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                       SECURITIES AND EXCHANGE COMMISSION

                             WASHINGTON, D.C. 20549
                                    FORM 10-K

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

              ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
                         SECURITIES EXCHANGE ACT OF 1934

FOR THE FISCAL YEAR ENDED DECEMBER 31, 2000       COMMISSION FILE NUMBER 0-19771

                          DATA SYSTEMS & SOFTWARE INC.
               (Exact name of registrant as specified in charter)

               DELAWARE                                 22-2786081
    (STATE OR OTHER JURISDICTION OF         (I.R.S. EMPLOYER IDENTIFICATION NO.)
     INCORPORATION OR ORGANIZATION)

    200 ROUTE 17, MAHWAH, NEW JERSEY                      07430
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)                (ZIP CODE)

               REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE
                                 (201) 529-2026

        SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE

           SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
                     COMMON STOCK, PAR VALUE $.01 PER SHARE
                          COMMON STOCK PURCHASE RIGHTS
                              (Title of each 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 disclosure of delinquent  filers pursuant to Item
405 of 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. [ ]

     The aggregate  market value of the common stock held by  non-affiliates  of
the registrant at March 26, 2001 was approximately $31.2 million.  The aggregate
market value was calculated by using the closing price of the stock on that date
on the Nasdaq National Market.

     Number of shares outstanding of the registrant's common stock, as of March
26, 2001: 7,044,687.

                      DOCUMENTS INCORPORATED BY REFERENCE:

     Certain sections of the  registrant's  Proxy Statement to be filed pursuant
to Regulation 14A under the  Securities  Exchange Act of 1934 within 120 days of
the end of the registrant's  fiscal year are incorporated by reference into Part
III of this Form 10-K.

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                                TABLE OF CONTENTS
                                                                            PAGE

                                     PART I

Item 1     Business .......................................................    1

Item 2     Properties .....................................................    7

Item 3     Legal Proceedings. .............................................    7

Item 4     Submission of Matters to a Vote of Security Holders. ...........    7

                                     PART II

Item 5     Market for Registrant's Common Equity and
             Related Stockholder Matters. .................................    8

Item 6     Selected Financial Data. .......................................    8

Item 7     Management's Discussion and Analysis of
             Financial Condition and Results of Operations ................   10

Item 7A    Quantitative and Qualitative Disclosures About Market Risk......   16

Item 8     Financial Statements and Supplementary Data. ...................   16

Item 9     Changes in and Disagreements with Accountants
             on Accounting and Financial Disclosure .......................   16

                                    PART III

Item 10    Directors and Executive Officers of the Registrant. ............   17

Item 11    Executive Compensation. ........................................   17

Item 12    Security Ownership of Certain Beneficial
             Owners and Management ........................................   17

Item 13    Certain Relationships and Related Party Transactions ...........   17

                                     PART IV

Item 14    Exhibits, Financial Statement Schedules,
             and Reports on Form 8-K. .....................................   17

   Certain  statements  contained in this report are  forward-looking in nature.
These  statements  can be identified by the use of  forward-looking  terminology
such as "believes,"  "expects," "may," "will," "should" or "anticipates," or the
negatives thereof, or comparable terminology, or by discussions of strategy. You
are cautioned that our business and operations are subject to a variety of risks
and uncertainties  and,  consequently,  our actual results may materially differ
from those projected by any  forward-looking  statements.  Certain of such risks
and   uncertainties   are   discussed   below   under  the   heading   "Item  1.
Business-Factors That May Affect Future Results."


                                     PART I

ITEM 1. BUSINESS

OVERVIEW

   Data Systems & Software Inc., through its subsidiaries in the United States
and Israel, is engaged in the following businesses:

   o providing consulting and development services for computer software and
     systems;

   o developing and marketing load control and data communications solutions for
      electric utilities; and

   o serving as an authorized dealer and a value-added-reseller (VAR) of
     computer hardware.

   In January 2000 we disposed of our equity  investment in Tower  Semiconductor
Ltd. ("Tower"), a manufacturer of semiconductors.

CONSULTING AND DEVELOPMENT SERVICES

SERVICES

   Through  our  subsidiaries,   Decision  Systems  Israel  ("DSI  Israel")  and
International  Data Operations  (IDO), we provide computer  software and systems
consulting,  development and integration services,  primarily to high technology
customers in Israel and the United States.  Our principal area of  technological
expertise is state-of-the-art  hardware with embedded real-time software systems
in a wide variety of applications, including telecommunications,  digital signal
processing,  image  processing and software  testing and validation,  electronic
warfare, simulation and electro-optics.

   We provide our services either on a time-and-materials  or fixed-price basis.
When working on a time-and-materials  basis, our software and systems engineers,
programmers  and  technicians  are generally sent to the customer's  premises to
perform design and development  activities  under the customer's  direction.  In
these  engagements,  our personnel  typically  have no specific  obligation  for
product  delivery.  During 1998, 1999 and 2000,  sales  attributable to services
provided on a  time-and-materials  basis were $15.6  million,  $15.2 million and
$14.2 million,  respectively,  accounting for approximately  83%, 81% and 75% of
segment sales for such years, respectively.

   When working on a  fixed-price  basis,  we  undertake to deliver  software or
hardware/software solutions to a customer's specifications or requirements for a
particular    project.    We    account    for    these    services    on    the
percentage-of-completion  method.  As the profit  margins on these  projects are
primarily  determined by our success in controlling  project costs, such margins
may vary substantially as a result of various factors, including underestimating
costs,  difficulties  with new  technologies and economic and other changes that
may occur during the term of the contract. During 1998, 1999 and 2000 sales from
fixed-price  contracts  were  $3.3  million,  $3.6  million  and  $4.8  million,
respectively, accounting for approximately 17%, 19% and 25% of segment sales for
such years, respectively.

CUSTOMERS AND MARKETS

   Israel has historically  been the primary area of this segment's  operations,
accounting  for  78%,  77% and 82% of  segment  sales in  1998,  1999 and  2000,
respectively.  We have developed a diverse  customer base, such that in 2000 one
customer  accounted for 15% of segment revenues and no other customer  accounted
for more than 7% of segment revenues.

COMPETITION

   Our  consulting  and  development  services  segment faces  competition  from
numerous competitors,  both large and small, operating in the Israeli and United
States  markets,   some  with  substantially  greater  financial  and  marketing
resources.  In addition to competing for  customers,  we are also competing with
other consulting companies and with our customers to obtain qualified personnel,
due to a shortage of  qualified  engineers in Israel and the United  States.  We
believe that our wide range of experience and long-term relationships with large
corporations  in  Israel  and  the  United  States  will  enable  us to  compete
successfully and obtain future business.

PROPRIETARY RIGHTS

   The   intellectual   property  rights   resulting  from  our  consulting  and
development services,  generally are owned by the customer for whom the services
are performed.  As a result, we have no capitalized  software to be sold, leased
or otherwise marketed.

UTILITY SOLUTIONS

   Through our Comverge Technologies subsidiary, we design, develop and market a
variety of load  control  and data  communications  solutions  for the  electric
utility  market.   The  electric  utility  industry  is  increasingly   adopting
communications and control solutions in response to the need to obtain real-time
usage  information  and  more  efficiently  and  cost-effectively   manage  peak
electricity demand. Our load con-


trol solutions  allow  electric  companies to reduce usage or "shed load" during
peak usage periods, such as the summer air conditioning season, thereby reducing
or eliminating the need to buy costly  additional  power on the spot market,  or
invest in new  generation  capacity.  This solution is both  cost-effective  and
environmentally  superior to building new generation  capabilities.  Our two-way
data  communications  solutions allow utilities to gather and transmit real-time
usage  information,  and  can be  used  for  automated  meter  reading,  support
time-of-use  metering,  theft  detection,  remote  connect/disconnect  and other
value-added services.

HISTORY

   Since  1992,  we  have  been  designing,  developing  and  marketing  two-way
interactive  communications  solutions that provide real-time,  remote automated
meter   reading   ("AMR")  and  data   management   capabilities   to  utilities
internationally.  We developed state-of-the-art,  high-speed, power line carrier
technology  and have  deployed  pilot  systems in Thailand,  Taiwan,  Venezuela,
Argentina, Israel and Mexico.

   Shortly after its formation in 1998,  Comverge  acquired  certain  assets and
licenses to intellectual  property from Lucent Technologies'  Utilities Solution
business division.  The licensed technology relates to a product, which had been
deployed by Lucent at Public  Service  Electric and Gas using a two-way cable TV
system and at Duke Power using an Internet-based  wireless network.  A number of
the employees  who were involved in developing  this product are now employed by
Comverge.

   In  August   1999,   Comverge   purchased   the   assets  and   business   of
Scientific-Atlanta's Control Systems business division, acquiring the division's
load control and gateway  product  lines and hiring a number of  employees  from
this division.

   Comverge's  headquarters and marketing and sales divisions operate out of New
Jersey, its engineering and product  manufacturing  facility is in Atlanta,  and
its research center is in Israel.

PRODUCTS AND SERVICES

   By building on the  technology  and expertise  developed by our subsidiary in
Israel,  combined  with our strategic  acquisitions  of  technology,  personnel,
contracts and customer base from Lucent and Scientific-Atlanta,  we have created
a global company offering data communications and control product solutions that
address  the  information  and  control  needs of  today's  energy  market.  Our
technical  expertise  includes load control,  broadband,  wireless and powerline
communications, Internet and home networking and automation.

   Comverge currently offers products in three product lines:

   o Real-time usage information products;

   o Load control products; and

   o Gateway products, which combine real-time information and control.

   REAL-TIME USAGE INFORMATION PRODUCTS. We are currently marketing the Comverge
Distributed   Connection  (CDC),  a  meter-reading   device  for  gathering  and
transmitting  real-time usage information and providing  distributed  generation
monitoring and control for commercial  and  industrial  customers.  The CDC uses
Internet-based  CDPD (cellular  digital packet data)  communications to transmit
detailed information regarding patterns of energy consumption and is targeted at
industrial and commercial customers, an important segment of the user market for
energy  companies.  The use of CDPD for data  communication  makes  our  product
easier  to  install  and less  expensive  to run than  products  that  require a
dedicated telephone line. Our alliances with Verizon Wireless, AT&T Wireless and
GTE give us a national platform from which to market this product.

   LOAD CONTROL PRODUCTS. Power distribution utilities use load control products
to lessen peak electrical demand, avoiding the need to buy costly electricity on
the spot market or to build new  generation  facilities.  Generators  and energy
marketers  can use load  control  products  to free  capacity  during  high cost
periods  for resale to others.  We offer our  customers  two major load  control
products:  digital control units (DCUs) and SuperStats. The DCU is a switch that
can be connected to any appliance,  such as an air  conditioner or water heater,
which permits the utility to turn  appliances on and off from a remote  location
utilizing wireless communications. Our SuperStat product, jointly developed with
Honeywell,   combines  a  Honeywell  programmable  thermostat  with  a  wireless
communication  module to provide  direct  load  control of heating  and  cooling
systems,  allowing  customers  to choose when and how much energy to use,  while
giving the utility the ability to control air  conditioning  systems through the
thermostat during peak usage periods.

   GATEWAY  PRODUCTS.  Our  gateway  products  are  systems  designed  around  a
communications   "gateway,"   or  bridge,   which  permits   two-way   real-time
communications  between a local  area  network  (LAN),  such as a  "network"  of
appliances  and other devices  within a home, or a network of meters at multiple
users,  and a wide area network  (WAN),  such as cable,  telephone or CDPD.  The
gateway  products  provide  information and load control to the electric service
company and can significantly reduce the end customer's electricity bills.

   Our  gateway  products  are  fully  integrated  and  provide  utilities  with
comprehensive solutions for diverse requirements. Because of the different needs
and configurations of the US and foreign utility markets, we market two distinct
gateway product lines:  Maingate,  targeted to the domestic US utility  markets,
and EPSM, which is targeted at markets outside the United States.

                                       2

   Maingate  provides  two-way real time  metering,  time-of-use  pricing,  load
control and whole house surge suppression for residential  users. In the typical
configuration,  the central air conditioning  system,  controlled by a SuperStat
thermostat, the water heater and up to one additional appliance within the home,
are fitted with PLC-based load control devices. The load control devices and the
SuperStat  are  networked,  and  linked  via the  Maingate  gateway  to the WAN.
Maingate allows the customer to automatically respond to energy price variations
to minimize their usage during high priced periods.  For example,  during August
when electricity usage is high due to increased air conditioner use, the utility
generated price will rise and the pre-programmed customer response to this price
increase will automatically raise the temperature setting. However, the customer
may elect to override the direct  control and set the  thermostat as desired and
pay for the electricity used at peak load rates.  This price  responsive  demand
reduces  the  customer's  bill while  reducing  the  utilities'  peak load.  The
win-win,  price  driven  scenario is widely  viewed as the best model for demand
side  management,  particularly in deregulated  energy  markets.  Because of its
ability to communicate with devices within the home,  Maingate will also support
additional  value-added  "smart-home"  products  and  services  when they become
available.  Rollout of Maingate has  commenced  under a contract with Gulf Power
which contemplates  installation of Maingate into 40,000 homes, with 1,400 units
installed through December 31, 2000.

   EPSM,  our  international  gateway  product,  uses  existing  power  lines to
transmit the  electricity  consumption  data of each meter  through a hub to the
utility's main computer. A comprehensive  software package controls the system's
operations and  facilitates  functions such as real-time  load  switching,  peak
demand  control  and  detection  of theft  of  electrical  power.  EPSM has been
demonstrated  in several pilot  projects and we are actively  marketing EPSM for
full-scale implementation.  We believe the EPSM is a cost-effective solution for
the AMR and data management needs of utilities in international markets.

CUSTOMERS AND MARKETS

   Our  utility  solutions  business  has over 450  utility  customers  in eight
countries and 5,000,000 end point installations  worldwide. The worldwide market
for utility solutions is still emerging,  with a virtually  untapped  potential,
estimated at $29 billion over the next five years. We anticipate  growth in this
market to be driven by the following factors:

   o Increasing worldwide demand for electricity and volatility of electricity
     prices;

   o Anticipated  market and regulatory  incentives to manage peak usage periods
     in an economically efficient and environmentally friendly manner; and

   o Widespread  deregulation  of the  electric  utility  industry in the United
     States  and  resulting   increased   competition   among  electric  service
     companies.

   Although the final  outcome of the current trend toward  deregulation  in the
United  States  and  globally  is  unknown,  we  anticipate  that the new,  more
competitive  environment,  combined with anticipated  government  incentives and
mandates, will result in continued growth in the demand for products designed to
gather information and manage electricity usage.

   DOMESTIC.  Comverge's  customers are generally electric  utilities,  electric
service  companies  or prime  contractors  that serve  electric  utilities.  Our
largest  customer is Florida's  Gulf Power,  which  purchased over $3 million in
2000 and is under contract to purchase $22 million of Maingate systems in total.
In addition,  we have  significant  contracts  for our DCU  products  with other
domestic utilities and energy service companies. We have proven that our CDC and
SupersStat  products work in  small-scale  deployments,  and as our track record
grows,  we expect to expand our sales to our existing  customers  to  full-scale
deployments. In addition to expanding relationships with existing customers, our
strategy is to take  advantage  of the  relationships  with these  customers  to
extend our sales to their  affiliates,  many of whom are owned by large  utility
holding  companies  with  several  owned  utilities.  We have also formed  joint
marketing  partnerships with Verizon Wireless,  Schlumberger and Honeywell,  and
continue to plan to expand on these relationships.

   INTERNATIONAL.  We continue to market pilot and full scale  deployment of our
EPSM  systems,  building on our pilot  deployments  in  Venezuela,  Thailand and
Taiwan.  Discussions  continue regarding expansion of our pilot deployments.  In
some instances we have formed alliances in which we function as a subcontractor,
integrating our systems into a larger utility system purchased by a utility from
a prime  contractor.  One such alliance is with  Atlanta-based  Advanced Control
Systems for a project in Taiwan.  Although our primary  international  focus has
been on EPSM, we continue  marketing efforts seeking to expand our sales of load
control products to the international market.

COMPETITION

   Within the emerging  utility  solutions  market,  we face  competition from a
variety of companies and products, each of which is trying to garner a share the
market. Key competitors include Itron, ABB, Schlumberger and Mainstreet Networks
for our gateway products,  CEPG for commercial and industrial AMR products,  and
Cannon  Technologies  and Itron in the load control  area.  In addition to these
companies,  there are many other competitors and potential competitors vying for
a piece of this as yet  undefined  market.  We believe that our  products  offer
significant competitive advantages because they:

   o have been proven in the field;

   o offer significant technological advantages over competing products; and/or

                                       3


   o cost less than many of our competitors' products.

   However,  some  of  our  competitors  have  more  resources,   better  market
recognition,  a larger  sales  force or can offer  features  not  offered by our
products. In addition,  certain of our competitors manufacture and sell electric
meters or back-end  billing or other  software  systems to  utilities,  possibly
providing them an advantage in marketing  their utility  solution  products.  We
cannot be certain that our products  will win market  acceptance or that we will
be able to capture a significant segment of the market.

PROPRIETARY RIGHTS

   Comverge  holds 24 patents  and  patents  pending.  We try to take all action
necessary  to protect our  proprietary  rights.  Certain  products  that we have
developed  and are  developing  incorporate  or are  derived  from  intellectual
property owned by third parties under license to us.

   In  our  product  development  activities,   we  rely  on  a  combination  of
nondisclosure  agreements  and  technical  measures to establish and protect our
proprietary rights, if any, in our products. We believe that, as a result of the
rapid  pace  of  technological  change  in the  software  and  real-time  system
industries,  legal protection for our products, if any, will be less significant
to our prospects than the knowledge, ability and expertise of our management and
technical personnel.

COMPUTER HARDWARE SALES

PRODUCTS AND SERVICES

   Through  our  Databit  subsidiary,  we sell  and  service  PC-based  computer
hardware, software, data storage,  client/server and networking solutions in the
United States. Databit is an authorized direct seller,  value-added-reseller and
an authorized  service  provider for equipment and software from such well-known
industry leaders as Compaq, IBM, Microsoft, Oracle, 3Com, Hewlett-Packard,  NEC,
Acer, Apple and Dell. We offer our customers a full range of systems integration
services, including design, implementation, hardware and software selection, and
implementation  of  local  and wide  area  networks.  In  addition,  we  provide
maintenance  and service to customers  under extended  service  agreements.  Our
equipment and software  sales and other  services are offered  under  separately
negotiated and priced agreements.

CUSTOMERS AND MARKETS

   Computer  hardware  segment  sales  include  sales  to two  major  customers,
Montefiore  Medical  Center (which  accounted for  approximately  14% and 24% of
sales  in  1999  and  2000,  respectively)  and  Westcon  (which  accounted  for
approximately  1% and 11% in 1999 and  2000,  respectively).  No other  customer
accounted for more than 5% of segment sales.

COMPETITION

   The market for PCs and related peripheral  hardware sales in which we operate
is characterized by severe competition in price-performance,  breadth of product
line,  financing   capabilities,   technical  expertise,   service  and  overall
reputation. Manufacturers have been increasing their direct sales efforts on the
Internet and  otherwise,  reducing  prices to end-users,  which  reduces  profit
margins  for  distributors  and  value-added-resellers   such  as  Databit.  Our
competitors  include  manufacturers,  other VAR's,  large equipment  aggregators
(some of whom sell to us) and systems integrators.  Many of our competitors have
longer operating  histories,  greater  financial  resources and buying power and
larger, established customer bases. We compete by offering attractive prices and
flexible  payment terms,  and by helping our customers  evaluate their needs and
tailoring solutions by offering other value added services such as configuration
and on site service.

SALES BY ACTIVITY

   The following table shows, for the years indicated, the dollar amount and the
percentage  of  the  sales  attributable  to  each  of  the  activities  of  our
operations.



                                                                 YEAR ENDED DECEMBER 31,
                                              ---------------------------------------------------------
                                               1998                1999                 2000
                                              AMOUNT        %     AMOUNT         %     AMOUNT     %
                                               -----      ----     -----       ----     -----   ----
                                                                 (DOLLARS IN THOUSANDS)

                                                                                 
Consulting and development services .......   $18,640      50%    $18,784       47%  $18,977       33%
Utility solutions. ........................       212       1%      5,061       13%   17,105       30%
Computer hardware sales. ..................    16,374      45%     15,218       38%   21,515       37%
Other .....................................     1,484       4%        645        2%      242        0%
                                               ------     ---      ------      ---    ------      ---
Total sales. ..............................   $36,710     100%    $39,708      100%  $57,839      100%
                                               ======     ===      ======      ===    ======      ===



                                       4


BACKLOG

   As of January 1, 2001,  our backlog of work to be completed  was $31 million,
similar to our backlog of January 1, 2000,  $27 million of which  related to our
utility  solution  segment,  primarily  under our contract  with Gulf Power.  We
estimate that we will perform $10 million of the backlog in 2001.

DISCONTINUED AND DIVESTED ACTIVITIES

   In recent years we have been  increasing our focus on our core businesses and
have   discontinued   or  divested  a  number  of  activities.   The  multimedia
entertainment software segment suspended operating activity in the first quarter
of 1998,  and in the  second  quarter of 1998 we sold the assets of our PHD help
desk software segment.

   In January 2000 we sold all of our interest in Tower for approximately  $30.9
million.

   Until January 2000,  Mofet Venture  Capital Fund  Management  (1992) Ltd., of
which we were a 50% owner,  managed the Mofet  Israel  Technology  Fund  ("Mofet
Fund"), an Israeli public  investment  company.  Under the management  agreement
with the Mofet Fund, the management  company  received a management fee equal to
4% of the  amounts  invested in the Fund  (excluding  profits).  The  management
agreement  was not  renewed  in  January  2000  and the  management  company  is
therefore no longer active.

   In September 2000, the Company  completed the sale of  substantially  all the
assets of its CinNetic division.

   See Note 2 to the consolidated  financial  statements included in this report
for additional information regarding these transactions.

EMPLOYEES

   At  December  31,  2000,  we employed a total of 263  people,  including  182
persons in  engineering  and  technical  support  (approximately  one-half  with
advanced  degrees in computer and electronic  engineering),  25 in marketing and
sales, and 56 in management,  administration  and finance. A total of 176 of our
employees are based in Israel.

   We consider our relationship with our employees to be satisfactory.

   We have are no collective  bargaining  agreements  with any of our employees.
However,  with  regard to our  Israeli  activities,  certain  provisions  of the
collective   bargaining   agreements  between  the  Israeli  Histadrut  (General
Federation of Labor in Israel) and the Israeli  Coordination  Bureau of Economic
Organizations (including the Industrialists Association) are applicable by order
of the Israeli Ministry of Labor.  These provisions concern mainly the length of
the work  day,  contributions  to a pension  fund,  insurance  for  work-related
accidents,  procedures for dismissing employees,  determination of severance pay
and other conditions of employment.  We generally  provide our Israeli employees
with benefits and working conditions beyond the required  minimums.  Israeli law
generally  requires severance pay upon the retirement or death of an employee or
termination of employment without due cause. Furthermore,  Israeli employees and
employers  are  required  to pay  specified  amounts to the  National  Insurance
Institute,  which administers Israel's social security programs. The payments to
the National Insurance Institute include health tax and are approximately 17% of
wages  (up  to  a  specified   amount),   of  which  the  employee   contributes
approximately 60% and the employer approximately 40%.

RESEARCH AND DEVELOPMENT (R&D)

   For  information  on products being  developed and their costs,  see "Item 7.
Management's  Discussion  and  Analysis of  Financial  Condition  and Results of
Operations" and our consolidated  financial  statements appearing in this annual
report.

SEGMENT INFORMATION

   For  additional  financial  information  regarding  our  operating  segments,
foreign and domestic  operations  and export  sales,  see "Item 7.  Management's
Discussion and Analysis of Financial  Condition and Results of  Operations"  and
Note 18 to our consolidated financial statements included in this annual report.

FACTORS WHICH MAY AFFECT FUTURE RESULTS

   We may  from  time to time  make  written  or oral  statements  that  contain
forward-looking  information.  However, our actual results may differ materially
from our  expectations,  statements  or  projections.  The  following  risks and
uncertainties  could  cause  actual  results  to differ  from our  expectations,
statements or projections.


                                       5


GENERAL FACTORS

OUR MARKETS ARE SUBJECT TO RAPID TECHNOLOGICAL  CHANGE; IF WE FAIL TO KEEP PACE,
WE WILL HAVE DIFFICULTY DEVELOPING AND MAINTAINING A MARKET FOR OUR PRODUCTS AND
SERVICES.

   The markets for our utility solutions products and consulting and development
services segments are characterized by rapid technological  change. We will need
to invest in continued  product  development and personnel  training in order to
keep pace with  changing  technologies.  We may not have  adequate  resources to
invest in development, and our development efforts may not be successful.

EXCHANGE RATE FLUCTUATIONS COULD INCREASE THE COST OF OUR ISRAELI OPERATIONS.

   A significant portion of our sales and expenses of our Israeli operations are
in New Israeli  Shekels  ("NIS")  linked to the dollar.  Such  transactions  are
negotiated in dollars;  however,  for the convenience of the customer or vendor,
they are  settled in NIS.  The dollar cost of our  operations  in Israel will be
increased  if the  dollar  is  devalued  in  relation  to the  NIS or the NIS is
devalued in relation to the dollar at a rate lower than the rate of inflation in
Israel.

LOSS OF THE SERVICES OF A FEW KEY EMPLOYEES COULD HARM OUR OPERATIONS.

   We depend on our key management and technical employees.  The loss of certain
managers could diminish our ability to develop and maintain  relationships  with
customers and potential  customers.  The loss of technical  personnel could harm
our  ability  to meet  development  and  implementation  schedules.  Most of our
significant   employees  are  bound  by  confidentiality   and   non-competition
agreements.  We do not maintain a "key man" life insurance  policy on any of our
executives  or  employees.  Our future  success also  depends on our  continuing
ability to identify, hire, train and retain other highly qualified technical and
managerial  personnel.  Competition for such personnel is intense. If we fail to
attract or retain highly  qualified  technical and  managerial  personnel in the
future, our business could be disrupted.

RISKS RELATED TO THE CONSULTING AND DEVELOPMENT SERVICES SEGMENT

TIGHT  PROFESSIONAL  LABOR  MARKETS  MAY  MAKE IT  DIFFICULT  FOR US TO HIRE AND
MAINTAIN QUALIFIED PERSONNEL.

   In  recent  years  due to the  surge in  high-tech  development  we have been
experiencing a relative  shortage of qualified  programmers and engineers.  This
has had an adverse effect on our  profitability  and ability to offer consulting
and project development services.  Although this shortage has recently eased, it
is generally  accepted  that the  shortage  will  continue.  Should the shortage
become  more  acute,  this will have an adverse  effect on our  profits  and our
ability to offer consulting and project development services in the future.

NEW ISRAELI LABOR LAW LEGISLATION MAY RESTRICT OUR CONSULTING SERVICE BUSINESS.

   Israel  recently  passed certain  legislation  limiting and  restricting  the
activity of manpower companies. It is uncertain whether this legislation applies
to Israeli outsourcing companies in general or to our consulting and development
activities in particular.  Should the courts decide that this  legislation  does
apply to our Israeli consulting  activity,  this would have an adverse effect on
our business.

FAILURE TO ACCURATELY FORECAST COSTS OF FIXED-PRICED CONTRACTS COULD HARM OUR
BUSINESS.

   When working on a  fixed-price  basis,  we  undertake to deliver  software or
integrated   hardware/software  solutions  to  a  customer's  specifications  or
requirements  for a  particular  project.  The profits  from these  projects are
primarily  determined  by our success in  correctly  estimating  and  thereafter
controlling  project costs.  Costs may in fact vary substantially as a result of
various  factors,   including   underestimating  costs,  difficulties  with  new
technologies  and economic  and other  changes that may occur during the term of
the  contract.  If, for any  reason,  our costs are  substantially  higher  than
expected, losses on fixed-price contracts could harm our business.

RISKS RELATED TO THE UTILITY SOLUTIONS SEGMENT

   We have made a significant investment in our utility solutions segment, which
develops  and  markets  load  control  products  and  systems  offering  two-way
automated  meter  reading and related data  management  capability to utilities.
Although the revenue base of the segment has improved,  to date this segment has
operated at a loss.  The  activities  of this segment are subject to many risks,
including the following.

THE  PACE OF  UTILITY  DEREGULATION  HAS  BEEN  SLOW;  THE  ULTIMATE  REGULATORY
STRUCTURE OF THE UTILITY  INDUSTRY  MAY NOT PROVIDE  MANDATES OR  INCENTIVES  TO
PURCHASE OUR PRODUCTS.

   The electric utility industry is undergoing significant deregulation.  Market
observers expect  deregulation to include energy choice and time-of-use  pricing
requirements,  which will mandate, or favor implementation by utilities of, load
control  programs and the use of automated meter reading and data  distribution.
However,  the pace of deregulation has not been as rapid as expected and to date
only a limited number of utilities have made purchase  commitments for automated
meter reading and data distribution systems. Many utilities have also

                                       6

deferred the purchase of load control  systems,  pending  resolution  of broader
industry and regulatory developments.  The results of deregulation are uncertain
and may not result in the mandates or incentives for the types of services which
require AMR systems.  If the state and federal regulation does not provide these
requirements  or  incentives,  the market for our products may not develop as we
expect.

WE MUST COMPETE WITH OTHER UTILITY SOLUTIONS COMPANIES FOR MARKET ACCEPTANCE AND
CUSTOMERS.

   While we believe that the systems  offered by our utility  solutions  segment
offer advantages over competing load control and data communications  solutions,
there are alternative solutions,  and we cannot predict what share of the market
we will  obtain.  In  addition,  some of our  competitors  have  more  sales and
marketing  resources,  better brand recognition  and/or  technologies that offer
alternative advantages. If our potential customers do not adopt our solutions or
do so less rapidly than we expect,  our future financial results and our ability
to achieve positive cash flow or profitability will be harmed.

WE MAY ENCOUNTER DIFFICULTIES IN IMPLEMENTING OUR TECHNOLOGY, PRODUCTS AND
SERVICES.

   Problems  may occur in the  implementation  of our  technology,  products  or
services, and we may not successfully complete the commercial  implementation of
our  technology  on a wide  scale.  Future  advances  may render our  technology
obsolete or less cost effective than competitive systems.  Consequently,  we may
be unable to offer competitive services or offer appropriate new technologies on
a timely basis or on satisfactory terms.

DELAYS,  QUALITY  CONTROL AND PRICE  PROBLEMS COULD ARISE DUE TO OUR RELIANCE ON
THIRD-PARTY MANUFACTURERS OF CERTAIN COMPONENTS.

   We use outside parties to manufacture components of some of our products. Our
reliance  on these  third-party  manufacturers  exposes us to risks  relating to
timeliness,  quality control and pricing. We have experienced certain delays and
quality control problems from third-party  manufacturers and have taken steps to
alleviate  them,  including  the  decision  to  manufacture  certain  components
in-house. Delays, price increases or quality control problems at our third-party
manufacturers  could harm our  relationships  with our customers,  our operating
results and cash flow.

RISKS RELATED TO THE COMPUTER HARDWARE SEGMENT

WE FACE LOW MARGIN, MASS MARKETING COMPETITION.

   The market for PCs and related peripheral  hardware sales in which we operate
is  characterized  by severe  competition  in  price-performance  and  financing
capabilities.  Manufacturers  and on-line  Internet vendors have been increasing
their direct sales  efforts on the Internet and  otherwise,  reducing  prices to
end-users,  which  reduce  profit  margins  for  distributors  and  value  added
resellers  such  as  our  Databit   subsidiary.   Profit  margins  have  already
deteriorated in comparison to past years.  Should this trend continue,  it could
make our method of sales uneconomical.

ITEM 2. PROPERTIES

   Our  corporate  headquarters  and the  principal  offices for our US computer
consulting and  development  services and hardware sales segments are located in
Mahwah,  New Jersey in approximately  5,000 square feet of office space, under a
lease which expires in September 2003. The rent for these premises  currently is
$85,000 per annum. We also rent offices in New York City of approximately  3,500
square feet,  under a lease which  expires in October 2005, at a current rent of
$134,000 per annum. In addition,  our Comverge  subsidiary  rents  approximately
11,900  square feet in Florham Park,  New Jersey,  at an annual rent of $126,000
under a lease which expires January 2003, and  approximately  31,668 square feet
in Gwinett,  Georgia  under a lease which expires in May 2006, at a current rent
of $201,000 per annum.

   Our Israeli  activities are conducted in approximately  18,000 square feet of
office  space in the Tel Aviv  metropolitan  area under a lease that  expires in
April 2010. The annual rent is approximately $300,000. These facilities are used
for the Israeli operations of the computer  consulting and development  services
segment and the utility solutions segment.

ITEM 3. LEGAL PROCEEDINGS

   We are not involved in any legal proceedings that we believe, individually or
in the aggregate, will have a material adverse effect our company.

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

   None.
                                       7


                                     PART II

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

   Our Common Stock is traded on the Nasdaq National Market System  (NASDAQ/NNM)
under the symbol  "DSSI."  The  following  table  sets  forth,  for the  periods
indicated,  the high and low reported sales prices per share of our Common Stock
on the Nasdaq Stock Market.

                                                         HIGH           LOW
                                                       -------        -------
1999
- ----
First Quarter .....................................     $3.000         $1.750
Second Quarter ....................................      4.250          1.750
Third Quarter .....................................      4.750          2.438
Fourth Quarter ....................................      3.750          2.188

2000
- ----
First Quarter .....................................      7.563          3.063
Second Quarter ....................................      5.688          3.000
Third Quarter .....................................      5.250          4.125
Fourth Quarter ....................................      6.125          3.938

   As of March 20,  2001,  there  were  approximately  75 record  holders of our
Common Stock. We estimate that there are  approximately  2,000 beneficial owners
of our Common Stock.

   We paid no dividends in 1999 or 2000 and we do not intend to pay dividends in
2001.  There are currently no  restrictions  on our  declaration  and payment of
dividends.

ITEM 6. SELECTED FINANCIAL DATA

   The selected  consolidated  statement of  operations  data for the year ended
December 31, 2000 and  consolidated  balance  sheet data as of December 31, 2000
has been derived from our  consolidated  financial  statements  included in this
annual report,  which have been audited by KPMG LLP, independent  auditors.  The
selected consolidated  statement of operations data for the years ended December
31,  1998 and 1999 and  balance  sheet  data as of  December  31,  1999 has been
derived  from our  consolidated  financial  statements  included  in this annual
report which were audited by Deloitte & Touche LLP,  independent  auditors.  The
selected  statement of operations data for the years ended December 31, 1996 and
1997 and balance  sheet data as of  December  31,  1996,  1997 and 1998 has been
derived from audited consolidated financial statements not included herein.

   This  data  should be read in  conjunction  with our  consolidated  financial
statements and related notes and "Item 7.  Management's  Discussion and Analysis
of Financial Condition and Results of Operations."


                                       8


SELECTED CONSOLIDATED STATEMENT OF OPERATIONS DATA


                                                                        FOR THE YEARS ENDED DECEMBER 31,
                                                        ------------------------------------------------------------------
                                                         1996           1997           1998          1999           2000
                                                        -----          -----          -----         -----          -----
                                                                               (IN THOUSANDS, EXCEPT PER SHARE DATA)
                                                                                                  
Sales ...............................................  $32,067       $ 36,154       $ 36,710      $ 39,708       $ 57,839
Cost of sales .......................................   26,083         31,303         28,814        31,615         45,606
                                                       -------       --------       --------      --------       --------
  Gross profit ......................................    5,984          4,851          7,896         8,093         12,233
Research and development expenses ...................    1,270          1,335          1,605         1,269            928
Selling, general and administrative expenses ........    8,130         11,349         12,549        12,471         16,340
Gain on sale of division                                    --           --           --                --          1,144
                                                       -------       --------       --------      --------       --------
  Operating loss ....................................   (3,416)        (7,833)        (6,258)       (5,647)        (3,891)
Interest income .....................................      728            478            147            61          1,758
Interest expense ....................................     (290)          (225)          (360)         (910)          (709)
Other income (loss), net ............................    2,032           (244)        (2,172)         (306)           (50)
Minority interests ..................................     (141)           676            878          (275)            --
Equity loss in affiliates ...........................   (1,767)            --             --            --             --
                                                       -------       --------       --------      --------       --------
  Loss from continuing operations before provision
    (benefit) for income taxes ......................   (2,854)        (7,148)        (7,765)       (7,077)        (2,892)
Provision (benefit) for income taxes ................     (158)         3,507             35            62            171
                                                       -------       --------       --------      --------       --------
  Loss from continuing operations ...................   (2,696)       (10,655)        (7,800)       (7,139)        (3,063)
Income (loss) from discontinued operations,
  net of income taxes ...............................      216            211        (11,142)       (8,728)          (104)
Gain on sale of discontinued operations,
  net of income taxes ...............................       --             --          5,998            --          4,222
                                                       -------       --------       --------      --------       --------
  Income (loss) before extraordinary item ...........   (2,480)       (10,444)       (12,944)      (15,867)         1,055
Extraordinary loss on early redemption of debt ......       --             --             --            --           (943)
                                                       -------       --------       --------      --------       --------
  Net income (loss) .................................  $(2,480)      $(10,444)      $(12,944)     $(15,867)      $    112
                                                       =======       ========       ========      ========       ========
Basic and diluted net income (loss) per share:
  Loss from continuing operations ...................   $(0.37)      $  (1.45)      $  (1.05)     $  (0.96)      $  (0.41)
  Discontinued operations ...........................     0.03           0.03          (0.70)        (1.17)          0.56
  Extraordinary item ................................       --             --             --            --          (0.13)
                                                       -------       --------       --------      --------       --------
    Net income (loss) per share ....... .............  $ (0.34)      $ (1.42)       $  (1.75)     $  (2.13)      $   0.02
                                                       =======       ========       ========      ========       ========
Weighted average number of shares - basic
   and diluted .......................... ...........    7,369          7,369          7,391         7,433          7,422
                                                       =======       ========       ========      ========       ========


SELECTED CONSOLIDATED BALANCE SHEET DATA




                                                                               AS OF DECEMBER 31,
                                                      -------------------------------------------------------------------
                                                         1996           1997           1998          1999           2000
                                                         -----          -----          -----         -----          -----
                                                                                (IN THOUSANDS)
                                                                                                   
Working capital ...................................... $13,676       $  7,201         $5,719       $20,030        $18,178
Total assets .........................................  71,219         65,452         49,880        50,458         42,157
Short-term debt, including current maturities of
  long-term debt .....................................   2,124          3,709            974         7,423            591
Long-term debt, net of current maturities ............     331            481            687         1,584          6,015
Total shareholders' equity ..........................   62,556         52,308         39,418        24,850         22,581


   See Notes 2 and 3 to the consolidated  financial  statements included in this
annual report for a description of our various  acquisitions and dispositions of
business operations and segments.


                                       9



ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

GENERAL

   The following  discussion  includes  statements that are  forward-looking  in
nature. Whether such statements ultimately prove to be accurate,  depends upon a
variety of factors that may affect our business and operations. Certain of these
factors are  discussed at "Item 1.  Description  of  Business--Factors  That May
Influence Future Results."

   During  2000,  we  operated  in three  reportable  segments:  consulting  and
development services, utility solutions and computer hardware sales.

CONSULTING AND DEVELOPMENT SERVICES

   Sales in our consulting and development  services  segment  remained  stable,
with an increase in Israeli  sales offset by  decreased  domestic  sales.  Gross
profit margins in this segment  improved due to increased  fixed-price  embedded
software  consulting  sales in Israel,  more than offsetting the increased labor
costs  resulting  from of the  relative  shortage of qualified  programmers  and
engineers.  Although  this  shortage  has  recently  eased,  we expect  that the
competitive  marketplace  for  qualified  engineers  will  continue to adversely
affect margins in 2001 and future periods.

UTILITY SOLUTIONS

   This  segment  has been  evolving  since we first began to develop and market
two-way interactive  communications  solutions for utilities in 1992. In January
1998, we acquired certain assets and licensed  intellectual property from Lucent
Technologies,  Inc. and began to market the Comverge  Distributed  Connection to
commercial and  industrial  customers in the U.S. In August 1999 we acquired the
Scientific-Atlanta Control Systems business division, including its line of load
control products and Maingate gateway system.

   Sales increased in the first half of 2000,  primarily as a result of sales of
load  control  products.   During  the  second  half  of  2000  sales  declined,
particularly  sales of our load control  products.  We believe that this decline
reflects the seasonal nature of load control products sales, with most purchases
being made in preparation for the summer air conditioning season, as well as the
fact that sales during the first half of 1999 were particularly  strong due to a
large  backlog of orders  during  Scientific-Atlanta's  phase-out  from the load
control business.  We do not expect significant  improvement in sales before the
third quarter of 2001.

COMPUTER HARDWARE

   Sales and gross  profits  in this  segment  increased  dramatically  in 2000.
Although gross profit  margins in 2000 were slightly  higher than those in 1999,
we expect the increasingly  competitive  market will cause downward  pressure on
our gross profit margin in 2001.


                                       10


RESULTS OF OPERATIONS

   The following table sets forth selected consolidated  statement of operations
data as a percentage of our total sales.



                                                                           YEAR ENDED DECEMBER 31,
                                                      ----------------------------------------------------------------
                                                      1996           1997           1998          1999           2000
                                                      -----          -----          -----         -----          -----
                                                                                                  
Sales .............................................   100.0%         100.0%         100.0%        100.0%         100.0%
Cost of sales .....................................    81.3           86.6           78.5          79.6           78.8
                                                      -----          -----          -----         -----          -----
  Gross profit ....................................    18.7           13.4           21.5          20.4           21.2
Research and development expenses .................     4.0            3.7            4.4           3.2            1.6
Selling, general and administrative expenses ......    25.4           31.4           34.2          31.4           28.3
Gain on sale of division ..........................      --             --             --            --            2.0
                                                      -----          -----          -----         -----          -----
  Operating loss ..................................   (10.7)         (21.7)         (17.1)        (14.2)          (6.7)
Interest income (expense), net ....................     1.4            0.7           (0.6)         (2.1)           1.8
Other income (loss), net ..........................     6.3           (0.7)          (5.9)         (0.8)          (0.1)
Minority interests. ...............................    (0.4)           1.9            2.4          (0.7)            --
Equity loss in affiliates .........................    (5.5)            --             --            --             --
                                                      -----          -----          -----         -----          -----
  Loss from continuing operations before
    provision (benefit) for income taxes ..........    (8.9)         (19.8)         (21.2)        (17.8)          (5.0)
Provision (benefit) for income taxes ..............    (0.5)           9.7             --           0.2            0.3
                                                      -----          -----          -----         -----          -----
  Loss from continuing operations .................    (8.4)         (29.5)         (21.2)        (18.0)          (5.3)
Income (loss) from discontinued operations,
  net of income taxes .............................     0.7            0.6          (30.4)        (22.0)          (0.2)
Gain on sale of discontinued operations,
  net of income taxes .............................      --             --           16.3            --            7.3
                                                      -----          -----          -----         -----          -----
Income (loss) before extraordinary item ...........    (7.7)         (28.9)         (35.3)        (40.0)           1.8
Extraordinary loss  on early redemption of debt ...      --             --             --            --           (1.6)
                                                      -----          -----          -----         -----          -----
Net income (loss) .................................    (7.7)%        (28.9)%        (35.3)%       (40.0)%          0.2%
                                                      =====          =====          =====         =====          =====


   The following table sets forth certain  information  with respect to revenues
and  profits  of our three  reportable  business  segments  for the years  ended
December  31,  1998,  1999 and  2000,  including  the  percentages  of  revenues
attributable to such segments.  The column marked "Other" aggregates information
relating  to  miscellaneous  operating  segments,  which  may  be  combined  for
reporting under applicable  accounting principles as well as the operations from
the Company's  multimedia software segment which is no longer in operation so as
to be comparable with the current year's presentation.



                                                        CONSULTING AND
                                                          DEVELOPMENT      UTILITY       COMPUTER
                                                           SERVICES       SOLUTIONS      HARDWARE        OTHER        TOTAL(*)
                                                        --------------    ---------      --------        -----        -------
                                                                                  (DOLLARS IN THOUSANDS)
                                                                                                        
Year ended December 31, 2000:
Revenues from external customers .......................... $18,977       $ 17,105        $21,515        $  204        $57,801
  Percentage of total revenues from external customers           33%            30%            37%           --            100%
  Segment profit (loss) ................................... $ 1,530       $ (3,216)       $   726        $   41        $  (919)
Year ended December 31, 1999:
  Revenues from external customers ........................ $18,784       $  5,061        $15,218        $  285        $39,348
  Percentage of total revenues
    from external customers                                      48%            13%            38%            1%           100%
  Segment profit (loss) ................................... $  (832)      $ (3,297)       $   328        $   64        $(3,737)
Year ended December 31, 1998:
  Revenues from external customers ........................ $18,640       $    212        $16,374        $1,124        $36,350
  Percentage of total revenues from
    external customers ....................................      51%             1%            45%            3%           100%
Segment profit (loss) ..................................... $ 5,742       $ (3,428)       $ 1,514        $ (957)       $ 2,871


- ----------

(*)  Our consolidated  sales for 2000, 1999 and 1998 included $38,000,  $360,000
     and $360,000,  respectively,  in management  fees received from Tower.  See
     Note 18 to the consolidated  financial  statements  included in this report
     for reconciliation to our consolidated financial information.


                                       11


2000 COMPARED TO 1999

   SALES. Sales increased by 46% to $57.8 million in 2000, from $39.7 million in
1999,  entirely due to higher unit sales.  The increase was  primarily  due to a
$12.0 million increase in sales in the utility solutions segment,  which had its
first sales in the second quarter of 1999 and a $6.3 million,  or 41%,  increase
in computer hardware sales.

   GROSS PROFIT.  Gross profit  increased by 51%, to $12.2 million in 2000, from
$8.1 million in 1999,  increasing  in all segments.  Gross profits  increased by
$2.7 million and $1.0  million in the utility  solutions  and computer  hardware
segments,  respectively,  primarily due to their increased level of sales. Gross
profits increased in the consulting and development services segment to 26.2% in
2000 as  compared  to 23.8% in  1999.  This  improvement  was due  primarily  to
increased highly profitable fixed-price embedded hardware/software system sales.

   RESEARCH AND DEVELOPMENT EXPENSES ("R&D"). R&D expenses continued to decrease
in 2000 to $0.9  million from $1.3 million in 1999,  as the  development  of our
company's utility solutions products mature.

   SELLING,  GENERAL AND ADMINISTRATIVE EXPENSES ("SG&A"). SG&A increased by 30%
to $16.3 million in 2000 from $12.5 million in 1999.  This increase is primarily
due to a $3.2 million increase in marketing and administrative  costs related to
the  utility   solutions   segment,   which  increased  its  level  of  activity
significantly in 2000.

   GAIN ON SALE OF DIVISION.  In September 2000, the Company  completed the sale
of  substantially  all the  assets of its  CinNetic  division,  included  in the
consulting  and  development  services  segment,  for a total  of  $1.8  million
resulting in a gain of $1.1 million.  The CinNetic division had operating losses
of approximately $315,000 and $505,000 in 2000 and 1999, respectively.

   OPERATING  LOSS.  Operating  losses  decreased by 31% to $3.9 million in 2000
from $5.6 million in 1999.  The  decrease is primarily  due to the gain from the
sale of CinNetic in 2000, as well as the increase in gross profits and decreases
in R&D, partially offset by the increase in SG&A.

   INTEREST INCOME AND INTEREST EXPENSE. The increase in interest income to $1.8
million  in 2000  from  $61,000  in 1999 is due to the  interest  income  on the
investment of the proceeds from the sale of our Tower investment in January 2000
and from our long-term  deposit.  The decrease in interest  expense in 2000 from
1999 was due  primarily  to the charge in 1999 of  $300,000  for the  beneficial
conversion feature of our Debentures.

   INCOME TAXES.  The  provision for income taxes  increased to $171,000 in 2000
from $62,000 in 1999.  The tax expense is comprised  primarily of foreign taxes.
We establish valuation  allowances against virtually all deferred tax assets, as
we believe that it is more likely than not that they will not be  realized.  The
valuation  allowance was the primary reason for our recording a tax expense that
resulted in the effective income tax rate in 2000 of (6%) rather than the 34% US
Federal statutory rate. For a detailed analysis of the income tax provision, see
Note 16 to the consolidated financial statements included in this annual report.

   LOSSES FROM DISCONTINUED OPERATIONS. The loss in 1999 was comprised of equity
losses from our investment in Tower,  which was sold in January 2000.  Losses in
1999  included  equity  losses of $5.0 million and income taxes of $3.7 million.
These taxes represent Israeli taxes associated with the anticipated repatriation
of earnings from our Israeli subsidiary that held our investment in Tower. Prior
to the signing of a definitive sale agreement in December 1999, earnings of this
Israeli subsidiary had been considered permanently invested and, accordingly, no
income taxes were provided on such earnings.

   GAIN FROM SALE OF  DISCONTINUED  OPERATIONS,  NET OF TAXES.  The gain, net of
taxes, is from the sale of our Tower investment.

   EXTRAORDINARY  ITEM.  A portion of our  convertible  debentures  was redeemed
prior to maturity giving rise to an extraordinary loss of $753,000. In addition,
we recognized an additional  extraordinary  loss of $190,000 in connection  with
our refinancing of our short-term debt.

1999 COMPARED TO 1998

   SALES.  Sales  increased by 8% to $39.7 million in 1999 from $36.7 million in
1998. The increase was primarily due to a $4.8 million  increase in sales in the
utility  solutions  segment,  which had its first sales in the second quarter of
1999. This increase was partially  offset,  primarily by a $1.2 million decrease
in computer hardware sales, mostly during the first half of 1999.

   GROSS PROFIT.  Gross profit increased by 2% to $8.1 million in 1999 from $7.9
million in 1998.  The increase was primarily  due to a $1.3 million  increase in
utility  solutions  segment  gross  profit from the  aforementioned  increase in
sales.  This increase was partially  offset by a $1 million decrease in computer
hardware gross  profits,  due to the  aforementioned  decrease in segment sales,
coupled with a decrease in gross  profit  margins in this segment to 15% in 1999
from 20% in 1998 as a result of a shift in sales to lower margin  customers  and
products.

   R&D EXPENSES.  The decrease in R&D in 1999,  as compared to 1998,  was due to
lower R&D in the  utility  solutions  segment,  as the  development  of the EPSM
product approached completion.

   SG&A EXPENSES.  Despite the increased level of activity, SG&A remained stable
at  $12.5  million  in 1999 as in 1998.  This  was  achieved  as  marketing  and
administrative  costs  related to the utility  solutions  segment  increased  by
$820,000, offset primarily by a $740,000 decrease in corporate SG&A.


                                       12

   OPERATING  LOSS.  Operating  losses  decreased by 10% to $5.6 million in 1999
from $6.3 million in 1998. The decrease was primarily due to the 25% decrease in
operating  losses from  corporate  activity  and the 18%  decrease in  operating
losses in the utility  solutions  segment.  These  improvements  were  partially
offset by the 77% decrease in operating profits in the computer hardware segment
as described above.

   INTEREST  EXPENSE.  The increase in interest expense to $910,000 in 1999 from
$360,000 in 1998 was due to the term loan taken in August  1999,  to finance the
acquisition  of  the  Scientific-Atlanta   Control  Systems  business  division,
increased utilization of our lines of credit and the finance expenses related to
the  convertible  debentures  issued in the last  quarter of 1999,  including  a
$300,000  non-cash  charge  for  the  beneficial   conversion   feature  of  our
Debentures.

   OTHER LOSS,  NET. In 1998,  other loss was  attributable  to a net expense of
$418,000,  due to the write-off of a note  receivable  received from the sale of
our interest in a joint  venture,  net of a gain on the sale of shares  received
from a conversion  feature in the note, the write-off of other  investments  and
related  assets  totaling  $497,000 and a $1.1 million loss in  connection  with
guarantees  given by us on behalf of an affiliate and former  subsidiary of ours
that declared bankruptcy.

   INCOME TAXES.  The  provision  for income taxes  increased to $62,000 in 1999
from $35,000 in 1998. We establish  valuation  allowances  against virtually all
deferred  tax  assets,  as we believe  that it is more likely than not that they
will not be realized.  For a detailed analysis of the income tax provision,  see
Note 16 to the consolidated financial statements included in this annual report.

   LOSSES FROM DISCONTINUED OPERATIONS. The loss in 1999 was comprised of equity
losses from our  investment in Tower.  Losses in 1999 included  equity losses of
$5.0 and income  taxes of $3.7  million.  These taxes  represent  Israeli  taxes
associated  with the  anticipated  repatriation  of  earnings  from our  Israeli
subsidiary  that  held  our  investment  in  Tower.  Prior to the  signing  of a
definitive sale agreement in December 1999,  earnings of this Israeli subsidiary
were  considered  permanently  invested and,  accordingly,  no income taxes were
provided on such  earnings.  In 1998,  the loss was comprised of a write-down of
our Tower  investment  by $6.1  million to  reflect  Tower's  share  price as of
December 31, 1998, in addition to $3.7 million in equity  losses from Tower.  In
1998,  the loss also  included  $1.3  million  of losses  from the PHD  division
activity, which was sold during that year.

   GAIN FROM SALE OF DISCONTINUED OPERATIONS. In 1998, we recognized a gain from
the sale of our PHD division, which was sold during that year.

LIQUIDITY AND CAPITAL RESOURCES

   As of December  31,  2000,  we had  working  capital of  approximately  $18.2
million, including $16.9 million cash, cash equivalents and short-term deposits.
The  increase in cash and  short-term  deposits was due to net proceeds of $27.9
million from the sale of our Tower investment,  received in January 2000 and the
net proceeds  from our sale of the  CinNetic  division of $1.8 million in August
2000.  In  addition  we have a  long-term  deposit  of $6 million  securing  our
Comverge subsidiary's long-term bank debt in the same amount. This debt replaced
short-term  debt,  previously used to finance the acquisition by this subsidiary
of the Scientific-Atlanta Control Systems business division in 1999.

   In February  2000 we utilized a portion of the Tower  proceeds to redeem $1.7
million of our debentures for $2.0 million in cash. The $260,000  balance of the
debentures was converted into 84,794 shares of our common stock.

   In  addition,  we used a portion of the  proceeds  from the sale of our Tower
investment for operations to reduce the balance of accounts  payable and accrued
expenses.

   In September  2000 we announced  the decision to  repurchase up to 500,000 of
our shares. In 2000 we repurchased a total of 500,385 shares for a total of $2.4
million.

   We believe we have adequate liquidity to finance our operating activities and
corporate  expenses for fiscal 2001 and the foreseeable  future,  including debt
service and planned capital expenditures.

   DSI Israel's  increased  profitability in 2000 enabled it to reduce its usage
of available  bank credit lines.  Bank credit lines  currently  available to DSI
Israel total approximately $1.9 million, denominated in NIS and bearing interest
at an average  interest rate of the Israeli prime rate plus 0.2% per annum.  The
Israeli  prime rate  fluctuates  and as of  December  31,  2000 was 9.5%.  As of
December 31, 2000, DSI Israel was utilizing $570,000 of these lines of credit.

IMPACT OF INFLATION AND CURRENCY FLUCTUATIONS

   In 2000 and 1999,  the  devaluation  of the NIS  against  the  dollar  was at
relatively  the same level as inflation  in Israel.  A majority of our sales are
denominated in dollars.  The remaining portion is primarily  denominated in NIS,
linked to the  dollar.  Such  sales  transactions  are  negotiated  in  dollars;
however,  for the  convenience  of the customer  they are settled in NIS.  These
transaction  amounts are linked to the dollar between the date the  transactions
are entered  into until the date they are  effected  and  billed.  From the time
these  transactions  are  effected and billed,  through the date of  settlement,
amounts are primarily  unlinked.  The majority of our expenses are in dollars or
dollar-linked  NIS and  virtually  all the  remaining  expenses were in NIS. The
dollar cost of our operations in Israel may be adversely  affected in the future
by

                                       13


a devaluation of the NIS in relation to the dollar,  should it be  significantly
different from the rate of inflation,  since most  transactions are linked to or
are  denominated  in US dollars.  This adverse  effect  principally  arises with
respect to its severance pay  obligations  and also with respect to the unbilled
portion of long-term projects.

     As of  December  31,  2000,  virtually  all  of  our  monetary  assets  and
liabilities  that were not  denominated  in  dollars or  dollar-linked  NIS were
denominated in NIS, and the net amount of such monetary  assets and  liabilities
was not material.  In the event that in the future we have material net monetary
assets or liabilities  that are not denominated in  dollar-linked  NIS, such net
assets or liabilities would be subject to the risk of currency fluctuations.

SUMMARY QUARTERLY FINANCIAL DATA (UNAUDITED)

   The  following   table  sets  forth   certain  of  our  unaudited   quarterly
consolidated  financial  information  for the years ended  December 31, 1999 and
2000.  This  information  should be read in  conjunction  with our  consolidated
financial statements and the notes thereto.



                                                                   1999                                     2000
                                                  --------------------------------------   --------------------------------------
                                                  FIRST    SECOND     THIRD     FOURTH     FIRST    SECOND     THIRD     FOURTH
                                                 QUARTER   QUARTER   QUARTER    QUARTER   QUARTER   QUARTER   QUARTER    QUARTER
                                                 -------   -------   -------    -------   -------   -------   -------    -------
                                                                    (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
                                                                                                 
Sales .......................................... $ 7,676    $ 8,265   $ 9,217   $14,550   $14,722   $ 15,790   $15,006   $12,321
Cost of sales ..................................   5,910      6,552     7,743    11,410    11,435     12,229    11,865    10,077
                                                 -------    -------   -------  --------   -------   --------   -------   -------
Gross profit ...................................   1,766      1,713     1,474     3,140     3,287      3,561     3,141     2,244
Research and development expenses ..............     309        272       196       492       394        146       158       230
Selling, general and administrative expenses ...   2,790      2,872     2,919     3,890     4,700      3,853     3,805     3,982
Gain on sale of division .......................      --         --        --        --        --         --     1,144        --
                                                 -------    -------   -------  --------   -------   --------   -------   -------
Operating income (loss) ........................  (1,333)    (1,431)   (1,641)   (1,242)   (1,807)      (438)      322    (1,968)
Interest income (expenses), net ................     (16)       190      (156)     (867)      316        130       247       356
Other income (loss), net .......................     151       (219)     (267)       29      (142)        --        18        74
Minority interests .............................      18         91        95      (479)       --         --        --        --
                                                 -------    -------   -------  --------   -------   --------   -------   -------
Income (loss) from continuing operations before
  provision (benefit) for income taxes .........  (1,180)    (1,369)   (1,969)   (2,559)   (1,633)      (308)      587    (1,538)
Provision (benefit) for income taxes ...........      37        (25)       20        30        51         25        55        40
                                                 -------    -------   -------  --------   -------   --------   -------   -------
Income (loss) from continuing operations .......  (1,217)    (1,344)   (1,989)   (2,589)   (1,684)      (333)      532    (1,578)
Loss from discontinued operations, net of
  income taxes .................................  (1,489)    (1,738)   (1,115)   (4,386)       --       (104)       --        --
Gain on sale of discontinued operations,
  net of income taxes ..........................      --         --        --        --     4,222         --        --        --
                                                 -------    -------   -------  --------   -------   --------   -------   -------
Income (loss) before extraordinary item ........  (2,706)    (3,082)   (3,104)   (6,975)    2,538       (437)      532    (1,578)
Extraordinary loss on  early redemption of debt       --         --        --        --      (943)        --        --        --
                                                 -------    -------   -------  --------   -------   --------   -------   -------
Net income (loss). ............................. $(2,706)   $(3,082)  $(3,104) $ (6,975)  $ 1,595   $   (437)  $   532   $(1,578)
                                                 =======    =======   =======  ========   =======   ========   =======   =======
Basic net income (loss) per share:
  Income (loss) from continuing operations ..... $ (0.16)   $ (0.18)  $ (0.27) $  (0.35)  $ (0.23)  $  (0.05)  $  0.07   $ (0.22)
  Discontinued operations ......................   (0.20)     (0.23)    (0.15)    (0.59)     0.56      (0.01)       --        --
  Extraordinary item ...........................      --         --        --        --     (0.12)        --        --        --
                                                 -------    -------   -------  --------   -------   --------   -------   -------
  Net income (loss) per share--basic ........... $ (0.36)   $ (0.41)  $ (0.42) $  (0.94)  $  0.21   $  (0.06)  $  0.07   $ (0.22)
                                                 =======    =======   =======  ========   =======   ========   =======   =======
Weighted average number of shares
  outstanding--basic ...........................   7,433      7,433     7,433     7,433     7,460      7,470     7,462     7,297
                                                 =======    =======   =======  ========   =======   ========   =======   =======
Diluted net income (loss) per share:
  Income (loss) from continuing operations ..... $ (0.16)   $ (0.18)  $ (0.27) $  (0.35)  $ (0.23)  $  (0.05)  $  0.07   $ (0.22)
  Discontinued operations ......................   (0.20)     (0.23)    (0.15)    (0.59)     0.56      (0.01)       --        --
  Extraordinary item ...........................      --         --        --        --     (0.12)        --        --        --
                                                 -------    -------   -------  --------   -------   --------   -------   -------
Net income (loss) per share--diluted ........... $ (0.36)   $ (0.41)  $ (0.42) $  (0.94)  $  0.21   $  (0.06)  $  0.07   $ (0.22)
                                                 =======    =======   =======  ========   =======   ========   =======   =======
Weighted average number of shares
  outstanding--diluted .........................   7,433      7,433     7,433     7,433     7,460      7,470     7,926     7,297
                                                 =======    =======   =======  ========   =======   ========   =======   =======



                                       14


   The quarterly  financial  data for the first three  quarters of 2000 reported
above differ from the data for these periods  previously  reported by us on Form
10-Q as described below:



                                                           FIRST QUARTER         SECOND QUARTER         THIRD QUARTER
                                                        -------------------   -------------------   -------------------
                                                        PREVIOUSLY    AS      PREVIOUSLY    AS      PREVIOUSLY    AS
                                                         REPORTED  ADJUSTED    REPORTED  ADJUSTED    REPORTED  ADJUSTED
                                                        ---------- --------   ---------- --------   ---------- --------
                                                                                               
Income (loss) from continuing operations ..............   $3,115   $(1,684)     $ (807)   $ (333)      $ 518     $ 532
Discontinued operations ...............................       --     4,222        (104)     (104)         --        --
Extraordinary item ....................................     (340)     (943)         --        --          --        --
                                                          ------   -------      ------    ------       -----     -----
Net income (loss) .....................................   $2,775   $ 1,595      $ (911)   $ (437)      $ 518     $ 532
                                                          ======   =======      ======    ======       =====     =====
Basic net income (loss) per share:
  Income (loss) from continuing operations ............   $ 0.42   $ (0.23)     $(0.11)   $(0.05)      $0.07     $0.07
  Discontinued operations .............................       --      0.56       (0.01)    (0.01)         --        --
  Extraordinary item ..................................    (0.05)    (0.12)         --        --          --        --
                                                          ------   -------      ------    ------       -----     -----
Net income (loss) per share ...........................   $ 0.37   $  0.21      $(0.12)   $(0.06)      $0.07     $0.07
                                                          ======   =======      ======    ======       =====     =====
Diluted net income (loss) per share:
  Income (loss) from continuing operations ............   $ 0.42   $ (0.23)     $(0.11)   $(0.05)      $0.07     $0.07
  Discontinued operations .............................       --      0.56       (0.01)    (0.01)         --        --
  Extraordinary item ..................................    (0.05)    (0.12)         --        --          --        --
                                                          ------   -------      ------    ------       -----     -----
  Net income (loss) per share .........................   $ 0.37   $  0.20      $(0.12)   $(0.06)      $0.07     $0.07
                                                          ======   =======      ======    ======       =====     =====


   The  differences  between the  amounts  previously  reported  and as adjusted
principally related to: (i) The gain on sale of discontinued operations,  net of
taxes of $4,222 has been reclassified from other income (loss), net, to properly
reflect the sale of our  interest in Tower as a  discontinued  operation.  Taxes
related to the sale of $460  previously  provided  for in the second  quarter of
2000 and $307  identified in the fourth quarter of 2000 have been offset against
the gain in the first quarter of 2000 as presented above. (ii) The extraordinary
loss on early redemption of debt was restated to include an additional $413 loss
that had been previously  deferred and to recognize $190 previously  reported as
interest expense.


                                       15


ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

GENERAL

   We  are  required  to  make  certain  disclosures   regarding  our  financial
instruments, including derivatives, if any.

   A financial  instrument is defined as cash, evidence of an ownership interest
in an entity, or a contract that imposes on one entity a contractual  obligation
either to deliver or receive cash or another  financial  instrument to or from a
second  entity.   Examples  of  financial  instruments  include  cash  and  cash
equivalents,  trade  accounts  receivable,  loans,  investments,  trade accounts
payable, accrued expenses,  options and forward contracts. The disclosures below
include,  among other matters, the nature and terms of derivative  transactions,
information about significant  concentrations of credit risk, and the fair value
of financial assets and liabilities.

FAIR VALUE OF FINANCIAL INSTRUMENTS

   Fair values of financial  instruments  included in current assets and current
liabilities  are estimated to  approximate  their book values,  due to the short
maturity  of such  instruments.  Fair  value for  long-term  debt and  long-term
deposits are  estimated  based on the current  rates  offered to the Company for
debt and deposits  with the similar  terms and  remaining  maturities.  The fair
value of the Company's  long-term debt and long-term deposits are not materially
different  from  their  carrying  amounts.  The  fair  value of  investments  is
estimated  based on market value.  The estimation of fair value of the Company's
investments  (book value of $153,000 at December 31, 2000) was not  practicable,
although the Company believes that the estimated fair values of such investments
are not materially different from their book value.

CONCENTRATIONS OF CREDIT RISK

   Financial   instruments,   which   potentially   subject   the   Company   to
concentrations of credit risk, consist principally of cash and cash equivalents,
short  and  long-term   bank   deposits,   asset-backed   securities  and  trade
receivables.  The  counterparty  to a majority of the Company's cash  equivalent
deposits as well as its short and long-term  bank deposits is a major  financial
institution  of  high  credit  standing.  The  counterparties  to the  Company's
asset-backed  securities  consist of various major  corporations  of high credit
standing.   The  Company  does  not  believe  there  is   significant   risk  of
non-performance by these counterparties. Approximately 16% of the trade accounts
receivable were due from a U.S.  customer that pays its trade  receivables  over
usual  credit  periods.  Credit  risk  with  respect  to the  balance  of  trade
receivables  is  generally  diversified  due to the  large  number  of  entities
comprising the Company's customer base.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

   Furnished at the end of this report commencing on page F-1.

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

   On  December  1, 2000,  a  representative  of  Deloitte & Touche LLP  ("D&T")
notified  us that it did not wish to stand for  re-election  as our  independent
accountant for the 2000 fiscal year audit.

   The reports of D&T on our financial  statements for the past two fiscal years
did not  contain  an adverse  opinion or  disclaimer  of  opinion,  and were not
qualified or modified as to uncertainty, audit scope or accounting principles.

   During the two most recent fiscal years and through  December 1, 2000,  there
were  no  disagreements  between  our  management  and D&T as to any  matter  of
accounting  principles or practices,  financial statement  disclosure,  or audit
scope or procedure,  which disagreement,  if not resolved to the satisfaction of
D&T,  would  have  caused  it to make  reference  to the  subject  matter of the
disagreement  in their  reports on the  financial  statements  for such  periods
within the meaning of Item 304(a)(1)(iv) of Regulation S-K.

   During  the most  recent  fiscal  years and  through  December  1,  2000,  no
reportable events occurred (as defined in Item 304(a)(1)(v) of Regulation S-K).

   D&T has furnished the  Registrant  with a letter  addressed to the Commission
stating  that it agrees  with the  above  statements.  A copy of this  letter is
included as Exhibit 16.1 to this annual report.

   On December 8, 2000,  we engaged  KPMG LLP to replace D&T as our  independent
auditors.  We had not consulted with KPMG prior to its engagement  regarding the
application  of  accounting  principles  to  a  specified  transaction,   either
completed or proposed,  the type of audit  opinion that might be rendered on our
financial statements or any matter that was either the subject of a disagreement
or a reportable event within the meaning of Item 304(1)(1) of Regulation S-K.

   The decision to engage KPMG as our  independent  accountants  was approved by
the Audit Committee of our Board of Directors.


                                       16


                                    PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

   The  information  relating to each of our directors and nominees for director
and the  information  relating to our executive  officers,  appearing  under the
captions "Election of Directors - Certain  Information  Regarding  Directors and
Executive  Officers,"  in our  definitive  proxy  statement  for the 2001 Annual
Meeting of  Stockholders  to be filed on or before May 1, 2001 (the "2001  Proxy
Statement"), is hereby incorporated by reference.

ITEM 11. EXECUTIVE COMPENSATION

   The information relating to compensation of directors and executive officers,
appearing  under the caption  "Election of  Directors-Directors'  Remuneration",
"Election of Directors - Employment Arrangements-Executive  Compensation" in the
2001 Proxy Statement, is hereby incorporated by reference.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

   The information  relating to security ownership,  appearing under the caption
"Stock  Ownership"  in the 2001  Proxy  Statement,  is  hereby  incorporated  by
reference.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

   The information relating to certain relationships and transactions, appearing
under the caption "Certain Transactions" in the 2001 Proxy Statement,  is hereby
incorporated by reference.

                                     PART IV

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

(a) EXHIBITS:

     3.1 Certificate of Incorporation of the Registrant, with amendments thereto
         (incorporated  herein by reference  to Exhibit 3.1 to the  Registrant's
         Registration  Statement  on Form S-1 (File  No.  33-70482)  (the  "1993
         Registration Statement")).

     3.2 By-laws of the Registrant  (incorporated herein by reference to Exhibit
         3.2 to the  Registrant's  Registration  Statement on Form S-1 (File No.
         33-44027) (the "1992 Registration Statement")).

     3.3 Amendments to the By-laws of the Registrant  adopted  December 27, 1994
         (incorporated  herein by reference  to Exhibit 3.3 of the  Registrant's
         Current Report on Form 8-K dated January 10, 1995).

     4.1 Specimen  certificate  for the  Common  Stock  (incorporated  herein by
         reference to Exhibit 4.2 to the 1992 Registration Statement).

     4.2 Securities   Purchase  Agreement  between  the  Registrant  and  Bounty
         Investors LLC dated as of October 12, 1999,  including  Form of Warrant
         (incorporated  herein by  reference  to  Exhibit 1 to the  Registrant's
         Report on Form 8-K dated October 12, 1999 (the "October 1999 8-K")).

     4.3 Form of Registration Rights Agreement between the Registrant and Bounty
         Investors  LLC dated as of October  12,  1999  (incorporated  herein by
         reference to Exhibit 1 to October 1999 8-K).

     4.4 Warrant to Purchase  Common Stock of the  Registrant  dated October 12,
         1999.

   *10.1 Employment  Agreement  between the Registrant  and George  Morgenstern,
         dated as of  January  1,  1997  (incorporated  herein by  reference  to
         Exhibit 10.1 to the  Company's  Annual Report on Form 10-K for the year
         ended December 31, 1997 (the "1997 10-K")).

   *10.2 Employment Agreement between the Registrant and Yacov Kaufman, dated as
         of January 1, 1999  (incorporated  by reference to Exhibit 10.22 of the
         Registrants  Annual Report on Form 10-K for the year ended December 31,
         1999 (the "1999 10-K")).

   *10.3 1991 Stock  Option Plan  (incorporated  herein by  reference to Exhibit
         10.4 to the 1992 Registration Statement).

   *10.4 1994 Stock Incentive Plan, as amended (incorporated herein by reference
         to Exhibit 10.4 to the 1995 10-K).

   *10.5 1994 Stock Option Plan for Outside Directors,  as amended (incorporated
         herein by reference to Exhibit 10.5 to the 1995 10-K).

    10.6 1995  Stock  Option  Plan for  Non-management  Employees  (incorporated
         herein by reference to Exhibit 10.6 to the 1995 10-K).


                                       17



10.7    Asset  Purchase  Agreement  dated as of  August 2, 2000 by and among the
        Registrant,  International Data Operations,  Inc., and Eclipse Networks,
        Inc.  (incorporated by reference to the Registrant's Quarterly Report on
        Form 10-Q for the quarter ended September 30, 2000).

10.8    Credit   Agreement  dated  as  of  February  7,  2000  between  Comverge
        Technologies,  Inc.  and Bank Leumi USA  (incorporated  by  reference to
        Exhibit 10.12 of the 1999 10-K).

10.9    $6,000,000 Term Note of Comverge Technologies, Inc. dated as of February
        7, 2000, payable to Bank Leumi USA (incorporated by reference to Exhibit
        10.13 of the 1999 10-K).

10.10   License  Agreement  between the Registrant and Lucent  Technologies Inc.
        dated as of January 9, 1998  (incorporated  herein by  reference  to the
        Registrant's Current Report on Form 8-K dated February 17, 1998).

10.11   Warrant  Repurchase   Agreement  dated  September  25,  2000  among  the
        Registrant, Bank Leumi USA and Bank Leumi le-Israel.

10.12   Agreement  dated  January 26, 2001  between  the  Registrant  and Bounty
        Investors LLC.

10.13   Lease Agreement dated February 5, 2001 between Duke-Weeks Realty Limited
        Partnership and Comverge Technologies, Inc.

*10.14  Stock Option  Agreements  dated as of October 1, 1999  between  Powercom
        Control Systems Ltd. and George  Morgernstern,  Yacov Kaufman and Harvey
        E. Eisenberg and related promissory notes dated January 3, 2000.

16.1    Letter regarding change in certifying  accountant dated December 8, 2000
        (incorporated  by reference to the  Registrant's  Current Report on Form
        8-K filed December 8, 2000).

    22.1 List of subsidiaries.

    23.1 Consent of KPMG LLP.

    23.2 Consent of Deloitte & Touche LLP.

- ----------
*  This exhibit includes a management contract, compensatory plan or arrangement
   in  which  one or  more  directors  or  executive  officers  of  the  Company
   participate.

(b) FINANCIAL STATEMENT SCHEDULES.

   None.

(c) REPORTS ON FORM 8-K.

   Report  on Form 8-K filed  December  8, 2000  relating  to the  change in our
certifying accountant.


                                       18


                                    SIGNATURE

   Pursuant  to the  requirements  of  Section  13 or  15(d)  of the  Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the  undersigned,  thereunto duly  authorized,  in the Township of
Mahwah, State of New Jersey, on March 28, 2001.

                                             DATA SYSTEMS & SOFTWARE INC.

                                             BY   /S/ GEORGE MORGENSTERN
                                                  ----------------------
                                                    GEORGE MORGENSTERN
                                             CHAIRMAN OF THE BOARD, PRESIDENT
                                                AND CHIEF EXECUTIVE OFFICER

   PURSUANT TO THE  REQUIREMENTS  OF THE SECURITIES  EXCHANGE ACT OF 1934,  THIS
REPORT HAS BEEN SIGNED BY THE FOLLOWING PERSONS ON BEHALF OF THE REGISTRANT,  IN
THE CAPACITIES AND ON THE DATES INDICATED.



      SIGNATURE                                   TITLE                                    DATE
      ---------                                   -----                                    ----

                                                                                 
/S/ GEORGE MORGENSTERN        Chairman of the Board; President; Chief Executive        March 28, 2001
- ----------------------        Officer; and Director
  George Morgenstern

  /S/ ROBERT L. KUHN          Vice Chairman and Director                               March 28, 2001
  ------------------
    Robert L. Kuhn

   /S/ YACOV KAUFMAN          Vice President, Chief Financial Officer (Principal       March 28, 2001
   -----------------          Financial Officer and Principal Accounting Officer)      March 28, 2001
     Yacov Kaufman

/S/ HARVEY EISENBERGER        Director                                                 March 28, 2001
- ----------------------
  Harvey Eisenberger

  /S/ ALLEN I. SCHIFF         Director                                                 March 28, 2001
  -------------------
    Allen I. Schiff

  /S/ MAXWELL M. RABB         Director                                                 March 28, 2001
  -------------------
    Maxwell M. Rabb

   /S/ SUSAN MALLEY           Director                                                 March 28, 2001
   ----------------
     Susan Malley

  /S/ SHELDON KRAUSE          Secretary and Director                                   March 28, 2001
  ------------------
    Sheldon Krause



                                       19


                          DATA SYSTEMS & SOFTWARE INC.
                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

CONSOLIDATED FINANCIAL STATEMENTS OF DATA SYSTEMS & SOFTWARE INC.:



                                                                                        
Report of KPMG LLP. ....................................................................   F-1

Report of Deloitte & Touche LLP. .......................................................   F-2

Consolidated Balance Sheets as of December 31, 1999 and December 31, 2000 ..............   F-3

Consolidated Statements of Operations and Comprehensive Income (Loss)
  for the years ended December 31, 1998, December 31,  1999 and December 31, 2000 ......   F-4

Consolidated Statements of Changes in Shareholders' Equity
  for the years ended December 31, 1998, December 31, 1999 and December 31, 2000 .......   F-5

Consolidated Statements of Cash Flows
  for the years ended December 31, 1998, December 31, 1999 and December 31, 2000 .......   F-6

Notes to Consolidated Financial Statements..............................................   F-8






                          INDEPENDENT AUDITORS' REPORT

The Board of Directors and Shareholders of
Data Systems & Software  Inc.:

   We have audited the accompanying consolidated balance sheet of Data Systems &
Software  Inc.  and  subsidiaries  as of  December  31,  2000,  and the  related
consolidated  statements of operations and comprehensive income (loss),  changes
in  shareholders'  equity,  and  cash  flows  for the  year  then  ended.  These
consolidated  financial  statements  are  the  responsibility  of the  Company's
management.  Our  responsibility is to express an opinion on these  consolidated
financial statements based on our audit.

   We  conducted  our audit in  accordance  with  auditing  standards  generally
accepted in the United States of America.  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  audit  provides  a
reasonable basis for our opinion.

   In our  opinion,  the  consolidated  financial  statements  referred to above
present fairly, in all material respects, the financial position of Data Systems
& Software  Inc. and  subsidiaries  as of December 31, 2000,  and the results of
their operations and their cash flows for the year then ended in conformity with
accounting principles generally accepted in the United States of America.

/s/ KPMG LLP

Short Hills, New Jersey
March 16, 2001


                                      F-1


                          INDEPENDENT AUDITORS' REPORT

To the Board of Directors and Shareholders of
Data Systems & Software Inc.:

   We have audited the accompanying consolidated balance sheet of Data Systems &
Software Inc. (the  "Company") and its  subsidiaries as of December 31, 1999 and
the related  consolidated  statements of  operations  and  comprehensive  income
(loss), changes in shareholders' equity and cash flows for each of the two years
in the period ended December 31, 1999. These consolidated  financial  statements
are the  responsibility of the Company's  management.  Our  responsibility is to
express an  opinion  on these  consolidated  financial  statements  based on our
audits.

   We conducted  our audits in  accordance  with  auditing  standards  generally
accepted in the United States of America.  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 financial position of the Company
and its  subsidiaries  as of  December  31,  1999,  and  the  results  of  their
operations  and their cash  flows for each of the two years in the period  ended
December 31, 1999, in conformity with accounting  principles  generally accepted
in the United States of America.

/s/ Deloitte & Touche LLP

New York, New York
March 29, 2000


                                      F-2


                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

                           CONSOLIDATED BALANCE SHEETS
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

                                     ASSETS

                                                          AS OF DECEMBER 31,
                                                       ------------------------
                                                           1999          2000
                                                       ----------    ----------
Current assets:
  Cash and cash equivalents ...........................  $ 1,379        $10,877
  Short-term interest bearing bank deposits. ..........    1,009          5,994
  Investment held for sale ............................   25,900             --
  Restricted cash .....................................      536            302
  Accounts receivable, net ............................   10,078          9,989
  Inventory ...........................................    1,249            448
  Other current assets ................................      945          1,154
                                                         -------        -------
    Total current assets ..............................   41,096         28,764
                                                         -------        -------
Investments   .........................................       --            153
Property and equipment, net ...........................    1,853          1,535
Goodwill and other intangible assets, net .. ..........    4,285          2,826
Long-term deposits  ...................................       --          6,000
Other assets  .........................................      838            543
Prepaid employee termination benefits .................    2,386          2,336
                                                         -------        -------
    Total assets  .....................................  $50,458        $42,157
                                                         =======        =======

                      LIABILITIES AND SHAREHOLDERS' EQUITY

Current liabilities:
  Short-term bank debt and current maturities of
    long-term debt ....................................  $ 7,423        $   591
  Trade accounts payable ..............................    5,809          4,347
  Accrued payroll, payroll taxes and social benefits ..    1,246          1,677
  Other current liabilities. ..........................    6,588          3,971
                                                         -------        -------
    Total current liabilities .........................   21,066         10,586
                                                         -------        -------
Long-term liabilities:
  Convertible debentures ..............................    1,562             --
  Long-term debt ......................................       22          6,015
  Liability for employee termination benefits. ........    2,948          2,935
                                                         -------        -------
    Total long-term liabilities .......................    4,532          8,950
                                                         -------        -------
Commitments and contingencies (Notes 10 and 14)
Minority interests ....................................       10             40
                                                         -------        -------
Shareholders' equity:
  Common stock $.01 par value per share:
    Authorized 20,000,000 shares; issued and
      outstanding 7,923,540 and 8,035,334 shares
      at December 31, 1999 and 2000, respectively .....       79             80
  Additional paid-in capital ..........................   35,702         35,970
  Warrants ............................................      432            114
  Deferred compensation expense. ......................      (73)            --
  Accumulated deficit .................................   (8,925)        (8,813)
  Treasury stock, at cost--490,262 and 990,647
    shares at December 31, 1999 and 2000,
    respectively. .....................................   (2,365)        (4,770)
                                                         -------        -------
Total shareholders' equity. ...........................   24,850         22,581
                                                         -------        -------
Total liabilities and shareholders' equity. ...........  $50,458        $42,157
                                                         =======        =======

              The accompanying notes are an integral part of these
                       consolidated financial statements.


                                      F-3


                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

      CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)
                      (IN THOUSANDS, EXCEPT PER SHARE DATA)



                                                                         YEAR ENDED DECEMBER 31,
                                                                    --------------------------------
                                                                      1998        1999        2000
                                                                    --------    --------    --------
                                                                                   
Sales:
  Products ......................................................   $ 17,277    $ 20,300    $ 38,300
  Services ......................................................     19,433      19,408      19,539
                                                                    --------    --------    --------
                                                                      36,710      39,708      57,839
                                                                    --------    --------    --------
Cost of sales:
  Products ......................................................     13,945      16,705      31,415
  Services ......................................................     14,869      14,910      14,191
                                                                    --------    --------    --------
                                                                      28,814      31,615      45,606
                                                                    --------    --------    --------
    Gross profit ................................................      7,896       8,093      12,233
Research and development expenses ...............................      1,605       1,269         928
Selling, general and administrative expenses ....................     12,549      12,471      16,340
Gain on sale of division ........................................         --          --       1,144
                                                                    --------    --------    --------
  Operating loss ................................................     (6,258)     (5,647)     (3,891)
Interest income .................................................        147          61
                                                                                               1,758

Interest expense ................................................       (360)       (910)       (709)
Other loss, net .................................................     (2,172)       (306)        (50)
Minority interests ..............................................        878        (275)         --
                                                                    --------    --------    --------
  Loss from continuing operations before
    provision for income taxes ..................................     (7,765)     (7,077)     (2,892)
Provision for income taxes ......................................         35          62         171
                                                                    --------    --------    --------
  Loss from continuing operations ...............................     (7,800)     (7,139)     (3,063)
Loss from discontinued operations, net of income taxes ..........    (11,142)     (8,728)       (104)
Gain on sale of discontinued operations, net of income taxes ....      5,998          --       4,222
                                                                    --------    --------    --------
Income (loss) before extraordinary item .........................    (12,944)    (15,867)      1,055
Extraordinary loss on early redemption of debt ..................         --          --        (943)
                                                                    --------    --------    --------
  Net income (loss) .............................................    (12,944)    (15,867)        112
Other comprehensive income (loss):
  Unrealized gain on securities available for sale ..............        110        (110)         --
                                                                    --------    --------    --------
  Comprehensive income (loss) ...................................   $(12,834)   $(15,977)   $    112
                                                                    ========    ========    ========
Basic and diluted net income (loss) per share:
  Loss from continuing operations ...............................   $  (1.05)   $  (0.96)   $  (0.41)
  Discontinued operations .......................................      (0.70)      (1.17)       0.56
  Extraordinary item ............................................         --          --       (0.13)
                                                                    --------    --------    --------
  Net income (loss) per share ...................................   $  (1.75)   $  (2.13)   $   0.02
                                                                    ========    ========    ========
Weighted average number of shares outstanding--basic
   and diluted ..................................................      7,391       7,433       7,422
                                                                    ========    ========    ========


              The accompanying notes are an integral part of these
                       consolidated financial statements.


                                      F-4


                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
                                 (IN THOUSANDS)



                                                                                                              ACCUMULATED
                                                                                                                 OTHER
                                                             ADDITIONAL DEFERRED                                 COMPRE-
                                        NUMBER OF    COMMON   PAID-IN   COMPEN-            TREASURY ACCUMULATED  HENSIVE
                                          SHARES     STOCK    CAPITAL   SATION   WARRANTS    STOCK    DEFICIT    INCOME     TOTAL
                                        ---------    ------   -------  --------  --------  --------    -------  --------   -------
                                                                                               
Balances December 31, 1997 .............   7,709       $77    $34,193     $  --     $  --   $(1,848)   $19,886     $  --  $ 52,308
  Common stock issued in restricted
    stock award ........................     155         1        435        --        --        --         --        --       436
  Unamortized restricted stock award
    compensation .......................      --        --         --      (436)       --        --         --        --      (436)
  Common stock issued as compensation ..      50         1        100         --       --        --         --        --       101
  Common stock issued upon exercise of
    options ............................      10        --         55        --        --        --         --        --        55
  Purchase of treasury stock ...........      --        --         --        --        --      (517)        --        --      (517)
  Amortization of restricted stock award
    compensation .......................      --        --        196       109        --        --         --        --       305
  Unrealized gain on securities
    available for sale .................      --        --         --        --        --        --         --       110       110
  Net loss .............................      --        --         --        --        --        --    (12,944)       --   (12,944)
                                           -----       ---    -------     -----      ----   -------    -------      ----  --------
Balances, December 31, 1998 ............   7,924        79     34,979      (327)       --    (2,365)     6,942       110    39,418
  Imputed interest on convertible
    debenture ..........................      --        --        377        --        --        --         --        --       377
  Beneficial conversion feature
    of convertible debenture ...........      --        --        300        --        --        --         --        --       300
  Amortization of restricted stock award
    compensation and warrants ..........      --        --         46       254        --        --         --        --       300
  Issuance of warrants .................      --        --         --        --       432        --         --        --       432
  Unrealized loss on securities
    available for sale .................      --        --         --        --        --        --         --      (110)     (110)
  Net loss .............................      --        --         --        --        --        --    (15,867)       --   (15,867)
                                           -----       ---    -------     -----      ----   -------    -------      ----  --------
Balances, December 31, 1999 ............   7,924       $79    $35,702      $(73)     $432   $(2,365)   $(8,925)     $ --  $ 24,850
  Conversion of convertible
    debentures .........................      85         1        259        --        --        --         --        --       260
  Exercise of options. .................      26        --         66        --        --        --         --        --        66
  Amortization of restricted stock
    award compensation .................      --        --         --        73        --        --         --        --        73
  Repurchase of  outstanding
    warrants ...........................      --        --        (57)       --      (318)       --         --        --      (375)
  Purchase of treasury shares ..........      --        --         --        --        --    (2,405)        --        --    (2,405)
  Net income ...........................      --        --         --        --        --        --        112        --       112
                                           -----       ---    -------     -----      ----   -------    -------      ----  --------
Balances, December 31, 2000. ...........   8,035       $80    $35,970     $  --      $114   $(4,770)   $(8,813)     $ --  $ 22,581
                                           =====       ===    =======     =====      ====   =======    =======      ====  ========


              The accompanying notes are an integral part of these
                       consolidated financial statements.


                                      F-5


                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (IN THOUSANDS)



                                                                                           YEAR ENDED DECEMBER  31,
                                                                                     ---------------------------------
                                                                                       1998        1999        2000
                                                                                     --------    --------    --------
                                                                                                    
Cash flows used in operating activities:
Net income (loss)  ...............................................................   $(12,944)   $(15,867)   $    112
   Adjustments to reconcile net income (loss) to net cash used in operating
     activities--see Schedule A ..................................................      7,129      10,833      (6,257)
                                                                                     --------    --------    --------
Net cash used in operating activities ............................................     (5,815)     (5,034)     (6,145)
                                                                                     --------    --------    --------
Cash flows provided by (used in) investing activities:
   Short-term bank deposits, net .................................................     (1,179)        243      (4,985)
   Restricted cash ...............................................................      1,034         216         234
   Investment in marketable securities ...........................................     (5,898)         --          --
   Investment in long-term deposits ..............................................         --          --      (6,000)
   Proceeds from sale and maturity of marketable securities ......................      7,527       1,520          --
   Proceeds from sale of Tower ...................................................         --          --      30,889
   Net proceeds from sale of division ............................................      6,595          --       1,838
   Acquisitions of property and equipment ........................................       (929)     (1,276)       (742)
   Proceeds from sale of property and equipment ..................................        135         327         132
   Funding of termination benefits ...............................................        (16)       (190)         50
   Acquisitions of intangible assets .............................................       (504)     (4,192)        (17)
   Purchase of minority interest share of subsidiary .............................         --        (559)         --
                                                                                     --------    --------    --------
   Net cash provided by (used in) investing activities ...........................      6,765      (3,911)     21,399
                                                                                     --------    --------    --------
Cash flows provided by (used in) financing activities:
   Proceeds from issuance of common stock, net ...................................        156          --          --
   Purchase of treasury stock ....................................................       (517)         --      (2,405)
   Proceeds from sale of shares received in partial conversion of note receivable       1,871          --          --
   Proceeds from stock options exercises .........................................         --          --          66
   Repurchase of outstanding warrants ............................................         --          --        (375)
   Redemption of convertible debentures ..........................................         --          --      (2,001)
   Short-term debt, net ..........................................................     (2,064)      7,824      (6,971)
   Proceeds from long-term debt ..................................................        453          52       6,021
   Issuance of convertible debentures and warrants ...............................         --       2,000          --
   Repayments of long-term debt ..................................................     (1,270)       (555)        (91)
                                                                                     --------    --------    --------
   Net cash provided by (used in) financing activities ...........................     (1,371)      9,321      (5,756)
                                                                                     --------    --------    --------
Net increase (decrease) in cash and cash equivalents .............................       (421)        376       9,498
Cash and cash equivalents at beginning of year ...................................      1,424       1,003       1,379
                                                                                     --------    --------    --------
Cash and cash equivalents at end of year .........................................   $  1,003    $  1,379    $ 10,877
                                                                                     ========    ========    ========
Supplemental cash flow information:
   Cash paid during the year for:
     Interest ....................................................................   $    205    $    386    $    764
                                                                                     ========    ========    ========
     Income taxes ................................................................   $    195    $    106    $  3,596
                                                                                     ========    ========    ========


              The accompanying notes are an integral part of these
                       consolidated financial statements.


                                      F-6


                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

               SCHEDULES TO CONSOLIDATED STATEMENTS OF CASH FLOWS
                             (DOLLARS IN THOUSANDS)



                                                                                             YEAR ENDED DECEMBER 31,
                                                                                        --------------------------------
                                                                                            1998       1999       2000
                                                                                        --------     --------   --------
                                                                                                       
A. Adjustments to reconcile net income (loss) to net cash used in operating activities:
   Depreciation and amortization ....................................................   $  1,092    $  1,351    $  1,628
   Minority interests ...............................................................       (878)        275          --
   Issuance of subsidiary shares to minority interests ..............................         --          --          30
   Gain on sale of Tower ............................................................         --          --      (4,989)
   Allowance for write-off against note receivable ..................................        610          --          --
   Allowance for bank guarantees for affiliate ......................................      1,135          --          --
   Write-off of investment in affiliates and related receivables ....................        498          --          --
   Earnings on marketable debt securities ...........................................        (30)         --          --
   Allowance for doubtful accounts ..................................................       (352)         95         254
   Deferred taxes ...................................................................         --          --         (20)
   Increase (decrease) in liability for employee termination benefits ...............        367         167         (13)
   Equity loss in affiliates ........................................................      3,908       5,102          --
   Gain on sale of segment ..........................................................     (5,998)         --      (1,144)
   Gain on sale of marketable securities ............................................       (192)       (247)         --
   Unrealized loss from write-down of investment ....................................      6,103         237          --
   Loss (gain) on sale of property, plant and equipment, net ........................        (37)         51          (4)
   Amortization of restricted stock award compensation ..............................        305         300          73
   Extraordinary loss on early redemption of debt ...................................         --          --         943
   Discount on convertible debentures ...............................................         --         300          --
   Non-cash interest expense on convertible debentures and warrants .................         --         169          37
   Other ............................................................................         19         (15)         --
   Receipt of investments for services rendered .....................................         --          --        (153)

   Changes in operating assets and liabilities, net of effect of
     acquisitions and disposals:
       Decrease (increase) in accounts receivable and other current assets .........       1,488      (2,914)       (601)
       Decrease (increase) in inventory ............................................        (327)       (545)      1,257
       Decrease in other assets ....................................................         227         219         297
       Increase (decrease) in accounts payable and other current liabilities .......        (809)      6,288      (3,852)
                                                                                        --------    --------    --------
                                                                                        $  7,129    $ 10,833    $ (6,257)
                                                                                        ========    ========    ========
B. Non-cash investing and financing activities:
   Receipt of capital stock in partial conversion of note receivable ................   $  1,871
                                                                                        ========
   Imputed interest on convertible debentures .......................................               $    377
                                                                                                    ========
   Unrealized gain (loss) on marketable securities available for sale ...............   $    110    $   (110)
                                                                                        =======     ========
   Adjustment of goodwill for inventory sold ........................................                           $    456
                                                                                                                ========
   Adjustments to goodwill and reduction of amounts due on acquisition for funding of
     operating costs and below-market sales contract ................................                           $    226
                                                                                                                ========
   Issuance of shares upon conversion of convertible debt ...........................                           $    260
                                                                                                                ========
   Adjustment of fixed assets to other current liabilities ..........................                           $     11
                                                                                                                ========
   Subsidiary stock issued in exchange for certain assets ...........................   $    50
                                                                                        =======

              The accompanying notes are an integral part of these
                       consolidated financial statements.

                                      F-7



                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

NOTE 1--GENERAL AND SIGNIFICANT ACCOUNTING POLICIES

   (a) Description of Business

   Data Systems & Software Inc., a Delaware  corporation  ("DSSI"),  through its
subsidiaries   (collectively,   the  "Company"),  (i)  provides  consulting  and
development  services for computer  software and systems,  (ii) is an authorized
dealer and a  value-added-reseller  of  computer  hardware,  and (iii)  provides
control products and data communication  solutions for utilities.  DSSI's shares
are traded on the Nasdaq National Market.

   (b) Use of Estimates in Preparation of Financial Statements

   The  preparation  of  financial  statements  in  conformity  with  accounting
principles   generally  accepted  in  the  United  States  of  America  requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities  and the disclosure of contingent  assets and liabilities
as of the date of the financial statements, and the reported amounts of revenues
and expenses  during the  reporting  periods.  Actual  results could differ from
those estimates.

   (c) Significant Accounting Policies

FOREIGN CURRENCY TRANSACTIONS

   The currency of the primary  economic  environment in which the operations of
the Company are conducted is the United States dollar  ("dollar").  Accordingly,
DSSI and all of its subsidiaries  use the dollar as their  functional  currency.
All exchange gains and losses denominated in non-dollar currencies are reflected
in other  expense,  net in the  consolidated  statement of operations  when they
arise. Such foreign currency gains and losses,  net amounted to $150, $64 and $3
for the years ended December 31, 1998, 1999 and 2000, respectively.

PRINCIPLES OF CONSOLIDATION AND PRESENTATION

   The consolidated  financial statements of the Company include the accounts of
all majority-owned subsidiaries. The consolidated financial statements have been
prepared in conformity  with  accounting  principles  generally  accepted in the
United States of America.  All intercompany  balances and transactions have been
eliminated. Minority interests in net income (loss) are limited to the extent of
their equity capital.  Losses in excess of minority  interest equity capital are
charged against the Company.

RECLASSIFICATIONS

   Certain  reclassifications  have  been  made to the  Company's  prior  years'
consolidated   financial   statements   to  conform  with  the  current   year's
consolidated financial statement presentation.

CASH AND CASH EQUIVALENTS

   Cash and cash  equivalents  consist of cash and demand  deposits in banks and
short-term  investments  (primarily  time deposits and  certificates of deposit)
with original maturities of three months or less.

INVENTORY

   Inventories are stated at the lower of cost or market. Cost is determined for
raw materials,  spare parts and supplies on the average cost method. For work in
process and finished  goods,  cost is determined on the basis of standard costs,
adjusted for variances,  which  approximates  the first-in,  first-out method of
cost. For merchandise inventories, cost is determined on the first-in, first-out
method.

INVESTMENTS

   Investments  in which the Company  owns at least 20% and not more than 50% of
the voting control or affiliates over whose operating and financial policies the
Company has the ability to exercise  significant  influence are accounted for by
the equity method.  Pursuant to this method,  the Company  includes its share of
the  affiliate's  earnings or losses in the  Company's  consolidated  results of
operations.  Investments  in less than 20% of the voting control of companies or
in other entities over whose  operating and financial  policies the Company does
not have the power to exercise  significant  influence  are accounted for by the
cost method. Pursuant to this method, the Company records its investment at cost
and  recognizes  dividends  received as income from the  investee  company.  The
carrying values of investments are periodically  reviewed to determine whether a
decline in value is other than temporary.


                                      F-8



                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

NOTE 1--GENERAL AND SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)

   Marketable  equity  securities  which are  available for sale are recorded at
fair value,  and the amount of unrecognized  gains or losses are recognized as a
component of accumulated other comprehensive income.

PROPERTY AND EQUIPMENT

   Property  and  equipment  are  presented at cost or fair value at the date of
acquisition.   Depreciation   and   amortization  is  calculated  based  on  the
straight-line  method over the estimated useful lives of the depreciable assets,
or in the case of  leasehold  improvements,  the lease  term.  Improvements  are
capitalized while repairs and maintenance are charged to operations as incurred.

INTANGIBLES

   Goodwill  represents the excess of cost over the fair value of the net assets
of subsidiaries  acquired in purchase  transactions.  Goodwill is amortized on a
straight-line  basis over its  estimated  useful life which  ranges from five to
seven years.

   The costs of licensed  technology  are  presented at estimated  fair value at
acquisition  date.  These costs are amortized on a straight-line  basis over the
term of the license, generally five years.

   The costs of  registered  patents and  patents  pending  acquired  from third
parties are presented at estimated fair value at acquisition  date. In addition,
registration  costs and fees for patents  are  capitalized.  Registered  patents
costs are  amortized  over the estimated  remaining  useful life of the patents,
from four to 14 years.  Costs for patents  pending are not amortized  until they
are issued.

REVENUE RECOGNITION

   Revenues from  time-and-materials  service contracts,  maintenance agreements
and other services are recognized as services are provided.

   Revenues from  fixed-price  service  contracts are recognized as services are
provided using the  percentage-of-completion  method as costs (primarily  direct
labor) are incurred,  in the proportion that actual costs incurred bear to total
estimated costs.  Percentage-of-completion  estimates are reviewed periodically,
and any adjustments required are reflected in the period when such estimates are
revised.  Losses on contracts, if any, are recognized in the period in which the
loss is determined.  Fixed price projects in which the Company  receives  equity
shares as compensation  for services  rendered are recorded at the fair value of
the  services   provided,   or  equity  received,   whichever  is  more  readily
determinable.

   Revenues  on the  sale of  products  are  recognized  when the  products  are
shipped. Revenue from third-party hardware and software sales is recognized upon
delivery,  and  recorded at the gross or net amount  according  to the  criteria
established in Emerging  Issues Task Force Issue No. 99-19,  "Recording  Revenue
Gross as a Principal versus Net as an Agent" and Staff  Accounting  Bulletin No.
101, as amended, "Revenue Recognition in Financial Statements."

RESEARCH AND DEVELOPMENT EXPENSES

   Research and development costs are charged to operations as incurred.

STOCK-BASED COMPENSATION

   The Company  accounts for employee and director  stock-based  compensation in
accordance  with  Accounting  Principles  Board Opinion No. 25,  "Accounting for
Stock  Issued  to  Employees,"  and  related   interpretations.   In  accordance
therewith,   the  Company  records  compensation  on  fixed  stock  options  and
restricted  common stock granted to employees and directors at the date of grant
if the current  market price of the Company's  common stock exceeds the exercise
price of the  options  and  restricted  common  stock.  Compensation  expense on
variable stock option grants is estimated until the measurement  date.  Deferred
compensation is amortized to compensation expense over the vesting period of the
underlying options. As permitted by Statement on Financial  Accounting Standards
No. 123,  "Accounting for Stock-Based  Compensation"  ("SFAS 123"),  the Company
provides pro forma net income and pro forma earnings per share  disclosures  for
employee and  director  stock option  grants as if the  fair-value-based  method
defined in SFAS No. 123 had been applied.

   The Company accounts for stock-based  compensation issued to consultants on a
fair value  basis in  accordance  with SFAS No.  123 and EITF  Issue No.  96-18,
"Accounting for Equity  Instruments  That Are Issued to Other Than Employees for
Acquiring, or in Conjunction with Selling, Goods or Services."


                                      F-9


                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

NOTE 1--GENERAL AND SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED)

INCOME TAXES

   Deferred  income taxes  reflect the net tax effects of temporary  differences
between the carrying  amounts of assets and liabilities for financial  reporting
purposes  and the amounts  used for income tax  purposes,  as well as  operating
loss,  capital  loss and tax  credit  carryforwards.  Deferred  tax  assets  and
liabilities are classified as current or noncurrent based on the  classification
of the related assets or liabilities  for financial  reporting,  or according to
the  expected  reversal  dates of the  specific  temporary  differences,  if not
related to an asset or liability for financial  reporting.  Valuation allowances
are established  against  deferred tax assets if it is more likely than not that
they will not be realized.

   Income taxes associated with the  undistributed  earnings of a subsidiary are
not provided for in accordance with Accounting  Principals Board Opinion No. 23,
when the Company has  sufficient  evidence that the  subsidiary  has invested or
will invest the undistributed  earnings  indefinitely.  If it is determined that
the  undistributed  earnings of a subsidiary will be remitted in the foreseeable
future, all taxes related to the remittance of such  undistributed  earnings are
provided for in the current period as income tax expense.

IMPAIRMENT OF GOODWILL AND LONG-LIVED ASSETS

   The  carrying  value of  goodwill  and  long-lived  assets  is  reviewed  for
impairment whenever events or changes in circumstances occur indicating that the
net carrying amount may not be recoverable. The review is based on comparing the
carrying  amount of the  long-lived  assets to the  undiscounted  estimated cash
flows over their remaining useful lives. If the sum of the expected undiscounted
future cash flows is less than the  carrying  amount of the assets,  the Company
would  recognize an impairment  loss. The  impairment  loss, if determined to be
necessary,  would be measured as the amount by which the carrying  amount of the
asset exceeds the fair value of the asset. Assets to be disposed of are reported
at the lower of the carrying amount or fair value less costs to sell.

BASIC AND DILUTED NET INCOME (LOSS) PER SHARE

   The Company presents basic net income (loss) per share and diluted net income
(loss) per share.  Basic net income  (loss) per share  excludes  dilution and is
computed by dividing net income (loss) by the weighted  average number of shares
outstanding  for each period  presented.  Diluted net income (loss) per share is
computed by dividing net income (loss) by the weighted  average number of shares
outstanding plus the dilutive potential of common shares which would result from
the  exercise  of stock  options  and  warrants  or  conversion  of  convertible
securities.  However,  the  dilutive  effects  of stock  options,  warrants  and
convertible  securities are excluded from the  computation of diluted net income
(loss) per share if doing so would be antidilutive.

NOTE 2--DISPOSITIONS

   (a) In 1998 and 1999,  DSSI  owned 60% of the  shares of Tower  Semiconductor
Holdings  1993 Ltd.  ("Holdings").  Holdings'  only asset was its  investment in
44.8%  and  45.3% of  Tower  Semiconductor  Ltd.  ("Tower")  for 1998 and  1999,
respectively.  In December 1999,  Holdings entered into an agreement to sell its
interest in Tower to the 40% minority owner of Holdings for $30,889.  Closing of
the agreement was subject to third-party  administrative  approvals,  which were
received in January 2000. As part of the agreement, Holdings declared a dividend
of $39,515 of which the Company  received  $23,709  (less  withholding  taxes of
$2,964) in January 2000. In light of the pending sale, the Company's interest in
Holdings was treated as a discontinued operation in the consolidated  statements
of operations and comprehensive  income (loss) for all periods presented and was
classified as an investment held for sale on the  consolidated  balance sheet at
December 31, 1999.  In addition,  the Company  accrued all taxes with respect to
the anticipated  repatriation of Tower's accumulated  earnings.  At December 31,
1999, the carrying value of the investment was stated at the agreed upon selling
price net of equity losses for the year.

   Upon  receipt of the  administrative  approvals,  the  Company  received  the
proceeds from the sale, net of the Israeli  dividend  withholding  tax. In 2000,
the  Company  recorded a gain of $4,222 (net of  applicable  taxes of $767) with
respect to this transaction.


                                      F-10


                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

NOTE 2--DISPOSITIONS -- (CONTINUED)

   Set forth below is condensed financial information of Tower:

                                                                       AS OF
                                                                    DECEMBER 31,
                                                                    ------------
                                                                       1999
                                                                    ------------
Current assets ....................................................   $  75,453
Property and equipment ............................................      72,683
Current liabilities ...............................................      19,452
Long-term debt ....................................................      12,106
Other long-term liabilities .......................................       1,532
Shareholders' equity ..............................................     122,121

                                                        YEAR ENDED DECEMBER 31,
                                                        -----------------------
                                                           1998         1999
                                                        ----------    ---------
Sales ................................................   $  69,637    $  69,815
Operating loss .......................................     (23,998)     (25,166)
Net loss .............................................     (15,544)     (20,467)

   The  market  value of the  Company's  share  (net of  minority  interest)  of
Holdings'  investment in Tower as of December 31, 1998 was  significantly  below
the carrying value of the equity  investment as of that date.  Since the decline
in market price was determined to be other than temporary,  the Company recorded
a write-down to market value of $6,103 at December 31, 1998 with respect to this
investment. This charge is included in loss from discontinued operations, net of
income taxes on the  consolidated  statement  of  operations  and  comprehensive
income (loss).

   In 1998 and 1999,  the  Company  recorded  equity  losses  with regard to its
interest in Tower of $3,708 and $5,005,  respectively.  These equity  losses are
included in loss from discontinued operations, net of income taxes. In addition,
in 1999,  the  Company  recorded a provision  for  Israeli  taxes of $3,723 with
respect to the  anticipated  repatriation  of subsidiary  income  related to the
Company's sale of its interest in Tower in January 2000.

   (b) In September 2000, the Company  completed the sale of  substantially  all
the assets of its CinNetic  division,  included in the software  development and
consulting  segment,  for a total of $1,838  resulting in a gain of $1,144.  The
CinNetic  division had an operating loss of approximately  $505 and $315 for the
years ending December 31, 1999 and 2000, respectively.

   (c) In April 1998 the Company sold certain assets and the technology  related
to its  help  desk  software  segment  for  approximately  $6,595.  The  Company
recognized a gain of approximately  $5,998 before taxes in the second quarter of
1998 in connection with this transaction.  This segment had an operating loss of
$1,331 in 1998. In 2000,  the Company  recorded an additional  provision of $104
with  respect  to  additional  expenses  related to the  discontinued  help desk
software  segment.   All  amounts  related  to  this  segment  are  included  in
discontinued operations.

NOTE 3--ACQUISITIONS

   (a) In August 1999,  the Company  acquired the assets of the Control  Systems
division of Scientific-Atlanta,  Inc., integrating it into the Company's utility
solutions segment.  The acquisition was accounted for using the purchase method.
The purchase price was $4,172  (including $172 of transaction  costs),  of which
$750 was not due until August 2000. The purchase price was subject to adjustment
primarily to reflect  reimbursement by Scientific-Atlanta of the cost of certain
contractual obligations assumed by the Company. During 2000, the Company reduced
the deferred  purchase  obligation by $683 to $67  reflecting  the net effect of
certain adjustments. As of December 31, 2000, the Company and Scientific-Atlanta
have not reached agreement on the final purchase price. Further adjustments,  if
any, upon  finalization  of the purchase  price will be reflected as a change to
goodwill.  The adjusted  purchase price of $3,954 has been allocated as follows:
$2,013 to inventory, $639 to property and equipment; $248 to patents and patents
pending;  $20 to assumed  liability  and  $1,074 to  goodwill.  Such  allocation
includes adjustments during 2000 to the preliminary purchase price allocation at
December 31, 1999.

   (b) In April 1999,  the Company  purchased  all of the  outstanding  minority
interest in the Company's Decision Systems Israel  subsidiary,  a public company
whose  shares  were  traded  on the  Tel  Aviv  Stock  Exchange,  for  aggregate
consideration of $2,750.  The Company recorded goodwill of approximately  $2,200
in connection with the acquisition.


                                      F-11


                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

NOTE 4--ACCOUNTS RECEIVABLE, NET

   Accounts receivable, net consists of the following:

                                                        YEAR ENDED DECEMBER 31,
                                                        -----------------------
                                                           1998           1999
                                                         -------         ------
Trade accounts receivable ...........................    $ 9,251         $9,348
Unbilled work-in-process ............................      1,008          1,076
Allowance for doubtful accounts. ....................       (181)          (435)
                                                         -------        -------
Accounts receivable, net ............................    $10,078         $9,989
                                                         =======        =======

   Unbilled  work-in-process  principally  represents  direct labor and expenses
incurred on consulting  contracts that have not been invoiced to the customer as
of the end of the period. Such amounts are generally billed within three months.

   Bad debt expense related to trade accounts  receivable was $37, $169 and $262
for the years  ended  December  31,  1998,  1999 and 2000,  respectively.  Trade
accounts receivable charged to the allowance for doubtful accounts were $74, $74
and $8 for the years ended December 31, 1998, 1999 and 2000, respectively.

NOTE 5--INVENTORY

   Inventory consists of the following:
                                                           AS OF DECEMBER 31,
                                                         ----------------------
                                                           1999           2000
                                                          ------         ------
Raw materials, spare parts and supplies ...............   $1,047           $ 35
Work in process .......................................       72             --
Finished goods and merchandise ........................      130            413
                                                          ------          -----
                                                          $1,249           $448
                                                          ======          =====

NOTE 6--OTHER CURRENT ASSETS

   Other current assets consist of the following:
                                                             AS OF DECEMBER 31,
                                                           --------------------
                                                            1999           2000
                                                           -----         ------
Prepaid expenses. .....................................     $397         $  240
Interest receivable ...................................       --            514
Other .................................................      548            400
                                                           -----         ------
 ......................................................     $945         $1,154
                                                           =====         ======

NOTE 7--INVESTMENT

   In 2000, the Company  received equity shares of $153 as partial  compensation
for services rendered to two start-up companies. The investment is accounted for
using the cost method.



                                      F-12


                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

NOTE 8--PROPERTY AND EQUIPMENT, NET

   Property and equipment consist of the following:

                                   ESTIMATED USEFUL LIFE     AS OF DECEMBER  31,
                                   ---------------------     ------------------
                                        (IN YEARS)           1999        2000
                                                            ------      ------
Cost:
  Computer hardware and software ...                3        $3,201      $3,463
  Office furniture and equipment ...             4-10         1,606       1,802
  Motor vehicles ...................                7           365          85
  Leasehold improvements ...........    Term of Lease           240         246
                                                             ------      ------
                                                              5,412       5,596
                                                             ------      ------
Accumulated depreciation and amortization:
  Computer hardware and software .......................      2,355       2,864
  Office furniture and equipment .......................        815         930
  Motor vehicles .......................................        193          60
  Leasehold improvements ...............................        196         207
                                                             ------      ------
                                                              3,559       4,061
                                                             ------      ------
Property and equipment, net ............................     $1,853      $1,535
                                                             ======      ======

   Depreciation and  amortization in respect of property and equipment  amounted
to $867, $792 and $834 for 1998, 1999 and 2000, respectively.

NOTE 9--GOODWILL AND OTHER INTANGIBLE ASSETS, NET

   Goodwill and other intangible assets consists of the following:

                                                            AS OF DECEMBER 31,
                                                          ---------------------
                                                           1999           2000
                                                          ------         ------
Goodwill, net of accumulated amortization of
  $1,519 and $2,174, respectively .....................   $3,668         $2,350
License, net of accumulated amortization of
  $225 and $341, respectively. ........................      343            227
Patents, net of accumulated amortization of
  $1 and $23, respectively. ...........................      274            249
                                                          ------         ------
                                                          $4,285         $2,826
                                                          ======         ======

   Amortization  in respect of goodwill,  license and patents  amounted to $232,
$559 and $794 for 1998, 1999 and 2000, respectively.

NOTE 10--DEBT

   Debt consists of the following:
                                                            AS OF DECEMBER  31,
                                                          ---------------------
                                                           1999           2000
                                                          ------         ------
Convertible debentures (see Note 12) .................    $1,562           $ --
Bank debt. ...........................................     5,947          6,000
Lines of credit ......................................     1,395            573
Capital lease obligations ............................       103             33
                                                          ------         ------
                                                           9,007          6,606
Less current portion .................................     7,423            591
                                                          ------         ------
                                                          $1,584         $6,015
                                                          ======         ======

   Bank debt at  December  31,  1999  included  $5,947  borrowed  to finance the
acquisition described in Note 3a. The debt bears interest at prime plus 1% (9.5%
at December 31,  1999) and the  principal  was due in August  2000.  In February
2000,  the Company  refinanced  the bank debt with a $6,000 loan.  In connection
with the refinancing,  the Company  recognized an extraordinary loss of $190 for
the write-off of the unamortized premium associated with a warrant issued to the
lender  (see Note 15).  No income  tax  benefit on this  extraordinary  item was
recog-


                                      F-13


                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

NOTE 10--DEBT  --  (CONTINUED)

nized as the  Company is in a tax loss  carryforward  position.  The $6,000 loan
principal is payable in a single  installment upon maturity in February 2002 and
bears  interest  at LIBOR  plus  0.75%  (7.15% at  December  31,  2000)  payable
quarterly.  The  Company  was  required  to  deposit  $6,000  with the lender as
collateral  for the loan.  This  deposit  bears  interest  at a rate of 6.9% and
matures in February 2002.

   At December 31, 2000, the Company had  approximately  $1.9 million in Israeli
credit  lines  available.  These credit  lines are  denominated  in NIS and bear
interest at an average rate of the Israeli  prime rate plus 0.2% per annum.  The
Israeli prime rate fluctuates and as of December 31, 2000 was 9.5%.

   The Company's capital lease obligations are payable through 2004.

NOTE 11--OTHER CURRENT LIABILITIES

   Other current liabilities consists of the following:

                                                            AS OF DECEMBER  31,
                                                          ---------------------
                                                           1999           2000
                                                          ------         ------
Taxes payable .........................................   $3,723         $1,185
Lien allowance ........................................      558            558
Deferred income .......................................      324            385
Deferred acquisition costs ............................      750             47
Other .................................................    1,233          1,796
                                                          ------         ------
                                                          $6,588         $3,971
                                                          ======         ======

NOTE 12--CONVERTIBLE DEBENTURES

   In October  1999,  the Company  completed a $2,000  private  placement  of 0%
Convertible Subordinated Debentures (the "Debentures"), payable in October 2001,
and 100,000 warrants with an exercise price of $3.06625 to purchase common stock
of the Company. In addition, the Company issued 20,000 warrants with an exercise
price of $3.06625,  as partial  compensation  to a finder in connection with the
private  placement.  The warrants  expire in October 2002. The  Debentures  were
immediately  convertible  into common stock of the Company at a conversion price
equal to the lower of $3.06625 and 85% of the average closing bid prices for the
common  stock  for the  five  trading  days  preceding  delivery  notice  of the
conversion. The estimated fair value of the beneficial conversion feature of the
Debentures of $300 was immediately charged to interest expense in 1999.

   The Company  used the  Black-Scholes  valuation  method to estimate  the fair
value of the 120,000  warrants to purchase common stock of the Company,  using a
risk free  interest  rate of 6%, an expected life of three years (which is equal
to its  contractual  life),  expected  annual  volatility of 63% and no expected
dividends.  The warrants'  value of $114 reduced the carrying  value of the debt
and is amortized as additional  interest expense over the term of the Debentures
($12 and $9 in 1999 and 2000, respectively).

   Imputed  interest on the Debentures,  totaling $377,  based on a rate of 10%,
was to be  amortized  over  the life of the  Debentures.  For the  years  ending
December 31, 1999 and 2000, $41 and $19, respectively, was amortized to interest
expense with the remaining balance offset against the Debentures.  The effective
interest rate on the Debentures after  consideration of the imputed interest and
warrants issued is approximately 12%.

   In February 2000, the Company extinguished a portion of the Debentures for an
aggregate redemption price of $2,001. The Company recorded an extraordinary loss
of $753 due to the early redemption. No income tax benefit on this extraordinary
item was recognized as the Company is in a tax loss carryforward  position.  The
$260 unredeemed balance of the convertible  debentures was converted into 84,794
shares  of  common  stock of the  Company  in  accordance  with the terms of the
Debentures.

NOTE 13--LIABILITY FOR EMPLOYEE TERMINATION BENEFITS

   Under Israeli law and labor agreements,  the Company's subsidiaries in Israel
are required to make severance and pension  payments to dismissed  employees and
to employees leaving employment in certain other  circumstances.  The obligation
for severance pay benefits,  as determined by the Israeli  Severance Pay Law, is
based  upon  length  of  service  and  last  salary.   These   obligations   are
substantially covered by


                                      F-14


                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

NOTE 13--LIABILITY FOR EMPLOYEE TERMINATION BENEFITS-- (CONTINUED)

regular  deposits  with  recognized  severance  pay and pension funds and by the
purchase  of  insurance  policies.  The  pension  plans are  multi-employer  and
independent of the Company.  Pension and severance pay costs for 1998,  1999 and
2000 of approximately $1,486, $1,355 and $1,276, respectively,  were included in
selling, general and administrative expenses.

NOTE 14--COMMITMENTS AND CONTINGENCIES

   (a) Leases of Property and Equipment

   Rental and  leasing  expenses  for 1998,  1999 and 2000  amounted  to $1,258,
$1,463 and $1,326, respectively. Future minimum lease payments on non-cancelable
operating leases as of December 31, 2000 are as follows:

            YEAR ENDING
            DECEMBER 31,
            ------------
            2001. .....................................         $ 1,270
            2002. .....................................           1,157
            2003. .....................................             816
            2004. .....................................             462
            2005. .....................................             397
            Thereafter ................................             957
                                                                 ------
                                                                 $5,059
                                                                 ======

   (b) Employee Retirement Savings Plan

   The Company  sponsors a tax  deferred  retirement  savings  plan that permits
eligible U.S. employees to contribute varying  percentages of their compensation
up to the limit allowed by the Internal Revenue Service. This plan also provides
for discretionary  Company  contributions.  No discretionary  contributions were
made for the years ended December 31, 1998, 1999 and 2000.

   (c) Guarantees

   In 1998,  the  Company  accrued  a loss for  contingent  performance  of bank
guarantees of approximately  $1,135 (included in other loss, net). The Company's
remaining   commitment  under  these  guarantees   (included  in  other  current
liabilities)   is  $558  at  December  31,  1999  and  2000.   The  Company  has
collateralized a portion of these  guarantees by means of a deposit  (classified
as  restricted  cash)  of $536  and  $223 as of  December  31,  1999  and  2000,
respectively.

   (d) Royalties

   The Company is committed  to pay  royalties  to the  Government  of Israel on
proceeds  from the sale of certain  products in which the  Government  of Israel
participated  in the research and  development  by way of grants.  Royalties are
currently payable at a rate of 4% of the annual sales of the product. The amount
payable as royalties is limited to the amount of the original grant of $595. The
net amount due in respect of these  grants  amounted  to  approximately  $547 at
December 31, 2000.

   (e) Litigation

   The Company is involved in various  legal  actions and claims  arising in the
ordinary  course  of  business.  In the  opinion  of  management,  the  ultimate
disposition  of these  matters  will not have a material  adverse  effect on the
Company's consolidated financial position, results of operations or liquidity.

NOTE 15--SHAREHOLDERS' EQUITY

   (a) Stock Option Plans

   The  Company's  stock  option  plans  provide for the  granting to  officers,
directors and other key employees of options to purchase  shares of common stock
at not less than 85% of the market  value of the  Company's  common stock on the
date of grant. The purchase price must be paid in cash. To date, the Company has
issued  options under the plans at exercise  prices equal to the market value of
the Company's com-


                                      F-15



                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)


NOTE 15--SHAREHOLDERS' EQUITY -- (CONTINUED)

mon stock of the date of the grant.  All options expire within five to ten years
from the date of the grant. The options  generally vest over a two to three year
period from the date of the grant.  At December 31, 2000,  the total  authorized
number of options or other equity  instruments  granted or  available  for grant
under the various plans was 2,620,225.

   A summary status of the Company's  option plans as of December 31, 1998, 1999
and 2000, as well as changes  during each of the years then ended,  is presented
below:



                                                               1998                       1999                          2000
                                                     ----------------------      ----------------------      ----------------------
                                                                   WEIGHTED                    WEIGHTED                    WEIGHTED
                                                                    AVERAGE                     AVERAGE                     AVERAGE
                                                     NUMBER OF     EXERCISE      NUMBER OF     EXERCISE      NUMBER OF     EXERCISE
                                                      OPTIONS        PRICE        OPTIONS        PRICE        OPTIONS        PRICE
                                                     ---------       -----       ---------       -----       ---------       -----
                                                    (IN SHARES)                 (IN SHARES)                 (IN SHARES)
                                                                                                           
Outstanding at beginning of year ..............      1,456,067       $6.57       1,498,717       $6.39       1,723,850       $5.32
Granted .......................................         95,000       $3.49         408,450       $2.10         412,275       $5.36
Exercised .....................................        (10,000)      $5.50            --          --           (27,000)      $2.46
Forfeited .....................................        (42,350)      $6.02        (183,317)      $7.00        (554,350)      $6.38
                                                     ---------                   ---------                   ---------
Outstanding at end of year ....................      1,498,717       $6.39       1,723,850       $5.32       1,554,775       $5.01
                                                     =========                   =========                   =========
Exercisable at end of year ....................      1,309,050       $6.64       1,276,683       $5.70       1,121,406       $4.95
                                                     =========                   =========                   =========



                                                                                                              EXERCISABLE AS OF
                                                          OUTSTANDING AS OF DECEMBER 31, 2000                 DECEMBER 31, 2000
                                                   --------------------------------------------------   ----------------------------
                                                   WEIGHTED AVERAGE     WEIGHTED          WEIGHTED
                                                        NUMBER          REMAINING          AVERAGE         NUMBER         AVERAGE
RANGE OF EXERCISE PRICES                              OUTSTANDING   CONTRACTUAL LIFE   EXERCISE PRICE   EXERCISABLE   EXERCISE PRICE
- ------------------------                           ---------------- ----------------   --------------   -----------   --------------
                                                      (IN SHARES)      (IN YEARS)                       (IN SHARES)
                                                                                                         
$1.80-2.00 ....................................          294,000          5.34            $   1.82          251,667     $  1.81
$2.44-3.69 ....................................          247,000          5.94                3.14          131,666        3.08
$4.50-6.00 ....................................          297,500          2.45                5.53          270,833        5.57
$6.06-7.88 ....................................          693,775          3.99                6.62          444,740        6.58
$11.13 ........................................           22,500          4.73               11.13           22,500       11.13
                                                       ---------                                        -----------
                                                       1,554,775                                          1,121,406
                                                       =========                                        ===========


   The weighted average grant-date fair value of the 95,000, 408,450 and 412,275
options  granted during 1998,  1999 and 2000,  respectively,  amounted to $1.65,
$1.60 and $2.85 per option, respectively. The Company utilized the Black-Scholes
option pricing model to estimate fair value, utilizing the following assumptions
for the respective years (all in weighted averages):

                                                    1998       1999       2000
                                                   ------     ------     ------
Risk-free interest rate .......................       5.0%       6.0%       5.0%
Expected life of options, in years ............       6.6        6.8        5.9
Expected annual volatility ....................        39%        78%        82%
Expected dividend yield .......................      None       None       None

                                      F-16



                   DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)


NOTE 15--SHAREHOLDERS' EQUITY -- (CONTINUED)

   Had compensation cost for the Company's option plans been determined based on
fair value at the grant dates for awards made in 1998,  1999 and 2000 under such
plans in accordance with SFAS No. 123, the Company's pro forma net income (loss)
and net income (loss) per share would have been as follows:

                                                    YEAR ENDED DECEMBER 31,
                                              --------------------------------
                                                 1998        1999       2000
                                              ---------   ---------   --------
Net income (loss) as reported .............   $ (12,944)  $ (15,867)  $    112
Pro forma net loss ........................     (13,010)    (16,658)      (927)
Basic net loss per share--as reported .....       (1.75)      (2.13)      0.02
Pro forma basic net loss per share ........       (1.77)      (2.24)     (0.12)
Diluted net income (loss)
  per share as reported ...................       (1.75)      (2.13)      0.01
Pro forma diluted net loss per share ......       (1.77)      (2.24)     (0.12)

   The pro  forma  information  in the  above  table  also  gives  effect to the
application  of  SFAS  No.  123 on  the  share  option  plans  of the  Company's
subsidiary.

   (b) Warrants

   The Company has issued  warrants at exercise  prices equal to or greater than
market value of the Company's common stock at the date of issuance. A summary of
warrant activity follows:



                                                               1998                       1999                          2000
                                                     ----------------------      ----------------------      ----------------------
                                                                   WEIGHTED                    WEIGHTED                    WEIGHTED
                                                                    AVERAGE                     AVERAGE                     AVERAGE
                                                     NUMBER OF     EXERCISE      NUMBER OF     EXERCISE      NUMBER OF     EXERCISE
                                                      OPTIONS        PRICE        OPTIONS        PRICE        OPTIONS        PRICE
                                                     ---------       -----       ---------       -----       ---------       -----
                                                    (IN SHARES)                 (IN SHARES)                 (IN SHARES)
                                                                                                           
Outstanding at beginning of year ...............     197,500         $10.18       197,500        $10.18       370,000        $ 3.23
Granted ........................................          --             --       370,000          3.23            --            --
Repurchased by Company .........................          --             --            --            --      (250,000)         3.31
Forfeited ......................................          --             --      (197,500)        10.18            --            --
                                                     -------                     --------                    --------
Outstanding at end of year .....................     197,500         $10.18       370,000        $ 3.23       120,000        $ 3.07
                                                     =======                     ========                    ========


   In August 1999,  the Company  granted a lender  250,000  warrants to purchase
common stock with an exercise price of $3.31 per share, the fair market value of
the Company's common stock at the date of the grant. The warrants were to expire
on August 31,  2002.  In September  2000,  the Company  repurchased  the 250,000
warrants outstanding from the lender for $1.50 per warrant.

   (c) Stock Awards

   In March 1996,  the Company  granted  100,000  shares of common  stock to its
Chief Executive Officer.  The shares vested over a three-year  period.  Deferred
compensation in the aggregate amount of $587, equal to the shares' fair value on
the date of the grant,  was recorded against  additional  paid-in capital at the
date of grant,  of which  $196 and $46 was  amortized  to  compensation  expense
during 1998 and 1999, respectively.

   In August 1998,  the Company  granted  155,000  shares of common stock to its
Chief  Executive  Officer.  The shares  generally  vest over a two-year  period,
except  that the  vesting of 20,000 of the shares may be delayed  until  certain
performance goals have been met. These performance goals have not been met since
the date of grant.  Deferred compensation in the aggregate amount of $436, equal
to the  shares'  fair  value  on the date of the  grant,  was  recorded  against
additional paid-in capital at the date of grant, of which $109, $254 and $73 was
amortized to compensation expense during 1998, 1999 and 2000, respectively.

   (d) Stock Repurchase Program

   In August 1998, the Company's  Board of Directors  authorized the purchase of
up to 500,000  shares of the Company's  common  stock.  In September  2000,  the
Company's  Board of Directors  authorized  the  purchase of up to an  additional
500,000 shares of the Company's common stock.  During 1998 and 2000, the Company
purchased 150,900 and 500,385 of its common stock, respectively, and at December
31, 2000 owned in the aggregate 990,647 of its own shares.

                                      F-17



                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)


NOTE 15--SHAREHOLDERS' EQUITY -- (CONTINUED)

   (e) Other

   In March 1996, the Company's Board of Directors adopted a stockholder  rights
plan providing for the  distribution of common stock purchase rights at the rate
of one right for each share of the Company's  common stock held by  shareholders
of record as of the close of  business  on April 1,  1996.  The  rights  plan is
designed to deter  coercive  takeover  tactics,  including the  accumulation  of
shares in the open  market or through  private  transactions,  and to prevent an
acquirer from gaining  control of the Company  without  offering a fair price to
all of the Company's shareholders. Each right initially entitles shareholders to
buy one-half of a share of common stock of the Company for $15.  Generally,  the
right  will be  exercisable  only  if a  person  or  group  acquires  beneficial
ownership of 15% or more of the Company's  common stock or commences a tender or
exchange  offer  upon   consummation   of  which  such  person  or  group  would
beneficially own 15% or more of the Company's common stock.

   If any person  ("Acquiring  Person")  becomes the beneficial  owner of 15% or
more of the Company's common stock,  other than pursuant to a tender or exchange
offer for all  outstanding  shares of the Company  approved by a majority of the
Company's independent  directors,  then, subject to certain exceptions set forth
in the  rights  plan,  each right not owned by the  Acquiring  Person or related
parties  will  entitle  its holder to  purchase,  at the  right's  then  current
exercise   price,   shares  of  the  Company's   common  stock  (or  in  certain
circumstances,  as determined by the Board of Directors, cash, other property or
other  securities)  having a value of twice the right's  then  current  exercise
price.  The Company will  generally be entitled to redeem the rights at one half
of one cent per right at any time until 10 days (subject to extension) following
a public  announcement  that a 15% position has been  acquired.  The rights plan
will expire in March 2006.

                                      F-18



                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

NOTE 16--INCOME TAXES

   (a) Composition of loss from continuing  operations before income taxes is as
follows:

                                                    YEAR ENDED DECEMBER 31,
                                                --------------------------------
                                                  1998        1999        2000
                                                -------     -------     -------
Domestic ...................................    $(5,137)    $(5,809)    $(3,238)
Foreign ....................................     (2,628)     (1,268)        346
                                                -------     -------     -------
                                                $(7,765)    $(7,077)    $(2,892)
                                                =======     =======     =======

   (b)Income taxes consist of the following:

                                                     YEAR ENDED DECEMBER 31,
                                                --------------------------------
                                                  1998        1999        2000
                                                -------     -------     -------
Current:
  Federal ..................................    $    --     $    --     $    --
  State and local ..........................         (8)         35          46
  Foreign ..................................         52          22         145
                                                -------     -------     -------
                                                     44          57         191
                                                -------     -------     -------
Deferred:
  Federal ..................................         --           5          --
  State and local ..........................         (9)         --         (20)
  Foreign ..................................         --          --          --
                                                -------     -------     -------
                                                     (9)          5         (20)
                                                -------     -------     -------
Income tax from continuing operations ......         35          62         171

Income tax expense from :
  Discontinued operations * ................         --       3,723          --
  Gain on sale of discontinued operations ..         --          --         767
                                                -------     -------     -------
  Total income tax expense .................    $    35     $ 3,785     $   938
                                                =======     =======     =======

- ----------

*  Represents  a provision  for Israeli  taxes with  respect to the  anticipated
   repatriation  of  subsidiary  income  related  to the  Company's  sale of its
   interest in Tower in January 2000 (see Note 2).

   (c) Effective Income Tax Rates

   Set forth  below is a  reconciliation  between  the  federal tax rate and the
Company's effective income tax rates:

                                                     YEAR ENDED DECEMBER 31,
                                                --------------------------------
                                                  1998        1999       2000
                                                -------     -------    -------
Statutory federal rates ....................         34%         34%        34%
Increase (decrease) in income tax rate
  resulting from:
Non-deductible expenses ....................          5          --         (7)
State and local income taxes, net ..........          2           9          7
Net operating loss carryforward ............         (5)          4         16
Other ......................................          1          (3)        (8)
Valuation allowance ........................        (37)        (45)       (48)
                                                -------     -------    -------
Effective income tax rates .................          0%         (1)%       (6)%
                                                =======     =======    =======

                                      F-19



                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)


NOTE 16--INCOME TAXES -- (CONTINUED)

   (d) Analysis of Deferred Tax Assets (Liabilities)

   Deferred tax assets (liabilities) consist of the following:

                                                             AS OF DECEMBER 31,
                                                           --------------------
                                                              1999        2000
                                                           --------     -------
Accelerated depreciation for tax purposes .............    $     11     $    15
Intangible asset basis differences ....................          59          47
Other temporary differences ...........................       1,231         901
Net operating and capital loss carryforwards ..........      10,315       5,882
Alternative minimum tax credit carryforwards ..........       3,693         371
                                                           --------     -------
                                                             15,309       7,216
Valuation allowance ...................................     (15,309)     (7,196)
                                                           --------     -------
Net deferred tax asset ................................    $     --     $    20
                                                           ========     =======
Net deferred tax assets consist of the following:

                                                            AS OF DECEMBER 31,
                                                           ---------------------
                                                             1999        2000
                                                           --------     -------
Deferred tax assets--current ..........................    $     --     $    18
Deferred tax assets--non-current ......................          --           2
Deferred tax liabilities ..............................          --          --
Net deferred tax asset ................................    $     --     $    20
                                                           ========     =======

   Until  1999,  due to the  history of losses in the  Company's  operations,  a
valuation allowance was established against all deferred tax assets.  Currently,
no valuation  allowance is established  for the Company's  operations  which are
reasonably expected to utilize their deferred tax assets.  Valuation  allowances
relate  principally  to net operating  loss and capital loss  carryforwards  and
foreign tax credit carryforwards.  The change in the valuation allowance in 1999
and 2000 was an increase of $5,121 and a decrease of $8,113, respectively.

   (e) Summary of Tax Loss Carryforwards

   As of  December  31,  2000,  the  Company  had  various  net  operating  loss
carryforwards, which expire as follows:

EXPIRATION                                        FEDERAL      STATE     FOREIGN
                                                   ------     -------     ------
2001-2002 ....................................     $   --     $   720     $   --
2003-2004 ....................................         --       6,973         --
2005-2007 ....................................         --       7,207         --
2020 .........................................      1,178          --         --
Unlimited ....................................         --          --      8,555
                                                   ------     -------     ------
Total ........................................     $1,178     $14,900     $8,555
                                                   ======     =======     ======

NOTE 17--RELATED PARTY BALANCES AND TRANSACTIONS

   Other assets include a loan, bearing interest at an annual rate of 7%, to its
Chief  Executive  Officer.  The balance of this loan,  including  interest,  was
approximately  $511 at December 31,  1999.  The loan was repaid in full in 2000.
The Company paid  consulting and other fees to directors of $108, $97 and $5 for
the  years  ended  December  31,  1998,  1999 and 2000,  respectively,  which is
included in selling, general and administrative expenses. Approximately $92, $32
and $(22) was recorded as an expense  reimbursement from an affiliate during the
years ended December 31, 1998, 1999 and 2000, respectively, and was reflected as
a reduction  (increase) of selling,  general and  administrative  expenses.  The
Company paid legal fees for services rendered and out-of-pocket disbursements to
a firm in which a director is a principal,  of approximately $410, $494 and $474
for  the  years  ended   December  31,  1998,   1999  and  2000,   respectively.
Approximately  $176 and $55, owed to this firm as of December 31, 1999 and 2000,
respectively,  was included in other current  liabilities.  The Company paid the
director  of  operations  of  one  of its  subsidiaries,  who is the  son of the
Company's Chief  Executive  Officer,  approximately  $122, $132 and $280 for the
years ending December 31, 1998, 1999 and 2000, respectively.

                                      F-20



                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)


NOTE 18--SEGMENT REPORTING AND GEOGRAPHIC INFORMATION

   (a) General Information

   The  Company  has  three  reportable  segments:  consulting  and  development
services; computer hardware sales; and utility solutions.

   (i)  The  consulting  and  development  services  segment  provides  computer
software  and  systems  consulting  and  development   services,   primarily  to
high-technology customers.

   (ii) The computer  hardware  segment is an authorized  dealer and value added
reseller of computer hardware.

   (iii)  The  utility   solutions   segment  develops  load  control  and  data
communication solutions for utilities.

   The Company's  reportable  segments are strategic  business  units that offer
different  products  and  services.  They are managed  separately  because  each
business  requires  different  technology  and  marketing  strategies.   Similar
operating  segments that operate in different  countries are aggregated into one
reportable segment in accordance with the provisions of SFAS 131.

   (b) Information about Profit or Loss and Assets

   The  accounting  policies  of all the  segments  are those  described  in the
summary of significant  accounting policies.  The Company evaluates  performance
based on the profit or loss from  operations  before  income taxes not including
nonrecurring gains and losses.

   The Company accounts for intersegment  sales and transfers as if the sales or
transfers were to third parties,  that is, at current market prices. The Company
does not  systematically  allocate  assets to the divisions of the  subsidiaries
constituting  its  consolidated  group,   unless  the  division   constitutes  a
significant operation. Accordingly, where a division of a subsidiary constitutes
a  segment  that  does  not  meet  the  quantitative  thresholds  of  SFAS  131,
depreciation expense is recorded against the operations of such segment, without
allocating  the related  depreciable  assets to that segment.  However,  where a
division of a subsidiary  constitutes a segment that does meet the  quantitative
thresholds  of  SFAS  131,  related   depreciable   assets,   along  with  other
identifiable assets, are allocated to such division.

                                      F-21



                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)


NOTE 18--SEGMENT REPORTING AND GEOGRAPHIC INFORMATION  -- (CONTINUED)

   The following  tables  represent  segmented data for the years ended December
31, 2000, 1999 and 1998:



                                      CONSULTING AND
                                        DEVELOPMENT   UTILITY      COMPUTER
                                         SERVICES     SOLUTIONS    HARDWARE     OTHER(*)      TOTAL
                                          -------      -------      -------      ------      -------
                                                                              
Year ended December 31, 2000:
Revenues from external customers ....     $18,977      $17,105      $21,515      $  204      $57,801
Intersegment revenues ...............          58        1,507          215          --        1,780
Interest revenue ....................          59            3           --          --           62
Interest expense ....................         136          412           --          --          548
Depreciation and amortization .......         362          833           38           6        1,239
Segment profit (loss) ...............       1,530       (3,216)         726          41         (919)
Income tax expense  (benefit) .......         107            9          (13)         --          103
Segment assets ......................       7,324        4,534        4,937          64       16,859
Expenditures for segment assets .....         358          361           17          --          736

Year ended December 31, 1999:

Revenues from external customers ....     $18,784      $ 5,061      $15,218      $  285      $39,348
Intersegment revenues ...............         597          167           40          --          804
Interest revenue ....................          43           --           --          --           43
Interest expense ....................         233            1            5          --          239
Depreciation and amortization .......         416          516           48          15          995
Segment profit (loss) ...............        (832)      (3,297)         328          64       (3,737)
Equity in net income of investees ...         (98)          --           --          --          (98)
Income tax expense ..................          60            1           10          --           71
Segment assets ......................       7,748        6,829        5,352           6       19,935
Expenditures for segment assets .....         286          954           28          --        1,268

Year ended December 31, 1998:

Revenues from external customers ....     $18,640      $   212      $16,374      $1,124      $36,350
Intersegment revenues ...............         124           --           22         159          305
Interest revenue ....................          57           --           --          --           57
Interest expense ....................         235            2            9          --          246
Depreciation and amortization .......         458          359           45          72          934
Segment profit (loss) ...............       5,742       (3,428)       1,514        (957)       2,871
Loss on note ........................         418           --           --          --          418
Equity in net income of investees ...        (198)          --           --          --         (198)
Income tax expense (benefit) ........          20           --          (43)         --          (23)
Segment assets ......................       9,992        1,544        3,659          26       15,221
Expenditures for segment assets .....         301          591           30          --          922


- ----------

*  Represents three segments below the  quantitative  thresholds of SFAS 131, as
   follows: in 2000, a VAR software operation in Israel, a holding company,  and
   residual operations from the Company's  multimedia software segment; in 1999,
   a  VAR  software  operation  in  Israel  and  residual  operations  from  the
   multimedia software segment;  and in 1998, a VAR software operation in Israel
   and an Internet  database  venture.  The 1998  operations from the multimedia
   software  segment also have been  included in "other" so as to be  comparable
   with the current year's presentation.

                                      F-22



                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)


NOTE 18--SEGMENT REPORTING AND GEOGRAPHIC INFORMATION  -- (CONTINUED)

   (c) Reconciliations

   The  following  tables  represent a  reconciliation  of the  segment  data to
consolidated  statement of operations and balance sheet data for the years ended
December 31, 1998, 1999 and 2000:

                                                FOR THE YEAR ENDED DECEMBER 31,
                                               --------------------------------
                                                 1998        1999        2000
                                               --------    --------    --------
Revenues:
Total revenues for reportable segments .....   $ 35,226    $ 39,063    $ 57,597
Other operational segment revenues .........      1,124         285         204
Revenue from management fee derived
  by non-operating segment (corporate
  headquarters) ............................        360         360          38
                                               --------    --------    --------
Total consolidated revenues ................   $ 36,710    $ 39,708    $ 57,839
                                               ========    ========    ========
Operating income (loss):
Total operating loss for reportable
  segments .................................   $ (2,601)   $ (3,417)   $   (369)
Other operational segment operating
  income (loss) ............................       (603)         64          41
Unallocated amounts: Net loss of
  corporate headquarters ...................     (3,054)     (2,294)     (3,563)
                                               --------    --------    --------
Total consolidated operating loss ..........   $ (6,258)   $ (5,647)   $ (3,891)
                                               ========    ========    ========

                                                             AS OF DECEMBER 31,
                                                             -------------------
                                                                1999        2000
                                                             -------     -------
Assets:
Total assets for reportable segments ...................     $19,929     $16,795
Unallocated amounts: Net assets of
  corporate headquarters * .............................      30,529      25,362
                                                             -------     -------
Total consolidated assets ..............................     $50,458     $42,157
                                                             =======     =======

- ----------

*  Unallocated  assets in 2000 include cash and cash  equivalents  of $10,395 as
   well as investments in short and long-term bank deposits of $11,994.

   Unallocated  assets in 1999  include  the Tower  investment  (net of minority
interest) of $25,900 at December 31, 1999 (see Note 2).

                                               SEGMENT              CONSOLIDATED
                                               TOTALS   ADJUSTMENTS    TOTALS
                                               -------  ----------- ------------
Other Significant Items:
Year ended December 31, 2000
Depreciation and amortization ..............   $ 1,239    $   389     $ 1,628
Expenditures for assets ....................       736          6         742
Income tax expense .........................       103         68         171
Income tax expense for
  discontinued operations ..................        --        767         767
Year ended December 31, 1999
Depreciation and amortization ..............   $   995    $   356     $ 1,351
Expenditures for assets ....................     1,268          8       1,276
Equity in net income of investees ..........       (97)    (5,004)     (5,101)
Income tax expense (benefit) ...............        71         (9)         62
Income tax expense for
  discontinued operations ..................        --      3,723       3,723

   The  reconciling  items are all corporate  headquarters  data,  which are not
included in the segment  information.  The reconciling  item to adjust equity in
net income of  investees in 1999 is the  Company's  share of Tower's  loss.  The
reconciling item to adjust income tax expense in 1999 is the tax expense related
to the anticipated  repatriation  of subsidiary  income related to the Company's
sale of its interest in Tower. None of the other adjustments are significant.

                                      F-23



                  DATA SYSTEMS & SOFTWARE INC. AND SUBSIDIARIES

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
             (DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)


NOTE 18--SEGMENT REPORTING AND GEOGRAPHIC INFORMATION  -- (CONTINUED)

   (d) Geographic Information

                                                        YEAR ENDED DECEMBER 31,
                                                     ---------------------------
                                                       1998      1999      2000
                                                     -------   -------   -------
Revenues based on location of customer:

Israel ...........................................   $14,637   $15,401   $15,431
United States ....................................    22,073    23,579    41,659
Far East .........................................        --       708       226
Other ............................................        --        20       523
                                                     -------   -------   -------
                                                     $36,710   $39,708   $57,839
                                                     =======   =======   =======

                                                                      AS OF
                                                                   DECEMBER 31,
                                                                ----------------
                                                                  1999      2000
                                                                ------      ----
Long-lived assets located in the following countries:

Israel .....................................................    $  852      $775
United States ..............................................     1,001       760

   (e) Major Customers

REVENUES FROM MAJOR CUSTOMERS               CONSOLIDATED SALES
                                          YEAR ENDED DECEMBER  31,
                         -------------------------------------------------------
CUSTOMER SEGMENT                  1998             1999             2000
- ----------------         ------------------- ---------------- ------------------
                                     % OF             % OF               % OF
                                     TOTAL            TOTAL              TOTAL
                         REVENUES  REVENUES REVENUES REVENUES REVENUES REVENUES
                         --------  -------- -------- -------- -------- --------
A  Computer hardware ...  $ 5,930    15.8%   $   90     0.2%   $  331     0.6%
B  Computer hardware ...    4,470    11.9     5,651    14.2     5,084     8.8
                          -------    ----    ------    ----    ------    ----
                          $10,400    27.7%   $5,741    14.4%   $5,415     9.4%
                          =======    ====    ======    ====    ======    ====

NOTE 19--FINANCIAL INSTRUMENTS

   (a) Fair Value of Financial Instruments

   Fair values of financial  instruments  included in current assets and current
liabilities  are estimated to  approximate  their book values,  due to the short
maturity of such  instruments.  Fair  values for  long-term  debt and  long-term
deposits are  estimated  based on the current  rates  offered to the Company for
debt and deposits  with the similar  terms and  remaining  maturities.  The fair
value of the Company's  long-term debt and long-term deposits are not materially
different  from  their  carrying  amounts.  The  fair  value of  investments  is
estimated  based on market value.  The estimation of fair value of the Company's
investments  (book  value of $153 at  December  31,  2000) was not  practicable,
although the Company believes that the estimated fair values of such investments
are not materially different from their book values.

   (b) Concentrations of Credit Risk

   Financial   instruments,   which   potentially   subject   the   Company   to
concentrations of credit risk, consist principally of cash and cash equivalents,
short  and  long-term   bank   deposits,   asset-backed   securities  and  trade
receivables.  The  counterparty  to a majority of the Company's cash  equivalent
deposits as well as its short and long-term  bank deposits is a major  financial
institution  of  high  credit  standing.  The  counterparties  to the  Company's
asset-backed  securities  consist of various major  corporations  of high credit
standing.   The  Company  does  not  believe  there  is   significant   risk  of
non-performance by these counterparties. Approximately 16% of the trade accounts
receivable  at  December  31, 2000 were due from a U.S.  customer  that pays its
trade  receivables  over usual credit  periods.  Credit risk with respect to the
balance of trade receivables is generally diversified due to the large number of
entities comprising the Company's customer base.

                                      F-24