does not
constitute a waiver of the right of the Borrower or the Bank, including the
suing party, to submit the controversy or claim to arbitration if the
other party contests the lawsuit.

(i) If the Bank forecloses against any real property securing this Agreement,
the Bank has the option to exercise the power of sale under the deed of
trust or mortgage, or to proceed by judicial foreclosure.

10.5 SEVERABILITY; WAIVERS. If any part of this Agreement is not enforceable,
the rest of the Agreement may be enforced. The Bank retains all rights, even if
it makes a loan after default. If the Bank waives a default, it may enforce a
later default. Any consent or waiver under this Agreement must be in writing.

10.6 ADMINISTRATION COSTS. The Borrower shall pay the Bank for all reasonable
costs incurred by the Bank in connection with administering this Agreement.

10.7 ATTORNEYS' FEES. The Borrower shall reimburse the Bank for any reasonable
costs and attorneys' fees incurred by the Bank in connection with the
enforcement or preservation of any rights or remedies under this Agreement and
any other documents executed in connection with this Agreement, and including
any amendment, waiver, "workout" or restructuring under this Agreement. In the
event of a lawsuit or arbitration proceeding, the prevailing party is entitled
to recover costs and reasonable attorneys' fees incurred in connection with the
lawsuit or arbitration proceeding, as determined by the court or arbitrator. As
used in this paragraph, "attorneys' fees" includes

13
<PAGE> 14
the allocated costs of in-house counsel.

10.8 ONE AGREEMENT. This Agreement and any related security or other
agreements required by this Agreement, collectively:

(a) Represent the sum of the understandings and agreements between the Bank
and the Borrower concerning this credit; and

(b) Replace any prior oral or written agreements between the Bank and the
Borrower concerning this credit; and

(c) Are intended by the Bank and the Borrower as the final, complete and
exclusive statement of the terms agreed to by them.

In the event of any conflict between this Agreement and any other agreements
required by this Agreement, this Agreement will prevail.

10.9 EXCHANGE OF INFORMATION. The Borrower agrees that the Bank may exchange
financial information about the Borrower with BankAmerica Corporation affiliates
and other related entities.

10.10 USURY LAWS. This paragraph covers the transactions described in this
Agreement and any other agreements with the Bank or its affiliates executed in
connection with this Agreement, to the extent they are subject to the Arizona
usury laws (the "Transactions"). The Borrower understands and believes that the
Transactions comply with the Arizona usury laws. However, if any interest or
other charges paid or payable in connection with the Transactions are ever
determined to exceed the maximum amount permitted by law, the Borrower agrees
that:

(a) The amount of interest or other charges payable by the Borrower pursuant
to the Transactions shall be reduced to the maximum amount permitted by
law; and

(b) Any excess amount previously collected from the Borrower in connection
with the Transactions which exceeded the maximum amount permitted by law
will be credited against the then outstanding principal balance. If the
outstanding principal balance has been repaid in full, the excess amount
paid will be refunded to the Borrower.

All fees, charges, goods, things in action or any other sums or things of value,
other than interest at the interest rate described in this Agreement, paid or
payable by the Borrower (collectively the "Additional Sums"), that may be deemed
to be interest with respect to the Transactions, shall, for the purposes of any
laws of the State of Arizona that may limit the maximum amount of interest to be
charged with respect to the Transactions, be payable by Borrower as, and shall
be deemed to be, additional interest. For such purposes only, the agreed upon
and "contracted for rate of interest" of the Transactions shall be deemed to be
increased by the rate of interest resulting from the Additional Sums.

10.11 NOTICES. All notices required under this Agreement shall be personally
delivered or sent by first class mail, postage prepaid, to the addresses on the
signature page of this Agreement, or to such other addresses as the Bank and the
Borrower may specify from time to time in writing.

10.12 HEADINGS. Article and paragraph headings are for reference only and
shall not affect the interpretation or meaning of any provisions of this
Agreement.

<PAGE> 15
This Agreement is executed as of the date stated at the top of the first page.

BANK OF AMERICA NATIONAL TRUST AND SAVINGS VENTANA MEDICAL SYSTEMS, INC.
ASSOCIATION

/s/ SEAN DICKES /s/ PIERRE SICE
- ---------------------------------- ------------------------------
By: Sean Dickes, Vice President By: Pierre Sice, Vice President,
Chief Financial Officer

Address where notices to the Bank Address where notices to the
are to be sent Borrower are to be sent

Tucson Commercial, #2322 3865 N. Business Center Drive
33 North Stone, 6th Floor Tucson, Arizona 85705
Tucson, Arizona 85701

<PAGE> 1
EXHIBIT 10.20(b)

[BANK OF AMERICA LOGO]
AMENDMENT TO DOCUMENTS
- --------------------------------------------------------------------------------

FIRST AMENDMENT TO BUSINESS LOAN AGREEMENT

This First Amendment to Business Loan Agreement is entered into as of October
1, 1998, between Bank of America National Trust and Savings Association
("Bank") and Ventana Medical Systems, Inc. ("Borrower").

RECITALS

A. WHEREAS, Bank and Borrower have entered into that certain Business Loan
Agreement dated June 9, 1998, (the "Agreement"); and

B. WHEREAS, Borrower and Bank desire to amend certain terms and provisions of
said Agreement as more specifically hereinafter set forth.

AGREED

NOW, THEREFORE, in consideration of the foregoing recitals, Bank and Borrower
mutually agree to amend said Agreement as follows:

1. Paragraph 7.11 (Dividends) of the Agreement, is amended in the entirety to
read as follows:

7.11 DIVIDENDS. Not to declare or pay any dividends on any of its shares
except dividends payable in capital stock of the Borrower. The Borrower not
to purchase, redeem or otherwise acquire for value any of its shares of
common stock currently held in the open market, or create any sinking fund
in relation thereto, in an amount exceeding 750,000 shares of common stock.

This amendment will become effective as of October 1, 1998, the ("Effective
Date"), provided that each of the following conditions precedent have been
satisfied:

The Bank has received from the Borrower's duly executed original of this
Amendment.

Except as provided in this Amendment, all of the terms and provisions of the
Agreement shall remain in full force and effect.

This Amendment shall be effective between the parties as of the date hereof.
The Agreement as amended hereby, shall hereinafter constitute the Agreement
between the parties.

1
<PAGE> 2
IN WITNESS WHEREOF, this Amendment has been executed by the parties hereto as of
the date first written above.

BANK OF AMERICA NATIONAL TRUST AND SAVINGS VENTANA MEDICAL SYSTEMS, INC.
ASSOCIATION

/s/ SEAN DICKES /s/ PIERRE SICE
- ---------------------------------- ------------------------------
By: Sean Dickes, Vice President By: Pierre Sice, Vice President,
Chief Financial Officer

<PAGE> 1
EXHIBIT 10.20(c)

[LOGO] BANK OF AMERICA AMENDMENT TO DOCUMENTS

================================================================================

SECOND AMENDMENT TO BUSINESS LOAN AGREEMENT

This Second Amendment to Business Loan Agreement is entered into as of March 17,
1999, between Bank of America National Trust and Savings Association ("Bank")
and Ventana Medical Systems, Inc. ("Borrower").

RECITALS

A. WHEREAS, Bank and Borrower have entered into that certain Business Loan
Agreement dated June 9, 1998, and amended on October 1, 1998 (collectively the
"Agreement"): and

B. WHEREAS, Borrower and Bank desire to amend certain terms and provisions of
said Agreement as more specifically hereinafter set forth.

AGREED

NOW, THEREFORE, in consideration of the foregoing recitals, Bank and Borrower
mutually agree to amend said Agreement as follows:

1. In paragraph 1.1 (a) (Line of Credit Amount) of the Agreement, the amount
"Ten Million and No/100 Dollars ($10,000,000.00)" is substituted for the
amount "Five Million and No/100 Dollars ($5,000,000.00)".

2. In Paragraph 1.2 (Availability Period) of the Agreement, the date "March
31, 2000" is substituted for the date "May 31, 1999".

3. The second sentence in Paragraph 2.1 (a) (Unused Commitment Fee) of the
Agreement is amended and restated in its entirety to read as follows:

The fee will be calculated at 1/2% per year.

4. Paragraph 7.3 (Quick Ratio) of the Agreement is amended and restated in
its entirety to read as follows:

7.3 QUICK RATIO. To maintain on a consolidated basis a ratio of quick
assets to current liabilities of at least the amounts indicated for each
period specified below to be measured quarterly:

PERIOD RATIO
------ -----

From the date herein through
March 31, 1999 1.60:1.0

April 1, 1999 and thereafter 1.75:1.0

"Quick assets" means cash, short-term cash investments, net trade
receivables and marketable securities not classified as long-term
investments.

<PAGE> 2
5. Paragraph 7.4 (Minimum Liquidity) of the Agreement is amended and restated
in its entirety to read as follows:

7.4 MINIMUM LIQUIDITY. To maintain a minimum of at least Two Million and
No/100 Dollars ($2,000,000.00) in the form of Cash or Readily Marketable
Securities, measured quarterly.

6. In Paragraph 7.10 (Capital Expenditures) of the Agreement, the amount
"Three Million Five Hundred Thousand and No/100 Dollars ($3,500,000.00)" is
substituted for the amount "Three Million and No/1000 Dollars
($3,000,000.00)".

7. In Paragraph 7.12 (Out of Debt Period) of the Agreement is amended and
restated in its entirety to read as follows:

7.12 OUT OF DEBT PERIOD. To repay any advances in full, and not to draw
any additional advances on its revolving line of credit, for a period of
at least 30 consecutive days in each semi-annual period ending September
30th and March 31st of each year. For the purposes of this paragraph,
"advances" does not include undrawn amounts of outstanding letters of
credit.

The Amendment will become effective on March 17, 1999 (the "Effective Date"),
provided that each of the following conditions precedent have been satisfied:

The Bank has received from the Borrower a duly executed original of this
Amendment.

The Bank has received from the Borrower a duly executed Corporate
Resolution in the amount of "Ten Million and No/100 Dollars
($10,000,000.00)".

Except as provided in this Amendment, all of the terms and provisions of the
Agreement shall remain in full force and effect.

This Amendment shall be effective between the parties as of the date hereof.
The Agreement, as amended hereby, shall hereinafter constitute the Agreement
between the parties.

IN WITNESS WHEREOF, the Amendment has been executed by the parties hereto as of
the date first written above.

Bank of America National Trust and Savings Ventana Medical Systems, Inc.
Association

/s/ KEVIN GILLETTE /s/ PIERRE SICE
- ------------------------------ ----------------------------
Kevin Gillette, Vice President Pierre Sice, Vice President,
Chief Financial Officer

<PAGE> 1

Exhibit 23.1

CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS

We consent to the incorporation by reference in the Registration Statement
(Form S-8 No. 333-16707) pertaining to the registration of the 1996 Stock
Option Plan, 1996 Director Option Plan, 1988 Stock Option Plan, and 1996
Employee Stock Purchase Plan of Ventana Medical Systems, Inc. of our report
dated February 2, 1999, with respect to the financial statements of Ventana
Medical Systems, Inc. included in this Annual Report (Form 10-K) for the year
ended December 31, 1998.

Our audits also included the financial statement schedule of Ventana Medical
Systems, Inc. listed in Item 14(a). This schedule is the responsibility of the
Company's management. Our responsibility is to express an opinion based on our
audits. In our opinion, the financial statement schedule referred to above,
when considered in relation to the basic financial statements taken as a whole,
presents fairly in all material respects the information set forth therein.

/s/ ERNST & YOUNG LLP

Tucson, Arizona
March 24, 1999

<ARTICLE> 5
<MULTIPLIER> 1,000

<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 2,424
<SECURITIES> 0
<RECEIVABLES> 17,225
<ALLOWANCES> 694
<INVENTORY> 11,009
<CURRENT-ASSETS> 31,751
<PP&E> 15,696
<DEPRECIATION> 5,759
<TOTAL-ASSETS> 56,280
<CURRENT-LIABILITIES> 8,589
<BONDS> 0
0
0
<COMMON> 13
<OTHER-SE> 45,771
<TOTAL-LIABILITY-AND-EQUITY> 56,280
<SALES> 47,704
<TOTAL-REVENUES> 47,704
<CGS> 14,542
<TOTAL-COSTS> 14,542
<OTHER-EXPENSES> 32,621
<LOSS-PROVISION> 392
<INTEREST-EXPENSE> 114
<INCOME-PRETAX> 1,630
<INCOME-TAX> 0
<INCOME-CONTINUING> 1,630
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,630
<EPS-PRIMARY> 0.12<F1>
<EPS-DILUTED> 0.11
<FN>
<F1>For purposes of this exhibit, primary means basic.
</FN>

</TABLE>