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, 1999 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, 1999 were $4.8 million.
As of October 6, 1999, 4,032,553 shares of Common Stock were outstanding (of
which 838,077 shares were held, either directly or indirectly, by affiliates of
the Company) and 1,611,540 Redeemable Warrants were outstanding. Based upon the
average closing bid and asked prices of the Common Stock on Nasdaq on October 6,
1999, the aggregate market value of the shares of Common Stock held by
non-affiliates was approximately $3.0 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| .


                                       1
<PAGE>

                                     Part I

Item 1. Business

General

      Kideo is a low-cost manufacturer of photo-personalized home videos and
books for children. These products allow a child to be the star in a story.
Kideo uses its recently patented production process to place the child's face
and name in a videocassette or book. As a result of improved technology used by
Kideo, the child's photo-personalized character can exhibit two-dimensional full
motion animation and interact with the characters.

      In 1997, Kideo obtained a five-year license to feature Barney, the
dinosaur character from the highly rated children's television series "Barney
and Friends," in one of Kideo's home videos and three of its books. In the same
year, Kideo also obtained a three-year license to feature certain characters
owned by the Walt Disney Co. in four of Kideo's English language books. In
October 1998, Kideo obtained a three-year license to feature Barney in Kideo's
calendars and posters. Kideo is currently seeking out additional licensing,
marketing and other arrangements with companies that control similar types of
characters.

      Kideo currently markets nine video titles, four books and various
calendars and posters for children. Historically, Kideo relied primarily on
national catalog retailers (such as Hammacher Schlemmer and Johnson Smith) to
market and sell its products. Kideo recently has increasingly been targeting its
marketing strategies towards direct-to-consumer advertising as well as
developing relationships with established national distributors of children's
home video products, electronic retailers such as television shopping networks
and e-commerce. The Kideo titles each have a playing time of approximately 20
minutes and a suggested retail list price of $29.95 to $39.95.

      For its fiscal years ended July 31, 1998 and July 31, 1999, the Company
had net losses of approximately $2,730,000 and $1,576,000, respectively, and it
had an accumulated deficit of approximately $13,475,000 as of July 31, 1999. The
report of independent accountants on the Company's consolidated financial
statements for the fiscal year ended July 31, 1999 contains an explanatory
paragraph stating that the Company's consolidated financial statements have been
prepared assuming that the Company will continue as a going concern, while
noting that the Company's recurring losses from operations and net working
capital deficiency raise substantial doubt about its ability to continue as a
going concern. The consolidated financial statements do not include any
adjustments that might result should the Company be unable to continue as a
going concern.

Operating Strategy

      The Company has focused its near-term development efforts for new
digitally photo-personalized products upon the creation of titles featuring
licensed characters that have proven popularity in the children's home video
market. In 1997, Kideo obtained the Barney Licenses (which allow for the use of
the Barney character in one photo-personalized home video, three
photo-personalized books, photo-personalized calendars and posters) and the
Disney License (which allows for the use of certain Disney characters in four
English language photo-personalized books). In order to advance that objective,
the Company also is currently seeking out licensing, marketing and other
arrangements with companies that control similar 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.

      Kideo's long-term strategy is to become a global leader in the
development, manufacturing and marketing of a wide variety of digitally
photo-personalized products for children and adults. Included among the
Company's product development goals are:


                                       2
<PAGE>

      -     to develop additional photo-personalized home video and book titles
            for children employing licensed characters; and

      -     to develop other digitally personalized audiovisual and printed
            products likely to appeal to a demographic base spanning both
            children and adults and ancillary products related to photo and
            audio personalization.

      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

      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
photo-personalized Kideo product is created by the following process: overlaying
a digitized photographic image of a child's face onto the body of an illustrated
character embodied in a pre-existing, digitally-stored template; and then
outputting the resulting series of digital images to either an analog VHS
videocassette or a printed format. That process, in the production of a
photo-personalized VHS videocassette, is synchronized with accompanying musical
and narrative soundtracks. The narrative track is also personalized in
appropriate places by inserting the spoken name of the child. In the book
format, the printed images of the photo-personalized child's character are
accompanied by text into which that child's name also has been digitally
inserted. In the future, the Company's current production technologies will
enable it to manufacture its photo-personalized products 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 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 an 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 currently used 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.


                                       3
<PAGE>

      The Company most recently employed these same advanced production
capabilities in creating its first photo-personalized Barney home video title,
"My Party with Barney".

      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, photo-personalized videos -- 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). 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 that could be used to produce products with such features, the
Company believes that costs currently associated with such production would make
those products far too expensive for the broad-based consumer market.

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 new production system (which is based upon the use of
affordable, networked IBM-compatible 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 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 the businesses owning characters that are popular in the
children's entertainment 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 2000 in connection
with a future title featuring popular children's characters licensed from others
(the development of which cannot be assured).

Product Fulfillment

      The Company designs, develops and produces its Kideo personalized video
products as finished goods at its New York City facility, without employing any
subcontractors in the production process. The photo-personalized books,
stickers, calendars and posters are processed by the Company, printed by outside
digital printers and returned and fulfilled at the New York City plant. The
components used in the production of the Company's photo-personalized videos
(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 product is produced and shipped to the customer
generally within two to four weeks after the order is received. There is
consequently no meaningful backlog.


                                       4
<PAGE>

      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 event of increased demand for its 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 order kits in
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 Proprietary 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 personalized video title is approximately 20 minutes
in length.

      Each of the proprietary personalized video 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 to $34.95. The Company believes, however, that more than half of
all Kideos sold to date by its vendor-based 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.

Photo-Personalized Products Featuring Barney the Dinosaur and Disney Characters

      In March 1998, the Company began selling its first photo-personalized
Barney home video title -- "My Party with Barney." In this 17-minute home video,
the photo-personalized child character interacts with Barney, one of the most
popular children's market characters in America and the star of the highly-rated
children's television series "Barney and Friends." "My Party with Barney" takes
advantage of all of the sophisticated production technologies and features that
the Company has used in the production of the Gregory and Me series of Kideos.
This title is packaged similarly to the Gregory titles in a personalized vinyl
videocassette cover. The suggested retail list price for "My Party with Barney"
is $39.95. Under the Barney Licenses, the Company has the right to market "My
Party with Barney" for the five-year period ending June 30, 2002.


                                       5
<PAGE>

      The proven broad appeal of Barney products in the Company's targeted
demographic market made this video title its most successful ever. In the
consumer marketplace, Barney has become one of the most popular children's
characters of all time. The Barney television series is currently the number one
ranked series among children from two to five years old. Barney also is
currently the number one ranked character in the children's home video market,
in which sales of Barney titles account for approximately 17% of all children's
non-theatrical home video titles.

      The success of this title has reaffirmed the Company's belief that it may
be able to exploit significant sales opportunities through the creation of
Kideos that, like "My Party with Barney," feature licensed characters that have
proven popularity in the children's home video market.

      The Barney Licenses also permit the Company to market three
photo-personalized Barney books over the five-year period ending September 30,
2002. The first of these books, "Barney's Alphabet Adventure With Me," was
released in late spring 1998. It is a 24-page, laminated hardcover book in which
the child's image is digitally printed throughout, accompanied by the insertion
of the child's printed name in the text of the story.

      The Company believes that the proven broad appeal of Barney products in
the Company's targeted demographic market will contribute to making this book a
successful new product. Since 1993, over 34 million Barney books have been sold.
The latest "All-Time Bestselling Hardcover Children's Book Lists" according to
Publisher's Weekly includes 27 Barney book titles.

      In October 1998, Kideo obtained a three-year license to feature Barney in
Kideo's photo-personalized calendars and posters. Kideo is currently seeking out
additional licensing, marketing and other arrangements with companies that
control similar types of characters.

      Under the Barney Licenses, the Company has the right to market its Barney
video title for the five-year period ending June 30, 2002 and its Barney books,
posters and calendars for the five year period ending September 30, 2002. In
each case, the Company's distribution rights extend to Canada and the United
States and its territories and possessions. With respect to Barney video titles,
the Company's manufacturing rights are limited to the production of videos in
the NTSC format only. Kideo and Lyons Partnership, L.P. ("Lyons"), the licensor
of the Barney characters, have started to negotiate in good faith regarding the
potential grant of a license by Lyons to the Company for the manufacture and
distribution of additional videos featuring Barney characters. On sales of
videos and books pursuant to the Barney Licenses, the Company is obligated to
pay to Lyons, on a quarterly basis, certain specified royalties (at rates
believed by the Company to be customary in the home video and book publishing
industries for licensing transactions of similar nature). Lyons' royalty rates
are subject to a specified dollars-and-cents minimum royalty per unit sold. In
the case of video sales, Lyons' royalty rates will increase as certain specified
unit sales levels are exceeded.

      The Company currently offers two Disney photo-personalized books entitled,
Simba and Me in "A Friend to Count On", featuring Disney characters from the
feature film The Lion King, and Mickey and Me in "The Prize-Winning Pie",
featuring Minnie Mouse and Mickey Mouse. In addition to these titles, the
Company is in the process of creating two additional books (one featuring
characters from the movie "Toy Story" and the other to include Mickey Mouse),
which are anticipated to be released for the current holiday season.

      The Disney License provides for the release by the Company of four English
language photo-personalized books featuring Disney's standard characters (i.e.,
Mickey Mouse, Minnie Mouse, Donald Duck, Daisy Duck, Pluto and Goofy) and
characters to be designated by Disney from the popular animated motion pictures
"Disney's The Lion King" and "Toy Story". Two of the Disney Books are required
to be early learning books and two are to be original story books. The Company
has the rights to distribute the four Disney Books until April 30, 2000 in
Canada and the United States and its territories and possessions. The Company's
rights under the Disney License are nonexclusive; accordingly, Disney could
license any of its characters to third parties for the creation of different
photo-personalized books (the Company's rights being


                                       6
<PAGE>

exclusive during the contract's term with respect to the publication and sale of
the Disney Books created by it under the Disney License). The Disney Books are
required to be hardcover books and are to be of a type and quality designed to
sell at a suggested retail price of $19.95; the Company, however, has the
absolute discretion to price each book as it deems appropriate. As partial
consideration for the rights granted by Disney under the Disney License, the
Company paid Disney $30,000, along with a stand by letter of credit in the
amount of $75,000 as an advance against the royalties payable to Disney
thereunder. On sales of the Disney Books pursuant to the Disney License, the
Company is obligated to pay to Disney, on a monthly basis, certain specified
royalties (at rates believed by the Company to be customary in the book
publishing industry for licensing transactions of similar nature), subject to
(i) a specified dollars-and-cents minimum royalty per unit sold and (ii)
guaranteed aggregate minimum royalties paid to Disney during the contract's term
of $125,000.

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 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 products that are essentially videos, books
and other digitally photo-personalized printed products (as opposed to, for
example, computer games or other computer software titles, such as personalized
computer screen savers). Examples of the types of new products currently being
investigated by the Company include photo-personalized puzzles and
audio-personalized plush products. The Company does not expect, however, to be
able to commercialize any of those products for introduction to the markets
until the 2000 calendar year at the earliest.

Photo-Personalized Videos Featuring Popular Licensed Characters

      Since the Company's successful implementation of its new production
process in the manufacturing of the "My Party with Barney" photo-personalized
home video titles, 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 is currently seeking
out 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 could conceivably appear alongside and
interact with animated characters (e.g., Rug Rats, Blues Clues and Tele Tubbies)
or live-action characters (e.g. Big Bird).

      To date, however, the Company has not entered into any definitive
agreements with respect to the licensing of any such characters, and there can
be no assurance either that any such licenses will be made available to the
Company or that, if made available, they will be offered on terms and conditions
that are acceptable to the Company.

Longer-Term Product Development Goals

      The Company believes that, over the course of the next decade or so, 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 audiovisual


                                       7
<PAGE>

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.

Research and Development Expenditures

      In the fiscal years ended July 31, 1999 and 1998, the Company's
expenditures on research and development activities totaled approximately
$190,000 and $215,000, respectively.

Marketing

General

      The Company believes that it has developed important sales and
distribution relationships with some of the country's most respected catalog
retailers and electronic retailers (TV shopping networks). Kideo order kits have
been available for purchase at various times through HSN, QVC and such national
mail order catalogs as Hammacher Schlemmer, e-Toys, 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 catalog retailers have historically been
the primary distribution outlet for Kideos. More recently, however, electronic
sales and direct- to-consumer sales have increased substantially, as the Company
has explored and tested various types of direct marketing campaigns (including
insert programs, Kideo Catalog, television and direct mail). With the objective
of reducing overall selling expenses while sustaining steady growth, in 1999 the
Company's direct marketing efforts consisted 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
historically yielded profitable returns.

Direct Sales

      Direct sales to consumers accounted for approximately 50% of the Company's
revenues for the fiscal year ended July 31, 1999 (as compared to approximately
37% of revenues for the prior fiscal year). During the fiscal year ended July
31, 1999, the Company experienced a 225% increase (to $2,428,000) in
direct-to-consumer sales as compared to the corresponding period in the prior
fiscal year. The Company believes that this increase reflects the overall growth
in response to promotions of the Company's direct marketing activities
(including The Kideo Catalog, telemarketing, television advertising, direct mail
campaigns, and publicity efforts).

      Beginning with the launch of the Company's line of personalized Barney
products in April 1998, the Company's plan is 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 had partnered 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
Lyrick Studios (Kideo order forms in Barney home video; Kideo trailers on Barney
home videos; mailings to 800,000 member Barney fan club), Kodak (Kideo offers at
Kodak Qualex photo-finishing locations), and Polygram Filmed Entertainment
(promotional trailer and inserts in 4.5 millions "Barney's Great Adventure" home
videos). The Company intends to use the personalized Barney product marketing
plan as a model for future direct-to-consumer marketing efforts.

      In October 1997, the Company mailed the first edition of The Kideo
Catalog, a sixteen-page four-color consumer catalog featuring the Company's full
line of personalized and non-personalized products. . The Kideo Catalog
prominently features Barney and Disney products both inside the catalog and on
the cover. In the fiscal year ended July 31, 1999, the Company mailed its second
edition of The Kideo Catalog to both the Company's past customers, and various
outside lists of consumers that closely match the Company's typical customer
profile. The catalog is also promoted as an insert in Kideo shipments to
customers and continues to be a very successful source of direct sales.


                                       8
<PAGE>

      In September 1999, the Company launched their new website, Kideo.com.
Kideo seeks to establish itself as the leading Internet developer, marketer and
manufacturer of digitally photo-personalized popular entertainment content
marketed to consumers over the Internet. The Company has entered into a
strategic e-commerce partnership with LinkShare Corporation, the premier
provider of partnership-based marketing programs.

      Under the agreement, Linkshare will implement Kideo's Internet affiliate
sales and marketing program to promote Kideo.com products via Linkshare's
network of over 65,000 Internet sales affiliates. LinkShare facilitates
e-commerce for leading online companies by providing them with the tools and
technology to cross-refer their customers, strengthening their own customer
relationships and generating revenue in the process. The Kideo.com Internet
affiliate program will allow Linkshare affiliates to earn commissions based on
Kideo sales that are generated by Kideo advertisements on the participating
affiliate's website.

      In addition, Kideo has entered into a strategic alliance with
PictureVision, Inc. an independent subsidiary of the Eastman Kodak Company.
According to the agreement, Kideo's photo-personalized product line will be made
available to all photofinishers offering Kodak PhotoNet online
(www.photonet.com).

      Once available, Kodak PhotoNet customers will be able to instantly place
an online Kideo order by filling out a Kideo order form and attaching an image
from their Kodak PhotoNet online account. Kodak PhotoNet online functionality
will also be integrated into the Kideo site (www.kideo.com). The addition of
this functionality will allow Kideo customers to access PhotoNet digital images
from their Kodak PhotoNet accounts and increase the ease and speed of Kideo's
online ordering and fulfillment processes.

Vender-Based Sales

      Vender-based sales (wholesale) accounted for 50% or $2,414,000 of total
sales for the fiscal year ended July 31, 1999 (as compared to 63% in the prior
period). Vender-based sales are comprised mostly of electronic sales (shopping
networks) and catalog sales. The Company experienced an 87% or $1,126,000
increase in the current period. As the ratio of direct sales increase over
vender-based sales, the Company experiences a higher average per unit sales
price.

      Electronic sales increased $406,000 or 39% to $1,449,000 in the fiscal
year ended July 31,1999 as compared to the prior fiscal year. In March 1998, the
Company's products debuted on HSN and subsequently on QVC and the Canadian Home
Shopping Station with great success. Electronic sales accounted for
approximately 29% and 51% of the Company's revenue, respectively for the fiscal
years ended July 31, 1999 and 1998.

      During the fiscal year ended July 31, 1998, catalog sales accounted for
approximately 12% of the Company's revenues. Catalog sales increased 95% or
$280,000 to $574,000 in the current fiscal year ended July 31, 1999 as compared
to the prior period. The Company believes that the initial placement of Kideo
information in mail order catalogs resulted largely from the Company's
engagement of an independent national catalog representative who represents over
forty catalogs nationwide. This representative (who is still being utilized by
the Company) receives commissions based on the net sales proceeds generated by
its product placements.

      Because of the success generally experienced through Hammacher Schlemmer
and other catalog retailers who were among the first to offer Kideos in their
catalogs, the Company currently is finding it increasingly easy to convince
other catalog retailers to feature Kideos in their publications. For the
foreseeable future, the Company will continue to target major catalogs as
potential new marketing outlets for Kideos.

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 replacement Kideo. Even with this policy,
refunds have historically been negligible.


                                       9
<PAGE>

      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 or her order number for it from the Kideo order kit
that was 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 manufacturing process
of 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 what stage that customer's Kideo is at 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 almost immediately 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 will 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.


                                       10
<PAGE>

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.

      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.

      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.

      The Company also claims proprietary rights in systems and methods for
computer-assisted image and audio track processing, including customization, as
well as applications for and in conjunction with the processed images, such as
linear and non-linear multimedia presentations. In addition, the system and
method facilitates remote access and image retrieval of an image, or customized
presentation, from a central database. A still further aspect provides an
on-line photographic album presented in a manner defined by a user.

      The Company further claims proprietary rights in an accounting system for
on-line accounting for image usage and processing. A further aspect provides an
automated framing system receiving on-line orders.

      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.

      We have adopted and used the word "Kideo" as our principal trademark for
our products and services. If it is determined that we may not use or register
the word "Kideo" as a trademark, this could have a significant adverse effect on
us. We have applied for registration of this trademark in the United States,
Australia, France, Germany, Japan, Spain and the United Kingdom. It is possible
that we may not be granted a registered trademark of the word "Kideo" in any
jurisdiction.


                                       11
<PAGE>

      In the United States, a third party had previously registered two
allegedly similar trademarks but had ceased using them and had filed for
bankruptcy. We have been negotiating with the successor to those trademarks and
have executed an agreement in which the successor entity agreed to withdraw its
registration and pending application to register the mark "Kideo" and to cease
using this mark in the United States.

Employees

      As of October 6, 1999, the Company employed thirty nine full-time and
seasonal employees and six part-time employees, including four in administration
and finance, one in marketing and sales, six in new product creation, fourteen
in production, five in shipping, twelve who are secretarial/clerical, database
or customer service employees and three in information services. During the
Christmas holiday season (roughly the months of October through December), the
Company employs additional part-time (seasonal) employees to perform production
and database tasks. The Company's employees are not represented by any labor
organizations. Management believes that its relationship with its employees is
good.

Item 2. Property

      The Company's principal executive office consists of approximately 11,000
square feet of leased space in New York City, of which approximately 2,400
square feet are used for offices and 7,600 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 videocassette recorders and related hardware that
constitute its system for the production of digitally personalized videos.

Item 3. Legal Proceedings

      We have adopted and used the word "Kideo" as our principal trademark for
our products and services. In the United States, a third party had previously
registered two allegedly similar trademarks but had ceased using them and filed
for bankruptcy. We have been negotiating with the successor to those trademarks
and have executed an agreement in which the successor entity agreed to withdraw
its registration and pending application to register the mark "Kideo" and to
cease using this mark in the United States. 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 us from using this
mark in the State of Illinois. However, we have not yet received a communication
from any party objecting to or otherwise challenging our right to conduct
business in Illinois under the name "Kideo."

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

      There were no matters submitted to a vote of security holders during
fiscal 1999.


                                       12
<PAGE>

                                     Part II

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

Market For Common Stock

      On September 26, 1997, Nasdaq notified us that since we did not meet
certain financial requirements our common stock had been delisted from The
Nasdaq Stock Market's SmallCap Market. Therefore, our common stock is now
subject to the "penny stock" rules. The penny stock rules require additional
disclosure by broker-dealers in connection with any trades involving a penny
stock. These additional burdens imposed on broker-dealers could discourage them
from effecting transactions in our common stock, which could severely limit the
market liquidity of the common stock and your ability to sell the common stock
in the secondary market.

      Since June 24, 1996 (the effective date of the initial public offering)
the Company's Common Stock and Warrants have been 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
Standard & Poors Comstock). Such quotations reflect inter-dealer prices, without
retail mark-up, mark-down or commission, and may not represent actual
transactions.

                                               Common Stock        Warrants
                                               ------------        --------
                                          Low Bid    High Bid  Low Bid  High Bid
                                          -------    --------  -------  --------
FISCAL 1998:
1st Quarter                                 15/16      2-3/4      1/8     7/8
2nd Quarter                                1-5/16     2-1/16      1/8     1/2
3rd Quarter                                 1-3/8     2-5/16      1/4     1/2
4th Quarter                                 1-3/8     2-1/16      1/8     1/4
FISCAL 1999:
1st Quarter                                 13/16      1-5/8     1/16    3/16
2nd Quarter                                 15/16      1-5/8      1/8     .09
3rd Quarter                                   3/4    1-11/16      .20     .10
4th Quarter                                   3/4      1-1/4      1/8     .09

Holders of Record

      As of July 31, 1999, there were approximately 900 holders of record of
Common Stock, and 1,014 holders of record of Warrants.

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 has satisfied in full its obligations
to pay all dividends then accrued but unpaid on any then-outstanding shares of
its Series A Preferred Stock, currently aggregating $10,000 (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.


                                       13
<PAGE>

Item 6. Management's Discussion and Analysis of Financial Conditions 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. The
Company claims proprietary rights in its technologies and production process,
and in April 1997, 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 $13,475,000 as of July 31,
1999. For its fiscal year ended July 31, 1998, the Company had revenues of
approximately $2,033,000 and a net loss of approximately $2,730,000, and for the
fiscal year ended July 31, 1999, the Company had revenues of approximately
$4,842,000 and a net loss of approximately $1,576,000. The Company believes that
it will continue to operate at a loss until such time as when its operations
generate sufficient revenues to cover its costs. The report of independent
public accountants on the Company's consolidated financial statements for the
fiscal year ended July 31, 1999 contains an explanatory paragraph stating that
the Company's consolidated financial statements have been prepared assuming that
the Company will continue as a going concern, while noting that the Company's
recurring losses from operations and net working capital deficiency raise
substantial doubt about its ability to continue as a going concern. The
consolidated financial statements do not include any adjustments that might
result should the Company be unable to continue as a going concern.

      On September 26, 1997, Nasdaq advised the Company that the Company's
Common Stock and Warrants had been delisted from the Nasdaq SmallCap Market. The
Nasdaq decision was based upon the Company's failure to meet the "total assets"
and "capital and surplus" requirements for continued listing on the Nasdaq
SmallCap Market.

      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 develops, produces and markets personalized children's
educational video tapes and books featuring licensed and proprietary characters.
These products, along with personalized stickers, posters and calendars are
currently being sold through television shopping networks, various catalogs,
direct sales and e-commerce.

      The Company generally records an account receivable and a corresponding
liability for unearned revenue for personalized product order kits shipped to
television shopping networks, mail order houses, catalogs and other retail
vendors. Revenue is recognized on the accrual basis when the personalized
product is shipped to the ultimate consumer.

      Our business is seasonal in nature, with a large portion of our net sales
occurring in the second quarter as a result of the holiday shopping season.

Results of Operations

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

Fiscal Year ended July 31, 1999 Compared to the Fiscal Year ended July 31, 1998

Sales. Sales increased 138% or $2,808,000 to $4,842,000 in the 1999 fiscal year
from $2,033,000 in the 1998 fiscal year. Increases were realized in all
personalized product lines across the board as compared to the prior fiscal
year. Tape sales increased 132% to $4,157,000, book sales increased 192% to
$468,000


                                       14
<PAGE>

and sticker sales were up 290% to 179,000. These sales increases are primarily
attributed to the fact that newly licensed products first premiered in the
fourth quarter of fiscal year 1998 as compared to the fiscal year ended 1999
representing sales of the products for the entire period.

      The increase in sales for the fiscal year ended July 31, 1999, has
resulted from increases in both direct sales and vender based sales. Direct
sales of all products increased 225% to $2,428,000 and vender based sales
increased 87% to $2,414,000 for the fiscal year ended July 31, 1999. The ratio
of direct sales has increased to 50% for the current period as compared to 37%
for the prior period and was offset by a decrease in vender based sales to 50%
for the current period down form 63% in the prior period. As the ratio of direct
sales increases over vender based sales, the Company experiences a higher
average per unit sales price.

      The Company's licensed Barney tape, My Party With Barney represented 93%
of all personalized tape titles sold for the fiscal year ended July 31,1999.
Barney book titles represented 86% of personalized book sales for the current
period and Disney titles accounted for an additional 12% of sales. Personalized
stickers do not include licensed characters. Late in the fourth quarter of the
1999 fiscal year the Company introduced personalized Barney posters and
calendars, sales which have not been significant to date.

Cost of Sales. The Company had a gross profit of 55% or $2,641,000 for fiscal
year 1999 as compared to 14% in fiscal year 1998 or $283,000. Continued
inventory controls, improved manufacturing process and increases in volume have
reduced the cost of raw materials and direct labor. Depreciation expense
decreased $44,000 and amortization expense declined $426,000 in fiscal year 1999
as older titles were amortized in the prior period. These savings were offset by
an increase in royalties of $387,000 directly related to the increased sales
generated by the licensed Barney products.

Selling Expenses. Selling expenses increased $407,000 or 31% in fiscal year 1999
to $1,725,000 from $1,318,000 in fiscal year 1998. Promotional and media
expenses decreased by $173,000 in the current period as a result of advertising
cut backs by the Company over the prior period. These savings were offset by
volume related increases of selling expenses of $82,000, inbound telemarketing
of $178,000 shipping expenses of $143,000, customer service expenses of $130,000
and credit card discounts on direct sales of $44,000.

General and Administrative Expenses. The Company's general and administrative
expenses increased $146,000 or 11% to $1,478,000 in fiscal year 1999 from
$1,332,000 in fiscal year 1998. The primary causes for this increase were
volume-related expenses in regard to infrastructure growth of $173,000 and
professional fees of $59,000. These increases were offset in part by savings in
insurance of $37,000, depreciation of $78,000 and product development expense of
$25,000. The Company incurred approximately $56,000 in additional expense for
website design as it continues to update and inaugurate its new website
Kideo.com.

Loss from Operations. The loss from operations decreased $1,805,000 or 76% to
$562,000 in fiscal year 1999 from $2,367,000 in fiscal year 1998.

      Management continues to seek strategic marketing alliances with the intent
to reduce its financial risk in direct-to-consumer promotions and to develop a
broader based distribution for the Company's products as evidenced by the
increase in direct sales in the current fiscal year. There can be no assurances
that these objectives will continue to be achieved.

Other (Expense). Other expense, net of other income for the fiscal years ended
1999 and 1998 of $1,014,000 and $363,000 respectively, reflects amortization of
discount and deferred debt expense from the January 1998 Financing and the May
1999 Financing (as detailed below and in the notes to the financial statements),
along with debt and lease interest expenses net of interest income in that
period.

Net Loss. The net loss in the 1999 fiscal year was $1,576,000 or $0.42 loss per
share on 3,775,886 average shares of common stock outstanding, as compared to
the fiscal year 1998 net loss of $2,730,000, or $0.76 loss per share on
3,605,647 average shares of common stock outstanding.


                                       15
<PAGE>

Liquidity and Capital Resources

      The Company's net cash used in operating activities for the fiscal year
ended July 31, 1999 was $433,000 as compared to $332,000 in the prior fiscal
year. In addition, the Company invested $130,000 in equipment in the 1999 fiscal
year as compared to $442,000 for equipment and capital content in the fiscal
year ended 1998. In the fiscal year ended 1999 the Company raised $1,400,000 in
additional financing with the proceeds being used for working capital, equipment
purchases and to repay amounts owed from prior financings (as detailed below and
in the notes to the financial statements).

      On August 27, 1999, (the "August 1999 Financing") the Company entered into
a Note and Warrant Purchase Agreement. The Company issued, (1) convertible notes
having an aggregate principal amount of $300,000 due August 31, 2000 and (2)
warrants to purchase an aggregate of 300,000 of Common Stock of the Company,
exercisable through August 31, 2004 at an exercise price of $.80 per share. The
fair market value of the warrants will be treated as additional discount on the
issuance of the note and accordingly will be netted against the principal amount
outstanding and amortized over the life of the debt. The discount of the
beneficial conversion feature of the notes was expensed at issuance. The funds
were applied towards prior payables and working capital. The Company has filed
Form S-3 with the Securities and Exchange Commission in order to register the
underlying securities of this agreement.

      The Company's capital requirements in connection with its development of
new product, infrastructure and marketing activities have been and continue to
be significant. The Company anticipates, based on its currently proposed plans
and assumptions relating to its operations, that anticipated revenues from
operations and its current cash and cash equivalent balances, along with the
proceeds of the August 1999 Financing of $300,000 may not be sufficient to fund
the Company's operations and capital requirements for the foreseeable future.
The Company is currently seeking additional financing. The Company has no
current arrangements with respect to 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.

      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 (138% over the prior period), the 55%
gross margin generated from operating activities and the rate of selling,
general and administrative expense spending relative to the revenue generated.
Operating cash flow as evidenced by earnings adjusted for the non-cash expenses
of depreciation, amortization of content costs and non-cash write-offs (uses of
$433,000 from operating activities for the current period) would provide an
indication of management's ability to fund future operating activities; these
factors 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.

      The Company's material commitments and plans for capital expenditures at
the present time are driven by order volume. Currently, the Company's sales
volume can be met with existing production equipment, and increases in volume
can be met by adding additional shifts with existing equipment. Capital
expansion for additional production equipment will be driven by increases in
sales volume and will be funded by such revenues and any available equipment
financing agreements.

      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.

May 1999 Financing

      On May 11, 1999, (the "May 1999 Financing") the Company entered into a
Note and Warrant Purchase Agreement. The Company (a) issued (1) convertible
notes having an aggregate principal amount of $1,400,001 due May 15, 2000 and
(2) warrants to purchase an aggregate of 1,400,001 shares of Common Stock of the
Company, exercisable after August 31, 1999 through August 31, 2004 at an
exercise


                                       16
<PAGE>

price of $.80 per share and (b) entered into a security agreement, dated May
11th, 1999 with the investors, pursuant to which the Company granted the
investors a security interest in all of the assets of the Company as security
for performance by the Company under the May 1999 Financing.

      The first closing under the Purchase Agreement took place May 12, 1999.
The Company received $1,000,002 and delivered notes in such principal amount and
warrants to purchase 1,000,002 shares of the Company's Common Stock. The second
closing took place May 26, 1999. The Company received $399,999 and delivered
notes in such principal amount and warrants to purchase 399,999 shares of the
Company's Common Stock.

      The Company registered the underlying securities of the May 1999 Financing
with the Securities and Exchange Commission and such registration statement was
declared effective June 25, 1999.

      The discount of the beneficial conversion feature of the notes and the
fair market value of the warrants will be treated as additional discount on the
issuance of the note. The conversion feature was expensed on the issuance of the
notes and the warrants are amortized over the life of the debt and accordingly
will be netted against the principal amount outstanding.

      The proceeds from the financing were used to pay the March 1999,
short-term debt of $100,000 along with accrued interest and the $248,000 of
convertible debt outstanding from the January 1998 Financing (as detailed below)
along with accrued interest and a $95,000 termination fee on a financing
commitment. The remaining funds were applied towards prior payables and working
capital.

March 1999 Financing

      On March 10, 1999, Benjamin and Michael Bollag (the "Bollags") issued a
short-term note payable with interest at 10% in the amount of $100,000 (the
"March 1999 Financing") in anticipation of the Company raising additional
financing. The Company paid the short-term note with the proceeds from the May
1999 Financing. The Bollags received an additional $95,000 from the Company as a
termination fee for their right of first refusal on additional financings as
granted by the January 1998 Financing agreement.

January 1998 Financing

      On January 30, 1998, the Company entered into a Note and Warrant Purchase
Agreement (the "January 1998 Purchase Agreement") with the Bollags pursuant to
which, among other things, the Company: (a) issued for $500,000 (i) an aggregate
of $500,000 principal amount of 10% convertible promissory notes (the "January
1998 Notes") and (ii) warrants to purchase 500,000 shares of Common Stock (the
"January 1998 Warrants"); (b) entered into a security agreement, dated January
30, 1998 (the "Security Agreement") with the Bollags, pursuant to which the
Company granted the Bollags a security interest in all of the assets of the
Company as security for performance by the Company under the January 1998 Notes;
(c) agreed to register all of the shares of Common Stock into which the January
1998 Notes may be converted and for which the January 1998 Warrants may be
exercised; and (d) agreed that if the Company determined to sell securities
prior to the repayment in full of the January 1998 Notes, it would first offer
the Bollags the opportunity to purchase such securities. The transactions
consummated pursuant to the January 1998 Purchase Agreement are referred to
herein as the "January 1998 Financing."

      The January 1998 Warrants were issued on January 30, 1998 and entitle the
holders thereof to purchase through January 30, 2003 an aggregate of 500,000
shares of Common Stock at a price of $.90 per share as follows: one-third of the
January 1998 Warrants became exercisable following May 1, 1998 and were
excercised after such date; an additional one-third became exercisable on July,
15, 1998; and the balance became exercisable on October 15, 1998. The exercise
price is subject to adjustment in certain circumstances, including in the event
of a stock split or dividend, recapitalization, reorganization, merger,
consolidation or sale of assets of the Company or the issuance by the Company of
shares of Common Stock (or securities convertible into or exercisable for shares
of Common Stock) at a price less than the exercise price of the January 1998
Warrants.

      The Company's Board of Directors determined that the services of KSH in
arranging the January 1998 Financing had a value to the Company of approximately
$22,000, and accordingly issued 12,500


                                       17
<PAGE>

shares of Common Stock to KSH based upon an approximate fair market value of
$1.75 per share of Common Stock. Concurrently with the Company's efforts to
secure from the Bollags the financing that they ultimately provided pursuant to
the January 1998 Purchase Agreement, the Company was negotiating with Charles C.
Johnston, a director and principal stockholder of the Company, concerning an
offer by him to loan the Company $500,000 on a short-term basis (the "January
1998 Johnston Financing Proposal"). The Company asked for and received Mr.
Johnston's agreement to allow the Company to use his offer as a benchmark in its
discussions with the Bollags, for the purpose of securing from the Bollags more
favorable terms relating to their investment offer. When the Company reached its
final agreement with the Bollags and rejected the January 1998 Johnston
Financing Proposal, the Company's Board of Directors (excluding Mr. Johnston)
determined that the Company had derived meaningful advantages in its
negotiations with the Bollags from being able to use Mr. Johnston's offer and,
accordingly, on January 29, 1998 agreed to Mr. Johnston's request that the
Company should (i) grant to Mr. Johnston warrants to purchase 20,000 shares of
Common Stock (the "1998 Johnston Warrants") for $1.00 per share and (ii)
register the shares of Common Stock for which the 1998 Johnston Warrants may be
exercised. Additionally the Company agreed to reimburse Mr. Johnston for up to
$5,000 in legal fees incurred by him in negotiating the January 1998 Johnston
Financing Proposal. The 1998 Johnston Warrants are exercisable at any time after
January 31, 1999 through March 8, 2003 and contain other terms identical to the
January 1998 Warrants. See "Principal Stockholders" and "Certain
Transactions--Transactions with Charles C. Johnston."

      Prior to the closing of the January 1998 Financing, Solovay Edlin &
Eiseman, P.C. ("SEE"), the Company's outside legal counsel (of which Michael B.
Solovay, a director of the Company, is a shareholder) agreed to allow the
Company to continue to defer payment of legal fees and expenses owing as of
December 31, 1997 in the amount of $160,000. In consideration of such agreement,
the Company agreed to pay SEE $40,000 by March 15, 1998 and, on January 30,
1998, issued: (i) to SEE, a note (the "SEE Note") in the amount of $120,000 and
containing other terms identical to the January 1998 Notes; and (ii) to certain
shareholders and employees of SEE, warrants to purchase an aggregate of 120,000
shares of Common Stock (the "SEE Warrants") for $.90 per share. The shares
underlying the SEE Warrants were registered with the Securities and Exchange
Commission. The SEE Warrants are exercisable at any time after January 31, 1999
through February 2, 2003 and contain other terms identical to the January 1998
Warrants.

      On May 12, 1999 the balance of the January 1998 Notes were paid in full
with the proceeds of the May 1999 Financing (as detailed above). Due to the fact
that the May 1999 Financing was dilutive, the Company was required to issue
additional warrants to the holders of January 1998 Warrants according to the
terms of the January 1998 Warrants.

      On July 15, 1998 the Bollags exercised a cashless exchange of 166,666
warrants for 81,258 shares of Common Stock. During September 1999 the Bollags
exercised 550,000 warrants (the total remaining January 1998 Warrants, after
given effect for the antidilution of the May 1999 Financing) in a cashless
warrant exchange for an aggregate of 256,667 shares of Common Stock.

September 1997 Financing

      The Company issued 200,000 shares of Common Stock on September 16, 1997 to
an affiliate of Charles C. Johnston, a director and principal stockholder of the
Company, for an aggregate purchase price of $300,000 (the "September 1997
Financing"), which the Company's Board of Directors (excluding Johnston)
determined to be the fair market value of those 200,000 shares at the time of
issuance. The Company used the proceeds from this financing as working capital
for general corporate purposes. See "Certain Relationships and Related
Transactions--Transactions with Director Charles C. Johnston."


                                       18
<PAGE>

Year 2000 Compliance

      The failure of our internal systems, or any material third-party systems,
to be Year 2000 compliant could have a material and adverse effect on our
business, results of operations and financial condition. We reviewed Year 2000
readiness disclosure statements prepared by the United States Postal Service,
our mail carrier, and Pitney Bowes, which maintains our postage equipment, and
we believe that they will be Year 2000 compliant by November 1999.

      To date, we have not incurred any material costs in identifying or
evaluating Year 2000 compliance issues. However, we may fail to discover Year
2000 compliance problems in our systems that will require substantial revisions
or replacements. In the event that the fulfillment and operational facilities
that support our business are not Year 2000 compliant, we would be unable to
deliver products or services to our customers. In addition, we cannot assure you
that third-party software, hardware or services incorporated into our material
systems will not need to be revised or replaced, which would be time-consuming
and expensive. If we are unable on a timely basis to fix or replace third-party
software, hardware or services that could result in lost revenues, increased
operating costs and other business interruptions, this could have a material and
adverse effect on our business, results of operations and financial condition.
Moreover, the failure to adequately address Year 2000 compliance issues in our
software, hardware or systems could result in claims of mismanagement,
misrepresentation or breach of contract and related litigation, which could be
costly and time-consuming to defend.

      In addition, there can be no assurance that governmental agencies, utility
companies, third-party service providers and others outside our control will be
Year 2000 compliant. The failure by these entities to be Year 2000 compliant
could result in a systematic failure beyond our control, such as a prolonged
telecommunications or electrical failure, which could also prevent us from
delivering our product or providing services to our customers.

Item 7. Financial Statements

Index to Consolidated Financial Statements                                  Page

Report of Independent Public Accountants.............................        F-1
Consolidated Balance Sheets..........................................        F-2
Consolidated Statements of Operations................................        F-3
Consolidated Statements of Shareholders' Equity......................        F-4
Consolidated Statements of Cash Flows................................        F-5
Supplemental Cash Flow Information...................................        F-6
Notes to Consolidated Financial Statements...........................        F-7

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

      None.


                                       19
<PAGE>

                                    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. There are no vacancies on the Board.

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

Richard L. Bulman                    35           Chairman of the Board and
                                                  President

Marvin H. Goldstein                  53           Vice President-Controller

Bradley Dahl                         40           Vice President-Development

Richard D. Bulman                    64           Secretary, Director and
                                                  Acting Chief Financial Officer

Thomas Griffin                       61           Director

Michael B. Solovay                   40           Assistant Secretary and
                                                  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.

      Marvin H. Goldstein has been the Company since June 1994 and serves as the
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


                                       20
<PAGE>

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 and became acting Chief Financial Officer in November 1997.
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.

      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, since 1978. 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 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, Edlin and Eisenman, PC
(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.

      The Certificate of Incorporation provides that the terms of office of the
directors are divided into three classes, designated Class I, Class II and Class
III. At each annual meeting of stockholders 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 of the IPO, the Company 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.

      The Company reimburses the directors for reasonable travel expenses
incurred in connection with their activities on behalf of the Company but does
not pay its directors any fees for Board participation (although it may do so in
the future).

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

      During the 1999 fiscal year, all reports required by Section 16(a) of the
Securities Exchange Act of 1934 to be filed, were filed within the compliance
deadlines.


                                       21
<PAGE>

Item 10. Executive Compensation

For the 1999 fiscal year, no one executive officer received aggregate cash
compensation in excess of $100,000. 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. The following table
summarizes the cash and other compensation paid by the Company to the Named
Executive Officer in each of the Company's last three completed fiscal years.

                           Summary Compensation Table

                               Annual Compensation

                                                                      Long Term
                                                                    Compensation
                                                                       Award(s)
                               Fiscal                                Securities
Name and                      Year Ended                             Underlying
Principal Position             July 31,       Salary       Bonus       Options
--------------------------------------------------------------------------------
Richard L. Bulman,
   Chairman and President       1997         $123,000        0             0
                                1998         $ 83,000        0             0
                                1999         $ 91,000        0             0

Fiscal Year-End Option Values

      The following table sets forth information concerning unexercised options,
including the aggregate dollar value of in-the-money options, held by the Named
Executive Officer at the end of fiscal year 1999. The closing price of the
Common Stock underlying the options on July 31, 1999 (the last trading day of
the fiscal year) was $1.19. No options were exercised by the Named Executive
Officer in fiscal year 1999.

                          Number of Securities         Value of Unexercised
                        Underlying Unexercised             In-the-Money
                         Options at FY-End (#)        Options at FY-End ($)
                         ---------------------        ---------------------
Name                 Exercisable   Unexercisable   Exercisable  Unexercisable
-----------------------------------------------------------------------------

Richard Bulman         125,000          --              --             --

Repricing of Options

      As of February 20, 1998, Richard Bulman surrendered options covering
125,000 shares of Common Stock which were granted in 1996 pursuant to the
Company's Option Plan. New options covering 125,000 shares of Common Stock were
granted to Mr. Bulman, as of February 20, 1998, with exercise prices equal to
$2.50 per share (the fair market value per share on the date of the grant),
pursuant to the Option Plan. Concurrently with the repricing of Mr. Bulman's
options, all other holders of options had their respective options repriced in
the same manner. The old options held by Mr. Bulman and the other optionholders
were designed to further compensate and provide for an incentive for them, and
the Board of Directors determined that the significant decline in the market
price of the Common Stock since the date of grant of the old options frustrated
these purposes. The Board believed that by awarding Mr. Bulman (and the other
optionholders) new options with exercise prices at $2.50 per share (the fair
market value per share on the date of the grant) they will be fairly compensated
for their efforts and further motivated to achieve the Company's success. The
Board also believes that exchanging "out-of-the-money" options is a
cost-effective method of retaining key employees and preserving the important
motivating effect that stock options have.


                                       22
<PAGE>

Employment Agreement With Named Executive Officer

      Effective July 15, 1999, 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 the first year and increasing by at least 10% of the then
current year's base salary for each additional year of the agreement. The Board
of Directors may, at its discretion, award an additional base salary increase to
Mr. Bulman. On July 15, 2000 and on each July 15th thereafter so long as the
Agreement is in effect (a "Renewal Date"), the term of Mr. Bulman's employment
shall automatically be extended for an additional one (1) year period unless
either party notifies the other in writing at least sixty (60) days prior to the
applicable Renewal Date that such party does not wish to extend the agreement
beyond the expiration of the then current term, in which event the agreement
shall terminate on the July 14th of the then applicable term.

      Pursuant to the terms of the employment agreement, as promptly as options
are available for issuance to Mr. Bulman, he will be granted options to purchase
150,000 shares of the Company's common stock. These options shall have an
exercise price of $1.00, and they shall be exercisable for five years from the
date of issue. The Company agrees that as many of the options as can qualify as
"incentive stock options" under section 422 of the Internal Revenue of 1976 as
amended (the "Code") will be granted to so qualify with any remaining options
being non-qualified Options.

      In addition, Mr. Bulman will receive, as promptly as practicable following
the release of audited financial statements for each fiscal year during which
his employment agreement is in effect, options to purchase 150,000 shares of the
Company's Common Stock if, and only if, the Company has positive net profits for
such fiscal year as reported in such financial statements. These options shall
have an exercise price equal to the closing sale price of the Common Stock on
the day of grant and shall vest immediately. These options shall be exercisable
for 5 years from the date of issuance. The Company will take all reasonable
steps necessary to ensure that upon exercise of any of these options, the shares
issued to Mr. Bulman will be freely transferable. The Company agrees that each
year, as many of the options as can qualify as "incentive stock options" under
section 422 of the Code will be granted to so qualify with any remaining options
being non-qualified options.

      The Board of Directors may, in its discretion, award an additional annual
bonus to the Mr. Bulman.

      Under the agreement, Mr. Bulman is entitled to a $1 million term life
insurance policy, to long-term disability insurance and health club membership
and his employment is subject to confidentiality restrictions and a two-year
non-competition covenant. Pursuant to his prior employment agreement, Mr. Bulman
was granted ten-year options under the Option Plan to purchase an aggregate of
125,000 shares of Common Stock, which options are fully vested. The options were
originally granted to Mr. Bulman at an exercise price of $5.00 per share of
Common Stock. All of the options, however, were repriced to $2.50 per share in
February 1998.

      All of Mr. Bulman's options will vest immediately in the event of the
termination without cause of Mr. Bulman's employment. Mr. Bulman's employment
agreement also provides that, in the event of the termination without cause of
his employment, he will be entitled to receive severance pay in an amount equal
to his annual base salary as then in effect for two years. 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.


                                       23
<PAGE>

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 October 6, 1999 (the "Computation
Date"), relating to the beneficial ownership of shares of Common Stock by (i)
each person or entity who is known by the Company to own 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. 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)

Felton Investment Ltd.                     1,050,001(3)                 23.34%

Greatview Investments, Ltd.                1,050,001(3)                 23.34%

Mermaid Investments, Ltd.                  1,050,001(3)                 23.34%

White Ridge Investments, Ltd.                675,000(4)                 15.58%

Vision Corporate Consulting, LLC.            300,000(5)                  6.92%

Charles C. Johnston .......................  554,500(6)                 13.24%

Richard L. Bulman .........................  501,471(7)                 12.06%

Richard D. Bulman .........................   86,000(8)                  2.09%

Thomas Griffin ............................   76,000(9)                  1.86%

Michael B. Solovay ........................   56,528(10)                 1.38%

All directors and executive officers
as a group (6 persons) ....................   771,643(11)               19.00%

(1)   Unless otherwise indicated in the notes below, the address for each named
      individual or group is in care of Kideo Productions, Inc., 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 the Computation Date 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 person) and
      which are exercisable within 60 days after the Computation Date 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 4,032,553 shares of Common Stock outstanding as of
      the Computation Date.

(3)   Includes (i) 466,667 shares of Common Stock issuable upon exercise of
      outstanding warrants that are currently exercisable and (ii) 583,334
      shares of Common Stock issuable upon conversion of certain promissory
      notes outstanding.


                                       24
<PAGE>

(4)   Includes (i) 300,000 shares of Common Stock issuable upon exercise of an
      outstanding warrant that is currently exercisable and (ii) 375,000 shares
      of Common Stock issuable upon conversion of a certain promissory note
      outstanding.

(5)   Includes 300,000 shares of Common Stock issuable upon exercise of
      outstanding warrants that are currently exercisable.

(6)   Includes (i) 15,000 shares of Common Stock issuable upon exercise of
      currently exercisable options granted under the Option Plan, (ii) 83,975
      shares of Common Stock issuable upon exercise of outstanding warrants that
      are currently exercisable, (iii) 200,000 shares of Common Stock issued to
      an affiliate of Mr. Johnston's in the September 1997 Financing and (iv)
      36,364 shares of Common Stock issuable upon exercise of warrants issued in
      connection with the January 1998 Financing.

(7)   Includes 125,000 shares of Common Stock issuable upon exercise of
      currently exercisable options granted under the Option Plan.

(8)   Includes (i) 84,000 shares of Common Stock issuable upon exercise of
      currently exercisable options granted under the Option Plan and (ii) 1,000
      shares of Common Stock issuable upon exercise of currently exercisable
      warrants.

(9)   Includes (i) 35,000 shares of Common Stock issuable upon exercise of
      currently exercisable options granted under the Option Plan and (ii) 8,000
      shares of Common Stock issuable upon exercise of currently exercisable
      warrants.

(10)  Includes (i) 32,728 shares of common stock issuable upon exercise of
      outstanding warrants that are currently exercisable and (ii) options to
      purchase 20,000 shares of common stock that are currently exercisable.

(11)  Includes (i) an aggregate of 291,000 shares of Common Stock issuable upon
      exercise of currently exercisable options granted under the Option Plan,
      and (ii) 41,727 shares of Common Stock issuable upon exercise of currently
      exercisable warrants. The six persons constituting the group of directors
      and executive officers are Richard L. Bulman, Richard D. Bulman, Thomas
      Griffin, Michael B. Solovay, Marvin H. Goldstein and Bradley Dahl.


                                       25
<PAGE>

Item 12. Certain Relationships and Related Transactions

      Future transactions (if any) between the 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 Charles C. Johnston

      Charles C. Johnston, a principal stockholder of the Company, was a
director of the Company from June 1994 through July 22, 1999. In the September
1997 Financing, the Company issued 200,000 shares of Common Stock to an
affiliate of Mr. Johnston for an aggregate purchase price of $300,000, which the
Company's Board of Directors (excluding Mr. Johnston) determined to be the fair
market value of those 200,000 shares at the time of issuance. As a consequence
of the January 1998 Johnston Financing Proposal, on March 9, 1998 the Company
issued to Mr. Johnston the 1998 Johnston Warrants, which entitle him to purchase
20,000 shares of Common Stock for $.90 per share. In May 1999 the 20,000
warrants were exchanged for 36,364 warrants due to an additional financing that
triggered an antidilutive clause in the 1998 Johnston Warrants. The Company has
registered the 36,364 shares of Common Stock underlying the 1998 Johnston
Warrants. In September 1999, the Company paid to Mr. Johnston $25,000 in
consideration of a wavier and as reimbursement of expenses in connection with
his activities related to a financing in May 1999.

Transactions with Solovay Edlin & Eiseman, P.C.

      Prior to the closing of the January 1998 Financing, SEE, the Company's
outside legal counsel (of which Michael B. Solovay, a director of the Company,
is a shareholder) agreed to the continuing deferral of payment by the Company of
certain unpaid legal fees and expenses. The Company in exchange issued to SEE
the $120,000 SEE Note and the SEE Warrants described above. The SEE Warrants
entitle certain shareholders and employees of SEE to purchase an aggregate of
120,000 shares of Common Stock for $.90 per share. In May 1999 the 120,000
warrants were exchanged for 218,186 warrants due to an additional financing that
triggered an antidilutive clause in the SEE Warrants. The Company has registered
the 218,186 shares of Common Stock underlying the SEE Warrants.

Item 13. Exhibits, List and Reports on Form 8-K.

(a) Exhibits.

      27. Financial Data Schedule.

(b) Reports on Form 8-K.

      A report on Form 8-K, dated May 25, 1999 was filed by the Company to
      report the May 1999, Financing as set forth in this report under Item 6
      above.


                                       26
<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, 1999
and 1998, 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, 1999 and 1998, 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 has suffered recurring
losses from operations and has a net 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 14, 1999


                                      F-1
<PAGE>

                     KIDEO PRODUCTIONS, INC. AND SUBSIDIARY
                           CONSOLIDATED BALANCE SHEETS
                 (Dollars in thousands except per share amounts)

                                                        at July 31,  at July 31,
                                                           1999         1998
                                                         --------     --------
ASSETS
Current Assets:
  Cash and cash equivalents, (including
    restricted cash of $75,000 in 1999 and 1998) .....   $     86     $     82
  Accounts receivable, net ...........................        112           92
  Inventory ..........................................         49           53
  Prepaid expenses and other current assets ..........        132          169
                                                         --------     --------
    Total current assets .............................        379          396
Property and equipment, net ..........................        152          220
Capitalized content costs, net .......................        195          387
Other assets .........................................        151           68
                                                         --------     --------
    Total assets .....................................   $    877     $  1,071
                                                         ========     ========

LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
  Accounts payable ...................................   $    876     $    736
  Accrued expenses ...................................        401          348
  Capital leases, current portion ....................          8           49
  Unearned revenue ...................................        684        1,028
  Convertible notes payable, ($1,400,001 net
    of $139,000 of discount in 1999; and $620,000
    net of $372,000 of discount in 1998) .............      1,261          248
                                                         --------     --------
      Total current liabilities ......................      3,230        2,409
Capital leases, long term portion ....................          4           10
                                                         --------     --------
      Total liabilities ..............................      3,234        2,419
                                                         --------     --------

Commitments (Notes 5 and 6)

Shareholders' (Deficiency)
  Common Stock, $0001 par value;
    authorized 15,000,000 shares, issued and
    outstanding 3,775,886 shares at
    July 31, 1999 and 1998 ...........................         --           --
  Additional paid-in capital .........................     11,118       10,551
  Accumulated deficit ................................    (13,475)     (11,899)
                                                         --------     --------
    Shareholders' (Deficiency) .......................     (2,357)      (1,348)
                                                         --------     --------
Total liabilities and shareholders' (deficiency) .....   $    877     $  1,071
                                                         ========     ========

              The accompanying notes are an integral part of these
                          consolidated balance sheets.


                                      F-2
<PAGE>

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

                                                     Year ended      Year ended
                                                       July 31,        July 31,
                                                        1999            1998
                                                     -----------    -----------

Sales ............................................   $     4,842    $     2,033
Cost of sales ....................................         2,201          1,750
                                                     -----------    -----------
Gross profit .....................................         2,641            283

Selling expenses .................................         1,725          1,318
General and administrative expenses ..............         1,478          1,332
                                                     -----------    -----------
Loss from operations .............................          (562)        (2,367)
                                                     -----------    -----------
Other (expense), net .............................        (1,014)          (363)
                                                     -----------    -----------

Net loss .........................................   $    (1,576)   $    (2,730)
                                                     ===========    ===========

Net loss per share: Basic and Diluted ............   $     (0.42)   $     (0.76)
                                                     ===========    ===========

Weighted average number of shares outstanding:
  Basic and Diluted ..............................     3,775,886      3,605,647
                                                     ===========    ===========

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


                                      F-3
<PAGE>

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

<TABLE>
<CAPTION>
                                                                                         Additional              Shareholders'
                                                   Preferred Stock       Common Stock      Paid-in  Accumulated  (Deficiency)
                                                   Shares   Amount     Shares    Amount    Capital    Deficit       Equity
                                                 -----------------------------------------------------------------------------
<S>                                                  <C>   <C>       <C>         <C>      <C>        <C>           <C>
Balance at July 31, 1997 ........................    750   $    --   2,939,014   $   --   $  9,591   $ (9,169)     $   422
                                                 -----------------------------------------------------------------------------

Conversion of preferred stock to common .........   (750)       --     543,114       --        (25)        --          (25)
Issuance of common stock in connection
  with the September 1997 Johnston Financing ....                      200,000       --        300         --          300
Discount to fair market value of the January 1998,
  convertible notes payable on the conversion to
  common stock ..................................                                              465                     465
Issuance of warrnats in connection with the
  January 1998, Financing and related expenses ..                                              198                     198
Issuance of common stock in lieu of commission in
  connection with the January 1998, Financing ...                       12,500       --         22                      22
Conversion of warrants to common stock ..........                       81,258
Net loss ........................................                                                      (2,730)      (2,730)
                                                 -----------------------------------------------------------------------------
Balance at July 31, 1998 ........................     (0)  $    --   3,775,886   $   --   $ 10,551   $(11,899)     $(1,348)
                                                 -----------------------------------------------------------------------------

Discount to fair market value of the May 1999,
  convertible notes payable on the conversion to
  common stock ..................................                                              333                     333
Issuance of warrants in connection
  with the May 1999, Financing ..................                                              175                     175
Issuance of warrants for commission in
  connection with the May 1999, Financing .......                                                9                       9
Issuance of warrants in connection
  with licensing and consulting agreements ......                                               50                      50
Net loss ........................................                                                      (1,576)      (1,576)
                                                 -----------------------------------------------------------------------------
Balance at July 31, 1999 ........................     (0)   $   --   3,775,886   $   --   $ 11,118   $(13,475)     $(2,357)
                                                 -----------------------------------------------------------------------------
</TABLE>

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


                                      F-4
<PAGE>

                     KIDEO PRODUCTIONS, INC. AND SUBSIDIARY
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                 (Dollars in thousands except per share amounts)

<TABLE>
<CAPTION>
                                                            Year ended     Year ended
                                                          July 31, 1999   July 31, 1998
                                                          -------------   -------------
<S>                                                          <C>            <C>
Cash flows from operating activities:
 Net loss ................................................   $(1,576)       $(2,730)
 Adjustments to reconcile net loss to net cash used
    in operating activities:
    Depredation and amortization of operating assets .....       390            945
    Amortization of loan discount and deferred debt costs        449            258
    Discount on issuance of convertible notes issued .....       382             --
    Effect of changes in operating assets and liabilities:
      Accounts receivable ................................       (20)           (61)
      Inventory ..........................................         4             50
      Prepaid expenses and other current assets ..........        37           (141)
      Other assets .......................................       (38)            --
      Accounts payable ...................................       140            261
      Accrued expenses ...................................       143            291
      Unearned revenue ...................................      (344)           795
                                                             -------        -------
 Net cash used in operating activities ...................      (433)          (332)
                                                             -------        -------

Cash flows from investing activities:
 Purchase of property and equipment ......................      (130)           (23)
 Increase in capitalized content and program costs .......        --           (419)
                                                             -------        -------
 Net cash used in investing activities ...................      (130)          (442)
                                                             -------        -------

Cash flows from financing activities:
 Net proceeds from issuances of capital stock ............        --            275
 Proceeds from convertible debt, net .....................     1,241            500
 Proceeds from notes payable .............................       100             --
 Principal payments on convertible debt ..................      (620)            --
 Principal payments on notes payable .....................      (100)            --
 Principal payments on capital leases ....................       (54)           (83)
                                                             -------        -------
 Net cash provided by financing activities ...............       567            692
                                                             -------        -------
Net increase (decrease) in cash ..........................         4            (82)
Cash and cash equivalents at the beginning of the period .        82            164
                                                             -------        -------
Cash and cash equivalents at the end of the period .......   $    86        $    82
                                                             =======        =======
</TABLE>

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


                                      F-5
<PAGE>

                     KIDEO PRODUCTIONS, INC. AND SUBSIDIARY
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                            SUPPLEMENTAL INFORMATION
                 (Dollars in thousands except per share amounts)

<TABLE>
<CAPTION>
                                                                 Year ended      Year ended
                                                                July 31, 1999   July 31, 1998
                                                                -------------   -------------
<S>                                                                  <C>           <C>
Cash payments for interest ....................................      $ 50          $ 20
Cash payments for termination fee on financing commitment .....        95            --
Cash payments for income taxes ................................         0            16

Supplemental schedule of noncash investing and financing
  activities:
  Proceeds of security deposits applied to capital leases .....        33            --
  Discount to fair market value of the January 1998,
    convertible notes payable on the conversion to common stock        --           465
  Issuance of warrants in connection with the
    January 1998, Financing ...................................        --           198
  Issuance of common stock in lieu of commission in connection
    with the January 1998, Financing ..........................        --            22
  Discount to fair market value of the May 1999,
    convertible notes payable on the conversion to common stock       333            --
  Issuance of warrants in connection with the
    May 1999, Financing .......................................       175            --
  Issuance of warrants in for commission in connection
    with the May 1999, Financing ..............................         9            --
  Issuance of warrants in connection
    with licensing and consulting agreements ..................        50            --
</TABLE>

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


                                      F-6
<PAGE>

                     KIDEO PRODUCTIONS, INC. AND SUBSIDIARY
                   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 is
devoted to the development of multimedia products using emerging technologies
with an emphasis on personalized products for children.

      The Company develops, produces and markets personalized children's
educational video tapes and books featuring licensed and proprietary characters.
These products, along with personalized stickers, posters and calendars are
currently being sold through television shopping networks, various catalogs,
direct sales and e-commerce.

      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
$1,576,000 and $2,730,000 for the years ended July 31, 1999 and July 31, 1998,
respectively. In addition, the Company has a net working capital deficiency of
$2,851,000 at July 31, 1999. These factors indicate that there is substantial
doubt about the Company's ability to continue. 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
current marketing channels with a major emphasis on e-commerce. 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 e-commerce marketing efforts),
together with anticipated revenues from operations and its current cash and cash
equivalent balances, that these proceeds will be sufficient to fund the
Company's operations and capital requirements through January 31, 2000.

      The Nasdaq Stock Market ("Nasdaq") has delisted the Company's stock from
the Nasdaq Small Cap Market Exchange. The Nasdaq decision was based in part upon
the Company's having not met the "total assets" and "capital and surplus"
requirements for continued listing on the Nasdaq Small Cap Market

Revenue Recognition

      The Company generally records an account receivable and a corresponding
liability for unearned revenue for personalized product order kits shipped to
television shopping networks, mail order houses, catalogues and other retail
venders. Revenue is recognized on the accrual basis when the personalized
product is shipped to the ultimate consumer.


                                      F-7
<PAGE>

                     KIDEO PRODUCTIONS, INC. AND SUBSIDIARY
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Capitalized Content Costs, net

      Capitalized content costs are capitalized as film costs and are amortized
using the individual-film-forecast-computation method in accordance with
Statement of Financial Accounting Standards ("SFAS") No. 53 "Financial Reporting
of Motion Picture Films." Utilizing this method, film costs are amortized in the
same ratio that current gross revenues bear to anticipated gross revenues. Due
to uncertainties in the estimating process, anticipated gross revenues may vary
from actual gross revenues. The anticipated gross revenues are continuously
updated by management to reflect the most current data available.

Long Lived Assets

      In accordance with SFAS No. 121, "Accounting for the Impairment of
Long-Lived 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, 1999 and 1998 were
$137,000 and $351,000, respectively.

Property and Equipment

      Depreciation of property and equipment is provided for principally by the
straight-line method over the estimated useful lives of the respective assets.
Leasehold improvements are amortized using the straight-line method over the
shorter of its useful life or the life of the lease.

Income Taxes

      The Company follows the provisions of SFAS 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 as deferred at the tax rate at which the
differences are expected to reverse. At July 31, 1999 and 1998, there were no
material temporary differences between the book basis and tax basis of the
Company's assets and liabilities.

      As of July 31, 1999, the Company had a net operating loss carryforward for
both financial reporting and income tax purposes of approximately $13,064,000
available to offset future income, expiring through 2019. This resulted in a
deferred income tax asset of approximately $5,879,000 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.

Reclassification

      Certain prior period amounts have been reclassified to conform with
current period presentation.


                                      F-8
<PAGE>

                     KIDEO PRODUCTIONS, INC. AND SUBSIDIARY
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Net Loss Per Share

      In accordance with SFAS No. 128, net loss per common share amounts ("Basic
EPS") are computed by dividing net earnings after adjustments for preferred
stock dividend requirements, by the weighted average number of common shares
outstanding and excluding any potential dilution. Net loss per common share
amounts assuming dilution ("Diluted EPS") are computed by reflecting potential
dilution from the exercise of stock options, to the extent they are dilutive.

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.

Use of Estimates

      The Company's sales have been seasonal in nature based, in part, on
purchases made during the months of October through December.

      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.

Cash and Cash Equivalents

      The Company considers all highly liquid investments with an original
maturity of three months or less to be cash equivalents. Cash equivalents
include investments in money market funds and are stated at cost, which
approximates market value. At July 31, 1999 and July 31, 1998, the Company had
$75,000 of restricted cash, which represents amounts held in a deposit account
in accordance with a third party license contract.

Seasonality

      For Fiscal 1999 the Company recorded 40% of total sales in the second
quarter. The fourth quarter of Fiscal 1998 was an exception to this trend, due
to the introduction of its newly licensed Barney products; the Company recorded
60% of total sales.


                                      F-9
<PAGE>

                     KIDEO PRODUCTIONS, INC. AND SUBSIDIARY
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

New Accounting Announcements

      In June 1997, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 131 "Disclosures About Segments of an Enterprise and Related
Information." SFAS No. 131 requires entities to disclose financial and detailed
information about their operating segments in a manner consistent with internal
segment reporting used by the Company to allocate resources and assess financial
performance. SFAS No. 131 is effective for financial statements for periods
beginning after December 15, 1997 and requires comparative information for
earlier years to be presented. This statement expands and modifies financial
statement disclosures and accordingly, has no impact on the Company's results of
operations, earnings per share or financial position. The Company does not
believe that it operates in more then one segment.

2. PROPERTY AND EQUIPMENT

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

<TABLE>
<CAPTION>
                                                                              Estimated
                                             July 31, 1999  July 31,1998     Useful Life
                                             -------------  ------------     -----------
<S>                                              <C>           <C>          <C>
Video production equipment and related
software                                         $ 728,000     $ 627,000      3 years
Furniture and fixtures                              10,000        10,000      7 years
Office equipment                                   117,000       124,000    3 to 5 years
Leasehold improvements                             164,000       164,000      3 years
                                                 ---------     ---------
                                                 1,019,000       925,000
Less accumulated depreciation                    (867,000)     (705,000)
                                                 ---------     ---------
                                                 $ 152,000     $ 220,000
                                                 =========     =========
</TABLE>

      Included in property and equipment at July 31, 1999 and at July 31, 1998
are approximately $207,000 of assets acquired under capital leases. Accumulated
depreciation on these assets as of July 31, 1999 and July 31, 1998 amounted to
approximately $163,000 and $68,000 respectively. The property held under these
leases is collateral for the related capital lease obligations as described in
Note 6.

      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. As of July 31, 1999,
this amount was fully amortized.

3. CAPITALIZED CONTENT COSTS

      Capitalized content costs include the development, scripts, characters,
props, filming and postproduction of new Kideo titles introduced.

                                                       July 31       July 31
                                                          1999          1998
                                                          ----          ----
Capitalized content costs                             $419,000      $419,000
Less accumulated amortization                          224,000        32,000
                                                       -------        ------
Net book value                                        $195,000      $387,000
                                                      ========      ========


                                      F-10
<PAGE>

                     KIDEO PRODUCTIONS, INC. AND SUBSIDIARY
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

4. OTHER ASSETS:

Other assets consist of the following:

                                                      July 31,      July 31,
                                                          1999          1998
                                                          ----          ----
Deposits on capital lease obligations                  $12,000       $34,000
Security deposits                                       44,000        18,000
Deferred expenses                                       95,000        16,000
                                                      --------       -------
                                                      $151,000       $68,000
                                                      ========       =======

5. COMMITMENTS:

      The Company leases 11,000 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 and warehouse space on a month to month basis at a
monthly rent of approximately $1,800. Total rent expense for the years ended
July 31, 1999 and 1998 amounted to $262,000 and $124,000, respectively. Future
approximate minimum rental payments required are listed below and are subject to
a 25% discount when the monthly payment is made prior to the 11th day of the
month in which it is due.

Fiscal year ending July 31,
2000                                                           $356,000
2001                                                            149,000
2002                                                             11,000
                                                               --------
                                                               $516,000
                                                               ========

      The Company has entered into employment contracts with two employees
expiring at various times through December 2002. The aggregate minimum
commitment for future salaries, excluding bonus is:

Fiscal year ending July 31,
2000                                                           $212,000
2001                                                            190,000
2002                                                             88,000
                                                               --------
                                                               $490,000
                                                               ========

6. CAPITAL LEASE OBLIGATIONS:

      Included in property and equipment is $207,000 in production and office
equipment held under capital leases at July 31, 1999 and 1998. The future
minimum lease payments under capital leases, all with interest rates ranging
from 13% to 16.5%, at July 31, 1999 are as follows:

Fiscal year ending July 31,
2000                                                            $11,000
2001                                                              3,000
2002                                                              1,000
                                                                -------
                                                                 15,000
Less amounts representing interest                                3,000
                                                                -------
                                                                $12,000
                                                                =======


                                      F-11
<PAGE>

                     KIDEO PRODUCTIONS, INC. AND SUBSIDIARY
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

7. SHAREHOLDERS' EQUITY:

May 1999, Financing

      On May 11, 1999, the Company entered into a Note and Warrant Purchase
Agreement. The Company issued, (1) convertible notes having an aggregate
principal amount of $1,400,001, bearing interest at a rate of 10% per annum, due
through May 15, 2000 and (2) warrants to purchase an aggregate of 1,400,001 of
Common Stock of the Company, exercisable after August 31, 1999 through August
31, 2004 at an exercise price of $.80 per share.

      The first closing under the Purchase Agreement took place May 12, 1999.
The Company received $1,000,002 and delivered notes in such principal amount and
warrants to purchase 1,000,002 shares of the Company's Common Stock. The second
closing took place May 26, 1999. The Company received $399,999 and delivered
notes in such principal amount and warrants to purchase 399,999 shares of the
Company's Common Stock

      The fair market value of the warrants will be treated as additional
discount on the issuance of the note and accordingly will be netted against the
principal amount outstanding and amortized over the life of the debt. As the
debt is convertible from the date of issuance, the discount of the beneficial
conversion feature of the notes was expensed at issuance. The conversion feature
affords a discount to fair market value at the time of conversion of the Notes
of $333,375.

      The proceeds from the financing were used to pay short-term debt of
$100,000, $248,000 of convertible debt outstanding from the January 1998
Financing along with accrued interest and a $95,000 termination fee on financing
commitment. The remaining funds were applied towards prior payables and working
capital.

January 1998, Financing

      The Company issued convertible notes ("Notes") in the aggregate amount
of$620,000, bearing interest at the rate of 10% per annum, due April 15, 1999.
The Notes converted at a price of $1.00 per share. In addition the Company
issued Warrants at the then fair market value. The warrants provided for the
purchase of a total of 640,000 shares of the Company's Common Stock, par value
$.0001 per share, to certain investors and advisors.

      The conversion feature afforded a discount to fair market value at the
time of conversion of the notes into shares of common stock. The beneficial
conversion feature of the Notes of $465,000, and the fair value of the warrants
of $155,000, have been treated as additional discount on the issuance of the
Notes, and accordingly have been netted against the principle amount
outstanding. The conversion feature is being amortized from the date the
security was issued until the date it first became convertible and the warrants
are being amortized over the life of the debt.

      On July 10, 1998 certain investors exercised a cashless conversion of
166,666 warrants into 81,258 shares of the Company's Common Stock.

      The balance of the Notes along with accrued interest was paid from the
proceeds from the May 1999 Financing.


                                      F-12
<PAGE>

                     KIDEO PRODUCTIONS, INC. AND SUBSIDIARY
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

September 1997 Financing

      The Company issued 200,000 shares of Common Stock on September 16, 1997 to
an affiliate of Charles C. Johnston, a director and principal stockholder of the
Company, for an aggregate purchase price of $300,000 (the "September 1997
Financing"), which the Company's Board of Directors (excluding Johnston)
determined to the be the fair market value of those 200,000 shares at the time
of issuance. The Company used the proceeds from this financing as working
capital for general corporate purposes.

8. OTHER EXPENSES

      The Statements of Operations for the year ended July 31, 1999 and 1998
reflects expenses related to various financings. This consists of the following:

                                                                1999      1998
                                                                ----      ----
Amortization & expense of debt issuance costs                 $ 41,000   $55,000
Amortization of debt discount on the issuance costs of the
financings                                                     742,000   248,000
Interest on debt                                               111,000    60,000
Termination and other fees on financing commitments            120,000        --
                                                            ----------  --------
                                                            $1,014,000  $363,000
                                                            ==========  ========

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.

      On February 20, 1998, 273,000 options previously issued to employees and
directors with a weighted average exercise price of $4.95 were repriced at
$2.50. This revaluation did not alter or amend any other provision of the
optionee's original option agreement, including vesting period and option term.

      The Company has adopted the disclosure-only SFAS No. 123, "Accounting For
Stock-Based Compensation." SFAS No. 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.


                                      F-13
<PAGE>

                     KIDEO PRODUCTIONS, INC. AND SUBSIDIARY
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

      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 granted. There were no options exercised
during the fiscal years ended July 31, 1999 or 1998.

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

                                                      Fiscal 1999    Fiscal 1998
                                                      -----------    -----------
Net Loss, as reported                                $(1,576,000)   $(2,730,000)
Net Loss, pro forma for SFAS No. 123                 $(1,623,000)   $(2,635,000)

Loss per share, as reported                               $(0.42)        $(0.76)
Loss per share, pro forma for SFAS No. 123                $(0.43)        $(0.73)

      The SFAS No. 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 5.58% (as of July 31, 1998 and 1999, respectively) and no common stock
dividends during the option period.

The following table summarizes activity in the stock option plan:

                                        Stock       Price per   Weighted Average
                                       Options        share      Price per share
                                       -------        -----      ---------------

Balance at July 31, 1997               308,000     $3.19-$5.00        $4.96
                                     -------------------------------------------
Grants during Fiscal 1998                 0             0               0
Forfeitures                            (50,000)       $5.00           $5.00
Options exercised                         0             0               0
                                     -------------------------------------------
Balance at July 31,1998                258,000        $2.50*          $2.50
Grants during Fiscal 1999               99,000        $1.00           $1.00
Forfeitures                            (7,000)        $2.50           $2.50
Options exercised                         0             0               0
                                     -------------------------------------------
Balance at July 31, 1999               350,000     $1.00-$2.50        $2.07
                                     -------------------------------------------

*Repriced February 20, 1998 by a unanimous vote by the Board of Directors' of
the Company, to $2.50.


                                      F-14
<PAGE>

                     KIDEO PRODUCTIONS, INC. AND SUBSIDIARY
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

10. SIGNIFICANT CUSTOMERS and CONCENTRATION OF CREDIT RISK

      For the years ended July 31, 1999 approximately 12% and 18% of the
Company's sales were to two customers.

      At July 31, 1999, two of the Company's vendors' represented approximately
50% of the Company's accounts payable balance. One of the stated vendors,
representing 32% of the accounts payable has agreed to receive payment in the
form of Common Stock of the Company.

11. Related-Party Transactions

      A note in the amount of $120,000, issued in connection with the January
1998 Financing, were issued to the Company's legal advisor for services, who is
also a director of the Company. The Note along with accrued interest was paid
from the proceeds of the May 1999 Financing. Professional fees paid to the legal
advisor in addition to the note for the years ended July 31, 1999 and 1998
totaled approximately $105,000 and $60,000, respectively.

12. Subsequent Events

      On August 30, 1999, the Company entered into a Note and Warrant Purchase
Agreement. The Company issued, (1) convertible notes having an aggregate
principal amount of $300,000, bearing interest at 10% per annum, due through
August 31, 2000 and (2) warrants to purchase an aggregate of 300,000 of Common
Stock of the Company, exercisable through August 31, 2004 at an exercise price
of $.80 per share.

      The fair market value of the warrants will be treated as additional
discount on the issuance of the note and accordingly will be netted against the
principal amount outstanding and amortized over the life of the debt. The
discount of the beneficial conversion feature of the notes was expensed at
issuance.

      The funds were applied towards prior payables and working capital.

      On October 6, 1999 the Company missed the September 30th quarterly
interest payments due on the May 1999 Financing and the August 1999 Financing.
The investors waived the default clause on the debt.


                                      F-15
<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, 1999

                                              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, 1999
--------------------------    of the Board (Principal
Richard L. Bulman             Executive Officer)


/s/ Richard D. Bulman         Director                          October 29, 1999
--------------------------    Secretary and Chief
Richard D. Bulman             Financial Officer


/s/ Marvin H. Goldstein       Vice President, Controller        October 29, 1998
--------------------------    (Principal Accounting and
Marvin H. Goldstein           Financial Officer)


/s/ Thomas Griffin            Director                          October 29, 1999
--------------------------
Thomas Griffin


/s/ Michael B. Solovay        Director                          October 29, 1999
--------------------------
Michael B. Solovay


                                       27