SECURITIES AND EXCHANGE COMMISSION
                             Washington, D. C. 20549

                                    FORM 10-K

[X]  Annual  Report  Pursuant  to  Section  13 or  15(d) of the  Securities  and
     Exchange Act of 1934 For the fiscal year ended June 30, 1997, or

[ ]  Transition  Report  Pursuant to Section 13 or 15(d) of the  Securities  and
     Exchange  Act of 1934 
     For the transition period from _______________ to _______________

                         Commission file number 0-17454

                                NOXSO CORPORATION
             (Exact name of registrant as specified in its charter)

             Virginia                                      54-1118334
 (State or other jurisdiction               (I.R.S. Employer Identification No.)
 of incorporation or organization)

         2414 Lytle Road
         Bethel Park, PA                    15102
 (Address of principal executive offices)   (Zip code)

Registrant's telephone number, including area code: (412) 854-1200

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

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

            Class
----------------------------
Common stock, $.01 par value

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

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

State the aggregate  market value of the voting stock held by  nonaffiliates  of
the registrant at September 30, 1997: $3,023,463

Indicate the number of shares  outstanding  of each of the  issuer's  classes of
common stock, as of the latest practicable date.

            Class                         Outstanding at September 30, 1997
----------------------------              ---------------------------------
Common stock, $.01 par value                          14,999,651

Documents Incorporated by Reference: None




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                                Item 1. Business

Overview

     NOXSO   Corporation   (the  "Company")  is  a  development   stage  company
incorporated in Virginia on August 28, 1979. The Company is principally  engaged
in developing,  testing,  and marketing a process that is a dry  post-combustion
emission control  technology  which uses a regenerable  sorbent to remove a high
percentage of the pollutants which cause "acid rain" and ground level ozone from
flue gas generated by burning fossil fuel (the "NOXSO Process").  See "The NOXSO
Process."

     On June 4, 1997, the Company  consented to the  jurisdiction  of the United
States  Bankruptcy  Court in the Eastern  District of Tennessee (the "Bankruptcy
Court") and was adjudicated  bankrupt.  The Company is presently  operating as a
debtor-in-possession  in  the  bankruptcy  proceeding.  Under  an  order  of the
Bankruptcy Court entered on October 2, 1997, the Company has the exclusive right
to file a plan of reorganization until January 5, 1998.

Early Development of the NOXSO Process

     From  1980  to  1993  the  Company  was  primarily  engaged  in  designing,
constructing and operating  programs to test and continue the development of the
NOXSO Process.  The Company has operated (i) a pre-pilot  testing apparatus at a
coal-fired  utility boiler having the equivalent of approximately 1/60 megawatts
in electrical  generating  capacity at the Tennessee Valley Authority's  Shawnee
Steam Plant in Paducah,  Kentucky,  (ii) a pre-pilot  plant  demonstration  on a
larger scale at the Pittsburgh  Energy  Technology  Center  operated by the U.S.
Department of Energy  ("DOE") under a  Cooperative  Agreement  with the DOE; and
(iii) a  pilot-scale  demonstration  plant  at an Ohio  Edison  power  plant  in
Toronto,  Ohio  which  tested  a  larger-scale  fully-integrated  NOXSO  Process
treatment system,  treating flue gas generated from approximately 5 megawatts of
electrical generating capacity.

Efforts to Develop a Commercial Demonstration Facility

     From 1989 until the present the  Company has been  attempting  to develop a
full-scale commercial  demonstration of the NOXSO Process. In December 1989, the
federal government's Clean Coal III Technology Program selected a proposal which
had been submitted by the Company, MK-Ferguson Company ("MK-Ferguson") and W. R.
Grace & Co.("Grace")  for a commercial  demonstration  of the NOXSO Process.  In
March 1991, the DOE entered into a Clean Coal Technology  Cooperative  Agreement
with  MK-Ferguson  to provide  funding for  one-half of the  then-estimated  $66
million cost of the project.  In September 1994, the  Cooperative  Agreement was
amended and novated to the Company by MK-Ferguson.


                                        2

<PAGE>



     The site originally proposed for construction of the full-scale  commercial
demonstration  proved  unsuitable for various reasons.  The Company engaged in a
search  for  an   alternative   site  to  construct  a   full-scale   commercial
demonstration  facility, and, in August 1994, the Company entered into a Project
Agreement  (the "Alcoa Project  Agreement")  with Alcoa  Generating  Corporation
("Alcoa")  for  the  design,   construction  and  operation  of  a  facility  to
demonstrate the NOXSO Process at Alcoa's Warrick Generating Station in Newburgh,
Indiana (the "Alcoa Project").  The Company completed the project definition and
design phases of the Alcoa Project and commenced construction in June 1995. As a
part of the  approval,  the DOE increased the funding for its share of costs for
the project from $33 million to $41.1 million.  The Alcoa Project  Agreement was
subject to termination by Alcoa if certain  conditions  were not met,  including
the requirement that the Company obtain the financing  necessary to complete the
Alcoa  Project by a  designated  date,  which was extended  several  times until
January 31,  1997.  The Company was unable to obtain the  financing  required to
complete the project by the  deadline,  and Alcoa  terminated  the Alcoa Project
Agreement on February 3, 1997.

     The  Company  is   currently   seeking  an   alternate   site  to  build  a
commercial-size  demonstration  of the NOXSO Process and to obtain approval from
the DOE to  utilize  funding  granted  by the DOE for the  Alcoa  Project  at an
alternate  site.  DOE is not  currently  providing  any funding to the  Company.
Location of an alternate site to build a commercial-size  demonstration facility
and obtaining the funding  necessary to finance  construction of such a facility
are  two of the  principal  elements  of  the  Company's  plan  to  emerge  from
bankruptcy.

     Even  if  the  Company  is  able  to  locate  an   alternate   site  for  a
commercial-size  demonstration  facility and retain the DOE funding, the Company
will need to secure  significant  additional  funding in order to  continue as a
going concern and complete a commercial  demonstration facility. The Company has
never generated any significant  operating  revenue and does not anticipate that
it will generate  significant  operating revenue in the foreseeable  future. The
Company has secured certain  emergency  interim  debtor-in-possession  financing
(see  "Funding  for the  Company's  Operations"  below) and has entered  into an
agreement  which  provides,  subject to numerous  conditions,  for the sale of a
facility  constructed  by the Company (see "The Olin  Project -- Agreement  with
Republic  Financial  Corporation"  below).  However,  funds generated from these
sources   would  not  be  sufficient  to  permit  the  Company  to  construct  a
commercial-size  demonstration facility, and the Company does not presently have
any source for any significant additional funding.  Because of the reluctance of
regulated  utilities to purchase process technology which has not been tested on
a commercial scale, due to the uncertainty of cost  considerations,  the Company
believes that it will be extremely  difficult for the Company to market and sell
the NOXSO Process if an alternate site for a commercial  demonstration  facility
is not located in the near  future or if funding for such a facility,  both from
the DOE and other sources,  is not secured  promptly.  There can be no assurance
that the Company will be successful in locating an alternate  site, in obtaining
DOE's  approval to utilize DOE funding at such a site or in obtaining the needed
additional  funding. If the Company is unable to accomplish all of the foregoing
objectives,  it may be necessary for the Company to sell the rights to the NOXSO
Process in the bankruptcy  proceedings  and to liquidate.  In such event,  it is
unlikely that sufficient  funds will be generated to permit any  distribution to
be made to the Company's stockholders.

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The Olin Project

Construction of the Tennessee Facility

     In April 1995, the Company entered into a License, Construction,  Lease and
Sulfur Supply Agreement (the "Olin  Agreement") with Olin Corporation  ("Olin").
Under the Olin  Agreement,  the  Company  agreed to  construct  a facility  (the
"Tennessee  Facility")  at Olin's  plant in  Charleston,  Tennessee  to  convert
elemental sulfur, which is generated as a by-product of the NOXSO Process,  into
liquid  sulfur  dioxide  (the "Olin  Project").  It had been  intended  that the
Company would provide  elemental  sulfur produced at the Alcoa Project,  convert
such  elemental  sulfur to liquid  sulfur  dioxide  and sell the  liquid  sulfur
dioxide to Olin.  Until the  Company is able to provide  elemental  sulfur,  the
Company is obligated to provide elemental sulfur and, accordingly, must purchase
it from  suppliers.  In addition,  because the Olin Project was not completed by
September 1, 1996,  the Company was obligated  under the Olin  Agreement to make
certain  payments  to Olin  relating to the  purchase  by Olin of liquid  sulfur
dioxide.

     The Olin Facility  consists of an air separation plant that was supplied to
the  Company  by  Praxair,  Inc.  ("Praxair")  and a sulfur  dioxide  conversion
facility  that was to be  manufactured  and  supplied by  Calabrian  Corporation
("Calabrian")  under a Purchase Agreement and License Agreement with the Company
(the  "Calabrian  License  Agreement").  In May 1996,  Calabrian  abandoned  its
portion of the Tennessee  Facility  and, as a result,  the Company was forced to
assume responsibility for completing the design and construction of that portion
of the project  which was  abandoned.  Calabrian  and the Company are  currently
engaged in  litigation  regarding the  abandonment  of the project by Calabrian.
Such  litigation  has  been  stayed  on  account  of  the  Company's  bankruptcy
proceedings. See Item 3.

     In order to provide for construction of the Tennessee Facility, the Company
obtained  a loan from Olin (the  "Olin  Loan") in the  amount of $1.874  million
that,  since April 12, 1996, has borne  interest at a rate of 10% per annum.  In
August 1996, the Company also obtained the agreement of Praxair to defer payment
of the  approximately  $2.75 million  balance owed for the air separation  plant
until  completion of a bond financing then  contemplated by the Company,  but no
later than  September 30, 1996. In connection  with the agreement  with Praxair,
the  Company  agreed to pay late  charges  of .3% per week from the date of each
outstanding  invoice and to assign  revenues it is entitled to receive under the
Olin Agreement to Praxair until the Company's obligations to Praxair are paid in
full. At June 30, 1997, the Company had accrued  approximately  $400,000 in late
charges relating to this agreement with Praxair.

     The  agreements  regarding  the Olin  loan  provide  that the loan is to be
repaid on demand, but no later than October 31, 1996, which date was extended in
writing to January 31, 1997.  The loan is secured by a security  interest in all
of the  Company's  personal  property.  The loan  proceeds were used to complete
construction of the Tennessee Facility.

     As a result of the termination of the Alcoa Project Agreement,  the Company
became obligated,  under an amendment to its Cooperative  Agreement with DOE, to
repay DOE for all

                                        4

<PAGE>



funds  provided by DOE for the Tennessee  Facility,  plus  interest,  calculated
pursuant to a formula  contained in the  agreement,  from November 1, 1996.  The
Company  is to pay DOE an amount  equal to 2/3 of the  revenue  received  by the
Company under the Olin  Agreement  (after  repayment of amounts due to Praxair).
The entire  amount  becomes due and payable on January 1, 1999 if repayment  has
not  commenced  by that time.  The  Company is engaged in  discussions  with DOE
regarding  this  repayment  obligation.  DOE has  filed a proof  of  claim as an
unsecured  creditor in the amount of approximately  $15 million in the Company's
bankruptcy proceedings.

Dispute with Olin Concerning the Tennessee Facility

     The Company  received  notice from Olin,  by letter dated January 30, 1997,
purporting  to terminate the Olin  Agreement as a result of alleged  defaults by
the Company and claiming  that Olin had the right to take title to the Tennessee
Facility.  Olin's notice also claimed that the Company had defaulted on the Olin
Loan.

     On February  4, 1997,  the  Company  sought and was  granted a  preliminary
injunction  against  Olin in the  Court of  Common  Pleas of  Allegheny  County,
Pennsylvania,  preventing  Olin,  among other things,  from terminating the Olin
Agreement  or taking  any  action in  violation  of the  Company's  title to the
Tennessee Facility.  In its complaint,  the Company also requested a declaratory
judgment  requiring Olin, among other things,  to perform its obligations  under
the Olin  Agreement and a permanent  injunction  having  substantially  the same
terms as the  preliminary  injunction.  In the  alternative,  the Company sought
monetary damages from Olin.

     On February 6, 1997, Olin and FRU-CON  Construction  Company and Industrial
Rubber  &  Safety  Products,  Inc.,  two of the  Company's  suppliers,  filed an
involuntary  petition in  bankruptcy  against  the Company in the United  States
Bankruptcy Court in the Eastern District of Tennessee (the "Bankruptcy  Court").
On June 4, 1997, the Company (i) consented to the jurisdiction of the Bankruptcy
Court and was  adjudicated  bankrupt  and (ii)  converted  the  bankruptcy  to a
proceeding  under Chapter 11 of the  Bankruptcy  Code (case no.  97-19709).  The
Company is presently operating as a debtor-in-possession in the proceeding.  The
litigation  described  above  brought  by the  Company  against  Olin  has  been
transferred to the jurisdiction of the Bankruptcy Court.

Agreement with Republic Financial Corporation and Conditional Settlement of Olin
Disputes

     On August 15, 1997,  NOXSO  entered  into a letter of intent with  Republic
Financial  Corporation  ("Republic")  for the  sale of the  Tennessee  Facility.
Republic,  a merchant  banking firm which  specializes  in the  acquisition  and
financing  of  assets,  has  proposed,  subject  to a number of  conditions,  to
purchase  the Facility at a price of $11 million.  A definitive  Asset  Purchase
Agreement  (the  "Asset  Purchase   Agreement")  setting  forth  the  terms  and
conditions  of the sale of the  Facility to Republic was executed by the Company
and Republic on September  17, 1997. In addition to the sale of the Facility and
related assets,  the Asset Purchase Agreement provides for the assumption by the
Company  of  the  Calabrian  License   Agreement.   See  "The  Olin  Project  --
Construction of the Tennessee Facility" above and item 3.

                                        5

<PAGE>



     Among  the  numerous  conditions  that  must  be  satisfied  prior  to  the
completion of the sale are negotiations with third parties of various associated
agreements,  including  contracts for the sale of liquid sulfur  dioxide and the
purchase of elemental sulfur, an operation and maintenance contract, a technical
support  agreement,  agreements  for the  purchase of any other input of process
materials  required to operate the Tennessee  Facility  effectively,  and a land
lease for the  Tennessee  Facility.  Completion  of  certain  of the  associated
agreements will require the cooperation of Olin.

     Another  condition of sale involving Olin is the resolution of the disputes
between the Company and Olin described  above. By Stipulation and Order of Court
entered September 12, 1997  ("Stipulation"),  Olin and the Company conditionally
resolved  their disputes on the following  basis.  In the event that the sale to
Republic closes,  Olin will be entitled to payment at closing of claims totaling
$5,705,828.84  plus certain  accruals and less credits to the Company for liquid
sulfur  dioxide  produced  at the  Facility  and used or  stored  by Olin  since
February 1, 1997.  As of August 31,  1997,  those  credits  totaled  $1,590,930.
Additionally,  at the closing on the  Republic  sale,  the Company and Olin have
agreed to execute mutual  releases  releasing any and all other claims or causes
of action.  In the event that the sale to Republic  does not close,  the Company
and Olin will be entitled to pursue any and all claims and  lawsuits  which they
have against each other.  However,  any claim of Olin in excess of the aggregate
sum as agreed  pursuant to the  Stipulation  will be assertable  defensively  by
set-off  and/or  counterclaim  only and will not result in any  increase  in the
aggregate claims of Olin payable by the Company.  On October 2, 1997,  Calabrian
file an  Objection  to the  Stipulation.  A  hearing  will be  scheduled  by the
Bankruptcy Court to consider Calabrian's objection.

     Completion of a sale of the  Tennessee  Facility is subject to the approval
of the Bankruptcy  Court.  A Motion for Order  Approving (i) Sale of Assets Free
and  Clear of Liens and  Encumbrances  and (ii)  Assumption  and  Assignment  of
Executory  Contract in Connection  with Sale of Assets (the  "Motion") was filed
with the Court on September  22, 1997,  and is scheduled  for hearing on October
21, 1997. In addition to the sale of the Tennessee  Facility and related assets,
the Motion  seeks  authority  for the  Company to assume the  Calabrian  License
Agreement  and  to  assign  it to  Republic.  Subject  to  satisfaction  of  all
conditions,  the Asset Purchase  Agreement targets November 1997 for the closing
of the sale.

     Completion  of a sale of the  Tennessee  Facility  is one of the  principal
elements of the Company's plan to emerge from bankruptcy.

Plan of Reorganization

     Pursuant to the  provisions  of the  Bankruptcy  Code,  the Company has the
exclusive right to file a plan of reorganization until October 7, 1997. The sale
of  the  Tennessee   Facility  is  a  key  element  of  the  Company's   overall
reorganization  plan to emerge from Chapter 11. In order to allow the Company to
close on the sale to  Republic  and to  continue  its  search for a host site in
order to commercially  demonstrate the NOXSO Process, the Company filed a Motion
for Extension of Exclusive  Time to File Plan,  and on October 2, 1997, an order
was entered by the Bankruptcy  Court  extending the Company's  exclusive  period
until January 5, 1998.

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Funding for the Company's Operations

     During  fiscal  1997,  the  Company  raised  (i)  an  aggregate  amount  of
$1,095,500  through  private  placements  resulting in the issuance of 1,380,333
shares of the Company's Common Stock, par value $.01 per share ("Common Stock"),
and warrants to purchase  1,097,133  shares of Common  Stock at exercise  prices
ranging  from  $1.50 to $.25 and  (ii)  $540,000  through  a  private  placement
pursuant  to  Regulation  S  of   convertible   subordinated   debentures   (the
"Debentures"). All of the Debentures were converted into Common Stock, resulting
in the issuance of 3,551,042 shares of Common Stock.

     On June 30, 1997, the Bankruptcy Court preliminarily approved the Company's
request for emergency  interim  debtor-in-possession  financing.  Pursuant to an
agreement  with  certain  lenders  (collectively,  the "Interim  Lenders"),  the
Interim Lenders agreed to lend the Company the amount of $50,000,  interest free
for one year.  Pursuant to such  agreement,  the  Company  issued to the Interim
Lenders 150,000 shares of the Company's  Common Stock,  par value $.01 per share
(the "Common Stock").  A final order approving the interim  debtor-in-possession
financing was entered on August 18, 1997.

     The Company  subsequently  applied to the Bankruptcy  Court for approval of
additional  debtor-in-possession  financing in an amount of up to  $600,000.  On
August 18, 1997,  the  Bankruptcy  Court entered a final order  authorizing  the
Company to obtain such  financing  from a group of lenders (the "DIP  Lenders").
Pursuant to such arrangement, the Company is authorized to grant and has granted
to the DIP Lenders a first priority lien in certain of the Company's patents and
laboratory  equipment and is  authorized  to issue 300,000  shares of its Common
Stock in the aggregate to the DIP Lenders.  To date, the DIP Lenders have loaned
$583,333 to the Company pursuant to the financing  arrangement,  and the Company
has issued 289,333 shares of Common Stock to the DIP Lenders. The loans from the
DIP Lenders bear interest at the rate of 20% per annum.  Interest for a one-year
period  (one-half  of which will be  refunded to the extent not earned) and a 5%
origination fee have been paid from proceeds.

     The loans from both the  Interim  Lenders  and the DIP  Lenders are due and
payable on the earlier of the date one year after the  specific  loans were made
or consummation of the Company's plan of reorganization.

The NOXSO Process

     The NOXSO  Process is a process  developed  by the Company to remove a high
percentage  of those  pollutants  which cause "acid rain" and ground level ozone
from  flue  gas  generated  by  burning   fossil  fuel.  The  NOXSO  Process  is
distinguishable from current conventional flue gas desulfurization  processes in
that it does not use liquids or slurries in a  "scrubber"  and does not generate
quantities of solid waste requiring disposal. More importantly,  it captures and
removes nitrogen oxides as well as sulfur oxides while conventional  "scrubbers"
capture and remove sulfur oxides only. The NOXSO Process uses sodium  (deposited
by a patented process which is part of

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the NOXSO Process  technology) on porous spheres of alumina (aluminum oxide), to
capture both sulfur oxides and nitrogen oxides contained in the flue gas.

     The  capture of both  sulfur  oxides and  nitrogen  oxides,  referred to as
sorption,  is  carried  out by  contacting  the flue gas with the NOXSO  Process
sorbent (sodium on alumina) as the flue gas exits the boilers, just before it is
discharged  to the power plant  chimney.  The flue gas leaving the NOXSO Process
sorption  vessel  contains small amounts of residual  sulfur oxides and nitrogen
oxides  as well as fine  particles  of coal ash and  minor  amounts  of  sorbent
"fines." A filtering system is used to remove this  particulate  matter prior to
release to the power  plant  chimney.  The  sorbent  material,  now  holding the
chemically-bound  sulfur oxides and nitrogen oxides is removed from the sorption
vessel and conveyed to the regeneration  portion of the NOXSO Process system. In
the regeneration  section, the sorbent is heated and treated using any number of
reducing  agents to form sulfur oxides and hydrogen  sulfides  which are further
processed to produce  elemental  sulfur.  The nitrogen  oxides released when the
sorbent is heated to regeneration  temperature are returned with air to the coal
combustor.  In the  combustor,  the nitrogen  oxides are reduced to nitrogen and
oxygen which are released to the atmosphere.  Alternatively, the nitrogen oxides
are  extracted  from a closed loop around the sorbent  heater and fed to a small
furnace specifically designed to convert nitrogen oxides to nitrogen and oxygen.
The hot combustion air returned to the combustor by the NOXSO Process results in
a heat credit which is used to offset  process  operating  costs.  The sulfur is
recovered (and can be sold),  and the nitrogen is released into the  atmosphere.
The sorbent, now regenerated and able to collect more sulfur oxides and nitrogen
oxides,  is cooled  and  returned  to the  sorption  vessel.  In  demonstrations
conducted  by  NOXSO  at its  pilot-scale  facility  at Ohio  Edison's  plant in
Toronto, Ohio, between 80% and 95% of the nitrogen oxide emissions and in excess
of 95% of the sulfur oxide emissions were simultaneously removed.

Regulatory Background

     The burning of coal, oil and gas as fuel for electric  power  generation in
power plants results in gases being released into the earth's  atmosphere.  This
gaseous emission is commonly referred to as "flue gas." Certain of the chemicals
and particles  contained in flue gas have been found to be harmful to man, other
animals, plants, lakes, forests and streams and to cause damage to paint, cloth,
building  materials and other  substances.  Some of these harmful  chemicals and
particles,  commonly referred to as air pollutants,  are the source of acid rain
and ground  level ozone and have been the subject of much  investigation  by the
scientific  community and, since the passage of the Clean Air Act, the object of
federal  government   regulation  through  the  actions  of  the  United  States
Environmental   Protection  Agency  (the  "EPA").  Of  the  many  potential  air
pollutants  contained  in flue gas from a coal-fired  power  plant,  only sulfur
dioxides  ("SO/2"),  nitrogen  oxides ("NOx") and  particulate  matter have been
regulated through imposition of emission limitations,  i.e., a limitation on the
amount of each  pollutant  that the  source (in this  case,  a power  plant) may
release  into  the  atmosphere.  Until  recently,  Federal  regulation  of these
emissions  applied  only to new power  plants that  commenced  operations  after
September 1978.


                                        8

<PAGE>

     The Clean Air Act,  when enacted into law in 1979,  established  new source
performance  standards  that  required  the  removal  of a minimum of 70% of the
sulfur  dioxide when  uncontrolled  emissions are less than 0.6 pounds of sulfur
dioxide  per  million  Btu  and a  minimum  of 90% of the  sulfur  dioxide  when
uncontrolled emissions are greater than or equal to 1.2 pounds of sulfur dioxide
per million  Btu.  When  uncontrolled  emissions  are between 0.6 and 1.2 pounds
(inclusive)  of SO/2,  the minimum  percentage  removed is computed on a sliding
scale and falls  between  70% and 90%.  With  respect to power  plants for which
construction was commenced between August 1971 and September 1978, the Clean Air
Act limited  sulfur  dioxide  emissions  to an  absolute  limit of 1.2 pounds of
sulfur  dioxide per million  Btu  through the use of either  low-sulfur  coal or
scrubbers, as selected by the plant operator.

     In 1990, amendments to the Clean Air Act were enacted into law that require
the utility  industry to reduce  emissions  of sulfur and  nitrogen  oxides from
existing  fossil-fuel-fired power plants. This legislation regulates all utility
power plants having a generating capacity of at least 25 megawatts regardless of
when  placed  into  service.  The  amendments  will force  drastic  cuts in SO/2
emissions and place caps on nationwide SO/2 and NO/x emissions from  fossil-fuel
boilers. The 1990 Clean Air Act amendments and regulations  thereunder establish
a "market-based" system, rather than the "command-and-control" system previously
used to control SO/2.

     The  law  provides  for a  two-phased  program  to  reduce  SO/2  emissions
nationwide  by 10 million tons from 1980  levels.  When fully  implemented,  the
amendments will limit  additional  annual emissions of SO/2 to 8.9 million tons.
Once reduced to this level,  electricity generators will be required to maintain
the level indefinitely,  regardless of capacity  additions.  Phase I, which went
into effect in 1995,  affects 261  boilers at 110 power  plants  which have been
identified  by EPA as having  the  highest  emissions.  Phase II,  which  begins
January 1, 2000,  will require the large  generators  to reduce  emissions by an
additional 50% and expand the program to  essentially  all  fossil-fuel  utility
boilers with  generating  capacity of 25  megawatts or more,  of which there are
approximately  2,000.  Industrial  units may become part of the program  through
certain "opt-in" provisions of the regulations.

     The EPA has promulgated a two-phased NO/x emission  reduction program under
Title IV of the Clean Air Act Amendments of 1990. Units affected by Phase I were
required to meet the  applicable  limits by January 1, 1996.  Units  affected by
Phase II are  required  to meet the  applicable  limits  by the year  2000.  The
program  is  intended  to result in a  reduction  in annual  NO/x  emissions  by
approximately  1.17  million  tons by the year 2000.  In order to provide a more
flexible  approach to emission  reduction,  states can petition EPA to accept an
emissions cap and trade program. This added flexibility is intended to encourage
states in the Ozone Transport Assessment Group to move toward a regional cap and
trade program for NO/x similar to that already in place for SO/2.

     In July 1997,  the EPA made final new,  more  stringent  air  standards for
ozone and fine  particles.  On October 10, 1997,  the EPA  proposed  targets for
reducing these pollutants in the Midwest,  South and along the east Coast of the
United  States.  The EPA proposal calls for  significant  reductions in nitrogen
oxide emissions from power plants in 22 states.  Ozone is produced when nitrogen
oxides and unburned

                                        9

<PAGE>



hydrocarbons  are exposed to sunlight.  Management  believes these  developments
will  have a  positive  effect  on the  market  for  technologies  that  achieve
significant  reductions in nitrogen oxide emissions from power plants (including
the NOXSO Process, if it proves successful).

     Under the SO/2 allowance  program,  each generator receives SO/2 Allowances
("Allowances") at the beginning of each year each of which, when used, allows it
to generate  one ton of SO/2  emissions  during the year of use. To the extent a
generator  does not expend  Allowances  in a year,  they can be  banked.  Banked
Allowances  can be applied to future use,  thus  enabling  facilities to execute
their  compliance  and  allowance   strategies  according  to  individual  plant
reduction  requirements,  system-wide  planning cycles, and  pollutant-reduction
requirements throughout their entire system. Allowances can also be sold for use
by others to enable them to emit SO/2.

     The  standards set by the 1990  amendments,  as they relate to sulfur oxide
emissions,  are unlikely to be met without the use of low sulfur fuels, flue gas
desulfurization  ("FGD") systems or certain advanced coal technologies now under
development  such as the NOXSO Process.  Available FGD systems,  commonly called
"scrubbers,"  present  operational  problems,  consume  energy  and,  except for
systems that  produce  gypsum as a byproduct,  generate  large  volumes of solid
waste  material  which  must be  disposed  of in an  environmentally  acceptable
manner.

Markets for the NOXSO Process

     The  Company  believes  that the size of the  potential  market  for  NOXSO
Process  treatment  plants  will  depend on a number of  factors.  The acid rain
provisions  of the  amendments  to the Clean Air Act passed by  Congress in 1990
impose  additional  restrictions on NO/x and SO/2 emissions at coal-fired  power
plants.  Facilities  regulated  under the law were  required  to comply with the
Phase I levels  by 1995 and  Phase II  levels  by the  year  2000.  The  Company
believes this  legislation  will increase demand for the NOXSO Process (if it is
proven successful) and competitive processes in and after the year 2000.

     According  to the DOE, in 1994,  52% of all  electricity  generated  in the
United States was generated by coal-burning power plants. Although concerns over
air quality impose  limitations  on the use of coal rather than cleaner  burning
oil and gas, the Company  believes that the increasing  dependency of the United
States on  foreign  oil and  limited  known  domestic  reserves  of oil and gas,
together  with the  increase  in energy  demand,  may result in coal  playing an
increasing  role in electrical  power  generation.  To the Company's  knowledge,
there are several new coal-burning  power plants planned for start-up within the
next five to ten years.  However,  to the  extent  existing  alternative  energy
sources become more  attractive or new energy sources are developed and prove to
be economically feasible, the use of coal as an energy source may decrease. This
would materially reduce the potential market for the NOXSO Process.

     The   Company   believes   that   the   utility   industry   will   require
commercial-scale  demonstration  of the NOXSO Process prior to committing to the
installation  of such a system to prove the technical and economic  viability of
the process. The Company has not located a site to construct

                                       10

<PAGE>



a commercial-scale  demonstration  facility or obtained the funding to construct
such a facility if a site is located.

     It is  anticipated  that, if the NOXSO  demonstration  is  successful,  the
Company's  revenues would be derived  principally  from royalties on the sale of
NOXSO  sorbent  and from  technology  license  fees for  licenses  of the  NOXSO
technology to energy  companies,  independent  power  producers,  or engineering
firms that design,  build, and install  pollution  control  equipment on new and
existing power plants.

Competition

     The  market  for  pollution  control  equipment  is  directly  impacted  by
environmental laws and regulations.  Federal,  state, and local governments have
enacted laws which set required  reductions  in pollutant  emissions  levels for
certain  industries or a specific source category within an industry by specific
dates.  The market for the NOXSO Process and the  competition for a share of the
market  is,  therefore,  dependent  upon  deadlines  set by  regulators  and the
commercial readiness of the NOXSO system.

     The pollution control business is highly  competitive.  Numerous  companies
are engaged in the construction of flue gas desulfurization  systems,  and there
are a few  companies  now  engaged in the  development  of  regenerable  systems
(systems which, like the NOXSO Process, do not produce sludge for disposal).  At
this time,  however,  the market is dominated by  companies  marketing  lime and
limestone systems (sludge producing systems).

     Many of the companies  engaged in the  development or  construction of flue
gas emission  control systems are  well-established  in this field. The dominant
companies in the United  States  include  Babcock & Wilcox  Company,  Asea Brown
Boveri, Wheelabrator,  Joy Bischoff and Pure Air. The Company does not intend to
construct  pollution  control  facilities  itself,  but, if the NOXSO Process is
successful, the Company will seek to license the technology to major engineering
firms engaged in the design and construction of pollution control equipment.

     In  addition  to  direct   competition  from  other  companies  engaged  in
development of flue gas desulfurization  systems, the Company's process, because
it relates to coal and high sulfur oil is in  competition  with other  available
energy  sources  such as gas,  nuclear  and solar  energy,  geo thermal and wind
power.  To the extent that any of these energy sources becomes more desirable or
that  coal  becomes  less  desirable  as  an  energy   source,   for  political,
environmental,  economic or other  reasons,  the ability of the NOXSO Process to
compete effectively may be adversely affected.

     Accordingly,  if the NOXSO  Process is  successful,  it will compete with a
number  of  different  technologies  on the  basis  of  technical  and  economic
viability.  In addition to being able to meet any required emission standards on
an operating basis, the NOXSO Process  treatment  facility must be operationally
cost efficient compared to alternative technologies.


                                       11

<PAGE>



Certain License Agreements

Agreements with Grace

     Since March 1982, Grace, which as of September 30, 1997 owned approximately
13.4% of the  Company's  Common  Stock,  has provided  technical  personnel  and
financial  support to the  Company in its effort to develop  the sorbent for the
NOXSO  Process.  Grace has  provided  different  versions  of the sorbent to the
Company for testing  during this period.  In 1987, the Company and Grace entered
into a series of  agreements  intended to advance the  development  of the NOXSO
Process,  including a research agreement (the "Research  Agreement"),  which has
expired, under which Grace provided funding of $400,000 per year for three years
for  testing  and  development  of the NOXSO  Process,  and a license and supply
agreement (the "Grace License Agreement"),  which continues in effect,  relating
to sorbent  technology.  Grace has no continuing  obligation with respect to the
development of the NOXSO Process or to provide funding to the Company.

     The Grace License  Agreement  provides,  inter alia, that Grace will pay to
the Company a commission  based on any sales by Grace or  suppliers  licensed by
Grace of  sorbent  to the users of the NOXSO  Process  at a  negotiated  rate of
between 6% and 10% of the net sales price of the sorbent. In addition, the Grace
License  Agreement  provides  that  Grace  will  receive a royalty  based on its
licensees'  sales of sorbent to the users of the NOXSO Process.  The License and
Supply Agreement  expires on September 11, 2007 unless Grace exercises its right
to earlier terminate the agreement upon four months advance notice. In the event
of  such  early  termination,  Grace  has  agreed  to  grant  to the  Company  a
royalty-free  exclusive license for certain sorbent  technology  relating to the
removal  and/or  recovery of sulfur oxides and nitrogen  oxides from  stationary
flue gas sources developed by the parties under the Research Agreement.

Agreements with FLS

     In March  1992,  the Company  entered  into a license  agreement  (the "FLS
License  Agreement") with FLS miljo a/s ("FLS"), a Danish corporation engaged in
the  construction  and design of utility  power  plants  and  pollution  control
equipment.  The FLS License Agreement authorizes FLS to market, sell, design and
construct NOXSO Process facilities in 33 countries  throughout Europe,  parts of
Asia and the countries  comprising  the former Soviet Union.  Upon entering into
the FLS License  Agreement,  FLS purchased  266,666 shares of common stock and a
warrant to purchase 133,334 additional shares (which warrant has expired without
being exercised) in consideration of $2 million.

     Under the FLS License  Agreement,  FLS must install the NOXSO Process on at
least  500  megawatts  of  coal-fired   electric  generating  capacity  annually
commencing  in March 1997 in order to maintain  its  license.  To the  Company's
knowledge,  no  installations  have been sold to date. FLS is required to pay to
the Company  royalties of (i) 3% of the installed  cost of the NOXSO Process and
5% of associated engineering fees if the system installed is completely of the

                                       12

<PAGE>



Company's  design,  or (ii) 2% of the installed cost of the NOXSO Process and 5%
of  associated  engineering  fees if the system  installed is modified  with FLS
technology.

     In March  1993,  FLS  entered  into an  agreement  with  ELKRAFT,  a Danish
utility,  for FLS to  design  and  construct  a  demonstration  plant of a seven
megawatt  facility in Denmark.  The construction of the project was completed in
1994 and the demonstration was completed by the Summer of 1997. To the Company's
knowledge, the demonstration,  to date, has met expectations as to SO/2 and NO/x
removal  rates.  The Company is not a party to this agreement and has no role in
the funding or operation of the project.  The Company does not presently  expect
to receive any royalty income on the FLS license before 1999 at the earliest.

Other Business

     In November 1995 the Company formed a 70%-owned  subsidiary,  PROJEX, Inc.,
to conduct a business utilizing the construction  management expertise available
to the Company in its development and demonstration of the NOXSO Process. PROJEX
provided  construction  management  support services and was also engaged by the
Company  to  supervise  construction  of the  Alcoa  Project  and the  Tennessee
Facility. In March 1997 the operations of PROJEX were shut down.

     The  Company  has  also  in  the  past   engaged  in  several   early-stage
developmental projects that are intended to utilize its engineering expertise to
develop other technologies,  processes,  sorbent and facilities to assist others
to comply with environmental laws. The Company is presently limiting its efforts
on these  projects to concentrate  on developing  and  implementing  its plan to
emerge from bankruptcy.

Patents

     The Company has eight United States patents,  one covering a method for the
removal  of  nitrogen  oxides  from a gas such as a flue  gas,  two  covering  a
regenerable  attrition resistant sorbent and related adsorption processes useful
for the removal of nitrogen  oxides,  sulfur oxides,  and hydrogen  sulfide from
waste gas streams such as a flue gas, and one covering a process for the removal
of nitrogen  oxides and/or sulfur oxides from a gas containing  nitrogen  oxides
and/or  sulfur  oxides such as a flue gas. The Company also was granted a United
States Patent covering its process for regenerating sorbent by removing nitrogen
oxides and sulfur oxides  contained by the sorbent,  two United  States  patents
covering removal of nitrogen and sulfur oxides from a flue gas using a transport
line absorber and a United States patent covering a down comer and flapper valve
used to transport sorbent through a multistage fluid bed adsorber. The Company's
United States patents expire on various dates ranging from 2005 to 2014.

     The Company holds one British patent covering both a regenerable  attrition
resistant  sorbent useful for the removal of nitrogen oxides,  sulfur oxides and
hydrogen sulfide from waste gas streams such as a flue gas and a process for the
removal of nitrogen oxides, sulfur oxides,  hydrogen sulfide or a mixture of one
or more thereof from a gas such as a flue gas. The

                                       13

<PAGE>



Company  holds  one  Canadian  patent  covering  both  a  regenerable  attrition
resistant  sorbent useful for the removal of nitrogen oxides,  sulfur oxides and
hydrogen  sulfide  from waste gas streams  such as a flue gas, and a process for
the removal of nitrogen oxides, sulfur oxides,  hydrogen sulfide or a mixture of
one or more thereof from a gas such as a flue gas. The Company holds one Mexican
patent  covering  sorbent and processes  for removing  nitrogen  oxides,  sulfur
oxides and hydrogen sulfide from gas streams, and one German patent covering the
same invention disclosed in the Mexican Patent.

     The Company also has two United  States patent  applications  pending which
cover  improvements to the NOXSO Process that were demonstrated at the Company's
pilot-scale  facility.  In August 1996, the European  Patent Office approved the
Company's  application  for a patent covering the removal of nitrogen oxides and
sulfur  oxides from flue gas using a  transport  line  adsorber.  The Company is
proceeding  to register or validate  this patent in Belgium,  Germany,  Denmark,
Spain, and the United Kingdom.

Employees

     The Company  currently has ten  full-time  employees.  These  employees are
responsible for managing the Company and the continued  development of the NOXSO
Process and the  management  and  analysis  of the results of the various  tests
being performed.  As a result of termination of the Alcoa Project  Agreement and
the Company's  bankruptcy,  the Company has significantly reduced its staff. The
Company  would be required to hire  additional  staff to develop and construct a
commercial-size  demonstration  facility, if a site for such facility is located
and funding to construct  such facility is obtained.  The Company is not a party
to any  collective  bargaining  agreement  and believes  that it has a favorable
relationship with its employees.

Risks; Forward Looking and Other Statements

     The statements above and elsewhere in this Report relating to the Company's
prospects  and its  ability to meet it various  objectives  are  forward-looking
statements.  Various  factors  could  prevent the Company from  realizing  these
objectives, including the following:

     The Company is presently operating as a debtor-in-possession  under Chapter
11 of the  Bankruptcy  Code.  The principal  elements of the  Company's  plan to
emerge from  bankruptcy are the sale of the Tennessee  Facility and the location
of a site and the obtaining of funding (including  reinstatement of DOE funding)
to construct a commercial-size demonstration of the NOXSO Process.

     Even  if  the  Company  is  able  to  locate  an   alternate   site  for  a
commercial-size  demonstration  facility and retain the DOE funding, the Company
will need to secure  significant  additional  funding in order to  continue as a
going concern and complete a commercial  demonstration facility. The Company has
never generated any significant  operating  revenue and does not anticipate that
it will generate  significant  operating revenue in the foreseeable  future. The
Company has secured certain  emergency  interim  debtor-in-possession  financing
(see "Funding

                                       14

<PAGE>



for the  Company's  Operations"  above) and has entered into an agreement  which
provides, subject to numerous conditions, for the sale of the Tennessee Facility
(see "The Olin Project -- Agreement with Republic Financial Corporation" above).
However,  funds  generated  from these sources would not be sufficient to permit
the  Company to  construct a  commercial-size  demonstration  facility,  and the
Company  does not  presently  have any  source  for any  significant  additional
funding.  Because of the reluctance of regulated  utilities to purchase  process
technology  which  has  not  been  tested  on a  commercial  scale,  due  to the
uncertainty  of  cost  considerations,  the  Company  believes  that  it will be
extremely  difficult  for the Company to market and sell the NOXSO Process if an
alternate  site for a  commercial  demonstration  facility is not located in the
near  future  or if  funding  for such a  facility,  both from the DOE and other
sources,  is not secured  promptly.  There can be no assurance  that the Company
will be successful in locating an alternate site, in obtaining DOE's approval to
utilize  DOE  funding  at  such a site or in  obtaining  the  needed  additional
funding. If the Company is unable to accomplish all of the foregoing objectives,
it may be necessary  for the Company to sell the rights to the NOXSO  Process in
the bankruptcy proceedings and to liquidate.  In such event, it is unlikely that
sufficient  funds will be generated to permit any distribution to be made to the
Company's stockholders.

     Although the Company and Republic have executed an Asset Purchase Agreement
relating to the sale of the  Tennessee  Facility,  consummation  of such sale is
subject  to a number of  conditions,  many of which are  outside  the  Company's
control.   See  "The  Olin  Project  --  Agreement   with   Republic   Financial
Corporation."  As a result,  there can be no  assurance  that the  Company  will
succeed in selling the Tennessee  Facility to Republic or to any other purchaser
at a satisfactory price.


Item 2. Properties

     The   Company   leases   approximately   4,170   square   feet  of  office,
administrative and research space in Bethel Park,  Pennsylvania.  The lease term
extends from June 1992 through May 1999.  The Company also leases  approximately
6,400 square feet of laboratory space in Clairton, Pennsylvania. The lease terms
extends from August 1994 through July 1998.

Item 3. Legal Proceedings

Calabrian Litigation

     In late  August  1996 a  complaint  was filed  against  the  Company in the
District   Court  of  Jefferson   County,   Texas,   by  Calabrian   Corporation
("Calabrian")  relating to a Purchase  Agreement  dated October 16, 1995 between
the Company and  Calabrian  (the  "Purchase  Agreement")  and a related  License
Agreement,  dated  effective as of  September  1, 1995,  between the Company and
Calabrian. Under the agreements, Calabrian agreed to supply to the Company for a
fixed price a portion of the Tennessee Facility to be constructed by the Company
for Olin Corporation.  The Tennessee Facility will convert elemental sulfur into
liquid sulfur  dioxide for use by Olin under the Olin  Agreement.  The complaint
alleges that the Company took over

                                       15

<PAGE>



direction  and   supervision   of  Calabrian's   subcontract   relating  to  the
construction  of components of the Tennessee  Facility,  disrupting  Calabrian's
plans with  respect to the facility and  constituting  an unlawful  interference
with Calabrian's contractual relationships with its subcontractors, and that the
Company defaulted in certain payment obligations to Calabrian under the Purchase
Agreement.   The  complaint   requests   damages  in  the  amount  of  $665,000,
representing  the  balance  of the fee  allegedly  owed to  Calabrian  under the
Purchase  Agreement,  unspecified  damages  caused  Calabrian as a result of the
alleged  interference with contract,  any additional damages caused Calabrian by
the Company's  conduct and an order  prohibiting  the Company from disclosing to
any third party,  other than Olin, any confidential and proprietary  information
of Calabrian.  The Company has removed the action to the United States  District
Court for the Eastern District of Texas, Beaumont Division.

     In October  1996,  Calabrian  amended its complaint to withdraw its request
for a temporary  and  permanent  injunction  enjoining  the  Company  from using
Calabrian's technology.

     The Company's  counsel has advised that it believes the causes of action in
Calabrian's  complaint  are without  merit.  The Company has filed an answer and
counterclaim denying the substantive allegations of the complaint and requesting
(i) actual damages caused the Company by Calabrian's  abandonment  and resulting
breach of its contracts with the Company without cause or justification  and for
tortious  interference  with its contract with Olin, (ii) exemplary damages as a
result of its tortious interference with the Olin contract,  (iii) the Company's
legal fees and costs,  and (iv) any and all other damages  caused the Company by
Calabrian's filing of an action against the Company that is without merit.

     This  litigation  has  been  stayed  as a  result  of the  pendency  of the
Company's bankruptcy proceedings.

Olin Litigation

     In April 1995,  the Company and Olin  entered  into the Olin  Agreement  to
construct the Tennessee  Facility to convert elemental sulfur into liquid sulfur
dioxide. The Tennessee Facility was substantially completed in January 1997, and
the Company and Olin had commenced startup of the Tennessee Facility in order to
cause it to become fully operational.  The Company received notice from Olin, by
letter dated January 30, 1997,  purporting to terminate the Olin  Agreement as a
result of alleged  defaults by the Company and claiming  that Olin had the right
to take title to the  Tennessee  Facility.  Olin's  notice also claimed that the
Company had  defaulted on the $1.874  million  note (the "Olin Note")  issued in
connection  with  a  loan  by  Olin  to  the  Company  as  partial  funding  for
construction of the Tennessee Facility.

     On February  4, 1997,  the  Company  sought and was  granted a  preliminary
injunction  against  Olin in the  Court of  Common  Pleas of  Allegheny  County,
Pennsylvania,  preventing Olin from (i)  terminating  the Olin  Agreement,  (ii)
taking any action in violation of the Company's title to the Tennessee Facility,
(iii) performing any work on the Tennessee  Facility,  (iv) interfering with the
Company's  completion  of the  Tennessee  Facility  or (v)  taking any action to
foreclose

                                       16

<PAGE>



against the Tennessee Facility.  In its complaint,  the Company also requested a
declaratory  judgment  requiring  Olin,  among  other  things,  to  perform  its
obligations  under  the  Olin  Agreement  and  a  permanent   injunction  having
substantially the same terms as the preliminary injunction.  In the alternative,
the  Company has sought  damages in excess of $32  million.  In its action,  the
Company contends,  among other things,  that it has committed no material breach
of  the  Olin  Agreement  and  that  the  Company  has  substantially  completed
construction  of the  Tennessee  Facility.  The Company also  contends  that the
parties had agreed to extend the January 31, 1997 due date for the Olin Note and
to set off the amount of the Olin Note against  purchase  price  payments  which
Olin is  obligated  to make on the  Tennessee  Facility  when it  becomes  fully
operational.  This  litigation has been  transferred to the  jurisdiction of the
Bankruptcy Court.

     In connection with the sale of the Tennessee  Facility  contemplated by the
Asset Purchase Agreement between the Company and Republic Financial  Corporation
("Republic"),  by  Stipulation  and Order of Court  entered  September  12, 1997
("Stipulation"),  Olin and the Company conditionally  resolved their disputes on
the following basis. In the event that the sale to Republic closes, Olin will be
entitled to payment at closing of claims  totaling  $5,705,828.84  plus  certain
accruals and less credits to the Company for liquid sulfur  dioxide  produced at
the Facility and used or stored by Olin since February 1, 1997. As of August 31,
1997,  those credits  totaled  $1,590,930.  Additionally,  at the closing on the
Republic  sale,  the  Company and Olin have  agreed to execute  mutual  releases
releasing  any and all other  claims or causes of action.  In the event that the
sale to Republic does not close, the Company and Olin will be entitled to pursue
any and all claims and lawsuits which they have against each other. However, any
claim  of  Olin  in  excess  of the  aggregate  sum as  agreed  pursuant  to the
Stipulation will be assertable  defensively by set-off and/or  counterclaim only
and will not result in any increase in the  aggregate  claims of Olin payable by
the Company. On October 2, 1997, Calabrian Corporation filed an Objection to the
Stipulation.  A hearing will be scheduled  by the  Bankruptcy  Court to consider
Calabrian's objection.

Bankruptcy Proceedings

     On February 6, 1997,  Olin,  FRU-CON  Construction  Company and  Industrial
Rubber & Safety  Products,  Inc.  filed an  involuntary  petition in  bankruptcy
against  the  Company  in the  United  States  Bankruptcy  Court in the  Eastern
District  of  Tennessee.  On June 4, 1997,  the  Company  (i)  consented  to the
jurisdiction  of the Court and was  adjudicated  bankrupt and (ii) converted the
bankruptcy to a proceeding under Chapter 11 of the Bankruptcy Code (case no. 97-
19709).  The Company is  presently  operating as a  debtor-in-possession  in the
proceeding.


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

     None.

                                       17

<PAGE>



                                     PART II

Item 5. Market for the  Registrant's  Common Stock and Related  Security  Holder
        Matters

Market Information

     The Company's common stock is traded on the  over-the-counter  market under
the symbol  "NOXSOQ".  Prior to June 4, 1997,  it was traded in the Nasdaq Small
Cap  Market  System.  The  following  table sets forth the range of high and low
closing bid  quotations of the common stock for each fiscal  quarter  within the
two most recent fiscal years.  The quotations  represent  prices between dealers
without  adjustment for retail  mark-ups,  mark-downs or commissions and may not
necessarily represent actual transactions.


           Fiscal Quarter Ended                                Bid Prices $
           --------------------                                ------------

                  1996                                      High         Low
                  ----                                      ----         ---
     September 30, 1995 (First Quarter)                     8.375        3.063
     December 31, 1995 (Second Quarter)                     6.750        4.625
     March 31, 1996 (Third Quarter)                         5.625        3.875
     June 30, 1996 (Fourth Quarter)                         5.875        3.875
     
                  1997
                  ----
     September 30, 1996 (First Quarter)                     6.875        4.00
     December 31, 1996 (Second Quarter)                     6.125        1.75
     March 31, 1997 (Third Quarter)                         4.5625       0.75
     June 30, 1997 (Fourth Quarter)                         1.50         0.25
     
                  1998
                  ----
     September 30, 1997 (First Quarter)                     0.75         0.125
     
     ---------------------------------
    
     The closing  price of the  Company's  common  stock was $0.25 on October 6,
1997.

Holders of the Company's Common Stock

     As of June 30,  1997 and  September  30,  1997,  respectively,  there  were
approximately 783 and 775 holders of the Company's common stock.


                                       18

<PAGE>



Dividends

     The Company has never paid cash  dividends on its common stock.  Payment of
dividends will be at the discretion of the Company's Board of Directors and will
depend,  among  other  factors,  upon  earnings,  capital  requirements  and the
operating  and  financial  condition  of  the  Company.  The  Company  does  not
anticipate paying cash dividends for the foreseeable future.

Item 6. Selected Financial Data

     The  following  selected  financial  data is  qualified  in its entirety by
reference to the Company's  Consolidated  Financial Statements and Notes thereto
appearing elsewhere herein. The selected financial data for the five years ended
June 30, 1997, has been derived from the Company's audited financial statements.


<TABLE>
<CAPTION>
   Operating Results                               Year Ended June 30,
   -----------------     -------------------------------------------------------------------------


                             1997           1996           1995           1994           1993
                             ----           ----           ----           ----           ----
<S>                      <C>            <C>            <C>            <C>            <C>        
Costs and Expenses ...   $ 7,411,804    $   556,132    $ 2,648,842    $ 3,125,312    $ 4,222,034

Net Loss .............    (6,011,352)      (394,269)    (1,760,658)    (1,931,657)    (2,292,197)

Per Share Data:
Net Loss Per Share ...         (0.59)         (0.04)         (0.20)         (0.22)         (0.30)

Weighted Average      
Number of Shares
Outstanding (in 000's)        10,109          9,308          8,777          8,645          7,723


<CAPTION>
   Financial Position                                    June 30,
   ------------------    -------------------------------------------------------------------------

                             1997           1996           1995           1994           1993
                             ----           ----           ----           ----           ----
<S>                      <C>           <C>             <C>            <C>            <C>         
Working Capital ...     (12,421,971)   $ (4,428,663)   $    583,359   $  1,808,399   $  3,578,616

Total Assets ......      12,176,786      11,199,396       3,423,873      3,690,130      4,964,195

Long-Term Debt ....            --              --              --             --             --

Total Stockholders'
Equity ............      (1,458,193)      3,104,454       1,510,629      1,914,415      3,708,560
</TABLE>


                                       19

<PAGE>



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

Overview

     The Company is a development  stage company and is  principally  engaged in
developing,  testing,  and  marketing  a process  that is a dry  post-combustion
emission control  technology  which uses a regenerable  sorbent to remove a high
percentage of the pollutants which cause "acid rain" and ground level ozone from
flue gas generated by burning fossil fuel.

     On June 4, 1997, the Company  consented to the  jurisdiction  of the United
States  Bankruptcy  Court in the Eastern  District of Tennessee (the "Bankruptcy
Court") and was adjudicated  bankrupt.  The Company is presently  operating as a
debtor-in-possession  in  the  bankruptcy  proceeding.  Under  an  order  of the
Bankruptcy Court entered on October 2, 1997, the Company has the exclusive right
to file a plan of reorganization until January 5, 1998.

Liquidity and Capital Resources

     Since inception,  the Company has dedicated substantially all its resources
to the  acquisition,  development  and  testing of the NOXSO  Process.  From the
beginning  of fiscal 1997 until  January 31, 1997,  the Company was  principally
engaged  in  (i)  the  design,  construction  and  operation  of a  facility  to
demonstrate the NOXSO Process at Alcoa's Warrick Generating Station in Newburgh,
Indiana  (the "Alcoa  Project")  and (ii) the  construction  of a facility  (the
"Tennessee  Facility")  at Olin's  plant in  Charleston,  Tennessee  to  convert
elemental sulfur, which is generated as a by-product of the NOXSO Process,  into
liquid sulfur dioxide (the "Olin Project") pursuant to a License,  Construction,
Lease and Sulfur Supply  Agreement (the "Olin  Agreement").  In connection  with
construction  of the Tennessee  Facility,  the Company became  obligated to Olin
under a loan (the "Olin  Loan") in the amount of $1.874  million  which Olin had
made to the  Company  in order to  provide  for  construction  of the  Tennessee
Facility  and to Praxair  for the  balance of the  approximately  $2.75  million
balance (plus late charges) of the contract  price for an air  separation  plant
supplied  to the  Company  by  Praxair as part of the  Tennessee  Facility.  See
"Efforts to Develop a Commercial  Demonstration  Facility" and "The Olin Project
-- Construction of the Tennessee Facility" in item 1.

     The Company  received  notice from Olin,  by letter dated January 30, 1997,
purporting  to terminate the Olin  Agreement as a result of alleged  defaults by
the Company and claiming  that Olin had the right to take title to the Tennessee
Facility.  Olin's notice also claimed that the Company had defaulted on the Olin
Loan.  The Company  commenced  litigation  against Olin in  connection  with its
purported  termination of the Olin Agreement.  In addition, on February 3, 1997,
Alcoa terminated the Alcoa Project  Agreement  because the Company was unable to
obtain the financing  required to complete the project by the  designated  date,
which was extended  several  times until  January 31,  1997.  As a result of the
termination of the Alcoa Project Agreement, the Company became obligated,  under
an amendment to its  Cooperative  Agreement with DOE, to repay DOE for all funds
provided by DOE for the Tennessee Facility, plus interest, calculated

                                       20

<PAGE>



pursuant to a formula contained in the agreement, from November 1, 1996. DOE has
filed a proof of claim as an unsecured  creditor in the amount of  approximately
$15 million in the Company's bankruptcy proceedings.

     On  February  6, 1997,  Olin and two of the  Company's  suppliers  filed an
involuntary  petition in  bankruptcy  against  the Company in the United  States
Bankruptcy Court in the Eastern District of Tennessee (the "Bankruptcy  Court").
On June 4, 1997, the Company (i) consented to the jurisdiction of the Bankruptcy
Court and was  adjudicated  bankrupt  and (ii)  converted  the  bankruptcy  to a
proceeding  under Chapter 11 of the  Bankruptcy  Code (case no.  97-19709).  The
Company is presently operating as a debtor-in-possession in the proceeding.  The
litigation  described  above  brought  by the  Company  against  Olin  has  been
transferred to the jurisdiction of the Bankruptcy Court.

     The  Company  is   currently   seeking  an   alternate   site  to  build  a
commercial-size  demonstration  of the NOXSO Process and to obtain approval from
the DOE to  utilize  funding  granted  by the DOE for the  Alcoa  Project  at an
alternate  site.  DOE is not  currently  providing  any funding to the  Company.
Location of an alternate site to build a commercial-size  demonstration facility
and obtaining the financing necessary to finance construction of such a facility
are  two of the  principal  elements  of  the  Company's  plan  to  emerge  from
bankruptcy.

     Even  if  the  Company  is  able  to  locate  an   alternate   site  for  a
commercial-size  demonstration  facility and retain the DOE funding, the Company
will need to secure  significant  additional  funding in order to  continue as a
going concern and complete a commercial  demonstration facility. The Company has
never generated any significant  operating  revenue and does not anticipate that
it will generate significant operating revenue in the foreseeable future. During
fiscal 1997,  the Company raised (i) an aggregate  amount of $1,095,500  through
private  placements  resulting  in  the  issuance  of  1,380,333  shares  of the
Company's Common Stock, par value $.01 per share ("Common Stock"),  and warrants
to purchase  1,097,133  shares of Common Stock at exercise  prices  ranging from
$1.50 to $.25  and  (ii)  $540,000  through  a  private  placement  pursuant  to
Regulation S of convertible  subordinated debentures (the "Debentures").  All of
the Debentures  were  converted into Common Stock,  resulting in the issuance of
3,551,042 shares of Common Stock. The Company has also secured certain emergency
interim   debtor-in-possession   financing   (see  "Funding  for  the  Company's
Operations" in item 1) and has entered into an agreement which provides, subject
to numerous  conditions,  for the sale of the Tennessee  Facility (see "The Olin
Project -- Agreement with Republic  Financial  Corporation" in item 1). However,
funds generated from these sources would not be sufficient to permit the Company
to construct a commercial-size  demonstration facility, and the Company does not
presently have any source for any significant additional funding. Because of the
reluctance of regulated  utilities to purchase process  technology which has not
been  tested  on  a  commercial   scale,   due  to  the   uncertainty   of  cost
considerations, the Company believes that it will be extremely difficult for the
Company  to  market  and sell  the  NOXSO  Process  if an  alternate  site for a
commercial  demonstration  facility  is not  located  in the near  future  or if
funding for such a facility, both from the DOE and other sources, is not secured
promptly.  There can be no  assurance  that the Company  will be  successful  in
locating an alternate  site, in obtaining  DOE's approval to utilize DOE funding
at such a site

                                       21

<PAGE>



or in  obtaining  the needed  additional  funding.  If the  Company is unable to
accomplish all of the foregoing objectives,  it may be necessary for the Company
to sell the rights to the NOXSO  Process in the  bankruptcy  proceedings  and to
liquidate. In such event, it is unlikely that sufficient funds will be generated
to permit any distribution to be made to the Company's stockholders.

     Although the Company and Republic have executed an Asset Purchase Agreement
relating to the sale of the  Tennessee  Facility,  consummation  of such sale is
subject  to a number of  conditions,  many of which are  outside  the  Company's
control. See "The Olin Project -- Agreement with Republic Financial Corporation"
in item 1. As a result,  there can be no assurance that the Company will succeed
in selling the  Tennessee  Facility to Republic or to any other  purchaser  at a
satisfactory price.

Results of Operations

     To  date,  the  Company  has not  derived  any  significant  revenues  from
operations.  Substantially  all  revenues  to date have  consisted  of  research
funding, government grants,  reimbursement of project costs and interest income,
aggregating  $9.7 million  through June 30, 1997. As a result of the significant
expenses  incurred from inception  through June 30, 1997 in connection  with the
acquisition,  development  and testing of the NOXSO Process,  as well as general
and  administrative  expenses  that  have  been  incurred,  the  Company  had an
accumulated  deficit of $17.9 million at June 30, 1997. Since inception  through
June 30,  1997,  the  Company's  total costs and  expenses  were $27.6  million,
including $8.5 million relating to salaries and benefits.

     Total funding,  interest income, reimbursement  of project costs and sulfur
dioxide  processing  revenue for the fiscal years ended June 30,  1997,1996  and
1995 were $1.4 million, $0.2 million and $0.9 million, respectively, while total
costs and expenses for the same periods were $7.4 million, $0.6 million and $2.6
million,  respectively.  The  decrease in revenues and the decrease in costs and
expenses  from  fiscal  1995 to fiscal 1996 was due to the fact that the Company
had begun  capitalizing its costs related to the Alcoa Project and the Tennessee
Facility  and the DOE's  portion of the costs and  revenues  were  being  offset
against the  construction-in-progress.  Because of the  termination of the Alcoa
Project  Agreement,  costs  relating  to the  Alcoa  Project  can no  longer  be
capitalized,  and $2.1 million of such costs were written off in fiscal 1997. In
addition,   significant   other   costs,   such  as  salaries  and  general  and
administrative  expenses,  during  fiscal  1997 were not  related to any ongoing
project and, accordingly, were expensed. Depreciation and amortization increased
by  $0.66  million  because  the  Tennessee  Facility  is  completed  and is now
classified as plant and is accordingly being  depreciated.  The Company has also
recognized a $1.5 million loss on  impairment  of asset related to the Tennessee
Facility.  Primarily  for these  reasons,  costs and expenses  increased by $6.8
million  in  fiscal  1997  over  fiscal  1996.  The  Tennessee  Facility  became
operational in 1997, and the Company had revenue and operating expenses relating
to the Tennessee  Facility for the first time.  In fiscal 1997,  the Company had
revenue of $0.86 million  relating to the sale of liquid sulfur dioxide produced
at the  Tennessee  Facility  and  incurred  expenses  of $1.3  million in sulfur
dioxide processing costs.

New Accounting Pronouncements

     The Financial  Accounting  Standards Board (FASB) recently issued Statement
of Financial  Accounting Standards (SFAS) No. 128, "Earnings Per Share" and SFAS
No. 129,  "Disclosure of Information about Capital Structures." SFAS No. 128 was
issued in February 1997 and is effective for periods  ending after  December 15,
1997.  This statement,  upon adoption,  will require all prior year earnings per
share (EPS) data to be restated to conform to the  provisions of the  statement.
This  statement's  objective is to simplify the  computations of EPS and to make
the  U.S.  standard  for  EPS  computations  more  compatible  with  that of the
International  Accounting Standards  Committee.  The Company will adopt SFAS No.
128 in  fiscal  1998 and does not  anticipate  that the  statement  will  have a
significant on its reported EPS.

     SFAS No. 129 was  issued in  February  1997 and is  effective  for  periods
ending after December 15, 1997. This statement,  upon adoption, will require all
companies to provide specific  disclosure  regarding their capital structure and
the contractual rights of the holders of such securities. The company will adopt
SFAS No. 129 in fiscal 1998 and does not anticipate that the statement will have
a significant on its disclosures.




                                       22

<PAGE>



Item 8. Financial Statements and Supplementary Data



                                NOXSO CORPORATION
                        (A Development Stage Enterprise)

                          INDEX TO FINANCIAL STATEMENTS
                          -----------------------------


                                                                            Page
                                                                            ----

Report of Independent Public Accountants

Financial Statements:

  Consolidated Balance Sheets June 30, 1997 and 1996

  Consolidated Statements of Operations for the Cumulative
    Period from Inception to June 30, 1997, and for the 
    Years Ended June 30, 1997, 1996 and 1995

  Consolidated Statements of Changes in Stockholders' Equity
    for the Cumulative Period from Inception to June 30, 1997,
    and for the Years Ended June 30, 1997, 1996 and 1995

  Consolidated Statements of Cash Flows for the Cumulative
    Period from Inception to June 30, 1997, and for the Years
    Ended June 30, 1997, 1996 and 1995

  Notes to Consolidated Financial Statements


All other  schedules have been omitted  because the required  information is not
applicable or the  information is included in the financial  statements or notes
thereto





                                       23

<PAGE>


Item 8. Financial Statements and Supplementary Data



                                NOXSO CORPORATION
                        (A Development Stage Enterprise)

                          INDEX TO FINANCIAL STATEMENTS


                                                                          Page
                                                                          ----

Report of Independent Public Accountants                                   

Financial Statements:

   Consolidated Balance Sheets as of June 30, 1997 and 1996                

   Consolidated   Statements  of  Operations  for  the  
     Cumulative  Period  from Inception to June 30, 1997,
     and for the Years Ended June 30, 1997, 1996 and 1995 
                                                                           

   Consolidated Statements of Changes in
     Stockholders' Equity for the Cumulative
     Period from Inception to June 30, 1997, and for
     the Years Ended June 30, 1997, 1996 and 1995                          

   Consolidated  Statements  of  Cash  Flows  for  the  
     Cumulative  Period  from  Inception to June 30, 1997,
     and for the Years Ended June 30, 1997, 1996 and 1995
                                                                           

   Notes to Consolidated Financial Statements                              


All other  schedules have been omitted  because the required  information is not
applicable or the  information is included in the financial  statements or notes
thereto.


<PAGE>


                                NOXSO CORPORATION
                        (A Development Stage Enterprise)

                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

To the Board of Directors of
   NOXSO Corporation

We  have  audited  the  accompanying   consolidated   balance  sheets  of  NOXSO
Corporation (a Virginia  corporation in the development stage) and subsidiary as
of  June  30,  1997  and  1996,  and  the  related  consolidated  statements  of
operations, changes in stockholders' equity and cash flows for each of the three
years in the period  ended June 30, 1997.  These  financial  statements  are the
responsibility of the Company's management.  Our responsibility is to express an
opinion on these financial statements based on our audits.

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

Generally accepted accounting  principles  recommend,  but do not require,  that
companies change their method of accounting for stock-based  compensation  plans
to  one  that  attributes  costs  equal  to  the  fair  value  of a  stock-based
compensation  arrangement  over  the  periods  in  which  service  is  rendered.
Companies not electing to change their method of accounting are required,  among
other  things,  to  provide  additional  disclosure  which in effect  restates a
company's results for comparative periods as if the new method of accounting had
been adopted.  As more fully  explained in Note 17 to the financial  statements,
the Company  elected not to adopt the  recognition  provisions  of  Statement of
Financial   Accounting  Standard  No.  123  (SFAS  No.  123),   "Accounting  for
Stock-Based  Compensation,"  and has not  complied  with the related  disclosure
requirements.

In our opinion, except for the effects of not adopting SFAS No. 123 as discussed
in the preceeding paragraph,  the financial statements referred to above present
fairly, in all material respects,  the consolidated  financial position of NOXSO
Corporation  and subsidiary as of June 30, 1997 and 1996,  and the  consolidated
results of their  operations and their cash flows for each of the three years in
the period ended June 30, 1997, in conformity with generally accepted accounting
principles.

The accompanying  consolidated  financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 3 to the
consolidated financial statements,  the Company has never generated revenue from
operations  as it has yet been  unsuccessful  in  obtaining  a host site for the
Full-Scale  Demonstration  Facility to implement the Noxso process. In addition,
as described in Note 1 to the accompanying consolidated financial statements, on
February 6, 1997, Olin  Corporation and two of the Company's  suppliers filed an
involuntary  petition in  bankruptcy  against  the Company in the United  States
Bankruptcy Court in the Eastern District of Tennessee (the "Bankruptcy  Court").
On June 4, 1997,  the Company  consented to the  jurisdiction  of the Bankruptcy
Court and was adjudicated  bankrupt and converted the bankruptcy to a proceeding
under Chapter 11 of the U.S. Bankruptcy Code. These matters, among others, raise
substantial  doubt about the Company's  ability to continue as a going  concern.
Management's  plans in regard to these  matters,  including its intent to file a
plan of  reorganization  that will be  acceptable to the Court and the Company's
creditors,  are also described in Note 3. In the event a plan of  reorganization
is  accepted,  continuation  of the  business  thereafter  is  dependent  on the
Company's  ability to achieve  successful  future  operations.  The accompanying
consolidated financial statements do not include any adjustments relating to the
recoverability  and  classification of recorded asset amounts or the amounts and
classification  of  liabilities  that might be  necessary  should the Company be
unable to continue as a going concern.

                                                           ARTHUR ANDERSEN LLP

Pittsburgh, Pennsylvania
September 30, 1997, except
for the matters discussed 
in Notes 1, 3, and 14 as 
to which the date is 
October 2, 1997.


<PAGE>


                                NOXSO Corporation
                        (A Development Stage Enterprise)
                           CONSOLIDATED BALANCE SHEETS

                                ASSETS              June 30, 1997  June 30, 1996
                                                    -------------  -------------
CURRENT ASSETS:
  Cash and equivalents                                 $   47,470   $  464,723
  Bank certificate of deposit                           1,000,000    1,000,000
  Accounts receivable                                      65,760    2,163,420
  Prepaid expenses and other current assets                99,778       38,136
                                                        ---------    ---------
         Total Current Assets                           1,213,008    3,666,279
                                                        ---------    ---------

PROPERTY AND EQUIPMENT:
  Plant                                                11,532,124         --
  Equipment                                               339,931      341,936
  Furniture and Fixtures                                  108,832      111,661
  Leasehold improvements                                   16,646       16,646
  Construction in progress                                 44,975    7,469,545
                                                        ---------    ---------
                                                       12,042,508    7,939,788
  Less: Accumulated depreciation                       (1,083,038)    (412,151)
                                                        ---------    ---------
                                                       10,959,470    7,527,637
                                                       ----------    ---------

  Other assets                                               --          1,172
  Deposits                                                  4,308        4,308
                                                        ---------    ---------
         Total Assets                                 $12,176,786  $11,199,396
                                                        =========    =========

                      LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES NOT SUBJECT TO COMPROMISE:
  Notes payable                                        $2,922,500   $2,874,000
  Accounts payable                                      5,475,428    3,424,692
  Accrued compensation                                     26,021       98,975
  Advanced billings                                          --      1,379,549
  Deferred income taxes                                   120,294         --
  Other current liabilities                               578,055      290,945
  Minority interest in consolidated subsidiary             24,300       26,781
                                                        ---------    ---------
         Total Liabilities Not Subject To Compromise    9,146,598    8,094,942
                                                        ---------    ---------

PREPETITION LIABILITIES SUBJECT TO COMPROMISE:          4,488,381         --

COMMITMENTS
STOCKHOLDERS' EQUITY (DEFICIT):
  Common stock, $.01 par value: Authorized,
      20,000,000 shares. Issued and outstanding 
      11,264,740 shares and
      9,652,096 shares, respectively                      110,649       96,523
  Paid-in capital                                      16,349,532   14,914,953
  Deficit accumulated during the development stage    (17,893,374) (11,882,022)
                                                       ----------    ---------
                                                       (1,433,193)   3,129,454
  Less: Cost of 2,985 shares of
      common stock held in treasury                       (25,000)     (25,000)
                                                       ----------    ---------
         Total Stockholders' Equity (Deficit)          (1,458,193)   3,104,454
                                                       ----------    ---------
         Total Liabilities and Stockholders' Equity   $12,176,786  $11,199,396
                                                      ===========  ===========

See accompanying notes to consolidated financial statements.


<PAGE>


                                NOXSO Corporation
                        (A Development Stage Enterprise)
                      CONSOLIDATED STATEMENT OF OPERATIONS


<TABLE>
<CAPTION>
                                                            Date of Inception,              Fiscal Year Ended June 30,
                                                             August 28, 1979,   ----------------------------------------------------
                                                            to June 30, 1997          1997                1996                1995
                                                            ----------------          ----                ----                ----
                                                            (Not covered by
                                                           auditor's report)
<S>                                                           <C>                <C>                <C>                  <C>
  COSTS AND EXPENSES:

  Purchase of NOXSO Process                                   $    260,625       $       --         $       --         $       --
  Contract development - concept testing                         1,169,759               --                 --                 --
  Contract development - demonstration testing                   1,727,715               --                 --              767,387
  Designing, drafting and consulting                             1,122,653             15,362              4,750             38,679
  Supplies, instruments and equipment                            1,992,287             38,243             19,520             83,102
  Depreciation and amortization                                  1,222,210            689,277             33,101             32,440
  Other research and development                                   386,309               --                 --               43,969
  Salaries and benefits                                          8,460,526            845,608            175,633          1,108,250
  Professional fees                                              1,845,120            263,326             33,323            194,023
  Rent                                                             624,661            105,078             33,501            125,628
  Income tax expense                                               116,733             83,552             33,181               --
  Other general administrative                                   3,794,572            498,677            223,123            255,364
  Sulfur dioxide processing costs                                1,280,532          1,280,532               --                 --
  Loss on impairment of asset                                    1,496,935          1,496,935               --                 --
  ALCOA Project Expense                                          2,095,124          2,095,124               --                 --
                                                              ------------       ------------       ------------       ------------
TOTAL COSTS AND EXPENSES                                        27,595,761          7,411,804            556,132          2,648,842
                                                              ------------       ------------       ------------       ------------

LESS FUNDING AND OTHER:
  Funding of research agreement                                  1,200,000               --                 --                 --
  Reimbursement of project costs                                 4,992,031             92,059             45,782            793,086
  Government grant                                               1,128,020               --                 --               39,863
  Sulfur dioxide processing revenue                                863,940            863,940               --                 --
  Interest income                                                1,096,306             57,984             81,560             55,235
  Other                                                            446,955            383,688             61,002               --
                                                              ------------       ------------       ------------       ------------
TOTAL FUNDING AND OTHER                                          9,727,252          1,397,671            188,344            888,184
                                                              ------------       ------------       ------------       ------------
  Minority interest in net income of
      consolidated subsidiary                                       23,700             (2,781)            26,481               --
NET LOSS                                                      $(17,892,209)      $ (6,011,352)      $   (394,269)      $ (1,760,658)
                                                              ============       ============       ============       ============

LOSS PER COMMON SHARE                                                            $      (0.59)      $      (0.04)      $      (0.20)

AVERAGE NUMBER OF SHARES
  OUTSTANDING                                                                      10,109,179          9,308,394          8,776,817
                                                                                 ============       ============       ============
</TABLE>

See accompanying notes to consolidated financial statements.


<PAGE>


               NOXSO CORPORATION (A Development Stage Enterprise)

           CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
       FOR THE PERIOD AUGUST 28, 1979, DATE OF INCEPTION, TO JUNE 30 1997

<TABLE>
<CAPTION>
                                                        Stockholders' Equity
------------------------------------------------------------------------------------------------------------------------------------
                                                     Consideration                Common Stock         Deficit Accumu-
                                                  ------------------           ------------------       lated During
                                                   Per                        Shares          Par         Paid-in        Development
                                                  Share        Total          Issued         Value        Capital          Stage    
                                                  -----        -----          ------         -----        -------          -----    
<S>                                              <C>     <C>                 <C>        <C>            <C>            <C>          
AUGUST 28, 1979 (INCEPTION)
TO JUNE 30, 1991 (not covered by auditor's report):
  1979 - Issuance of Common Stock                $ .005  $       600(1)       120,000   $     1,200    $      (600)   $      --    
  1980 - Issuance of Common Stock                  .563      956,250(2)     1,700,000        17,000        791,382           --    
  1980 - Issuance of Warrants                       --           850(3)          --            --              850           --    
  1983 - Issuance of Common Stock                  .2813      28,125(4)       100,000         1,000         27,125           --    
  1986 - Issuance of Common Stock                  .125      155,000(1)     1,240,000        12,400        142,600           --    
  1986 - Issuance of Common Stock                  .125       32,500(5)       260,000         2,600         29,900           --    
  1987 - Issuance of Common Stock                  .50       134,000(1)       268,000         2,680        131,320           --    
  1987 - Issuance of Common Stock                  .50        42,900(5)        85,800           858         42,042           --    
  1988 - Issuance of Stock Option                            250,000(6)          --            --          250,000           --    
  1989 - Issuance of Common Stock                  .675       27,000(7)        40,000           400         26,600           --    
  1989 - Issuance of Common Stock                  .50       147,500(8)       295,000         2,950        144,550           --    
  1989 - Issuance of Common Stock                 2.50     4,000,000(2)     1,600,000        16,000      3,174,721           --    
  1989 - Issuance of Warrants                                     80(3)          --            --               80           --    
  1991 - Issuance of Common Stock                 1.129      569,464(9)       504,620         5,046        564,418           --    
  1991 - Issuance of Common Stock                  .675       27,000(7)        40,000           400         26,600           --    
  1991 - Issuance of Common Stock                  .675       27,000(9)        40,000           400         26,600           --    
  Net loss                                                                       --            --             --       (3,278,694) 
                                                                          -----------   -----------    -----------    -----------  
BALANCE, JUNE 30, 1991                                                      6,293,420   $    62,934    $ 5,378,188    $(3,278,694) 

<CAPTION>
                                                        Stockholders' Equity
------------------------------------------------------------------------------------------
                                                                    Notes  
                                                                  Receivable 
                                                     Treasury   for Purchase of
                                                      Stock      Common Stock      Total
                                                      -----      ------------      -----
<S>                                              <C>            <C>            <C>        
AUGUST 28, 1979 (INCEPTION)
TO JUNE 30, 1991 (not covered by auditor's report):
  1979 - Issuance of Common Stock                $      --      $      --      $       600
  1980 - Issuance of Common Stock                       --             --          808,382
  1980 - Issuance of Warrants                           --             --              850
  1983 - Issuance of Common Stock                       --             --           28,125
  1986 - Issuance of Common Stock                       --             --          155,000
  1986 - Issuance of Common Stock                       --             --           32,500
  1987 - Issuance of Common Stock                       --             --          134,000
  1987 - Issuance of Common Stock                       --             --           42,900
  1988 - Issuance of Stock Option                       --             --          250,000
  1989 - Issuance of Common Stock                       --          (27,000)          --
  1989 - Issuance of Common Stock                       --          (30,000)       117,500
  1989 - Issuance of Common Stock                       --             --        3,190,721
  1989 - Issuance of Warrants                           --             --               80
  1991 - Issuance of Common Stock                       --             --          569,464
  1991 - Issuance of Common Stock                       --          (27,000)          --
  1991 - Issuance of Common Stock                       --             --           27,000
  Net loss                                              --             --       (3,278,694)
                                                 -----------    -----------    -----------
BALANCE, JUNE 30, 1991                           $      --      $   (84,000)   $ 2,078,428
</TABLE>

(1)  Sale of common stock for cash.
(2)  Proceeds of public offering.
(3)  Sale of warrants for cash.
(4)  Value assigned to common stock issued in connection  with purchase of NOXSO
     Process. 
(5)  Value assigned to common stock issued for compensation and services.
(6)  Sale of common stock option.
(7)  Stock  issued in  connection  with  exercise of common  stock  warrants and
     options for notes receivable.
(8)  Stock issued in connection with exercise of common stock purchase  warrants
     for $117,500 cash and a $30,000 note receivable.
(9)  Stock issued in connection with exercise of common stock option agreements.


See accompanying notes to consolidated financial statements.


<PAGE>


               NOXSO CORPORATION (A Development Stage Enterprise)

           CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
 FOR THE PERIOD AUGUST 28, 1979, DATE OF INCEPTION, TO JUNE 30, 1997 (continued)

<TABLE>
<CAPTION>
                                                        Stockholders' Equity
------------------------------------------------------------------------------------------------------------------------------------
                                                   Consideration                  Common Stock                      Deficit Accumu- 
                                                ------------------            --------------------                    lated During  
                                                 Per                          Shares           Par         Paid-in     Development  
                                                Share        Total            Issued          Value        Capital        Stage     
                                                -----        -----            ------          -----        -------  ----------------
<S>                                             <C>     <C>                    <C>       <C>            <C>            <C>          
YEAR ENDED JUNE 30, 1992: (not covered in auditor's report)
  Issuance of Common Stock                      $1.129  $   683,356(9)         605,544   $     6,056    $   677,300    $      --    
  Issuance of Common Stock                        7.50    2,000,000(1)         266,666         2,666      1,997,334           --    
  Issuance of Common Stock                        2.75        5,500(9)           2,000            20          5,480           --    
  Issuance of Common Stock                        2.00       69,124(10)         34,562           346         68,778           --    
  Issuance of Common Stock                                         (11)        116,500         1,165          --           (1,165)  
  Satisfaction of notes receivable                              --               --            --             --              --    
  Net loss                                                                       --            --             --       (2,223,382)  
                                                                            ---------   -----------    -----------    -----------   
BALANCE, JUNE 30, 1992                                                      7,318,692        73,187      8,127,080     (5,503,241)  

YEAR ENDED JUNE 30, 1993: (not covered in auditor's report)
 Issuance of Common Stock                         1.129    683,356(9)         605,544         6,056        677,300           --     
 Issuance of Common Stock                         2.04      26,260(9)          12,866           129         26,131           --     
 Issuance of Common Stock                          .50                         50,000           500         24,500           --   
 Acquisition of Common Stock for treasury                     --                 --            --             --           
 Satisfaction of notes receivable                             --                 --            --             --             --     
 Issuance of Common Stock                         5.00   2,594,115(16)        571,250         5,712      2,588,403           --     
 Net loss                                                                        --            --             --       (2,292,197)  
                                                                            ---------   -----------    -----------    -----------   
BALANCE, JUNE 30, 1993                                                      8,558,352        85,584     11,443,414     (7,795,438)  

YEAR ENDED JUNE 30, 1994: (not covered in auditor's report)
  Issuance of Common Stock                        1.129    113,888(9)         100,920         1,009        112,879           --     
  Issuance of Common Stock                        2.00      23,624(13)         11,812           118         23,506           --     
  Net loss                                                                       --            --             --       (1,931,657)  
                                                                            ---------   -----------    -----------    -----------   
BALANCE, JUNE 30, 1994                                                      8,671,084   $    86,711    $11,579,799    $(9,727,095)  

<CAPTION>
                                                        Stockholders' Equity
------------------------------------------------------------------------------------------
                                                                     Notes
                                                                   Receivable
                                                    Treasury     for Purchase of 
                                                      Stock      Common Stock       Total
                                                      -----      ------------       -----
<S>                                               <C>            <C>            <C>
YEAR ENDED JUNE 30, 1992: (not covered in auditor's report)
  Issuance of Common Stock                        $      --      $      --      $   683,356
  Issuance of Common Stock                               --             --        2,000,000
  Issuance of Common Stock                               --             --            5,500
  Issuance of Common Stock                               --             --           69,124
  Issuance of Common Stock                               --             --             --
  Satisfaction of notes receivable                       --           57,000(12)     57,000
  Net loss                                               --             --       (2,223,382)
                                                  -----------    -----------    -----------
BALANCE, JUNE 30, 1992                                   --          (27,000)     2,670,026

YEAR ENDED JUNE 30, 1993: (not covered in auditor's report)
 Issuance of Common Stock                                --             --          683,356
 Issuance of Common Stock                                --             --           26,260
 Issuance of Common Stock                                --          (25,000)          --
 Acquisition of Common Stock for treasury              25,000(15)     25,000(15)       --
 Satisfaction of notes receivable                        --           27,000(14)     27,000
 Issuance of Common Stock                                --             --        2,594,115
 Net loss                                                --             --       (2,292,197)
                                                  -----------    -----------    -----------
BALANCE, JUNE 30, 1993                                (25,000)          --        3,708,560

YEAR ENDED JUNE 30, 1994: (not covered by auditor's report)
  Issuance of Common Stock                               --             --          113,888
  Issuance of Common Stock                               --             --           23,624
  Net loss                                               --             --       (1,931,657)
                                                  -----------    -----------    -----------
BALANCE, JUNE 30, 1994                            $   (25,000)   $      --      $ 1,914,415
</TABLE>

(1)  Sale of common stock for cash.
(9)  Stock issued in connection with exercise of common stock option agreements.

(10) Stock  issued  in   connection   with  exercise  of  common  stock  warrant
     agreements.
(11) Stock issued in exchange for warrant.
(12) Compensation in satisfaction of notes receivable.
(13) Stock issued in connection with exercise of common stock warrants.
(14) Payment in satisfaction of note receivable.
(15) Acquisition  of 2,985  shares of treasury  stock in  satisfaction  of notes
     receivable.
(16) Stock issued in connection with private placement.

See  accompanying notes to consolidated financial statements.


<PAGE>


               NOXSO CORPORATION (A Development Stage Enterprise)

           CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
 FOR THE PERIOD AUGUST 28, 1979, DATE OF INCEPTION, TO JUNE 30, 1997 (continued)

<TABLE>
<CAPTION>
                                                        Stockholders' Equity
-----------------------------------------------------------------------------------------------------------
                                                                                                         
                                          Consideration                        Common Stock              
                                       ------------------          -------------------------------------
                                        Per                         Shares           Par         Paid-in   
                                       Share        Total           Issued          Value        Capital
                                       -----        -----           ------          -----        -------
<S>                                     <C>       <C>                <C>               <C>          <C>    
YEAR ENDED JUNE 30, 1995:
  Issuance of Common Stock              2.00      47,252(10)         23,626            236          47,016 
  Issuance of Common Stock              2.75      11,000(9)           4,000             40          10,960 
  Issuance of Common Stock              3.85     497,500(16)        150,000          1,500         496,000 
  Issuance of Common Stock              3.56     800,795(16)        250,000          2,500         798,295 
  Issuance of Common Stock              3.25         325(17)            100              1             324 
  Net loss                                                             --             --              --   
                                                               ------------   ------------    ------------ 
BALANCE, JUNE 30, 1995                                            9,098,810   $     90,988    $ 12,932,394 
                                                               ------------   ------------    ------------ 
YEAR ENDED JUNE 30, 1996:
  Issuance of Common Stock              3.25      81,250(9)          25,000            250          81,000 
  Issuance of Common Stock              1.91      19,063(9)          10,000            100          18,963 
  Issuance of Common Stock              3.625      5,438(9)           1,500             15           5,423 
  Issuance of Common Stock              3.625      1,813(9)             500              5           1,808 
  Issuance of Common Stock              4.55     409,725(16)        100,000          1,000         408,725 
  Issuance of Common Stock              4.54     408,375(16)        100,000          1,000         407,375 
  Issuance of Common Stock              4.56      45,626(9)          10,000            100          45,526 
  Issuance of Common Stock              3.625      9,063(9)           2,500             25           9,038 
  Issuance of Common Stock              3.625      2,719(9)             750              8           2,711 
  Issuance of Common Stock              3.625      1,812                500              5           1,807 
  Issuance of Common Stock              3.21     503,209(16)        156,763          1,569         501,640 
  Issuance of Common Stock              3.425    500,003(16)        145,773          1,458         498,543 
  Net loss                                                             --             --              --   
                                                               ------------   ------------    ------------ 
BALANCE, JUNE 30, 1996                                            9,652,096   $     96,523    $ 14,914,953 
                                                               ============   ============    ============ 
YEAR ENDED JUNE 30, 1997:
  Issuance of Common Stock              3.63      27,186(9)           7,500             75          27,111 
  Issuance of Common Stock              1.50      99,000(16)         66,000            660          98,340 
  Issuance of Common Stock              1.50     351,000(16)        234,000          2,340         348,660 
  Issuance of Common Stock              1.50     150,000(16)        100,000          1,000         149,000 
  Issuance of Common Stock              1.50       5,000(16)          3,333             33           4,967 
  Issuance of Common Stock              1.50       5,000(16)          3,333             33           4,967 
  Issuance of Common Stock              1.50      35,500(16)         23,667            237          35,263 
  Issuance of Common Stock              1.50     300,000(16)        200,000          2,000         298,000 
  Issuance of Common Stock              0.00        --  (16)        200,000           --              --
  Issuance of Common Stock              0.26      40,000(17)        154,811          1,548          38,452 
  Issuance of Common Stock              0.25     100,000(16)        400,000          4,000          96,000 
  Issuance of Common Stock              0.63      43,750(18)         70,000            700          43,050 
  Issuance of Common Stock              0.00         750(19)         75,000            750            --
  Issuance of Common Stock              0.00         750(19)         75,000            750            --
  Deferred Debt Discount                                               --             --           290,769 
Net loss                                                               --             --              --   
                                                               ------------   ------------    ------------ 
BALANCE, JUNE 30, 1997                                           11,264,740   $    110,649    $ 16,349,532 
                                                               ============   ============    ============ 

<CAPTION>
                                                        Stockholders' Equity
------------------------------------------------------------------------------------------
                                        Deficit Accumu-                Notes 
                                         lated During                Receivable
                                         Development     Treasury  for Purchase of
                                           Stage           Stock    Common Stock     Total
                                           -----           -----  ----------------   -----
YEAR ENDED JUNE 30, 1995
  Issuance of Common Stock                     --             --        --          47,252
  Issuance of Common Stock                     --             --        --          11,000
  Issuance of Common Stock                     --             --        --         497,500
  Issuance of Common Stock                     --             --        --         800,795
  Issuance of Common Stock                     --             --        --             325
  Net loss                               (1,931,657)          --        --      (1,760,658)
                                      -------------   ------------      ---   ------------
BALANCE, JUNE 30, 1995                $ (11,487,753)  $    (25,000)   $ --    $  1,510,629
                                      =============   ============      ===   ============
                                                                      
YEAR ENDED JUNE 30, 1996:                                             
  Issuance of Common Stock                     --             --        --          81,250
  Issuance of Common Stock                     --             --        --          19,063
  Issuance of Common Stock                     --             --        --           5,438
  Issuance of Common Stock                     --             --        --           1,813
  Issuance of Common Stock                     --             --        --         409,725
  Issuance of Common Stock                     --             --        --         408,375
  Issuance of Common Stock                     --             --        --          45,626
  Issuance of Common Stock                     --             --        --           9,063
  Issuance of Common Stock                     --             --        --           2,719
  Issuance of Common Stock                     --             --        --           1,812
  Issuance of Common Stock                     --             --        --         503,209
  Issuance of Common Stock                     --             --        --         500,001
  Net loss                                 (394,269)          --        --        (394,269)
                                      -------------   ------------      ---   ------------
BALANCE, JUNE 30, 1996                $ (11,882,022)  $    (25,000)   $ --    $  3,104,454
                                      =============   ============      ===   ============
                                                                      
YEAR ENDED JUNE 30, 1997:                                             
  Issuance of Common Stock                     --             --        --          27,186
  Issuance of Common Stock                     --             --        --          99,000
  Issuance of Common Stock                     --             --        --         351,000
  Issuance of Common Stock                     --             --        --         150,000
  Issuance of Common Stock                     --             --        --           5,000
  Issuance of Common Stock                     --             --        --           5,000
  Issuance of Common Stock                     --             --        --          35,500
  Issuance of Common Stock                     --             --        --         300,000
  Issuance of Common Stock                     --             --        --               0
  Issuance of Common Stock                     --             --        --          40,000
  Issuance of Common Stock                     --             --        --         100,000
  Issuance of Common Stock                     --             --        --          43,750
  Issuance of Common Stock                     --             --        --             750
  Issuance of Common Stock                     --             --        --             750
  Deferred Debt Discount                       --             --        --         290,769
Net loss                                 (6,011,352)          --        --      (6,011,352)
                                      -------------   ------------      ---   ------------
BALANCE, JUNE 30, 1997                $ (17,893,374)  $    (25,000)   $ --    $ (1,458,193)
                                      =============   ============      ===   ============
</TABLE>
                                                                      
(9)  Stock issued in connection with exercise of common stock option agreements.
(10) Stock  issued  in   connection   with  exercise  of  common  stock  warrant
     agreements.
(16) Stock issued in connection with private placement.
(17) Stock issued in connection with conversion of debt.
(18) Stock issued in connection with employee termination.
(19) Stock issued in connection with debtor-in possession financing

See accompanying notes to consolidated financial statements.


<PAGE>


                                NOXSO Corporation
                        (A Development Stage Enterprise)
                      CONDOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
                                                                   Date of
                                                                  Inception,                  Fiscal Year Ended June 30,
                                                                August 28, 1979,   -------------------------------------------------
                                                                to June 30,1997           1997               1996               1995
                                                                ---------------           ----               ----               ----
                                                                 (Unaudited)
<S>                                                              <C>               <C>               <C>               <C>          
CASH FLOWS FROM OPERATING ACTIVITIES:
   Net loss                                                      $(17,892,209)     $ (6,011,352)     $   (394,269)     $ (1,760,658)
   Adjustments  to  reconcile  net  loss  to
     net cash flows from operating activities:
       Depreciation and amortization                                1,174,496           646,982            33,101            32,440
       Amortization of deferred debt discount                         290,769           290,769              --                --
       Minority interest                                               24,300            (2,481)           26,781              --
       Loss on disposal of property and equipment                       5,752              --                --                --
       Loss on impairment of property and equipment                 1,496,935         1,496,935              --                --
       Issuance of common stock for compensation                      120,973            45,248              --                 325
          and other
       Issuance of common stock for purchase of
          NOXSO Process                                                28,125              --                --                --
       Compensation in satisfaction of notes                           57,000              --                --                --
       receivable
       Changes in operating assets and liabilities:
          Accounts receivable                                         (65,760)        2,097,660        (1,148,789)          472,193
          Prepaid expenses and other assets                           (95,003)          (60,470)          (18,851)            1,319
          Deposits                                                     (4,308)             --                --                --
          Liabilities not subject to compromise:
            Accounts payable                                        5,475,428         2,049,236         2,731,266           601,309
            Accrued compensation                                       26,021           (72,954)           70,716           (50,589)
            Advanced billings                                            --          (1,379,549)        1,184,974           194,575
            Accured expenses                                             --                --                --            (159,736)
            Other current liabilities                                 698,349           407,404           208,961            67,357
          Liabilities subject to compromise                         4,488,381         4,488,381              --                --
                                                                 ------------      ------------      ------------      ------------ 
            Net cash flows from operating activities             $ (4,170,751)     $  3,995,809      $  2,693,890      $   (601,465)
                                                                 ------------      ------------      ------------      ------------ 
CASH FLOWS FROM INVESTING ACTIVITIES:
   Acquisition of and deposits for property and equipment         (13,641,045)       (5,575,750)       (6,637,621)         (853,694)
   Bank certificate of deposit                                     (1,000,000)             --                --              29,157
   Proceeds from the sale of property and equipment                     4,546              --                --                --
            Net cash flows from investing activities             $(14,636,499)     $ (5,575,750)     $ (6,637,621)     $   (824,537)

CASH FLOWS FROM FINANCING ACTIVITIES:
   Net proceeds from private placement offering                     6,826,408         1,112,688         1,821,310         1,298,295
   Proceeds from line of credit                                     3,025,000              --           1,525,000           970,000
   Payments of line of credit                                      (2,025,000)             --            (770,000)       (1,195,000)
   Proceeds from issuance of common stock                           7,760,647              --                --                --
   Proceeds from sales of common stock
     options and warrants                                           1,323,095              --             166,784            58,252
   Proceeds from satisfaction of notes receivable                      27,000              --                --                --
   Proceeds from ACOA and Olin loans                                2,874,000              --           2,204,000           670,000
    Payment of ACOA loan                                           (1,000,000)             --          (1,000,000)             --
   Proceeds from debtor-in-possession financing                        48,500            50,000              --                --
   Net loans to stockholders and officers                              (4,930)             --                --                --
                                                                 ------------      ------------      ------------      ------------ 
            Net cash flows from financing activities             $ 18,854,720      $  1,162,688      $  3,947,094      $  1,801,547
                                                                 ------------      ------------      ------------      ------------ 
NET INCREASE (DECREASE), CASH AND
   EQUIVALENTS                                                   $     47,470          (417,253)            3,363           375,545
CASH AND EQUIVALENTS, BEGINNING OF
   PERIOD                                                                --             464,723           461,360            85,815
                                                                 ------------      ------------      ------------      ------------ 
CASH AND EQUIVALENTS, END OF PERIOD                              $     47,470      $     47,470      $    464,723      $    461,360
                                                                 ============      ============      ============      ============ 
SUPPLEMENTAL CASH FLOW INFORMATION:
   Interest paid                                                 $    341,469      $    134,180      $    130,126      $     70,890
                                                                 ============      ============      ============      ============ 
NONCASH FINANCING ACTIVITIES:
                                                                 ============      ============      ============      ============ 
   Issuance of common stock for notes receivable                 $     84,000      $       --        $       --        $       --
                                                                 ============      ============      ============      ============ 
   Acquisition of common stock into treasury to
   satisfy notes receivable                                     $    (25,000)     $        --        $       --        $       --
                                                                 ============      ============      ============      ============ 
   Issuance of common stock in exchange for warrant              $      1,165      $       --        $       --        $       --
                                                                 ============      ============      ============      ============ 
   Compensation in satisfaction of notes receivable              $     57,000      $       --        $       --        $       --
                                                                 ============      ============      ============      ============ 
See accompanying notes to financial statements.
</TABLE>

See accompanying notes to consolidated financial statements.

<PAGE>


                                NOXSO CORPORATION
                        (A Development Stage Enterprise)

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1 - Nature of Business and Principles of Consolidation:

         NOXSO  Corporation was  incorporated in the Commonwealth of Virginia on
         August 28,  1979,  to engage in  developing,  testing  and  marketing a
         process  capable  of  removing  certain  emissions  from  the  flue gas
         generated  by the burning of coal.  The  Company is in the  development
         stage and has not yet commenced commercial operation.

         The financial  statements include accounts of NOXSO Corporation and its
         majority-owned  subsidiary.  All  intercompany  transactions  have been
         eliminated in consolidation. NOXSO Corporation and/or NOXSO Corporation
         together  with  its  subsidiary  are  hereafter  referred  to  as  (the
         "Company").

         On  February  6,  1997,  Olin  Corporation  and  two of  the  Company's
         suppliers  filed an  involuntary  petition  in  bankruptcy  against the
         Company in the United States  Bankruptcy  Court in the Eastern District
         of Tennessee  (the  "Bankruptcy  Court").  On June 4, 1997, the Company
         consented  to  the   jurisdiction  of  the  Bankruptcy  Court  and  was
         adjudicated bankrupt and converted the bankruptcy to a proceeding under
         Chapter 11 of the Bankruptcy  Code. The Company is presently  operating
         as a debtor-in-possession in the bankruptcy proceeding.  Under an order
         of the Bankruptcy Court entered on October 2, 1997, the Company has the
         exclusive right to file a plan of reorganization until January 5, 1998.

         The accompanying  consolidated  financial  statements do not purport to
         reflect or provide for the consequences of the bankruptcy  proceedings.
         In particular, such consolidated financial statements do not purport to
         show (a) as to assets, the remaining assets,  their realizable value on
         a liquidated basis or their availability to satisfy liabilities; (b) as
         to prepetition liabilities,  the amounts that may be allowed for claims
         or  contingencies,  or  the  status  and  priority  thereof;  (c) as to
         stockholder's  accounts,  the effect of any changes that may be made in
         the capitalization of the Company; or (d) as to operations,  the effect
         of any changes that may be made in the Company's remaining business.

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

Note 2 - Summary of Significant Accounting Policies:

         Cash Equivalents - The Company considers certificates of deposit, money
         market  funds and all other  highly  liquid  debt  instruments,  with a
         maturity  of  three  months  or  less  when   purchased,   to  be  cash
         equivalents.

         Property and Equipment - Property and equipment are stated at cost. The
         Company  provides  for  depreciation  using  various  methods  over the
         estimated  useful  lives  of 10  years  for  plant,  3 to 5  years  for
         machinery  and  equipment,  5 to  7  years  for  office  furniture  and
         fixtures,  and the lease term or useful life, whichever is shorter, for
         leasehold improvements.

         Construction-in-Process  - During  the  fourth  quarter  of  1995,  the
         Company  began to  capitalize  its share of costs  associated  with the
         Full-Scale Demonstration Facility (see Notes 4 and 5) and the Tennessee
         Facility  (see Note 4) to convert  elemental  sulfur into liquid sulfur
         dioxide. Funds received from the U.S. Department of Energy ("DOE") were
         used to offset total costs incurred on the project with the result that
         net costs capitalized on the balance sheet will


<PAGE>


         reflect the Company's  portion of the project costs.  During the fourth
         quarter  of fiscal  1997,  the  Tennessee  plant was  transferred  from
         construction-in-progress to plant on the balance sheet.

         Financial Accounting Standards Board Statement No. 121 - Effective July
         1,  1996,  the  Company  adopted  SFAS  No.  121,  "Accounting  for the
         Impairment  of  Long-Lived  Assets  and  for  Long-Lived  Assets  to Be
         Disposed  Of", and  accordingly  has  continued to evaluate  whether an
         impairment to the Alcoa Project has occurred. Due to the termination of
         the Alcoa Project Agreement and the fact that no further contracts have
         been entered into with respect to the costs  capitalized  to date,  the
         Company  believes  that the  carrying  amount of this asset will not be
         recoverable,  and  has  therefore  recognized  an  impairment  loss  in
         accordance with SFAS No. 121 in the amount of approximately $2,095,000.
         Additionally,  pursuant to SFAS No. 121, the Company has  recognized an
         impairment loss of  approximately  $1,497,000  related to the Tennessee
         Facility.

         Patents - Patent costs are expensed as incurred.

         Income Taxes - Under the Financial  Accounting Standards Board ("FASB")
         Statement  No.  109,  "Accounting  for Income  Taxes"  (SFAS No.  109),
         deferred tax assets or liabilities are computed based on the difference
         between  the  financial  statement  and  income tax basis of assets and
         liabilities using the enacted marginal tax rate.  Deferred income taxes
         or  credits  are based on the  changes in the asset or  liability  from
         period to period. There were no material temporary  differences at June
         30, 1997. At June 30, 1997, the Company had tax loss  carryforwards  of
         approximately  $17,600,000 which expire beginning in 1998. The deferred
         tax assets related to these net operating  losses were entirely  offset
         by a valuation allowance at June 30, 1997.

         The income tax expense and  deferred  tax  liability  recorded  relates
         entirely to Projex,  Inc.,  the Company's 70% owned  subsidiary,  which
         files separate tax returns.

         Other  Postretirement and  Postemployment  Benefits - In December 1990,
         the FASB issued SFAS No. 106 "Employers'  Accounting for Postretirement
         Benefits Other Than Pensions". SFAS No. 106 requires the accrual of the
         cost of  postretirement  benefits  during the years that the  employees
         render  service  rather than  recognizing  such benefits when paid. The
         Company  presently  has no benefit plans which would be subject to this
         standard.  In November 1992,  the FASB issued SFAS No. 112  "Employers'
         Accounting  for  Postemployment  Benefits".  SFAS No.  112  establishes
         accounting  standards for  employers who provide  benefits to former or
         inactive  employees  after  employment but before  retirement,  such as
         severance  benefits,  workers'  compensation  benefits,  continuance of
         health care benefits and life insurance coverage.  Compliance with SFAS
         No. 112 did not have a material impact on the Company.

         Advanced  Billings - The advanced  billing  account was part of the DOE
         funding  mechanism.  Under the terms of the contract  with the DOE, the
         Company  billed  estimated  costs one month in advance of actual  costs
         incurred.

         Loss per  Common  Share - Loss  per  common  share  is  based  upon the
         weighted  average number of shares and equivalents  outstanding  during
         each year. Common share equivalents consist of outstanding warrants and
         options using the treasury stock method.  Common share  equivalents are
         not included in the  computation of average shares  outstanding for the
         years ended June 30, 1997, 1996, and 1995 because their inclusion would
         be antidilutive.


<PAGE>


Note 3 - Plan of Reorganization:

         Bankruptcy   Proceedings  -  On  February  6,  1997,  Olin  Corporation
         ("Olin"),  FRU-CON  Construction Company and Industrial Rubber & Safety
         Products,  Inc. filed an involuntary petition in bankruptcy against the
         Company in the United States  Bankruptcy  Court in the Eastern District
         of  Tennessee.  On June 4,  1997,  the  Company  (i)  consented  to the
         jurisdiction  of the  Court  and  was  adjudicated  bankrupt  and  (ii)
         converted  the  bankruptcy  to a  proceeding  under  Chapter  11 of the
         Bankruptcy   Code.   The   Company   is   presently   operating   as  a
         debtor-in-possession in the proceeding.

         Plan of  Reorganization  - Pursuant to the provisions of the Bankruptcy
         Code,  the  Company  has  the  exclusive   right  to  file  a  plan  of
         reorganization  until  October  7,  1997.  The  sale  of the  Tennessee
         Facility is a key element of the Company's overall  reorganization plan
         to emerge from  Chapter 11. (See Note 18) In order to allow the Company
         to close on the sale of the  Tennessee  Facility to Republic  Financial
         Corp (see Note 18) and to continue  its search for a host site in order
         to  commercially  demonstrate  the NOXSO  Process,  the Company filed a
         Motion for Extension of Exclusive  Time to File Plan, and on October 2,
         1997,  an order was  entered  by the  Bankruptcy  Court  extending  the
         Company's exclusive period until January 5, 1998.

         The Company is  presently  operating  as a  debtor-in-possession  under
         Chapter  11 of the  Bankruptcy  Code.  The  principal  elements  of the
         Company's plan to emerge from  bankruptcy are the sale of the Tennessee
         Facility  and the  location  of a site  and the  obtaining  of  funding
         (including reinstatement of DOE funding) to construct a commercial-size
         demonstration of the NOXSO Process. (see Note 5).

Note 4 - Agreements and Commitments:

         A)       Agreements  with W.R.  Grace & Co.  ("Grace")  - In  September
                  1987, the Company  entered into three  agreements  with Grace.
                  The Research  Agreement and Option  Agreement have expired.  A
                  License  and  Supply  Agreement  expiring  in  September  2007
                  provides that the Company will notify any prospective  user of
                  the NOXSO  Process  that the Company has  approved  Grace as a
                  supplier  of  sorbent  beads.   Other  terms  of  the  license
                  agreement  include  provisions  for  licensing  other  sorbent
                  suppliers, a commission that may become payable to the Company
                  based on sales of  sorbent to users of the NOXSO  Process  and
                  royalties  that Grace  will  receive  based on its  licensees'
                  sales of sorbent to users of the NOXSO Process.  Grace has the
                  right to terminate this agreement at any time with four months
                  notice.

         B)       Agreements  with  MK-Ferguson  Company  and  Morrison  Knudsen
                  Corporation  ("MK") - The Company entered into agreements with
                  MK-Ferguson Company and MK.

                  (1)      Cooperative  Agreement  -  Novation  - On August  31,
                           1994, the Company entered into a series of agreements
                           with MK and, in certain circumstances,  other parties
                           which  resulted in the Company  assuming MK's role as
                           the   primary    contractor    for   the   commercial
                           demonstration   of  the  NOXSO   Process   under  the
                           Cooperative  Agreement  dated  March 11,  1991 by and
                           between MK and the DOE. The DOE's  acknowledgment  of
                           the Novation  Agreement and the ancillary  agreements
                           is evidenced by Modification No. 5 to the Cooperative
                           Agreement, which the Company received from the DOE on
                           September 26, 1994.  Certain of these  agreements are
                           retroactively  effective  to March 1, 1992,  the date
                           renegotiation  began on restructuring the Cooperative
                           Agreement.  Certain of these agreements are described
                           below.

                  (2)      Novation   Agreement  -  Pursuant  to  the   Novation
                           Agreement  by and among the  Company,  MK and the DOE
                           dated as of March 1, 1992, MK has  transferred to the
                           Company  all of MK's  rights  and  duties  under  the
                           Cooperative   Agreement.   The   Novation   Agreement


<PAGE>


                           provides  that MK will no longer  be a  "participant"
                           (as  that  term  is   defined   in  the   Cooperative
                           Agreement)  in the  development  of the NOXSO Process
                           nor will MK have any ownership  interest in the NOXSO
                           Process.  Pursuant  to the  Novation  Agreement,  the
                           Company  has  assumed  the  duties  of MK  under  the
                           Cooperative  Agreement.   In  addition,  MK  and  the
                           Company  have  agreed to  terminate  the  subcontract
                           agreement  between  them  dated  March 11,  1991 (the
                           "1991  Subcontract"),  and in its place  substitute a
                           new  Subcontract  Agreement  (described  below) which
                           designates  the Company as the prime  contractor  for
                           the  design  and   construction   of  the  commercial
                           demonstration facility of the NOXSO Process.

                  (3)      Subcontract  Agreement - With the  termination of the
                           1991  Subcontract,  the Company  will be paid for all
                           work  under the terms of such  subcontract  up to the
                           date of termination in accordance with its terms, and
                           the  Company  agreed  that it will not be entitled to
                           any payments for costs incurred thereafter, including
                           any administrative costs of termination.

                           Under  the  new  subcontract  agreement  between  the
                           Company  and MK dated as of March 1, 1992 (the  "1992
                           Subcontract"),  MK will  remain  responsible  for the
                           design   and    construction    of   the   commercial
                           demonstration    facility   under   the   Cooperative
                           Agreement.  MK has agreed to certain  standards  with
                           respect to the schedule of performance,  the scope of
                           its work and the fee structure as  subcontractor.  MK
                           will   perform   the   design   of   the   commercial
                           demonstration facility on a cost plus fixed fee basis
                           according   to  the  fee   structure   in  the   1992
                           Subcontract. At the conclusion of the final design of
                           the  facility,  MK and the Company  will  establish a
                           mutually  agreeable  fixed price for  construction of
                           the   facility.   MK  has  the   responsibility   for
                           obtaining,    maintaining   and   paying    workmen's
                           compensation  insurance  as  well  as  other  general
                           liability    insurance   in   connection   with   the
                           Cooperative   Agreement.   The   term  of  the   1992
                           Subcontract  shall  be  coincident  with  that of the
                           Cooperative Agreement.

                           In the event that the DOE terminates the  Cooperative
                           Agreement in its entirety,  then the 1992 Subcontract
                           may be  terminated by the Company.  Additional  terms
                           for  termination  allow the Company to terminate  the
                           1992 Subcontract for convenience.

                  (4)      Assignment  Agreement  - Pursuant  to the  Assignment
                           Agreement,  MK  assigned  to the  Company all of MK's
                           rights,   interests  and  obligations  in  the  NOXSO
                           Process  and  the  Cooperative   Agreement.   In  the
                           Assignment  Agreement,  the  Company  has  agreed  to
                           indemnify MK from claims and costs arising out of the
                           Novation Agreement and Cooperative Agreement, and the
                           Company has agreed to defend MK against any claims or
                           suits arising therefrom.

                  (5)      NOXSO  Process  License   Termination  -  Under  this
                           License   Termination,   MK  and  the  Company   have
                           terminated  the License  Agreement  dated January 21,
                           1992 in  which  MK had  been  granted  rights  to the
                           patents  and  technical  information  relating to the
                           NOXSO Process.  The License  Termination is effective
                           upon the effectiveness of the Novation Agreement.  In
                           the License  Termination,  each of the Company and MK
                           have mutually  released the other with respect to any
                           claims  arising under the License  Agreement.  MK has
                           agreed to  disclaim  and  assign to the  Company  all
                           rights to any  inventions or technology  developed by
                           MK relating to the NOXSO  Process  during the term of
                           the License Agreement.

                  (6)      First Amendment to Project  Support  Agreement - With
                           the  execution  of the  Novation  Agreement,  MK, the
                           Company   and   Grace   have    amended   the   NOXSO
                           Demonstration  Plant 


<PAGE>


                           Project  Support  Agreement and side letter  executed
                           among them ("Project Support Agreement"). Pursuant to
                           this  amendment,  the Company and Grace have released
                           MK from its  obligations  under the  Project  Support
                           Agreement,  and MK has  assigned  to the  Company and
                           Grace,  respectively,  any ownership  interest MK may
                           have  acquired  under the Project  Support  Agreement
                           form the Company and Grace, respectively.

                  (7)      Cancellation  of  Repayment  Agreement  -  Under  the
                           Cancellation  of  Repayment  Agreement,  the  DOE has
                           released  MK's  obligations  to  the  DOE  under  the
                           Repayment Agreement and MK's repayment obligations to
                           the DOE under the Cooperative Agreement.  The Company
                           has  negotiated  a Repayment  Agreement  with the DOE
                           which  provides for the Company's  payment to the DOE
                           of  certain  royalties  commencing  after  the  third
                           commercial installation of the NOXSO Process.

                  The  above   agreements   have  resulted  in  the  Cooperative
                  Agreement   now  being   between  the  Company  and  the  DOE.
                  Additionally,  the  Company  utilized  MK  in a  subcontractor
                  capacity on the Full-Scale Demonstration Facility.

         C)       Agreements  with  Alcoa  Generating  Corporation  ("Alcoa")  -
                  Following the decision not to use the Niles generating station
                  of Ohio  Edison  as the  commercial  demonstration  site,  the
                  Company sought a satisfactory  alternate  demonstration  site.
                  This effort has resulted in the  execution on August 30, 1994,
                  of a Project  Agreement  between the Company and Alcoa for the
                  design, construction,  and operation of a proposed facility at
                  Alcoa's Warrick Generating Station in Newburgh, Indiana.

                  The  project  definition  and  design  phases of the  proposed
                  demonstration  facility  were  completed  by  the  Company  in
                  accordance  with the terms of the Cooperative  Agreement,  and
                  the construction phase was commenced in June 1995. The Company
                  has received all necessary  approvals  from the DOE to proceed
                  to complete the project.  As a part of the  approval,  the DOE
                  increased  the  funding for its share of costs for the project
                  from $33 million to $41.1 million. The Alcoa Project Agreement
                  was subject to termination by Alcoa if certain conditions were
                  not met, including the requirement that the Company obtain the
                  financing  necessary  to  complete  the  Alcoa  Project  by  a
                  designated  date,  which  was  extended  several  times  until
                  January  31,  1997.  The  Company  was  unable to  obtain  the
                  financing  required to complete  the project by the  deadline,
                  and Alcoa  terminated the Alcoa Project  Agreement on February
                  3, 1997.

                  Alcoa  assisted  in  the  procurement  by  the  Company  of  a
                  $1,000,000  loan from  Aluminum  Company of America  ("ACOA"),
                  Alcoa's  parent,  at  an  interest  rate  of  8.75%,   payable
                  quarterly  in arrears.  As  additional  consideration  for the
                  loan,  the Company  granted ACOA a warrant to purchase  60,000
                  shares of the Company's  common stock between December 1, 1994
                  to  December  1, 1996 at a price per share equal to the August
                  29,  1994  closing   price  ($3.75  per  share).   This  price
                  represented  the market  value of the  Company's  stock on the
                  date  of  issuance.  These  warrants  expired  unexercised  on
                  December 1, 1996.

         D)       Agreement  with  Olin  Corporation  ("Olin")  - Under the Olin
                  Agreement,  the Company has constructed the Tennessee Facility
                  at  Olin's  plant  in  Charleston,  Tennessee.  The  Tennessee
                  Facility  will  convert  elemental  sulfur into liquid  sulfur
                  dioxide.  Provided that the Tennessee Facility produces sulfur
                  dioxide in  accordance  with  specifications  set forth in the
                  Olin Agreement,  Olin is required,  for a 10-year period after
                  the Tennessee  Facility is operational,  to pay to the Company
                  $3,200,000  annually,  which  amount is subject to  adjustment
                  after six years to account for changes in the  Company's  cost
                  of producing  elemental  sulfur at a full-scale  demonstration
                  facility to be constructed  in the future,  and the Company is
                  to deliver 16,000 short tons per year of elemental  sulfur. It
                  had been intended  that the Company  would  provide  elemental
                  sulfur produced at the


<PAGE>


                  Alcoa Project,  convert such elemental sulfur to liquid sulfur
                  dioxide and sell the liquid sulfur dioxide to Olin.  Until the
                  Company is able to provide  elemental  sulfur,  the Company is
                  obligated to provide elemental sulfur and,  accordingly,  must
                  purchase it from suppliers. In addition, because the Tennessee
                  Facility was not  completed by September 1, 1996,  the Company
                  was  obligated  under  the  Olin  Agreement  to  make  certain
                  payments to Olin  relating  to the  purchase by Olin of liquid
                  sulfur dioxide.

                  Under the terms of the Olin Agreement,  the Company's  failure
                  to  complete  the  Tennessee  Facility  by  September  1, 1996
                  entitled  Olin to  require  that the  Company  pay to Olin the
                  amount by which (i) the costs Olin  incurs to  purchase  up to
                  2,667  short tons of sulfur  dioxide  per month until the Olin
                  Project is operational exceeds (ii) the cost of such amount of
                  sulfur  dioxide at a price of $130 per short ton.  The Company
                  owes  approximately  $882,000  to Olin at June  30,  1997  for
                  sulfur dioxide purchases.

         E)       Other  Agreements - During  fiscal 1992,  the Company  entered
                  into two agreements with the DOE and the  Pennsylvania  Energy
                  Development  Authority ("PEDA") for research projects intended
                  to accelerate the  development  and  commercialization  of the
                  NOXSO Process.

                  During  fiscal 1997,  no costs had been  incurred  relating to
                  these  projects.  At June 30, 1996 the  Company  had  incurred
                  costs totaling  $1,112,835 of which $891,409 was reimbursed in
                  connection with these projects.

         F)       Patent  License  Agreement - On September 5, 1991, the Company
                  entered  into an  exclusive  license  agreement  with  the DOE
                  expiring  November 7, 2006. The license agreement relates to a
                  U.S.  Patent that  pertains to methods for  removing  nitrogen
                  oxides from waste streams.

                  The  Company  paid an initial  royalty fee of $10,000 and will
                  pay the DOE royalties equal to $75 per megawatt rating at each
                  licensed facility designed or built by MK-Ferguson  Company or
                  a sublicensee  of  MK-Ferguson  Company.  Such royalties at no
                  time are to exceed five  percent of the  revenues  received by
                  the Company.

         G)       License  Agreement - On March 24,  1992,  the Company  entered
                  into an  agreement  with  FLS  miljo  a/s  ("FLS"),  a  Danish
                  corporation. The Company sold FLS 266,666 shares of its common
                  stock for  $2,000,000  and  granted  FLS a warrant to purchase
                  133,334  shares of its common  stock at an  exercise  price of
                  $7.50 per share, which expired  unexercised on March 24, 1994.
                  On March 24,  1992 the  Company  granted  to FLS an  exclusive
                  license to enable FLS to  design,  construct,  market and sell
                  the NOXSO Process in Europe and Asia.

Note 5 - Full-Scale Demonstration Facility:

         From 1989 until the present the Company has been  attempting to develop
         a full-scale commercial demonstration of the NOXSO Process. In December
         1989,  the  federal  government's  Clean  Coal III  Technology  Program
         selected  a  proposal   which  had  been   submitted  by  the  Company,
         MK-Ferguson Company  ("MK-Ferguson") and W. R. Grace & Co.("Grace") for
         a commercial demonstration of the NOXSO Process. In March 1991, the DOE
         entered  into  a  Clean  Coal  Technology  Cooperative  Agreement  with
         MK-Ferguson to provide funding for one-half of the  then-estimated  $66
         million  cost  of the  project.  In  September  1994,  the  Cooperative
         Agreement was amended and novated to the Company by MK-Ferguson.

         The  site  originally  proposed  for  construction  of  the  full-scale
         commercial  demonstration  proved  unsuitable for various reasons.  The
         Company engaged in a search for an alternative site to


<PAGE>


         construct  a  full-scale  commercial  demonstration  facility,  and, in
         August 1994, the Company  entered into a Project  Agreement (the "Alcoa
         Project Agreement") with Alcoa Generating Corporation ("Alcoa") for the
         design,  construction  and operation of a facility to  demonstrate  the
         NOXSO  Process  at Alcoa's  Warrick  Generating  Station  in  Newburgh,
         Indiana  (the  "Alcoa  Project").  The  Company  completed  the project
         definition  and  design  phases  of the  Alcoa  Project  and  commenced
         construction in June 1995. As a part of the approval, the DOE increased
         the funding for its share of costs for the project  from $33 million to
         $41.1 million.  The Alcoa Project  Agreement was subject to termination
         by Alcoa if certain  conditions were not met, including the requirement
         that the Company  obtain the financing  necessary to complete the Alcoa
         Project by a designated  date,  which was extended  several times until
         January  31,  1997.  The  Company  was unable to obtain  the  financing
         required to complete the project by the deadline,  and Alcoa terminated
         the Alcoa Project Agreement on February 3, 1997.

         The  Company  is  currently  seeking  an  alternate  site  to  build  a
         commercial-size  demonstration  of the  NOXSO  Process  and  to  obtain
         approval  from the DOE to  utilize  funding  granted by the DOE for the
         Alcoa Project at an alternate site. DOE is not currently  providing any
         funding  to the  Company.  Location  of an  alternate  site to  build a
         commercial-size   demonstration  facility  and  obtaining  the  funding
         necessary  to finance  construction  of such a facility  are two of the
         principal elements of the Company's plan to emerge from bankruptcy.

         Even  if the  Company  is  able  to  locate  an  alternate  site  for a
         commercial-size  demonstration facility and retain the DOE funding, the
         Company will need to secure significant  additional funding in order to
         continue as a going  concern and  complete a  commercial  demonstration
         facility.  The Company has never  generated any  significant  operating
         revenue  and  does not  anticipate  that it will  generate  significant
         operating revenue in the foreseeable future.  However,  funds generated
         from the  debtor-in-possession  financing  would not be  sufficient  to
         permit  the  Company  to  construct  a  commercial-size   demonstration
         facility,  and the Company does not  presently  have any source for any
         significant additional funding.  Because of the reluctance of regulated
         utilities to purchase process technology which has not been tested on a
         commercial  scale, due to the uncertainty of cost  considerations,  the
         Company believes that it will be extremely difficult for the Company to
         market and sell the NOXSO Process if an alternate site for a commercial
         demonstration  facility is not located in the near future or if funding
         for such a  facility,  both  from  the DOE and  other  sources,  is not
         secured  promptly.  There can be no assurance  that the Company will be
         successful in locating an alternate  site, in obtaining  DOE's approval
         to  utilize  DOE  funding  at such a site or in  obtaining  the  needed
         additional  funding.  If the Company is unable to accomplish all of the
         foregoing  objectives,  it may be necessary for the Company to sell the
         rights  to the  NOXSO  Process  in the  bankruptcy  proceedings  and to
         liquidate.

Note 6 - Formation of Construction Management Company:

         During  November  1995,  the  Company  formed a new  subsidiary  called
         Projex,  Inc. The Company  holds 70% of the stock in Projex,  while two
         managing  principals  of Projex hold the  remaining  30% of such stock.
         Projex was capitalized with contributions of $1,000.  Projex was formed
         to  perform  construction   management  services.  The  first  contract
         obtained   by  Projex  was  a   $2,500,000   contract  to  perform  the
         construction management on the NOXSO full-scale demonstration facility.
         In March 1997, the operations of PROJEX were shut down.  Because of the
         Company's majority ownership of Projex,  Projex's financial  statements
         are consolidated herein. There is no related party relationship between
         the minority shareholders and the Company, its employees or directors.

<PAGE>


         The  Company  has  also in the  past  engaged  in  several  early-stage
         developmental  projects  that are  intended to utilize its  engineering
         expertise  to  develop  other  technologies,   processes,  sorbent  and
         facilities  to assist  others to comply with  environmental  laws.  The
         Company  is  presently  limiting  its  efforts  on  these  projects  to
         concentrate  on  developing  and  implementing  its plan to emerge from
         bankruptcy.


Note 7 - Prepetition Liabilities Subject to Compromise:

         Prepetition  liabilities subject to compromise at June 30, 1997 include
         the following:

         $250,000 - 9.75% Note                                 $   250,000
         $500,000 - 6.00% Convertible Debentures                   500,000
         Accounts payable                                        2,774,070
         Other current liabilities                                 964,311
                                                               -----------
                                                               $ 4,488,381
                                                               ===========

         On September  23, 1996,  the Company  obtained a short term  commercial
         loan in the amount of $250,000 at a rate of 9.75%. This loan matured on
         October 30, 1996.  The lender agreed to extend the term of this loan to
         June 15, 1997.

         On February 28, 1997, the Company issued  $540,000 in convertible  debt
         securities (the "Debentures") at an interest rate of 6%. The conversion
         of these Debentures will be at a price per share which is discounted at
         a maximum of 35% from market.  Commencing at any time on or after sixty
         days from the  issuance  date of the  Debentures,  the  holders  of the
         Debentures are entitled,  at their option, to convert up to 100% of the
         original principal amount of the Debentures into shares of common stock
         of the Company at a conversion price equal to the lesser of: (i) $15/16
         per share;  or (ii) the average  closing  price of the common stock for
         the five business days prior to conversion multiplied by the conversion
         percentage,  as defined in the Debentures  Subscription  Agreement.  In
         June 1997, $40,000 of the securities were converted into 154,811 shares
         of common stock.

         Because  of  Chapter  11  proceedings,  there  has been no  accrual  of
         interest  on the above  notes  since  June 4, 1997.  Additionally,  the
         amounts  reflected as prepetition  liabilities  do not include  amounts
         related to potential  claims,  which are substantially in excess of the
         recorded liabilities at June 30, 1997.

Note 8 - Future Minimum Lease Payments:

         The following is a schedule of future minimum rental payments  required
         under  the  Company's   noncancellable   operating  leases  which  have
         remaining lease terms in excess of one year at June 30, 1997.

                 Year Ending June 30,
                 --------------------
                          1998                        $164,000
                          1999                         120,000
                          2000                          10,000
                          2001                           2,000
                          2002                           2,000
                                                      --------
                                                      $298,000
                                                      ========

Note 9 - Notes Payable:

         The Company  has a line of credit with a bank which  expired on October
         15, 1996,  pursuant to which  borrowings can be made up to an aggregate
         of $1,000,000. Borrowings bear interest at prime and are collateralized
         by a $1,000,000  certificate of deposit.  Borrowings  under the line of
         credit at June 30, 1997 and 1996 were $1,000,000. Because of Chapter 11
         proceedings,  there has been no accrual of  interest on the above notes
         since June 4, 1997.  Subsequent to year-end,  the Company  utilized the
         $1,000,000 certificate of deposit to repay the line of credit.

         In conjunction with the Project  Agreement,  Alcoa assisted the Company
         in the  procurement of a $1,000,000  loan from ACOA at an interest rate
         of 8.75%  payable  quarterly  in arrears.  The loan was repaid in April
         1996.

         In April  1996,  Olin  Corporation  granted  the  Company a note in the
         amount of $1,874,000, bearing an interest rate of 10.0%. The agreements
         regarding  the Olin  loan  provide  that the  loan is to be  repaid  on
         demand,  but in no event later than  October 31,  1996,  which date was
         extended  in  writing  to January  31,  1997.  The loan is secured by a
         security interest in all of the Company's personal  property.  The loan
         proceeds were used to complete  construction of the Tennessee Facility.
         As the note is in  default,  it now  bears a default  interest  rate of
         11.5%.  The  outstanding  borrowings  at June 30,  1997  and 1996  were
         $1,874,000.  Because  of  Chapter  11  proceedings,  there  has been no
         accrual of interest on the above notes since June 4, 1997.

         On June 30,  1997,  the  Bankruptcy  Court  preliminarily  approved the
         Company's request for emergency interim debtor-in-possession financing.
         Pursuant  to an  agreement  with  certain  lenders  (collectively,  the
         "Interim Lenders"),  the Interim Lenders agreed to lend the Company the
         amount  of  $50,000,  interest  free  for  one  year.  See  Note 19 for
         debtor-in-possession financing subsequent to year-end.

         The weighted  average  interest rate for total notes payable as of June
         30, 1997 and 1996 was 10.1% and 9.4%, respectively.



<PAGE>



Note 10 - Financing:

         In order to provide for construction of the Olin facility,  the Company
         obtained a loan from Olin in the amount of  $1,874,000  as discussed in
         Note 9. In August  1996,  the Company also  obtained  the  agreement of
         Praxair Inc. ("Praxair"),  an air products company, to defer payment of
         the  $2,750,000  balance  owed  for  the  air  separation  plant  until
         completion of the bond  financing but no later than September 30, 1996.
         In connection  with the agreement  with Praxair,  the Company agreed to
         pay  late  charges  of .3% per week  from the date of each  outstanding
         invoice and to assign revenues it is entitled to receive under the Olin
         Agreement to Praxair  until the  Company's  obligations  to Praxair are
         paid in full. At June 30, 1997,  the Company had accrued  approximately
         $400,000 in late charges relating to this agreement with Praxair.

         As a result of the  termination  of the Alcoa  Project  Agreement,  the
         Company  became  obligated,  under  an  amendment  to  its  Cooperative
         Agreement  with DOE, to repay DOE for all funds provided by DOE for the
         Tennessee  Facility,  plus interest,  calculated  pursuant to a formula
         contained in the  agreement,  from November 1, 1996.  The Company is to
         pay DOE an amount  equal to 2/3 of the revenue  received by the Company
         under the Olin Agreement  (after  repayment of amounts due to Praxair).
         The  entire  amount  becomes  due and  payable  on  January  1, 1999 if
         repayment  has not  commenced  by that time.  The Company is engaged in
         discussions with DOE regarding this repayment obligation. Subsequent to
         year-end,  DOE has filed a proof of claim as an  unsecured  creditor in
         the amount of  approximately  $15 million in the  Company's  bankruptcy
         proceedings.

Note 11 -  Private Placement Offerings:

         On October 17,  1995,  the  Company  conducted  two  private  placement
         offerings to accredited  investors.  The first offering was for 100,000
         share  of  common  stock  at a price of $4.55  per  share.  The  second
         offering was for 100,000 shares of common stock at a price of $4.54 per
         share. The $818,000 in net proceeds after  transaction  costs have been
         used to fund the ongoing operations of the Company.

         On April 15, 1996, the Company sold in a private placement  offering to
         accredited  investors 156,763 shares at a price of $3.21 per share. The
         $503,209 in net  proceeds  after  transactions  costs have been used to
         fund the ongoing operations of the Company.


<PAGE>


         On June 26, 1996, the Company sold in a private  placement  offering to
         accredited  investors 145,773 shares at a price of $3.43 per share. The
         $500,001 in net proceeds after transaction costs have been used to fund
         the ongoing operations of the Company.

         The   shareholders   who  purchased  the  above  shares  under  private
         placements   have  been  granted   registration   rights  or  piggyback
         registration rights by the Company.

         In  December  1996  and  January  1997,  the  Company  sold in  private
         placement  offerings to accredited  investors 630,333 shares at a price
         of $1.50 per share.  The  $945,500 in net  proceeds  after  transaction
         costs have been used to fund the  ongoing  operations  of the  Company.
         Additionally,  200,000 shares related to these  transactions  have been
         issued as advance payment for financing costs.

         On May 20, 1997,  the Company sold in a private  placement  offering to
         accredited  investors 400,000 shares at a price of $0.25 per share. The
         $100,000 in net proceeds after transaction costs have been used to fund
         the ongoing operations of the Company.

         The warrants  and common stock  issuable  upon  exercise  have not been
         registered or qualified for sale under the  Securities  Act of 1933, as
         amended or any state securities law.

Note 12 - Common Stock, Options and Warrants:

         The 1990 Stock  Option Plan - On April 18, 1990 the Board of  Directors
         of the Company  adopted,  and in March 1991 the Company's  stockholders
         approved,  the 1990 Stock Option Plan (the "1990 Plan").  The 1990 Plan
         as amended authorizes the granting of either "incentive stock options,"
         as  defined  in  Section   422  of  the   Internal   Revenue   Code  or
         "non-qualified  stock  options,"  to  acquire  1,000,000  shares of the
         Company's common stock.  Incentive stock options may be granted only to
         employees.  Nonqualified  stock  options  may be granted to  employees,
         non-employee  directors and  consultants.  The exercise  price shall be
         such price as is determined by the Stock Option  Committee or the Board
         of Directors. In addition,  incentive stock options granted pursuant to
         the 1990 Plan as  amended  must have an  exercise  price  equal to fair
         market  value of the  Company's  common stock at the time the option is
         granted,  except  that the  price  shall  be at least  110% of the fair
         market  value when the option is granted to an  employee  who owns more
         than ten  percent of the  combined  voting  power of all classes of the
         Company's  voting stock at the date of grant. The aggregate fair market
         value of the stock with respect to which  incentive  stock  options are
         exercisable  for the first time by any  individual  during any calendar
         year  shall not  exceed  $100,000.  The  Stock  Option  Committee  will
         determine the term of the options but no option may be exercised  after
         ten years from the date of grant.  No incentive stock option granted to
         an employee who owns more than ten percent of the combined voting power
         of all the outstanding classes of stock in the Company may be exercised
         after five years from the date of the grant.

         Transactions in stock options under the 1990 Plan as amended for fiscal
         1997, 1996, and 1995 are as follows:

<TABLE>
<CAPTION>
                                                         1997          1996               1995
                                                         ----          ----               ----
<S>                                                     <C>             <C>              <C>    
         Options outstanding July 1                     654,750         621,500          543,500

         Granted                                        330,000          90,000          328,500

         Exercised                                       (7,500)        (50,750)          (4,000)
         Canceled                                       (55,500)         (6,000)        (246,500)
         Options outstanding at June 30,                921,750         654,750          621,500
         Option price range at June 30,                   $0.94 to        $1.91 to         $1.91 to
                                                         $12.25          $12.25           $12.25

         Options exercisable at June 30,                631,750         609,750          576,500
         Options available for grant at June 30,         78,250         345,250          378,500
</TABLE>


<PAGE>



         On March 17, 1996 and 1997, the  President,  Vice President and outside
         Directors of the Board were granted options to purchase 25,000,  15,000
         and 10,000 shares of the Company's  common  stock,  respectively  on an
         annual basis.  These grants would vest 50%  immediately  and 50% on the
         anniversary  date of the  issuance.  Additionally,  the  President  was
         granted  250,000  options which vest in stages on completion of certain
         specified targets. None of these options are currently exercisable. The
         grants would be effective on the third Friday of March,  and the option
         price will be equal to the quoted market price as listed on NASDAQ, for
         each grant.

         Warrants - The following  warrants were  outstanding and exercisable to
         purchase the Company's stock at June 30, 1997 and 1996:

                            Aggregate Number
                           of Shares Subject    Price
         Year End             to Warrant      Per Share       Expiration Date
         --------             ----------      ---------       ---------------

         June 30, 1997          156,763          $4.28        April 12, 1999

                                 10,000          $6.00        October 27, 2000

                                767,133          $1.50        December 31, 2001

         June 30, 1996           60,000          $3.75        February 24, 1997

                                156,763          $4.28        April 12, 1999

                                 10,000          $6.00        October 27, 2000


         On February 24, 1997, 60,000 warrants,  with an exercise price of $3.75
         per share, expired.

Note 13 - Forgiveness of Directors' Compensation:

         As of June  30,  1997,  all  members  except  for one of the  Board  of
         Directors of the Company elected to forgo any and all  compensation due
         them in their capacity as Directors.

Note 14 - Contingencies:

         Calabrian  Litigation  - In late  August  1996 a  complaint  was  filed
         against the Company in the District Court of Jefferson  County,  Texas,
         by Calabrian Corporation ("Calabrian") relating to a Purchase Agreement
         dated October 16, 1995 between the Company and Calabrian (the "Purchase
         Agreement")  and a related  License  Agreement,  dated  effective as of
         September  1,  1995,  between  the  Company  and  Calabrian.  Under the
         agreements, Calabrian agreed to supply to the Company for a fixed price
         a portion of the Tennessee  Facility to be  constructed  by the Company
         for Olin Corporation. The Tennessee Facility will convert


<PAGE>


         elemental  sulfur into liquid sulfur  dioxide for use by Olin under the
         Olin  Agreement.  The  complaint  alleges  that the  Company  took over
         direction and  supervision of Calabrian's  subcontract  relating to the
         construction  of  components  of  the  Tennessee  Facility,  disrupting
         Calabrian's  plans with  respect to the facility  and  constituting  an
         unlawful interference with Calabrian's  contractual  relationships with
         its  subcontractors,  and that the Company defaulted in certain payment
         obligations to Calabrian  under the Purchase  Agreement.  The complaint
         requests damages in the amount of $665,000, representing the balance of
         the fee  allegedly  owed to  Calabrian  under the  Purchase  Agreement,
         unspecified  damages  caused  Calabrian  as a  result  of  the  alleged
         interference with contract,  any additional damages caused Calabrian by
         the  Company's  conduct  and an  order  prohibiting  the  Company  from
         disclosing to any third party,  other than Olin, any  confidential  and
         proprietary  information  of  Calabrian.  The  Company  has removed the
         action to the United States District Court for the Eastern  District of
         Texas, Beaumont Division.

         In October  1996,  Calabrian  amended its  complaint  to  withdraw  its
         request for a temporary and permanent  injunction enjoining the Company
         from using Calabrian's technology.

         The Company's counsel has advised that it believes the causes of action
         in Calabrian's  complaint are without  merit.  The Company has filed an
         answer and  counterclaim  denying the  substantive  allegations  of the
         complaint  and  requesting  (i) actual  damages  caused the  Company by
         Calabrian's  abandonment and resulting breach of its contracts with the
         Company without cause or  justification  and for tortious  interference
         with its contract with Olin, (ii) exemplary  damages as a result of its
         tortious interference with the Olin contract, (iii) the Company's legal
         fees and costs,  and (iv) any and all other damages  caused the Company
         by Calabrian's  filing of an action against the Company that is without
         merit.

         This  litigation  has been  stayed as a result of the  pendency  of the
         Company's bankruptcy proceedings.

         Olin  Litigation - In April 1995, the Company and Olin entered into the
         Olin Agreement to construct the Tennessee Facility to convert elemental
         sulfur  into  liquid  sulfur  dioxide.   The  Tennessee   Facility  was
         substantially  completed in January 1997,  and the Company and Olin had
         commenced  startup of the  Tennessee  Facility  in order to cause it to
         become fully  operational.  The Company  received  notice from Olin, by
         letter  dated  January  30,  1997,  purporting  to  terminate  the Olin
         Agreement  as a result of alleged  defaults by the Company and claiming
         that Olin had the right to take title to the Tennessee Facility. Olin's
         notice  also  claimed  that the  Company  had  defaulted  on the $1.874
         million note (the "Olin Note") issued in connection with a loan by Olin
         to the Company as partial  funding for  construction  of the  Tennessee
         Facility.

         On February 4, 1997,  the Company  sought and was granted a preliminary
         injunction  against  Olin in the  Court of  Common  Pleas of  Allegheny
         County,  Pennsylvania,  preventing  Olin from (i)  terminating the Olin
         Agreement,  (ii) taking any action in violation of the Company's  title
         to the Tennessee  Facility,  (iii) performing any work on the Tennessee
         Facility,  (iv)  interfering  with  the  Company's  completion  of  the
         Tennessee  Facility or (v) taking any action to  foreclose  against the
         Tennessee  Facility.  In its  complaint,  the Company also  requested a
         declaratory judgment requiring Olin, among other things, to perform its
         obligations under the Olin Agreement and a permanent  injunction having
         substantially  the same  terms as the  preliminary  injunction.  In the
         alternative,  the Company has sought  damages in excess of $32 million.
         In its action,  the Company contends,  among other things,  that it has
         committed no material breach of the Olin Agreement and that the Company
         has substantially completed construction of the Tennessee Facility. The
         Company also contends that the parties had agreed to extend the January
         31,  1997 due date for the Olin  Note and to set off the  amount of the
         Olin Note against  purchase  price  payments which Olin is obligated to
         make on the Tennessee Facility when it becomes fully operational.  This
         litigation has been  transferred to the  jurisdiction of the Bankruptcy
         Court.


<PAGE>


         In connection with the sale of the Tennessee  Facility  contemplated by
         the Asset Purchase Agreement between the Company and Republic Financial
         Corporation  ("Republic"),  by  Stipulation  and Order of Court entered
         September 12, 1997 ("Stipulation"),  Olin and the Company conditionally
         resolved their disputes on the following  basis.  In the event that the
         sale to Republic closes, Olin will be entitled to payment at closing of
         claims totaling $5,705,828.84 plus certain accruals and less credits to
         the Company for liquid sulfur dioxide produced at the Facility and used
         or stored by Olin since February 1, 1997. As of August 31, 1997,  those
         credits totaled $1,590,930.  See Note 18 for further information on the
         potential sale of the Tennessee Facility.

         Additionally, at the closing on the Republic sale, the Company and Olin
         have  agreed to execute  mutual  releases  releasing  any and all other
         claims or causes of action. In the event that the sale to Republic does
         not close,  the Company and Olin will be entitled to pursue any and all
         claims and lawsuits  which they have against each other.  However,  any
         claim of Olin in excess of the aggregate sum as agreed  pursuant to the
         Stipulation   will  be  assertable   defensively   by  set-off   and/or
         counterclaim  only and will not result in any increase in the aggregate
         claims of Olin  payable by the Company.  On October 2, 1997,  Calabrian
         Corporation  filed an Objection to the  Stipulation.  A hearing will be
         scheduled by the Bankruptcy Court to consider Calabrian's objection.

Note 15 - Credit Concentration:

         The Company  maintains  its cash  balances  in a financial  institution
         which is insured by the Federal Deposit Insurance Corporation.

Note 16 - New Accounting Pronouncements:

         The  Financial   Accounting  Standards  Board  (FASB)  recently  issued
         Statement of Financial  Accounting  Standards (SFAS) No. 128, "Earnings
         Per Share" and SFAS No. 129,  "Disclosure of Information  about Capital
         Structures."  SFAS No. 128 was issued in February 1997 and is effective
         for periods  ending  after  December  15, 1997.  This  statement,  upon
         adoption,  will require all prior year earnings per share (EPS) data be
         restated  to  conform  to  the  provisions  of  the   statement.   This
         statement's  objective  is to simplify the  computations  of EPS and to
         make the U.S.  standard for EPS computations  more compatible with that
         of the International  Accounting Standards Committee.  The Company will
         adopt  SFAS No.  128 in fiscal  1998 and does not  anticipate  that the
         statement will have a significant impact on its reported EPS.

         SFAS No. 129 was issued in February  1997 and is effective  for periods
         ending after December 15, 1997.  This  statement,  upon adoption,  will
         require all companies to provide  specific  disclosure  regarding their
         capital  structure.  SFAS No. 129 will specify the  disclosure  for all
         companies,  including  descriptions of their capital  structure and the
         contractual rights of the holders of such securities.  The company will
         adopt  SFAS No.  129 in fiscal  1998 and does not  anticipate  that the
         statement will have a significant impact on its disclosures.

Note 17 - Departure From Generally Accepted Accounting Principles:

         In  October  1995,  the FASB  issued  SFAS  No.  123.  "Accounting  for
         Stock-Based  Compensation."  SFAS  No.  123  recommends,  but  does not
         require,   that  companies   change  their  method  of  accounting  for
         stock-based  compensation  plans  to one that  attributes  compensation
         costs  equal to the fair  market  value of a  stock-based  compensation
         arrangement  over the periods in which  service is rendered.  Companies
         not electing to change their method of accounting  are required,  among
         other things, to provide additional disclosures which in effect restate
         a  company's  results for  comparative  periods as if the new method of
         accounting had been adopted.  As the Company is currently in Chapter 11
         bankruptcy,  they do not have the funds  available  to engage a firm to
         complete the required SFAS No. 123 calculation.


<PAGE>


Note 18 - Potential Sale of the Tennessee Facility:

         On August 15, 1997, NOXSO entered into a letter of intent with Republic
         for the sale of the Tennessee  Facility.  Republic,  a merchant banking
         firm which specializes in the acquisition and financing of assets,  has
         proposed,  subject to a number of conditions,  to purchase the Facility
         at a price of $11 million.  A definitive Asset Purchase  Agreement (the
         "Asset Purchase  Agreement")  setting forth the terms and conditions of
         the sale of the  Facility to Republic  was  executed by the Company and
         Republic on September 17, 1997. In addition to the sale of the Facility
         and related  assets,  the Asset  Purchase  Agreement  provides  for the
         assumption by the Company of the Calabrian  License Agreement (See Note
         14).

         Among  the  numerous  conditions  that must be  satisfied  prior to the
         completion of the sale are  negotiations  with third parties of various
         associated  agreements,  including  contracts  for the  sale of  liquid
         sulfur dioxide and the purchase of elemental  sulfur,  an operation and
         maintenance contract, a technical support agreement, agreements for the
         purchase  of any other input of process  materials  required to operate
         the Tennessee Facility effectively,  and a land lease for the Tennessee
         Facility.  Completion  of certain  of the  associated  agreements  will
         require the cooperation of Olin.

         Completion  of a sale  of the  Tennessee  Facility  is  subject  to the
         approval of the Bankruptcy Court. A Motion for Order Approving (i) Sale
         of Assets Free and Clear of Liens and  Encumbrances and (ii) Assumption
         and Assignment of Executory  Contract in Connection with Sale of Assets
         (the  "Motion") was filed with the Court on September 22, 1997,  and is
         scheduled  for hearing on October 21, 1997.  In addition to the sale of
         the Tennessee  Facility and related assets,  the Motion seeks authority
         for the Company to assume the Calabrian License Agreement and to assign
         it to Republic.  Subject to satisfaction  of all conditions,  the Asset
         Purchase Agreement targets November 1997 for the closing of the sale.

         Completion of a sale of the Tennessee  Facility is one of the principal
         elements of the Company's plan to emerge from bankruptcy.

Note 19 - Debtor-In-Possession Financing Subsequent to Year End

         A final order approving the interim debtor-in-possession  financing was
         entered on August 18,  1997.  The Company  subsequently  applied to the
         Bankruptcy  Court  for  approval  of  additional   debtor-in-possession
         financing  in an amount of up to  $600,000.  On August  18,  1997,  the
         Bankruptcy  Court  entered a final  order  authorizing  the  Company to
         obtain  such  financing  from a group of lenders  (the "DIP  Lenders").
         Pursuant to such  arrangement,  the Company is  authorized to grant and
         has granted to the DIP Lenders a first  priority lien in certain of the
         Company's  patents and laboratory  equipment and is authorized to issue
         300,000 shares of its Common Stock in the aggregate to the DIP Lenders.
         To date, the DIP Lenders have loaned  $583,333 to the Company  pursuant
         to the financing arrangement, and the Company has issued 289,333 shares
         of Common Stock to the DIP Lenders. The loans from the DIP Lenders bear
         interest at the rate of 20% per annum.  Interest for a one-year  period
         (one-half  of which will be refunded to the extent not earned) and a 5%
         origination fee have been paid from proceeds.

         The loans from both the Interim Lenders and the DIP Lenders are due and
         payable on the  earlier of the date one year after the  specific  loans
         were made or consummation of the Company's plan of reorganization.

<PAGE>


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

     None.



                                       24

<PAGE>



                                    PART III

Item 10. Directors and Executive Officers of the Registrant

     The directors and executive officers of the Company are listed in the table
below and brief summaries of their business experience are also set forth.


                                              Position with Company
     Name                     Age             or Principal Occupation
     ----                     ---             -----------------------
     Edwin J. Kilpela         51             President and Chief Executive
                                             Officer, Director

     John L. Haslbeck         48             Vice President, Treasurer, Director

     Robert M. Long           38             Secretary, Director

     Lewis G. Neal            64             Director

     John R. Toedtman         52             Director

     Stephen C. Voss          49             Director
                                       
     Edwin J.  Kilpela  has been  President  and Chief  Executive  Officer and a
member of the Board of Directors of the Company since February 1997. Mr. Kilpela
was employed in various positions by Westinghouse Electric Corporation from 1968
until February 1996. Most recently, from 1991 until February 1996 he was General
Manager of the  Environmental  Services  Divisions,  which provided  industrial,
government  and utility  customers  with services for the  management of various
types of  wastes.  From July 1996  until  February  1997,  Mr.  Kilpela  was the
President of Ansaldo Ross Hill, a power electronics firm in Houston,  Texas. Mr.
Kilpela received a BS in Mechanical  Engineering from Carnegie Mellon University
and  an  MBA  from  the  University  of  Pittsburgh.  He is a  director  of  PDG
Environmental Inc. (provider of asbestos abatement services).

     John L. Haslbeck is the Vice President and Treasurer of the Company.  He is
also a member of the  Company's  Board of  Directors.  Mr.  Haslbeck  joined the
Company in 1981.  He is a co-inventor  of the NOXSO  Process and holds  numerous
patents related to the NOXSO  technology.  Mr Haslbeck has more than 25 years of
experience in evaluating,  designing, building and testing air pollution control
equipment. He has a B.S. in Chemical Engineering from the University of Delaware
(1972).  He has been involved in every aspect of the NOXSO Process  research and
development program. He served as a senior project engineer on the first test of
the NOXSO Process on flue gas at the TVA's Shawnee Steam Plant. He managed tests
of the  NOXSO  Process  at a scale  of 0.06  and  0.75  megawatts  at the  DOE's
Pittsburgh  Energy  Technology  Center and  managed  the pilot test of the NOXSO
Process at Ohio Edison's  Toronto Power Plant.  Prior to 1981, Mr. Haslbeck held
management positions with Teknekron, Inc.,

                                       25

<PAGE>



TRW,  Inc.,  and Stauffer  Chemical Co.  working on all aspects of air pollution
measurement and control.

     Robert M. Long has been a member of the Board of Directors  since  November
1988.  Mr.  Long was  appointed  Secretary  in March of 1993.  Mr. Long has been
self-employed as a financial consultant throughout his business career. Mr. Long
is a member of the Board of Directors of Denning Mobile  Robotics Corp. Mr. Long
graduated  from the  University of the South (B.A. - Economics) in 1981 and from
the College of William and Mary (MBA) in 1983.

     Dr.  Lewis G. Neal is a founder of the Company and has been a member of the
Board of Directors  since  November  1979. He was the President and Treasurer of
the Company from November  1982 until May 1985.  From May 1985 until April 1987.
Dr. Neal served as a consultant to the Company. In April 1987, Dr. Neal rejoined
the Company as its President  and  Treasurer  and served in such capacity  until
February  1997.  He also served as Secretary of the Company from  November  1989
until March 1991. Dr. Neal acquired his Ph.D.  from  Northwestern  University in
1962.

     John R.  Toedtman  has been a member of the Board of  Directors  since July
1986.  He  currently  acts as a financial  consultant.  From  January 1990 until
January  1995,  Mr.  Toedtman was Chairman of GEN/Rx,  Inc.  From  November 1987
through  January 1990,  Mr.  Toedtman was  self-employed.  From April 1986 until
November 1987, he was Director of Corporate  Finance at F.N. Wolf & Co. Inc., an
investment  banker.  From 1981 to 1986,  he was  Chairman  and  Chief  Executive
Officer of Personal  Diagnostics,  Incorporated.  Mr.  Toedtman is a director of
Vital Signs, Inc.

     Stephen C. Voss is a founder of the Company  and has been a Director  since
1979.  Mr. Voss held the  position of Vice  President of the Company from August
1979 to March  1992.  Mr. Voss is also  President  of Voss & Co.  Inc.,  a stock
brokerage firm which he founded more than 24 years ago.

     Board  members  are  elected  by the  shareholders  and  the  officers  are
appointed  annually  by the  Board  of  Directors.  Vacancies  in the  Board  of
Directors are filled by the Board of Directors.

Section 16(a) Beneficial Ownership Reporting Compliance

     Section 16(a) of the Securities Exchange Act of 1934 requires the Company's
officers and directors,  and persons who own more than 10% of a registered class
of the Company's equity securities,  to file reports of ownership and changes in
ownership  with the Securities  and Exchange  Commission  and Nasdaq.  Officers,
directors  and  greater  than  10%  percent  shareholders  are  required  by SEC
regulation  to furnish the Company  with copies of all Section  16(a) forms they
file. Based solely on review of the copies of such forms furnished, John L.

                                       26

<PAGE>



Haslbeck, a director and officer of the Company, filed late Form 5 reporting his
receipt of options in March 1996,  March 1995 and August  1994.  Robert M. Long,
Lewis G. Neal,  John R.  Toedtman and Steven C. Voss,  directors of the Company,
filed late Form 5s reporting their receipt of options in March 1997, March 1996,
March 1995 and August 1994.


                                       27

<PAGE>



Item 11. Executive Compensation

     The  following  table sets forth a summary for the fiscal  years ended June
30, 1997,  1996 and 1995,  respectively,  of the cash and non-cash  compensation
awarded,  paid or  accrued,  by the  Company  to each  person  who served as the
Company's  President  during fiscal 1997 (the "named  executive  officers").  No
other person earned salary and bonus in excess of $100,000 during fiscal 1997.

                           SUMMARY COMPENSATION TABLE

<TABLE>
<CAPTION>
                                                                                                            Long Term
                                            Annual Compensation                                       Compensation Awards
                                            -------------------                                       -------------------
                                                                         Restricted
        Name and            Fiscal                                         Stock                                        All Other
   Principal Position        Year           Salary          Bonus         Awards ($)         Options/SARs (#)         Compensation
   ------------------        ----           ------          -----         ----------         ----------------         ------------
<S>                          <C>           <C>             <C>              <C>                 <C>                       <C> 
  Edwin J. Kilpela
President and Chief
 Executive Officer           1997         $ 32,019           --               --               275,000(1)                 $ --   
                                                                                                                         
                                                                                                                         
                                                                                                                         
                                                                                                                         
   Lewis G. Neal             1997          113,290           --             43,750(2)           80,000(3)                   --
     President                                                                                                           
 (until Feb. 1997)           1996          150,000         37,500             --                25,000(4)                   --
                  
                             1995          156,932         30,000             --                50,000(5)                   --
</TABLE>
                                                
(1)  Of the options shown, options to purchase 250,000 shares were granted at an
     exercise  price of $1.00 per share  and vest in  stages  on  completion  of
     certain specified targets. None of these options is currently  exercisable.
     The  remaining  options to purchase  25,000  shares were granted  under the
     Company's  1990 Stock  Option  Plan,  as amended,  at an exercise  price of
     $0.9375 per share.  These options  terminate on March 15, 2007,  subject to
     early termination on cessation of an officer's employment with the Company.
     They were  exercisable  with respect to one-half of the shares on March 15,
     1997,  the date of grant,  and with respect to the balance of the shares on
     the first anniversary of the date of grant.

(2)  Represents  the value of 70,000  shares of Common Stock awarded to Mr. Neal
     pursuant  to  his  Employment  Agreement  dated  as of  February  1,  1997,
     effective on the date of  termination  of Mr.  Neal's  employment  with the
     Company  under certain  circumstances.  These shares were issued on May 15,
     1997,  and the value shown is based upon the market price of the  Company's
     common stock on that date ($0.625 per share).

(3)  Of the options  shown,  10,000 were granted under the Company's  1990 Stock
     Option Plan,  as amended,  at an exercise  price of $0.9375 per share.  The
     options terminate on March

                                       28

<PAGE>



     15,  2007,  subject  to early  termination  on  cessation  of an  officer's
     employment with the Company. They were exercisable with respect to one-half
     of the shares on March 15, 1997, the date of grant, and with respect to the
     balance of the shares on the first  anniversary  of the date of grant.  The
     remaining  options to  purchase  70,000  shares  were issued at an exercise
     price  of  $1.50  under  a  Warrant  issued  to Mr.  Neal  pursuant  to his
     Employment  Agreement in connection with the termination of his employment.
     The Warrant may be  exercised  at any time to and  including  December  31,
     2001.

(4)  The options shown were granted under the Company's  1990 Stock Option Plan,
     as amended,  to purchase the Company's Common Stock at an exercise price of
     $4.75 per share.  These  options  terminate on March 15,  2006,  subject to
     early  termination  upon  cessation  of an  officer's  employment  with the
     Company.

(5)  The options shown were granted under the Company's  1990 Stock Option Plan,
     as amended,  to purchase 25,000 shares of the Company's  Common Stock at an
     exercise price of $5.25 per share and 25,000 shares of the Company's Common
     Stock at an  exercise  price of $3.25  per  share.  The  options  having an
     exercise  price of $5.25 per share  terminate  on March 16,  2005,  and the
     options  having an exercise  price of $3.25  terminate  on August 29, 2004,
     subject to early termination upon cessation of an officer's employment with
     the Company.  The options  having an exercise price of $3.25 per share were
     issued in connection  with the  cancellation  of options to purchase 25,000
     shares of the Company's Common Stock at a higher price which were issued in
     prior fiscal years.

     The Company has not had and does not have any annuity, retirement, pension,
deferred or incentive compensation plan or arrangement under which any executive
officers  are  entitled to  benefits,  nor does the Company  have any  long-term
incentive  plan  pursuant  to  which   performance   units  or  other  forms  of
compensation  are paid,  except for certain stock options granted to Mr. Kilpela
and described in note (1) to the Summary Compensation Table.  Executive officers
who qualify to  participate  in the Company's 1990 Stock Option Plan. See "Stock
Options"  below.  Executive  officers  participate  in group  life,  health  and
hospitalization plans which are available generally to all employees.

     In January 1992,  the Company  instituted a simplified  employee  pension -
Individual  Retirement Account ("IRA") for the employees under Section 408(k) of
the Internal Revenue Code. The plan allows each employee to contribute up to 15%
or $8,994, whichever is less, of his or her salary to an IRA. This plan is being
sponsored  by the  Company,  but the  Company  has not in the  past and does not
presently intend to make contributions to the plan.

Stock Options

     The  Company's  1990  Stock  Option  Plan,  as amended  (the "1990  Plan"),
authorizes  the  granting  of either  "incentive  stock  options"  as defined in
Section 422 of the Internal Revenue Code of 1986, as amended,  or "non-qualified
stock options" to acquire the Company's common stock.

                                       29

<PAGE>



The 1990 Plan does not provide for the  issuance of stock  appreciation  rights.
The purpose of the 1990 Plan is to advance the  interests of the Company and its
shareholders  by providing  additional  incentives to the Company's  management,
including members of the Company's Board of Directors, to accelerate development
of the NOXSO Process and to reward achievement of corporate goals. The 1990 Plan
authorizes  the  issuance of options to purchase up to 544,000  shares of common
stock.

     On March 17, 1995 the Board of  Directors  resolved  that options be issued
each year to officers and directors of the Company in the following manner:

          President                 25,000 shares
          Vice President(s)         15,000 shares
          Directors                 10,000 shares

     These grants vest 50% immediately  and 50% on the first  anniversary of the
issuance.  The grants are effective on the third Friday of March,  and are at an
option price equal to the market price of the Company's common stock at close of
market on that day as quoted on Nasdaq.

Option Awards

     The following table sets forth information  concerning  options to purchase
the Company's Common Stock or stock appreciation rights ("SARs") with respect to
the Company's Common Stock granted to named executive officer in 1997.

                      Option/SAR Grants in Fiscal Year 1997

<TABLE>
<CAPTION>
                                                                                                        Potential Realizable
                                                                                                          Value at Assumed
                                                                                                           Annual Rates of
                                                                                                             Stock Price
                                                                                                          Appreciation for
                                         Individual Grants                                                  Option Term(2)
---------------------------------------------------------------------------------------------           -----------------------
                          Number of         % of Total
                         Securities        Options/SARs
                         Underlying         Granted to            Exercise
Name                     Option/SARs         Employees         or Base Price       Expiration
                        Granted (#)(1)     in Fiscal Year           ($/Sh)             Date               5% ($)         10% ($)
---------------------------------------------------------------------------------------------           -----------------------
<S>                        <C>                 <C>                     <C>          <C>  
Edwin J. Kilpela           250,000             67.5                    1.00          3/15/07             157,224        398,436
                           25,000              6.75                  0.9375          3/15/07              14,470         37,353
                                                                                  
L.G. Neal                  10,000               2.7                  0.9375          3/15/07               5,896         14,941
                           70,000              18.91                   1.50         12/31/01             (10,077)        14,782
                                                                               
</TABLE>

(1) The options  shown for Mr.  Kilpela and Mr. Neal are  described in notes (1)
and (3) to the Summary Compensation Table.

                                       30

<PAGE>




(2) The potential  realizable value shown is calculated based upon  appreciation
of the Common Stock issuable under options, calculated over the full term of the
options  assuming 5% and 10% annual  appreciation  in the value of the Company's
Common Stock from the date of grant, net of the exercise price of the options.


Option Exercises and Holdings

     The  following  table  sets  forth  information  with  respect to the named
executive officers,  concerning the exercises of options during fiscal year 1997
and the number  and value of  unexercised  options  held as of the end of fiscal
year 1997.

                AGGREGATED OPTION/SAR EXERCISES IN LAST YEAR AND
                        FISCAL YEAR-END OPTION/SAR VALUES
<TABLE>
<CAPTION>
                                                         No. of Securities Underlying              Value of Unexercised
                                                              Unexercised Options/               In-the-Money Options/SARs
                        No. of Shares       Value            SARs at Fiscal Year-End               at Fiscal Year-End (2)
                         Acquired on       Realized          -----------------------               ----------------------
        Name              Exercise           (1)         Exercisable       Unexercisable       Exercisable      Unexercisable
        ----             ----------          ---         -----------       -------------       -----------      -------------
<S>                          <C>              <C>          <C>                <C>                  <C>                <C>     
Edwin J. Kilpela             --               --            12,500            262,500              --                 --

Lewis G. Neal                --               --           200,000             5,000               --                 --
</TABLE>

     (1)  Value  realized is  calculated to equal the market price of the common
          stock at the exercise date less the exercise price.

     (2)  Based on $0.375  market  price of the  common  stock on June 30,  1997
          (fiscal year end) and the exercise  price of the options,  none of the
          options is an in-the-money option.


Employment Agreements

     Mr. Kilpela is currently employed under an employment agreement dated as of
February 13, 1997.  The  agreement has a term of two years and provides that Mr.
Kilpela will serve as the President and Chief  Executive  Officer of the company
at an annual base salary of $185,000 with additional  increases to be determined
by the Board of Directors.  The agreement  requires that Mr.  Kilpela devote his
full  business time to the  operations of the Company and also contains  certain
covenants  not to compete with the Company in exchange for payment of one year's
salary to Mr. Kilpela following  termination of the agreement if Mr. Kilpela has
complied with such covenants.  The Company has the right to waive the provisions
of the covenant not to compete and, in such event, will have no further monetary
obligation  with respect  thereto.  The agreement is  terminable by Mr.  Kilpela
under various conditions including a change in control of the Company, in which

                                       31

<PAGE>



case Mr.  Kilpela is entitled to a lump sum payment  equal to the greater of his
then annual compensation, or the remaining total compensation payable to him for
the unexpired term of the agreement.  Additionally,  the agreement requires that
all ideas,  inventions,  discoveries,  developments or improvements conceived by
Mr. Kilpela during the term of his employment  which are within the scope of the
Company's  business  (whether  or not  patentable),  are and  shall  remain  the
exclusive property of the Company.

     Prior to February 1, 1997,  Dr. Neal was employed  pursuant to the terms of
employment agreements effective as of April 22, 1992, which had an initial terms
of two years and which  governed his  employment  until that time. The agreement
provided that Dr. Neal would serve as the President, at an annual base salary of
$150,000  with  additional  increases to be determined by the Board of Directors
and certain bonuses payable upon the achievement of certain  corporate goals. In
connection  with the hiring of Mr.  Kilpela  as  President  and Chief  Executive
Officer of the  Company,  Dr. Neal and the Company  entered  into an  employment
agreement  dated as of February 1, 1997,  terminating and superseding Dr. Neal's
previous employment agreement. The agreement was terminable by either party upon
written notice.  It provided for compensation at an annual rate of $150,000 (the
"Annual  Salary");  provided that so long as other employees of the Company were
serving under salaries reduced from the rate payable in January 1997, Dr. Neal's
compensation  under  the  agreement  was at a rate  equal  to 50% of the  Annual
Salary.  Pursuant to the agreement,  when Dr. Neal's employment with the Company
was terminated by the Company on April 18, 1997, he was entitled to receive,  in
a lump sum payment,  an amount equal to the Annual Salary,  70,000 shares of the
Company's  common stock and a warrant to purchase 70,000 shares of the Company's
common  stock at an  exercise  price of $1.50 per share.  The  Common  Stock and
Warrant were issued, and Dr. Neal has filed a claim in the Company's  bankruptcy
proceeding relating to the cash severance payment.  The agreement also contained
certain  covenants not to compete with the Company in exchange for payment of an
additional one year's salary to Dr. Neal following  termination of the agreement
if Dr. Neal has complied with such  covenants.  Pursuant to the  agreement,  the
Company  waived the  provisions of the covenant not to compete and, as a result,
has no further monetary obligation with respect thereto.  The agreement requires
that all ideas, inventions, discoveries,  developments or improvements conceived
by Dr. Neal during the term of his employment  which are within the scope of the
Company's  business  (whether  or not  patentable),  are and  shall  remain  the
exclusive property of the Company.

     Mr. Haslbeck is presently  employed  pursuant to the terms of an employment
agreement effective as of April 29, 1992, which had an initial term of two years
and  which  continues  to  govern  his  employment.  Mr.  Haslbeck's  employment
agreement  provides that Mr.  Haslbeck will serve as the Vice  President,  at an
annual base salary of $90,000 with additional  increases to be determined by the
Board of Directors.  In February 1997, the  compensation of all of the Company's
employees,  including Mr.  Haslbeck,  was reduced to one-half of their  previous
compensation.  In  July  1997,  such  compensation  was  increased  to 3/4 of an
employee's  pre- February  1997  compensation.  The agreement  requires that Mr.
Haslbeck devote his full business time to the operations of the Company and also
contains  certain  covenants  not to compete  with the Company in  exchange  for
payment of one year's salary to Mr. Haslbeck following termination of

                                       32

<PAGE>



the agreement if Mr. Haslbeck has complied with such covenants. The agreement is
terminable  by Mr.  Haslbeck  under  various  conditions  including  a change in
control of the  Company,  in which case Mr.  Haslbeck  is entitled to a lump sum
payment equal to the greater of his then annual  compensation,  or the remaining
total  compensation  payable  to him for the  unexpired  term of the  agreement.
Additionally,  the agreement requires that all ideas,  inventions,  discoveries,
developments  or  improvements  conceived by Mr. Haslbeck during the term of his
employment which are within the scope of the Company's  business (whether or not
patentable), are and shall remain the exclusive property of the Company. Until a
new employment agreement is reached, the terms of this employment agreement will
remain in effect.

Compensation Committee Interlock and Insider Participation

     During  fiscal  1997,  Robert M.  Long and  Stephen  H. Voss  served on the
Company's  Compensation  Committee.  In  addition,  John H.  Michael,  a  former
director  of  the  Company,  served  on the  Compensation  Committee  until  his
resignation  from the Board in October  1996.  Mr. Long is the  Secretary of the
Company. Mr. Michael was its Chairman and Chief Executive Officer from September
1985 to March 1991.  Mr. Voss was Vice President of the Company from August 1979
to March 1992.  Matters relating to the compensation of Mr. Kilpela and Dr. Neal
were made by the Board of  Directors  as a whole,  with the  affected  executive
having  excused  himself  from  the   discussion.   There  are  no  interlocking
relationships,  within the  meaning of such term  under the  regulations  of the
Securities and Exchange Commission,  involving any of these individuals or other
executive officers of the Company.

Directors Compensation

     Prior to June 1997,  the Company's  outside  directors had been entitled to
receive  an  annual  fee of  $30,000  for  serving  as  members  of the Board of
Directors  and  members of the  Executive  Committee.  The Board had  previously
agreed to defer  indefinitely  payment of the annual fee, and in June 1997,  the
Board  determined  to eliminate  the annual  director's  fee.  Each director and
former  director who would have been entitled to a fee for past services  (other
than John H. Michael) also waived his right to any unpaid annual fee.  Directors
are reimbursed for their  expenses in connection  with  attendance at each Board
Meeting.

Item 12. Security Ownership of Certain Beneficial Owners and Management

     As of September  30, 1997,  there were  14,999,651  shares of the Company's
Common  Stock  outstanding.  Set forth  below is  information  concerning  stock
ownership of all persons known by the Company to own  beneficially 5% or more of
the Company's common stock, of each executive  officer,  of each director and of
all  directors  and  executive  officers of the Company as a group (6  persons),
based upon the number of shares of common stock  outstanding  on  September  30,
1997.  Unless otherwise  stated,  each person so named exercises sole voting and
investment powers to the shares of Common Stock so indicated.


                                       33

<PAGE>



Name and Address of                    Amount and Nature
Beneficial Owner                   of Beneficial Ownership(1)       Percentage
-------------------                --------------------------       ----------

W.R. Grace & Co. - Conn.                  2,005,494                   13.37%
1114 Avenue of the Americas
New York, NY

Stephen C. Voss                             838,415(2)                 5.56
8415 Willow Forge Road                                            
Springfield, VA                                                   
                                                                  
Edwin J. Kilpela                             12,500(3)                 *
                                                                  
Lewis G. Neal                               436,000(4)                 2.87
                                                                  
John L. Haslbeck                            204,575(5)                 1.36
                                                                  
Robert M. Long                              120,000(6)                 *
                                                                  
John R. Toedtman                             80,000(7)                 *
                                                                  
All officers and                                                  
directors as a                                                    
group (6 persons)                         1,691,490(8)                10.86
                                                                  
                                                                  
* less than 1%
                                                                    
(1)  For  purposes of this table,  shares are  beneficially  owned if the person
     directly or  indirectly  has the sole or shared power to vote or direct the
     voting of the  securities  or the sole or  shared  power to  dispose  of or
     direct the  disposition of the  securities.  A person also is considered to
     beneficially  own shares if such person has a right to acquire  them within
     60 days, and options  exercisable within such period are referred to herein
     as "currently exercisable."

(2)  The shares  beneficially  owned by Mr. Voss include  481,800 shares held by
     Voss & Co., Inc., a stock brokerage firm of which Mr. Voss is President and
     sole  stockholder  and  include  80,000  shares  issuable  to him  upon the
     exercise of currently  exercisable  options  awarded under the 1990 Plan as
     follows:  for 5,000  shares at an exercise  price of $0.9375 per share that
     expires on March 15, 2007;  for 10,000 shares at an exercise price of $4.75
     per share that expires on March 15, 2006;  for 10,000 shares at an exercise
     price of $5.25 per share that expires on March 16, 2005;  for 25,000 shares
     at an exercise  price of $3.25 per share that  expires on August 29,  2004;
     for 20,000 shares at an exercise price of $4.5625 per share that expires on
     December 8, 2001; and for 10,000 shares at an exercise price of $1.9063 per
     share that expires on April 17, 2000.

                                       34

<PAGE>



(3)  The shares  beneficially  owned by Mr.  Kilpela  consist  of 12,500  shares
     issuable to him upon the exercise of currently  exercisable options awarded
     to him under the 1990 Plan at an  exercise  price of $0.9375 per share that
     expires on March 15, 2007.

(4)  The shares beneficially owned by Mr. Neal include 70,000 shares issuable to
     him upon  exercise  of the  warrant  described  in note (3) to the  Summary
     Compensation  Table at an  exercise  price of $1.50 per  share and  130,000
     shares issuable to him upon the exercise of currently  exercisable  options
     awarded  to him  under  the 1990 Plan as  follows:  for 5,000  shares at an
     exercise  price of $0.9375 per share that  expires on March 15,  2007;  for
     25,000 shares at an exercise price of $4.75 per share that expires on March
     15, 2006;  for 25,000  shares at an exercise  price of $5.25 per share that
     expires on March 16, 2005;  for 25,000 shares at an exercise price of $3.25
     per share that expires on August 29, 2004; for 15,000 shares at an exercise
     price of $5.00 per share that expires on June 1, 2004; for 25,000 shares at
     an exercise  price of $11.25 per share that expires April 1, 2002;  and for
     10,000  shares at an exercise  price of $1.9063  per share that  expires on
     April 17, 2000.

(5)  The  shares  beneficially  owned  by Mr.  Haslbeck  include  89,500  shares
     issuable to him upon the exercise of currently  exercisable options awarded
     to him under  the 1990 Plan as  follows:  for 7,500  shares at an  exercise
     price of $0.9375  per share  that  expires  on March 15,  2007;  for 15,000
     shares at an  exercise  price of $4.75 per share that  expires on March 15,
     2006;  for  15,000  shares at an  exercise  price of $5.25  per share  that
     expires on March 16, 2005;  for 25,000 shares at an exercise price of $3.25
     per share that expires on August 29, 2004; for 12,000 shares at an exercise
     price of $5.00 per shares that expires on June 1, 2004; for 5,000 shares at
     an exercise  price of $12.25 per share that expires on April 28, 2002;  and
     for 10,000 shares at an exercise price of $1.9063 per share that expires on
     April 17, 2000.

(6)  The  shares  beneficially  owned by Mr.  Long  consist  of  120,000  shares
     issuable to him upon the exercise of currently  exercisable options awarded
     under the 1990 Plan as follows:  for 5,000  shares at an exercise  price of
     $0.9375 per share that expires on March 15, 2007;  for 10,000  shares at an
     exercise  price of $4.75 per share  that  expires  on March 15,  2006;  for
     10,000 shares at an exercise price of $5.25 per share that expires on March
     16, 2005;  for 25,000  shares at an exercise  price of $3.25 per share that
     expires  on August 29,  2004;  for 20,000  shares at an  exercise  price of
     $4.5625 per share that expires on December 8, 2001;  and for 50,000  shares
     at an exercise price of $1.9063 per share that expires on April 17, 2000.

(7)  The shares  beneficially  owned by Mr.  Toedtman  consist of 80,000  shares
     issuable to him upon the exercise of currently  exercisable options awarded
     under the 1990 Plan as follows:  for 5,000  shares at an exercise  price of
     $0.9375 per share that expires on March 15, 2007;  for 10,000  shares at an
     exercise  price of $4.75 per share  that  expires  on March 15,  2006;  for
     10,000 shares at an exercise price of $5.25 per share that expires on March
     16, 2005;  for 25,000  shares at an exercise  price of $3.25 per share that
     expires on August 29, 2004;

                                       35

<PAGE>



     for 20,000 shares at an exercise price of $4.5625 per share that expires on
     December 8, 2001; and for 10,000 shares at an exercise price of $1.9063 per
     share that expires on April 17, 2000.

(10) The shares  beneficially owned by all directors and executive officers as a
     group  includes  shares  owned of record as well as shares  issuable to the
     beneficial  owners upon the  exercise  of options  and a warrant  which are
     exercisable currently or within sixty (60) days.


                                       36

<PAGE>



Item 13. Certain Relationships and Related Transactions

     Grace and the Company are parties to the Grace License Agreement  described
in "Certain License Agreements" in Item 1.


                                       37

<PAGE>



                                     PART IV

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

       (a)(1) Consolidated Financial Statements
              A list of financial  statements  filed as a part of the Company's
              Annual Report on Form 10-K is set forth at page 31 hereof.

       (a)(2) Inapplicable

       (a)(3) List of Exhibits
              The  following  exhibits  are  included  as a part of this Annual
              Report on Form 10-K or incorporated herein by reference.

     Exhibit No.              Document Description
     -----------              --------------------

        3.1(1)      Articles of Incorporation, as amended.
                    
        3.2(1)      Amended and Restated By-Laws.
                    
        10.1(2)     License and Supply  Agreement  between W.R.  Grace & Co. and
                    the Company, dated September 11, 1987.
                    
        10.2(3)     Cooperative  Research  Agreement  between the United  States
                    Department of Energy's  Pittsburgh  Energy Technology Center
                    and  the  Company,  dated  February  15,  1985,  as  amended
                    September 27, 1988.
                    
        10.3(4)     Amended and  Restated  Lease,  executed May 1990 between WPC
                    Associates and the Company.
                    
        10.4(4)     1990 Stock Option Plan.
                    
        10.5(5)     License  Agreement,  executed March 24, 1992 between FLS and
                    the Company.
                    
        10.6(6)     Novation  Agreement,  dated as of March 1, 1992 by and among
                    the  Company,  the United  States  Department  of Energy and
                    Morrison Knudsen Corporation, effective March 1, 1992.
                    
        10.7(6)     Assignment Agreement by and between the Company and Morrison
                    Knudsen Corporation, effective March 1, 1992.
                  
                                       38

<PAGE>



          10.8(6)   Modification  No. 5  to  Cooperative  Agreement No. DE-FC22-
                    91PC90549 (Amendment No. M005) and accompanying
                    letter from the DOE.

          10.9(6)   Project Agreement,  dated August 30, 1994 by and between the
                    Company and Alcoa Generating Corporation.

          10.10(6)  License,  Construction,  Lease and Sulfur Supply  Agreement,
                    dated   April  26,   1995   between  the  Company  and  Olin
                    Corporation.

          10.11(7)  Asset  Purchase  Agreement  dated as of September  18, 1997,
                    between the Company and Republic Financial Corporation.

          10.12(7)  Stipulation and Order.

          23        Consent of Arthur Andersen LLP.

(1)  Incorporated by reference to the Company's  Registration  Statement on Form
     S-1 filed with the Commission on January 13, 1989, file No. 33-2654l.

(2)  Incorporated by reference to the Company's Annual Report on Form 10-K filed
     with the Commission on December 28, 1987.

(3)  Incorporated by reference to the Company's Annual Report on Form 10-K filed
     with the Commission on September 28, 1988.

(4)  Incorporated by reference to the Company's Annual Report on Form 10-K filed
     with the Commission on September 28, 1990.

(5)  Incorporated by reference to the Company's  Annual Report on Form 8-K filed
     with the Commission on March 24, 1992.

(6)  Incorporated by reference to the Company's Annual Report on Form 10-K filed
     with the Commission in September 1995.

(7)  Incorporated by reference to the Company's  Annual Report on Form 8-K filed
     on September 30, 1997.

(b)  Reports on Form 8-K
     The  following  Reports on Form 8-K were filed  during the last  quarter of
     fiscal  1997:  (i) a Report filed on June 12, 1997  reported the  Company's
     adjudication as a bankrupt under Item 3 and certain matters relating to the
     Company's Nasdaq listing under Item 5 and (ii)

                                       39

<PAGE>



     a report filed on September 30, 1997  reporting  under Item 5 the execution
     of the Asset Purchase  Agreement with Republic Financial  Corporation,  the
     filing of a Motion  for  Extension  of  Exclusive  Time to File  Plan,  the
     Company's   debtor-in-possession   financing  and  the  conversion  of  the
     Company's convertible subordinated debentures.

                                       40

<PAGE>

                                   SIGNATURES

     Pursuant  to the  requirements  of  Section  13 or 15(d) of the  Securities
Exchange  Act of 1934,  the  Company has duly caused this Report to be signed on
its behalf by the undersigned, thereunto duly authorized.

                                             NOXSO CORPORATION


Date:  October 14, 1997                 By: /s/ Edwin J. Kilpela
                                            -------------------------------
                                             Edwin J. Kilpela, President
                                             and Chief Executive Officer


         Pursuant to the  requirements  of the Securities  Exchange Act of 1934,
this Report is signed  below by the  following  persons on behalf of the Company
and in the capacities and on the dates indicated.


/s/ Edwin J. Kilpela          President and Chief Executive     October 14, 1997
-----------------------       Officer, Director (Principal 
Edwin J. Kilpela              Executive and Accounting     
                              Officer)                     


/s/ John L. Haslbeck          Vice President, Treasurer,        October 14, 1997
-----------------------       Director
John L. Haslbeck              


/s/ Robert M. Long            Secretary, Director               October 14, 1997
-----------------------
Robert M. Long


/s/ Lewis G. Neal             Director                          October 14, 1997
-----------------------
Lewis G. Neal


                              Director                          October __, 1997
-----------------------
John R. Toedtman


/s/ Stephen C. Voss           Director                          October 14, 1997
-----------------------
Stephen C. Voss



                                       41