U.S. SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

                                   FORM 10-KSB

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

     For the fiscal year ended July 31, 1997 Commission file number 0-28158

                             KIDEO PRODUCTIONS, INC.
                 (Name of small business issuer in its charter)

                DELAWARE                                        13-3729350
     -------------------------------                        ----------------
     (State or other jurisdiction of                        (I.R.S. Employer
     incorporation or organization)                         Identification No.)

     611 BROADWAY, SUITE 523
     NEW YORK, NEW YORK                                         10012
     -----------------------                                    -----
     (Address of principal executive offices)                (Zip Code)

                     Issuer's telephone number 212-505-6605
       Securities registered under Section 12(b) of the Exchange Act: NONE
                Securities registered under Section 12(g) of the
                                 Exchange Act:

                                                          Name of each exchange
  Title of each class                                     on which registered
  -------------------                                     -------------------
COMMON STOCK, par value $0.0001 per share                           None
REDEEMABLE WARRANTS, exercisable at $4.00
per share of Common Stock for 4 years commencing June 24, 1997      None

Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 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 |_|

Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B contained in this form, and no disclosure will 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-KSB or any
amendment to this Form 10-KSB. [ ]

The issuer's revenues for its fiscal year ended July 31, 1997 were $1.3million.
As of October 6, 1997, 3,682,128 shares of Common Stock were outstanding (of
which 1,172,386 shares were held, either directly or indirectly, by affiliates
of the Company) and 1,610,000 Redeemable Warrants were outstanding. Based upon
the average closing bid and asked prices of the Common Stock on Nasdaq on
October 6, 1997, the aggregate market value of the common shares held by
non-affiliates was approximately $3.7 million. In making this computation, all
shares known to be owned by directors and executive officers of the issuer and
all shares known to be owned by other persons holding in excess of 5% of the
issuer's Common Stock have been deemed held by "affiliates" of the issuer.
Nothing herein shall prejudice the right of the issuer or any such person to
deny that any such director, executive officer or stockholder is an "affiliate."

Transitional Small Business Disclosure Format (check one):  Yes |_|  No |X|.


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                                     Part I

Item 1. Business

General

         In its approximately four year history, Kideo Productions, Inc. has
succeeded in developing proprietary technologies and production processes which
have made it the leading low-cost manufacturer of digitally personalized home
videos for children ("Kideo"). Since commercially launching its first Kideos
nationally in the spring of 1994, the Company has produced and marketed
proprietary personalized home video titles for children aged two to seven. In
1998, Kideo will be releasing products featuring popular licensed characters,
including personalized home videos featuring Barney, the star of the top-rated
"Barney and Friends" PBS television series. Also in 1998, Kideo expects to
expand its line of personalized products to include photo-personalized books,
audio-personalized audiocassettes, and various other digitally personalized
media products.

         In a Kideo personalized home video, a child's face and spoken name are
digitally placed by a PC-based production system into a story template that has
been stored as digital video. The digital video is then output to analog video,
allowing the child to become the star in a personalized VHS videocassette. The
Company currently markets eight proprietary Kideo titles for children. With its
existing Kideos targeting the children's market, the Company has created -- and
believes it dominates -- a unique product niche in the home video market.

         For its fiscal years ended July 31, 1996 and 1997, the Company had net
losses of approximately $3,059,000 and $3,819,000, respectively, and it had an
accumulated deficit of approximately $9,169,000, as of July 31, 1997. The report
of independent public accountants on the Company's consolidated financial
statements for the fiscal years ended July 31, 1996 and 1997 contain an
explanatory paragraph stating that the Company's consolidated financial
statements have been prepared assuming that the Company will continue as a going
concern. The consolidated financial statements do not include any adjustments
that might result from the outcome of such uncertainty.

         On September 26, 1997 The Company was advised by the Nasdaq Stock
Market that Nasdaq had deleted the Company's stock from listing in the Nasdaq
SmallCap Market. The Nasdaq decision was based in part upon the Company's having
not met, as reflected in its Form 10-QSB for the quarterly period ended April
30, 1997, the "total assets" and "capital and surplus" requirements for
continued listing on the Nasdaq SmallCap Market. Despite the Company's
submission of a plan for achieving compliance with those requirements, the
Nasdaq decision indicated that the compliance panel lacked adequate confidence
in the Company's ability to sustain long term compliance.

         The Company claims proprietary rights in its technologies and
production process. In April 1997, the Company was issued a U.S. patent relating
to its digital personalization production process (Patent No. 5,623,587). The
Company believes that this patent could potentially have substantial value,
since the Company expects that businesses owning characters that are popular in
the children's home video and television markets will ultimately seek to exploit
those characters in digitally personalized audiovisual products.

         Prior to 1997, the Company had marketed six Kideo titles (the "Original
Kideos"), which were created utilizing the first generation of the Company's
proprietary computerized production process. That production process resulted,
in general, in a videocassette product that might be likened to a "video
picturebook" - the child's personalized character appearing in an Original Kideo
is capable of only a very limited range of partial-motion animation.


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         In January 1997, the Company began marketing the first two titles in
its new series of Gregory and Me Kideos. The Company created these titles
utilizing a newly implemented proprietary production system. As a result of the
improved computerized production technologies employed by this system, in a
Gregory and Me title the child's personalized character can exhibit
two-dimensional full- motion animation and can be made to interact with both
two-dimensional animated versions and three-dimensional puppet versions of the
Gregory and Me cast of proprietary characters -- who in each title are led by
Gregory Gopher. It is this recently patented production process -- a
sophisticated technological system for the low cost, mass production of
digitally personalized videos -- which the Company believes will provide it with
a meaningful near-term competitive advantage over new entrants into the emerging
market for digitally personalized home video products.

         Each of the Original Kideos and Gregory and Me Kideos utilizes a
digitally- stored video story template that features content and characters
which are proprietary to the Company. The eight existing Kideo titles have
playing time of approximately 20 minutes each and a suggested retail list price
of $29.95. The Company believes, however, that more than half of all Kideos sold
by its customers have been offered at an actual retail price of $34.95 or
higher. To date, substantially all Kideos sold have been purchased by U.S.
consumers. The Company historically has relied primarily on national catalogue
retailers (such as Hammacher Schlemmer and Spiegel) to market and sell its
products. Since the Underwritten Offering, however, the Company has increasingly
been targeting its marketing strategies towards direct-to-consumer advertising
and the development of relationships with established national distributors of
children's home video products.

Operating Strategy

         The Company is focusing its near-term development efforts on the
development of personalized products featuring licensed characters that are
well-known in the children's home entertainment market. in June, 1997, the
Company announced that it had been gratned a five-year exclusive license to
produce and market personalized "Barney" home videos, and in October, 1997, the
Company was granted a five-year license to produce and market personalized
"Barney" books. The Compnany is currently in negotiations for additional
character licenses, and the Company is also engaged in various discussions
regarding marketing and other arrangements with companies that control those
types of characters and/or that promote and distribute children's home video
products through a broad range of domestic distribution channels, including
retail outlets of various kinds. The Company is not seeking, or engaged in
negotiations concerning, any arrangements that relate to any merger,
consolidation, purchase or sale transaction involving the Company, any of its
assets or any other business. The Company's long-term business strategy is to
become a premier market leader, both domestically and internationally, in the
development, manufacturing and marketing -- to children and other consumers --
of a wide variety of digitally personalized home video titles, other digitally
personalized audiovisual products, and related articles of merchandise (both
personalized and non- personalized). Included among the Company's product
development goals are:

                  - to develop additional Kideo titles for children employing
                  both proprietary and licensed characters, including (i) series
                  of titles that -- like Barney -- feature the same cast of
                  recurring characters, and (ii) titles for older children; and

                  - develop other digitally personalized audiovisual products
                  likely to appeal to a demographic base spanning both children
                  and adults, such as personalized screen savers and other
                  personalized software products for personal computers.

         In addition, the Company will in general continue to seek to expand its
product line by exploiting more sophisticated digital personalization
technologies, as they become available, in order to offer to consumers
progressively more sophisticated and entertaining personalized media products.

Technology Overview


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         The production of Kideos was made possible by relatively recent
advancements in the capabilities of affordable desktop personal computers
("Pcs") to process, manipulate and edit digital video information. A Kideo is
created by overlaying a digitized photographic image of a child's face onto the
body of an illustrated character embodied in a pre-existing digital story
template and then recording, to an analog VHS videocassette, the resulting
series of digital images to the accompaniment of music and narration. The
narrative track is also personalized in appropriate places by inserting the
spoken name of the child. In the future, the Company's current production
technologies will enable it to manufacture Kideos in digital versatile disk
("DVD") and other digital formats.

         The three older titles of those comprising the Original Kideos -- Mr.
Tibbs & the Great Pet Search; My Alphabet; and 1,2,3, Come Count With Me -- were
conceived and produced by the Company prior to the Company's development of its
recently patented digital personalization production process, using a less
advanced production system (referred to herein as the "TVL system"). These three
Kideo titles consist merely of 130 to 150 two-dimensional full-screen
illustrated images (or "frames") in which the child appears as the main
character together with other illustrated characters who comprise the standard
content of the particular title. In the three Kideo titles produced with the TVL
System, the illustrated body of the child's personalized character can be moved
around within a frame, but only in a limited number of frames, and each frame
appears on screen for almost six seconds before fading to the next frame. As a
result, the finished Kideo product has a somewhat static appearance that might
be likened to a "video picturebook," as distinguished from the full-motion
animation a consumer experiences when viewing, for example, a videocassette of
Disney's The Lion King. During the second half of 1996, the Company ceased
producing the three older Original Kideos on the TVL system and began
manufacturing them using the digital personalization production process in use
currently by the Company.

         The fourth of the Original Kideo titles is My Christmas Wish. First
introduced to the market in the latter half of 1995, this title was the first
Kideo to be produced by the Company utilizing a newly-implemented system for the
production of digitally personalized videos. Because the Company utilized some
of the new and more advanced production technologies available to it with such
system, the two-dimensional illustrated body of the child's personalized
character in this title exhibits a significantly greater range of animated
motion -- although still not full-motion animation. In My Christmas Wish, not
only can the illustrated character be moved around the screen, but there is also
movement within the illustrated body itself (i.e., arms can be raised, the head
turned, etc.).

         In January 1997, the Company introduced to the market the first two
titles of the Gregory and Me series of Kideos - See What I Can Do! and My
Amazing Animal Adventure. In creating these two titles, the Company utilized
some of the more advanced production capabilities afforded by its new digital
personalization production process. As a result, in the first two Gregory and Me
Kideos, the illustrated body of the child's personalized character exhibits
two-dimensional full-motion animation (instead of merely partial-motion
animation) and is able to interact with both two-dimensional animated versions
and three-dimensional puppet versions of the Gregory and Me cast of proprietary
characters.

         The Company's ultimate objective for the evolution of its digital
personalization production process, however, is to create a manufacturing system
capable of producing, at low cost, Kideos -- as well as other digitally
personalized consumer media products -- in which the customer's personalized
character can exhibit two dimensional or three dimensional full-motion animation
in both its illustrated body and in the features of its personalized facial
image (e.g., moving eyes and eyebrows and lips that move in synchronization with
sound). The Company believes that such features may be required in order for
digitally personalized media products to achieve broad consumer acceptance.
There can be no assurance, however, that the Company will ever succeed in
developing a production system capable of producing products with such features
at a cost acceptable to the Company. For instance, while the Company believes
that, at the present time, there are existing technologies (such as those that
enabled Pixar Animation Studios to produce the feature film Toy Story) that
could be used to produce products with such features, the costs associated with
such production would make those products far too expensive for the broad-based
consumer market.


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<PAGE>

Production of Kideo Products

         The Company's current digital personalization production process was
developed in order to further the Company's ultimate objective of creating
digitally personalized products featuring two-dimensional and three-dimensional
full-motion animation. The Company developed this new system using, in large
part, certain computer software assets and production technologies that it
acquired through an asset purchase transaction consummated with a Canadian
company in July 1995. See "Certain Transactions--1995 Technology Acquisition."
The new production system (which is based upon the use of affordable, networked
PCs) produces Kideos by employing PC hardware, proprietary computer software and
proprietary production technologies and components in combination with various
commercially available multimedia production software applications.

         The Company claims proprietary rights in its production technologies
and processes. In April 1997, the Company was issued a U.S. patent relating to
its digital personalization production process (Patent No. 5,623,587). The
Company believes that this patent could potentially have substantial value,
since the Company expects that businesses owning characters that are popular in
the children's home video and television markets will ultimately seek to exploit
those characters in digitally personalized audiovisual products.

         The Company first used its current digital personalization production
process in the development of My Christmas Wish. As a result, this title became
the first Kideo title in which the illustrated body of the child's personalized
character is able to exhibit actual two-dimensional partial-motion animation.
The new Kideo production system is already capable, however, of producing an
even wider range of motion than that exhibited by the personalized character in
My Christmas Wish. The more advanced technologies utilized in the new system
make it possible to produce a personalized video in which (i) the illustrated
body of the child's personalized character can exhibit two-dimensional
full-motion animation and (ii) the personalized facial image of the child's
character can exhibit at least some limited motion, such as eyes that blink and
lips that move up and down (although not necessarily in synchronization with the
soundtrack). The Company expects that these improvements in the features of its
Kideos will enable it to produce new titles that will be more entertaining and
engaging for the child for whom a Kideo is purchased. To date, however, the
Company has not made use in any Kideo titles of the capability to achieve
partial animation of the personalized facial id's character. It is anticipated
that this feature improvement will first be implemented at some time during 1998
in connection with a new title in the Gregory and Me series or in a future title
featuring popular children's characters licensed from others (the development of
which cannot be assured).

         The Company believes that -- in addition to improving the quality and
features of the Company's products -- its new Kideo production system will
afford it a variety of other competitive advantages, including these:

         o        Reduced Production Time. When using the new production system,
                  the time required to manually silhouette (or "cut") the
                  customer's face and then for the PC to automatically size and
                  place that face's digital image throughout a digital video
                  template has been reduced by approximately 50% when compared
                  with the time required for these procedures using the defunct
                  TVL system.

         o        Greater Production Yields. A single production station
                  employing the Company's new production system is capable of
                  producing approximately 160 personalized Kideos during an
                  eight-hour shift, as compared to the less than 80 such Kideos
                  that a single TVL-system production station was capable of
                  producing during the same shift.

Product Fulfillment

         The Company designs, develops and produces its Kideo products as
finished goods at its New York City facility, without employing any
subcontractors in the production process. Pre-paid Kideo order kits are shipped
to the Company's customers from third-party fulfillment centers. The components
used in the


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<PAGE>

production of Kideos (e.g., Pcs, commercially available multimedia production
software applications, and VHS videocassettes and related labels and packaging)
are readily available to the Company from a large number of competitively priced
suppliers. Once ordered, a personalized Kideo is produced and shipped to the
customer generally within two to four weeks after the order is received. There
is consequently no meaningful backlog.

         The Company believes that it currently has the production capacity,
personnel and other resources required in order to produce and deliver its
existing Kideo products on a timely basis and in accordance with the Company's
estimated demand for its products. This belief is derived in large part from the
nature of the Company's new production system, which is comprised of modular
production stations. In the case of its personalized Kideos, the Company's
experience has been that one or more production stations can be added and the
related production personnel trained in about one week. In addition, because the
Company sells a Kideo by first selling the order kit for the desired title, the
Company at any point in time can accurately forecast the short-term demand for
its products based upon the number of Kideo on circulation. As a result, the
Company believes that it can anticipate a need to add new Kideo production
stations reasonably in advance of having actually to meet any increased future
demand for its products.

The Existing Kideo Titles

         The six Original Kideo titles (Mr. Tibbs & the Great Pet Search; My
Alphabet; 1,2,3, Come Count With Me; My Christmas Wish; Mystery of the Missing
King; and Space Ace ) and the first two Gregory and Me titles (See What I Can
Do! and My Amazing Animal Adventure) all feature characters developed by the
Company respectively, Mr. Tibbs, Alexander G. Bear, Counting Cat, the Company's
own version of Santa Claus and, in each Gregory and Me title, a cast of animal
characters consisting of Gregory Gopher (the "host" of each title), Cyrus,
Shelly, Ziggy and Zag. Each video story lasts for approximately 20 minutes.

         Each of the eight Kideo titles now being marketed has been designed to
take advantage of the power of video personalization to stimulate the
imagination of children by literally placing them in exciting and educational
situations where they can see themselves learning and having fun. They ride on
the back of a hippo while counting four turtles in a boat; they learn about the
letter "L" by leapfrogging over Alexander G. Bear; and they dive beneath the sea
to meet a tortoise. Mr. Tibbs even asks, "Sarah, would you like a zebra for a
pet?" In My Amazing Animal Adventure, the child at one point sees her
personalized character riding in a canoe with a three-dimensional puppet version
of Gregory Gopher, who calls her attention - addressing her by name - to various
animals they are passing on the river.

         In addition to the child's face appearing throughout his or her
personalized Kideo, the child's name is spoken in various appropriate places on
the Kideo soundtrack. The Company maintains an extensive digital archive of the
audio recordings of the spoken first names of all of its child-customers. The
archive is updated on a regular basis as new Kideo orders are received which
require the recording and insertion of a name not then in the Company's
database. In its Kideo order kits and other marketing materials, the Company
makes a commitment to its potential customers to produce a Kideo in which any
specified name of a child will be spoken on the Kideo to that child's
personalized character. The child's name is also printed on the outside cover of
each tape (which is packaged in a white vinyl album cover), as well as on the
label of the tape itself. The tape shells come in assorted bright colors.

         Each of the existing Kideo titles currently has a suggested retail list
price of $29.95. The Company believes, however, that more than half of all
Kideos sold to date by its customers have been offered at an actual retail price
of $34.95 or higher, and the Company is considering raising its suggested retail
list price to $34.95 in the near future.

Potential Future Products

         There can be no assurance that the Company will ever be successful in
developing any of the potential new products described below (or their
associated production methodologies), that it will have the financial and other
capabilities required to commercialize such new products, or that any of such
products, if


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commercialized, will be successfully marketed by the Company or contribute
materially to the Company's future revenues or profits (if any).

         Near-Term Product Development Goals

         From among the many conceivable new product opportunities envisioned by
the Company, it currently intends, in the short- to near-term, to continue to
direct its product development efforts towards the market segment that it
believes it has largely created and accordingly knows best -- the home-consumer
market for digitally personalized home entertainment products for children. The
Company intends to feature well-known licensed characters in the majority of
future product releases, the first of which will be the Company's lines of
personalized "Barney" home videos and books, to be released in early 1998.

         The two titles that now comprise the Gregory and Me series are being
produced utilizing the Company's recently-patented digital personalization
production process, and the cast of proprietary characters appearing throughout
this new series appear at different times as two-dimensional animated characters
and three-dimensional live action puppet-based characters. The child's
personalized character interacts with these other characters in various
entertaining environments. The illustrated body of the child's personalized
character exhibits two-dimensional full-motion animation. In addition, in the
two Gregory and Me Kideos the child's personalized character appears throughout
each title on a nearly continuous basis (whereas in the four Original Kideos the
personalized character appears far less frequently).

         New Digitally Personalized Products. The Company is in the process of
expanding its manufacturing capabilities to allow for the low-cost mass
production of additional digitally personalized home entertainment products.
Those products include photo-personalized books, audio-personalized
audiocassettes, and various digitally personalized printed products. The Company
plans to feature popular licensed characters in the majority of products
produced using these new manufacturing capabilities.

         Kideo Related Merchandise. By using proprietary content and characters
to expand its line of Kideos, the Company believes that it may be able to
leverage the investment it makes in the creation of such characters into an
additional revenue stream, i.e., by selling other, related merchandise featuring
those same characters. Mr. Tibbs, Alexander G. Bear and Counting Cat, for
instance, could all be produced as plush stuffed-animal toys or could be
featured in children's coloring books and work books. The Company currently is
marketing a plush toy version of Gregory Gopher as well as an audio cassette
containing the songs that are sung by Gregory Gopher, Cyrus, Shelly, Ziggy and
Zag in See What I Can Do and My Amazing Animal Adventure.

         Kideo Products Featuring Popular Licensed Characters. Although the
Company historically has focused on the development and exploitation of its
proprietary content, it has not ignored potential opportunities to expand its
line of Kideos to include titles featuring licensed characters that are popular
in the children's market. Since the Company's successful implementation of its
new production process in the manufacturing of the Gregory and Me titles and the
U.S. Patent Examiner's grant of the patent claims relating to aspects of that
production process, the Company has increasingly devoted management resources to
the development in the near-term of Kideo titles featuring licensed characters.
In furtherance of that development objective, the Company has been granted
five-year licenses for "Barney" personalized home videos and books, and the
Company is currently seeking out additional licensing, marketing and other
arrangements with companies that control those types of characters and/or that
have the demonstrated financial and operational capabilities to promote and
distribute children's home video products through a broad range of domestic
distribution channels, including retail outlets of various kinds. In a Kideo
title featuring licensed characters, the child's personalized character will
appear alongside and interact with animated characters (e.g., 101 Dalmations and
Bugs Bunny) or live-action characters (e.g., Barney and Big Bird).

         In pursuing these product development goals, the Company is not
seeking, or engaged in negotiations concerning, any arrangements that relate to
any merger, consolidation, purchase or sale transaction involving the Company,
any of its assets or any other business.


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         Longer-Term Product Development Goals

         The Company expects that, over the course of the next several years,
the digital/electronic audiovisual media industries will experience significant
growth and that this growth could present businesses employing technologies like
those the Company has developed with numerous opportunities to apply digital
personalization to virtually any popular media content. While no assurance can
be given to this effect, such opportunities could someday in the future result
in consumer products that might conceivably include personalized computer screen
savers, personalized interactive video games or even personalized interactive
television programming. In order to capitalize on such opportunities, it is part
of the Company's long-term strategy for the development of future products to
create digitally personalized home entertainment products that are likely to
appeal to a broad demographic base, spanning both children and adults. The
Company also intends to continually seek to expand its product line by
exploiting more sophisticated digital personalization technologies, as they
become available, in order to offer progressively more sophisticated and
entertaining personalized media products.

Marketing

         General

         The Company believes that it has developed important sales and
distribution relationships with some of the country's most respected catalogue
retailers and retail stores. During the 1997 Fiscal Year, Kideo order kits were
available for purchase at various times through such national mail order
catalogues as Hammacher Schlemmer, Spiegel, Personal Creations, Fingerhut,
Celebration Fantastic, One Step Ahead, Johnson Smith, Just Between Us, Critics
Choice Video and Troll Learn & Play. Since the Company first began marketing its
products, sales through catalogue retailers have historically been the primary
distribution outlet for Kideos. More recently, however, direct- to-consumer
sales have increased substantially, as the Company has explored and tested
various types of direct marketing campaigns (including television, radio and
direct mail). With the objective of reducing overall selling expenses while
sustaining steady growth, in 1998 the Company's direct marketing efforts will
consist largely of a combination of low cost direct-to-consumer sales achieved
through marketing and promotional partnerships with third parties, and direct
marketing programs that have yielded profitable returns.

         Catalogue Sales

         During the 1997 Fiscal Year, catalogue sales accounted for
approximately 40% of the Company's revenues. The Company believes that the
initial placement of Kideo information in mail order catalogues resulted largely
from the Company's engagement of an independent national catalogue
representative who represents over forty catalogues nationwide. This
representative (who is still being utilized by the Company) receives 15% of the
net sales proceeds generated by its product placements. Because of the success
generally experienced by Hammacher Schlemmer and other catalogue retailers who
were among the first to offer Kideos in their catalogues, the Company currently
is finding it increasingly easy to convince other catalogue retailers to feature
Kideos in their publications.

         In October, 1997, the Company mailed the first edition of The Kideo
Catalog, a sixteen page four-color consumer catalog featuring the full line of
the Company's products. In 1998 the Company plans to mail several editions of
The Kideo Catalog. The next edition will be mailed in April and will prominently
feature the new Barney personalized products.


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         Retail Distribution

         To date, sales of Kideos through retail toy stores and other retailers
have not been a significant source of revenues. For the 1997 Fiscal Year, sales
of Kideos through retail outlets accounted for approximately 4% of the Company's
revenues. In March 1994, the FAO Schwarz flagship store on Fifth Avenue in New
York City became the first retail store to market the Company's products. The
store used an in-store display that provided order kits for Kideos. Most
retailers typically sell a Kideo order kit for $34.95.

         In 1998 the Company plans to distribute Barney personalized home videos
through video retail stores, toy stores, and mass merchants. The Company is
currently engaged in discussions with possible entertainment distribution
companies regarding retail distribution rights for the Company's Barney line of
products.

         Direct Sales

         Direct sales to consumers accounted for approximately 56% of the
Company's revenues for the 1997 Fiscal Year (as compared to approximately 27% of
revenues for the prior fiscal year). During Fiscal 1997, the Company experienced
a 365%% increase (to $745,000) in direct-to-consumer sales as compared to the
corresponding period in the prior fiscal year. The Company believes that this
increase reflects the cumulative results of the Company's direct marketing
activities (including television and radio advertising and direct mail
campaigns) undertaken by utilizing proceeds from its June 1996 IPO. Before the
consummation of the IPO, the high costs of developing a broad-based direct
marketing capability had prevented the Company from engaging in meaningful
direct marketing activities.

         The Company believes that its direct-to-consumer sales benefited also
from a higher level of consumer awareness resulting from television and print
exposure of the Company and its products, including television exposure on the
Oprah Winfrey Show, EXTRA, Managing with Lou Dobbs, and articles on the Company
published by The New York Times, Gannett Newspapers, Newsweek, and Equity
Magazine. The Company anticipates that its release of its line of personalized
Barney products in April 1998 will attract significant media attention due to
both the popularity of the Barney character, and the release of the first Barney
feature film, Barney's Great Adventure, with which the Company has timed the
launch of its Barney products to coincide. The Company believes this exposure
will contribute positively to its direct-to-consumer sales.

         Beginning with the launch of the Company's line of personalized Barney
products in April, 1998, the Company plans to rely largely on low-cost
cooperative direct marketing efforts that the Company is currently developing
with various marketing and promotional partners. For the Barney product launch
the Company will be partnering with various entertainment and consumer product
companies to make the Company's products available through in-store promotions,
package inserts, and assorted other programs. Promotional partners include
Polygram Filmed Entertainment (promotions of Kideo titles in theaters), Chef
Boyardee (7.2 million Kideo promotions on Chef Boyardee Jr. cans), Lyrick
Studios (Kideo order forms in Barney home video; Kideo trailers on Barney home
videos; mailings to 800,000 member Barney fan club), and Kodak (Kideo offers at
Kodak Qualex photo-finishing locations). The Company intends to use the
personalized Barney product marketing plan as a model for future
direct-to-consumer marketing efforts.

Customer Satisfaction and Service

         A Kideo customer's satisfaction is guaranteed by the Company in that,
if unhappy with the product, the customer may return it until the Company has
produced and delivered a satisfactory Kideo. Even with this policy, refunds have
historically been negligible.

         The Company provides its customers with the opportunity to track the
status of their Kideo orders by utilizing the Company's automated, toll-free
telephone response system (the "Customer Response System"). A customer who
orders a Kideo receives his order number for it from the Kideo order kit that he


                                        9
<PAGE>

purchased. When the Company receives that order kit, it creates a digital,
computerized version of the order (including the corresponding order number)
together with a physical bar-coded version (which also embodies the order number
information). At each stage of the Company's process of manufacturing that
particular Kideo, the bar-coded physical order is manually "swiped" through an
optical scanner, resulting in the computerized version of the order being
updated as to where that customer's Kideo is in the production process (e.g.,
the child's voice has been recorded and/or inserted into the title; the child's
face has been digitized; etc.). Because the Company's production system is fully
computerized and networked, when that customer calls the toll-free number and
inputs his order number, the Company's customer service operator can respond
instantly with the status of the order in question after checking the
appropriate computer database.

Competition and Industry Background

         The Company believes that the market for digitally personalized video
media -- although only in its development stages -- will likely evolve into a
highly competitive market. The technologies which have enabled the production of
digitally personalized video products utilizing relatively low cost PC hardware
and software (as opposed to more expensive computer workstations and larger
computer systems) have only been available since approximately 1993. As a
result, there is relatively limited information available concerning the
potential market and demand for personalized video media products or concerning
the performance and prospects of companies seeking to do business in this new
and largely untested market.

         To the Company's knowledge, at present there is only one other company
marketing personalized video media of any kind: U.R. The Star ("URTS"). URTS, a
Florida-based company, has been in the personalized video business since 1993.
The Company believes that URTS currently offers six stories, each having a
suggested retail list price of $19.95. Although the URTS product features a
combination of two-dimensional and three-dimensional partial motion animation,
the Company does not believe that these products compete effectively with Kideos
on the basis of quality. While each URTS tape is approximately 12 to 15 minutes
long, for example, the child's face will appear on-screen only for a total of
approximately 60 seconds. Several minutes can pass without the child's face
appearing at all. The Company does not believe that URTS engages in substantial
marketing of its stories through major national catalog retailers, direct
mail-order solicitations or television advertising.

         There are numerous other companies involved in video media production
who could possibly enter the personalized market segment in which the Company is
doing business. Many of such companies have substantially greater financial,
technical, research, development, production, marketing and other resources than
those of the Company. Although the Company believes -- based upon the technical
expertise it has developed in its market and the quality, price and features of
its products -- that it will be able to compete favorably with its existing and
future competitors, there can be no assurances in this regard. In light of the
fact that the personalized video media business is in the earliest stages of its
development, there also can be no assurance that existing or future competitors
of the Company will not develop technologies and products that are significantly
superior to those of the Company, or that their products will not gain
substantially greater market acceptance, or that developments ill not ultimately
render the Company's technologies obsolete or its products unmarketable.

         Despite risks of this nature, the Company believes that its recently
patented digital personalization production process will provide it with a
meaningful short-term to near-term competitive advantage over new entrants into
the emerging market for digitally personalized video products. The Company does
not believe that even well-financed potential competitors will be able, in a
relatively short period of time, to successfully research, develop, test and
implement production systems capable of low-cost mass production of digitally
personalized videos.

Intellectual Property Rights

         The Company believes that its prospects for success depend more upon
the dedication, knowledge, ability, experience and technological expertise of
its employees than upon any legal protection that may be afforded to the
Company's proprietary rights.


                                       10
<PAGE>

         The Company claims proprietary rights in various technologies
(including hardware and software), videos, cartoon characters, music, text,
graphic images, techniques, methods and trademarks which relate to the Company's
products and operations. Like many computer-related technology companies, the
Company seeks to protect such proprietary rights by relying upon a combination
of patent, trade secret, copyright, trademark and unfair competition laws and
various contractual restrictions, including confidentiality and non-disclosure
agreements.

         Although the Company intends to protect its rights vigorously, there
can be no assurance as to the degree of legal protection that may be afforded to
the proprietary rights claimed by the Company. It is possible, for example, that
trade secrets may not be established, that secrecy obligations will not be
honored or enforceable, or that other parties will independently develop
technologies or processes that are similar or superior to those of the Company.
It is also possible that a consultant or other third party engaged by the
Company might independently develop certain technological information which such
party then applies to one of the Company's own technological processes. In such
an event, a dispute could arise as to the ownership of the proprietary rights to
the information developed by such party. It is possible that such a dispute
might not be resolved in the Company's favor, despite steps the Company may have
taken in a contract with the party at issue seeking to claim ownership in
information developed by that party while engaged by the Company.

         In April 1997, the Company was issued a U.S. patent relating to its
digital personalization production process (Patent No. 5,623,587). None of the
Company's intellectual property rights, however, are currently the subject of
any issued patents in any foreign jurisdiction. The Company believes that this
patent could potentially have substantial value, since the Company expects that
businesses owning characters that are popular in the children's home video and
television markets will ultimately seek to exploit those characters in digitally
personalized audiovisual products.

         Patents and patent applications, like the ones issued to and filed by
the Company, involve complex legal and factual questions, and the scope and
breadth of patent claims that may have issued, or that may be allowed in the
future, is inherently uncertain. As a result, even when a patent is issued to a
company, there can be no assurance as to the degree or adequacy of protection
that such patent may afford.

         Three federal trademark applications are currently pending in the
United States with respect to the name "Kideo," and corresponding trademark
applications have been filed in Australia, France, Germany, Japan, Spain and the
United Kingdom. However, since one or more other parties may have rights to this
trademark (in this country and/or overseas), there can be no assurance that the
Company will ultimately obtain a registered trademark for the word "Kideo" for
use with respect to its products and services. A federal trademark application
also is currently pending in the United States with respect to the name "Gregory
and Me."

         The Company also claims proprietary rights in its personalized sticker
books. In April 1997, the Company filed a U.S. patent application covering the
sticker books themselves and the process for making the personalized sticker
books.

Employees

         As of November 7, 1997, the Company employed 15 full-time employees and
19 seasonal employees. The Company's employees are not represented by any labor
organizations. Management believes that its relationship with its employees is
good.

Item 2. Property


                                       11
<PAGE>

         The Company's principal executive office consists of approximately
6,000 square feet of leased space in New York City, of which approximately 2,400
square feet are used for offices and 3,600 are used for the manufacturing of
Kideos. In addition to customary office furnishings and equipment, the Company's
tangible property is comprised primarily of the PC hardware, digital image
scanning equipment, VHS video cassette recorders and related hardware that
constitute its system for the production of digitally personalized videos.

Item 3. Legal Proceedings

         The Company has adopted and used the word "Kideo" as its principal
trademark for its products and services. The Company has applied for
registration of this trademark in the United States, Australia, France, Germany,
Japan, Spain and the United Kingdom. Another party had previously registered two
allegedly similar trademarks but had ceased using them and had filed for
bankruptcy under Chapter 11. On July 6, 1994, the Company commenced proceedings,
before the Trademark Trial and Appeals Board of the United States Patent and
Trademark Office, against such party's successor (the "Successor"), seeking to
obtain the cancellation of these trademarks on the basis of abandonment. The
Company has prevailed in one proceeding, but the other proceeding is still
pending. This latter proceeding is currently suspended, pursuant to a
stipulation agreed upon by the Company and the Successor, while they complete
the formalities of a settlement. In this settlement, the Successor has agreed to
withdraw its registration and a pending application to register the mark "Kideo"
and to cease using this mark in the United States. The settlement agreement has
been prepared, agreed to by both parties, and is in the process of being
executed. The Company does not anticipate any reason why the settlement
agreement would not be executed and delivered by the Successor.

         Another third party also has been using the trademark "Kideo" locally
in the State of Illinois and has obtained an Illinois state registration of this
mark. This may prevent the Company from using the "Kideo" mark in the state of
Illinois.

         In the event that the Company does not prevail in obtaining the
unquestioned right to use the mark "Kideo," it does not believe that its
business or prospects will be materially adversely affected. While the Company
thinks that the name "Kideo" is particularly well-suited to the type of product
that it sells, the Company does not believe that its market penetration to date
has been extensive enough that the inability to market products under the Kideo
name will adversely affect its ability to find new customer accounts or damage
its relationships with existing accounts.

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

         There were no matters submitted to a vote of security holders during
fiscal 1997.


                                       12
<PAGE>

                                     Part II


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

         Market For Common Stock

         On September 26, 1997 The Company was advised by the Nasdaq Stock
Market that Nasdaq had deleted the Company's stock from listing in the Nasdaq
Small Cap Market. The Nasdaq decision was based in part upon the Company's
having not met, as reflected in its Form 10-QSB for the quarterly period ended
April 30, 1997, the "total assets" and "capital and surplus" requirements for
continued listing on the Nasdaq Small Cap Market. Despite the Company's
submission of a plan for achieving compliance with those requirements, the
Nasdaq decision indicated that the compliance panel lacked adequate confidence
in the Company's ability to sustain long term compliance.

         The Common Stock and Warrants are traded in the Over the Counter Market
under the respective symbols KIDO and KIDOW. The following table sets forth the
range of the high and low bid information (as provided by Nasdaq and Bloomberg)
of these securities since June 24, 1996 (the effective date of the Underwritten
Offering). Such information may reflect inter-dealer prices, without retail
mark-up, mark-down or commission, and may not reflect actual transactions.

                                            Common Stock          Warrants
                                         ------------------   ------------------
                                         Low Bid   High Bid   Low Bid   High Bid
                                         -------   --------   -------   --------
FISCAL 1996:
4th Quarter (from 7/31/96) .........      2-1/8      5-3/8      3/8       1-1/2
FISCAL 1997:
1st Quarter ........................      2-3/4      4-1/8      1/2       1-1/8
2nd Quarter ........................          2      3-1/2      3/8         7/8
3rd Quarter ........................      2-3/4      4-1/8      3/8           1
4th Quarter ........................      2-1/2      4-1/8      14/32     15/16
FISCAL 1998:
1st Quarter (ended 10/31/97) .......      15/16      2-5/8      3/16      25/32

         Holders of Record

         As of October 6, 1997, there were approximately 466 record holders of
Common Stock, 9 record holders of Warrants, and one record holder (Sellet) of
Preferred Stock.

         Dividends

         The Company has never paid any cash dividends on its Common Stock, and
the Board does not intend to declare or pay any dividends on its Common Stock in
the foreseeable future. The Board currently intends to retain all available
earnings (if any) generated by the Company's operations for the development and
growth of its business. The declaration in the future of any cash or stock
dividends on the Common Stock will be at the discretion of the Board and will
depend upon a variety of factors, including the earnings, capital requirements
and financial position of the Company and general economic conditions at the
time in question. In the case of cash dividends payable on the Common Stock (if
ever declared by the Board), the Company's ability to pay them at any time after
the date hereof may depend upon whether, at that time, it 


                                       13
<PAGE>

has satisfied in full its obligations to pay all dividends then accrued but
unpaid on any then-outstanding shares of Series A Preferred Stock (the dividends
on which may be paid by the Company, at its option, wholly or partly in cash
and/or shares of Common Stock). In addition, the payment of cash dividends on
the Common Stock in the future could be limited or prohibited by the terms of
financing agreements that may be entered into by the Company (e.g., a bank line
of credit or an agreement relating to the issuance of other debt securities of
the Company) or by the terms of any additional series of Preferred Stock that
may be issued.

         Under the terms of the Series A Preferred Stock indenture, a dividend
of $10,000 accrued through July 31, 1997. The dividend is payable in (i) cash,
or (ii) in stock, the number of shares to be issued determined on the same basis
as the conversion feature of the Preferred Stock. The Preferred Stock dividend
is payable on July 31, 1998.


Item 6.  Management's Discussion and Analysis of Financial Condition and
         Results of Operations

General

         The Company was organized in August 1993 (and began operations in
November 1993) to develop, manufacture and market digitally personalized videos
for children. The process of mass-producing personalized videos was developed
internally and supplemented with additional technology purchased in 1995 (see
"1995 Technology Acquisition" below). The Company claims proprietary rights in
its technologies and production process. In April 1997, the Company was issued a
U.S. patent relating to its digital personalization production process (Patent
No. 5,623,587).

         The Company has incurred substantial operating losses since its
inception, resulting in an accumulated deficit of approximately $9,169,000 as of
July 31, 1997. For its fiscal year ended July 31, 1996, the Company had revenues
of approximately $761,000 and a net loss of approximately $3,059,000, and, for
the year ended July 31, 1997, the Company had revenues of approximately
$1,346,000 and a net loss of approximately $3,819,000. The Company expects that
it will continue to operate at a loss until such time, if ever, when its
operations generate sufficient revenues to cover its costs. The report of
independent accountants on the Company's consolidated financial statements for
the fiscal years ended July 31, 1996 and 1997 contain an explanatory paragraph
stating that the Company's consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. The consolidated
financial statements do not include any adjustments that might result from the
outcome of such uncertainty.

         On September 26, 1997 The Company was advised by the Nasdaq Stock
Market that Nasdaq had deleted the Company's stock from listing in the Nasdaq
Small Cap Market. The Nasdaq decision was based in part upon the Company's
having not met, as reflected in its Form 10-QSB for the quarterly period ended
April 30, 1997, the "total assets" and "capital and surplus" requirements for
continued listing on the Nasdaq Small Cap Market. Despite the Company's
submission of a plan for achieving compliance with those requirements, the
Nasdaq decision indicated that the compliance panel lacked adequate confidence
in the Company's ability to sustain long term compliance.

         In June 1996 the Company consummated the Underwritten Offering (see
"Initial Public Offering" below), raising net proceeds of approximately
$5,560,000 through the issuance of 1,400,000 shares of Common Stock and
1,610,000 Warrants. In connection with the Underwritten Offering (sometimes
called the "IPO"), all outstanding shares of a previously-authorized series of
Preferred Stock (the "Retired Preferred Stock") were automatically converted
into an aggregate of 293,533 shares of Common Stock, and $1,000,000 in principal
amount of the Company's 10% Convertible Subordinated Debentures due 1998 (the
"Debentures") was converted into 279,889 shares of Common Stock.


                                       14
<PAGE>

         The information set forth below includes "forward-looking statements"
within the meaning of Section 21E of the Exchange Act and is subject to the safe
harbor created by that section. Readers are cautioned not to place undue
reliance on these forward-looking statements, as they speak only as of the date
hereof.

Revenue Recognition

         The Company's products are marketed directly to consumers and also
through mail-order catalogs and retail stores. All customer orders, regardless
of their source, are processed at the Company's manufacturing plant in New York
City. Revenue is recognized when the completed personalized video is shipped to
the customer.

Results of Operations

         The following discussion should be read in conjunction with the
Company's consolidated financial statements and related notes included elsewhere
in this filing.

Fiscal Year Ended July 31, 1997 Compared to the Fiscal Year Ended July 31, 1996

         Sales. During the fiscal year ended July 31, 1997 (the "Current
Period"), the Company sold 45,600 personalized videos, an increase of 42% over
the 32,100 units produced and sold during the fiscal year ended July 31, 1996
(the "Prior Period"). During the Current Period, the Company released four new
personalized video titles. Mystery of the Missing King and Space Ace are
animated titles that were released in the first quarter (ended October 31, 1996)
with direct mail and telemarketing programs. In January 1997, the Company
released its first personalized videos combining live-action and animation
sequences: Gregory & Me: See What I Can Do! and Gregory & Me: My Amazing Animal
Adventure. Both titles feature Gregory Gopher and his friends, proprietary
characters developed by Company. In the Current Period, these four titles
doubled the Company's video product offerings to eight proprietary titles. The
Company in the Current Period also released a plush version of Gregory Gopher
and a non-personalized audio cassette featuring the sound track from the videos.
Sales of these ancillary products were not significant in the period. The newly
released videos accounted for 35% of the total sales volume in the Current
Period.

         Sales increased 77% to $1,346,000, and include a 265% increase (to
$745,000) in direct-to-consumer sales. This increase reflects the cumulative
results of the Company's direct marketing activities during the Current Period,
which were undertaken utilizing proceeds from the Underwritten Offering. These
direct marketing activities included direct mail, telemarketing, radio, print
and television advertising. The Company believes that its direct-to-consumer
sales benefitted also from a higher level of consumer awareness resulting from
television and print exposure of the Company and its products, including
television exposure on the Oprah Winfrey Show, EXTRA, Managing with Lou Dobbs,
and articles on the Company published by The New York Times, Gannett Newspapers,
Newsweek, and Equity Magazine.

         Catalog and retail-sourced sales increased 6% to $591,000. There was an
over all volume decline in the retail channel which primarily reflects Prior
Period marketing programs that were not rolled out in the Current Period. The
number of catalogs offering the Company's products increased from 16 in the
Prior Period to 36 in the Current Period. Revenues from this source, however,
remained level with the Prior Period due to several factors. The timing of the
release of the new Gregory & Me titles did not permit their inclusion in
Christmas catalogs. Additionally, one of the Company's first and largest
customers had been given an exclusive right to sell the Gregory & Me titles in
the catalog channel, which limited their exposure. That exclusive right has
expired at the end of 1996. Since the balance of the Company's catalog trade was
limited to the first four titles of the Original Kideos, there was some price
erosion in this channel.


                                       15
<PAGE>

         Production Equipment Write-Off. A write-off of production equipment
accounted for $226,000 in the Current Period. The Company provided for the
disposal of certain production equipment during the second quarter of its
current fiscal year. This equipment was written off after the successful
completion of tests which established that older Kideo titles could be produced
using the Company's new, more efficient production equipment.

         Gross Margin. The Company's gross margin fell to 2% of sales in the
Current Period from 16% in the Prior Period. Unit selling prices improved by
approximately 5% due to the shift in sales mix from catalog-sourced sales
(wholesale pricing) to direct-to-consumer sales (retail pricing). Unit sales in
the Current Period were 50% higher than in the Prior Period. However, these
positive results were offset by increases in fixed costs of $396,000 related
primarily to an expansion of production capacity (depreciation of $26,000, rent
of $31,000, supervision of $11,000, utilities of $9,000) and amortization of
Gregory & Me content development costs of $259,000. The one-time write-off of
production equipment described above in the amount of $226,000 was recognized in
this period.

         Selling Expenses. The Company's selling expenses increased 166% in the
Current Period, to $1,959,000, from $737,000 in the Prior Period, reflecting
principally the costs of marketing the new Gregory & Me titles through
television, radio, print, direct mail, and telemarketing campaigns of
$1,100,000. In addition there were increased salaries of $291,000 mostly related
to data input and increased shipping expenses of $58,000 due to higher sales
volume. Retail marketing programs pursued during the Prior Period in the amount
of $133,000 were not recurring in the Current Period.

         General and Administrative Expenses. The Company's general and
administrative increased 67% in the Current Period, to $1,901,000, from
$1,137,000 in the Prior Period. Research and development expenses increased
$161,000 during the Current Period, to $374,000, from $213,000 in the Prior
Period. The remainder of inter-period change relates primarily to (i) the higher
expenses associated with being a public company (legal, stockholder reporting
and insurance account for $326,000), (ii) higher infrastructure costs (payroll,
benefits, depreciation on leasehold improvements and online services account for
$235,000) and (iii) an allowance for doubtful accounts (for $28,000).

         Loss from Operations. Loss from operations increased 25% in the Current
Period, to $3,819,000, from $3,059,000 in the Prior Period, reflecting the above
changes. Most notably, the cost of launching the new Gregory & Me titles on
radio and television exceeded the revenues derived. One of the benefits of the
launch, however, was that the Company built a substantial database of leads
derived from people calling an 800 number for free Kideo order kits. The Company
intends to use cost-effective means to convert those leads into orders during
the remainder of the current calendar year and into the Christmas season.
Management is pursuing strategic marketing alliances with third parties, with
the intention of reducing the Company's financial risk in direct-to-consumer
advertising programs. There can be no assurances that these objectives will be
achieved. The loss from operations includes operating investments in
infrastructure, including space expansion, operating systems, research and
development, and management.

         Other Income (Expense). Other income net of expense reflects an excess
of interest income from investments (Treasury bills, money market funds and
corporate commercial paper) over interest expenses.

         Nonrecurring Items. Nonrecurring items relate to interest charges,
amortization of original issue discount related to certain of the Company's pre-
IPO private financings, and amortization of the issuance costs of certain debt
securities that either were repaid out of proceeds from the Underwritten
Offering or were converted into Common Stock upon the closing of that offering.


                                       16
<PAGE>

         Net Loss. The net loss for the Current Period was $3,819,000, or $1.37
per share on 2,939,000 average shares of Common Stock outstanding, as compared
to a net loss for the Prior Period of $3,059,000, or $1.71 per share on
1,666,000 average shares of Common Stock outstanding.

Liquidity and Capital Resources

         The Company's capital requirements in connection with its development
of new product, infrastructure and marketing activities have been and will
continue to be significant. The Company anticipates, based on its currently
proposed plans and assumptions relating to its operations (including assumptions
regarding the progress and timing of its new development efforts), that the
proceeds remaining from the May 13, 1997 financing, and the September 16, 1997
financing (described below), together with anticipated revenues from operations
and its current cash and cash equivalent balances, will be sufficient to fund
the Company's operations and capital requirements until approximately July 31,
1998. In the event the Company's plans change or its assumptions change or prove
to be inaccurate, however, the Company could be required to seek additional
financing sooner than currently anticipated. The Company has no current
arrangements with respect to, or potential sources of any additional financing,
and it is not anticipated that existing stockholders will provide any portion of
the Company's future financing requirements. Consequently, there can be no
assurance that any additional financing will be available to the Company when
needed, on commercially reasonable terms, or at all.

         Balance sheet conditions which may be indicators of the Company's
liquidity would include the cash balance ($164,00 at July 31, 1997); working
capital (which was a deficiency of $666,000 at July 31, 1997); and the equity
position ($422,000 at July 31, 1997). Improvement in these indicators has in the
past been dependent on external sources of financing, in the forms described
below rather than through operations. Those operating factors which would afford
an evaluation of the Company's ability to internally generate liquidity in both
the short term and long term would include the revenue growth rate (77% over the
prior fiscal year), the gross margin generated from operating activities (the
fiscal year ended July 31, 1997 includes a significant equipment write-off) and
the rate of selling, general and administrative expense spending relative to the
revenue generated. Operating cash flow as evidenced by losses adjusted for the
non-cash expenses of depreciation, amortization of content costs and non-cash
write-offs (resulting in negative operating cash flow of $2,457,000 for the
fiscal year ended July 31, 1997) would provide an indication of the financing
needed to fund future operating activities, however, these must be evaluated
along with management's actions to increase its revenue stream, increase the
efficiency of its marketing efforts, and control the costs of its infrastructure
as discussed above in "Results of Operations."

         Because the Company has operated at a loss since its inception and has
not generated sufficient revenue from its operations to fund its activities, it
has, to date, been substantially dependent on loans from its stockholders and
private and public offerings of its securities to fund its operations. These
financings are described below.

         September 16, 1997 Financing

         The Company issued 200,000 common shares to an affiliate of Charles C.
Johnston, a director of the Company in exchange for an equity infusion of
$300,000 which approximates fair value.

         May 13, 1997 Financing

         On May 13, 1997, the Company closed the private placement of 750 shares
of a newly authorized series of Preferred stock, designated as the Series A 6%
Convertible Participating Preferred Stock (the "Series A Preferred Stock",
"Preferred Stock"). The shares were sold at their liquidition value of $1,000
per share, for a total purchase price of $750,000 in a transaction arranged
through Gerard Klauer Mattison & Co., Inc. as placement agent.


                                       17
<PAGE>

         The Preferred Stock became convertible at the holder's option after
July 12, 1997 into common shares based on the ratio of (a) the total liquidation
value (at $1,000 per preferred share) of the preferred shares being converted,
to (b) the then-effective conversion price. The conversion price at any point in
time is 80% of the prior three days average of the closing bid price per share
of the Company's common stock.

         The Company has the option to sell up to 1,250 additional shares of
Preferred Stock for $1,250,000, commencing thirty days following the
effectiveness of a registration statement on the underlying shares. The
Company's registration statement was declared effective on September 2, 1997. As
of November 4, 1997 the Company had not exercised its option to sell the
remaining additional shares of Preferred Stock.

         The conversion feature affords a discount to fair market value at the
time of conversion of the Preferred Stock into common. The intrinsic value of
this feature is $500,000 for the entire subscription of 2,000 Preferred Shares
and will be recognized in the financial statements in the proportion that the
shares issued bear to the total subscription. The amount recognized in the
financial statements at the fiscal year end of July 31, 1997 was $187,500, which
is the ratable portion of the discount related to the 750 Preferred Shares
issued on May 31, 1997. In accounting for this intrinsic value, the Company
reduced retained earnings by the appropriate portion of the discount, which is
analogous to a dividend, and increased additional paid-in capital, as if that
dividend were directly reinvested.

         In the consolidated balance sheet, total assets, total liabilities and
total equity balances remain unchanged after this adjustment, although the
equity section reflects the reclassification from earned capital to contributed
capital in the amount of the discount recognized. The consolidated statement of
operations will report the same net income or loss regardless of the issuance of
the Preferred Shares. However, the earnings or loss per share calculation will
reflect the reduction to income (or increase to loss) attributable to common
shares resulting from the reduction to retained earnings in recognition of the
discount as if it were a dividend to the Preferred Series A shareholders.

         The Certificate of Designations provides that dividends on the Series A
Preferred Stock are payable semi-annually on each July 31st and January 31st,
commencing with July 31, 1998. The Company has the option to pay any or all of
the dividends through the issuance of additional shares of Common Stock
(utilizing the same conversion ratio as described above).

         Initial Public Offering

         In January 1996, the Company's Board of Directors authorized an
increase in the number of shares of preferred stock from 100,000 to 5,000,000.
In addition, the Company's Board of Directors authorized an increase in the
number of shares of Common Stock from 400,000 shares, par value $.01 per share,
to 15,000,000 shares, par value $.0001 per share, and declared a stock split.
Stockholders received 8.6545 shares of Common Stock for each share of Common
Stock previously owned.

         In June 1996, the Company consummated the Underwritten Offering of
1,400,000 shares of Common Stock at an offering price of $5.00 per share and
1,610,000 Warrants at an offering price of $.10 per Warrant. The net proceeds to
the Company were approximately $5,560,000 after deducting issuance costs of
$1,601,000, which were charged to equity.

         Upon the closing of the IPO, the Company repaid $1,375,000 principal
amount of bridge note financings and converted outstanding Debentures into
279,889 shares of Common Stock. In addition, all outstanding shares of a
previous Preferred Stock offering were converted into 293,533 shares of Common
Stock.


                                       18
<PAGE>

June 1996 Financing

         In June 1996, the Company completed the sale of two units (the "June
Bridge Units") to two private investors (the "June 1996 Financing"), each June
1996 Unit consisting of (i) an unsecured 9% promissory note of the Company in
the principal amount of $100,000, due and payable on the earlier of the
consummation of the IPO and February 23, 1997 (subject to extension, under
certain circumstances, to February 23, 1998) (each, a "June 1996 Note") and (ii)
25,000 shares of Common Stock (the "June 1996 Shares"), at a price of $100,000
per June 1996 Unit. The Company received gross proceeds of $200,000 from the
sale of the June 1996 Units. After the payment of $20,000 in placement fees to
the Underwriter, who acted as placement agent for the Company with respect to
the sale of the June 1996 Units, the Company received net proceeds of $180,000
in connection with the June 1996 Financing. The Company's sale of the two June
1996 Units resulted in the Company's issuance of a total of $200,000 in
principal amount of June 1996 Notes and 50,000 June 1996 Shares. Upon the
consummation of the IPO, the Company used $201,200 of the proceeds to repay all
of the June 1996 Notes, including interest. The 50,000 June 1996 Shares were
registered by the Company with a per share value of $1.80, concurrently with the
IPO, for resale by their holders.

         1996 Bridge Financing

         In February 1996, the Company completed the sale of 15 units (the
"Bridge Units") to 11 private investors (the "1996 Bridge Financing"), each
Bridge Unit consisting of (i) an unsecured 9% promissory note of the Company in
the principal amount of $50,000, due and payable on the earlier of the
consummation of the IPO and February 23, 1997 (subject to extension, under
certain circumstances, to February 23, 1998) (each, a "Bridge Note") and (ii)
10,000 shares of Common Stock (the "Bridge Shares"), at a price of $50,000 per
Bridge Unit. The Company received gross proceeds of $750,000 from the sale of
the Bridge Units. After the payment of $75,000 in placement fees to the
Underwriter of the IPO, who acted as placement agent for the Company with
respect to the sale of the Bridge Units, and other offering expenses of
approximately $85,000, the Company received net proceeds of approximately
$590,000 in connection with the 1996 Bridge Financing. The Company's sale of the
15 Bridge Units resulted in the Company's issuance of a total of $750,000 in
principal amount of Bridge Notes and 150,000 Bridge Shares. The Company used
approximately $767,000 of the IPO proceeds to repay all of the Bridge Notes. The
150,000 Bridge Shares were registered by the Company with a per share value of
$1.82, concurrently with the IPO, for resale by their holders.

         1996 Pre-Bridge Financing

         In January 1996, the Company obtained an aggregate of $125,000 in
financing (the "1996 Pre-Bridge Financing") from two of its executive officers
(Robert J. Riscica, the Company's Chief Financial Officer, and Marvin H.
Goldstein, the Company's Vice President-Controller). In connection with this
1996 Pre-Bridge Financing, Messrs. Riscica and Goldstein purchased two and
one-half units of the Company's securities, which units were identical to the
Bridge Units subsequently issued in connection with the 1996 Bridge Financing,
as such terms are defined immediately below (except that, unlike the shares of
Common Stock included in the Bridge Units, the shares included in these units
(the "1996 Pre-Bridge Shares") were not registered concurrently with the IPO).
As a result of the 1996 Pre- Bridge Financing, the Company issued to Messrs.
Riscica and Goldstein unsecured 9% promissory notes of the Company in the
aggregate principal amount of $125,000 (the "1996 Pre-Bridge Notes") and an
aggregate of 25,000 1996 Pre-Bridge Shares with a per share value of $2.32. The
Company used approximately $129,000 of the IPO proceeds to repay all of the 1996
Pre-Bridge Notes.

         1995 Pre-Bridge Financing

         During September and October 1995, the Company effectuated a private
placement of $300,000 of its securities to six existing stockholders, including
an affiliate of Charles C. Johnston, a director of the Company (the "1995 Pre-
Bridge Financing"). In connection with such financing, the Company issued to the
investors an aggregate of $300,000 in principal amount of 9% promissory notes
(the "1995 Pre-Bridge Notes") and 90,000 shares of Common Stock (the "1995 Pre-
Bridge Shares"). The 1995 Pre-Bridge Notes bore interest at the rate of 9% per
annum and were to be repaid on the earlier of (i) one year from the date of
issuance and (ii) the consummation of an initial public offering of the
Company's securities. 


                                       19
<PAGE>

The net proceeds of the 1995 Pre-Bridge Financing were used for working capital
purposes. The Company used approximately $320,000 of the IPO proceeds to repay
all of the 1995 Pre-Bridge Notes. In addition, the 90,000 1995 Pre-Bridge Shares
were registered by the Company with a per share value of $1.81, concurrently
with the IPO, for resale by their holders.

Impact of recent accounting pronouncements

         During its next fiscal year ending July 31, 1998, the Company will
adopt SFAS No. 128, "Earnings Per Share." This statement establishes standards
for computing and presenting earnings per share ("EPS"), replacing the
presentation of currently required primary EPS with a presentation of basic EPS.
Early adoption of this statement is prohibited in order to preserve the
comparability of earnings between companies. When adopted, the Company will be
required to restate its EPS data for all prior periods presented. The Company
does not expect the impact of the adoption of this statement to result in
material changes to its previously reported EPS amounts.

Item 7.  Financial Statements

Index to Consolidated Financial Statements                                  Page
                                                                            ----
Report of Independent Accountants .........................................  10
Consolidated Balance Sheets ...............................................  11
Consolidated Statements of Operations .....................................  12
Consolidated Statements of Shareholders' Equity ...........................  13
Consolidated Statements of Cash Flows .....................................  14
Supplemental Cash Flow Information ........................................  15
Notes to Consolidated Financial Statements ................................  16


                                       20
<PAGE>

                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS


To the Shareholders of Kideo Productions, Inc.:

         We have audited the accompanying consolidated balance sheets of Kideo
Productions, Inc. (a Delaware Corporation) and subsidiary as of July 31, 1996
and 1997, and the related consolidated statements of operations, shareholders'
equity and cash flows for the years then ended. These financial statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.

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

         In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Kideo
Productions, Inc. and subsidiary as of July 31, 1996 and 1997, and the results
of their operations and their cash flows for the years then ended 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
1 to the consolidated financial statements, the Company suffered recurring
losses from operations and has a net working capital deficiency that raises
substantial doubt about its ability to continue as a going concern. Management's
plans in regard to these matters are also described in Note 1. The consolidated
financial statements do not include any adjustments relating to the
recoverability and classification of asset carrying amounts or the amount and
classification of liabilities that might result should the Company be unable to
continue as a going concern.


/s/ Arthur Andersen LLP

New York, New York
October 31, 1997


                                       21
<PAGE>

                            KIDEO PRODUCTIONS, INC.
                           CONSOLIDATED BALANCE SHEETS
                             (Dollars in thousands)

<TABLE>
<CAPTION>
                                                                                    at July 31, at July 31,
                                                                                       1996        1997
                                                                                      -------     -------
<S>                                                                                   <C>         <C>    
ASSETS
Current Assets:
    Cash and cash equivalents ....................................................    $ 2,857     $   164
    Accounts receivable, net .....................................................         95          31
    Inventory ....................................................................         17         103
    Prepaid expenses .............................................................        123          28
                                                                                      -------     -------
       Total current assets ......................................................      3,092         326
Property and equipment, net ......................................................        558         507
Capitalized content costs, net ...................................................        432         518
Other assets .....................................................................        286         137
                                                                                      -------     -------
       Total assets ..............................................................    $ 4,368     $ 1,488
                                                                                      =======     =======

LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
    Accounts payable .............................................................    $    59     $   475
    Accrued expenses .............................................................        271         210
    Capital leases, current portion ..............................................        147          74
    Unearned revenue .............................................................        225         233
                                                                                      -------     -------
       Total current liabilities .................................................        702         992
Capital leases, long term portion ................................................         81          74
                                                                                      -------     -------
       Total liabilities .........................................................        783       1,066
                                                                                      -------     -------

Commitments and Contingencies (Notes 5, 6 & 11)

Shareholders'Equity
    Preferred Stock, $.0001 par value; issuable in series: authorized 5,000,000
      shares, issued and outstanding -0- shares at July 31, 1996 and 750 shares at
      July 31, 1997 ..............................................................         --          --

    Common Stock, $.0001 par value; authorized 15,000,000 shares,
      issued and outstanding2,939,014 shares at
      July 31, 1996 and 1997 .....................................................         --          --
    Additional paid-in capital ...................................................      8,737       9,591
    Accumulated deficit ..........................................................     (5,152)     (9,169)
                                                                                      -------     -------
      Shareholders' Equity........................................................      3,585         422
                                                                                      -------     -------

Total liabilities and shareholders'equity ........................................    $ 4,368     $ 1,488
                                                                                      =======     =======
</TABLE>


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


                                       22
<PAGE>

                             KIDEO PRODUCTIONS, INC.
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                 (Dollars in thousands except per share amounts)


<TABLE>
<CAPTION>
                                                  Year ended       Year ended
                                                    July 31,        July 31,
                                                     1996             1997
                                                  -----------     -----------
<S>                                               <C>             <C>        
Sales ........................................    $       761     $     1,346
Cost of sales ................................            637           1,099
Write off of production equipment ............             --             226
                                                  -----------     -----------
Gross profit(loss) ...........................            124              21

Selling expenses .............................            737           1,959
General and administrative expenses ..........          1,137           1,901
                                                  -----------     -----------
Loss from operations .........................         (1,750)         (3,839)
                                                  -----------     -----------
Other income (expense), net ..................            (88)             20
Nonrecurringexpenses related to debt
extinguished in connection with the Initial
  Public Offering                                      (1,221)             --
                                                  -----------     -----------
Net loss .....................................    $    (3,059)    $    (3,819)
                                                  ===========     ===========


Net loss per share (pro forma for 1996) ......    $     (1.71)    $     (1.37)
                                                  ===========     ===========

Weighted average number of shares outstanding       1,666,017       2,939,014
                                                  ===========     ===========
</TABLE>


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


                                       23
<PAGE>

                            KIDEO PRODUCTIONS, INC.
                 CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
                 (Dollars in thousands except per share amounts)

<TABLE>
<CAPTION>
                                                                                                Additional
                                                       Preferred Stock          Common Stock      Paid-in Accumulated  Shareholders'
                                                     Shares       Amount       Shares    Amount   Capital   Deficit      Equity
                                                  ----------------------------------------------------------------------------------
<S>             <C> <C>                              <C>         <C>           <C>        <C>     <C>       <C>         <C>     
Balance at July 31, 1995 .....................       956,000     $    --       616,891    $ --    $1,385    $(1,999)    $  (614)
                                                  ----------------------------------------------------------------------------------
Issuance of preferred stock in connection
     with the May 1995 Units Financing .......        43,750          --            --      --        44                     44
Issuance of common stock in satisfaction                                                                               
     of expenses in connection with the                                                                                
     May 1995 Units Financing ................            --          --         3,239      --         7                      7
Issuance of common stock in connection                                                                                 
     with October 1995 private placement .....            --          --        90,000      --       163                    163
Issuance of common stock in connection                                                                                 
     with January 1996 private placement .....            --          --        25,000      --        58                     58
Issuance of common stock in partial                                                                                    
     payment of interest on debt issued                                                                                
     in the May 1995 Units Financing .........            --          --         6,462      --        23                     23
Issuance of preferred stock in satisfaction                                                                            
     of dividends on preferred stock issued                                                                            
     in the May 1995 Units Financing .........        48,672          --            --      --        49                     49
Issuance of common stock in connection                                                                                 
     with the February 1996 private placement             --          --       150,000      --       274                    274
Issuance of common stock for legal costs                                                                               
     in connection with the Company's                                                                                  
     initial public offering .................            --          --        24,000      --        84                     84
Issuance of common stock in connection                                                                                 
     with the June 1996 private placement ....            --          --        50,000      --        90                     90
Issuance of common stock in connection                                                                                 
     with the the initial public offering ....            --          --     1,400,000      --     5,399                  5,399
Issuance of warrants in connection with the                                                                             
     initial public offering .................            --          --            --      --       161                    161
Conversion of preferred stock to common ......    (1,048,672)         --       293,533      --        --                     --
Conversion of debentures to common ...........            --          --       279,889      --     1,000                  1,000
Dividends on preferred stock .................            --          --            --      --        --        (94)        (94)
Net loss .....................................            --          --            --      --        --     (3,059)     (3,059)
                                                  ----------------------------------------------------------------------------------
Balance at July 31, 1996 .....................            (0)    $    --     2,939,014    $ --    $8,737    $(5,152)    $ 3,585
                                                  ----------------------------------------------------------------------------------
Issuance of preferred stock in connection
     with May 13, 1997 financing .............           750          --                             666                    666
Discount to fair market value of the preferred
     stock on the conversion to common stock .                                                       188       (188)         --
Dividends on preferred stock .................                                                                  (10)        (10)
Net loss .....................................                                                               (3,819)     (3,819)
                                                  ----------------------------------------------------------------------------------
Balance at July 31, 1997 .....................           750     $    --     2,939,014    $ --    $9,591    $(9,169)    $   422
                                                  ==================================================================================
</TABLE>


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


                                       24
<PAGE>

                             KIDEO PRODUCTIONS, INC.
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                             (Dollars in thousands)

<TABLE>
<CAPTION>
                                                               Year ended    Year ended
                                                              July 31,1996  July 31,1997
                                                              ------------  ------------
<S>                                                              <C>         <C>     
Cash flows from operating activities:
    Net loss ................................................    $(3,059)    $(3,819)
    Adjustments to reconcile net loss to net cash used
       in operating activities:
       Depreciation and amortization of operating assets ....        333         696
       Amortization of loan discount ........................        585          --
       Amortization of deferred debt costs ..................        396          --
       Write off of production equipment ....................         --         226
       Effect of changes in operating assets and liabilities:
          Accounts receivable ...............................        (35)         64
          Prepaid expenses and other current assets .........        (32)          8
          Other assets ......................................       (489)         15
          Accounts payable ..................................       (369)        416
          Accrued expenses ..................................        181         (71)
          Unearned revenue ..................................        183           8
                                                                 -------     -------
    Net cash used in operating activities ...................     (2,306)     (2,457)
                                                                 -------     -------

Cash flows from investing activities:
    Purchase of property and equipment ......................       (108)       (561)
    Increase in capitalized content and program costs .......         --        (448)
                                                                 -------     -------
    Net cash used in investing activities ...................       (108)     (1,009)
                                                                 -------     -------

Cash flows from financing activities:
    Proceeds from bridge notes ..............................      1,375          --
    Net proceeds from issuances of common and preferred stock      5,592         666
    Proceeds from long term debt ............................         32          --
    Proceeds from lease financing ...........................         --         208
    Repayment of loans payable - related parties ............        (61)         --
    Repayment of bridge notes ...............................     (1,375)         --
    Principal payments on capital leases ....................       (112)       (101)
    Debt issuance costs incurred ............................       (180)         --
    Dividends paid on preferred stock .......................        (61)         --
                                                                 -------     -------
    Net cash provided by financing activities ...............      5,210         773
                                                                 -------     -------
Net increase in cash ........................................      2,796      (2,693)
Cash and cash equivalents atthe beginning of the period .....         61       2,857
                                                                 -------     -------
Cash and cash equivalents at the end of the period ..........    $ 2,857     $   164
                                                                 =======     =======
</TABLE>

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


                                       25
<PAGE>

                            KIDEO PRODUCTIONS, INC.
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                            SUPPLEMENTAL INFORMATION
                             (Dollars in thousands)

<TABLE>
<CAPTION>
                                                                Year ended    Year ended
                                                                  July 31,     July 31,
                                                                   1996         1997
                                                                ----------    ----------
<S>                                                               <C>          <C> 
Cash payments for interest ...................................    $   89       $ 26
Cash payments for income taxes ...............................         4         12
                                                                              
Supplemental schedule of noncash investing and financing                      
    activities:                                                               
    Capital lease obligations for equipment purchases ........        --        207
    Dividends accrued on preferred stock .....................        33         10
    Security deposits applied to capital lease obligations ...        --        186
    Discount to fair market value of the preferred ...........        --         --
    stock upon conversion to common stock ....................        --        188
    Issuance of capital stock in satisfaction of expenses ....        84         --
    Conversion of accrued expenses into long term debt .......        12         --
    Conversion of accrued expenses into capital stock ........        41         --
    Conversion of dividends payable into preferred stock .....        49         --
    Original issue discounts associated with bridge financings       546         --
    Conversion of long term debt into common stock ...........     1,000         --
    Conversion of preferred stock into common stock ..........     1,049         --
</TABLE>

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


                                       26
<PAGE>

                             KIDEO PRODUCTIONS, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CORPORATE STRUCTURE AND PRINCIPAL
BUSINESS ACTIVITY:

Business and Organization

         Kideo Productions, Inc. ("Kideo-Delaware"), a Delaware corporation, was
incorporated on June 24, 1994. The accompanying consolidated financial
statements include the accounts of Kideo-Delaware and its wholly owned
subsidiary Kideo Productions (Canada), Inc. (collectively the "Company"). Kideo
Productions (Canada), Inc. commenced operations in July 1995. All significant
intercompany transactions and balances have been eliminated.

         The Company develops, produces and markets personalized children's
educational video tapes sold through direct sales, mail-order houses, children's
toy stores and various catalogs. The principal shareholder developed the initial
product line prior to the Company's commencement of operations. The Company is
devoted to the development of multimedia products using emerging technologies
with an emphasis on personalized products for children. The Company's sales are
seasonal in nature based, in part, on purchases made during the months of
October through December.

         The accompanying consolidated financial statements have been prepared
assuming the Company will continue as a going concern. As shown in the
consolidated financial statements, the Company has incurred net losses of 
$ 3,059,000 and $ 3,819,000 for the years ended July 31, 1996 and July 31, 1997,
respectively. In addition, the Company has a net working capital deficiency of
$666,000 at July 31, 1997. The Company's strategy is to continue to obtain
licenses for popular media characters and apply its technology to the characters
under license. The Company plans to sell these products to its existing
customers as well as to new customers obtained through direct mail to customers
and sales to retail outlets. The Company anticipates that a portion of the cost
of the distribution, including advertising, will be funded by the licensing
partner. Although there can be no assurances, the Company anticipates, based on
its currently proposed plans and assumptions relating to its operations
(including assumptions regarding the progress and timing of its new development
efforts), that the proceeds remaining from the May 13, 1997 financing, and the
September 16, 1997 financing (described below), together with anticipated
revenues from operations and its current cash and cash equivalent balances, will
be sufficient to fund the Company's operations and capital requirements through
July 31, 1998.

Revenue Recognition

         The Company generally records an account receivable and a corresponding
liability for unearned revenue for video tape order kits shipped to mail order
houses and retail stores. Revenue is recognized on the accrual basis when the
video tape is shipped to the ultimate consumer.

Capitalized Content Costs

         Capitalized costs consist of deferred production costs related to the
production and development of the storylines of the Company's video tapes. The
Company's policy is to amortize production costs over the anticipated revenue
stream of the title, which it currently estimates to be two years. Management
continually evaluates its policy as sales of each title are made.

         Certain technology rights, intellectual property and software related
to the production of video products, amounting to approximately $192,000, were
acquired on July 17, 1995 and are being amortized over a three-year period which
commenced August 1, 1995 using the straight-line method. Depreciation


                                       27
<PAGE>

                             KIDEO PRODUCTIONS, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


and amortization charged to operations amounted to $64,000 per year for the
years ended July 31, 1996 and 1997.

Long Lived Assets

         In accordance with Statement of Financial Accounting Standards No. 121,
"Accounting for the Impairment of Acquired Assets and for Long Lived Assets to
be Disposed of", management periodically assesses whether there has been an
impairment in the carrying value of the excess of cost of such assets by
comparing the current and expected annual undiscounted cash flows with the
carrying amount. In the event there is an impairment of the asset, management
would reduce the carrying value to an amount equal to the projected discounted
cash flow of the underlying assets.

Advertising Costs

         Advertising costs are charged to operations when the advertising takes
place. Advertising expenses for the years ended July 31, 1996 and 1997 were
$97,000 and $743,000 respectively.

Depreciation

         Depreciation of property and equipment is provided for principally by
the straight-line method over the estimated useful lives of the respective
assets.

Income Taxes

         The Company follows the provisions of Statement of Financial Accounting
Standards No. 109, "Accounting for Income Taxes", which requires that the tax
effect of temporary differences between the recorded carrying values and the
adjusted tax basis of assets and liabilities be reflected in the financial
statements at the tax rate at which the differences are expected to reverse. At
July 31, 1996 and 1997, there were no material temporary differences between the
book basis and tax basis of the Company's assets and liabilities.

         As of July 31, 1997, the Company had a net operating loss carryforward
for both financial reporting and income tax purposes of approximately $8,844,000
available to offset future income, expiring during 2009 to 2012. This resulted
in a deferred income tax asset of approximately $3,980,000 for which the Company
recorded a full valuation allowance due to the uncertainty of future realization
of such losses. Based on the ownership changes arising from the initial public
offering, utilization of the net operating loss carry-forward will be limited.

Net Loss Per Share

         For the year ended July 31, 1996, pro forma net loss per share is
determined using the weighted average number of shares of Common Stock
outstanding during the period, which is based upon: (i) Accounting Principles
Board Opinion No. 15, "Earnings per Share", for the period after April 30, 1996,
and (ii) SAB 83 for the period August 1995 through April 30, 1996, which
includes the Common Stock issued in connection with the bridge financings, the
Preferred Stock and the Debentures, as outstanding for the entire year and the
warrants issued during the twelve months preceding the Initial Public Offering
at prices below the Initial Public Offering price as outstanding through March
31, 1995.

         For the year ended July 31, 1997, net loss per share is calculated in
accordance with APB #15. The numerator contains the historical loss for the
year, further increased by the amount of Preferred Stock dividends as required.
The resulting loss attributable to common stock is divided by the weighted
average of common shares outstanding during the period. Supplemental earnings
per share data is not presented as the effect would be antidilutive.


                                       28
<PAGE>

                             KIDEO PRODUCTIONS, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


         The Financial Accounting Standards Board ("FASB") recently issued
Financial Accounting Standard #128, ("FAS 128") which addresses the calculation
of earnings (loss) per share and is effective for the Company's fiscal year
ending July 31, 1998. FAS 128 simplifies the calculation of earnings (loss) per
share as it relates to complex capital structures. Early adoption of this
standard is prohibited, however the FASB encourages companies to report the pro
forma effects of the rule change on a company's financial statements. The
Company does not expect the adoption of this statement to have a material effect
on its financial position or results of operations.

Warranty Costs

         To date, the Company has not had any significant warranty costs for
repair or replacement of its product. Based on current sales and historical
experience, warranty costs, if any are charged to operations when incurred.

Estimates

         The preparation of financial statements in conformity with generally
accepted accounting principles requires the use of estimates by management
affecting the reported amounts of assets, liabilities, revenue and expenses and
the disclosed amounts of contingent assets and liabilities. Actual results could
differ from those estimates.

Reclassifications

         For comparability, certain Fiscal 1996 amounts have been reclassified
where appropriate to conform to the financial statement presentation used in
Fiscal 1997.


2. PROPERTY AND EQUIPMENT

         Property and equipment, at cost, consists of the following:

                                  July 31,       July 31,     Estimated
                                    1996           1997      Useful Life
                                 ---------     -----------   -----------
Video production equipment
and related software ........    $ 931,000     $   605,000     3 years
Furniture and fixtures ......        5,000          10,000     7 years
Office equipment ............       63,000         124,000     5 years
Leasehold improvements ......       21,000         164,000     3 years
                                 ---------     -----------
                                 1,020,000         903,000
Less accumulated depreciation     (462,000)       (396,000)
                                 ---------     -----------
                                 $ 558,000     $   507,000
                                 =========     ===========

         Included in property and equipment at July 31, 1996 and at July 31,
1997 are approximately $431,000 and $207,000, respectively, of assets acquired
under capital leases. Accumulated depreciation on these assets as of July 31,
1996 and July 31, 1997 amounted to approximately $216,000 and $53,000
respectively. The property held under these leases is collateral for the related
capital lease obligations as described in Note 6.

         The Company provided for the disposal of certain production equipment
during the second quarter of the fiscal year. This equipment was written off
after the successful completion of tests allowing 


                                       29
<PAGE>

                             KIDEO PRODUCTIONS, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


for the production of older Kideo titles on new, more efficient equipment. The
write-off of production equipment accounted for a $226,000 expense for the year
ended July 31, 1997.


3. CAPITALIZED CONTENT COSTS

             Capitalized content costs include the development, scripts,
characters, props, filming and post production of new Kideo titles introduced
for the year ended July 31, 1997.

                                                       July 31         July 31,
                                                          1996             1997
                                                      --------          --------
Capitalized content costs ..................          $432,000          $777,000
Less accumulated amortization ..............                --           259,000
                                                      --------          --------
 Net book value ............................          $432,000          $518,000
                                                      ========          ========

4. OTHER ASSETS:

      Other assets consist of the following:

                                                          July 31       July 31,
                                                            1996          1997
                                                          --------      --------
Deposits on capital lease obligations ..............       195,000        34,000
Technology rights and intellectual property ........        34,000        17,000
Security deposits ..................................        17,000        18,000
Deferred expenses ..................................        40,000        68,000
                                                          --------      --------
                                                          $286,000      $137,000
                                                          ========      ========

5. COMMITMENTS:

         The Company leases 7,000 square feet of space under several
noncancelable operating leases for office, manufacturing and warehouse space.
These leases are subject to escalation for the Company's proportionate share of
increases in real estate taxes and certain other operating expenses. In addition
the Company rents additional office space on a month to month basis at a monthly
rent of approximately $950. Total rent expense for the years ended July 31, 1996
and 1997 amounted to $76,000 and $121,000, respectively. Future approximate
minimum rental payments required are as follows:

Year ending July 31,
      1998 ...............................................              $108,000
      1999 ...............................................                18,000
                                                                        --------
                                                                        $126,000
                                                                        ========

        The Company has entered into employment contracts with two
employees expiring a various times through December 1998. The aggregate minimum
commitment for future salaries, excluding bonus, is as follows:

Year ending July 31,
      1998................................................              $211,000
      1999................................................                56,000
                                                                        --------
                                                                        $267,000
                                                                        ========


                                       30
<PAGE>

                             KIDEO PRODUCTIONS, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


6. CAPITAL LEASE OBLIGATIONS:

            Included in property and equipment are $431,000 and $207,000 in
production and office equipment held under capital leases at July 31, 1996 and
1997, respectively. The future minimum lease payments under capital leases, all
with interest rates ranging from 13% to 16.5%, at July 31, 1997 are as follows:

Year ending July 31,
      1998 .................................................            $105,000
      1999 .................................................              63,000
      2000 .................................................               6,000
      2001 .................................................               3,000
      2002 .................................................               2,000
                                                                        --------
                                                                         179,000
Less amounts representing interest .........................              31,000
                                                                        --------
                                                                        $148,000
                                                                        ========

7.  SHAREHOLDERS' EQUITY:

         May 13, 1997 Financing

         On May 13, 1997, the Company closed the private placement of 750 shares
of a newly authorized series of Preferred stock, designated as the Series A 6%
Convertible Participating Preferred Stock (the "Series A Preferred Stock",
"Preferred Stock"). The shares were sold at their liquidition value of $1,000
per share, for a total purchase price of $750,000 in a transaction arranged
through Gerard Klauer Mattison & Co., Inc. as placement agent.

         The Preferred Stock became convertible at the holder's option after
July 12, 1997 into common shares based on the ratio of (a) the total liquidation
value (at $1,000 per preferred share) of the preferred shares being converted,
to (b) the then-effective conversion price. The conversion price at any point in
time is 80% of the prior three days average of the closing bid price per share
of the Company's common stock.

         The Company has the option to sell up to 1,250 additional shares of
Preferred Stock for $1,250,000, commencing thirty days following the
effectiveness of a registration statement on the underlying shares. The
Company's registration statement was declared effective on September 2, 1997. As
of November 4, 1997 the Company had not exercised its option to sell the
remaining additional shares of Preferred Stock.

         The conversion feature affords a discount to fair market value at the
time of conversion of the Preferred Stock into common. The intrinsic value of
this feature is $500,000 for the entire subscription of 2,000 Preferred Shares
and will be recognized in the financial statements in the proportion that the
shares issued bear to the total subscription. The amount recognized in the
financial statements at the fiscal year end of July 31, 1997 was $187,500, which
is the ratable portion of the discount related to the 750 Preferred Shares
issued on May 31, 1997. In accounting for this intrinsic value, the Company
reduced retained earnings by the appropriate portion of the discount, which is
analogous to a dividend, and increased additional paid-in capital, as if that
dividend were directly reinvested.

         The Certificate of Designations provides that dividends on the Series A
Preferred Stock are payable semi-annually on each July 31st and January 31st,
commencing with July 31, 1998. The Company has the 


                                       31
<PAGE>

                             KIDEO PRODUCTIONS, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


option to pay any or all of the dividends through the issuance of additional
shares of Common Stock (utilizing the same conversion ratio as described above).

         Initial Public Offering

         In January 1996, the Company's Board of Directors authorized an
increase in the number of shares of preferred stock from 100,000 to 5,000,000.
In addition, the Company's Board of Directors authorized an increase in the
number of shares of common stock from 400,000, $.01 par value, to 15,000,000,
$.0001 par value, and declared a stock split for which shareholders received
8.6545 shares of common stock for each share of common stock previously owned.
On June 25, 1996, the Company consummated an initial public offering of
1,400,000 common shares at an offering price of $5.00 per share and 1,610,000
warrants at an offering price of $.10 per warrant. The net proceeds to the
Company were $ 5,560,000 after deducting issuance costs of $ 1,601,000, which
were charged to equity. Each warrant entitles the holder to purchase one share
of common stock at an exercise price of $4.00 per share. The warrants will be
exercisable for a period of four years commencing June 24, 1997.

         Upon the closing of the offering, the Company repaid $1,375,000
principal amount of bridge note financings. Included in the bridge note
financings were payments to two officers for $125,000 and $300,000 to a director
of the Company. In addition the Company converted the outstanding principal
amount of $1,000,000 subordinated debentures into 279,889 shares of common stock
and the 1,048.672 shares of outstanding preferred stock were converted into
293,533 shares of common stock. Additional loans of $61,000 in the aggregate
were repaid to a shareholder and a former director out of the proceeds of the
offering.

         The Company has granted to a director/shareholder and another
shareholder certain preemptive rights to purchase additional shares of common
stock to avoid dilution of their ownership in the event of certain sales of
securities. The Company has the right to acquire all or a part of one of these
shareholders' outstanding shares (up to 38,945 shares) for a price of up to
$150,000 plus the fair value of outstanding options, warrants or other rights to
purchase securities of the Company.

         In March 1996, the Company issued 24,000 shares of common stock, valued
by the Company at $84,000 ($3.50 per share) at the time of the issuance, for
legal services rendered in connection with the IPO.


8. NON RECURRING CHARGES RELATED TO THE SECURITIES RETIRED UPON THE IPO

         The Statement of Operations for the year ended July 31, 1996 reflects
$1,221,000 of expenses related to financings that were either retired or
converted into common shares in connection with the IPO. This consists of the
following:

<TABLE>
<S>                                                                       <C>       
Amortization  of debt issuance  costs outstanding from July 31, 1995 .    $  207,000
Amortization of debt issuance costs incurred in connection with bridge
     financings that closed during the year ended July 31, 1996 ......       190,000
Amortization of original issue discount arising from the allocation of
     a portion of bridge financing proceeds to shareholders' equity,
     where shares of common stock were issued in addition to
     bridge notes issued at par value ................................       585,000
</TABLE>


                                       32
<PAGE>


                             KIDEO PRODUCTIONS, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


<TABLE>
<S>                                                                       <C>    
Interest on debt retired .............................................       151,000
Redemption of certain warrants .......................................        88,000
                                                                          ----------
                                                                          $1,221,000
                                                                          ==========
</TABLE>

                             KIDEO PRODUCTIONS, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


9. STOCK OPTION PLAN

         In February 1996, the Board of Directors approved a stock option plan
(the "Plan"), under which 350,000 shares of common stock were reserved for
future issuance. The Plan provides for the sale of shares of common stock to
employees of the Company, including officers and directors ( whether or not
employees) as well as to consultants to the Company. For stock options granted
before the closing of the Company's proposed initial public offering, the per
share exercise price of such options is $5.00 and for stock options granted
after the closing of the Company's proposed initial public offering, the per
share exercise price of such options cannot be less than the fair market value
of the shares of common stock on the date of grant. The term of each option and
the manner of exercise is determined by the Plan's administrators, but options
granted under the Plan will become exercisable after the vesting period or
periods specified in each option agreement. However, options are not exercisable
after the expiration of 10 years from the date of grant

         The Company has adopted the disclosure-only provisions of Statement of
Financial Accounting Standards No. 123 ("FAS 123"), entitled "Accounting For
Stock-Based Compensation." FAS 123 calls for measuring compensation cost at the
date of grant, based on an estimate of fair value of the option over its
expected life.

         The Company accounts for the cost of stock-based compensation using the
intrinsic value method prescribed in Accounting Principles Board Opinion Number
25, "Accounting for Stock Issued to Employees," and related Interpretations of
that rule. Accordingly, compensation cost for stock options is measured as the
excess of market value over the exercise price of the related option, measured
as of the date that the option is actually exercised. There were no options
exercised during the fiscal years ended July 31, 1996 or 1997. Accordingly,
there was no compensation expense related to stock options in those years.

         Had the accounting provisions of FAS 123 been adopted by the Company,
reported net income and earnings per share would have changed as follows:

                                                Fiscal 1996         Fiscal 1997
                                                -----------         -----------
Net Earnings, as reported                      $(3,059,000)        $(3,819,000)
Net Earnings, pro forma for FAS 123            $(3,117,000)        $(3,994,000)
                                                                 
Earnings per share, as reported                 $(1.71)              $(1.37)
Earnings per share, pro forma for FAS 123       $(1.74)              $(1.41)
                                                                  
         The FAS 123 pro forma effects are calculated using the grant date as
the measurement date; the Black-Scholes option-pricing model as the determinant
of fair value, further adjusted for lack of transferability of the underlying
shares at grant date; and an estimated option life of 5 years over which the
fair value is to be amortized. Additional variables used in applying
Black-Scholes included a volatility assumption of 60%; risk-free interest rate
of 6% and no common stock dividends during the option period.


                                       33
<PAGE>

                             KIDEO PRODUCTIONS, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


The following table summarizes activity in the stock option plan:

<TABLE>
<CAPTION>
                                                                           Weighted Average
                              Stock Options          Price per share       Price per share
                            --------------------------------------------------------------------
<S>                          <C>                    <C>                         <C>             
August 1, 1995 balance           -
Grants during Fiscal 1996     341,000                   $5.00                   $5.00
Forfeitures                    (7,000)                  $5.00                   $5.00
Options exercised                -
                            --------------------------------------------------------------------
Balance at July 31, 1996      334,000                   $5.00                   $5.00
                            --------------------------------------------------------------------
Grants during Fiscal 1997      13,000               $3.19 - $3.63               $3.29
Forfeitures                   (39,000)              $3.19 - $5.00               $4.77
Options exercised                -
                            --------------------------------------------------------------------
Balance at July 31, 1997      308,000               $3.19 - $5.00               $4.96
                            ====================================================================
</TABLE>

10. SIGNIFICANT CUSTOMER:

         During the years ended July 31, 1996 and 1997, $201,000 and $95,000,
respectively, of the Company's sales were to one customer.

11. LITIGATION:

         The Company has applied for a registered trademark for the name
"Kideo," however, this trademark has been previously registered by another
party. On July 6, 1994, the Company began litigation against the successor to
the original owner of the trademark before the Trademark Trial and Appeals Board
of the United States Patent and Trademark Office. That proceeding is currently
suspended pursuant to a stipulation agreed upon by the Company and such
successor while they discuss possible settlement. There can be no assurance that
a settlement satisfactory to the Company can be reached. If a satisfactory
settlement is not obtained the Company will pursue the original proceeding, and
in the event that the Company does not prevail in the proceeding it does not
believe that its business will be adversely affected.

12. SUBSEQUENT EVENTS:

         September 16, 1997 Financing

         On September 16, 1997, the Company issued 200,000 common shares to an
affiliate of Charles C. Johnston, a director of the Company in exchange for an
equity infusion of $300,000, which approximates fair market value.

          Conversion of Preferred Stock

         At various times during August and September, 1997 the holder of the
Compay's Preferred Stock converted the 750 Preferred shares into 543,114 shares
of common stock at an average price of $1.38 per share.

         Nasdaq Delisting

         On September 26, 1997 The Company was advised by the Nasdaq Stock
Market that Nasdaq had deleted the Company's stock from listing in the Nasdaq
Small Cap Market. The Nasdaq decision was based in part upon the Company's
having not met, as reflected in its Form 10-QSB for the quarterly period ended
April 30, 1997, the "total assets" and "capital and surplus" requirements for
continued listing on the Nasdaq Small Cap Market. Despite the Company's
submission of a plan for achieving compliance with 


                                       34
<PAGE>

                             KIDEO PRODUCTIONS, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


those requirements, the Nasdaq decision indicated that the compliance panel
lacked adequate confidence in the Company's ability to sustain long term
compliance.


                                       35
<PAGE>

Item 8. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure

      On August 29, 1996, the Registrant engaged Arthur Andersen LLP as the
independent accountant to audit the Registrant's financial statements. On that
same date, the Registrant dismissed Goldstein Golub Kessler & Company, P.C.
("GGK"), the independent accountant previously engaged by the Registrant to
audit its financial statements. The decision to change accountants was approved
by the Registrant's Board of Directors.

      The report of GGK on the Registrant's consolidated financial statements
for its fiscal years ended July 31, 1994 and July 31, 1995 contained an
explanatory paragraph stating that the Registrant's consolidated financial
statements had been prepared assuming that the Registrant would continue as a
going concern while expressing doubt as to the Registrant's ability to do so
without the infusion of additional capital. Except as stated in the previous
sentence, such report did not contain an adverse opinion or a disclaimer of
opinion and was not qualified or modified as to uncertainty, audit scope or
accounting principles.

      In addition, such report did not give effect to the consummation in June
1996 of the Registrant's initial public offering of shares of Common Stock and
Redeemable Warrants to purchase shares of Common Stock.

      From August 1, 1994 through the date of GGK's dismissal, there have been
no disagreements with GGK on any matter of accounting principles or practices,
financial statement disclosure or auditing scope or procedure which
disagreements, if not resolved to GGK's satisfaction, would have caused GGK to
make reference to the subject matter thereof in connection with its report.

      From August 1, 1994 through the date of GGK's dismissal, there have been
no "reportable events" as that term is used in Item 304(a)(1)(v) of Regulation
S-K under the Exchange Act.


                                    Part III

Item 9. Directors, Executive Officers, Promoters and Control Persons; Compliance
with Section 16 (a) of the Exchange Act.

(a) Directors and Executive Officers

         The following are the directors and executive officers of the Company.
All officers serve at the discretion of the Board of Directors. The Company
currently has authorized five directors (pursuant to a resolution adopted by the
Board in accordance with the Certificate of Incorporation). There are no
vacancies on the Board.

        Name                       Age                    Position
        ----                       ---                    --------

        Richard  L. Bulman         33       Chairman of the Board and President

        Robert J. Riscica          45       Vice President-Chief Financial
                                            Officer and Treasurer

        Marvin H. Goldstein        51       Vice President-Controller

        Bradley Dahl               38       Vice President-Development

        Richard D. Bulman          62       Secretary and Director

        Charles C. Johnston        62       Director

        Thomas Griffin             59       Director

        Michael B. Solovay         38       Director

Richard L. Bulman is the founder of the Company and has served as its President
and Chairman of the Board since its inception in August 1993. Prior thereto,
from April 1991 to June 1993, Mr. Bulman was Director of Applications
Development at Targa Systems Corp. ("Targa"), where he was responsible for
developing customized multimedia applications for such clients as International
Business Machines ("IBM"), John Hancock Mutual Life and Keystone Foods
(McDonalds). From February 1990 to April 1991, Mr. Bulman managed his own
marketing consulting firm, Richard Bulman Consulting, in Milan, Italy, where he
had responsibility for developing international marketing and advertising
campaigns for a broad range of clients including multinational corporations such
as Montedison and Instrumentation Laboratories. From December 1988 to February
1990, Mr. Bulman was Advertising Manager for 7 Days Magazine in New York.
Richard L. Bulman is the son of Richard D. Bulman, a director of the Company.

         Robert J. Riscica was engaged as the Company's Chief Financial Officer
in December 1995. For approximately the ten preceding years, he served in a
variety of executive positions with various companies


                                       36
<PAGE>

owned or controlled by Ronald O. Perelman's holding company, MacAndrews & Forbes
Group Incorporated, including as: Executive Vice President, Operations, Marvel
Entertainment Group (1992-1995); Chief Financial Officer, Marvel Entertainment
Group (1990-1992); and Director, Special Projects, MacAndrews & Forbes Group
Incorporated (1985-1990). Mr. Riscica has been licensed as a certified public
accountant in the State of New York since 1978.

         Marvin H. Goldstein was the Chief Financial Officer of the Company from
June 1994 until December 1995, when Mr. Riscica was engaged to fill that
position and Mr. Goldstein became Vice President-Controller. Mr. Goldstein also
has been a partner of Golden Pearl Associates, a real estate management firm
that owns, manages and operates various business interests since 1980. In
addition, from August 1979 to December 1993, Mr. Goldstein owned and operated
Hermans Haberdashery Co. Inc., a retail clothing firm, and prior to that time he
was with the accounting firm of Grant Thornton for approximately four years and
was a partner at William Greene & Co., CPAs for approximately five years. Mr.
Goldstein has been licensed as a certified public accountant in the State of New
York since 1972.

         Bradley Dahl has served as the Company's Vice President of Development
since July 1995. Prior to being employed by the Company, Mr. Dahl served as the
Creative Director of Interactive Videosystems, Inc. from January 1993 to April
1995, where he market tested and developed certain technologies (lathe Company)
relating to the mass production of digitally personalized video products. Prior
to his employment at Interactive Videosystems, Mr. Dahl was, from May 1992 to
January 1993, a product developer for Serius Imaging and, from May 1990 to May
1992, an Account Representative at Impex Controls Ltd., a company that develops
computer-based network control systems for institutions such as hospitals and
prisons. From January 1984 to May 1990, Mr. Dahl was the President of Alphatel
Videotex Directories Ltd., which developed, marketed and operated digital video
multimedia local area networked systems for large corporations and government
agencies.

         Richard D. Bulman has served as Secretary and a director of the Company
since August 1993. Mr. Bulman has served as the Chairman of the Board of
Directors of Targa since March 1992. Prior to joining that company, Mr. Bulman
was Vice President and General Manager for the International Market Network
(IMNET), a joint venture between IBM and Merrill Lynch & Co., from March 1988 to
January 1991. For the preceding 30 years, Mr. Bulman held various positions at
IBM, including Group Director and Chief Financial Officer of the U.S. Product
Group, Group Director of the U.S. Marketing and Services Group, and Vice
President, Chief Financial Officer and Treasurer of the IBM Service Bureau
Corporation. Mr. Bulman has also served as President of Bedford Associates, a
subsidiary of British Airways, Chairman and Chief Executive Officer of
Information Systems, Inc., a technology outsourcing company, and a consultant to
various venture capital firms. Richard D. Bulman is the father of Richard L.
Bulman, the President and Chairman of the Board of the Company.

         Charles C. Johnston has served as a director of the Company since June
1994. Mr. Johnston has served as the Chairman of the Board of the Computer
Systems and Services Business Unit of Teleglobe, Inc. of Montreal, Canada since
November 1989. He was previously founder, Chief Executive Officer and Chairman
of the Board of ISI Systems, Inc., a provider of specialty data processing
services and software which was acquired by Teleglobe, Inc. in 1989. Mr.
Johnston has also served as Chairman and Chief Executive Officer of Ventex
Technologies, a company involved in the design and sale of electronic
transformers for the neon lighting industry. Mr. Johnston serves on the Board of
Directors of I.D. Matrix of Clearwater, Florida, Wordenglass & Electric, Inc.
and Spectrum Signal Processing of Vancouver, Canada, and is a trustee of
Worcester Polytechnic Institute.

         Thomas Griffin has served as a director of the Company since February
1996. Mr. Griffin has been the Co-Chairman of Griffin Bacal, Inc., an
advertising agency that he founded in 1978, for more than five years prior to
the date hereof. Griffin Bacal focuses on the advertising and marketing of
entertainment products and services for children and adults. Mr. Griffin is also
the founder, and since 1978 has


                                       37
<PAGE>

been Co-Chairman, of Sunbow Entertainment, Inc., a company that produces and
distributes animated and live action dramatic television programming for
children. Mr. Griffin also has been serving as a director of both DDB Needham
Worldwide since July 1994 and the Eastern Region of the American Association of
Advertising Agencies from 1994 to 1996.

         Michael B. Solovay has served as a director of the Company since July
1996 and as an Assistant Secretary since February 1996. Since January 1992, Mr.
Solovay has been a partner in the law firm of Solovay Marshall & Edlin (which
has acted as legal counsel to the Company since October 1995). For approximately
five years prior to that time, Mr. Solovay had been an associate attorney in the
law firm of Skadden Arps Slate Meagher & Flom.

         All directors will hold office until the annual meeting of stockholders
to be held during 1997 (the "1997 Annual Meeting") and until their successors
are duly elected and qualified. The Certificate of Incorporation provides that,
at the 1997 Annual Meeting, the terms of office of the directors will be divided
into three classes, designated Class I, Class II and Class III. At the 1997
Annual Meeting, Class I directors (consisting initially of Thomas Griffin and
Michael B. Solovay) will be elected for a term expiring at the annual meeting of
stockholders to be held in 1998, Class II directors (consisting initially of
Charles C. Johnston) will be elected for a term expiring at the annual meeting
of stockholders to be held in 1999, and Class III directors (consisting
initially of Richard L. Bulman and Richard D. Bulman) will be elected for a term
expiring at the annual meeting of stockholders to be held in 2000. At each
annual meeting of stockholders beginning with the 1998 annual meeting, the
successors to directors whose terms will then expire will be elected to serve
from the time of election and qualification until the third annual meeting
following election (and in each case until their successors have been duly
elected and qualified). Any additional directorships resulting from an increase
in the number of directors will be distributed among the three classes so that,
as nearly as possible, each class will consist of an equal number of directors.

         The Company has agreed that, until June 24, 2001, if so requested by
the Underwriter, it will nominate and use its best efforts to elect a designee
of the Underwriter to the Company's Board of Directors or, at the Underwriter's
option, as a nonvoting advisor to the Board. The Underwriter has not yet
exercised its right to designate such person, and has informed the Company that
it does not currently anticipate that it will exercise such right in the
foreseeable future.

         The Company has obtained key man life insurance on the life of Richard
L. Bulman in the amount of $2,000,000.

(b) Section 16(a) Beneficial Ownership Reporting Compliance.

         During the 1997 Fiscal Year, all statements of beneficial ownership on
Form 4 were filed within the applicable deadlines.

Item 10. Executive Compensation

         For the 1997 Fiscal Year, the executive officers in the aggregate were
paid approximately $364,000, and only one executive officer (Richard L. Bulman)
received aggregate cash compensation in excess of $100,000. Richard L. Bulman,
the Chairman of the Board and President, received cash compensation during the
1997 Fiscal Year totaling approximately $122,716 and cash compensation totaling
approximately $118,000 and $88,000 for the fiscal years respectively ended July
31, 1996 and 1995 (all of which represented salary in each case). Based upon the
foregoing, Mr. Bulman is the only executive officer of the Company who qualifies
as a "Named Executive Officer" for purposes of the disclosure set forth below
under this discussion entitled "Executive Compensation."


                                       38
<PAGE>

         The following table summarizes the cash and other compensation paid by
the Company to Richard L. Bulman in respect of the 1997 Fiscal Year.

Summary Compensation Table              Annual Compensation   Long Term
                                                             Compensation
                                                                Award
                                                              Securities
Name and                    Year Ended                        Underlying
Principal Position           July 31,    Salary      Bonus      Options
--------------------------------------------------------------------------------
Richard L. Bulman,
 Chairman and President       1995      $88,000          0      45,003 (expired)
                              1996      $118,000         0     125,000
                              1997      $122,716         0           0

Option grants to Executive Officers, Directors During Fiscal 1997: None.

Option Exercises During Fiscal 1997: None.

Value of In-the Money Options at July 31, 1997: None.

Employment Agreement With Named Executive Officer

         Richard L. Bulman. Effective January 1, 1996, the Company entered into
a three-year employment agreement with Mr. Bulman, the Chairman of the Board and
President of the Company. Pursuant to this agreement, Mr. Bulman is entitled to
receive a base salary of $125,000 for 1996, which is subject to annual increases
determined at the Board's discretion (but not less than the annual increase in
the cost of living). Mr. Bulman is also eligible to receive a discretionary
annual bonus in respect of each of the fiscal years ending July 31, 1996 and
1997. Each such annual bonus will be payable at the sole discretion of the
Board, based upon whatever factors and considerations the Board may deem
relevant in connection with the fiscal year at issue. The Company currently
anticipates that, in determining whether to pay any such bonus, the Board may
take into consideration, with respect to the fiscal year at issue, the Company's
achievement of profitability (if any), the performance of the Common Stock in
the public trading market, whether the Company achieved the budget goals
established by the Board for that fiscal year, and the Company's management of
its resources over the course of that year. In the event the Board decides to
award any such annual bonus, the amount of such bonus must be reasonably
acceptable to the Underwriter. No discretionary annual bonus was awarded to Mr.
Bulman in respect of the 1996 Fiscal Year.

         Under the agreement, Mr. Bulman is entitled to a $1 million term life
insurance policy and to long-term disability insurance, and his employment is
subject to confidentiality restrictions and a two-year non-competition covenant.
Pursuant to the employment agreement, Mr. Bulman was granted ten-year options
under the Option Plan to purchase an aggregate of 125,000 shares of Common Stock
at a price of $5.00 per share, which options vest in increments as follows: (i)
as to 41,667 shares, on March 13, 1996; (ii) as to 41,667 shares, on; and (iii)
as to 41,666 shares, on January 1, 1998. All of such options will vest
immediately in the event of the termination without cause of Mr. Bulman's
employment prior to December 31, 1998. In the event of his termination for
cause, however, the Option Plan will result in the simultaneous termination of
all of Mr. Bulman's then-unexercised options. Mr. Bulman's employment agreement
also provides that, in the event of the termination without cause of his
employment before December 31, 1998, he will be entitled to receive severance
pay in an amount equal to his annual base salary for the


                                       39
<PAGE>

then-current year of the term of the agreement. In the event Mr. Bulman's
employment is terminated for cause, however, he will not be entitled to receive
any severance pay. Mr. Bulman's employment agreement defines "cause" as
including (in summary terms) his commission of a fraud on the Company,
misappropriation of Company funds or assets, possession of an illegal substance,
a material violation of any covenant in his Employment Agreement, or knowingly
influencing the Company's financial reporting in a manner inconsistent with
generally accepted accounting principles.

Item 11. Security Ownership of Certain Beneficial Owners and Management

         The following table sets forth certain information (based on
information obtained from the persons named below), as of August 12, 1997,
relating to the beneficial ownership of shares of Common Stock by (i) each
person or entity who is known by th beneficially five percent or more of the
outstanding Common Stock, (ii) each of the Company's directors and (iii) all
directors and executive officers of the Company as a group. The Common Stock is
the only class of the Company's equity securities constituting voting
securities. As no executive officer, other than Richard L. Bulman, received cash
compensation during the 1996 Fiscal Year exceeding $100,000, Mr. Bulman is the
only executive officer qualifying as a "Named Executive Officer" for purposes of
this table. With respect to beneficial ownership of Warrants, see note 9 below.
The Company is not a party to any arrangements, or aware of any arrangements
among any of its stockholders or involving any of them and third parties, which
may result in a change of control of the Company.

                              Amount and Nature
Name and Address                of Beneficial           Percent of
of Beneficial Owners(1)          Ownership(2)            Shares(2)

Richard L. Bulman                 459,805(3)               15.21%

Charles C. Johnston               298,136(4)                9.81%

Richard D. Bulman                 46,000(5)                 1.56%

Michael B. Solovay                 3,800                      *

Thomas Griffin                    23,000(6)                   *

Sellet Marketing Corp.            416,667(7)               12.42%

All directors and executive
officers as a group (8 
persons)                          972,386(8)               30.17%

(1)      Unless otherwise indicated in the notes below, the address for each
         named individual or group is in care of Kideo P, 611 Broadway, Suite
         523, New York, New York 10012.

(2)      Unless otherwise indicated, the Company believes that all persons named
         in the table have sole voting and investment power with respect to all
         shares of Common Stock beneficially owned by them. A person is deemed
         to be the beneficial owner of securities that can be acquired by such
         person within 60 days after June 10, 1997 upon the exercise of options,
         warrants or convertible securities. Each beneficial owner's percentage
         ownership is determined by assuming that options, warrants or
         convertible securities that are held by such person (but not those held
         by any other


                                       40
<PAGE>

         person) and which are exercisable within 60 days after June 15, 1997
         have been exercised and converted. Before any consideration is given to
         outstanding options, warrants or convertible securities, the
         percentages herein are based upon there being 2,939,014 shares of
         Common Stock outstanding as of June 10, 1997(*) indicates less than 1%.

(3)      Includes 83,334 shares of Common Stock subject to currently exercisable
         options granted under the Option Plan.

(4)      Includes (i) 15,000 shares of Common Stock subject to currently
         exercisable options granted under the Option Plan and (ii) 83,975
         shares of Common Stock issuable upon exercise of the Johnston Warrants,
         which are currently exercisable.

(5)      Includes 45,000 shares of Common Stock subject to currently exercisable
         options granted under the Option Plan.

(6)      Includes 15,000 shares of Common Stock subject to currently exercisable
         options granted under the Option Plan.

(7)      Sellet Marketing Corp. ("Sellet") is a British Virgin Islands
         corporation having a principal office at 111 Arlosorov Street, Tel
         Aviv, Israel. Sellet's business, operations and investment decisions
         are managed by its Managing Director, John Gainsford, who is an
         accountant licensed in both the United Kingdom and Israel. The 750
         shares of Series A Preferred Stock owned by Sellet became convertible
         at its option into Common Stock on July 12, 1997. If the 750 shares of
         Series A Preferred Stock owned by Sellet had been converted as of
         August 12, 1997, then, based upon the average closing bid price of the
         Common Stock on August 7, 8 and 11, those 750 shares would have been
         converted into 416,667 shares of Common Stock, representing 12.42% of
         the shares of Common Stock that would have been outstanding giving
         effect to such conversion. 

(8)      Includes (i) an aggregate of 135,667 shares of Common Stock subject to
         currently exercisable options granted under the Option Plan and (ii)
         83,975 shares of Common Stock issuable upon exercise of the Johnston
         Warrants. Except as stated in the next sentence, as of June 10, 1997 no
         director or executive officer of the Company was the beneficial owner
         of any Warrants, and no record holder of Warrants was the beneficial
         owner of five percent or more of the outstanding Warrants. As of June
         24, 1997, the following directors and executive officers were the
         beneficial owners of the indicated Warrants, representing in each case
         less than one percent of the outstanding Warrants: Richard D. Bulman,
         1,000 Warrants; Thomas Griffin, 8,000 Warrants; and Robert J. Riscica,
         30,000 Warrants.

Item 12. Certain Relationships and Related Transactions

Future transactions (if any) between the of its directors, officers and/or 5%
stockholders will continue to be on terms no less favorable to the Company than
could be obtained from independent third parties and will be approved by a
majority of the independent, disinterested directors of the Company.

Transactions with Director Charles C. Johnston


                                       41
<PAGE>

         Charles C. Johnston, a principal stockholder of the Company, has been a
director of the Company since June 1994, at which time he purchased 53,681
shares of Common Stock from the Company.

         On September 16, 1997 Mr. Johnston purchased through an affiliate,
200,000 newly issued shares from the Company for $300,000 in a private placement
transaction.

Registration Rights Agreement With Sellet

         In connection with the May 13, 1997 Financing, the Company and Sellet
in May 1997 entered into a Registration Rights Agreement. The Company, as
required thereunder, has registered under the Securities Act and included in a
Registration Statement which was declared effective in September 1997, 1,500,000
shares of Common Stock potentially underlying (i) the 750 shares of Series A
Preferred Stock currently issued to Sellet and (ii) the 1,250 shares thereof
potentially issuable to Sellet as described herein under "The May 13,1997
Financing." The agreement obligates the Company to maintain a current prospectus
covering the shares of Common Stock being offered by Sellet until the earliest
of (a) May 13, 1999, (b) the date when Sellet may sell under Rule 144 all of the
shares of Common Stock acquired by it pursuant to the conversion of Series A
Preferred Stock, and (c) the date when Sellet no longer owns any of such shares
of Common Stock. The agreement also affords Sellet certain piggyback
registration rights with respect to such shares of Common Stock. The agreement
requires the Company to pay all of the expenses incident to the registration,
offering and sale of such shares to the public, excluding the commissions or
discounts of underwriters, broker-dealers or agents.


                                       42
<PAGE>

                                   SIGNATURES

         In accordance with Section 13 or 15(d) of the Securities Exchange Act
of 1934, the Registrant caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.

Dated: October 29, 1997

                                           KIDEO PRODUCTIONS, INC.


                                           By /s/ Richard L. Bulman
                                             -------------------------------
                                           Richard L. Bulman
                                           President

         In accordance with the Securities Exchange Act of 1934, this report has
been signed below by the following persons on behalf of the Registrant and in
the capacities and on the dates indicated.

Signature                       Title                      Date
---------                       -----                      ----


/s/ Richard L. Bulman           President and Chairman     October 29, 1997
---------------------           of the Board
Richard L. Bulman


/s/ Robert J. Riscica           Chief Financial Officer    October 29, 1997
---------------------
Robert J. Riscica


/s/ Richard D. Bulman           Director and Secretary     October 29, 1997
---------------------
Richard D. Bulman


/s/ Charles C. Johnston         Director                   October 29, 1997
-----------------------
Charles C. Johnston


/s/ Thomas Griffin              Director                   October 29, 1997
Thomas Griffin


/s/ Michael B. Solovay          Director                   October 29, 1997
----------------------
Michael B. Solovay


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