SECURITIES AND EXCHANGE COMMISSION
                             Washington, DC 20549

                                  FORM 10-Q

               QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
                    OF THE SECURITIES EXCHANGE ACT OF 1934

               For the quarterly period ended December 27, 1998

                       Commission file number: 0-21154

                             CREE RESEARCH, INC.
            (Exact name of registrant as specified in its charter)

                 North Carolina                  56-1572719
        (State or other jurisdiction of        (I.R.S. Employer
         incorporation or organization)       Identification No.)

               4600 Silicon Drive
             Durham, North Carolina                 27703
      (Address of principal executive offices)    (Zip Code)

                                (919) 313-5300
             (Registrant's telephone number, including area code)

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. [ X] Yes [ ] No

The number of shares  outstanding of the  registrant's  common stock,  par value
$0.005 per share, as of January 19, 1999 was 13,004,469.



<PAGE>
                             CREE RESEARCH, INC.
                                  FORM 10-Q

                   For the Quarter Ended December 27, 1998

                                    INDEX

                                                                        Page No.


PART I.  FINANCIAL INFORMATION


Item 1. Financial Statements

        Consolidated Balance Sheets at December 27, 1998
        (unaudited) and June 28, 1998                                      3

        Consolidated Statements of Income for the three
        and six months ended December 27, 1998 and
        December 28, 1997 (unaudited)                                      4

        Consolidated Statements of Cash Flow for the six
        months ended December 27, 1998 and December 28, 1997
        (unaudited)                                                        5

        Notes to Consolidated Financial Statements (unaudited)             6


Item 2. Management's Discussion and Analysis of Financial
        Condition and Results of Operations                               13


Item 3. Quantitative and Qualitative Disclosures About Market Risk        21



PART II.  OTHER INFORMATION


Item 4. Submission of Matters to a Vote of Security Holders               21


Item 6. Exhibits and Reports on Form 8-K                                  22


SIGNATURES                                                                23

                                     -2-



<PAGE>

PART I - FINANCIAL INFORMATION


Item 1 - Financial Statements


<TABLE>
                              CREE RESEARCH, INC.
                          CONSOLIDATED BALANCE SHEETS
                                (In thousands)

<CAPTION>
                                                        December 27,   June 28,
                                                            1998         1998
                                                        ------------   --------
                                                        (Unaudited)
<S>                                                     <C>
ASSETS

Current assets:
     Cash and cash equivalents                           $ 12,769      $ 17,680
     Marketable securities                                    905           657
     Accounts receivable, net                              12,110        10,479
     Inventories                                            3,402         2,543
     Deferred income tax                                      264         1,952
     Prepaid expenses and other current assets                691         1,347
                                                        ------------   --------
         Total current assets                              30,141        34,658

     Property and equipment, net                           44,972        36,476
     Patent and license rights, net                         1,641         1,525
     Other assets                                           1,349            65
                                                        ------------   --------
         Total assets                                    $ 78,103      $ 72,724
                                                        ============   ========

LIABILITIES AND SHAREHOLDERS' EQUITY

Current liabilities:
     Accounts payable, trade                              $ 4,097       $ 5,595
     Current maturities of long term debt                     121            17
     Accrued salaries and wages                               550           391
     Other accrued expenses                                   990         1,052
                                                        ------------   --------
         Total current liabilities                          5,758         7,055

Long term liabilities:
     Long term debt                                         9,879         8,650
     Deferred income tax                                    2,477         2,154
                                                        ------------   --------
         Total long term liabilities                       12,356        10,804

Shareholders' equity:
     Preferred stock, par value $0.01; 3,000 shares            --            --
       authorized at December 27, 1998 and 2,750
       shares authorized at June 28, 1998; none
       issued and outstanding
     Common stock, par value $0.005; 30,000 shares             65            65
       authorized at December 27, 1998 and 14,500
       shares authorized at June 28, 1998; shares
       issued and outstanding 12,920 and 12,989 at
       December 27, 1998 and June 28, 1998,
       respectively
     Additional paid-in-capital                            49,583        49,676
     Retained earnings                                     10,341         5,124
                                                        ------------   --------
         Total shareholders' equity                        59,989        54,865
                                                        ============   ========
         Total liabilities and shareholders' equity      $ 78,103      $ 72,724
                                                        ============   ========
</TABLE>


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

                                     -3-



<PAGE>

<TABLE>
                               CREE RESEARCH, INC.
                        CONSOLIDATED STATEMENTS OF INCOME
                      (In thousands, except per share data)
                                   (Unaudited)

<CAPTION>
                                Three Months Ended              Six Months Ended
                            ----------------------------   --------------------------
                            December 27,   December 28,    December 27,  December 28,
                                1998           1997            1998          1997
                            ------------   ------------    ------------  ------------
<S>                         <C>            <C>             <C>           <C>
Revenue:
   Product revenue, net       $12,805        $ 8,164         $23,525       $16,369
   Contract revenue, net        1,233          1,942           2,792         3,944
                            ------------   ------------    ------------  ------------
    Total revenue              14,038         10,106          26,317        20,313

Cost of revenue:
   Product revenue              6,377          4,946          11,792        10,365
   Contract revenue             1,045          1,600           2,252         3,252
                            ------------   ------------    ------------  ------------
    Total cost of revenue       7,422          6,546          14,044        13,617
                            ------------   ------------    ------------  ------------

Gross profit                    6,616          3,560          12,273         6,696

Operating expenses:
   Research and development     1,121            527           1,927           920
   Sales, general and           1,450            850           2,668         1,985
     administrative
   Other expense                  298            390             567           390
                            ------------   ------------    ------------  ------------
    Income from operations      3,747          1,793           7,111         3,401

Interest income, net               20            169             135           332
                            ------------   ------------    ------------  ------------
    Income before income        3,767          1,962           7,246         3,733
    taxes
Income tax expenses               916            490           2,029         1,093
                            ------------   ------------    ------------  ------------

    Net income                $ 2,851        $ 1,472       $   5,217       $ 2,640
                            ============   ============    ============  ============

Earnings per share:
    Basic                       $0.22          $0.12          $0.41         $0.21
                            =============  =============   ============  ============
    Diluted                     $0.21          $0.11          $0.39         $0.20
                            =============  =============   ============  ============
</TABLE>



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

                                     -4-



<PAGE>

<TABLE>
                              CREE RESEARCH, INC.
                     CONSOLIDATED STATEMENTS OF CASH FLOW
                                (In thousands)

<CAPTION>
                                                         Six Months Ended
                                                   -----------------------------
                                                   December 27,     December 28,
                                                       1998             1997
                                                   ------------     ------------
                                                           (Unaudited)
<S>                                               <C>               <C>
Operating activities:
     Net income                                       $5,217           $2,640
     Adjustments to reconcile net income to net
       cash provided by operating activities:
     Depreciation and amortization                     2,341            2,067
     Loss on disposal of property, equipment and         951              320
       patents
     Amortization of patent rights                        56               50
     Amortization and write off of goodwill              --                86
     Proceeds from sale of marketable trading            489              -- 
       securities
     Purchase of marketable trading securities         (232)          (1,500)
     Gain on marketable trading securities             (116)             --  
     Changes in operating assets and liabilities:
        Accounts receivable                          (1,964)          (2,258)
        Inventories                                    (859)            1,161
        Prepaid expenses and other assets              1,004              148
        Accounts payable, trade                      (3,073)            (783)
        Accrued expenses                                 420              889
                                                   ------------     ------------
        Net cash provided by operating activities      4,234            2,820
                                                   ------------     ------------

Investing activities:
     Purchase of property and equipment             (10,380)          (5,704)
     Proceeds from sale of property and equipment        189              340
     Purchase of patent rights                         (194)            (200)
                                                   ------------     ------------
        Net cash used in investing activities       (10,385)          (5,564)
                                                   ------------     ------------

Financing activities:
     Proceeds from issuance of long-term debt          1,333            3,259
     Net proceeds from issuance of common stock        2,527            2,139
     Receipt of Section 16(b) common stock profits       594              -- 
     Repurchase of common stock                      (3,214)              -- 
                                                   ------------     ------------
        Net cash provided by financing activities      1,240            5,398
                                                   ------------     ------------

Net (decrease) increase in cash and cash             (4,911)            2,654
  equivalents

Cash and cash equivalents:
     Beginning of period                              17,680           10,448
                                                  =============     ============
     End of period                                  $ 12,769         $ 13,102
                                                  =============     ============

Supplemental disclosure of cash flow information:
     Cash paid for interest, net amounts            $    275         $   --  
       capitalized
                                                  =============     ============
     Cash paid for income taxes                     $  1,396         $    219
                                                  =============     ============
</TABLE>


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

                                     -5-



<PAGE>
                             CREE RESEARCH, INC.

                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                 (Unaudited)

Basis of Presentation

The  consolidated  balance  sheet as of  December  27,  1998,  the  consolidated
statements  of income for the three and six months  ended  December 27, 1998 and
December  28, 1997,  and the  consolidated  statements  of cash flow for the six
months ended  December 27, 1998 and December 28, 1997 have been  prepared by the
Company and have not been audited. In the opinion of management,  all normal and
recurring  adjustments  necessary  to  present  fairly the  financial  position,
results of  operations  and cash flow at  December  27,  1998,  and all  periods
presented,  have been made.  The balance sheet at June 28, 1998 has been derived
from the audited financial statements as of that date.

Certain  information  and footnote  disclosures  normally  included in financial
statements prepared in accordance with generally accepted accounting  principles
have been condensed or omitted.  It is suggested that these condensed  financial
statements  be read in  conjunction  with the  financial  statements  and  notes
thereto  included  in the  Company's  fiscal  1998 Form  10-K.  The  results  of
operations for the period ended December 27, 1998 are not necessarily indicative
of the operating results that may be attained for the entire fiscal year.

Accounting Policies

Fiscal Year

The Company's fiscal year is a 52 or 53 week period ending on the last Sunday in
the month of June.  Accordingly,  all  quarterly  reporting  reflects  a 13 week
period in fiscal 1999. In fiscal 1998, the Company  changed its fiscal year from
the  twelve  months  ending  June 30, to the 52 week  period  ending on the last
Sunday in the month of June. The Company's  current fiscal year will extend from
June 29, 1998 to June 27, 1999.

Investments

Investments  are  accounted  for  in  accordance  with  Statement  of  Financial
Accounting  Standards No. 115,  "Accounting for Certain  Investments in Debt and
Equity  Securities" ("SFAS No. 115"). This statement requires certain securities
to be classified into three categories:

(a)      Securities  Held-to-Maturity -- Debt securities that the entity has the
         positive  intent  and  ability  to hold to  maturity  are  reported  at
         amortized cost.

                                        -6-



<PAGE>
(b)      Trading  Securities -- Debt and equity  securities  that are bought and
         held  principally  for the  purpose  of  selling  in the near  term are
         reported at fair value,  with  unrealized  gains and losses included in
         earnings.

(c)      Securities   Available-for-Sale  --  Debt  and  equity  securities  not
         classified as either securities  held-to-maturity or trading securities
         are reported at fair value with  unrealized  gains and losses  excluded
         from  earnings  and reported as a separate  component of  stockholders'
         equity.

The Company's short-term investments are comprised of equity securities that are
classified  as trading  securities,  which are carried at their fair value based
upon quoted market prices of those  investments  at December 27, 1998,  with net
realized and unrealized gains and losses included in net earnings.

As of December 27, 1998, short-term investments consist of common stock holdings
in C3, Inc.  ("C3"),  the majority of which were  purchased in November 1997 and
September 1998. The Company's CEO has, through a binding agreement,  promised to
indemnify  the  Company  for  losses of up to  $450,000  for the net  difference
between the aggregate cash  consideration  paid by the Company for the shares of
C3 common stock and the cash  proceeds  received by the Company upon the sale of
C3 common stock.  This indemnity  covers losses that may result from the sale of
shares  purchased in November 1997 and September  1998 below the purchase  price
paid,  offset by gains realized on shares  acquired  directly from C3 in January
1997 (see  below).  Payment  of this  obligation  is due  within  ten days after
receipt by the CEO of the  Company's  written  demand made pursuant to a vote of
the  majority  of the  members  of the Board of  Directors  other  than the CEO.
Realized  losses on shares of C3 stock sold by the  Company  were  $254,000  and
$46,000,  for fiscal 1998 and 1999,  respectively.  At December  27, 1998, a net
unrealized  gain,  including  shares acquired  directly from C3 (see below),  of
$383,000  was  recognized  to bring  the  valuation  of shares  held to  market.
Therefore,  approximately $120,000 and $116,000 of other income was recorded for
the three and six months ended  December 27, 1998,  respectively.  Approximately
$32,000 of net losses were  recorded to other  income  (expense) in fiscal 1998.
Since the net unrealized gain on shares held exceeded  realized losses on shares
sold, there was no receivable recorded from the CEO as of December 27, 1998.

In addition to the shares of C3 purchased in November 1997 and  September  1998,
the Company  acquired  24,601 shares of C3 common stock in January  1997.  These
shares were issued  pursuant to an option C3 granted to the Company in 1995. The
option gave the Company the right to acquire, for an aggregate  consideration of
$500, one percent of the  outstanding  common stock of C3. C3 retained the right
to waive the  consideration and issue the stock at any time, which it elected to
do in January  1997.  The shares  issued  pursuant to the option are  restricted
securities  within  the  meaning of Rule 144 under the  Securities  Act of 1933,
which  permits  the sale of such  securities  without  registration  if  certain
conditions are met. The shares first became  eligible for sale under Rule 144 in
the third quarter of fiscal 1998.

                                     -7-



<PAGE>
Long Term Debt

The Company  obtained a term loan from a commercial bank of up to $10,000,000 to
finance  the  purchase  and  upfit of a  production  facility  and  service  and
warehouse  buildings  in  November  1997.  As of  December  27,  1998 the entire
$10,000,000 loan was outstanding,  including a current portion of $121,000 and a
long  term  amount  of  $9,879,000.  The loan,  which is  collateralized  by the
purchased property, accrues interest at a fixed rate of 8% and carries customary
covenants,  including the maintenance of a minimum  tangible net worth and other
requirements.  Accrued interest is due monthly until May 1999, at which time the
outstanding  principal  balance will be amortized  over twenty years until 2011,
when the loan balance becomes due.

During the three and six months ended December 27, 1998, the Company capitalized
interest on funds used to construct property,  plant and equipment in connection
with the  facility.  Interest  capitalized  for the three and six  months  ended
December 27, 1998 was $34,000 and $118,000, respectively.

Inventories

Inventories  are  stated at the lower of cost or  market,  with cost  determined
under  the  first-in,  first-out  (FIFO)  method.  Inventories  consist  of  the
following:


<TABLE>
<CAPTION>
                                         December 27,         June 28,
                                             1998               1998
                                         ------------       ------------
                                                 (In thousands)
             <S>                         <C>                <C>
             Raw materials                 $ 1,338             $ 999
             Work-in-progress                1,220               752
             Finished goods                    844               792
                                         ------------       ------------
             Total Inventory               $ 3,402           $ 2,543
                                         ============       ============
</TABLE>



Research and Development Accounting Policy

The U.S.  Government  provides  funding  for  several of the  Company's  current
research  and  development  efforts.  The  contract  funding  may be  based on a
cost-plus or a cost-share arrangement. The amount of funding under each contract
is  determined  based on cost  estimates  that  include  direct  costs,  plus an
allocation for research and development,  general and administrative and cost of
capital  expenses.  Cost-plus funding is determined based on actual costs plus a
set percentage  margin. For cost-share  contracts,  the actual costs are divided
between the U.S.  Government and the Company based on the terms of the contract.
The government's  cost share is then paid to the Company.  Activities  performed
under these arrangements  include research regarding silicon carbide and gallium
nitride  materials.  The  contracts  typically  require  submission of a written
report to document the results of such research.

                                     -8-



<PAGE>
The revenue and expense classification for contract activity is determined based
on the nature of the contract.  For contracts where the Company anticipates that
funding  will  exceed  direct  costs over the life of the  contract,  funding is
reported  as  contract  revenue  and all direct  costs are  reported as costs of
contract revenue.  For contracts under which the Company anticipates that direct
costs will exceed amounts to be funded over the life of the contract,  costs are
reported as research and  development  expenses and related funding as an offset
of those expenses.  The following table details  information about contracts for
which  direct  expenses  exceed  funding by period as included  in research  and
development expenses:


<TABLE>
<CAPTION>
                            Three Months Ended             Six Months Ended
                       December 27,   December 28,    December 27,  December 28,
                           1998           1997            1998          1997
                       ------------   ------------    ------------  ------------
                                              (In thousands)
<S>                    <C>            <C>             <C>           <C>
Net R&D costs             $  -            $ 161           $ -           $ 281
Government funding           -              311             -             598
                       ============   ============    ============  ============
Total direct costs        $ -             $ 472           $ -           $ 879
  incurred
                       ============   ============    ============  ============
</TABLE>



As of  December  27,  1998,  all  funding  under  contracts  where  the  Company
anticipates  that  direct  costs  will  exceed  amounts  to be  funded  has been
exhausted.  Therefore,  the Company  anticipates  that all future  funding under
existing contracts will be reflected as contract revenue while direct costs will
be reported as contract cost of revenue.

Significant Sales Contract

In September 1996, the Company entered into a Purchase Agreement with Siemens AG
("Siemens"),  pursuant to which  Siemens  agreed to purchase LED chips made with
the Company's gallium  nitride-on-silicon  carbide technology. In April 1997 and
December  1997,  contract  amendments  were  executed that provided for enhanced
product  specifications  requested  by Siemens and larger  volume  requirements,
respectively.

In  September  1998,  the Company and Siemens  further  amended the  contract to
extend the Purchase  Agreement  with respect to shipments to be made on or after
June 29, 1998. The third amendment obligates the Company to ship, and Siemens to
purchase,  stipulated  quantities of both the conductive buffer and the new high
brightness  LED chips and  silicon  carbide  wafers  through  fiscal  1999.  The
agreement  also limits  Siemens'  right to defer  shipments  to 30% of scheduled
quantities  for items to be shipped in more than 24 weeks after  initial  notice
and 10% of  scheduled  quantities  for items to be shipped in more than 12 weeks
after  initial  notice.  In both cases,  Siemens would be required to accept all
product  within  90  days  of the  original  shipment  date.  Additionally,  the
amendment  provides  for  higher  per unit  prices  early in the  contract  with
reductions in unit prices as the cumulative volume shipped increases.

In  December  1998,  the Company and  Siemens  further  amended the  contract to
include greater  quantities of conductive  buffer LED chips to be shipped during
fiscal 1999 and to extend the

                                     -9-



<PAGE>
contract  for these  shipments  through  September  1999.  This  amendment  also
provides  for higher per unit prices early in the contract  with  reductions  in
unit prices as the cumulative volume shipped increases. As was the case with the
third  amendment,  these higher prices were  negotiated by the Company to offset
higher per unit costs expected earlier in the contract.

Income Taxes

The Company has  established an estimated tax provision  based upon an effective
rate of 28%. The estimated tax rate was based on tax reduction  strategies being
implemented  by the  Company.  The  estimated  effective  rate  was  based  upon
projections  of income for the fiscal year and the Company's  ability to utilize
remaining net operating loss carryforwards and other tax credits.  However,  the
actual effective rate may vary depending upon actual pre-tax book income for the
year or other factors.

Deferred tax assets and liabilities are recognized for the estimated  future tax
consequences  attributable to differences  between financial  statement carrying
amounts of  existing  assets and  liabilities  and their  respective  tax bases.
Deferred  tax assets and  liabilities  are measured  using  enacted tax rates in
effect for the year in which  those  temporary  differences  are  expected to be
recovered or settled.

The actual income tax expense  attributable to earnings for the six months ended
December  27,  1998  differed  from the amounts  computed  by applying  the U.S.
Federal tax rate of 35% to pretax earnings as a result of the following:


<TABLE>
<CAPTION>
                                                      Amount         Percent
                                                  --------------  --------------
                                                  (In thousands)
<S>                                               <C>            <C>
Federal income tax provision at statutory rate      $ 2,536            35.0%
State tax provision                                     174             2.4
Decrease in income tax expense resulting from:
      Foreign sales corporation                       (306)           (4.2)
      State tax incentives                            (167)           (2.3)
      Research and development credits                 (85)           (1.2)
      Change in valuation allowance                   (123)           (1.7)
                                                  --------------  --------------
Income tax expense                                  $ 2,029            28.0%
                                                  ==============  ==============
</TABLE>


The following  are the  components of the provision for income taxes for the six
months ended December 27, 1998 (in thousands):

                                     -10-



<PAGE>
      Current:
            Federal                               $ 1,182
            State                                     175
                                                 ---------
      Total Current Portion                         1,357
      Deferred:
            Federal                                   782
            State                                   (110)
                                                 ---------
      Total Deferred Portion                          672
      Net Provision                               $ 2,029
                                                 =========

The tax effects of temporary  differences that give rise to significant portions
of the deferred tax assets and deferred tax liabilities are as follows:


<TABLE>
<CAPTION>
                                           December 27,       June 28,
                                               1998             1998
                                           -------------    ------------
                                                  (In thousands)
<S>                                        <C>              <C>
Deferred tax assets:
Net operating loss carryforwards             $  948            $1,304
Research tax credits                             92               169
Compensation accruals                            70                62
Inventory capitalization                        130               120
Bad debt allowance                               64                56
Alternative minimum tax                         158               261
Foreign tax credit                              153               270
State incentive credits                         165                --
                                           -------------    ------------
Total gross deferred tax assets               1,780             2,242
Less valuation allowance                      (167)             (290)
                                           -------------    ------------
Net deferred tax asset                        1,613             1,952

Deferred tax liabilities:
Property and equipment, due to                2,477             2,154
  depreciation
                                           -------------    ------------
Gross deferred tax liabilities                2,477             2,154
                                           -------------    ------------
Net deferred tax asset (liability)           $(864)            $(202)
                                           =============    ============
</TABLE>



The net  change  in the  total  valuation  allowance  for the six  months  ended
December  27, 1998 was  $123,000.  The primary  reason for the  reduction in the
valuation  allowance  for  the  six  months  ended  December  27,  1998  was the
implementation  of tax  strategies  to  utilize  these  assets.  Realization  of
deferred tax assets  associated with the NOL carryforwards is dependent upon the
Company generating sufficient taxable income prior to their expiration. Although
realization  is not assured for the  remaining  deferred tax assets,  management
believes it is more likely  than not that they will be realized  through  future
taxable earnings.  However,  the net deferred tax assets could be reduced in the
future if  management's  estimates  of taxable  income  during the  carryforward
period are significantly reduced.

                                     -11-



<PAGE>
As of December 27, 1998,  the Company has net operating loss  carryforwards  for
federal   purposes  of  $3,493,000  and  $2,346,000  for  state  purposes.   The
carryforward expiration period is 2011 to 2013 for federal tax purposes and from
2000 to 2003 for state  purposes.  The  Company  anticipates  that each of these
carryforwards will be utilized by the end of the current fiscal year.

Earnings Per Share

The  Company  presents  earnings  per  share in  accordance  with  Statement  of
Financial  Accounting Standards No. 128, "Earnings Per Share" ("SFAS 128"). SFAS
128  required  the  Company to change its method of  computing,  presenting  and
disclosing  earnings per share information.  All prior period data presented has
been restated to conform to the provisions of SFAS 128.

The  following  computation  reconciles  the  differences  between the basic and
diluted presentations:


<TABLE>
<CAPTION>
                                        Three Months Ended               Six Months Ended
                                    December 27,    December 28,    December 27,   December 28,
                                        1998           1997             1998           1997
                                    ------------    ------------    ------------   ------------
                                             (In thousands, except per share amounts)
<S>                                 <C>             <C>             <C>            <C>
Net income                            $ 2,851         $ 1,472         $ 5,217        $ 2,640
Weighted average common shares         12,832          12,789          12,876         12,699
                                    ------------    ------------    ------------   ------------
Basic earnings per common share       $ 0.22          $ 0.12          $ 0.41          $ 0.21
                                    ============    ============    ============   ============


Net income                            $ 2,851        $ 1,472          $ 5,217        $ 2,640

Diluted weighted average common
  shares:
Common shares outstanding              12,832         12,789          12,876          12,699
Dilutive effect of stock options        1,002            847             665             823
  and warrants
                                    ------------    ------------    ------------   ------------
Total diluted weighted average         13,834         13,636          13,541          13,552
common shares
                                    ------------    ------------    ------------   ------------
Diluted earnings per common share     $ 0.21          $ 0.11           $0.39          $ 0.20
                                    ============    ============    ============   ============
</TABLE>



Potential common shares that would have the effect of increasing  diluted income
per share are considered to be antidilutive.  In accordance with SFAS 128, these
common shares were not included in calculating  diluted income per share.  As of
December 27, 1998, there were no potential shares considered to be antidilutive.
For the three and six months ended December 28, 1997,  there were 300,000 shares
that were not included in  calculating  diluted  income per share  because their
effect was antidilutive.

                                     -12-



<PAGE>
New Accounting Pronouncements

In fiscal 1999, the Company adopted Statement of Financial  Accounting Standards
No. 130,  "Reporting  Comprehensive  Income"  ("SFAS  130"),  which  establishes
standards for reporting and display of  comprehensive  income and its components
in a full set of  general-purpose  financial  statements.  SFAS 130 only impacts
financial  statement  presentation as opposed to actual amounts recorded.  Other
comprehensive  income includes all nonowner  changes in equity that are excluded
from net  income.  This  Statement  has no  financial  statement  impact  for an
enterprise  that  has no  items  of other  comprehensive  income  in any  period
presented.  During the three and six months ended December 27, 1998 and December
28, 1997, the Company had no items of other comprehensive income.

In fiscal 1999, the Company adopted Statement of Financial  Accounting Standards
No. 131,  "Disclosures about Segments of an Enterprise and Related  Information"
("SFAS  131").  SFAS  131  changes  the  way  public  companies  report  segment
information in annual financial  statements and also requires those companies to
report  selected  segment   information  in  interim  financial   statements  to
shareholders.  SFAS 131 also establishes standards for related disclosures about
products and services, geographic areas, and major customers. The application of
the new rules  does not have a  significant  impact on the  Company's  financial
statements.

In June 1998, the Financial Accounting Standards Board issued Statement No. 133,
"Accounting  for Derivative  Instruments and Hedging  Activities"  ("SFAS 133"),
which is required to be adopted in years beginning after June 15, 1999.  Because
of the Company's minimal use of derivatives, management does not anticipate that
the adoption of the new Statement will have a significant  effect on earnings or
the financial position of the Company.


I
tem 2.  Management's Discussion and Analysis of Financial Condition and Results
         of Operations

Information set forth in this Form 10-Q, including  Management's  Discussion and
Analysis of Financial  Condition  and Results of  Operations,  contains  various
"forward-looking statements" within the meaning of Section 27A of the Securities
Act of 1933 and  Section 21E of the  Securities  Act of 1934,  which  statements
represent the Company's judgment  concerning the future and are subject to risks
and  uncertainties  that could cause the Company's actual operating  results and
financial position to differ materially.  Such forward-looking statements can be
identified  by the use of  forward-looking  terminology  such as "may,"  "will,"
"anticipate,"  "believe,"  "plan,"  "estimate,"  "expect,"  and  "intend" or the
negative  thereof or other  variations  thereof or comparable  terminology.  The
Company cautions that any such forward-looking  statements are further qualified
by important  factors that could cause the Company's actual operating results to
differ materially from those in the forward-looking  statements,  including, but
not limited to, fluctuations in our operating results,  production yields in our
manufacturing  processes,  whether we can produce commercial  quantities of high
brightness  blue and green LEDs, our  dependence on a few customers,  whether we
can manage our growth effectively,  assertion of intellectual property rights by
others,  adverse economic conditions,  and insufficient  capital resources.  See
Exhibit  99.1 for  additional  factors  that could  cause the  Company's  actual
results to differ.

                                     -13-



<PAGE>
Overview

Cree  Research,  Inc.  is the  world  leader  in  developing  and  manufacturing
semiconductor  materials  and  electronic  devices  made  from  silicon  carbide
("SiC").  We recognize  product revenue at the time of shipment or in accordance
with the terms of the relevant  contract.  We derive the largest  portion of our
revenue from the sale of blue and green light emitting  diode ("LED")  products.
The Company offers LEDs at two  brightness  levels -- high  brightness  blue and
green  products  and  standard  blue  products.  The  Company's  LED devices are
utilized  by end users  for  automotive  backlighting,  liquid  crystal  display
("LCD")  backlighting  (including use in wireless  handsets),  indicator  lamps,
miniature white lights (such as replacements for miniature  incandescent bulbs),
indoor sign and arena  displays,  outdoor full color stadium  displays,  traffic
signals and other lighting applications.

The high brightness  products,  which were introduced to the market in September
1998  in  limited   quantities,   are  currently   being   integrated  into  our
manufacturing  facility  for full  production.  During  the first six  months of
fiscal 1999, margins realized on the high brightness products were substantially
lower than those  derived from our standard  blue LED product,  as the yield was
lower than the standard product.  Historically,  we have experienced low margins
with many new product introductions,  and we are working to make improvements to
output and yield during the second half of fiscal 1999. We  anticipate  that the
high brightness  products will contribute  greater volumes as yield improvements
are obtained.

We believe that in order to increase  market demand for all of our LED products,
we must continue to substantially lower average sales prices.  Historically,  we
have been  successful  in achieving  lower costs for the standard  blue product.
During the remainder of fiscal 1999, we plan to focus on reducing  costs through
higher  production yields and from higher volumes as fixed costs are spread over
a greater number of units.

We also derive  revenue from the sale of advanced  materials  made from SiC that
are used  primarily for research and  development.  We also sell SiC crystals to
C3, which  incorporates them in gemstone  applications.  During late fiscal 1998
and the first six months of fiscal 1999, C3 purchased  equipment  from us, which
has more than doubled the capacity for the production of crystals for C3.

The balance of our revenue is derived from government  contract  funding.  Under
various  programs,  U.S.  Government  entities  further the  development  of our
technology by supplementing our research and development  efforts. All resulting
technology  obtained  through  these  efforts  remains  our  property  after the
completion of the contract,  subject to certain  license rights  retained by the
government. Contract revenue includes funding of direct research and development
costs  and a  portion  of our  general  and  administrative  expenses  and other
operating  expenses  for  contracts  under  which  funding is expected to exceed
direct costs over the life of the  contract.  For  contracts  under which direct
costs are  anticipated  to  exceed  amounts  to be  funded  over the life of the
contract (i.e., certain cost share  arrangements),  direct costs are reported as
research and  development  expenses with related  reimbursements  recorded as an
offset to those expenses.

                                     -14-



<PAGE>
On September 24, 1997, the Board of Directors  changed the Company's fiscal year
from the twelve months ending June 30 to a 52 or 53 week year ending on the last
Sunday in the month of June.  The Company's  1998 fiscal year extended from July
1, 1997 to June 28, 1998.

Results of Operations

Three Months Ended December 27, 1998 and December 28, 1997

Revenue.  Revenue  increased  39% from $10.1  million  in the second  quarter of
fiscal 1998 to $14.0 million in the second quarter of fiscal 1999. This increase
was  attributable  to an increase in product revenue of 57% from $8.2 million in
the second  quarter  of fiscal  1998 to $12.8  million in the second  quarter of
fiscal 1999.  This rise in product  revenue was a result of the 128% increase in
sales of our LED products in the second  quarter of fiscal 1999  compared to the
second  quarter  of fiscal  1998.  Growth in LED  volume  was due in part to the
introduction  of the new high  brightness  devices,  but  mostly was a result of
strong  demand for the standard  brightness  product.  This volume  increase was
partly  offset by a 35% decline in the average  sales price of the standard blue
LED chip during this same period.  We believe that in order to increase  volume,
we must continue to lower average sales prices.

Revenue  attributable  to sales of SiC  materials  was 88%  higher in the second
quarter  of  fiscal  1999  than in the  same  period  of  fiscal  1998  due to a
significant increase in sales to C3 for gemstone applications. During the second
quarter of fiscal 1998, C3 was in initial stages of operation;  therefore,  unit
sales were limited. Revenue from sales of SiC wafers increased 48% in the second
quarter of fiscal 1999 as compared to the second  quarter of fiscal 1998, due to
quality  improvements  in  wafers,  along  with the  availability  of the larger
two-inch  wafer during  fiscal 1999.  During the second  quarter of fiscal 1999,
sales from our displays  business  declined 95% over the prior year period as we
have chosen to de-emphasize  this product line.  Contract  revenue received from
U.S.  Government  agencies declined 36% during the second quarter of fiscal 1999
compared to the second  quarter of fiscal 1998, as a  significant  contract that
funded optoelectronic research was exhausted in early fiscal 1999.

Gross Profit.  Gross margin  climbed to 47% of revenue during the second quarter
of fiscal 1999 as compared to 35% during the second quarter of fiscal 1998. This
increase is predominantly  attributable to design and manufacturing improvements
that occurred over the past year  resulting in  significant  reductions in cost.
With the introduction of the new conductive  buffer LED technology in the fourth
quarter of fiscal 1998, we were able to significantly  lower costs of production
due to the fewer  manufacturing  steps  required with the new chip structure and
improved yield.  During the second quarter of fiscal 1998, we began to fabricate
devices on a larger  two-inch  wafer;  however,  we were still in the process of
establishing  this new  manufacturing  design  and had not  achieved  production
efficiency.  In  addition,  the  larger  two  inch  wafer  had not  been in full
production  for much of the period;  therefore,  average  die yields  during the
second  quarter of fiscal  1998 were  significantly  lower.  Wafer costs for SiC
material  sales also declined 21% during the second  quarter of fiscal 1999 over
the comparative period due to more efficient processes and improved yield.

                                     -15-



<PAGE>
Research and Development.  Research and development  expenses  increased 113% in
the  second  quarter of fiscal  1999 to $1.1  million  from $0.5  million in the
second quarter of fiscal 1998. Much of this increase was caused by significantly
higher  costs  for the  initial  development  of the  new  high  brightness  LED
products.  We  anticipate  that  internal  funding  for the  development  of new
products  will  continue  to grow in  future  periods,  while  we  believe  that
government  funding  for  our  development  projects  will  remain  constant  or
decrease.

Sales, General and Administrative.  Sales,  general and administrative  expenses
increased  71% in the second  quarter of fiscal 1999 to $1.5  million  from $0.9
million in the second  quarter of fiscal  1998 due  primarily  to two  insurance
events that were  recorded in the second  quarter of fiscal 1998. As a result of
the  dismissal of a securities  class action  lawsuit in November  1997, we were
reimbursed $0.2 million for costs incurred in connection with the lawsuit.  Most
of these expenses were recorded in fiscal 1997. In addition,  we received a $0.2
million  reimbursement  of medical  expenses due to a  negotiated  cost cap in a
partially  self-funded  insured  health  plan.  As a  result  of  our  increased
profitability  during the second  quarter of fiscal 1999 over the second quarter
of fiscal 1998, the profit sharing  accrual (which is based on 5% of net income)
has also  grown $0.1  million.  We  anticipate  that total  sales,  general  and
administrative  costs  will  increase  in  connection  with  the  growth  of our
business;  however,  we believe that as a percentage of revenue they will remain
constant or possibly decline.

Other (Income) Expense. Other expenses have decreased 24% to $0.3 million during
the second  quarter of fiscal 1999 from $0.4  million for the second  quarter of
fiscal 1998. In the second  quarter of fiscal 1999, we realized  impairments  to
leasehold costs as a result of management's  decision to move equipment from our
leased  facility  to our new  manufacturing  site.  This was offset  somewhat by
investment  income  recognized  on stock  held in C3. In the  second  quarter of
fiscal  1998,  we had  written off certain  fixed  assets that were  impaired in
value. These write-downs  exceeded the fiscal 1999 leasehold  write-downs offset
by the investment income.

Interest Income, Net. Interest income, net has decreased 88% to $0.02 million in
the second  quarter of fiscal  1999 from $0.2  million in the second  quarter of
fiscal 1998 due to interest  expense  incurred.  In November 1997, we obtained a
term loan from  NationsBank to fund the acquisition and  construction of our new
manufacturing  facility in Durham, North Carolina.  The majority of the interest
incurred in the second quarter of fiscal 1999 has been expensed.

Income Tax Expense. Income tax expense for the second quarter of fiscal 1999 was
$0.9 million compared to $0.5 million in the second quarter of fiscal 1998. This
increase  resulted from  increased  profitability  during the second  quarter of
fiscal 1999 over fiscal 1998.

Six Months Ended December 27, 1998 and December 28, 1997

Revenue.  Revenue  increased  30% from $20.3  million in the first six months of
fiscal  1998 to $26.3  million  in the first six  months  of fiscal  1999.  This
increase was  attributable  to an increase in product  revenue of 44% from $16.4
million in the first six months of fiscal 1998 to $23.5 million in the first six
months of fiscal  1999.  This rise in product  revenue  was a result of the 128%
increase  in sales of our LED  products  in the first six months of fiscal  1999
compared to

                                     -16-



<PAGE>
the first six months of fiscal 1998. Growth in LED volume was due in part to the
introduction  of the new high  brightness  devices,  but  mostly was a result of
strong  demand for the standard  brightness  product.  This volume  increase was
partly  offset by a 40% decline in the average  sales price of the standard blue
LED chip during this same period.  We believe that in order to increase  volume,
we must continue to lower average sales prices.

Revenue  attributable  to sales of SiC  material was 84% higher in the first six
months  of  fiscal  1999  than  in the  same  period  of  fiscal  1998  due to a
significant increase in sales to C3 for gemstone applications.  During the first
six months of fiscal 1998,  C3 was in initial  stages of  operation;  therefore,
unit sales were limited.  Revenue from sales of SiC wafers  increased 43% in the
first six months of fiscal  1999 as  compared  to the first six months of fiscal
1998, due to quality  improvements in wafers, along with the availability of the
larger two-inch wafer during fiscal 1999.  During the first six months of fiscal
1999, sales from our displays  business  declined 96% over the prior year period
as we have chosen to de-emphasize  this product line.  Contract revenue received
from U.S. Government agencies declined 29% during the first six months of fiscal
1999 compared to the first six months of fiscal 1998, as a significant  contract
that funded optoelectronic research was exhausted in early fiscal 1999.

Gross Profit. Gross margin climbed to 47% of revenue during the first six months
of fiscal 1999 as  compared  to 33% during the first six months of fiscal  1998.
This  increase  is  predominantly   attributable  to  design  and  manufacturing
improvements   that  occurred  over  the  past  year  resulting  in  significant
reductions  in cost.  With the  introduction  of the new  conductive  buffer LED
technology in the fourth  quarter of fiscal 1998, we were able to  significantly
lower costs of production due to fewer manufacturing steps required with the new
chip structure and improved  yield.  During the first six months of fiscal 1998,
we  introduced  a smaller  LED chip  size and,  in  December  1997,  we began to
fabricate devices on a larger two-inch wafer. As of December 1997, we were still
in the  process of  establishing  these new  manufacturing  designs  and had not
achieved production  efficiency.  In addition, the larger two inch wafer had not
been in full  production for much of the period;  therefore,  average die yields
during the first six months of fiscal 1998 were significantly lower. Wafer costs
for SiC material  sales also  declined 47% during the first six months of fiscal
1999 over the  comparative  period due to more efficient  processes and improved
yield.

Research and Development.  Research and development  expenses  increased 109% in
the first six months of fiscal  1999 to $1.9  million  from $0.9  million in the
first  six  months  of  fiscal  1998.  Much  of  this  increase  was  caused  by
significantly  higher  costs  for  the  initial  development  of  the  new  high
brightness LED product.  We anticipate that internal funding for the development
of new products will continue to grow in future  periods,  while we believe that
government  funding  for  our  development  projects  will  remain  constant  or
decrease.

Sales, General and Administrative.  Sales,  general and administrative  expenses
increased  34% in the first six months of fiscal 1999 to $2.7  million from $2.0
million in the first six months of fiscal 1998 due  primarily  to two  insurance
events that were  recorded in the second  quarter of fiscal 1998. As a result of
the dismissal of a securities class action lawsuit in November 1997,

                                     -17-



<PAGE>
we were  reimbursed  $0.2  million  for costs  incurred in  connection  with the
lawsuit.  Most of these  expenses were recorded in fiscal 1997. In addition,  we
received a $0.2 million  reimbursement  of medical  expenses due to a negotiated
cost cap in a partially  self-funded  insured  health  plan.  As a result of our
increased  profitability  during  the first six  months of fiscal  1999 over the
first six months of fiscal 1998, the profit  sharing  accrual (which is based on
5% of net income) has also grown $0.2 million.  We anticipate  that total sales,
general and administrative  costs will increase in connection with the growth of
our  business;  however,  we believe that as a  percentage  of revenue they will
remain constant or possibly decline.

Other (Income) Expense. Other expenses have increased 45% to $0.6 million during
the first six months of fiscal  1999 from $0.4  million for the first six months
of fiscal 1998. In the first six months of fiscal 1999, we realized  impairments
to leasehold costs as a result of  management's  decision to move equipment from
our leased facility to our new  manufacturing  site. This was offset somewhat by
income recognized under our equipment  build-out  agreement with C3. In 1998, we
sold to C3  equipment  manufactured  by us at cost  plus a  reasonable  overhead
allocation. The overhead allocation was recorded as "Other income."

Interest Income,  Net. Interest income, net has decreased 59% to $0.1 million in
the first six months of fiscal 1999 from $0.3 million in the first six months of
fiscal 1998 due to interest  expense  incurred.  In November 1997, we obtained a
term loan from  NationsBank to fund the acquisition and  construction of our new
manufacturing facility in Durham, North Carolina. While much of the interest was
capitalized  during the last half of fiscal  1998,  the majority of the interest
incurred in the first six months of fiscal 1999 has been expensed.

Income Tax  Expense.  Income tax expense for the first six months of fiscal 1999
was $2.0  million  compared  to $1.1  million  in the first six months of fiscal
1998. This increase resulted from increased  profitability  during the first six
months of fiscal 1999 over fiscal 1998.  Our effective tax rate during the first
six  months of fiscal  1999 was 28%  compared  to 29% in the first six months of
fiscal 1998.

Liquidity and Capital Resources

We have funded our operations to date through sales of equity,  bank  borrowings
and revenue  from product and contract  sales.  As of December 27, 1998,  we had
working capital of approximately $24.4 million,  including $13.7 million in cash
and cash equivalents and marketable securities.

Operating  activities generated $4.2 million in cash during the first six months
of fiscal 1999.  This was  attributable  primarily to net income of $5.2 million
and other non-cash expenses of $3.3 million. These amounts were partly offset by
an  increase of $2.0  million in accounts  receivable,  a $0.9  million  rise in
inventory and a $3.1 million decrease in accounts payable.

Most of the $10.4 million of cash used by investing  activities in the first six
months of fiscal 1999 was related to expenditures  associated with the continued
construction of our new

                                     -18-



<PAGE>
manufacturing   facility  in  Durham,   North   Carolina.   We  also   increased
manufacturing  capacity  by  adding  new  equipment  to  support  the  epitaxial
deposition and clean room fabrication processes.

The $1.2  million of cash  provided  by  financing  activities  in the first six
months of fiscal 1999 related  primarily to the receipt of $1.8 million and $0.7
million in proceeds  from the exercise of stock  warrants and stock options from
the  Company's  employee  stock option  plan,  respectively.  In addition,  $0.6
million was received  from a Director as payment of profits  from a  short-swing
transaction in our securities and $1.3 million was funded as the final draw from
the long term debt  arrangement  with  NationsBank.  We  currently  have a $10.0
million loan outstanding from  NationsBank.  We expect to pay off this loan with
the proceeds from our secondary  stock  offering  described in the  registration
statement  on Form S-3 filed by the Company  with the  Securities  and  Exchange
Commission  on January  14,  1999.  These cash  proceeds  were  offset by a $3.2
million  cash  outlay for the  repurchase  of our common  stock.  This stock was
repurchased  at an average price of $13.68.  The stock  warrants  exercised were
distributed in connection  with the Company's  September 1995 private  placement
and have an exercise price of $27.23. As of December 28, 1998, warrants remained
outstanding to purchase 234,575 shares;  these warrants will expire in September
2000.

We are currently engaged in construction  activities related to a new clean room
fabrication  facility.  We also  intend to expand our  facility  for new crystal
growth and test and packaging areas in calendar 1999. These additions will allow
the Company to  consolidate  all LED and wafer  manufacturing  facilities to one
site with improved  manufacturing  capabilities.  In addition,  in order to keep
pace  with  anticipated  growth  in LED and wafer  sales  and  provide  expanded
facilities for our new microwave product line, the Company  anticipates a second
phase of expansion to  facilities  and  infrastructure  to begin in early fiscal
2000.  We  anticipate  total costs for these  expenses to be between $15 and $18
million.  Estimates for equipment  costs related to this expansion total between
$15 and $17 million. We plan to fund these capital projects from the proceeds of
our secondary stock offering. In addition, we are in the process of purchasing a
79-acre site close to our present facility for $1.5 million.  We anticipate that
internally generated cash plus the proceeds of the secondary stock offering will
be sufficient to fund our capital requirements for the next 12 months.

Impact of the Year 2000

State of Readiness

We have  adopted a Year 2000  compliance  plan and formed a team of  information
technology professionals assigned the task of identifying and resolving any Year
2000 issues that may affect our business.  Our compliance  plan has four phases:
inventory,  assessment,  remediation and testing. We have completed an inventory
for all of our computer  systems,  computer related equipment and equipment with
embedded  processors,  as  well  as our  products,  and  are in the  process  of
assessing  those  systems.  We have completed  this  assessment  with respect to
approximately  80% of our systems and expect to complete our  assessment  of the
remaining  systems by February 1999. In addition,  we have  determined  that our
products  are of a nature  that they are not  subject  to failure as a result of
Year 2000 issues. Although we cannot control

                                     -19-



<PAGE>
whether and how third  parties will address the Year 2000 issue,  we also are in
the process of contacting critical vendors and suppliers to assess their ability
to ensure smooth delivery of products  without  disruptions  caused by Year 2000
problems.  In the course of our assessment,  we have not yet identified any Year
2000  issues  that  would  affect  our  ability  to do  business;  however,  our
assessment is not complete, and there can be no assurance that there are no Year
2000 issues that may affect us. Once we complete the assessment  phase,  we will
prioritize  and implement  necessary  repairs or  replacements  to equipment and
software to achieve Year 2000  compliance.  We expect to complete  this phase by
March 1999.  The final phase will consist of a testing  program for all repairs.
We anticipate that all testing will be completed by April 1999.

Costs

We have not  prepared  estimates  of  costs to  remediate  Year  2000  problems;
however, based on currently available information,  including the results of our
assessment to date and our replacement schedule for equipment, we do not believe
that the costs associated with Year 2000 compliance will have a material adverse
effect on our business, results of operations or financial condition.

Year 2000 Risks

Although we believe  that our Year 2000  compliance  plan is adequate to address
Year  2000  concerns,  there  can be no  assurance  that we will not  experience
negative consequences as a result of undetected defects or the non-compliance of
third parties with whom we interact. Furthermore, there can be no assurance that
there  will  not  be a  delay  in,  or  increased  costs  associated  with,  the
implementation  of  corrections as the Year 2000  compliance  plan is performed,
such as  unexpected  costs of correcting  equipment  that has not yet been fully
evaluated.  If realized,  these risks could  result in an adverse  effect on our
business, results of operations and financial condition.

We believe that our greatest risk stems from the potential non-compliance of our
suppliers. We depend on a limited number of suppliers for certain raw materials,
components  and  equipment  necessary  for  the  manufacture  of  our  products.
Accordingly,  if those  suppliers  are  unable to  process or fill our orders or
otherwise  interact with us because of Year 2000 problems,  we could  experience
material adverse effects to our business. We are in the process of assessing the
Year 2000 status of our suppliers and are investigating  alternative  sources of
supply.  As a consequence  of our  dependence on limited  sources of supply,  we
generally  maintain a significant  inventory of certain  critical  materials and
require  suppliers  to keep  certain  amounts  of  inventory  available  for us;
however, there can be no assurance that we will have enough materials on hand to
continue  production  without  interruption  in the  event  one or  more  of our
suppliers  experiences  Year 2000  problems  that affect its (their)  ability to
supply us. Any supply chain  disruptions would affect our ability to manufacture
our  products  which  could  result  in  material  adverse  consequences  to our
business, results of operations and financial condition.

                                     -20-



<PAGE>
Contingencies

We have not yet developed a contingency plan to address what would happen in the
event we are unable to address  the Year 2000  issue.  The  contingency  plan is
expected  to be  completed  after  the  inquiry  of  vendors  and  customers  is
completed.


I
tem 3.  Quantitative and Qualitative Disclosures About Market Risk

No material  changes in market risk have been identified  during the most recent
quarter.


PART II - OTHER INFORMATION


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

The Company's  Annual Meeting of Shareholders  convened on November 3, 1998. The
following proposals were introduced and voted upon:

PROPOSAL NO. 1 -- Election of Directors

                                   Votes          Votes    
      Name                          For         Withheld   
      -------------------        -----------   ------------
      F. Neal Hunter             11,740,086      203,680    
      Calvin H. Carter, Jr.      11,870,286       73,480    
      John W. Palmour            11,869,286       74,480    
      Walter L. Robb             11,853,486       90,280    
      Michael W. Haley           11,738,686      205,080    
      Dolph W. von Arx           11,722,686      221,080    
      James E. Dykes             11,715,486      228,280    

PROPOSAL NO.2 -- Amendment and Restatement of Articles of Incorporation

                  FOR                         7,543,630
                  AGAINST                       595,781
                  ABSTAINED                      41,635
                  BROKER NON-VOTES            3,762,720

PROPOSAL  NO.3 -- To ratify the  selection  of Ernst & Young LLP as auditors for
the fiscal year ending June 27, 1999

                  FOR                        11,613,306
                  AGAINST                        13,091
                  ABSTAINED                      28,369
                  BROKER NON-VOTES              289,000

                                     -21-



<PAGE>
The matters  listed above are  described in detail in the  Company's  definitive
proxy  statement  dated October 1, 1998, for the Annual Meeting of  Shareholders
held on November 3, 1998.


Item 6.  Exhibits and Reports on Form 8-K

(a)  Exhibits

     Exhibit  Description
     -------  -----------------------------------------------------------------

      10.1    Amended and Restated Equity Compensation Plan effective
              December 7, 1998

      10.16   Fourth  Amendment  to Purchase  Agreement  between the Company and
              Siemens AG dated December 16, 1998 (1)

      10.17   Second  Amended  and  Restated  Indemnity  Agreement  between  the
              Company and F. Neal Hunter dated September 25, 1998

      27      Financial Data Schedule

      99.1    Risk Factors

(b)  Reports on Form 8-K

              No  reports  on Form 8-K  were  filed by the  Company  during  the
              quarter ended December 27, 1998.





- ----------------------
(1)Confidential  treatment  of  portions  of this  document  is being  requested
   pursuant to Rule 24b-2 of the Securities and Exchange Commission.

                                     -22-



<PAGE>

                                  SIGNATURES

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.

                                   CREE RESEARCH, INC.

Date: January 28, 1999             /s/ Cynthia B. Merrell
                                   ----------------------------------------
                                   Cynthia B. Merrell
                                   Chief Financial Officer and Treasurer
                                   (Authorized Officer and Chief Financial
                                   and Accounting Officer)




                                     -23-







                                                                    EXHIBIT 10.1

                              CREE RESEARCH, INC.

                             AMENDED AND RESTATED
                           EQUITY COMPENSATION PLAN

                      (formerly the Cree Research, Inc.
                         Employee Stock Option Plan)

                        ARTICLE I - GENERAL PROVISIONS

1.1   The Plan is  designed,  for the  benefit of the  Company,  to attract  and
      retain for the Company personnel of exceptional  ability; to motivate such
      personnel  through added incentives to make a maximum  contribution to the
      Company;  to develop and maintain a highly competent  management team; and
      to  be  competitive   with  other  companies  with  respect  to  executive
      compensation.

1.2   Awards  under  the  Plan  may be made to  Participants  in the form of (i)
      Incentive Stock Options; (ii) Nonqualified Stock Options; (iii) Restricted
      Stock;  and  (iv)  Other  Stock-Based  Awards  and  such  other  forms  of
      equity-based  compensation  as may be provided and are  permissible  under
      this Plan and the law.

1.3   The Cree Research,  Inc.  Employee Stock Option Plan was initially adopted
      effective August 2, 1989, was amended and restated in the form of the Plan
      effective as of July 1, 1995 (the "Effective Date"), was again amended and
      restated  effective  September 17, 1996,  and was again amended  effective
      September 1, 1997.  This  amendment and  restatement  of the Plan shall be
      effective as of December
 7, 1998.


                           ARTICLE II - DEFINITIONS

      Except where the context otherwise  indicates,  the following  definitions
      apply:

2.1   "Act" means the  Securities  Exchange Act of 1934,  as now in effect or as
      hereafter  amended.  All  citations  to  sections  of  the  Act  or  rules
      thereunder  are to such sections or rules as they may from time to time be
      amended or renumbered.

2.2   "Agreement" means the written agreement evidencing each Award granted to a
      Participant under the Plan.

2.3   "Award"  means an award granted to a  Participant  in accordance  with the
      provisions  of the Plan,  including,  but not limited to, a Stock  Option,
      Restricted  Stock,  Other  Stock-Based  Awards,  or any combination of the
      foregoing.

2.4   "Board" means the Board of Directors of Cree Research, Inc.

2.5   "Change in Control"  means the  occurrence  of an event defined in Section
      9.1 of the Plan.


<PAGE>

2.6   "Code"  means the Internal  Revenue  Code of 1986,  as now in effect or as
      hereafter  amended.  All  citations  to  sections  of the Code are to such
      sections as they may from time to time be amended or renumbered.

2.7   "Committee"  means the  Compensation  Committee of the Board or such other
      committee  consisting  of two or  more  members  of  the  Board  as may be
      appointed by the Board to  administer  this Plan  pursuant to Article III.
      Committee  members may also be appointed for such limited  purposes as may
      be provided by the Board.

2.8   "Company" means Cree Research, Inc., a North Carolina corporation, and its
      successors and assigns.  The term "Company"  shall include any corporation
      which is a member of a  controlled  group of  corporations  (as defined in
      Section  414(b) of the Code,  as modified  by Section  415(h) of the Code)
      which  includes  the  Company;  any  trade  or  business  (whether  or not
      incorporated)  which is under common control (as defined in Section 414(c)
      of the Code, as modified by Section  415(h) of the Code) with the Company;
      any  organization  (whether or not  incorporated)  which is a member of an
      affiliated  service group (as defined in Section 414(m) of the Code) which
      includes the Company;  and any other entity required to be aggregated with
      the Company pursuant to regulations under Section 414(o) of the Code. With
      respect to all  purposes of the Plan,  including,  but not limited to, the
      establishment, amendment, termination, operation and administration of the
      Plan,  Cree  Research,  Inc.  shall be  authorized to act on behalf of all
      other entities included within the definition of "Company".

2.9   "Disability"  means (I) with respect to a  Participant  who is eligible to
      participate in the Company's program of long-term disability insurance,  a
      condition  with respect to which the  Participant  is entitled to commence
      benefits under such program of long-term  disability  insurance,  and (ii)
      with respect to any  Participant  (including a Participant who is eligible
      to   participate  in  the  Company's   program  of  long-term   disability
      insurance), a disability as determined under procedures established by the
      Committee or in any Award.

2.10  "Discount  Stock Options" means  Nonqualified  Stock Options which provide
      for an exercise  price of less than the Fair Market  Value of the Stock at
      the date of the Award.

2.11  "Early  Retirement"  shall mean retirement from active employment with the
      Company,  with the  express  consent of the  Committee,  pursuant to early
      retirement provisions established by the Committee or in any Award.

2.12  "Eligible  Participant"  means any  employee of the  Company,  as shall be
      determined  by the  Committee,  as well  as any  other  person,  including
      directors,  whose  participation  the Committee  determines is in the best
      interest of the Company,  subject to limitations as may be provided by the
      Code, the Act or the Committee.

2.13 "Fair Market Value" means, with respect to any given day, the following:

     (i)  If the  Stock is not  listed  for  trading  on a  national  securities
          exchange  but is listed on the NASDAQ  National  Market  System or the
          NASDAQ  Small-Cap  Market System,  then the Fair Market Value shall be
          the last sale price of the Stock on the date of reference if a minimum


<PAGE>

          of 100  shares are traded on such date or, if less than 100 shares are
          traded on such  date,  then the last sale price of the Stock as of the
          last date on which at least 100 shares were traded,  in either case as
          reported by the NASDAQ National Market System or the NASDAQ  Small-Cap
          Market System, as the case may be.

     (ii) If  the  Stock  is  listed  for  trading  on any  national  securities
          exchange, then the Fair Market Value shall be the closing price of the
          Stock on such  exchange on the date of  reference  if a minimum of 100
          shares  are traded on such date or, if less than 100 shares are traded
          on such date,  then the closing price of the Stock on such exchange as
          of the last date on which at least 100 shares were traded.

      The Committee  may establish  an alternative  method of  determining  Fair
      Market Value.

2.14  "Incentive  Stock Option" means a Stock Option granted under Article IV of
      the Plan, and as defined in Section 422 of the Code.

2.15  "Nonqualified  Stock Option" means a Stock Option  granted under Article V
      of the Plan.

2.16  "Normal  Retirement" shall mean retirement from active employment with the
      Company on or after age 65, or pursuant to such other  requirements as may
      be established by the Committee or in any Award.

2.17 "Option Grant Date" means, as to any Stock Option, the latest of:

     (a)  the date on which the Committee takes action to grant the Stock Option
          to the Participant;

     (b)  the date  the  Participant  receiving  the  Stock  Option  becomes  an
          employee  of  the  Company,  to  the  extent  employment  status  is a
          condition of the grant or a requirement of the Code or the Act; or

     (c)  such  other  date  (later  than the dates  described  in (a) and (b)
          above) as the Committee may designate.

2.18  "Participant"  means an  Eligible  Participant  to whom an Award  has been
      granted and who has entered into an Agreement evidencing the Award.

2.19  "Plan" means the Cree Research, Inc. Equity Compensation Plan as set forth
      herein, and, as further amended or amended and restated from time to time.

2.20  "Restricted  Stock" means an Award of Stock under Article VII of the Plan,
      which Stock is issued with the  restriction  that the holder may not sell,
      transfer, pledge, or assign such Stock and with such other restrictions as
      the  Committee,  in its sole  discretion,  may impose,  including  without
      limitation, any restriction on the right to vote such Stock, and the right
      to receive any cash dividends,  which restrictions may lapse separately or
      in combination at such time or times, in installments or otherwise, as the
      Committee may deem appropriate.


<PAGE>

2.21  "Restriction  Period" means the period  commencing on the date an Award of
      Restricted Stock is granted and ending on such date as the Committee shall
      determine.

2.22  "Retirement" shall mean Early Retirement or Normal Retirement.

2.23  "Stock" means shares of the Common Stock of Cree Research, Inc., par value
      $.005 per share, as may be adjusted  pursuant to the provisions of Section
      3.9.

2.24  "Stock  Option"  means an Award  under  Article  IV or V of the Plan of an
      option to purchase  Stock. A Stock Option may be either an Incentive Stock
      Option or a Nonqualified Stock Option.

2.25  "Termination of Employment"  means the  discontinuance  of employment of a
      Participant with the Company for any reason.  The determination of whether
      a Participant has  discontinued  employment shall be made by the Committee
      in its discretion.  In determining whether a Termination of Employment has
      occurred,  the  Committee  may provide  that  service as a  consultant  or
      service with a business  enterprise in which the Company has a significant
      ownership  interest shall be treated as employment  with the Company.  The
      Committee  shall have the discretion,  exercisable  either at the time the
      Award is granted or at the time the Participant terminates employment,  to
      establish as a provision  applicable to the exercise of one or more Awards
      that during the limited period of exercisability  following Termination of
      Employment, the Award may be exercised not only with respect to the number
      of  shares  of  Stock  for  which  it is  exercisable  at the  time of the
      Termination of Employment but also with respect to one or more  subsequent
      installments  for which the Award  would have become  exercisable  had the
      Termination of Employment not occurred.


                         ARTICLE III - ADMINISTRATION

3.1   This Plan shall be  administered by the Committee.  The Committee,  in its
      discretion,  may delegate to one or more of its members such of its powers
      as it deems  appropriate.  The  Committee  also may limit the power of any
      member to the  extent  necessary  to comply  with any law.  Members of the
      Committee shall be appointed  originally,  and as vacancies  occur, by the
      Board,  to serve at the pleasure of the Board.  The Board may serve as the
      Committee,  if by the terms of the Plan all Board  members  are  otherwise
      eligible to serve on the Committee.

3.2   The  Committee  shall meet at such times and  places as it  determines.  A
      majority of its members shall  constitute a quorum,  and the decision of a
      majority  of those  present  at any  meeting  at which a quorum is present
      shall constitute the decision of the Committee. A memorandum signed by all
      of its members  shall  constitute  the decision of the  Committee  without
      necessity, in such event, for holding an actual meeting.

3.3   The Committee  shall have the exclusive  right to interpret,  construe and
      administer  the Plan, to select the persons who are eligible to receive an
      Award,  and to act in all matters  pertaining  to the granting of an Award
      and the contents of the Agreement evidencing the Award,  including without
      limitation,  the  determination of the number of Stock Options,  shares of
      Stock subject to an Award, and the form, terms, conditions and duration of
      each Award,  and any amendment  thereof  consistent with the provisions of
      the Plan. All acts,  determinations and decisions of the Committee made or


<PAGE>

      taken  pursuant to grants of  authority  under the Plan or with respect to
      any  questions   arising  in  connection  with  the   administration   and
      interpretation  of the Plan,  including the severability of any and all of
      the provisions  thereof,  shall be conclusive,  final and binding upon all
      Participants, Eligible Participants and their beneficiaries.

3.4   The Committee may adopt such rules,  regulations and procedures of general
      application for the administration of this Plan, as it deems appropriate.

3.5   The number of shares of Stock which are available for Award under the Plan
      shall be Two Million Five Hundred Forty Thousand (2,540,000) shares or any
      larger number of shares of Stock that, subsequent to the date this Plan is
      adopted,  may be  authorized  for issuance by the Company.  Such shares of
      Stock shall be made available from authorized and unissued shares. If, for
      any reason,  any shares of Stock awarded or subject to purchase  under the
      Plan are not delivered or purchased, or are reacquired by the Company, for
      reasons including, but not limited to, a forfeiture of Restricted Stock or
      termination,  expiration or cancellation  of a Stock Option,  or any other
      termination  of an Award without  payment being made in the form of Stock,
      whether or not Restricted Stock, such shares of Stock shall not be charged
      against the aggregate number of shares of Stock available for Awards under
      the Plan, and may again be available for Award under the Plan.

3.6   Each  Award  granted  under  the Plan  shall  be  evidenced  by a  written
      Agreement.  Each  Agreement  shall  be  subject  to  and  incorporate,  by
      reference or otherwise,  the applicable  terms and conditions of the Plan,
      and any other terms and conditions, not inconsistent with the Plan, as may
      be imposed by the Committee.

3.7   The Company shall not be required to issue or deliver any certificates for
      shares of Stock prior to:

     (a)  the  listing of such  shares on any stock  exchange on which the Stock
          may then be listed; and

     (b)  the completion of any  registration or qualification of such shares of
          Stock under any federal or state law, or any ruling or  regulation  of
          any  government  body  which the  Company  shall,  in its  discretion,
          determine to be necessary or advisable.

3.8   All  certificates  for shares of Stock delivered under the Plan shall also
      be subject to such  stop-transfer  orders  and other  restrictions  as the
      Committee  may deem  advisable  under the  rules,  regulations,  and other
      requirements of the Securities and Exchange Commission, any stock exchange
      upon which the Stock is then  listed and any  applicable  federal or state
      laws,  and the Committee may cause a legend or legends to be placed on any
      such certificates to make appropriate  reference to such restrictions.  In
      making  such  determination,  the  Committee  may rely upon an  opinion of
      counsel for the Company.

3.9   Subject to the  restrictions  on Restricted  Stock, as provided in Article
      VII of the Plan and in the Restricted  Stock  Agreement,  each Participant
      who receives an Award of Restricted  Stock shall have all of the rights of
      a shareholder with respect to such shares of Stock, including the right to
      vote the shares to the extent,  if any, such shares  possess voting rights


<PAGE>

      and  receive  dividends  and  other  distributions.   Except  as  provided
      otherwise in the Plan or in an Agreement,  no Participant  awarded a Stock
      Option shall have any right as a shareholder with respect to any shares of
      Stock  covered by his or her Stock Option prior to the date of issuance to
      him or her of a certificate or certificates for such shares of Stock.

3.10  If any reorganization, recapitalization, reclassification, stock split-up,
      stock  dividend,   or  consolidation   of  shares  of  Stock,   merger  or
      consolidation  of the Company or sale or other  disposition by the Company
      of all or a  portion  of its  assets,  any other  change in the  Company's
      corporate structure, or any distribution to shareholders other than a cash
      dividend  results in the  outstanding  shares of Stock,  or any securities
      exchanged  therefor or  received in their  place,  being  exchanged  for a
      different  number or class of shares of Stock or other  securities  of the
      Company,  or for  shares  of  Stock  or  other  securities  of  any  other
      corporation; or new, different or additional shares or other securities of
      the Company or of any other  corporation  being received by the holders of
      outstanding  shares of Stock, then equitable  adjustments shall be made by
      the Committee in:

      (a)   the  limitation on the aggregate  number of shares of Stock that may
            be awarded as set forth in Section 3.5 of the Plan;

      (b)   the number  and class of Stock that may be subject to an Award,  and
            which  have not been  issued  or  transferred  under an  outstanding
            Award;

      (c)   the purchase price to be paid per share of Stock  under  outstanding
            Stock Options; and

      (d)   the terms,  conditions or  restrictions  of any Award and Agreement,
            including the price payable for the acquisition of Stock;  provided,
            however, that all adjustments made as the result of the foregoing in
            respect of each  Incentive  Stock  Option shall be made so that such
            Stock Option  shall  continue to be an Incentive  Stock  Option,  as
            defined in Section 422 of the Code.

3.11  In addition to such other  rights of  indemnification  as they may have as
      directors  or as members of the  Committee,  the members of the  Committee
      shall be indemnified by the Company against reasonable expenses, including
      attorney's fees, actually and necessarily  incurred in connection with the
      defense of any  action,  suit or  proceeding,  or in  connection  with any
      appeal  therein,  to which they or any of them may be a party by reason of
      any action taken or failure to act under or in connection with the Plan or
      any Award  granted  thereunder,  and against  all amounts  paid by them in
      settlement  thereof,  provided such  settlement is approved by independent
      legal counsel selected by the Company,  or paid by them in satisfaction of
      a judgment or settlement in any such action, suit or proceeding, except as
      to matters as to which the Committee  member has been negligent or engaged
      in misconduct in the performance of his duties;  provided,  that within 60
      days after institution of any such action, suit or proceeding, a Committee
      member  shall in writing  offer the  Company the  opportunity,  at its own
      expense, to handle and defend the same.

3.12  The Committee may require each person  purchasing shares of Stock pursuant
      to a Stock  Option or other Award under the Plan to represent to and agree
      with the  Company  in  writing  that he is  acquiring  the shares of Stock
      without a view to  distribution  thereof and/or that he has met such other
      requirements  as the  Committee  determines  may  be  applicable  to  such


<PAGE>

      purchase. The certificates for such shares of Stock may include any legend
      which the  Committee  deems  appropriate  to reflect any  restrictions  on
      transfer.

3.13  The Committee shall be authorized to make adjustments in performance based
      criteria or in the terms and  conditions of other Awards in recognition of
      unusual or  nonrecurring  events  affecting  the Company or its  financial
      statements  or changes  in  applicable  laws,  regulations  or  accounting
      principles.  The Committee may correct any defect,  supply any omission or
      reconcile any inconsistency in the Plan or any Agreement in the manner and
      to the  extent it shall deem  desirable  to carry it into  effect.  In the
      event the Company shall assume outstanding  employee benefit awards or the
      right or  obligation  to make future such  awards in  connection  with the
      acquisition of another  corporation or business entity, the Committee may,
      in its discretion,  make such adjustments in the terms of Awards under the
      Plan as it shall deem appropriate.

3.14  The Committee shall have full power and authority to determine whether, to
      what extent and under what  circumstances,  any Award shall be canceled or
      suspended if (a) the  Participant,  without the consent of the  Committee,
      while  employed by the Company or after  termination  of such  employment,
      becomes  associated  with,  employed by, renders  services to, or owns any
      interest in, other than any insubstantial  interest,  as determined by the
      Committee,  any  business  that is in  competition  with  the  Company  as
      determined by the Committee in its  discretion;  or (b) is terminated  for
      cause as determined by the Committee in its discretion.


                     ARTICLE IV - INCENTIVE STOCK OPTIONS

4.1   Each  provision  of this  Article IV and of each  Incentive  Stock  Option
      granted  hereunder shall be construed in accordance with the provisions of
      Section  422 of the  Code,  and any  provision  hereof  that  cannot be so
      construed shall be disregarded.

4.2   Incentive Stock Options shall be granted only to Eligible Participants who
      are in the active  employment of the Company,  each of whom may be granted
      one or more such  Incentive  Stock  Options  for a reason  related  to his
      employment at such time or times determined by the Committee following the
      Effective  Date  through  the date which is ten (10) years  following  the
      Effective Date, subject to the following conditions:

     (a)  The  Incentive  Stock  Option price per share of Stock shall be set in
          the  Agreement,  but shall  not be less  than 100% of the Fair  Market
          Value  of the  Stock  on  the  Option  Grant  Date.  If  the  Eligible
          Participant owns more than 10% of the outstanding Stock (as determined
          pursuant to Section  424(d) of the Code) on the Option Grant Date, the
          Incentive  Stock Option price per share shall not be less than 110% of
          the Fair Market Value of the Stock on the Option Grant Date.

     (b)  Subject to any  conditions on exercise set forth in the  corresponding
          Agreement,  the Incentive Stock Option may be exercised in whole or in
          part from time to time  within ten (10)  years  from the Option  Grant
          Date (five (5) years if the Eligible Participant owns more than 10% of
          the Stock on the Option Grant Date),  or such shorter period as may be
          specified by the Committee in the Award; provided,  that in any event,
          the  Incentive  Stock Option  shall lapse and cease to be  exercisable
          upon a Termination  of  Employment  or within such period  following a


<PAGE>

          Termination  of  Employment  as  shall  have  been  specified  in  the
          Incentive Stock Option Agreement,  which period shall not exceed three
          months unless:

            (i)   employment  shall  have  terminated  as a  result  of death or
                  Disability,  in which event such  period  shall not exceed one
                  year after the date of death or Disability; or

            (ii)  death  shall  have  occurred   following  a   Termination   of
                  Employment  and while the  Incentive  Stock  Option  was still
                  exercisable,  in which event such period  shall not exceed one
                  year after the date of death;

            provided,  further,  that such  period  following a  Termination  of
            Employment shall in no event extend the original  exercise period of
            the Incentive Stock Option.

     (c)  To the extent the aggregate  Fair Market  Value,  determined as of the
          Option  Grant  Date,  of the  shares of Stock  with  respect  to which
          Incentive Stock Options (determined without regard to this subsection)
          are  first  exercisable  during  any  calendar  year  by any  Eligible
          Participant  exceeds  $100,000,  such  options  shall  be  treated  as
          Nonqualified Stock Options granted under Article V.

     (d)  The  Committee  may  adopt any other  terms  and  conditions  which it
          determines should be imposed for the Incentive Stock Option to qualify
          under  Section  422 of the  Code,  as  well  as any  other  terms  and
          conditions not inconsistent  with this Article IV as determined by the
          Committee. If, for any reason, an Incentive Stock Option fails to meet
          the  requirements  of  Section  422  of the  Code,  the  Option  shall
          automatically  be deemed a  Nonqualified  Stock Option  granted  under
          Article V herein.

     (e)  The  maximum  number of shares of Stock  subject  to  Incentive  Stock
          Option Awards hereunder shall be the total number of shares authorized
          for issuance under the Plan pursuant to Section 3.5.

4.3   The  Committee  may at any time  offer to buy out for a  payment  in cash,
      Stock or Restricted  Stock an Incentive Stock Option  previously  granted,
      based on such terms and  conditions as the Committee  shall  establish and
      communicate to the Participant at the time that such offer is made.

4.4   If the  Incentive  Stock Option  Agreement so provides,  the Committee may
      require  that all or part of the  shares  of Stock to be  issued  upon the
      exercise of an Incentive  Stock  Option shall take the form of  Restricted
      Stock, which shall be valued on the date of exercise, as determined by the
      Committee,  on the basis of the Fair Market Value of such Restricted Stock
      determined  without regard to the deferral  limitations  and/or forfeiture
      restrictions involved.


<PAGE>

                    ARTICLE V - NONQUALIFIED STOCK OPTIONS

5.1   One or more Stock Options may be granted as Nonqualified  Stock Options to
      Eligible  Participants  to purchase  shares of Stock at such time or times
      determined by the Committee,  following the Effective Date, subject to the
      terms and conditions set forth in this Article V.

5.2   The Nonqualified Stock Option price per share of Stock shall be
      established in the Agreement and may be less than or greater than 100%
      of the Fair Market Value at the time of the grant.

5.3   The  Nonqualified  Stock  Option may be  exercised in full or in part from
      time to time within such period as may be specified by the Committee or in
      the Agreement; provided, that, in any event, the Nonqualified Stock Option
      shall lapse and cease to be  exercisable  upon a Termination of Employment
      or within such period  following a Termination of Employment as shall have
      been specified in the Nonqualified  Stock Option  Agreement,  which period
      shall not exceed three months unless:

      (i)   employment shall have terminated as a result of death or Disability,
            in which event such period  shall not exceed one year after the date
            of death or Disability; or

      (ii)  death shall have occurred  following a Termination of Employment and
            while the Nonqualified Stock Option was still exercisable,  in which
            event such period shall not exceed one year after the date of death;

      provided,  further, that such period following a Termination of Employment
      shall in no event extend the original  exercise period of the Nonqualified
      Stock Option.

5.4   The  Nonqualified  Stock Option  Agreement may include any other terms and
      conditions  not  inconsistent  with this  Article V or in  Article  VI, as
      determined by the Committee.


                   ARTICLE VI - INCIDENTS OF STOCK OPTIONS

6.1   Each Stock Option shall be granted  subject to such terms and  conditions,
      if any, not  inconsistent  with this Plan,  as shall be  determined by the
      Committee,   including  any  provisions  as  to  continued  employment  as
      consideration  for the grant or  exercise  of such  Stock  Option  and any
      provisions  which  may  be  advisable  to  comply  with  applicable  laws,
      regulations or rulings of any governmental authority.

6.2   Except as provided  below, a Stock Option shall be exercisable  during the
      lifetime  of  the  Participant  only  by  him or  his  guardian  or  legal
      representative and shall not be transferable by the Participant other than
      (i) by will or by the laws of  descent  and  distribution,  or (ii) to the
      extent  otherwise  allowed by  applicable  law,  pursuant  to a  qualified
      domestic  relations  order  as  defined  by  the  Code  and  the  Employee
      Retirement  Income  Security  Act  of  1974,  as  amended,  or  the  rules
      thereunder.  However,  the Committee may, in its sole  discretion,  either
      pursuant to an Agreement or otherwise,  permit a Participant to transfer a
      Nonqualified  Stock  Option  by gift or other  donative  transfer  without
      payment of consideration,  conditioned upon and subject to compliance with
      all applicable law (including, but not limited to, securities law).


<PAGE>

6.3   Shares of Stock  purchased  upon  exercise of a Stock Option shall be paid
      for in such  amounts,  at such  times  and  upon  such  terms  as shall be
      determined by the Committee, subject to limitations set forth in the Stock
      Option  Agreement.  Without  limiting the  foregoing,  the  Committee  may
      establish payment terms for the exercise of Stock Options which permit the
      Participant to deliver shares of Stock,  or other evidence of ownership of
      Stock  satisfactory to the Company,  with a Fair Market Value equal to the
      Stock Option price as payment.

6.4   No cash dividends  shall be paid on shares of Stock subject to unexercised
      Stock Options. The Committee may provide,  however,  that a Participant to
      whom a Stock Option has been granted which is  exercisable  in whole or in
      part at a future  time for shares of Stock shall be entitled to receive an
      amount per share equal in value to the cash  dividends,  if any,  paid per
      share on issued and  outstanding  Stock,  as of the dividend  record dates
      occurring  during  the period  between  the date of the grant and the time
      each such share of Stock is  delivered  pursuant to exercise of such Stock
      Option.  Such amounts (herein called "dividend  equivalents")  may, in the
      discretion of the Committee, be:

      (a)   paid in cash or Stock  either  from time to time prior to, or at the
            time of the delivery of, such Stock, or upon expiration of the Stock
            Option if it shall not have been fully exercised; or

      (b)   converted into  contingently  credited shares of Stock, with respect
            to which dividend  equivalents may accrue,  in such manner,  at such
            value,  and  deliverable at such time or times, as may be determined
            by the Committee.

      Such Stock, whether delivered or contingently  credited,  shall be charged
      against the limitations set forth in Section 3.5.

6.5   The Committee,  in its sole discretion,  may authorize payment of interest
      equivalents on dividend  equivalents which are payable in cash at a future
      time.

6.6   In the event of Disability or death,  the  Committee,  with the consent of
      the Participant or his legal  representative,  may authorize  payment,  in
      cash or in Stock,  or partly in cash and partly in Stock, as the Committee
      may direct,  of an amount equal to the  difference at the time between the
      Fair Market  Value of the Stock  subject to a Stock  Option and the option
      price in consideration of the surrender of the Stock Option.

6.7   If a Participant  is required to pay to the Company an amount with respect
      to income and employment tax  withholding  obligations in connection  with
      exercise of a  Nonqualified  Stock Option,  and/or with respect to certain
      dispositions  of Stock  acquired  upon the exercise of an Incentive  Stock
      Option,  the Committee,  in its discretion and subject to such rules as it
      may adopt, may permit the Participant to satisfy the obligation,  in whole
      or in part, by making an irrevocable  election that a portion of the total
      Fair Market Value of the shares of Stock subject to the Nonqualified Stock
      Option and/or with respect to certain  dispositions of Stock acquired upon
      the exercise of an Incentive Stock Option,  be paid in the form of cash in
      lieu of the issuance of Stock and that such cash payment be applied to the
      satisfaction  of the  withholding  obligations.  The amount to be withheld
      shall not  exceed  the  statutory  minimum  federal  and state  income and
      employment   tax  liability   arising  from  the  Stock  Option   exercise
      transaction.


<PAGE>

6.8   The Committee  may permit the  voluntary  surrender of all or a portion of
      any  Stock  Option  granted  under  the  Plan to be  conditioned  upon the
      granting  to the  Participant  of a new  Stock  Option  for the  same or a
      different  number of shares of Stock as the Stock Option  surrendered,  or
      may require such  surrender  as a condition  precedent to a grant of a new
      Stock Option to such  Participant.  Subject to the provisions of the Plan,
      such new Stock Option shall be exercisable at the such price,  during such
      period and on such other  terms and  conditions  as are  specified  by the
      Committee at the time the new Stock Option is granted. Upon surrender, the
      Stock  Options  surrendered  shall be  canceled  and the  shares  of Stock
      previously subject to them shall be available for the grant of other Stock
      Options.


                        ARTICLE VII - RESTRICTED STOCK

7.1   Restricted  Stock  Awards  may  be  made  to  certain  Participants  as an
      incentive for the  performance  of future  services  that will  contribute
      materially  to  the  successful  operation  of  the  Company.   Awards  of
      Restricted  Stock may be made  either  alone,  in addition to or in tandem
      with other Awards granted under the Plan and/or cash payments made outside
      of the Plan.

7.2   With respect to Awards of Restricted Stock, the Committee shall:

      (a)   determine the purchase price, if any, to be paid for such Restricted
            Stock, which may be equal to or less than par value and may be zero,
            subject  to  such  minimum  consideration  as  may  be  required  by
            applicable law;

      (b)   determine the length of the Restriction Period;

      (c)   determine any  restrictions  applicable to the Restricted Stock such
            as  service  or  performance,  other  than  those  set forth in this
            Article VII;

      (d)   determine  if the  restrictions  shall  lapse  as to all  shares  of
            Restricted  Stock at the end of the  Restriction  Period  or as to a
            portion of the shares of Restricted Stock in installments during the
            Restriction Period; and

      (e)   determine if dividends  and other  distributions  on the  Restricted
            Stock are to be paid  currently  to the  Participant  or paid to the
            Company for the account of the Participant.

7.3   Awards of Restricted Stock must be accepted within a period of 60 days, or
      such  shorter  period  as  the  Committee  may  specify,  by  executing  a
      Restricted Stock Agreement and paying whatever price, if any, is required.
      The prospective  recipient of a Restricted  Stock Award shall not have any
      rights with respect to such Award,  unless such  recipient  has executed a
      Restricted Stock Agreement and has delivered a fully executed copy thereof
      to the Committee, and has otherwise complied with the applicable terms and
      conditions of such Award.

7.4   Except when the Committee determines  otherwise,  or as otherwise provided
      in the Restricted Stock Agreement,  if a Participant terminates employment
      with the Company for any reason before the  expiration of the  Restriction


<PAGE>

      Period,  all shares of Restricted Stock still subject to restriction shall
      be forfeited by the Participant and shall be reacquired by the Company.

7.5   Except as otherwise  provided in this Article VII or in the  corresponding
      Agreement,  no shares of Restricted Stock received by a Participant  shall
      be  sold,  exchanged,  transferred,  pledged,  hypothecated  or  otherwise
      disposed of during the Restriction Period.

7.6   To the extent not otherwise  provided in a Restricted Stock Agreement,  in
      cases  of  death,   Disability  or  Retirement  or  in  cases  of  special
      circumstances,  the  committee,  if  it  finds  that  a  waiver  would  be
      appropriate,  may elect to waive any or all  remaining  restrictions  with
      respect to such Participant's Restricted Stock.

7.7   In the event of hardship or other special  circumstances  of a Participant
      whose  employment  with  the  Company  is  involuntarily  terminated,  the
      Committee may waive in whole or in part any or all remaining  restrictions
      with respect to any or all of the Participant's Restricted Stock, based on
      such factors and criteria as the Committee may deem appropriate.

7.8   The certificates representing shares of Restricted Stock may either:

      (a)   be held in  custody  by the  Company  until the  Restriction  Period
            expires  or until  restrictions  thereon  otherwise  lapse,  and the
            Participant  shall deliver to the Company a stock power  endorsed in
            blank relating to the Restricted Stock; and/or

      (b)   be  issued  to the  Participant  and  registered  in the name of the
            Participant,  and shall bear an appropriate  restrictive  legend and
            shall be subject to appropriate stop-transfer orders.

7.9   Except  as  provided  in this  Article  VII,  a  Participant  receiving  a
      Restricted  Stock  Award  shall  have,  with  respect  to  the  shares  of
      Restricted  Stock covered by any Award, all of the rights of a shareholder
      of the Company,  including the right to vote the shares to the extent,  if
      any,  such  shares  possess  voting  rights and the right to  receive  any
      dividends; provided, however, the Committee may require that any dividends
      on such shares of  Restricted  Stock shall be  automatically  deferred and
      reinvested in additional Restricted Stock subject to the same restrictions
      as  the  underlying  Award,  or  may  require  that  dividends  and  other
      distributions  on  Restricted  Stock  shall be paid to the Company for the
      account of the Participant. The Committee shall determine whether interest
      shall be paid on such  amounts,  the rate of any  such  interest,  and the
      other terms applicable to such amounts.

7.10  If and when the Restriction  Period expires without a prior  forfeiture of
      the  Restricted  Stock subject to such  Restriction  Period,  unrestricted
      certificates  for such  shares  shall  be  delivered  to the  Participant;
      provided,  however, that the Committee may cause such legend or legends to
      be  placed on any such  certificates  as it may deem  advisable  under the
      rules,  regulations and other  requirements of the Securities and Exchange
      Commission and any applicable federal or state law.

7.11  In order to  better  ensure  that  Award  payments  actually  reflect  the
      performance  of the  Company  and  the  service  of the  Participant,  the
      Committee   may   provide,   in  its   sole   discretion,   for  a  tandem
      performance-based  or other Award  designed to guarantee a minimum  value,


<PAGE>

      payable in cash or Stock to the  recipient  of a  Restricted  Stock Award,
      subject to such performance,  future service, deferral and other terms and
      conditions as may be specified by the Committee.


                   ARTICLE VIII - OTHER STOCK-BASED AWARDS

8.1   Other awards that are valued in whole or in part by  reference  to, or are
      otherwise based on, Stock ("Other Stock-Based Awards"),  including without
      limitation,   convertible   preferred   stock,   convertible   debentures,
      exchangeable securities,  phantom stock and Stock awards or options valued
      by reference to book value or performance,  may be granted either alone or
      in addition to or in tandem with Stock Options or Restricted Stock granted
      under the Plan and/or cash awards made outside of the Plan.

      Subject to the provisions of the Plan, the Committee  shall have authority
      to determine  the Eligible  Participants  to whom and the time or times at
      which such Awards shall be made,  the number of shares of Stock subject to
      such Awards,  and all other  conditions of the Awards.  The Committee also
      may  provide  for the grant of shares of Stock  upon the  completion  of a
      specified Performance Period.

      The  provisions  of Other  Stock-Based  Awards  need not be the same  with
      respect to each recipient.

8.2   Other  Stock-Based  Awards  made  pursuant to this  Article  VIII shall be
      subject to the following terms and conditions:

     (a)  Subject to the  provisions of this Plan and the  Agreement,  shares of
          Stock  subject to Awards made under this Article VIII may not be sold,
          assigned,  transferred,  pledged or otherwise  encumbered prior to the
          date on which the shares are issued,  or, if later,  the date on which
          any applicable restriction, performance or deferral period lapses.

     (b)  Subject to the  provisions  of this Plan and the  Agreement and unless
          otherwise  determined by the  Committee at the time of the Award,  the
          recipient  of an Award  under this  Article  VIII shall be entitled to
          receive,  currently or on a deferred  basis,  interest or dividends or
          interest or dividend  equivalents with respect to the number of shares
          covered by the Award,  as  determined  at the time of the Award by the
          Committee, in its sole discretion,  and the Committee may provide that
          such  amounts,  if any,  shall be deemed to have  been  reinvested  in
          additional Stock or otherwise reinvested.

     (c)  Any Award under this  Article  VIII and any Stock  covered by any such
          Award  shall vest or be  forfeited  to the extent so  provided  in the
          Agreement, as determined by the Committee, in its sole discretion.

     (d)  Upon the Participant's Retirement, Disability or death, or in cases of
          special  circumstances,  the  Committee  may, in its sole  discretion,
          waive  in whole  or in part  any or all of the  remaining  limitations
          imposed  hereunder,  if any,  with  respect  to any or all of an Award
          under this Article VIII.


<PAGE>

     (e)  Each Award under this Article VIII shall be confirmed  by, and subject
          to the terms of, an Agreement.

     (f)  Stock, including securities convertible into Stock, issued on a
            bonus  basis  under  this  Article  VIII may be  issued  for no cash
            consideration.

8.3   Other  Stock-Based  Awards may  include a phantom  stock  Award,  which is
      subject to the following terms and conditions:

     (a)  The Committee shall select the Eligible  Participants  who may receive
          phantom  stock  Awards.  The Eligible  Participant  shall be awarded a
          phantom stock unit, which shall be the equivalent to a share of Stock.

     (b)  Under an Award of phantom stock, payment shall be made on the dates or
          dates as specified by the  Committee or as stated in the Agreement and
          phantom  stock  Awards  may  be  settled  in  cash,   Stock,  or  some
          combination  thereof  as  determined  by the  Committee  in  its  sole
          discretion.

     (c)  The Committee  shall determine such other terms and conditions of each
          Award as it deems necessary in its sole discretion.


                        ARTICLE IX - CHANGE IN CONTROL

9.1   A "Change in Control"  shall be deemed to have occurred upon the happening
      of any of the following events:

     (a)  Any  "Person"  as defined in Section  3(a)(9) of the Act,  including a
          "group" (as that term is used in Sections 13(d)(3) and 14(d)(2) of the
          Act),  but  excluding  the  Company (as defined in Section 2.8 of this
          Plan) and any employee  benefit plan  sponsored or  maintained  by the
          Company  (including  any trustee of such plan acting as trustee),  who
          together with its  "affiliates"  and  "associates" (as those terms are
          defined in Rule 12b-2 under the Act)  becomes the  "Beneficial  Owner"
          (within the meaning of Rule 13d-3 under the Act) of 20% or more of the
          then-outstanding  shares of Stock or the combined  voting power of the
          then-outstanding  securities of the Company entitled to vote generally
          in the  election of its  directors.  For purposes of  calculating  the
          number  of  shares  or  voting  power  held  by  such  Person  and its
          affiliates and associates  under this Section  9.1(a),  there shall be
          excluded any  securities  acquired by such Person or its affiliates or
          associates directly from the Company.

     (b)  A  sale  or  other  disposition  of all  or  substantially  all of the
          Company's assets is consummated, other than such a sale or disposition
          that would not have  constituted a Change of Control under  subsection
          (d) below had it been structured as a merger or consolidation.

     (c)  The shareholders of the Company approve a definitive agreement or plan
          to liquidate the Company.


<PAGE>

     (d)  A merger or  consolidation of the Company with and into another entity
          is consummated, unless immediately following such transaction (1) more
          than 50% of the members of the governing body of the surviving  entity
          were  Incumbent  Directors (as defined in subsection (e) below) at the
          time  of  execution  of  the  initial  agreement  providing  for  such
          transaction,  (2) no "Person"  (as defined in Section  9.1(a)  above),
          together with its "affiliates" and "associates" (as defined in Section
          9.1(a) above), is the "Beneficial Owner" (as defined in Section 9.1(a)
          above), directly or indirectly, of 20% or more of the then-outstanding
          equity  interests of the surviving entity or the combined voting power
          of the  then-outstanding  equity  interests  of the  surviving  entity
          entitled to vote generally in the election of members of its governing
          body, and (3) more than 50% of the  then-outstanding  equity interests
          of  the  surviving  entity  and  the  combined  voting  power  of  the
          then-outstanding  equity interests of the surviving entity entitled to
          vote  generally  in the election of members of its  governing  body is
          "Beneficially Owned", directly or indirectly,  by all or substantially
          all of the individuals  and entities who were the "Beneficial  Owners"
          of the  shares  of  Stock  immediately  prior to such  transaction  in
          substantially  the same  proportions  as their  ownership  immediately
          prior to such transaction.

     (e)  During any period of 24 consecutive months during the existence of the
          Plan, the individuals who, at the beginning of such period, constitute
          the Board (the "Incumbent  Directors") cease for any reason other than
          death to constitute at least a majority  thereof;  provided,  however,
          that a director  who was not a director  at the  beginning  of such 24
          month  period  shall  be  deemed  to  have  satisfied  such  24  month
          requirement,  and be an  Incumbent  Director,  if  such  director  was
          elected by, or on the  recommendation  of or with the  approval of, at
          least  two-thirds  of the  directors  who then  qualified as Incumbent
          Directors  either  actually,   because  they  were  directors  at  the
          beginning  of such 24  month  period,  or by prior  operation  of this
          Section  9.1(e),  but excluding  for this purpose any such  individual
          whose initial  assumption of office is in connection with an actual or
          threatened  election  context subject to Rule 14a-11 of Regulation 14A
          promulgated  under the Act or other actual or threatened  solicitation
          of proxies or  consents  by or on behalf of a "Person"  (as defined in
          Section 9.1(a) above) other than the Board.

9.2   In the event of a Change in Control: (a) any or all then outstanding Stock
      Options  having an Option Grant Date on or before January 31, 1999, to the
      extent not previously  fully vested and exercisable,  shall  automatically
      become fully vested and,  except to the extent such Options are cashed out
      pursuant to Section 9.4 below,  exercisable effective immediately prior to
      the Change in Control;  and (b) outstanding Stock Options having an Option
      Grant Date after January 31, 1999 shall vest and become  exercisable  only
      to  the  extent  and in  such  manner  as is  provided  in the  applicable
      Agreement evidencing the Stock Option.

9.3   In the event of a Change in Control, the restrictions applicable to Awards
      of Restricted Stock or Other Stock-Based Awards shall  automatically lapse
      effective  immediately  prior to the  Change in  Control,  in which  case,
      subject to the  requirements  of applicable  law, the Company shall remove
      all  restrictive  legends  and  stop-transfer  orders  applicable  to  the
      certificates for such shares of Stock and deliver such certificates to the
      Participants in whose names they are registered.


<PAGE>

9.4   Upon the occurrence of a Change in Control,  the Committee may in its sole
      discretion and consistent  with the  requirements of applicable law decide
      to cash-out the value of all outstanding  Stock Options,  Restricted Stock
      and Other  Stock-Based  Awards, in each case to the extent vested pursuant
      to Sections 9.2 and/or 9.3 above or otherwise, on the basis of the "Change
      in Control  Price" (as  defined in Section  9.5) less the  exercise  price
      under  such  Award  (if any) as of the date  such  Change  in  Control  is
      determined  to have  occurred  or such  other  date prior to the Change in
      Control as the Committee may determine.

9.5   For purposes of Section 9.4,  "Change in Control  Price" means the highest
      price per share of Stock paid in any transaction  reported on the exchange
      on which the Stock is then traded or on the NASDAQ  National Market System
      or the  NASDAQ  Small-Cap  Market  System,  as the case may be, or paid or
      offered in any bona fide  transaction  related to a Change in Control,  at
      any time during the 120 day period immediately preceding the occurrence of
      the Change in Control, as determined by the Committee.

9.6   The Committee is authorized to take such actions that are not inconsistent
      with Sections  9.2, 9.3, 9.4 and 9.5 above as the Committee  determines to
      be necessary or advisable,  and fair and equitable to  Participants,  with
      respect to an Award in the event of a Change in  Control.  Such action may
      include,  but shall not be limited to,  establishing,  amending or waiving
      the forms,  terms,  conditions and duration of an Award and the Agreement,
      so as to provide for  earlier,  later,  extended or  additional  times for
      exercise  or  payment,  differing  methods for  calculating  payments  and
      alternate  forms and  amounts  of  payment.  The  Committee  may take such
      actions  pursuant to this Section 9.6 by adopting rules and regulations of
      general  applicability  to all  Participants  or to certain  categories of
      Participants, by including, amending or waiving terms and conditions in an
      Award and the  Agreement,  or by taking  action with respect to individual
      Participants.


                    ARTICLE X - AMENDMENT AND TERMINATION

10.1  The Board, upon recommendation of the Committee, or otherwise, at any time
      and from time to time,  may amend or  terminate  the Plan.  To the  extent
      required  by Code  Section  422,  no  amendment,  without  approval by the
      Company's shareholders, shall:

     (a)  alter the group of persons eligible to participate in the Plan;

     (b)  except as  provided in Section  3.5,  increase  the maximum  number of
          shares of Stock or Stock  Options which are available for Awards under
          the Plan;

     (c)  extend the period  during which  Incentive  Stock Option Awards may be
          granted  beyond  the  date  which  is ten  (10)  years  following  the
          Effective Date.

     (d)  limit or  restrict  the powers of the  Committee  with  respect to the
          administration of this Plan;

     (e)  change the definition of an Eligible Participant for the purpose of an
          Incentive Stock Option or increase the limit or the value of shares of
          Stock for which an Eligible  Participant  may be granted an  Incentive
          Stock Option;


<PAGE>

     (f)  materially  increase the benefits accruing to Participants  under this
          Plan;

     (g)  materially modify the requirements as to eligibility for participation
          in this Plan; or

     (h)  change any of the provisions of this Article X.

10.2  No amendment to or discontinuance of this Plan or any provision thereof by
      the Board or the  shareholders  of the Company shall,  without the written
      consent of the Participant,  adversely  affect,  as shall be determined by
      the Committee, any Award previously granted to such Participant under this
      Plan; provided, however, the Committee retains the right and power to:

     (a)  annul  any  Award  if the  Participant  is  terminated  for  cause  as
          determined by the Committee;

     (b)  provide for the  forfeiture  of shares of Stock or other gain under an
          Award  as  determined  by the  Committee  for  competing  against  the
          Company; and

     (c)  convert any outstanding Incentive Stock Option to a Nonqualified Stock
          Option.

10.3  If a Change in Control has  occurred,  no amendment or  termination  shall
      impair the rights of any person with  respect to an  outstanding  Award as
      provided in Article IX.


                    ARTICLE XI - MISCELLANEOUS PROVISIONS

11.1  Nothing in the Plan or any Award granted  hereunder  shall confer upon any
      Participant  any right to  continue  in the employ of the  Company,  or to
      serve as a director thereof, or interfere in any way with the right of the
      Company  to  terminate  his  or  her   employment  at  any  time.   Unless
      specifically provided otherwise,  no Award granted under the Plan shall be
      deemed salary or compensation for the purpose of computing  benefits under
      any  employee  benefit  plan or other  arrangement  of the Company for the
      benefit of its employees unless the Company shall determine otherwise.  No
      Participant  shall have any claim to an Award until it is actually granted
      under the Plan. To the extent that any person  acquires a right to receive
      payments  from the Company  under the Plan,  such right  shall,  except as
      otherwise  provided by the  Committee,  be no greater than the right of an
      unsecured  general  creditor  of the  Company.  All  payments  to be  made
      hereunder  shall be paid from the  general  funds of the  company,  and no
      special or separate fund shall be established and no segregation of assets
      shall be made to assure  payment of such  amounts,  except as  provided in
      Article  VII with  respect to  Restricted  Stock and  except as  otherwise
      provided by the Committee.

11.2  The  Company may make such  provisions  and take such steps as it may deem
      necessary  or  appropriate  for the  withholding  of any  taxes  which the
      Company  is  required  by  any  law  or  regulation  of  any  governmental
      authority,  whether  federal,  state or local,  domestic  or  foreign,  to
      withhold in connection with any Stock Option or the exercise  thereof,  or
      in connection  with any other type of equity-based  compensation  provided
      hereunder  or the  exercise  thereof,  including,  but not limited to, the
      withholding  of  payment  of all or any  portion  of such Award or another
      Award under this Plan until the Participant reimburses the Company for the


<PAGE>

      amount the Company is required to withhold with respect to such taxes,  or
      canceling any portion of such Award or another Award under this Plan in an
      amount  sufficient to reimburse itself for the amount it is required to so
      withhold, or selling any property contingently credited by the Company for
      the  purpose of paying  such Award or another  Award  under this Plan,  in
      order to withhold or reimburse  itself for the amount it is required to so
      withhold.

11.3  The Plan and the  grant of  Awards  shall  be  subject  to all  applicable
      federal and state laws,  rules,  and  regulations and to such approvals by
      any United States government or regulatory agency as may be required.

11.4  The  terms  of the  Plan  shall  be  binding  upon  the  Company,  and its
      successors and assigns.

11.5  Neither a Stock Option,  nor any other type of  equity-based  compensation
      provided  for  hereunder,  shall be  transferable  except as provided  for
      herein.  Unless  otherwise  provided by the  Committee or in an Agreement,
      transfer  restrictions  shall only  apply to  Incentive  Stock  Options as
      required in Article IV and to the extent otherwise  required by federal or
      state  securities  laws.  If any  Participant  makes  such a  transfer  in
      violation hereof, any obligation of the Company shall forthwith terminate.

11.6  This Plan and all actions taken hereunder shall be governed by the laws of
      the State of North Carolina.

11.7  The Plan is intended to constitute  an  "unfunded"  plan for incentive and
      deferred  compensation.  With  respect to any  payments  not yet made to a
      Participant by the Company,  nothing  contained herein shall give any such
      Participant  any rights that are greater than those of a general  creditor
      of the Company.  In its sole  discretion,  the Committee may authorize the
      creation of trusts or other  arrangements to meet the obligations  created
      under the Plan to deliver  shares of Stock or  payments in lieu of or with
      respect to Awards hereunder; provided, however, that, unless the Committee
      otherwise  determines  with the consent of the affected  Participant,  the
      existence  of such trusts or other  arrangements  is  consistent  with the
      "unfunded" status of the Plan.

11.8  Each  Participant  exercising  an  Award  hereunder  agrees  to  give  the
      Committee  prompt written notice of any election made by such  Participant
      under Section 83(b) of the Code, or any similar provision thereof.

11.9  If any  provision  of this Plan or an Agreement is or becomes or is deemed
      invalid, illegal or unenforceable in any jurisdiction, or would disqualify
      the  Plan  or  any  Agreement  under  any  law  deemed  applicable  by the
      Committee,  such provision shall be construed or deemed amended to conform
      to applicable laws or if it cannot be construed or deemed amended without,
      in the determination of the Committee,  materially  altering the intent of
      the Plan or the  Agreement,  it shall be stricken and the remainder of the
      Plan or the Agreement shall remain in full force and effect.




                                                                   EXHIBIT 10.16


[*]  --Certain  information  omitted and filed  separately  with the  Commission
pursuant to a confidential treatment request under Commission Rule 24b-2.

                               FOURTH AMENDMENT
                            TO PURCHASE AGREEMENT

FOURTH AMENDMENT (this  "Amendment"),  dated and effective as of the 16th day of
December, 1998 (the "Effective Date"), to the PURCHASE AGREEMENT dated September
6, 1996 , as amended by the FIRST  AMENDMENT  dated April 22,  1997,  as further
amended by the SECOND  AMENDMENT  dated December 9, 1997, and as further amended
by the THIRD AMENDMENT  dated September 8, 1998 (as thus amended,  the "Purchase
Agreement"  or  "Agreement"),   between  CREE  RESEARCH,   INC.  ("Seller"),   a
corporation organized under the laws of the State of North Carolina,  the United
States of America, and SIEMENS AKTIENGESELLSCHAFT  ("Purchaser"),  a corporation
organized  under the laws of the Federal  Republic  of Germany.  As used in this
Amendment,  capitalized  terms  not  defined  herein  which are  defined  in the
Purchase Agreement shall have the meaning defined in the Purchase Agreement.

In  consideration  of the mutual  provisions  below the parties  hereby agree as
follows:

1.   In Second  Amended  Schedule  1  annexed  to the  Third  Amendment  to this
     Agreement,  the first sentence of Paragraph
 A(1) is amended to increase the
     number of GaN LEDs to be  purchased  during the year  ending  June 27, 1999
     from  ************  die to ***********  die. In addition,  the following is
     added at the end of such Paragraph A(1): "Purchaser will also purchase from
     Seller, during the period commencing June 28, 1999 and ending September 26,
     1999, an additional *********** GaN LED die."

2.   In Second  Amended  Schedule  1  annexed  to the  Third  Amendment  to this
     Agreement,  the  shipment  schedule  for GaN LED die in  Paragraph  B(1) is
     revised as follows  (with no change  being  made to the  shipment  schedule
     given in such paragraph for other Products):


      -------------------------------------------------------------------------
                                   Quarterly (13-Week) Period Ending
                         ------------------------------------------------------
           Product*       9/27/98   12/27/98   3/29/99    6/27/99    9/26/99
      =========================================================================
      GaN LED die (in K)  ****** **  ******     ******     ******     ******
      -------------------------------------------------------------------------
      *  As described in Third Amended Schedule 3.
      **  ******  was included in June 1998 shipments.

3.   In Second  Amended  Schedule  2  annexed  to the  Third  Amendment  to this
     Agreement,  the  price  schedule  for GaN LEDs in the  Paragraph  (A)(1) is
     revised as follows:

                   -------------------------------------------
                    Incremental Quantities   Unit Price (US$)
                   -------------------------------------------
                           0 to ******           $******
                   -------------------------------------------
                      ****** to ******           $******
                   -------------------------------------------
                      ****** to ******           $******
                   -------------------------------------------
                      ****** to ******           $******
                   -------------------------------------------
                      ****** to ******           $******
                   -------------------------------------------
                     Greater than ******         $******
                   -------------------------------------------


<PAGE>
4.   The Purchase  Agreement as  previously  amended shall govern the prices and
     other terms  applicable to Products  shipped prior to the Effective Date of
     this  Amendment;  such prices are final and no  adjustment  is made by this
     Amendment.  Except as  amended  hereby,  the terms  and  conditions  of the
     Purchase Agreement shall continue in effect.

IN WITNESS  WHEREOF,  the parties,  through  their  respective  duly  authorized
officers,  have executed this Amendment to be effective as of the Effective Date
set out in the preamble hereto.

CREE RESEARCH, INC.                       SIEMENS AKTIENGESELLSCHAFT



By         /s/  F. Neal Hunter            By       /s/ R. Mueller
     -------------------------------           ---------------------------------
     F. Neal Hunter, President                 R. Mueller, President, Opto
                                               Semiconductors

Date                                      Date
     -------------------------------           ---------------------------------

                                          By      /s/ C. Hagan
                                               ---------------------------------
                                               C. Hagen, Vice President-
                                               Finance & Admin.

                                          Date         16.12.98
                                               ---------------------------------




                                                                   EXHIBIT 10.17

                         SECOND AMENDED AND RESTATED
                             INDEMNITY AGREEMENT

      SECOND AMENDED AND RESTATED INDEMNITY AGREEMENT (this  "Agreement"),  made
and entered into as of this the 25th day of September,  1998, by F. NEAL HUNTER,
an individual  residing in Durham County,  North Carolina  ("Hunter"),  and CREE
RESEARCH, INC., a North Carolina corporation ("Cree").

                             W I T N E S S E T H:

      WHEREAS,  Hunter serves as Cree's  President and Chief Executive  Officer,
and as a member and Chairman of its Board of Directors,  and holds a substantial
number of shares of Cree's common stock: and

      WHEREAS,  Cree  acquired  24,601 shares of the common stock of C3, Inc., a
North Carolina  corporation ("C3"),  pursuant to an Assignment Agreement between
Cree and C3 dated June 28, 1995 which gave Cree the right to acquire one percent
of the  outstanding  common  stock of C3 for $500 but  permitted C3 to waive the
consideration and issue the stock at any time, which C3 elected to do in January
1997; and

      WHEREAS,  C3 conducted an initial  public  offering of its common stock in
November 1997 and,  pursuant to Hunter's  direction after  consultation with its
Board of  Directors,  Cree  purchased  100,000  shares in the  offering,  at the
offering  price of $15 per share,  based upon the judgment that the market price

of the shares  would likely  increase  and that the purchase  would thus enhance
Cree's value; and

      WHEREAS,  Cree has  continued  to monitor and evaluate its C3 holdings and
has engaged in market transactions in C3 common stock since C3's public offering
in 1997; and

      WHEREAS,  due to a decline in the market price of C3 stock and in order to
avoid having Cree record a loss as a result of its C3 holdings,  Hunter  entered
into an  agreement  with Cree on  December  28,  1997 under which he promised to
indemnify  Cree  against  any losses  that might  result from the sale of its C3
stock,  up to a maximum of $300,000 (such agreement is referred to herein as the
"Original Agreement"); and

      WHEREAS,  Hunter and Cree entered into an amendment and restatement of the
Original  Agreement  on June 26,  1998 which  increased  the  maximum  amount of
Hunter's  obligation  to $400,000 and made  certain  other  modifications  (such
amendment and restatement of the Original Agreement is referred to herein as the
"First Amended Agreement");

      WHEREAS, Hunter has reached an agreement with Cree to increase further the
maximum  amount of his indemnity  and to modify the First  Amended  Agreement in
certain other respects; and


<PAGE>
      WHEREAS,  Hunter and Cree desire to memorialize  their  understanding  and
agreement  by  amending  and  restating  the  provisions  of the  First  Amended
Agreement as set forth below;

      NOW,  THEREFORE,  for and in consideration  of the foregoing  premises and
other good and valuable  consideration,  the receipt and sufficiency of which is
hereby acknowledged,  and intending to be legally bound hereby,  Hunter and Cree
agree that the First Amended Agreement is hereby amended and restated to read as
follows:

     1.   As used in this  Agreement the following  terms shall have the meaning
indicated:

            (a)  "Measurement  Date" means the date on which  Hunter  receives a
written demand for payment under this  Agreement in accordance  with paragraph 4
below.

            (b) "Fair Market  Value" of the C3 common stock means,  with respect
to a given Measurement Date,

                  (i) the last sale price reported on the Measurement  Date (or,
if none, on the nearest  preceding  trading day) on (A) The Nasdaq Stock Market,
if the stock is listed on The Nasdaq Stock Market on the  Measurement  Date,  or
(B) if the stock is not then  listed on The  Nasdaq  Stock  Market,  then on the
principal exchange on which the stock is then listed, or

                  (ii) if the stock is not then listed on any exchange, then the
fair market value on the Measurement  Date (A) as determined by mutual agreement
of the parties or (B) if the parties are unable to reach such  agreement  within
thirty days after the  Measurement  Date, then as determined by a panel of three
arbitrators  appointed in accordance with the arbitration  rules of the American
Arbitration Association.

     2.  Subject to  the terms and conditions of this Agreement  Hunter will pay
Cree an amount equal to:

            (a) the excess, if any, of (x) the aggregate cash consideration paid
by or due from Cree for  shares of C3 common  stock  acquired  at any time on or
before the Measurement Date over (y) the aggregate cash proceeds  received by or
due to Cree for  shares of C3  common  stock  sold at any time on or before  the
Measurement Date; less

            (b) the Fair Market  Value of shares of C3 common stock held by Cree
at the close of business on the Measurement Date.

     3.   Commissions  and  other  trading  expenses  shall be  disregarded  for
purposes of this Agreement.

     4.   Payment of amounts due under this  Agreement  shall be made within ten
(10) days after receipt by Hunter of Cree's written  demand therefor. The demand
must be  made  pursuant to the  vote or written  consent of a  majority  of  the
members of the Board of  Directors  of Cree other than Hunter.


<PAGE>
     5.   Hunter's  maximum  liability under  this Agreement shall  in  no event
exceed Four Hundred Fifty Thousand Dollars ($450,000.00).

     6.   This  Agreement  shall be binding  upon and  inure to  the  benefit of
Hunter and his heirs, personal representatives,  successors and assigns and upon
Cree and its  successors and assigns.  This  Agreement  shall be governed by the
laws of the State of North Carolina.  This Agreement shall not be amended except
in a document executed on behalf of both parties.

      IN WITNESS  WHEREOF,  the parties have executed this Agreement and affixed
their respective seals hereto as of the date first stated in the preamble above.

                                    /s/  F. Neal Hunter                 (SEAL)
                                 ---------------------------------------
                                 F. Neal Hunter


                                 CREE RESEARCH, INC.
(CORPORATE SEAL)

Attest:                          By:    /s/  Charles M. Swoboda
                                      -------------------------------------
                                      Charles M. Swoboda, Vice President

/s/  Adam H. Broome
- ------------------------------
Adam H. Broome, Secretary





<TABLE> <S> <C>

<ARTICLE> 5
<LEGEND>
THIS  SCHEDULE  CONTAINS  SUMMARY  FINANCIAL   INFORMATION  EXTRACTED  FROM  THE
ACCOMPANYING  FINANCIAL STATEMENTS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<CIK>                         0000895419
<NAME>                        CREE RESEARCH, INC.
<MULTIPLIER>                  1,000
<CURRENCY>                    U.S. DOLLARS
       
<S>                                            <C>
<PERIOD-TYPE>                                  6-MOS
<FISCAL-YEAR-END>                              JUN-27-1999
<PERIOD-START>                                 JUN-29-1998
<PERIOD-END>                                   DEC-27-1998
<EXCHANGE-RATE>                                     1
<CASH>                                         12,769
<SECURITIES>                                      905
<RECEIVABLES>                                  12,261
<ALLOWANCES>                                      151
<INVENTORY>                                     3,402
<CURRENT-ASSETS>                               30,141
<PP&E>                                         56,989
<DEPRECIATION>                                 12,017
<TOTAL-ASSETS>                                 78,103
<CURRENT-LIABILITIES>                           5,758
<BONDS>                                             0
<PREFERRED-MANDATORY>                               0
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<COMMON>                                       49,648
<OTHER-SE>                                     10,341
<TOTAL-LIABILITY-AND-EQUITY>                   59,989
<SALES>                                        26,317
<TOTAL-REVENUES>                               26,317
<CGS>                                          14,044
<TOTAL-COSTS>                                  19,071
<OTHER-EXPENSES>                                    0
<LOSS-PROVISION>                                    0
<INTEREST-EXPENSE>                              (115)
<INCOME-PRETAX>                                 7,246
<INCOME-TAX>                                    2,029
<INCOME-CONTINUING>                             5,217
<DISCONTINUED>                                      0
<EXTRAORDINARY>                                     0
<CHANGES>                                           0
<NET-INCOME>                                    5,217
<EPS-PRIMARY>                                    0.41
<EPS-DILUTED>                                    0.39
        

</TABLE>







                                                                    EXHIBIT 99.1

                                 RISK FACTORS

The  risks  and  uncertainties  described  below  are not the only ones we face.
Additional risks and  uncertainties not presently known to us, that we currently
deem  immaterial  or that are similar to those faced by other  companies  in our
industry or business in general may also impair our business operations.  If any
of the following risks actually  occurs,  our business,  financial  condition or
results of future operations could be materially and adversely affected.

Our  Operating  Results May  Fluctuate  Significantly  and We May Not Be Able to
Maintain Our Existing Growth Rate.

Although we have had significant revenue and earnings growth in recent quarters,
we  may  not be  able  to  sustain  these  growth  rates  and we may  experience
significant  fluctuations  in  our  revenue  and  earnings  in the  future.  Our
operating results will depend on many factors, including the following:

    - our ability to develop, manufacture and deliver products in a timely
      and cost-effective manner;
    - whether we encounter low levels of usable product produced during each
      manufacturing step (our "yield");
    - our ability to expand our production of Silicon Carbide ("SiC") wafers
      and devices;
    - demand for our products;
    - demand for
 our customers' products;
    - competition; and
    - general industry and global economic conditions.

Our future  operating  results  could be  adversely  affected  by these or other
factors.  If our future  operating  results are below the  expectations of stock
market analysts or our investors, our stock price may decline.

If We Experience Poor Production Yields, Our Operating Results May Suffer.

Our SiC products are manufactured  using  technologies  that are highly complex.
Our customers  incorporate  our products into high volume  applications  such as
automotive  dashboards,   wireless  handsets,  full  color  video  displays  and
gemstones,  and they  insist that our  products  meet exact  specifications  for
quality, performance and reliability.

The  number  of  usable  crystals,  wafers  and  devices  that  result  from our
production  processes can  fluctuate as a result of many factors,  including the
following:


<PAGE>
    - impurities in the materials used;
    - contamination of the manufacturing environment;
    - equipment failure, power outages or variations in the manufacturing
      process;
    - losses from broken wafers or other human error; and
    - defects in packaging.

Because many of our  manufacturing  costs are fixed,  if our yields decrease our
operating  results  would  be  adversely  affected.  For  this  reason,  we  are
constantly trying to improve our yields.

In the past, we have experienced  difficulties in achieving acceptable yields on
new  products,  which has  adversely  affected  our  operating  results.  We may
experience  similar  problems in the future and we cannot  predict when they may
occur or their severity.  These problems could  significantly  affect our future
operating results.

If We Are Unable to Produce Adequate  Quantities of Our High Brightness Blue and
Green LEDs, Our Operating Results May Suffer.

We are currently  beginning  the  manufacture  of commercial  quantities of high
brightness  blue and green LEDs, and as a result we have incurred  certain fixed
costs.  We  believe  that  high  volume  production  of these  products  will be
important to our future operating  results.  Achieving  greater volumes requires
improved  production yields for these products.  Successful  production of these
products is subject to a number of risks, including the following:

    - our ability to  consistently  manufacture  these products in volumes large
      enough to cover our fixed costs and satisfy our customers' requirements;
    - our ability to improve our yields and reduce the costs associated with
      the manufacture of these products; and
    - whether these products gain market acceptance.

Our inability to produce  adequate  quantities of our high  brightness  blue and
green products would have a material adverse effect on our business,  results of
operations and financial condition.

Our Operating  Results Are  Substantially  Dependent on the  Development  of New
Products Based on Our Core SiC Technology.

Our future  success will depend on our ability to develop new SiC  solutions for
existing  and new  markets.  We must  introduce  new  products  in a timely  and
cost-effective  manner and we must secure  production orders from our customers.
The  development  of new SiC products is a highly complex  process,  and we have
historically  experienced  delays in completing the development


<PAGE>
and introduction of new products.  Products currently under development  include
high power radio  frequency and microwave  devices,  power  devices,  blue laser
diodes and high temperature devices. The successful development and introduction
of these products depends on a number of factors, including the following:

    - achievement of technology breakthroughs required to make commercially
      viable devices;
    - the accuracy of our predictions of market requirements and evolving
      standards;
    - acceptance of our new product designs;
    - the availability of qualified development personnel;
    - our timely completion of product designs and development;
    - our ability to develop repeatable processes to manufacture new products
      in sufficient quantities for commercial sales; and
    - acceptance of our customers' products by the market.

If any of these  or  other  factors  become  problematic,  we may not be able to
develop and introduce these new products in a timely or cost-efficient manner.

We Depend on a Few Large Customers.

Historically, a substantial portion of our revenue has come from large purchases
by a small number of customers.  We expect that trend to continue.  For example,
for fiscal 1998 our top five  customers  accounted for 81% of our total revenue.
For the six months ended December 27, 1998, our top five customers accounted for
79% of our total revenue.  (These percentages consider sales to a distributor as
sales to one  customer).  Sales to Siemens AG during both periods  accounted for
40% of our total revenue.  In addition,  sales to C3, Inc.  accounted for 11% of
our total  revenue in fiscal 1998 and 18% of our total revenue in the six months
ended December 27, 1998. Accordingly, our future operating results depend on the
success of our largest  customers and on our success in selling large quantities
of our products to them.

The  concentration  of  our  revenues  with  a  few  large  customers  makes  us
particularly  dependent on factors  affecting those customers.  For example,  if
demand for their products  decreases,  they may stop purchasing our products and
our operating  results will suffer.  If we lose a large customer and fail to add
new customers to replace lost revenue, our operating results may not recover.

We Face Challenges  Relating to Expansion  of Our  Production and  Manufacturing
Facility.

In order to increase  production at our new  facility,  we must add critical new
equipment, move existing equipment and complete the remaining phases of building
out the facility.  We are in the process of completing this build-out and expect
to construct additional  facilities in the future.  Expansion activities such as
these are subject to a number of risks, including the following:


<PAGE>
    - unforeseen environmental or engineering problems relating to existing
      or new facilities;
    - unavailability or late delivery of the advanced, and often customized,
      equipment used in the production of our products;
    - unavailability of funds necessary for expansion;
    - work stoppages and delays; and
    - delays in bringing production equipment on-line.

These and other risks may affect the ultimate  cost and timing of the  build-out
of our existing facility,  as well as the construction of new facilities,  which
could  adversely  affect our  business,  results  of  operations  and  financial
condition.

The Ongoing Operation of Our Manufacturing Facility Is Critical to Our Business.

In November 1997, we acquired our present  principal  facility in Durham,  North
Carolina,  which includes a total of 172,000 square feet. The ongoing  operation
of this  facility is crucial to our  strategy  of  expanding  our  manufacturing
capacity to meet demand for our SiC products now and in the future.

We began commercial production of products from this facility in August 1998. We
expect that production from the facility will increase  throughout the remainder
of fiscal  1999 and into  fiscal  2000.  A number of  factors  will  affect  the
successful operation of this facility and our business, including the following:

    - demand for our products;
    - our production yields;
    - our ability to generate revenues in amounts that cover the significant
      fixed costs of operating our facility;
    - our ability to hire, train and manage qualified production personnel;
      and
    - our  inability  to use all or a  significant  portion of our  facility for
      prolonged  periods  of  time  for any  reason  -- for  example,  a fire or
      explosion caused by our use of combustible chemicals and high temperatures
      during certain of our manufacturing processes.

We Face Significant Challenges Managing Our Rapid Growth.

We are experiencing a period of significant growth that will continue to place a
great  strain on our  management  and other  resources.  We have  grown from 188
employees  on December  31, 1996 to 297  employees on December 27, 1998 and from
revenues  of $29.0  million  for the fiscal




<PAGE>
year ended June 30,  1997 to $42.5  million  for the fiscal  year ended June 28,
1998. To manage our growth effectively, we must continue to:

    - implement and improve operational systems;
    - maintain adequate physical plant, manufacturing facilities and
      equipment to meet customer demand;
    - add experienced senior level managers; and
    - attract  and retain  qualified  people  with  experience  in  engineering,
      design, technical marketing and support.

We will spend  substantial  amounts of money in connection with our rapid growth
and may have additional  unexpected  costs. Our systems,  procedures or controls
may not be adequate to support our operations,  and we may not be able to expand
quickly enough to exploit potential market  opportunities.  Our future operating
results  will  also  depend  on  expanding  sales and  marketing,  research  and
development,  and administrative  support. If we cannot attract qualified people
or manage  growth  effectively,  our business,  operating  results and financial
condition could be adversely affected.

The Markets In Which We Operate Are Highly Competitive.

The market for our  products  is highly  competitive.  Although  we believe  our
SiC-based LEDs offer substantial advantages, competitors currently sell blue and
green LEDs made from sapphire  wafers that are brighter than the high brightness
LEDs we currently produce.  In addition,  we believe that other firms (including
certain of our customers) may seek to enter the blue and green LED market in the
future. For example,  Siemens AG and Shin-Etsu Handotai Co. Ltd. license certain
of our LED technology, which may facilitate their entrance into our LED markets.
The market for SiC wafers is also  becoming  competitive  as other firms have in
recent years begun offering SiC wafer products or announced plans to do so.

Also,  other firms may develop new or enhanced  products that are more effective
than  any  that we have  developed  or may  develop.  These  firms  may  develop
technology that produces  commercial  products with  characteristics  similar to
SiC-based products, but at a lower cost. Many existing and potential competitors
have far greater financial, marketing and other resources than we do. We believe
that present and future competitors will aggressively pursue the development and
sale of competing products. We also expect significant  competition for products
we are currently developing, such as those for use in microwave communications.

We expect  competition  to  increase.  This  could  mean  lower  prices  for our
products,  reduced demand for our products and a corresponding  reduction in our
ability to recover  development,  engineering and  manufacturing  costs.  Any of
these  developments  could have an adverse  effect on our  business,  results of
operations and financial condition.


<PAGE>
We Rely on a Few Key Suppliers.

We depend on a limited number of suppliers for certain raw materials, components
and equipment used in  manufacturing  our SiC products,  including key materials
and  equipment  used in  critical  stages  of our  manufacturing  processes.  We
generally  purchase these limited source items with purchase orders, and we have
no guaranteed supply  arrangements with such suppliers.  If we were to lose such
key  suppliers,  our  manufacturing  efforts  could be  hampered  significantly.
Although we believe  our  relationship  with our  suppliers  is good,  we cannot
assure  you that we will  continue  to  maintain  good  relationships  with such
suppliers or that such suppliers will continue to exist.

If  Government  Agencies or Other  Customers  Discontinue  Their Funding for Our
Research and Development of SiC Technology, Our Business May Suffer.

In the past,  government  agencies and other customers have funded a significant
portion  of  our  research  and  development  activities.  If  this  support  is
discontinued  or reduced,  our ability to develop or enhance  products  could be
limited and our business, results of operations and financial condition could be
adversely affected.

We Depend Heavily on Key Personnel.

Our success  depends in part on keeping key technical and management  personnel.
For example,  some of the equipment  used in the production of our products must
be  modified  before  it is put to use and only a limited  number  of  employees
possess the expertise needed to perform these  modifications.  Furthermore,  the
number of  individuals  with  experience  in the  production  of SiC and related
products is limited,  and our future success  depends in part on retaining those
individuals who are already employees.

We must also  continue  to attract  qualified  personnel.  The  competition  for
qualified  personnel  is intense,  and the number of people with the  experience
that we need is  limited.  We cannot be sure that we will be able to continue to
attract and retain other skilled personnel in the future.

Limitations on the Protection of Our Intellectual Property.

Our intellectual  property position is based on patents exclusively  licensed to
us by North Carolina State University,  also known as N.C. State, and on patents
owned by us.  The  licensed  patents  give us rights to our SiC  crystal  growth
process. The expiration dates on the U.S. patents we license from N.C. State run
from 2007 to 2009. We also own 43 U.S.  patents  relating to various  aspects of
our  technology  and have other  patent  applications  pending.  The issued U.S.
patents we own expire  between 2008 and 2016. We have obtained (or licensed from
N.C. State) a number of patents covering these same  technologies in key foreign
jurisdictions.

We  intend  to  continue  to  file  patent  applications  in the  future,  where
appropriate,  and to pursue  such  applications  with U.S.  and  foreign  patent
authorities, but we cannot be sure that any other patents will be issued on such
applications or that our patents will not be contested.  In the past, one of the
important  patents we license  from N.C.  State  relating to crystal  growth was
subject  to  re-examination  in the U.S.  but we  prevailed  in the  proceeding.
Currently,  the corresponding



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European  patent is being  challenged,  which  means that we could  lose  patent
protection in certain European countries for this particular method. There is no
assurance  that  other of our  patents  will  not be  contested.  Also,  because
issuance  of a  valid  patent  does  not  prevent  other  companies  from  using
alternative,  non-infringing  technology,  we  cannot  be sure  that  any of our
patents (or patents  issued to N.C.  State or other  parties and licensed to us)
will provide significant commercial protection.

In  addition  to patent  protection,  we also rely on trade  secrets,  technical
know-how and other unpatented  proprietary  information  relating to our product
development and  manufacturing  activities.  We try to protect this  information
with confidentiality  agreements with our employees and other parties. We cannot
be sure that these agreements will not be breached,  that we would have adequate
remedies for any breach or that our trade secrets and proprietary  know-how will
not otherwise become known or independently discovered by others.

Our Operations Could Infringe Upon the Intellectual Property Rights of Others.

Particular  aspects of our  technology  could be found to infringe the claims of
other existing or future patents.  Other companies may hold or obtain patents on
inventions or may otherwise claim proprietary rights to technology  necessary to
our business.  We cannot  predict the extent to which we may be required to seek
licenses.

We Are Subject to Risks From International Sales.

Sales to  customers  located  outside  the U.S.  accounted  for about 69% of our
revenue in fiscal 1996,  about 79% of our revenue in fiscal  1997,  about 74% of
our  revenue in fiscal 1998 and about 62% of our revenue in the first six months
of fiscal 1999.

We  expect  that  revenue  from  international  sales  will  continue  to  be  a
significant  part of our total  revenue.  International  sales are  subject to a
variety of risks,  including  risks  arising  from  currency  fluctuations,  the
emergence of the Euro, trading restrictions,  tariffs, trade barriers and taxes.
Also,  future U.S.  Government or military  export  restrictions  could limit or
prohibit  sales of our  products to customers  in certain  countries  because of
their uses in military or surveillance applications.

Because all of our foreign sales are denominated in U.S.  dollars,  our products
become less price  competitive in countries with  currencies that are low or are
declining in value  against the U.S.  dollar.  Also,  we cannot be sure that our
international  customers  will  continue  to place  orders  denominated  in U.S.
dollars.  If they do not, our reported  revenue and earnings  will be subject to
foreign exchange fluctuations.

We Are Subject to Stringent Environmental Regulation.

We are subject to a variety of government regulations pertaining to chemical and
waste discharges and other aspects of our manufacturing process. For example, we
are  responsible  for  the  management  of the  hazardous  materials  we use and
disposal of hazardous waste resulting from our manufacturing process. The proper
handling and disposal of such hazardous material and waste requires us to comply
with certain government  regulations.  We believe we are in full




<PAGE>
compliance with such regulations as of the date of this filing, but any failure,
whether  intentional or inadvertent,  to comply with such regulations could have
an adverse effect on our business. In addition, these regulations may affect our
ability to expand or change our manufacturing facility.

Our Stock Price is Volatile.

The market  price of our common stock has been and may continue to be subject to
wide fluctuations. Factors affecting our stock price may include:

    - variations in operating results from quarter to quarter;
    - changes in earning estimates by analysts;
    - market conditions in the industry; and
    - general economic conditions.

Our stock price has fluctuated  widely.  For example,  between November 1997 and
January 1998 the price of our common stock dropped from approximately  $29.50 to
$13.50 per share.  Between  August 1998 and January 11,  1999,  the price of our
common stock rose from approximately  $10.50 to $53.25 per share.  Consequently,
the current  market  price of our common stock may not be  indicative  of future
market prices.

We Face Risks Concerning Year 2000 Issues.

We are evaluating all of our internal  computers,  computer  equipment and other
equipment  with  embedded  technology  against Year 2000  concerns.  Although we
believe our planning efforts are adequate to address our Year 2000 concerns,  it
is still possible that we could  experience  negative  consequences and material
costs  caused by  undetected  errors or  defects in the  technology  used in our
internal  systems.  Our most  significant  Year 2000 risk is that the systems of
other  parties on which we rely,  specifically  our key  suppliers,  will not be
compliant on a timely basis.  Any  disruption in delivery of supplies to us that
is caused by a third  party's  failure to address  Year 2000 issues would affect
our  ability to  manufacture  our  products,  which  could  result in a material
adverse effect on our business, operating results and financial condition.

At this time,  we are unable to estimate the most likely  worst-case  effects of
the  arrival  of the Year  2000 and we do not  have a  contingency  plan for any
unanticipated negative effects.