================================================================================

                                  UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549
                              --------------------

                                    FORM 10-K

                  FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO
           SECTIONS 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

      (Mark One)
          |X|   ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
                SECURITIES EXCHANGE ACT OF 1934
                   For the fiscal year ended December 31, 1998

          |_|   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
                SECURITIES EXCHANGE ACT OF 1934
                    For the transition period from      to

                        Commission File Number: 33-93464

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

          Delaware                                   06-0992637
(State or other jurisdiction of          (I.R.S. Employer Identification No.)
incorporation or organization) 

  3191 Broadbridge Avenue, Stratford, CT               06614
   (Address of principal executive offices)          (Zip Code)

       Registrant's telephone number, including area code : (203) 381-7000

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

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

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

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

The  aggregate  market value of the voting stock held by  non-affiliates  of the
registrant as of March 24, 1999 was $0.00.

As of March 24, 1999, there were 12,934,000  shares of the  registrant's  common
stock, $.01 par value (the "Common Stock"), outstanding. There is no established
trading market for the Common Stock.

                    DOCUMENTS INCORPORATED BY REFERENCE. None

================================================================================

<PAGE>

                                TABLE OF CONTENTS

                                                                        PAGE
                                                                      REFERENCED
Item Number                                                           FORM 10-K 
-----------                                                           ----------

                                     PART I

ITEM 1.  BUSINESS..................................................       1

ITEM 2.  PROPERTIES................................................       7

ITEM 3.  LEGAL PROCEEDINGS.........................................       7

ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.......       8

                                     PART II

ITEM 5.  MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED
         STOCKHOLDER MATTERS.......................................       9

ITEM 6.  SELECTED FINANCIAL DATA...................................       9

ITEM 7.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
         CONDITION AND RESULTS OF OPERATIONS.......................      11

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
         MARKET RISK...............................................      18

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA...............      19

ITEM 9.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
         ACCOUNTING AND FINANCIAL DISCLOSURE.......................      50

                                    PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT........      50

ITEM 11. EXECUTIVE COMPENSATION....................................      53

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
         MANAGEMENT................................................      60

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS............      61

                                     PART IV

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND
         REPORTS ON FORM 8-K.......................................      63


<PAGE>

            CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

                    CERTAIN STATEMENTS  CONTAINED HEREIN WHICH EXPRESS "BELIEF,"
"ANTICIPATION," "EXPECTATION," OR "INTENTION" OR ANY OTHER PROJECTION, INCLUDING
STATEMENTS CONCERNING THE LAUNCH OF NEW PRODUCTS, FUTURE COMPANY PERFORMANCE AND
CAPITAL  EXPENDITURES,  INSOFAR  AS THEY  MAY  APPLY  PROSPECTIVELY  AND ARE NOT
HISTORICAL FACTS, ARE "FORWARD-LOOKING" STATEMENTS WITHIN THE MEANING OF SECTION
27A OF THE SECURITIES ACT OF 1933 AND SECTION 21E OF THE SECURITIES EXCHANGE ACT
OF 1934. BECAUSE SUCH STATEMENTS INCLUDE RISKS AND UNCERTAINTIES, ACTUAL RESULTS
MAY DIFFER  MATERIALLY FROM THOSE  EXPRESSED OR IMPLIED BY SUCH  FORWARD-LOOKING
STATEMENTS.  FACTORS THAT COULD CAUSE ACTUAL RESULTS TO DIFFER  MATERIALLY  FROM
THOSE EXPRESSED OR IMPLIED BY SUCH  FORWARD-LOOKING  STATEMENTS INCLUDE, BUT ARE
NOT  LIMITED  TO,  THE RISK  FACTORS  IDENTIFIED  IN  DICTAPHONE'S  REGISTRATION
STATEMENT  ON FORM  S-1 AND IN OTHER  DOCUMENTS  FILED  BY  DICTAPHONE  WITH THE
SECURITIES AND EXCHANGE COMMISSION. BECAUSE THE COMPANY WISHES TO TAKE ADVANTAGE
OF THE "SAFE HARBOR"  PROVISIONS OF THE PRIVATE SECURITIES AND LITIGATION REFORM
ACT OF 1995,  READERS ARE CAUTIONED TO CONSIDER,  AMONG OTHERS, THE RISK FACTORS
DESCRIBED IN ITEM 7 "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS".

                                     PART I

ITEM 1.       BUSINESS

GENERAL

        On  April  25,  1995,  Dictaphone  Acquisition  Corporation  ("Successor
Company", also referred to herein as the "Company" or "Dictaphone") entered into
a  Stock  and  Asset  Purchase  Agreement,  as  amended  August  11,  1995  (the
"Acquisition Agreement") with Pitney Bowes Inc. ("Pitney Bowes") for the purpose
of acquiring  (the  "Acquisition")  Dictaphone  Corporation,  the United  States
Dictaphone  Subsidiary of Pitney Bowes,  and certain  foreign  affiliates as set
forth in the Acquisition Agreement (collectively, the "Predecessor Company"). On
August 11, 1995, the Acquisition  was  consummated and the Company  acquired the
Predecessor Company. Subsequent to the Acquisition, the Company changed its name
to "Dictaphone  Corporation",  and the  Predecessor  Company changed its name to
"Dictaphone  Corporation  (U.S.)". In January 1998,  Dictaphone  Corporation was
merged into Dictaphone  Corporation (U.S.),  whereupon the surviving corporation
changed its name to "Dictaphone Corporation".

       The Company is the successor to a business begun by Alexander Graham Bell
in 1876.  Today,  the Company is a leader (in certain  vertical  markets) in the
development, manufacture, marketing, service and support of Integrated Voice and
Data  Management  ("IVDM"(TM))  systems and software,  which include  dictation,
voice processing,  voice response, unified messaging,  records management,  call
center  monitoring  systems and  communications  recording.  The Company has two
operating segments, System Products and Services and Contract Manufacturing. The
System  Products  and  Services  segment  consists  of the sale and  service  of
system-related  products to dictation and voice  management  and  communications
recording  system  customers  in  selected   vertical   markets.   The  Contract
Manufacturing  segment consists of the  manufacturing  operations of the Company
which provides outside  electronics  manufacturing  services ("EMS") to original
equipment  manufacturers  ("OEMs") in the  telecommunications,  data management,
computer and electronics industries.

       The Company's dictation and voice management products  ("Integrated Voice
Systems",  or "I.V.S." and "Integrated Health Systems",  or "I.H.S."),  sales of
which  represented 31% of the Company's 1998 total revenue,  consist of portable
and  desktop  dictation  products,  and voice  management  and voice  processing
systems used  primarily  by  professionals  such as  physicians,  attorneys  and
business  executives,  and  by  enterprises  such  as  hospitals,   governmental
agencies,  financial  institutions,  courts,  insurance  agencies and law firms.
Voice processing systems are generally larger,  more  sophisticated  versions of
dictation  products  designed  to  accommodate  multiple  users.  The  Company's
communications   recording  systems   ("Communications   Recording  Systems"  or
"C.R.S."),  sales of which  represented 23% of the Company's 1998 total revenue,
consist  primarily of multi-channel  archiving  recorders and emergency  message
repeaters used primarily by police  departments,  fire departments,  air traffic
controllers and other public safety agencies,  as well as by financial  services
firms  and  other  businesses.  These  products  perform  continuous,   reliable
recording of multiple  telephone or other  communications  lines,  such as radio
channels,  to protect customers who face potentially  severe financial or safety
risks  posed  by  lost  or  misinterpreted   telephone  conversations  or  voice
broadcasts. The Company's communications recording systems products also include

                                       1
<PAGE>

quality  monitoring,  productivity and training  products used primarily by call
centers.  Dictaphone's  service business,  revenue from which represented 32% of
the Company's 1998 total revenue,  provides its customers with service  hardware
and software support, expedited repairs and remote diagnostics.  Many Dictaphone
customers,  including those purchasing  large systems,  purchase Company service
contracts at the time of product purchase.

DICTATION AND VOICE MANAGEMENT

       The  dictation  products  market  consists  of (i) the  professional  and
commercial market and (ii) the consumer market. The voice management market also
consists primarily of the professional and commercial  market.  Customers in the
professional  and commercial  market include  professionals  such as physicians,
attorneys  and business  executives,  and  enterprises  that  require  swift and
efficient document creation such as hospitals,  governmental entities, insurance
agencies,  financial  institutions  and law  firms.  Customers  in  this  market
typically  purchase products through direct sales or dealer  representatives  of
established companies that can provide reliable, long-term service through their
service networks.  Dictation  products marketed to customers in the professional
and  commercial  segment are  generally  more  expensive  than those sold in the
consumer  segment  because they represent more durable  construction  for longer
product life and provide  special  features  geared to office and  transcription
use. The consumer  segment  consists of customers who typically  purchase  lower
priced  desktop and portable  machines  through  retail,  catalog and mail order
establishments.

       The Company believes that dictation products in its markets are purchased
primarily by existing  industry  customers.  According to the  Company's  market
surveys, approximately 70% of the purchasing activity in the marketplace is from
existing customers who are expanding and upgrading their equipment,  15% is from
users changing brands, and 15% is from non-users making their first purchase.

       Dictation products consist of desktop and portable products and dictation
systems (also  referred to as voice  processing  systems).  Desktop and portable
dictation  products,  the traditional  products of this industry,  typically use
analog  magnetic tape recording  methods to store and replay voice.  The Company
has recently introduced digital recording products to store and replay voice. In
1998, the Company introduced Walkabout(TM) Express, a portable digital recording
device  designed  specifically  for  mobile  medical  dictation,  and  Boomerang
2.0(TM),  a  Windows(R)  95-based  voice  messaging  and  dictation  system that
incorporates the IBM Via Voice  Transcription(TM)  speech recognition  software.
Many portable products are designed to be compatible with Dictaphone desktops in
terms of features and appearance.

       Voice  processing  systems  are  generally  larger,   more  sophisticated
versions of dictation  products  designed to accommodate  multiple users.  Voice
processing  systems  equipment  usually  consists  of  one or  more  centralized
dictation  units,  which include the  equipment  which records and replays voice
data,  and a series of  telephones  or similar  devices,  which connect with the
dictation units to record voice data and access  previously  recorded data. This
equipment  permits  users to transmit  voice data to  transcriptionists  without
requiring the user to physically  transport the data.  Digital dictation systems
currently offer many advantages over their analog predecessors  including higher
reliability,  random and simultaneous  accessibility to work,  remote access and
playback  over  telephone  lines,  and the ability to handle  multiple  software
applications,  such  as  dictation,  voice  mail  and  voice  response.  Digital
dictation systems also permit feature customization and may interface with other
customer systems, such as local area network systems.

       In 1996,  the Company  acquired the rights to a dictation,  transcription
and information management software system which utilizes a Microsoft(R) Windows
NT(R) operating system platform.  This system, called the Enterprise Express(TM)
System, which was launched by the Company in the first half of 1997,  represents
the Company's latest voice processing system. The Enterprise  Express(TM) System
went into  production in June 1997 and has seen  significant  growth since then.
The Enterprise  Express(TM)  System replaces the Digital  Express(TM) 7000 Voice
Processing  System which was  introduced  in 1988 and has a worldwide  installed
base of over 1,600  systems  as well as the  Records  Express(TM)  Transcription
System.


                                       2
<PAGE>

       In 1998,  Dictaphone  introduced the Enterprise  125(TM) Voice System,  a
Windows NT(R) operating system platform intended for use by smaller  single-site
healthcare  providers,  which offers productivity  advantages  comparable to the
Company's larger Enterprise  Express(TM)  System.  The Enterprise  125(TM) Voice
System replaces the Digital  Express(R)  4000 and Digital  Express(R) 2500 voice
processing systems which were introduced in 1993 and have a worldwide  installed
base of over 2,000 systems.

       From time to time the  Company  introduces  products  sourced  from third
party  developers.  The Company's former  Insight(TM),  For the Record(TM),  and
Synergy(TM) products are all examples of third party products re-marketed by the
Company.  The  Company  has also  contracted  with  third  party  developers  of
continuous  speech  recognition  software  such as Philips  and IBM, in order to
integrate  continuous speech recognition  products into the Company's I.H.S. and
I.V.S. marketplace.

COMMUNICATIONS RECORDING SYSTEMS

       The safety  and/or  liability  communications  recording  systems  market
consists primarily of multi-channel continuous archiving recorders and emergency
message  repeaters.  Communications  recording  systems are  designed to perform
continuous,  reliable recording of multiple telephone or communications lines to
protect customers who face potentially severe financial or safety risks posed by
lost  or   misinterpreted   telephone   conversations   or   voice   broadcasts.
Multi-channel archiving recorders, also called "telephone loggers" or "loggers",
are  sophisticated  systems that capture large volumes of voice data transmitted
over multiple  telephone or other  communication  lines, such as radio channels,
and allow the user to retrieve and play back specific  conversations.  Emergency
message  repeaters,  sometimes  referred to as "Call  Checks",  are much smaller
machines  that  attach to  telephone  lines or other  communications  devices to
capture a smaller volume of voice data.

       Customers  of  safety  and  liability  communications  recording  systems
include public safety agencies, such as police departments, fire departments and
air traffic control  departments,  financial services firms, such as traders and
brokers,  call centers and other  businesses.  Dictaphone  believes that many of
these  customers  rely  heavily on these  systems as an  integral  part of their
operations,  particularly  in the  case  of  governmental  safety  agencies  and
financial institutions.

       In the early 1990's, the communications recording systems market began to
experience  technological  change as analog  reel-to-reel  recorders began to be
displaced by analog VHS-based  products and, more  frequently,  digital products
including those based on magnetic disk,  optical disk or digital audio tape. For
example,  in the  case of  Dictaphone,  revenue  from  sales  of  communications
recording  products based on digital technology has increased as a percentage of
product sales revenue from all  communications  recording products from only 13%
in 1992 to virtually  100% in 1998.  These  technological  changes both improved
product flexibility and, in the case of digital recording  platforms,  increased
data capacity and network integration.

       The Company's  multi-channel  continuous archive recorders consist of the
Symphony CTI(TM) system, ProLog(TM), Guardian(TM),  Sentinel(TM) and daVinci(TM)
models. In the first quarter of 1999, the Company  introduced  daVinci(TM),  the
Company's next generation  communications  recording product. Later in 1999, the
Company expects to introduce daVinci QMS(TM),  a quality monitoring system based
on  industry-standard  Windows NT(R) and Oracle(R)  software which provides call
centers  with  customer-focused  quality  monitoring  technology  combined  with
advanced customer service evaluation tools and training programs.  In the second
half of 1997, the Company  introduced  the Symphony  CTI(TM)  system,  a product
designed to engage the  computer  telephony  integration  market.  The  Symphony
CTI(TM)  system  provides for an advanced call  retrieval  capability,  enabling
integration  with telephone  switches and other systems and databases to capture
more information related to each phone call.

       Prolog(TM), which was introduced in 1993, was the Company's most powerful
C.R.S.  product  before the  introduction  of Symphony  CTI(TM).  The  Company's
midsized  Guardian(TM)  model,  introduced in 1994, has been designed to provide
many of the  services  provided  by  ProLog(TM)  to  customers  requiring  fewer
features  or to  those  who  prefer a  single  unit  that  does  not  include  a
stand-alone personal computer ("PC") workstation.


                                       3
<PAGE>

         The  Company's  Sentinel(TM)  digital  logger  product is geared toward
smaller capacity and price sensitive  customers.  The Company began shipments of
the Sentinel(TM) in the third quarter of 1995. The Sentinel(TM)  logger replaced
the Model 9800,  Dictaphone's first digital logger,  which was partially sourced
from an outside supplier.

         Dictaphone's  emergency  message  repeater  products include the Series
5700,  5900 and 6600.  The vast  majority of these units are installed in public
safety  organizations,  where they are used extensively for replaying  emergency
telephone calls.

         Dictaphone  believes it has a number of  significant  opportunities  in
marketing its products, including, for example, the continuing transition of the
user base from analog to digital technology,  expansion of the Company's efforts
in Europe,  Asia and Latin America and  leveraging  the  Company's  distribution
strengths into adjacent market opportunities.

SERVICE

         The  Company has an  extensive  service  organization.  The Company has
approximately 520 service representatives  operating out of 155 offices in North
America.  The United States service  organization is supported by  approximately
230 employees in service support,  diagnostic  center and repair  services,  and
distribution.  In  addition,  Dictaphone  has  service  locations  in the United
Kingdom,  Ireland and  Continental  Europe and sales and service  representation
through dealers in approximately 62 other countries in Europe, South America and
Asia. See "-- Sales and Marketing".

         Dictaphone's  service  business  provides  its  customers  with service
support,  expedited  repairs and remote  diagnostics.  Service revenue  includes
sales of "Assured  Performance  Plans" and  "Software  Maintenance  Agreements",
which  are  long  term  warranties  and  support  agreements  sold  in one  year
increments  and frequently  purchased by the Company's  systems  customers,  and
revenue from repair of systems  software and hardware not under warranty as well
as sales of parts. Dictaphone also receives revenue from service contracts which
provide  for higher  levels of  technical  support,  such as its "SOS Alert" and
"Response Network" services, for dispatching maintenance in advance of a product
shut down and for services providing 24-hour system protection.  Many Dictaphone
customers, including those purchasing large systems, purchase Dictaphone service
support  contracts  at  the  time  of  product  purchase.  In  1996,  Dictaphone
instituted  a mail-in  service  program for its desktop and  portable  products.
Under this program,  desktop and portable products are sent by overnight mail to
a central  service  facility  in  Melbourne,  Florida  for rapid  turnaround  or
replacement.  As a result of this program,  desktops and portables are no longer
required to be serviced in U.S. field offices.

         In addition to the repair of its own proprietary  product,  the Company
also provides service support, expedited repairs and remote diagnostics to other
companies  through its third party contract  service  business.  As Dictaphone's
service   network   expands  its   expertise  in  digital  and  other   advanced
technologies,  the Company  believes there will be increasing  opportunities  to
obtain service  contracts from  companies in the  telecommunications,  cable and
other related  industries which utilize these complex  technologies.  Dictaphone
has  negotiated  a number of such  arrangements  and is actively  marketing  its
services to companies in such industries.

MANUFACTURING OPERATIONS

         Dictaphone's vertically integrated  manufacturing process and non-union
manufacturing  workforce  enable it to respond quickly and  cost-effectively  to
changing markets and customer requirements. The Company's flexible manufacturing
enables it to offer its customers a variety of product models.

         The Company's primary  manufacturing  facility is located in Melbourne,
Florida.  Manufacturing  currently  employs  approximately  600  personnel.  The
manufacturing team consists of four production  departments:  fabrication,  wire
and cable, printed circuit assembly and final assembly.


                                       4
<PAGE>

         Management  assures  manufacturing  and raw  material  quality  through
formal operator  certification  training classes,  roving quality auditors and a
formal "Supplier Certification System", which is used to continually monitor the
supplier base. The manufacturing facility is currently ISO 9002 certified.

         The Company  currently  purchases  from  approximately  500  suppliers,
although 80% of the annual dollar  volume is procured  from 60  suppliers.  Most
agreements  with major  suppliers  are expressed in letters of intent or blanket
purchase  orders  covering  one  year or less.  The  Company  is not  materially
dependent on any single supplier.

         Approximately  60% of all items  processed  at the  Melbourne,  Florida
facility  are  Dictaphone  products,  with the  remainder  comprised of contract
manufacturing. The Company's contract manufacturing program provides electronics
design  and  manufacturing  capabilities  for  customers  unaffiliated  with the
Company. In 1998, revenue from contract manufacturing was $47.1 million.

NEW PRODUCTS

         The  Company  is  continually  evaluating  its  product  line both with
respect to feature content and  development.  The Company intends to continue to
develop and enhance its product line and introduce  new products,  some of which
may be sourced through third parties.

CUSTOMERS

         Although no single customer,  other than Pitney Bowes,  represents more
than 1% of the  Company's  sales,  customers  for each of  Dictaphone's  product
categories  are  concentrated  in  certain   industries.   Dictaphone   receives
approximately 85% of its United States dictation  products revenue from medical,
legal,  insurance  and  financial  firms,  educational  entities and  government
agencies.  This industry-oriented user concentration enables Dictaphone to focus
on customizing solutions for specific user needs and applications.

         Communications  recording systems  customers are  predominately  public
safety agencies, financial services entities and call centers. Approximately 56%
of U.S.  Communications  Recording  Systems  revenue is derived  from  financial
services and insurance firms and governmental agencies.

         Although  approximately  88% of Dictaphone's  revenues are generated in
the United  States,  the Company has a  significant  customer  base  outside the
United  States.  Dictaphone's  international  customers  are in many of the same
industries  that the Company  serves  domestically,  such as medical,  legal and
financial firms and governmental agencies.

SALES AND MARKETING

         The wide geographic coverage of the Company's sales and service offices
in the United States permits Dictaphone to sell its products to customers of all
sizes and in virtually all United States locations.  Consequently,  less than 1%
of all United  States sales are through  dealers.  The  placement of service and
sales offices  throughout the United States also provides a system for the rapid
distribution  and  service  of  the  Company's   products.   See  "--  Service".
Distribution  of  Dictaphone  products is handled  mostly  through the Company's
distribution  facility in Melbourne,  Florida and branch and district locations.
The Company also anticipates the expanded use of alternative  channels,  such as
catalogs,  on-line  internet  stores and mass marketers for the  distribution of
certain of its desktop and  portable  products.  Outside of North  America,  the
Company  has  shifted  from  direct to  indirect  channels,  such as dealers and
distributors for the sale and distribution of products.

         WARRANTIES.  Every product sold by Dictaphone, new or previously owned,
has a minimum limited  warranty for parts and labor that is 90 days in duration;
many of the Company's more sophisticated products,  however, are currently being
sold with one (1) year parts and 90 day labor warranties. Upon purchase of a new
or  previously  owned  Dictaphone  product,  a customer may purchase an "Assured
Performance Plan" and "Software Maintenance Agreements."  See "-- Service". If a
Dictaphone  customer  decides  not to  purchase  a  service  support  agreement,
Dictaphone  may repair its products at an hourly  service  rate,  in addition to
parts.


                                       5
<PAGE>

         ADVERTISING.  The  focus  of  Dictaphone's  advertising  and  marketing
communications  over the past few years  reflects a shift away from broad  based
major   publication   advertising  to  an  approach   targeting   dictation  and
communications  recording  intensive  markets where product use and applications
are the greatest.  Dictaphone  currently uses nationwide  corporate  direct mail
programs, field generated programs, print advertising, product trade shows, user
group communications, telemarketing and other publicity to market, advertise and
promote its products.

         LEASED SALES.  Dictaphone  provides its customers  with flexible  lease
programs through Fleetwood Financial ("Fleetwood"),  Mellon First United Leasing
("First  United"),  BankVest Capital  Corporation  ("BankVest"), Pitney Bowes
Credit Corporation ("PBCC") and other finance companies. These companies provide
customers of the Company with lease  financing and  Dictaphone  with a source of
used  equipment,  available  through  terminations  or  defaults,  that  may  be
repurchased and remarketed by the Company.

RESEARCH AND DEVELOPMENT

         During the last few  years,  the  Company's  research  and  development
organization has evolved from one with a hardware engineering orientation to one
in which software engineering dominates. The Company employs software engineers,
test engineers and other engineers to develop  software for its products as well
as to perform SMT printed  circuit board designs and  mechanical  designs and to
work  closely  with its  Melbourne,  Florida  factory and service  operation  to
implement these designs. The research and development  organization also creates
application-specific integrated circuit designs.

         The Company's  research and  development  expenditures  (including $6.2
million  and  $10.2  million  of  capitalized  software  costs in 1997 and 1998,
respectively) grew as a percentage of product sales and rental revenue from 7.2%
in 1997 to 8.7% in 1998.  As of December 31, 1998,  the  Company's  research and
development staff consisted of 155 personnel (including temporary employees).

INTELLECTUAL PROPERTY

         The  Company  has  approximately  85 patents  protecting  features  and
methods  covering  Integrated  Voice  Systems,  Integrated  Health  Systems  and
Communications  Recording Systems product lines. The Company believes that there
is no single  patent or group of related  patents the loss of which would have a
material adverse effect on its business.  The Company also has approximately 105
U.S. trademarks,  including the well known "Dictaphone(R)" registered trademark,
in use throughout the world.

COMPETITION

         The markets in which the Company competes are highly  competitive.  The
Company  competes  with  large  and  established   national  and   multinational
companies,  as well as  smaller  startup  companies,  in all of its  operations.
Furthermore,  as products sold in the Company's  markets evolve toward  software
and  digital  technology,  new  competitors  with  expertise  in these areas are
entering the industry.  Some of these  competitors have, and new competitors may
have, greater resources than the Company.

         In the dictation market, the Company faces systems product  competition
from the Lanier division of Harris  Corporation  ("Lanier"),  Digital Voice Inc.
("DVI"),  Sudbury Systems, Inc. ("Sudbury") and a number of smaller competitors.
Philips Electronics N.V. and Sony Corporation  represent competitors for desktop
and portable products.


                                       6
<PAGE>

         Dictaphone is a leading  participant  in the  communications  recording
product market in North America. Some of Dictaphone's North American competitors
include Racal Recorders  Limited,  Eyretel,  TEAC  Corporation of America,  Nice
Systems Ltd. (loggers and quality  monitoring),  Teknekron  Infoswitch  (quality
monitoring) Witness Systems,  Inc. (quality monitoring) and Comverse Technology,
Inc.  (loggers).  Dictaphone  expects that,  with the  increasing  prevalence of
digital recording  technology in this market, a large number of product oriented
companies  will  attempt to enter this  marketplace  in both North  America  and
Europe.  The Company  believes that while these companies may have difficulty in
entering the communications recording systems market in the United States due to
the lack of customer base and the absence of a direct sales and service network,
their entry will increase  competitive  pressure.  The Company also  anticipates
that its existing and potential competitors will be introducing new and enhanced
products, especially in the call center marketplace.

EMPLOYEES

         As of December 31, 1998, the Company had 2,355 employees worldwide,  of
which 2,111 were based in the United States.  As of December 31, 1998, less than
1% of the Company's  workers were  unionized.  Two union  contracts,  one in New
York,  New York  covering  13  employees  and one in  Toronto,  Ontario,  Canada
covering 6  employees,  expire on  September  1, 2001,  and  January  15,  2001,
respectively.   The  Company   believes  its   relations   with   employees  are
satisfactory.

ITEM 2.  PROPERTIES

                The following is  information  concerning  the major  facilities
owned by the Company:

FACILITY                       PURPOSE                            SQUARE FOOTAGE
------------------------       -------------------------          --------------

Melbourne, Florida             Manufacturing                         120,160
Melbourne, Florida             Customer Service                      118,000
Toronto, Ontario, Canada       Canadian Corporate Office             14,146
Killwangen, Switzerland        Switzerland Sales Office              90,000

         The Company operates a manufacturing  and  service/distribution  center
facility in Melbourne,  Florida,  in addition to its numerous  sales and service
offices.  The  Company  leases  its  executive  offices  located  in  Stratford,
Connecticut  (138,000  square  feet).  In addition,  the Company  leases  sales,
service  and  distribution   offices  in  certain  countries  in  which  it  has
operations,  including 143 offices in the United States, 13 offices in Canada, 9
offices in the United Kingdom and an additional  office in Germany.  In general,
the Company  believes that its properties are in good condition and are adequate
to meet its current and anticipated needs for the foreseeable future.

ITEM 3.  LEGAL PROCEEDINGS

         On February 14, 1995,  Pitney  Bowes,  Inc.  filed a complaint  against
Sudbury in the United  States  District  Court for the  District of  Connecticut
alleging intentional and wrongful interference with Pitney Bowes's plans to sell
the Company.  The complaint seeks damages and a declaratory judgment relating to
the validity of a patent owned by Sudbury entitled "Rapid Simultaneous  Multiple
Access  Information  Storage and Retrieval System" and the alleged  infringement
thereof by the Company.  Sudbury responded by answering the complaint and filing
a third-party  complaint  against the Company  alleging patent  infringement and
seeking  preliminary and permanent  injunctive  relief and treble  damages.  The
third-party  complaint  filed by Sudbury did not  quantify the amount of damages
sought.  The  litigation  is in the final  stage of  discovery.  A trial date is
likely to be set in 1999.  Pitney  Bowes and the Company  have not yet  received
Sudbury's  revised  damages  report  nor  has  Sudbury's  damages  expert  given
deposition  testimony.  Accordingly,  at this time,  the  Company  cannot make a
reasonable estimate of the amount of damages that will be sought by Sudbury.


                                       7
<PAGE>

         Management believes the Company has meritorious  defenses to the claims
against it. Consequently,  the Company has not provided for any loss exposure in
connection with this complaint. Additionally,  regardless of the outcome of this
litigation,  Pitney Bowes has agreed to defend this action and to indemnify  the
Company for any liabilities arising from such litigation.

         The Company is subject to federal, state and local laws and regulations
concerning the  environment  and is currently  participating  in  administrative
proceedings as a participant in a group of  potentially  responsible  parties in
connection with two third party disposal  sites.  As these  proceedings are at a
preliminary  stage, it is impossible to reasonably  estimate the potential costs
of remediation,  the timing and extent of remedial actions which may be required
by  governmental  authorities,  and the amount of the liability,  if any, of the
Company alone or in relation to that of any other responsible  parties.  When it
is  possible  to make a  reasonable  estimate of the  Company's  liability  with
respect to such a matter, a provision will be made as appropriate. Additionally,
the  Company  has  settled  and paid its  liability  at three  other third party
disposal  sites.  At a fourth  site,  the  Company  has paid  approximately  $11
thousand  for its share of the  costs of the first  phase of the clean up of the
site and management  believes that it has no continuing  material  liability for
any later  phases of the cleanup.  Consequently,  management  believes  that its
future  liability,  if any, for these four sites is not  material.  In addition,
regardless of the outcome of such matters,  Pitney Bowes has agreed to indemnify
the  Company in  connection  with  retained  environmental  liabilities  and for
breaches of the environmental  representations  and warranties  contained in the
Acquisition Agreement, subject to certain limitations.

         The  Company is a  defendant  in a number of  additional  lawsuits  and
administrative  proceedings,  none of which will, in the opinion of  management,
have a material adverse effect on the Company's  consolidated financial position
or results of operations.

         The  Company  does not  believe  that the  ultimate  resolution  of the
litigation, administrative proceedings and environmental matters described above
in  the  aggregate  will  have  a  material  adverse  effect  on  the  Company's
consolidated financial position or results of operations.

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

         No matters  were  submitted  to a vote of security  holders  during the
fourth quarter of 1998.

                                       8
<PAGE>

                                     PART II

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

         There is  currently no  established  trading  market for the  Company's
common  stock,  $.01 par value per share (the "Common  Stock").  As of March 15,
1999, there were 9 holders of record of the Common Stock.

         Under the terms of the  Company's  Credit  Agreement,  dated  August 7,
1995, as modified by five amendments to Credit  Agreement,  dated June 28, 1996,
June  27,  1997,  July  21,  1997,  November  14,  1997 and  December  31,  1998
(collectively,   the  "Credit   Agreement"),   with  a  syndicate  of  financial
institutions  for whom Bankers  Trust  Company is the  Administrative  Agent and
NationsBank,  N.A.  (Carolinas)  is the  Documentation  Agent,  the  Company  is
restricted from paying  dividends on its capital stock.  In addition,  under the
terms of an  Indenture  (the "Note  Indenture")  between  the  Company and State
Street  Bank and Trust,  relating  to the  Company's  $200.0  million of 11-3/4%
Senior Subordinated Notes Due 2005 (the "Notes"), the Company and certain of its
subsidiaries  are restricted  from paying  dividends on their capital stock.  In
addition,  as a holding company,  the Company's ability to pay cash dividends is
also  dependent  on the  earnings  and cash  flows of its  subsidiaries  and the
ability of its  subsidiaries  to make funds  available  to the  Company for such
purpose.

         The  Company  presently  intends  to retain  earnings  to fund  working
capital and for general corporate purposes,  and, therefore,  does not intend to
pay any cash dividends on shares of Common Stock in the foreseeable  future. The
payment of future cash dividends, if any, would be made only from assets legally
available therefore, and would also depend on the Company's financial condition,
results  of   operations,   current  and   anticipated   capital   requirements,
restrictions   under  outstanding   preferred  stock  and  under   then-existing
indebtedness  and  other  factors  deemed  relevant  by the  Company's  Board of
Directors.

         In  January  1999,  the  Company  sold 2.0  million  shares  of its 12%
Convertible  Pay-in-Kind Preferred Stock to Stonington Capital Appreciation 1994
Fund, L.P. ("Stonington"). This sale was effected in reliance upon the exemption
from the  registration  requirements  provided by Section 4(2) of the Securities
Act of 1933, as amended,  on the basis that such  transaction  did not involve a
public  offering.  There were no  underwriters  employed in connection with such
sale.  The  proceeds  derived  from this sale were used by the  Company to repay
amounts  outstanding under the Revolving Credit Facility (as defined below), and
for the semi-annual interest payment on the Notes.

ITEM 6.  SELECTED FINANCIAL DATA

         Set  forth  below  is  the  selected  consolidated  financial  data  of
Dictaphone  Corporation  (Successor  Company) at December 31, 1998, December 31,
1997 and December 31, 1996 and for the years then ended, and for the twenty week
period ended  December 31, 1995.  Also set forth below is the selected  combined
financial data of Dictaphone  Corporation  (Predecessor  Company) for the thirty
two week period ended August 11, 1995 and for the year ended December 31, 1994.

         The selected financial data should be read in conjunction with "Item 7.
--  Management's  Discussion and Analysis of Financial  Condition and Results of
Operations"  and the financial  statements and notes included  elsewhere in this
Report.

         The  capital   structure  and  accounting   basis  of  the  assets  and
liabilities  of the  Company as of August 12,  1995 and  thereafter  differ from
those  of  the  Predecessor  Company  in  prior  periods  as  a  result  of  the
Acquisition.  Financial  data of the  Predecessor  Company for periods  prior to
August 12, 1995 are presented on a historical cost basis.  Financial data of the
Company as of August 12, 1995 and thereafter  reflect the Acquisition  under the
purchase method of accounting, under which the purchase price has been allocated
to assets and liabilities  based upon their estimated fair values.  Accordingly,
amounts at December 31, 1998,  1997, 1996 and 1995, and for the years and twenty
week period then ended should not be compared to 1994.


                                       9
<PAGE>
<TABLE>
<CAPTION>
                                            PREDECESSOR COMPANY                              SUCCESSOR COMPANY
                                         ---------------------------    ------------------------------------------------------------
                                            YEAR          32 WEEKS        20 WEEKS           YEAR           YEAR            YEAR
                                            ENDED           ENDED           ENDED            ENDED          ENDED           ENDED
                                         DECEMBER 31,    AUGUST 11,     DECEMBER 31,     DECEMBER 31,   DECEMBER 31,    DECEMBER 31,
                                            1994            1995            1995             1996           1997            1998
                                         ------------   ------------    ------------     ------------   ------------    ------------

STATEMENT OF OPERATIONS DATA:                                      (DOLLAR AMOUNTS IN MILLIONS)

<S>                                       <C>             <C>              <C>                  <C>       <C>            <C>
Total revenue                             $  346.8        $ 202.1          $  150.6        $  332.5       $  340.0       $  332.3
Cost of sales, rentals and support
 services                                    178.0          107.6              90.1 (c)       181.1 (c)      194.4(c)       188.7(c)
Selling and administrative                    96.0           60.4              62.4 (d)       149.2 (d)      155.5(d)       139.9(d)
Research and development (net of
 software capitalization)                     12.3            7.0               4.6            14.2           14.7           17.1
Operating profit (loss)                       60.5           27.1              (6.5)          (12.0)         (24.6)         (13.4)
Net interest (income) expense and
 other                                        (1.0)          (1.4)             16.1 (e)        41.6 (e)       44.7(e)        39.4(e)
Income (loss) before effect of
 changes in accounting                        36.6           17.1             (13.9)          (34.7)         (68.2)         (53.7)
Net income (loss)                             33.8 (b)       17.1             (13.9)          (34.7)         (68.2)         (53.7)
Stock dividend on PIK Preferred Stock        ---            ---                  .8             2.3            2.7            3.1
Net loss applicable to Common Stock          ---            ---               (14.7)          (37.0)         (70.9)         (56.8)

OTHER DATA:
EBITDA(a)                                 $   68.6        $  32.0          $   32.3         $  54.2       $   48.2       $   30.6
Depreciation and amortization                  8.1            4.9              39.1            65.8           62.2           38.2
Capital expenditures                           5.9            5.5                .8            6.3             6.9            8.9
Software capitalization                      ---              2.5               1.7            4.7             6.2           10.3
EBITDA margin (a)                             19.8%          15.8%             21.5%          16.3%           14.2%           9.2%

BALANCE SHEET DATA
 (AT END OF PERIOD):
Working capital                           $   64.2                         $   43.3         $ 33.0        $    51.2      $   50.8
Total assets                                 268.5                            550.7          504.8            470.0         454.3
Long term debt                               ---                              350.0          352.6            343.6         370.5
Total liabilities                             70.4                            456.2          445.4            444.8         482.9
Stockholders' equity                         198.1                             94.5           59.4             25.2         (28.6)
</TABLE>
--------------------

(a)   EBITDA is defined as income before  effect of changes in  accounting  plus
      interest, income taxes,  depreciation,  amortization and other significant
      non-cash,  non-recurring  charges.  EBITDA is  presented  because  it is a
      widely accepted  financial  indicator of a company's  ability to incur and
      service debt. However,  EBITDA should not be considered in isolation or as
      a substitute for net income or cash flow data prepared in accordance  with
      generally  accepted  accounting  principles or as a measure of a company's
      profitability or liquidity, and is not necessarily comparable to similarly
      titled measures of other companies.  EBITDA margin is defined as EBITDA as
      a percent of revenue.

(b)   Effective  January 1, 1994,  the Company  adopted  Statement  of Financial
      Accounting  Standards  ("SFAS")  No.  112,  which  resulted  in a one-time
      non-cash,  after-tax  charge of $2.8  million (net of  approximately  $1.9
      million of income taxes).

(c)   Cost of sales,  rentals and support  services  for the twenty  weeks ended
      December  31,  1995 and  years  ended  December  31,  1996,  1997 and 1998
      includes  $14.7  million,  $8.8  million,  $2.4 million and $0.4  million,
      respectively, of charges related to the amortization of inventory write-up
      and depreciation associated with purchase accounting adjustments.

(d)   Selling and  administrative  for the twenty weeks ended  December 31, 1995
      and years ended  December 31, 1996,  1997 and 1998 includes $21.8 million,
      $46.2 million, $41.5 million and $23.2 million,  respectively, of non-cash
      purchase accounting charges.

(e)   Includes  $.9  million,  $5.3  million,  $6.3  million and $1.7 million of
      non-cash interest expense from amortization of deferred financing fees for
      the twenty  weeks ended  December  31, 1995 and years ended  December  31,
      1996, 1997 and 1998, respectively.

                                       10
<PAGE>

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

OVERVIEW

         The  following  discussion  should  be read  in  conjunction  with  the
financial  statements and  accompanying  notes included in "Item 8. -- Financial
Statements and  Supplementary  Data." Certain amounts have been  reclassified to
conform to current year presentation.

<TABLE>
<CAPTION>

                                                                                     YEAR ENDED
                                                                                    DECEMBER 31,
                                                                        -------------------------------------
                                                                        1996            1997           1998
                                                                        ----            ----           ----
                                                                                    (IN MILLIONS)

<S>                                                                    <C>             <C>           <C>     
Total revenue...................................................       $ 332.5         $  340.0      $  332.3

Cost of sales, rentals and support services.....................         181.1            194.4         188.7
Selling and administrative expense (1)..........................         149.2            155.5         139.9
Research and development........................................          14.2             14.7          17.1
                                                                       -------         --------      --------
       Operating loss ..........................................         (12.0)           (24.6)        (13.4)
                                                                       -------         --------      --------

Net interest expense and other..................................          41.6             44.7          39.4
Income tax (benefit) provision..................................         (18.9)            (1.1)          0.9
                                                                       -------         --------      --------
Net loss .......................................................       $ (34.7)        $  (68.2)     $  (53.7)
                                                                       =======         ========      ========
</TABLE>
----------------------

(1)    Includes amortization of intangibles.


                                       11
<PAGE>

<TABLE>
<CAPTION>

                                                                                     YEAR ENDED
                                                                                    DECEMBER 31,
                                                                        --------------------------------------
                                                                        1996            1997           1998
                                                                        ----            ----           ----
                                                                                    (IN MILLIONS)
<S>                                                                    <C>             <C>           <C>      
Revenue:
     Sales:
     Integrated Voice Systems...................................       $   49.1        $    45.7     $    41.4
     Integrated Health Systems..................................           31.4             37.4          44.8
                                                                       --------        ---------     ---------
         Total U.S. Voice Systems...............................           80.5             83.1          86.2
     Communications Recording Systems...........................           57.7             59.3          61.0
     Customer Service Parts.....................................           18.4             18.0          17.4
     International and Dealer Operations........................           40.4             40.7          31.3
     Rentals  ..................................................            2.1              1.8           1.4
                                                                       --------        ---------     ---------
         Product sales and rentals..............................          199.1            202.9         197.3
                                                                       ========        =========     =========

     Support service:
     Customer Service...........................................           80.0             81.3          77.2
     Application and Training Specialists.......................            1.3              2.6           3.1
     International and Dealer Operations........................           11.5             10.4           7.6
                                                                       --------        ---------     ---------
         Total support service..................................           92.8             94.3          87.9
                                                                       --------        ---------     ---------

     Total System Products and Services.........................          291.9            297.2         285.2

     Contract Manufacturing.....................................           40.6             42.8          47.1
                                                                       --------        ---------     ---------

Total revenue ..................................................       $  332.5        $   340.0      $   332.3
                                                                       =========       ==========    ==========
</TABLE>

RESULTS OF OPERATIONS

   1998 COMPARED TO 1997

         Total  revenue  declined  2.3% to $332.3  million  in 1998 from  $340.0
million in 1997.  System Products and Services  revenue  declined 4.0% to $285.2
million in 1998 from $297.2  million in 1997.  This decline is  attributable  to
lower product sales revenue from I.V.S.  and lower revenue from Customer Service
and  International  and Dealer  Operations,  offset in part by increased product
sales revenue from I.H.S. and C.R.S., and increased revenue from Application and
Training Specialists  ("A.T.S.").  Contract Manufacturing revenue increased 9.8%
to $47.1 million in 1998 from $42.8 million in 1997.

         I.V.S. revenue declined 9.5% to $41.4 million due to lower sales of the
Company's Straight Talk(TM), Synergy(TM),  desktop and portable products. I.V.S.
orders  declined 7.2% to $45.3  million.  I.V.S.  order backlog  declined  27.2%
during 1998 to $4.7 million. I.H.S. revenue increased 19.9% to $44.8 million due
to higher Enterprise Express(TM) installations.  I.H.S. order growth of 18.5% to
$48.3 million is also  attributable  to  Enterprise  Express(TM).  I.H.S.  order
backlog increased 22.8% during 1998 to $14.5 million.  C.R.S.  revenue increased
3.0% to  $61.0  million  due to the  one-time  sale  of  Prolog(TM)/Guardian(TM)
software  upgrades.  C.R.S.  orders  declined  slightly (0.9%) to $58.7 million.
C.R.S.  order backlog  declined 32.4% in 1998 to $5.1 million.  Customer Service
revenue  (including  sale of parts)  declined 4.7% to $94.6 million due to lower
proprietary product service contract, installation,  integration and third party
maintenance  revenue.  A.T.S.  revenue  increased  17.6% to $3.1  million due to
increased  customer training provided in support of I.H.S.  products.  Sales and
service revenue from International and Dealer Operations declined 23.7% to $38.9
million resulting  primarily from lower desktop,  portable and CRS product sales
revenue in Canada as well as from  lower  desktop,  portable,  system and C.R.S.
product sales and lower service revenue in Europe. Orders from International and
Dealer   Operations   declined  27.1%  to  $29.9  million.   Order  backlog  for
International and Dealer Operations  declined 16.3% during 1998 to $1.7 million.
Contract  Manufacturing  growth  reflects  turnkey  manufacturing  of electronic


                                       12
<PAGE>

products  from  existing  customers  as well  as the  addition  of new  Contract
Manufacturing accounts.

         Cost of sales,  rentals and support  services  declined  2.9% to $188.7
million  (56.8% of revenue)  versus $194.4  million (57.2% of revenue) for 1997.
Excluding  additional  depreciation  and amortization  expenses  associated with
purchase  accounting  adjustments  related  to the  Acquisition,  cost of sales,
rentals and support  services as a percentage of revenue would have increased by
0.2 percentage  points to 56.7% due to primarily to increased  Customer  Service
costs,  a higher  content  of low  margin  Contract  Manufacturing  revenue  and
unfavorable manufacturing cost adjustments, partially offset by 1997 charges for
excess  inventory  associated with Digital  Express(TM) and Records  Express(TM)
products.

         Selling  and  administrative   expenses   (including   amortization  of
intangibles)  declined  10.0% to $139.9  million  (42.1% of revenue) from $155.5
million  (45.7% of  revenue)  in 1997.  Excluding  additional  depreciation  and
amortization expense associated with purchase accounting  adjustments related to
the  Acquisition  of  $23.2  million  and  $41.5  million  for  1998  and  1997,
respectively,  selling and administrative  expenses expressed as a percentage of
revenue  would  have  increased  by 1.6  percentage  points.  This  increase  is
attributable to $1.9 million of additional  severance associated with continuing
efforts  to reduce  the  Company's  cost  structure,  increased  C.R.S.  selling
expenses,  Year 2000 and  information  system  implementation  costs.  Partially
offsetting  these  expense  increases  were  lower  I.V.S.  and  I.H.S.  selling
expenses.

         Research and  development  expenses of $17.1  million  (8.7% of product
sales and rental  revenue)  increased  16.5% from $14.7 million (7.2% of product
sales and rental revenue), reflecting increased staffing and compensation.

         The  Company  recorded  an  operating  loss of $13.4  million  (4.0% of
revenue)  in 1998  compared  to an  operating  loss of  $24.6  million  (7.2% of
revenue) for 1997. Excluding the impact of purchase accounting  adjustments from
both 1998 and 1997  discussed  above,  operating  profit would have  declined by
47.1% to $10.2 million due to lower  revenue,  higher  costs,  the provision for
severance and increased operating expenses.

         Interest  expense of $39.7  million  declined  10.6% from $44.4 million
reflecting lower amortization of deferred financing fees.

   1997 COMPARED TO 1996

         Total  revenue  increased  2.3% to $340.0  million in 1997 from  $332.5
million in 1996.  System Products and Services revenue  increased 1.8% to $297.2
million  in 1997 from  $291.9  million  in 1996.  This  increase  in  revenue is
attributable to higher product sales revenue from I.H.S. and C.R.S.,  and higher
revenue from Customer  Service  (including sale of parts) and A.T.S.,  offset in
part by lower  revenue  from  I.V.S.  and  International  and Dealer  Operations
support  services.  Contract  Manufacturing  revenue  increased  5.5%  to  $42.8
million.

         I.V.S.  revenue  declined  6.9% to $45.7  million  in 1997 due to lower
billings of desktops, small digital systems and Straight Talk(TM).  I.V.S. order
backlog increased 51.6% during 1997 to $6.5 million. Installations of Enterprise
Express(TM)  which  was  launched  in the  first  half of  1997  and  went  into
production in June 1997,  accounted for I.H.S.  revenue  growth which  increased
19.1% to $37.4 million.  I.H.S.  orders which  increased  18.7% to $40.8 million
also  reflect  the  impact  of  Enterprise  Express(TM).  I.H.S.  order  backlog
increased 24.4% to $11.8 million. C.R.S. revenue increased 2.8% to $59.3 million
due to increased  Guardian(TM)  installations.  C.R.S.  orders increased 5.1% to
$59.3  million.  C.R.S.  order  backlog  declined  5.5% in 1997 to $7.5 million.
Customer  Service  revenue  (including sale of parts) grew 0.9% to $99.3 million
due to increased  installation  and third party  maintenance  revenue  partially
offset by lower proprietary product service contract revenue and hourly revenue.
A.T.S.  revenue  increased  by $1.3  million to $2.6  million  due to  increased
customer  training  provided in support of I.V.S.,  I.H.S. and C.R.S.  products.
Sales and service revenue from  International and Dealer Operations  declined by
1.7% to $51.1 million due to lower  service and desktop and portable  revenue as
well as $1.3 million of unfavorable currency exchange. Orders from International
and Dealer Operations increased 4.9% to $41.0 million.  International and Dealer
backlog  declined  28.8% in 1997 to $2.0  million.


                                       13
<PAGE>

         Cost of sales,  rentals and support  services  increased 7.3% to $194.4
million  (57.2% of revenue)  versus $181.1  million (54.5% of revenue) for 1996.
Excluding  additional  depreciation  and amortization  expenses  associated with
purchase  accounting  adjustments  related  to the  Acquisition,  cost of sales,
rentals and support  services as a percentage of revenue would have increased by
4.7 percentage  points to 56.5% due primarily to non-recurring  non-cash charges
of $14.9  million  associated  with the provision for excess field service parts
and stock related to the Company's Digital  Express(TM) and Records  Express(TM)
products.  In connection  with the launch of Enterprise  Express(TM)  which went
into production in June 1997, the Company  provided for excess service parts and
field  stock,  as well as the  prepayment  of  inventory  associated  with those
products  that  the  Enterprise   Express(TM)  product  replaces.   Lower  price
realization for C.R.S.  digital loggers,  I.H.S.  digital and records management
systems and I.V.S.  desktops and portables  also  contributed  to higher cost of
sales, rentals and support services as a percentage of revenue.

         Selling  and  administrative   expenses   (including   amortization  of
intangibles  which included a $5.4 million  non-cash charge to write down patent
assets and  associated  goodwill to their fair value)  increased  4.3% to $155.5
million  (45.7% of revenue)  from $149.2  million  (44.9% of revenue)  for 1996.
Excluding  additional  depreciation  and  amortization  expense  associated with
purchase accounting  adjustments related to the Acquisition of $41.5 million and
$46.2  million  for 1997 and  1996,  respectively,  selling  and  administrative
expenses  expressed  as a  percent  of  revenue,  would  have  increased  by 2.5
percentage  points.  This increase is attributable  to a $2.3 million  severance
provision  associated  with the Company's  efforts to reduce its cost  structure
through the elimination of over 90 full-time positions, and a non-cash charge of
$1.0  million to write down  capitalized  software to its  estimated  realizable
value. In addition, higher I.H.S. and C.R.S. field selling and home office sales
support  expenses,   increased  A.T.S.   training  costs,   higher  trade  show,
advertising  and  marketing  expenses,  and  increased  legal/settlement  costs,
management  compensation and employee benefit costs  contributed to this expense
increase.  I.V.S.  and  International  expense  reductions  partially offset the
increase.

         Research and  development  expenses of $14.7  million  (7.2% of product
sales and rental  revenue)  increased  4.0% from $14.1  million (7.1% of product
sales and rental revenue), reflecting increased staffing and compensation.

         The  Company  recorded  an  operating  loss of $24.6  million  (7.2% of
revenue)  for 1997  compared  to an  operating  loss of $12.0  million  (3.6% of
revenue) for 1996. Excluding the impact of purchase accounting  adjustments from
both 1997 and 1996  discussed  above,  operating  profit would have  declined by
55.2% due to higher costs associated with the charge for inventory obsolescence,
the provision for severance,  the charge to  capitalized  software and increased
operating expenses.

         Interest expense of $44.4 million  increased 3.6% from $42.9 million in
1996 due to higher effective interest rates on the Term Loans (as defined below)
and Revolving Credit Facility.

LIQUIDITY AND CAPITAL RESOURCES

         The Company's  liquidity  requirements  consists primarily of scheduled
payments of principal and interest on its  indebtedness,  working  capital needs
and capital expenditures. At December 31, 1998, the Company had outstanding term
loans  of  $131.6  million  (the  "Term  Loans")  and  loans  of  $38.5  million
outstanding  under the $40.0 million  revolving  credit facility (the "Revolving
Credit  Facility"),  and the  Notes.  Availability  under the  Revolving  Credit
Facility  at December  31, 1998 was $1.5  million.  Scheduled  annual  principal
payments will be $0.6 million in 1999 and 2000 and $36.3 million in 2001.  There
are no scheduled  reductions in the Revolving  Credit Facility over the next two
years.

         On December  31,  1998,  the  Company and the lenders  executed a fifth
amendment  to the  Credit  Agreement.  Under  the terms of this  amendment,  the
lenders agreed to waive  compliance by the Company with the financial  covenants
as of December 31, 1998 and for the four-Fiscal Quarter period then ended. Other
changes  effected by the amendment were (i)  modifications  to the covenants and
related definitions in respect of certain asset sales and the utilization of the
proceeds  from such asset sales,  (ii)  modifications  to the  required  Maximum
Leverage,  Minimum  EBITDA and Minimum  Interest  Coverage  Ratio  covenants (as
defined in the Credit  Agreement),  (iii) a change in the  maturity  date of the
Tranche C Term Loans (the  "Tranche C Loans") to be equal to that of the Tranche


                                       14
<PAGE>

B Term Loans (the "Tranche B Loans"),  and (iv) an increase in the interest rate
on the Tranche B Loans to be equal to that of the Tranche C Loans.

         In  January  1999,  the  Company  sold 2.0  million  shares  of its 12%
Convertible  Pay-in-Kind  Preferred  Stock to  Stonington  for $20  million.  In
February 1999,  $11.75 million was used for the semi-annual  interest payment on
the Notes.  Proceeds from this sale were also used to repay amounts  outstanding
under the Revolving Credit Facility.

         In  connection  with the terms of the  Credit  Agreement,  the  Company
entered into interest rate swap agreements in November 1995,  effective February
16, 1996,  with an  aggregate  notional  principal  amount  equivalent  to $75.0
million  maturing on February  16,  1999.  The swap  effectively  converts  that
portion of the  Company's  Term Loans to a fixed rate  component of 5.8%;  thus,
reducing the impact of changes in interest rates, converting the total effective
interest rate on fifty percent of the initial  outstanding  Term Loans to 9.55%.
No funds under the swap  agreements  are actually  borrowed or are to be repaid.
Amounts due to or from the  counterparties  are reflected in interest expense in
the periods in which they accrue.  The fair value of the interest  rate swaps as
of December 31, 1998 was unfavorable  $0.1 million,  based on dealer quotes.  On
February  11,  1999,  the Company  entered  into  interest  rate cap  agreements
effective  February  16,  1999,  with an  aggregate  notional  principal  amount
equivalent  to $66 million  maturing on February 16,  2001.  The cap limits that
portion of the  Company's  Term Loans to a fixed rate  component  of 5.5%;  thus
reducing  the impact of  increases in interest  rates,  limiting  the  effective
interest rate on fifty percent of the currently outstanding Term Loans to 9.25%.

         In addition, the Credit Agreement contains covenants that significantly
limit or  prohibit,  among  other  things,  the  ability of the Company to incur
indebtedness,  make prepayments of certain indebtedness, pay dividends on Common
Stock,   make   investments,   engage  in  transactions  with  stockholders  and
affiliates,  create liens, sell assets and engage in mergers and  consolidations
and requires that the Company maintain certain financial ratios.

         The  Company had $200.0  million  aggregate  principal  amount of Notes
outstanding  as of December 31, 1998. The Notes are  subordinated  to the Credit
Agreement and other senior indebtedness,  as defined in the Note Indenture.  The
Notes contain similar types of covenants to the Credit Agreement and provide for
each  noteholder  to have the right to require that the Company  repurchase  the
Notes at 101% of the  principal  amount  upon a change of control (as defined in
the Note  Indenture).  The Notes bear  interest  of 11-3/4%  per annum,  payable
semi-annually  on each  February 1 and  August 1. The Notes  mature on August 1,
2005.  The fair value of the Notes at  December  31,  1998 was  favorable  $50.0
million, based upon dealer quotes.

         Capital  expenditures  for 1998 totaled $8.9 million.  The Company does
not expect that the limitation on capital  expenditures  contained in the Credit
Agreement will limit, in any material  respects,  the Company's  ability to fund
capital expenditures.

         The Company's quarterly and annual revenues and other operating results
have been and will  continue to be affected  by a wide  variety of factors  that
could have a material  adverse  effect on the  Company's  financial  performance
during any particular quarter or year. Such factors include, but are not limited
to, the level of orders  that are  received  and  shipped by the  Company in any
given  quarter,  the  rescheduling  and  cancellation  of orders  by  customers,
availability  and cost of  materials,  the  Company's  ability  to  enhance  its
existing products and to develop,  manufacture,  and successfully  introduce and
market new products,  new product  developments  by the  Company's  competitors,
market  acceptance  of  products  of  both  the  Company  and  its  competitors,
competitive  pressures on prices,  the ability to attract and maintain qualified
technical  personnel,  significant damage to or prolonged delay in operations at
the  Company's  sole  manufacturing  facility,  and  interest  rate and  foreign
exchange  fluctuations.  The Company has  introduced a number of new products in
its target markets in 1997 and 1998 and plans to introduce  additional  products
in 1999 which are  expected to enhance  future  revenues  and  liquidity  of the
Company.  However,  there can be no  assurance  that the Company will be able to
implement its plans to introduce such products in a timely fashion, or that such
products  will meet the  expectations  of the  Company  for either  revenues  or
profitability.  The Company believes that cash flows from operating  activities,
the successful introduction of its new products, the proceeds from its 1999 sale
of 12% Convertible Pay-in-Kind Preferred Stock to Stonington,  proceeds from the
sale or financing of certain assets,  as well as its available  borrowings under
the  Revolving  Credit  Facility,  will be adequate to meet the  Company's  debt
service obligations,  working capital needs and planned capital expenditures for
the foreseeable future.


                                       15
<PAGE>

         The Company has recorded a gross  deferred  tax asset of $95.3  million
included  in  other  assets   reflecting  the  benefit  of  net  operating  loss
carryforwards and various book tax temporary differences. The net operating loss
carryforward  for  federal  income  tax  purposes  as of  December  31,  1998 is
approximately  $122.5  million of which $13.7 million of the net operating  loss
carryforward will expire in the year 2010, $33.2 million will expire in the year
2011,  $40.0 million will expire in the year 2012, and $35.6 million will expire
in the year 2018. In order to fully realize the deferred tax asset,  the Company
will need to generate  future  taxable  income  prior to  expiration  of the net
operating  loss  carryforward.  In 1997,  the  Company  established  a valuation
allowance of $24.1  million  against the deferred tax assets.  During 1998,  the
Company  increased its valuation  allowance by $20.8 million  resulting in a net
deferred  tax  asset of  $50.5  million.  Management  believes,  based  upon the
Company's history of prior operating results, its current circumstances, and its
expectations for the future, that taxable income of the Company will more likely
than not be  sufficient  to fully  utilize the net  deferred  tax asset of $50.5
million  recorded at December 31, 1998,  prior to expiration.  The amount of the
deferred tax asset considered realizable, however, could be reduced if estimates
of future taxable income during the net operating loss  carryforward  period are
reduced.

         A  reconciliation  of the  Company's  loss before  taxes for  financial
statement  purposes to taxable  loss for the years ended  December  31, 1997 and
1998 is as follows (in thousands).

<TABLE>
<CAPTION>
                                                                           YEAR ENDED                 YEAR ENDED
                                                                        DECEMBER 31, 1997          DECEMBER 31, 1998
                                                                        -----------------          -----------------
<S>                                                                       <C>                       <C>        
Loss before taxes for financial statement purposes................        $  (69,282)               $  (52,812)

Differences between loss for financial statement
 purposes and taxable loss:
State income taxes - current portion..............................             2,692                     2,738
Permanent differences:
   Goodwill.......................................................             1,375                     1,428
   All other permanent items......................................             4,235                     1,186
Temporary differences:
   Intangible amortization........................................            21,309                     3,149
   All other temporary differences (net)..........................             6,333                     7,859
                                                                          ----------                ----------
         Total differences........................................            35,944                    16,360
                                                                          ----------                ----------
Taxable loss......................................................        $  (33,338)               $  (36,452)
                                                                          ==========                ==========
</TABLE>

YEAR 2000 READINESS

GENERAL
         Most  businesses  are facing a challenge at the turn of the century due
to a common computer-related  practice employed since the 1960's of representing
a year  with just two  digits  rather  than  four  digits.  The  problem  is not
restricted to system  hardware  components  but will be  manifested  within many
operating systems, firmware,  application software and equipment used throughout
an  organization.  Dictaphone  has been and continues to be actively  engaged in
resolving its Year 2000 issues.  The Company has established a Year 2000 Project
Office charged with  evaluating  the Company's Year 2000 issues and  identifying
and  developing  appropriate  remedies  and  action  plans  with  respect to the
Company's  internal  systems  and the  Company's  products  to  ensure  a smooth
transition into the new millennium.

         The Year 2000  Project  Office  has  adopted a five  phase  program  to
address  the  Company's  Year 2000  issues  consisting  of Phase I - review  and
inventory of existing  systems,  products,  equipment and suppliers  that may be
affected by the Year 2000 issue; Phase II - assessment of the impact of the Year
2000  issue  on  systems,  products,   equipment  and  suppliers;  Phase  III  -
remediation or replacement of non-compliant systems,  products and equipment and
determination and implementation of solutions to address non-compliant suppliers
and  vendors;  Phase IV testing of  systems,  product  and  equipment  following
remediation; and Phase V - contingency planning.


                                       16
<PAGE>

         The  Company's  Year 2000 efforts have been  concentrated  in two major
areas:  1) internal use systems,  equipment and third party products used in the
Company's operations and 2) products sold by the Company to its customers.

STATE OF READINESS

         The Company is  utilizing  both  internal  and  external  resources  to
perform Year 2000 testing on its internal systems and equipment. The Company has
completed Phase I of the program and has made substantial progress on Phases II,
III  and IV  for  all  of  its  critical  systems  and  equipment.  The  Company
anticipates  completion  of the  work  required  on the  remaining  systems  and
equipment by mid 1999.  In  connection  with the  Company's  efforts to make its
internal   systems  Year  2000  compliant,   the  Company  has  accelerated  the
implementation  of a new  enterprise-wide  computer system in certain areas. The
implementation  timetable  for the  components of the new system is currently on
schedule and will be completed by mid 1999.

         With respect to third party suppliers,  in early 1998 the Company began
the process of identifying and prioritizing  critical  suppliers and vendors and
initiated  communication  concerning their plans to address the Year 2000 issue.
This process is continuing  and the Company  believes  efforts in this area will
continue  throughout 1999 as more information becomes available from these third
parties.

         With respect to products sold to the Company's customers, the Company
has completed  Phase I of the program and is actively  engaged in Phases II, III
and IV. The Company has identified  certain  products which require  remediation
and  is  actively   involved  in  the  development  and  communication  of  such
remediations to the Company's customers. Based on current estimates, the Company
anticipates completion of these phases by mid 1999.

         Many of the Company's  products rely on third party hardware,  software
and  firmware.  The  Company  has been  diligently  working  with all such third
parties to ascertain their readiness and the affect,  if any, of their products'
compliance  status  on the  efficient  and  effective  operation  and use of the
Company's products.  Generally, all software, hardware and firmware are supplied
to the Company by leading  software  companies  that have Year 2000  programs of
their own. A majority of these vendors have provided  information to the Company
as to their  products' Year 2000  compliance  status.  However,  there can be no
guarantee that the software, hardware or firmware certified by third parties, on
which the Company's products may rely, will operate  effectively and efficiently
during and after the  millennium.  The Company has,  however,  conducted its own
Year 2000 testing on integrated  products and believes that the risk of material
operating  failures  associated  with the  components  provided  by these  third
parties is consistent  with their product  representations  concerning Year 2000
compliance.

COSTS
         The Company estimates that the aggregate costs of its Year 2000 program
will be  approximately  $12.5  million,  including $8.5 million of costs already
incurred. Of the total program costs,  approximately $9.0 million represents new
software and hardware  purchases  for internal  Company  systems which have been
accelerated in connection with the Year 2000 issue. A significant portion of the
remaining  $3.5  million  in  costs  have not  been  and  will  not  consist  of
incremental  costs,  but rather  will  represent  the  redeployment  of existing
Company  resources.  This  redeployment  of  resources is not expected to have a
significant impact on the day to day operations of the Company. Based on current
estimates  and  information,  the Company does not  anticipate  that these costs
associated  with Year 2000  issues  will have a material  adverse  effect on the
Company's consolidated  financial position,  results of operations or cash flows
in  future  periods.  However,  these  cost  estimates,  as well as the  project
timetables  previously  mentioned are based on management's best estimates,  and
there can be no guarantee  that these  estimates will be achieved or that actual
results will not materially differ from these estimates.

RISKS
         With respect to the Company's  internal  systems,  the most  reasonably
likely worst case scenario for the Company's  failure to identify or remediate a


                                       17
<PAGE>

Year 2000 problem could be an  interruption  in, or failure of,  certain  normal
business activities or operations.  Such failures could materially and adversely
affect the Company's results of operations,  liquidity and financial  condition.
In addition,  due to the uncertainty of the Year 2000 readiness of third parties
and  suppliers  and  customers,  the Company is unable to determine at this time
whether the  consequences of the Year 2000 failures by these parties will have a
material impact on the Company's  consolidated  financial  position,  results of
operations or cash flows.

         The Company's Year 2000 program,  however, is expected to significantly
reduce the Company's  exposure to these types of failures.  The Company believes
that the  implementation  of new systems and the timely  completion  of the Year
2000  program  should  reduce the risk of  internal  business  interruption  and
adverse financial impact.

         With respect to products sold to customers,  the most reasonably likely
worst case  scenario for Year 2000 related  product  failures  could include the
suspension of use of such product,  or continued use of the product with reduced
functionality  or  operating  ability.  If this were to occur,  customers  could
attempt to assert  liability  claims against the Company.  However,  the Company
believes  that,  based on the level of Year 2000 testing  performed to date, the
product  remedies  expected  to be made  available  to its  customers,  the time
remaining to implement  such remedies,  and the legal defenses  available to the
Company,  the  likelihood  of the  occurrence  of such  worst case  scenario  is
minimized.

CONTINGENCY PLANS

         Contingency   plans  are  being  prepared  so  that  critical  business
functions  will  continue to operate.  These  plans will  address the  Company's
internal  systems and  equipment,  products sold by the Company to customers and
third party supplier  relationships.  The contingency  plans will include manual
alternatives  to electronic  processes,  repair or  replacement  of products and
systems and changes in suppliers.  The Company expects that contingency planning
will continue  throughout  1999, and will further evolve as the Company  obtains
additional information on the state of its Year 2000 readiness.

         The Company  may,  from time to time,  provide  estimates  as to future
performance.  Such estimates would be  "forward-looking"  statements  within the
meaning of Section  27A of the  Securities  Act of 1933 and  Section  21E of the
Securities  Exchange Act of 1934.  Because  such  statements  include  risks and
uncertainties,  actual  results  may  differ  materially  from  those  estimates
provided.  The  Company  undertakes  no  duty to  update  such  forward  looking
statements.  Because the Company  wishes to take  advantage of the "safe harbor"
provision of the Private  Securities and Litigation Reform Act of 1995,  readers
are  cautioned to  consider,  among  others,  those risks  previously  discussed
herein.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

         The Company's cash flows and earnings are subject to fluctuations  from
changes in interest rates and, to a lesser  extent,  foreign  currency  exchange
fluctuations.  See "Item 7 -  Management's  Discussion and Analysis of Financial
Condition  and Results of  Operations  - Liquidity  and Capital  Resources"  for
further information on interest rate risk.


                                       18
<PAGE>

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

QUARTERLY RESULTS OF OPERATIONS  (UNAUDITED)   (IN THOUSANDS)


<TABLE>
<CAPTION>
                                    QUARTER ENDED       QUARTER ENDED       QUARTER ENDED        QUARTER ENDED
                                      MARCH 31,           JUNE 30,          SEPTEMBER 30,        DECEMBER 31,
                                        1998                1998                1998                 1998
       1998                         -------------       -------------       -------------        -------------
       ----
<S>                                  <C>                 <C>                 <C>                   <C>      
Total revenue................        $  83,825           $  84,985           $  85,876             $  77,632
Cost of sales, rentals and support
 services....................           45,012              46,957              45,131                51,588
Net loss ....................          (10,845)            (10,711)             (5,384)              (26,750)(a)
Net loss applicable to
 Common Stock................        $ (11,574)          $ (11,466)          $  (6,166)            $ (27,558)


                                    QUARTER ENDED       QUARTER ENDED       QUARTER ENDED        QUARTER ENDED
                                      MARCH 31,           JUNE 30,          SEPTEMBER 30,        DECEMBER 31,
                                        1997                1997                1997                 1997
       1997                         -------------       -------------       -------------        -------------
       ----
Total revenue................        $  81,167           $  79,941           $  87,716             $  91,218
Cost of sales, rentals and support
 services....................           42,815              55,630              46,129                49,858
Net loss ....................           (7,834)            (19,080) (b)         (6,023)              (35,285)(c)
Net loss applicable to
 Common Stock................        $  (8,469)          $ (19,758)          $  (6,704)            $ (35,990)

</TABLE>
---------------------

(a)      Net loss  includes  after  tax  charges  of $3.1  million  for  product
         obsolescence,  $2.7 million for severance and restructuring charges and
         a $11.1 million increase to the deferred tax valuation allowance.
(b)      Net loss includes after tax charges of $6.7 million for digital product
         obsolescence  and $1.5 million for severance.
(c)      Net loss  includes  after tax  charges  of $3.8  million  to write down
         patent assets,  associated  goodwill,  and capitalized  software,  $2.6
         million  for  digital  product  obsolescence,   and  $24.1  million  to
         establish a deferred tax valuation reserve.


                                       19
<PAGE>

INDEPENDENT AUDITORS' REPORT



Board of Directors and Stockholders
Dictaphone Corporation

We have  audited the  accompanying  consolidated  balance  sheets of  Dictaphone
Corporation and  Subsidiaries  (the "Company") as of December 31, 1998 and 1997,
and the related  consolidated  statements of  operations,  stockholders'  equity
(deficit) and cash flows for the years ended  December 31, 1998,  1997 and 1996.
Our audits also  included  the  financial  statement  schedule as of and for the
years ended  December  31,  1998,  1997 and 1996 listed in the Index as Item 14.
These   financial   statements   and  financial   statement   schedule  are  the
responsibility of the Company's management.  Our responsibility is to express an
opinion  on  the  consolidated  financial  statements  and  financial  statement
schedule 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,  such consolidated  financial  statements present fairly, in all
material  respects,  the financial  position of the Company at December 31, 1998
and 1997,  and the  results of its  operations  and its cash flows for the years
ended December 31, 1998,  1997 and 1996 in conformity  with  generally  accepted
accounting principles. Also, in our opinion, the financial statement schedule as
of and for the years ended December 31, 1998,  1997 and 1996, when considered in
relation  to the  basic  consolidated  financial  statements  taken  as a whole,
presents fairly in all material respects the information set forth therein.



/s/ Deloitte & Touche LLP

Hartford, Connecticut
February 3, 1999


                                       20
<PAGE>
<TABLE>

                                              DICTAPHONE CORPORATION
                                            CONSOLIDATED BALANCE SHEETS
                                   (Dollars in thousands, except share amounts)
<CAPTION>

ASSETS                                                              DECEMBER 31, 1997            DECEMBER 31, 1998
                                                                    ------------------           -----------------
<S>                                                                    <C>                          <C>        
Current assets:
    Cash and cash equivalents                                          $    10,277                  $    11,727
    Accounts receivable, less allowance of
    $810 and $968, respectively                                             71,939                       77,432
    Inventories                                                             48,779                       53,362
    Other current assets                                                    11,675                        7,259
                                                                       -----------                  -----------
         Total current assets                                              142,670                      149,780
Property, plant and equipment, net                                          35,331                       32,425
Deferred financing costs, net of accumulated
 amortization of $12,517 and $14,246, respectively                          10,900                        9,920
Intangibles, net of accumulated amortization of $99,439
 and $122,595, respectively                                                229,322                      206,122
Deferred tax asset                                                          39,539                       39,765
Other assets                                                                12,280                       16,315
                                                                       -----------                  -----------
         Total assets                                                  $   470,042                  $   454,327
                                                                       ===========                  ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
    Accounts payable                                                   $    10,940                  $     8,778
    Interest payable                                                        10,144                       10,067
    Accrued pension liability                                                7,571                        8,352
    Accrued liabilities                                                     24,802                       31,433
    Advance billings                                                        37,184                       39,586
    Current portion of long-term debt                                          795                          795
                                                                       -----------                  -----------
         Total current liabilities                                          91,436                       99,011
Long-term debt                                                             342,816                      369,737
Other liabilities                                                           10,529                       14,141
                                                                       -----------                  -----------
         Total liabilities                                                 444,781                      482,889
                                                                       -----------                  -----------
Commitments, contingencies and concentration of risks (Note 11)

Stockholders' equity:
    Preferred stock ($.01 par value; 10,000,000 shares
     authorized; 2,084,100 and 2,391,500  shares  of  14%  PIK
     perpetual preferred stock issued and outstanding, liquidation
     values of $20,841 and  $23,915 at December  31, 1997 and
     1998, respectively)                                                    20,841                       23,915
    Common stock ($.01 par value; 20,000,000 shares
     authorized; 12,952,000 and 12,934,000 shares outstanding
     at December 31, 1997 and 1998, respectively)                              130                          130
    Notes receivable from stockholders                                        (831)                        (741)
    Additional paid-in capital                                             124,029                      120,955
    Treasury stock, at cost (48,000 and 66,000 shares
     at December 31, 1997 and 1998, respectively)                             (480)                        (660)
    Accumulated deficit                                                   (116,756)                    (170,417)
    Accumulated other comprehensive loss                                    (1,672)                      (1,744)
                                                                       -----------                  -----------
         Total stockholders' equity (deficit)                               25,261                      (28,562)
                                                                       -----------                  -----------
         Total liabilities and stockholders' equity                    $   470,042                  $   454,327
                                                                       ===========                  ===========
</TABLE>

          See accompanying notes to consolidated financial statements.


                               21
<PAGE>
<TABLE>

                                              DICTAPHONE CORPORATION

                                       CONSOLIDATED STATEMENTS OF OPERATIONS
                                              (Dollars in thousands)


<CAPTION>

                                                     YEAR ENDED                YEAR ENDED              YEAR ENDED
                                                  DECEMBER 31, 1996         DECEMBER 31, 1997       DECEMBER 31, 1998
                                                  -----------------         -----------------       -----------------
<S>                                                  <C>                     <C>                     <C>        
    Revenues:
         Product sales and rentals                   $   199,024             $   202,894             $   197,330
         Contract manufacturing sales                     40,614                  42,864                  47,063
         Support services                                 92,830                  94,284                  87,925
                                                     -----------             -----------             -----------
             Total revenue                               332,468                 340,042                 332,318
                                                     -----------             -----------             -----------

    Costs and expenses:

         Cost of sales, rentals and support
          services                                       181,148                 194,432                 188,688

         Selling and administrative                      108,008                 114,263                 116,716

         Amortization of intangibles                      41,209                  41,262                  23,156

         Research and development                         14,135                  14,705                  17,128
                                                     -----------             -----------             -----------

    Operating loss                                       (12,032)                (24,620)                (13,370)

    Interest expense                                      42,897                  44,438                  39,715

    Other (income) expense - net                          (1,338)                    224                    (273)
                                                     -----------             -----------             -----------

    Loss before income taxes                             (53,591)                (69,282)                (52,812)

    Income tax benefit (expense)                          18,931                   1,060                    (878)
                                                     -----------             -----------             -----------

    Net loss                                             (34,660)                (68,222)                (53,690)

         Stock dividends on PIK Preferred Stock            2,327                   2,699                   3,074
                                                     -----------             -----------             -----------

         Net loss applicable to Common Stock         $   (36,987)            $   (70,921)            $   (56,764)
                                                     ===========             ===========             ===========




                           See  accompanying  notes  to  consolidated  financial statements.
</TABLE>

                               22
<PAGE>
<TABLE>
                                              DICTAPHONE CORPORATION
                                       CONSOLIDATED STATEMENTS OF CASH FLOWS
                                              (Dollars in thousands)


<CAPTION>
                                                                YEAR ENDED          YEAR ENDED           YEAR ENDED
                                                             DECEMBER 31, 1996   DECEMBER 31, 1997   DECEMBER 31, 1998
                                                             -----------------   -----------------   -----------------
<S>                                                             <C>                  <C>                  <C>        

Operating activities:
    Net loss                                                    $  (34,660)          $  (68,222)          $  (53,690)
    Adjustments to reconcile net loss to net cash
     provided by (used in) operating activities:
         Depreciation and amortization (including
          $5,775, $8,114 and $17, respectively, of
          nonrecurring charges)                                     71,135               68,515                39,895
         Provision for deferred income taxes                       (18,876)              (1,767)                 (227)
         Non-cash charge for product obsolescence
          (Note 4)                                                     ---                14,902                4,999
         Changes in assets and liabilities:
             Accounts receivable                                     3,320              (18,869)               (5,749)
             Inventories                                             3,833               (4,528)               (9,735)
             Other current assets                                     (513)              (1,876)                4,690
             Accounts payable and accrued liabilities               (5,672)               5,896                 4,922
             Advance billings                                          167                2,502                 2,523
             Other assets and other                                (12,416)             (10,996)              (16,051)
                                                                ----------           ----------           -----------
             Net cash provided by (used in) operating                6,318              (14,443)              (28,423)
             activities                                         ----------           ----------           -----------

Investing activities:
    Payments for acquisition                                        (8,000)                 ---                   ---
    Net investment in fixed assets                                  (6,225)              (5,899)               (8,851)
    Proceeds from sale of building                                     ---                  ---                14,000
                                                                ----------           ----------           -----------
             Net cash (used in) provided by investing              (14,225)             (5,899)                 5,149
             activities                                         ----------           ----------           -----------

Financing activities:
    Borrowings under term loan facility                                ---               62,750                   ---
    Repayment under term loan facility                              (7,750)             (71,000)               (2,427)
    Proceeds from sale of common stock                                 ---               35,000                   ---
    Borrowings under revolving credit facility                      32,000               88,600                79,000
    Repayment under revolving credit facility                      (23,000)             (88,600)              (49,500)
    International borrowing, net                                     1,277                 (717)                 (150)
    Payment of deferred financing costs                               (791)              (2,927)                 (749)
    Repayment under capital lease obligations                         (198)                (266)               (1,355)
    Repayment of management loans                                      108                  221                    90
    Payments to acquire treasury stock                                (100)                (280)                 (180)
    Other                                                              ---                  ---                    29
                                                                ----------           ----------           -----------
         Net cash provided by financing activities                   1,546               22,781                24,758
                                                                ----------           ----------           -----------

Effect of exchange rate changes on cash                                  9                  (89)                  (34)
                                                                ----------           -----------          ------------
(Decrease) increase in cash                                         (6,352)               2,350                 1,450
Cash and cash equivalents, beginning of period                      14,279                7,927                10,277
                                                                ----------           ----------           -----------
Cash and cash equivalents, end of period                        $    7,927           $   10,277           $    11,727
                                                                ==========           ==========           ===========
SUPPLEMENTAL CASH FLOW INFORMATION:
Interest paid                                                   $   38,142           $   38,372           $    38,001
                                                                ==========           ==========           ===========
Income taxes paid                                               $    1,960           $    1,039           $       432
                                                                ==========           ==========           ===========
</TABLE>

                    See accompanying notes to consolidated financial statements.




                               23
<PAGE>
<TABLE>
                                                        DICTAPHONE CORPORATION
                                            CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
                                         FOR THE YEARS ENDED DECEMBER 31, 1996, 1997 AND 1998
                                                        (DOLLARS IN THOUSANDS)
 
<CAPTION>

                                             NOTES                                           ACCUMULATED
                                          RECEIVABLE              ADDITIONAL                    OTHER      COMPREHENSIVE   TOTAL
                     PREFERRED  COMMON       FROM      TREASURY     PAID-IN    ACCUMULATED  COMPREHENSIVE     EARNINGS     EQUITY
                      STOCK     STOCK    STOCKHOLDERS    STOCK      CAPITAL      DEFICIT    INCOME (LOSS)     (LOSS)      (DEFICIT)
                    ---------  --------  ------------  --------   ----------   -----------  -------------- -------------  ----------
<S>                 <C>        <C>        <C>          <C>         <C>           <C>           <C>           <C>          <C>
Balance at
December 31, 1995   $ 15,815   $     95   $ (1,160)    $   (100)   $ 94,090      $(13,874)     $   (363)     $    ---     $ 94,503

Net loss                ---         ---        ---          ---         ---       (34,660)          ---       (34,660)     (34,660)

Stock dividends       2,327         ---        ---          ---      (2,327)         ---            ---           ---          ---

Repayment of
 management  loans      ---         ---        108          ---         ---          ---            ---           ---          108

Stock repurchase        ---         ---        ---         (100)        ---          ---            ---           ---         (100)

Translation loss        ---         ---        ---          ---         ---          ---           (473)         (473)        (473)
                    -------    --------    --------     --------    --------     --------       ---------     ---------    --------
Comprehensive loss                                                                                            (35,133)            
                                                                                                              ========
Balance at
 December 31, 1996   18,142          95     (1,052)        (200)     91,763      (48,534)          (836)          ---       59,378

Net loss                ---         ---        ---          ---         ---      (68,222)           ---       (68,222)     (68,222)

Stock dividends       2,699         ---        ---          ---      (2,699)         ---            ---           ---          ---

Sale of common stock    ---          35        ---          ---      34,965          ---            ---           ---       35,000

Repayment of
 management loans       ---         ---        221          ---         ---          ---            ---           ---          221

Stock repurchase        ---         ---        ---         (280)        ---          ---            ---           ---         (280)

Translation loss        ---         ---        ---          ---         ---          ---           (836)         (836)        (836)
                    -------    --------   --------     --------    --------     --------       ---------      --------     --------
Comprehensive Loss                                                                                            (69,058)            
                                                                                                              ========   
Balance at                                                                                                    
December 31, 1997    20,841         130       (831)        (480)    124,029      (116,756)       (1,672)          ---       25,261

Net loss                ---         ---        ---          ---         ---       (53,690)          ---       (53,690)     (53,690)

Stock dividends       3,074         ---        ---          ---      (3,074)         ---            ---           ---          ---

Repayment of
 management loans       ---         ---         90          ---         ---          ---            ---           ---           90

Stock repurchase        ---         ---        ---         (180)        ---          ---            ---           ---         (180)

Translation loss        ---         ---        ---          ---         ---          ---            (72)          (72)         (72)

Disposal of                                                                                                                        
  Dictaphone            ---         ---        ---          ---         ---           29            ---            29           29
  Netherlands BV    -------    --------   --------     --------    --------      ---------     --------      ---------    ---------
                                                                                                             $(53,733) 
Comprehensive Loss                                                                                           =========

Balance at
 December 31, 1998  $ 23,915   $    130   $   (741)    $   (660)   $120,955      $(170,417)    $ (1,744)                  $(28,562)
                    ========   ========   =========    =========   ========      ==========    =========                  ========= 
</TABLE>

          See accompanying notes to consolidated financial statements.



                               24
<PAGE>

                             DICTAPHONE CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  (Amounts in thousands, except share amounts)


1.       THE ACQUISITION

                  On April 25, 1995, Dictaphone  Corporation (Successor Company)
         (the "Company") entered into a Stock and Asset Purchase  Agreement,  as
         amended  August 11, 1995 (the  "Acquisition  Agreement"),  with  Pitney
         Bowes  Inc.  ("Pitney  Bowes")  for  the   purpose  of  acquiring  (the
         "Acquisition") Dictaphone  Corporation,  the United  States  Dictaphone
         Subsidiary of Pitney Bowes ("Dictaphone  U.S.  (Predecessor  Company)")
         and  certain  foreign  affiliates  ("Dictaphone  Non-U.S.  (Predecessor
         Company)") as set  forth in the  Acquisition  Agreement  (collectively,
         the  "Predecessor Company").  On August 11, 1995, the Company  acquired
         the  Predecessor  Company  for  $450.0  million,  which was  subject to
         certain  post-closing   adjustments  as  defined  in  the   Acquisition
         Agreement.  On  March 6, 1996,  the  Company  and Pitney Bowes  reached
         agreement  as to final  purchase adjustment. Total purchase adjustments
         amounted to $12.2 million for an aggregate purchase price of $462.2
         million.

                  The Acquisition,  including  approximately  $22,178 of related
         transaction  and  financing  fees,  was financed  with the borrowing of
         approximately $165,000 under a credit agreement, which consisted of two
         term  loans  and a  revolving  credit  facility,  the  sale  of  senior
         subordinated  notes with an aggregate  principal amount of $200,000 and
         equity contributions of $110,000.

2.       NATURE OF OPERATIONS

                  The Company is engaged principally in the design, manufacture,
         marketing and service of integrated  voice and data management  systems
         and software.  The Company has two operating segments,  System Products
         and  Services  and  Contract  Manufacturing.  The System  Products  and
         Services  segment  consists of the sale and  service of  system-related
         products to dictation and voice management and communications recording
         system customers in selected vertical markets. Dictaphone markets these
         products  worldwide  with 88% of its  revenue  generated  from the U.S.
         market.  The Contract  Manufacturing  segment consists of manufacturing
         operations which provides outside electronic  manufacturing services to
         original  equipment  manufacturers  in  the  telecommunications,   data
         management, computer and electronics industries.

3.       SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

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

                  CONSOLIDATION.  The consolidated  financial statements include
         the Company and all majority-owned subsidiaries as follows:  Dictaphone
         Corporation  U.S.  ("Dictaphone   U.S."),  Dictaphone  Canada  Ltd/Ltee
         ("Dictaphone  Canada"),  Dictaphone  Company  Ltd. ("Dictaphone U.K."),
         Dictaphone   Deutschland   GmbH   ("Dictaphone  Germany"),   Dictaphone
         Netherlands  BV ("Dictaphone Netherlands") and Dictaphone International
         A.G. ("Dictaphone Switzerland").  All significant intercompany accounts
         and  transactions  have been eliminated.

                  CASH   AND  CASH   EQUIVALENTS.   Cash   equivalents   include
         short-term,  highly liquid  investments with a maturity of three months
         or less from the date of acquisition.

                               25
<PAGE>

3.       SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

                  INVENTORY  VALUATION.  Inventories  are valued at the lower of
         cost or market.  Cost is determined on the first-in,  first-out  (FIFO)
         method.

                  COMPUTER SOFTWARE  DEVELOPMENT COSTS. The Company  capitalizes
         certain software costs  (approximately  $6,945,  $6,225 and $10,249 for
         the years ended  December 31,  1996,  1997 and 1998,  respectively)  in
         accordance  with the  provisions  of Statement of Financial  Accounting
         Standard  ("SFAS")  No.  86,  "Accounting  for the  Costs  of  Computer
         Software to be Sold,  Leased or Otherwise  Marketed."  Such amounts are
         amortized  as the related  products are sold.  Amortization  expense in
         1996,  1997 and 1998  related to the  capitalized  amounts  was $1,418,
         $5,821 and $5,542, respectively.

                  FIXED ASSETS AND DEPRECIATION.  Property,  plant and equipment
         are stated at cost and depreciated  using the straight line method over
         the useful  lives of the various  assets  ranging  from three to twelve
         years for machinery  and  equipment  and up to 35 years for  buildings.
         Major improvements which add to productive  capacity or extend the life
         of an asset are  capitalized  while repairs and maintenance are charged
         to expense as incurred.  Rental equipment and other depreciable  assets
         are depreciated  using the straight line method over the related useful
         lives.

                  INTANGIBLES.  Patents and non-compete  agreement are amortized
         on a  straight  line  basis  over five and three  years,  respectively.
         Service  contracts  are  amortized  using a systematic  method based on
         expected rate of nonrenewals over four years. All other intangibles are
         being  amortized  on a straight  line basis over 40 years.  The Company
         periodically   evaluates  the  recoverability  of  goodwill  and  other
         intangible assets by assessing whether the unamortized intangible asset
         can  be  recovered  over  its  remaining  useful  life  through  future
         operating cash flows on an undiscounted basis.

                  DEFERRED   FINANCING  COSTS.   Deferred  financing  costs  are
         amortized  over  the  expected  terms of the  related  debt  using  the
         effective interest method.

                  RENTAL  ARRANGEMENTS AND ADVANCE  BILLINGS.  The Company rents
         equipment  to  its  customers  under  short-term   rental   agreements,
         generally  for  periods of three to five years.  Maintenance  contracts
         (support  services)  are  billed in  advance;  the  related  revenue is
         included  in advance  billings  and  amortized  ratably  into income as
         earned.

                  REVENUE. Revenue is recognized when earned. In accordance with
         American  Institute  of  Certified  Public  Accountants  Statements  of
         Position 97-2 and 98-4,  "Software Revenue  Recognition",  for products
         with a  significant  software  element,  the  Company  records  revenue
         attributable  to the hardware and software  elements  upon shipment and
         defers  revenue  attributable  to  undelivered  elements   (principally
         installation  and  training)  to  the  periods  in  which  the  related
         obligations are performed. Revenue for all other products is recognized
         when the related service is performed.

                  COSTS AND  EXPENSES.  Operating  expenses  of field  sales and
         service  offices which represent the cost of support  services  revenue
         are included in cost of sales.

                  INCOME  TAXES.  Income  tax  benefit  is based  upon  reported
         results of operations and reflects the impact of temporary  differences
         between the amount of assets and  liabilities  recognized for financial
         reporting  purposes and such amounts  recognized for tax purposes.  All
         U.S.   Federal  and  State  taxes  are   provided   currently   on  the
         undistributed  earnings of foreign  subsidiaries  giving recognition to
         current tax rates and applicable foreign tax credits.



                               26
<PAGE>

3.       SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

                  DERIVATIVE FINANCIAL INSTRUMENTS. The Company has only limited
         involvement with derivative financial instruments and does not use them
         for trading  purposes.  The Company  enters into interest rate swap and
         cap  agreements to reduce its exposure to interest  rate  fluctuations.
         The net gain or loss from exchange of interest  payments is included in
         interest expense in the consolidated  financial statements and interest
         paid in the condensed consolidated statements of cash flow.

                  TRANSLATION OF FOREIGN  CURRENCIES.  Assets and liabilities of
         subsidiaries  are  translated  at the rate of exchange in effect on the
         balance sheet date;  income and expenses are  translated at the average
         rates of exchange prevailing during the period. The related translation
         adjustments are reflected in the accumulated other comprehensive income
         (loss)  within the  stockholders'  equity  section of the  consolidated
         balance  sheet.  Foreign  currency  gains  and  losses  resulting  from
         transactions are included in results of operations.

                  STOCK-BASED  COMPENSATION.  Statement of Financial  Accounting
         Standards Number 123, "Accounting For Stock-Based  Compensation" ("SFAS
         123")  encourages,  but does not  require,  companies to record at fair
         value  compensation cost of stock-based  employee  compensation  plans.
         Dictaphone   has  elected  to  continue  to  account  for   stock-based
         compensation  using the intrinsic value method prescribed in Accounting
         Principles  Board  Opinion  No.  25,  "Accounting  For Stock  Issued to
         Employees"  ("APB  No.  25") and  related  interpretations.  Under  the
         intrinsic value based method,  compensation cost is the excess, if any,
         of the quoted market price of the stock at grant date over the exercise
         price of the option.  Typically,  grants of stock  options  pursuant to
         stock  option  plans  have  no  intrinsic  value  at  grant  date,  and
         accordingly, no compensation cost has been recognized by Dictaphone.

4.       INVENTORIES

                  Inventories consist of the following:
<TABLE>
<CAPTION>
                                                                DECEMBER 31,               DECEMBER 31,
                                                                    1997                       1998
                                                                ------------               ------------
                  <S>                                            <C>                        <C>        
                  Raw materials and work in process              $    18,481                $    15,799
                  Supplies and service parts                          14,087                     15,376
                  Finished products                                   16,211                     22,187
                                                                 -----------                -----------
                  Total inventories                              $    48,779                $    53,362
                                                                 ===========                ===========
</TABLE>

                  With the commencement of production of Enterprise  Express(TM)
         in June 1997,  the Company  provided for excess service parts and field
         stock,  inclusive of prepaid  amounts,  associated  with those products
         that the Enterprise  Express(TM)  product was  replacing.  During 1997,
         these non-cash charges totalled $14.9 million.

                  In December  1998,  after  assessing  prospective  sales,  the
         Company recorded a non-cash charge of $5.0 million  associated with the
         provision for excess inventory related to the Company's  Boomerang(TM),
         Insight(TM), FTR(TM) and Synergy(TM) products.

                               27
<PAGE>
5.       PROPERTY, PLANT AND EQUIPMENT

                  Property, plant and equipment consists of the following:
<TABLE>
<CAPTION>
                                                                DECEMBER 31,               DECEMBER 31,
                                                                    1997                       1998
                                                               -------------               ------------
                  <S>                                            <C>                        <C>        
                  Land                                           $     1,766                $     1,058
                  Buildings                                           17,228                     10,030
                  Machinery and equipment                             47,497                     56,100
                                                                 -----------                -----------
                     Subtotal                                         66,491                     67,188
                  Accumulated depreciation                           (31,160)                   (34,763)
                                                                 -----------                -----------
                  Property, plant and equipment, net             $    35,331                $    32,425
                                                                 ===========                ===========
</TABLE>
                  Depreciation  expense for the years ended  December 31,  1996,
         1997 and 1998 was $15,130,  $7,739 and $7,898, respectively.

                  In  May  1998,  the  Company  entered  into  a  sale/leaseback
         agreement  for the  sale of its  Stamford,  CT  land  and  headquarters
         facility for total proceeds of $14 million. The Company realized a gain
         on the sale of $1.8  million.  The gain has been  deferred and is being
         recognized over the term of the operating lease of 20 years.

6.       INTANGIBLES

                  The following summarizes intangible assets, net of accumulated
         amortization and writedowns of $99,439 and $122,595 for the years ended
         December 31, 1997 and 1998, respectively. In 1997, the Company recorded
         a non-cash  pretax charge of $5.4 million to writedown  certain patents
         and associated goodwill to their fair value.  Amortization  expense for
         the years ended December 31, 1997 and December 31, 1998 was $41,262 and
         $23,156, respectively.
<TABLE>
<CAPTION>
                                                                DECEMBER 31,               DECEMBER 31,
                                                                    1997                       1998
                                                                -------------              ------------
                  <S>                                            <C>                       <C> 
                  Goodwill                                       $   135,004                $   127,611
                  Tradenames                                          73,211                     71,265
                  Service contracts                                    8,920                      2,530
                  Non-compete agreement                               11,696                      2,463
                  Patents                                                491                      2,253
                                                                 -----------                -----------
                                                                 $   229,322                $   206,122
                                                                 ===========                ===========
</TABLE>
7.       DEBT

                  The following summarizes the debt structure of the Company:
<TABLE>
<CAPTION>
                                                                DECEMBER 31,               DECEMBER 31,
                                                                    1997                       1998
                                                                -------------              ------------
<S>                                                              <C>                        <C>        
                  Current portion of long-term debt              $       795                $       795
                                                                 -----------                -----------
                  Long-term debt:
                      Senior debt:
                          Term loans:
                               Tranche B                              71,250                     69,450
                               Tranche C                              62,122                     61,495
                          Revolving credit loans                       9,000                     38,500
                      International debt                                 444                        292
                      Subordinated notes                             200,000                    200,000
                                                                 -----------                -----------
                  Total long-term debt                               342,816                    369,737
                                                                 -----------                -----------

                  Total debt                                     $   343,611                $   370,532
                                                                 ===========                ===========
</TABLE>
                               28
<PAGE>


                  In  connection  with the  financing  of the  Acquisition,  the
         Company  entered  into a Credit  Agreement,  dated  August 7, 1995,  as
         amended by five  amendments to Credit  Agreement,  dated June 28, 1996,
         June 27, 1997,  July 21, 1997,  November 14, 1997 and December 31, 1998
         (collectively,  the "Credit  Agreement")  with a syndicate of financial
         institutions  for whom Bankers Trust Company  ("Bankers  Trust") is the
         Administrative Agent and NationsBank,  N.A. (Carolinas)  ("Nations") is
         the Documentation Agent.

                  The fifth amendment to the Credit Agreement provided for (i) a
         waiver of compliance with the financial  covenants by the Company as of
         December 31, 1998 and for the  four-Fiscal  Quarter periods then ended,
         (ii) modifications to the covenants and related  definitions in respect
         of certain  asset sales and the  utilization  of the proceeds from such
         asset sales,  (iii)  modifications  to the required  Maximum  Leverage,
         Minimum  EBITDA and  Minimum  Interest  Coverage  Ratio  covenants  (as
         defined in the Credit Agreement), (iv) a change in the maturity date of
         the Tranche C Loans to be equal to that of the Tranche B Loans, and (v)
         an increase in the interest  rate on the Tranche B Loans to be equal to
         that of the Tranche C Loans. The Credit Agreement consists of a $75,000
         Tranche B Term  Loan due June 30,  2002,  and a $62,750  Tranche C Term
         Loan due June 30, 2002, and a six-year  Revolving Credit Facility of up
         to $40,000,  collectively, the "Facilities". A portion of the Revolving
         Credit  Facility  is  available  to  provide  for the  working  capital
         requirements and general corporate purposes of the Company and to issue
         commercial and standby letters of credit.

                  At December 31,  1998,  the Company had Term Loans of $131,573
         and loans of $38,500  outstanding  under the Revolving Credit Facility.
         The  maturity  schedule  relating to the $131,573 of  outstanding  Term
         Loans is as follows:

                  1999                          $       628
                  2000                                  628
                  2001                               36,328
                  2002                               93,989
                  2003                                  ---
                  Thereafter                            ---
                                                -----------
                                                $   131,573
                                                ===========

                  The  Company  will be required  to make  certain  prepayments,
         subject to certain  exceptions,  on the  Facilities  with 75% of Excess
         Cash Flow (as defined in the Credit  Agreement)  and with the  proceeds
         from certain asset sales,  issuances of debt and equity  securities and
         any pension plan reversion.  Such  prepayments will be applied first to
         required  principal  payments of the Tranche B Term Loan and thereafter
         to amounts outstanding under the Revolving Credit Facility.

                  There are no  scheduled  reductions  in the  Revolving  Credit
         Facility over its term. The Revolving Credit Facility  terminates March
         31, 2001.  Availability under the Revolving Credit Facility at December
         31, 1998 was $1,500.  The Company had outstanding  letters of credit of
         $1,430 as of December 31, 1998.

                  Borrowings  under the Revolving  Credit Facility bear interest
         at a rate per annum equal to, at the  Company's  option,  the higher of
         (1)  Bankers  Trust's  Prime Rate or (2) the rate which is 1/2 of 1% in
         excess of the Federal Funds  effective  rate (together the "Base Rate")
         plus 1.75% or the  reserve  Eurodollar  Rate (as  defined in the Credit
         Agreement) plus 2.75%.  The Tranche B Loan bears interest at a rate per
         annum equal to, at the  Company's  option,  the Base Rate plus 2.75% or
         the  reserve  Eurodollar  Rate plus  3.75%.  The  Tranche C Loan  bears
         interest at a rate per annum  equal to, at the  Company's  option,  the
         Base Rate plus 2.75% or the  reserve  Eurodollar  Rate plus  3.75%.  In
         addition,  the Company is  required  to pay  Bankers  Trust a quarterly
         commitment fee of .50% per annum on the daily average unused portion of
         the Revolving  Credit  Facility.  The carrying amount of the Facilities
         approximates fair value as the interest rate reprices  quarterly and is
         reflective of currently  available  market rates.  The Company  entered
         into an  interest  rate  swap  contract  in  November  1995,  effective
         February  16,  1996,  with  an  aggregate   notional  principal  amount

                               29
<PAGE>

7.       DEBT (CONTINUED)

         equivalent to  $75,000   maturing  on  February  16,  1999.   The  swap
         effectively  converts  that  portion of the  Company's  Term Loans to a
         fixed rate  component of 5.8%;  thus  reducing the impact of changes in
         interest rates,  converting the total effective  interest rate on fifty
         percent of the initial  outstanding Term Loans to 9.55%. No funds under
         the swap  agreements  are  actually  borrowed or are to be repaid.  The
         amounts due to or from the  counterparties  are  reflected  in interest
         expense  in the  periods in which  they  accrue.  The fair value of the
         interest  rate  swaps as of  December  31,  1998 was  unfavorable  $0.1
         million,   based  upon  dealer   quotes.   Dictaphone   is  exposed  to
         credit-related   losses  in  the  event  of   non-performance   by  the
         counterparties to these swaps,  although no such losses are expected as
         the  counterparties  are  commercial  banks having an investment  grade
         credit rating.  On February 11, 1999, the Company entered into interest
         rate cap  agreements  effective  February 16,  1999,  with an aggregate
         notional  principal  amount  equivalent  to  $66  million  maturing  on
         February 16, 2001.  The cap limits that portion of the  Company's  Term
         Loans to a fixed rate  component of 5.5%;  thus  reducing the impact of
         increases in interest  rates,  limiting the effective  interest rate on
         fifty percent of the  currently  outstanding  Term Loans to 9.25%.  The
         effective interest rate for the year ended December 31, 1998 was 8.90%,
         9.35% and 8.38% on the Tranche B Loan, Tranche C Loan and the Revolving
         Credit Facility, respectively.

                  Dictaphone  Non-U.S.  is  not a  guarantor  of  the  Company's
         obligations  under the  Facilities.  The Company's  obligations and the
         guarantees of its domestic  subsidiaries  are secured by  substantially
         all  existing  and  acquired  personal  property of the Company and its
         domestic subsidiaries,  including a pledge of 100% of the stock of each
         of the Company's domestic  subsidiaries and 66% of the stock of each of
         the   Company's   first-tier   foreign   subsidiaries.   The  Company's
         obligations  are also secured by liens on certain real  property of the
         Company and its domestic subsidiaries.

                  In addition,  the Credit  Agreement  contains  covenants  that
         significantly limit or prohibit, among other things, the ability of the
         Company   to  incur   indebtedness,   make   prepayments   of   certain
         indebtedness,  pay dividends on Common Stock (as hereinafter  defined),
         make   investments,   engage  in  transactions  with  stockholders  and
         affiliates,  create  liens,  sell  assets  and  engage in  mergers  and
         consolidations and requires that the Company maintain certain financial
         ratios.

                  The  Acquisition  was also  financed  through the  issuance of
         $200,000  senior  subordinated  notes  (the  "Notes").  The  Notes  are
         subordinated  to  the  Credit  Agreement  financing  and  other  senior
         indebtedness  as defined in the  indenture  pursuant to which the Notes
         were issued (the "Note Indenture").  The Notes bear interest of 11-3/4%
         per annum,  payable  semiannually  on each February 1 and August 1. The
         Notes mature on August 1, 2005. The fair value of the Notes at December
         31, 1998 was favorable $50.0 million, based on dealer quotes. The Notes
         are fully and  unconditionally  guaranteed by Dictaphone U.S. The Notes
         contain  similar types of covenants to the  Facilities and provides for
         each  noteholder  to  have  the  right  to  require  that  the  Company
         repurchase  the Notes at 101% of the principal  amount upon a change of
         control as defined in the Note Indenture.

8.       EQUITY AND STOCK OPTIONS

         COMMON STOCK

                  On December  31,  1998,  the Company had 20 million  shares of
         common  stock,  $.01 par value  ("Common  Stock")  authorized  of which
         12,934,000  shares were  issued,  outstanding  and owned by  Stonington
         Capital Appreciation 1994 Fund, L.P. ("Stonington"),  an affiliate of a
         limited partner of Stonington,  and by management of the Company.  (See
         Note 10).

                  At December  31,  1997 and 1998,  the  Company  had 48,000 and
         66,000  shares of treasury  stock, respectively.

                               30
<PAGE>

8.       EQUITY AND STOCK OPTIONS (CONTINUED)

         PREFERRED STOCK AND WARRANT

                  The Company is authorized to issue up to 25,000,000  shares of
         preferred stock, $.01 par value, in one or more series as authorized by
         the Board of Directors and to fix the terms,  rights,  restrictions and
         qualifications  of  shares  of each  series.  In  connection  with  the
         acquisition,  the Company issued 1.5 million shares of 14%  Pay-In-Kind
         Perpetual  Preferred Stock ("PIK Preferred  Stock").  The PIK Preferred
         Stock is nonvoting and has a stated value and liquidation preference of
         $10 per share and carries a cumulative  pay-in-kind dividend of 14% per
         year payable  quarterly in arrears from  September  30, 1995 until July
         31, 2006, and thereafter the annual  dividend rate will increase by 200
         basis points every twelve months (but in no event will exceed 24%). The
         PIK Preferred Stock ranks pari passu with the Convertible PIK Preferred
         (as  hereinafter  defined)  and ranks  senior to all other  classes and
         series of stock of the  Company  with  respect to  dividend  rights and
         rights on liquidation,  winding up and dissolution of the Company.  The
         PIK  Preferred  Stock is  redeemable at the option of the Company or in
         certain  limited  circumstances  at the option of the  holder  upon the
         occurrence of certain  events.  The Company accrued the 14% pay-in-kind
         dividend and charged  additional  paid-in  capital  $2,327,  $2,699 and
         $3,074  for  the  years  ended  December  31,  1996,   1997  and  1998,
         respectively,  as a  result  of  the  required  dividends  representing
         232,700,  269,900  and  307,400  shares  of the  PIK  Preferred  Stock,
         respectively.  Such shares of PIK  Preferred  Stock were  declared  and
         issued in respect of the period up to December 31, 1998.

                  In  connection  with a January  1999 equity  infusion of $20.0
         million from  Stonington,  the Company issued 2,000,000 shares of newly
         issued 12% Convertible  Pay-In-Kind  Preferred Stock  ("Convertible PIK
         Preferred").  The  Convertible  PIK Preferred is  non-voting  and has a
         stated value and liquidation  preference of $10 per share and carries a
         cumulative  pay-in-kind  dividend of 12% per year payable  quarterly in
         arrears from January 28, 1999 until July 31, 2006,  and  thereafter the
         annual  dividend  rate will  increase by 200 basis  points every twelve
         months (but in no event will exceed 24 percent).  The  Convertible  PIK
         Preferred  has the same  redemption  rights as the PIK  Preferred.  The
         Convertible PIK Preferred is convertible  into Common Stock on a one to
         one basis,  subject to adjustments  as described in the  certificate of
         designation for the Company's Convertible PIK Preferred.

                  Together  with the issuance of the PIK  Preferred  Stock,  the
         Company issued a warrant to purchase  350,000 shares of Common Stock at
         a price of $10 per share (the "Warrant") representing the fair value of
         Common  Stock  on  the  date  of  issuance.  The  Warrant  may  not  be
         transferred or exchanged, in whole or in part, separately from, but may
         be   transferred   or  exchanged  only  together  with,  an  equivalent
         proportion of such PIK Preferred Stock.

                  The  Warrant  expires  on  August  11,  2005 and is  currently
         exercisable.  The Company  has  reserved  350,000  shares of its Common
         Stock for issuance  upon  exercise of the Warrant.  As set forth in the
         related agreement (the "Warrant Agreement"),  the Warrant is subject to
         certain  antidilution  provisions  related to the future adjustments to
         the  Company's  capital  stock or the  issuance of its Common  Stock or
         rights,  options or warrants to purchase  such Common  Stock at a price
         below the current market price as defined in the Warrant Agreement.

         MANAGEMENT STOCK OPTION PLAN

                  At the date of  Acquisition,  the Company adopted a Management
         Stock Option Plan (the "Plan") and issued  options to purchase  713,000
         shares  of  Common  Stock at an  exercise  price of  $10.00  per  share
         (estimated  fair  value  of the  Common  Stock  at  date of  grant)  to
         officers,  key employees and non-employee directors of the Company. The
         Plan  provides  that  one-half of the options  (service-based  options)
         granted under the Plan will vest  automatically over a five year period
         and the other one-half  (performance-based options) became eligible for
         vesting as to 10% on April 15, 1996, as to 20% on April 15, 1997, as to
         20% on April 15, 1998 and the  remaining  options  become  eligible for
         vesting  as to an  additional  20% on each of April 15,  1999 and 2000,
         


                               31
<PAGE>

8.       EQUITY AND STOCK OPTIONS (CONTINUED)

         MANAGEMENT STOCK OPTION PLAN (CONT.)

         with the remaining 10% becoming eligible for vesting on April 15, 2001,
         if the Company  attains  certain  predetermined  financial  performance
         goals,  or in any  case no  later  than the  tenth  anniversary  of the
         Acquisition.  Based upon the Company's  performance in 1995, 1996, 1997
         and  1998,  the  Company's  Board  of  Directors  determined  that  the
         following  eligible  performance-based options would vest: 60% on April
         15, 1996,  0% on April 15,  1997,  0% on April 15, 1998 and 0% on April
         15,  1999.  The  options  expire  ten  years  from the date of grant or
         earlier in certain circumstances.  In the event of a Sale or an IPO (as
         defined  in  the  Plan)  of  the  Company,   all  outstanding  unvested
         service-based  options  and   performance-based   options  will  become
         immediately  vested and exercisable prior to the effective date of such
         Sale or IPO.  At the  date of the  Acquisition,  the  Company  reserved
         850,000  shares  of its  Common  Stock  for  issuances  under the Plan.
         Effective  August 1, 1997, the number of shares  reserved for issuances
         under  the Plan was  increased  to  1,200,000.  A  summary  of  options
         outstanding is as follows:

<TABLE>
<CAPTION>
                                                                DECEMBER 31,      DECEMBER 31,       DECEMBER 31,
                                                                    1996              1997               1998
                                                                ------------      ------------       ------------
<S>                                                                <C>                <C>              <C>      
         Outstanding, beginning of year                            683,000            650,000          1,096,500
         Granted                                                    89,000            551,500            141,500
         Cancelled                                                (122,000)          (105,000)          (171,000)
                                                                ----------         ----------        -----------
         Outstanding, end of year                                  650,000          1,096,500          1,067,000
                                                                ==========          =========        ===========

             Exercisable, end of year                               82,680            161,470            295,473
                                                                ==========         ==========        ===========
</TABLE>

                  The exercise price for all options was $10.00

                  Statement  of  Financial   Accounting  Standards  Number  123,
         "Accounting For Stock-Based Compensation" ("SFAS 123") encourages,  but
         does not require,  companies to record at fair value  compensation cost
         of stock-based employee  compensation plans.  Dictaphone has elected to
         continue to account for  stock-based  compensation  using the intrinsic
         value method prescribed in Accounting  Principles Board Opinion No. 25,
         "Accounting  For Stock Issued to Employees"  ("APB No. 25") and related
         interpretations.  Under the intrinsic value based method,  compensation
         cost is the excess,  if any, of the quoted market price of the stock at
         grant date over the exercise price of the option. Typically,  grants of
         stock options pursuant to stock option plans have no intrinsic value at
         grant date, and accordingly,  no compensation  cost has been recognized
         by  Dictaphone.  Had  compensation  cost  for  the  stock  option  been
         determined  based on the fair  value of the  option  at a date of grant
         consistent with the requirements of SFAS No. 123, Dictaphone's net loss
         would have been increased to the pro forma amounts indicated below:

<TABLE>
<CAPTION>
                                                                          1996             1997              1998
                                                                          ----             ----              ----

<S>                                                                    <C>              <C>               <C>      
              Net loss                      As reported                $(36,987)        $(70,921)         $(56,764)
                                            Pro Forma                  $(37,182)        $(71,503)         $(57,051)
</TABLE>

                               32
<PAGE>

8.       EQUITY AND STOCK OPTIONS (CONTINUED)

         MANAGEMENT STOCK OPTION PLAN (CONT.)

                  The fair value of each stock option has been  estimated at the
         date of grant using the  Black-Scholes  option  pricing  model with the
         following weighted average assumptions:

<TABLE>
<CAPTION>
                                                         1996                1997             1998
                                                         ----                ----             ----
<S>                                                      <C>                <C>               <C>  
              Risk free interest rate                    6.21%              5.72%             4.56%
              Expected life                              5 years            5 years         5 years
              Expected volatility                          ---                 ---            ---
              Expected dividend yield                      ---                 ---            ---
</TABLE>

9.       INCOME TAXES

                  The  (benefit) provision  for income taxes for the years ended
         December 31, 1996,  1997 and 1998 consists of the following:

<TABLE>
<CAPTION>
                                            YEAR ENDED                YEAR ENDED               YEAR ENDED
                                         DECEMBER 31, 1996         DECEMBER 31, 1997        DECEMBER 31, 1998
                                         -----------------         -----------------        -----------------
             Current:
<S>                                         <C>                        <C>                     <C>       
                 Federal                    $      ---                 $      ---              $      ---
                 State                             ---                        ---                     ---
                 Foreign                           (55)                       707                   1,105
                                            ----------                 ----------              ----------
                    Total                   $      (55)                $      707                   1,105
                                            ----------                 ----------              ----------

             Deferred:
                 Federal                    $  (14,686)                $    1,059              $      929
                 State                          (3,139)                    (2,203)                    221
                 Foreign                        (1,051)                      (623)                 (1,377)
                                            ----------                 ----------              ----------
                    Total                      (18,876)                    (1,767)                   (227)
                                            ----------                 ----------              ----------
                         Total              $  (18,931)                $   (1,060)             $      878
                                            ==========                 ==========              ==========
</TABLE>

                  The difference between the Company's effective income tax rate
         and the United States  statutory  rate for the years ended December 31,
         1996, 1997 and 1998 is reconciled below:

<TABLE>
<CAPTION>
                                                          YEAR ENDED              YEAR ENDED              YEAR ENDED
                                                       DECEMBER 31, 1996       DECEMBER 31, 1997       DECEMBER 31, 1998
                                                       -----------------       -----------------       -----------------

<S>                                                          <C>                     <C>                     <C>   
         United States statutory rate                        35.00%                  35.00%                  35.00%
             State income taxes, net of Federal
              income tax benefit                              3.81%                   4.32%                   4.17%
             Effect of foreign operations                    (1.39%)                 (0.17%)                 (3.55%)
             Miscellaneous                                   (2.09%)                 (2.83%)                 (1.73%)
             Net operating loss carryforwards
              with no anticipated benefit                       ---                 (34.79%)                 (35.54%)
                                                            -------                 --------                --------
                  Total                                      35.33%                   1.53%                   (1.65%)
                                                            =======                 =======                 ========
</TABLE>

                  See Footnote 12 for  disaggregated  information as to domestic
and foreign income before taxes.

                               33
<PAGE>

9.       INCOME TAXES (CONTINUED)

                  Deferred tax assets and  liabilities  arise from the impact of
         temporary  differences  between  the amount of assets  and  liabilities
         recognized for financial reporting purposes and such amounts recognized
         for tax purposes and resulted from the following:

<TABLE>
<CAPTION>
                                                                  DECEMBER 31,             DECEMBER 31,
                                                                      1997                     1998
                                                                  ------------             ------------
             Deferred tax assets:
<S>                                                                  <C>                   <C>       
                  Net operating loss carryforwards                   $  33,321             $   48,725
                  Amortization - identifiable intangibles               22,694                 25,646
                  Postretirement and pension benefits                    5,010                  5,185
                  Inventory                                              3,010                  5,130
                  Depreciation                                           3,683                  4,809
                  Other                                                  3,347                  5,824
                                                                     ---------             ----------
                  Total gross deferred tax assets                       71,065                 95,319
                                                                     ---------             ----------
             Less: valuation allowance                                 (24,100)               (44,868)
                                                                     ---------             ----------
             Net deferred tax assets                                 $  46,965             $   50,451
                                                                     =========             ==========

             Deferred tax liabilities:
                  Amortization - goodwill                            $  (3,735)            $   (5,481)
                  Capitalized software costs                            (2,240)                (4,209)
                  Other                                                 (1,451)                  (996)
                                                                     ----------            ----------
                  Total deferred tax liabilities                     $  (7,426)            $  (10,686)
                                                                     =========             ==========
</TABLE>

                  The Company has  recorded a gross  deferred tax asset of $95.3
         million  included  in  other  assets  reflecting  the  benefit  of  net
         operating   loss   carryforwards   and  various   book  tax   temporary
         differences. The net operating loss carryforward for federal income tax
         purposes as of December 31, 1998 is  approximately  $122.5 million,  of
         which $13.7 million of the net operating loss  carryforward will expire
         in the year 2010,  $33.2  million  will expire in the year 2011,  $40.0
         million will expire in the year 2012,  and $35.6 million will expire in
         the year 2018.  In order to fully  realize the deferred tax asset,  the
         Company will need to generate future taxable income prior to expiration
         of  the  net  operating  loss  carryforwards.   In  1997,  the  Company
         established a valuation allowance of $24.1 million against the deferred
         tax assets.  During 1998, the Company increased its valuation allowance
         by  $20.8  million  resulting  in a net  deferred  tax  asset  of $50.5
         million. Management believes, based upon the Company's history of prior
         operating results, its current circumstances,  and its expectations for
         the future,  that  taxable  income of the Company will more likely than
         not be  sufficient to fully utilize the net deferred tax asset of $50.5
         million recorded for December 31, 1998, prior to expiration. The amount
         of the  deferred tax asset  considered  realizable,  however,  could be
         reduced if estimates of future  taxable income during the net operating
         loss carryforward period are reduced.

10.      CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

         TRANSACTIONS WITH STONINGTON CAPITAL APPRECIATION 1994 FUND, L.P.

                  In  the  first  quarter  of  1999,  the  Company  received  an
         additional   $20.0  million  from  the  sale  of  2,000,000  shares  of
         Convertible PIK Preferred Stock to Stonington.

                  Stonington, together with an affiliate of a limited partner of
         Stonington,  own 99.0% of the outstanding  Common Stock of the Company,
         has the power to determine the composition of the Board of Directors of
         the  Company and  otherwise  control  the  business  and affairs of the
         Company.  Three of the seven  members of the Board of  Directors of the
         Company  are  employees  of an  affiliate  of  Stonington  and serve as
         representatives of Stonington.

                               34
<PAGE>

10.      CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS (CONTINUED)

         TRANSACTIONS WITH MANAGEMENT

                  In connection with the  Acquisition,  the Company sold 197,000
         shares of Common Stock to certain  members of the Company's  management
         (the "Management  Investors") for $1,970,  the fair value of the Common
         Stock at the date of sale (the  "Management  Placement").  The  Company
         financed  $1,273 of the Management  Placement with  non-recourse  loans
         bearing  interest at a rate equal to the  Adjusted  Eurodollar  Rate in
         effect for the Revolving  Credit  Facility  under the Credit  Agreement
         plus 2.75%.  Interest was due annually  starting in August 1998. Unless
         prepaid, all principal,  accrued and unpaid interest is due and payable
         on August 7,  2005.  The  obligations  under the  management  notes are
         secured  by a pledge  of the  proportionate  number of shares of Common
         Stock pursuant to a Stockholder's Agreement.

                  Under the terms of the Stockholders  Agreement relating to the
         Management Placement,  for a period of five years from August 11, 1995,
         unless the Company has completed an initial public offering, Management
         Investors will not be permitted to sell,  transfer or otherwise dispose
         of their shares of Common Stock, except to (i) a "Permitted Transferee"
         or (ii) to the Company  pursuant  to certain put and call  arrangements
         set forth in the  Stockholders'  Agreement  (the "Puts and  Calls").  A
         "Permitted  Transferee"  includes  certain  beneficiaries,  trusts  and
         family  members.  The Puts and Calls  provide for the sale of shares of
         Common Stock to the Company upon the  termination  of  employment.  The
         purchase  price  for  shares  purchased  pursuant  to the  Stockholders
         Agreement is based upon the original per share  purchase price Adjusted
         Book Value (as defined in the  Stockholders  Agreement),  cost, or Fair
         Market Value (as defined).

                  The  Stockholders  Agreement  provides that in the event that,
         after August 11, 2000,  an initial  public  offering has not  occurred,
         Management  Investors  will be  permitted to sell Common Stock to third
         parties after first giving the Company and other Management Investors a
         right of first refusal for the same number of shares of Common Stock at
         the same price.

11.      COMMITMENTS, CONTINGENCIES AND CONCENTRATIONS OF RISK

         CONCENTRATIONS OF RISKS

                  A substantial  portion of the  Company's  revenues are derived
         from the sale of products  manufactured at the Company's  manufacturing
         facility  which is located in Melbourne,  Florida.  This  manufacturing
         facility  is subject to the normal  hazards of any such  facility  that
         could  result  in  damage  to the  facility.  Any such  damage  to this
         facility or  prolonged  delay in the  operations  of this  facility for
         repairs or other reason would have a materially  adverse  effect on the
         Company's financial position and results of operations.

         COMMITMENTS

                  The Company leases certain factory and office facilities under
         lease agreements  extending from one to twenty-five  years. In addition
         to factory and office  facilities  leased,  the Company leases computer
         and information  processing  equipment under lease agreements extending
         from three to five years.

                  Future  minimum  lease  payments  for  operating  leases as of
December 31, 1998 are as follows:

                  YEARS ENDING DECEMBER 31,
                    1999                                    $     5,421
                    2000                                          4,691
                    2001                                          3,545
                    2002                                          2,672
                    2003                                          2,479
                    Later years                                  24,792
                                                            -----------
                  Total minimum lease payments              $    43,600
                                                            ===========

                               35
<PAGE>

11.      COMMITMENTS, CONTINGENCIES AND CONCENTRATIONS OF RISK (CONTINUED)

         COMMITMENTS (CONT.)

                  Rental expense under operating  leases was $5,168,  $5,073 and
         $4,952  for  the  years  ended  December  31,  1996,  1997  and   1998,
         respectively.

         CONTINGENCIES

                  On February 14, 1995,  Pitney  Bowes,  Inc.  ("Pitney  Bowes")
         filed a complaint  against  Sudbury  Systems,  Inc.  ("Sudbury") in the
         United States  District Court for the District of Connecticut  alleging
         intentional and wrongful interference with Pitney Bowes's plans to sell
         the Company.  The complaint  seeks  damages and a declaratory  judgment
         relating to the validity of a patent owned by Sudbury  entitled  "Rapid
         Simultaneous  Multiple Access Information Storage and Retrieval System"
         and the alleged infringement thereof by the Company.  Sudbury responded
         by answering the complaint and filing a third-party  complaint  against
         the Company alleging patent  infringement  and seeking  preliminary and
         permanent   injunctive  relief  and  treble  damages.  The  third-party
         complaint  filed by  Sudbury  did not  quantify  the  amount of damages
         sought. The litigation is in the final stage of discovery. A trial date
         is likely to be set in 1999.  Pitney Bowes and the Company have not yet
         received  Sudbury's  revised  damages report nor has Sudbury's  damages
         expert  given  deposition  testimony.  Accordingly,  at this time,  the
         Company cannot make a reasonable estimate of the amount of damages that
         will be sought by Sudbury.

                  Management  believes the Company has  meritorious  defenses to
         the claims against it.  Consequently,  the Company has not provided for
         any loss  exposure in  connection  with this  complaint.  Additionally,
         regardless of the outcome of this  litigation,  Pitney Bowes has agreed
         to defend this action and to indemnify the Company for any  liabilities
         arising from such litigation.

                  The  Company is subject to  federal,  state and local laws and
         regulations  concerning the environment and is currently  participating
         in   administrative   proceedings  as  a  participant  in  a  group  of
         potentially  responsible  parties in  connection  with two third  party
         disposal  sites. As these  proceedings  are at a preliminary  stage, is
         impossible to reasonably  estimate the potential  costs of remediation,
         the timing and extent of  remedial  actions  which may be  required  by
         governmental  authorities,  and the amount of the liability, if any, of
         the  Company  alone or in  relation  to that of any  other  responsible
         parties.  When it is  possible  to make a  reasonable  estimate  of the
         Company's  liability with respect to such a matter, a provision will be
         made as appropriate. Additionally, the Company has settled and paid its
         liability at three other third party disposal  sites. At a fourth site,
         the Company has paid  approximately  $11  thousand for its share of the
         costs of the  first  phase of the  clean up of the site and  management
         believes  that it has no  continuing  material  liability for any later
         phases  of the  cleanup.  Consequently,  management  believes  that its
         future  liability,  if any,  for these four sites is not  material.  In
         addition,  regardless of the outcome of such matters,  Pitney Bowes has
         agreed  to  indemnify   the  Company  in   connection   with   retained
         environmental   liabilities  and  for  breaches  of  the  environmental
         representations and warranties in the Acquisition Agreement, subject to
         certain limitations.

                  The Company is a defendant in a number of additional  lawsuits
         and administrative  proceedings,  none of which will, in the opinion of
         management,   have  a  material   adverse   effect  on  the   Company's
         consolidated financial position or results of operations.

                  The Company does not believe that the ultimate  resolution  of
         the litigation,  administrative  proceedings and environmental  matters
         described above in the aggregate will have a material adverse effect on
         the Company's consolidated financial position or results of operations.

                               36
<PAGE>

12.      SUPPLEMENTAL CONDENSED CONSOLIDATING FINANCIAL STATEMENT
         INFORMATION

                  Dictaphone   Corporation   has   fully   and   unconditionally
         guaranteed  the repayment of the Notes.  Dictaphone  Non-U.S.  is not a
         guarantor of the Notes.  Separate  financial  statements  of Dictaphone
         U.S. are not presented  because  management  has  determined  that they
         would not be meaningful to investors in the Notes.

                  The following are the supplemental  consolidating statement of
         operations and cash flow  information  for the years ended December 31,
         1996, 1997 and 1998, and the supplemental  consolidating  balance sheet
         information as of December 31, 1997 and 1998.

<TABLE>
                                              DICTAPHONE CORPORATION
                     SUPPLEMENTAL CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS INFORMATION
                                           YEAR ENDED DECEMBER 31, 1996

<CAPTION>

                                                       DICTAPHONE      DICTAPHONE       CONSOLIDATING
                                                      CORPORATION       NON-U.S.         ADJUSTMENTS      CONSOLIDATED
                                                      -----------      ----------       -------------     ------------
       Revenue from:
<S>                                                    <C>               <C>              <C>               <C>       
         Product sales and rentals                     $  174,952        $   36,229       $  (12,157)       $  199,024
         Contract manufacturing sales                      40,614               ---              ---            40,614
         Support services                                  81,311            11,519              ---            92,830
                                                       ----------        ----------       ----------        ----------
             Total revenues                               296,877            47,748          (12,157)          332,468
                                                       ----------        ----------       ----------        ----------

       Costs and expenses:
         Cost of sales, rentals and support
          services                                        163,752            29,101          (11,705)          181,148
         Selling and administrative                       126,057            23,160              ---           149,217
         Research and development                          14,135               ---              ---            14,135
         Interest expense - net and other                  40,387             1,158               14            41,559
                                                       ----------        ----------       ----------        ----------
             Total costs and expenses                     344,331            53,419          (11,691)          386,059
                                                       ----------        ----------       ----------        ----------

       Equity (loss) earnings                              (7,024)              ---            7,024               ---
                                                       ----------        ----------       ----------        ----------

       (Loss) income before income taxes                  (54,478)           (5,671)           6,558           (53,591)

       Income tax benefit                                  17,508             1,232              191            18,931
                                                       ----------        ----------       ----------        ----------

       Net (loss) income                               $  (36,970)       $   (4,439)      $    6,749        $  (34,660)
                                                       ==========        ==========       ==========        ==========
</TABLE>

                               37
<PAGE>

12.      SUPPLEMENTAL CONDENSED CONSOLIDATING FINANCIAL STATEMENT
         INFORMATION  (CONTINUED)


<TABLE>

                                              DICTAPHONE CORPORATION
                     SUPPLEMENTAL CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS INFORMATION
                                           YEAR ENDED DECEMBER 31, 1997


<CAPTION>
                                                       DICTAPHONE      DICTAPHONE       CONSOLIDATING
                                                      CORPORATION       NON-U.S.         ADJUSTMENTS      CONSOLIDATED
                                                      -----------      ----------       -------------     ------------
       Revenue from:
<S>                                                    <C>               <C>              <C>               <C>       
         Product sales and rentals                     $  183,200        $   32,356       $  (12,662)       $  202,894
         Contract manufacturing sales                      42,864               ---              ---            42,864
         Support services                                  83,918            10,366              ---            94,284
                                                       ----------        ----------       ----------        ----------
             Total revenues                               309,982            42,722          (12,662)          340,042
                                                       ----------        ----------       ----------        ----------

       Costs and expenses:
         Cost of sales, rentals and support
          services                                        180,501            27,064          (13,133)          194,432
         Selling and administrative                       141,749            13,776              ---           155,525
         Research and development                          14,705               ---              ---            14,705
         Interest expense - net and other                  42,111             2,551              ---            44,662
                                                       ----------        ----------       ----------        ----------
             Total costs and expenses                     379,066            43,391          (13,133)          409,324
                                                       ----------        ----------       ----------        ----------

       Equity (loss) earnings                             (11,382)              ---           11,382               ---
                                                       ----------        ----------       ----------        ----------

       (Loss) income before income taxes                  (80,466)             (669)          11,853           (69,282)

       Income tax benefit (expense)                         1,163                87             (190)            1,060
                                                       ----------        ----------       ----------        ----------

       Net (loss) income                               $  (79,303)       $     (582)      $   11,663        $  (68,222)
                                                       ==========        ==========       ==========        ==========
</TABLE>

                               38
<PAGE>

12.      SUPPLEMENTAL CONDENSED CONSOLIDATING FINANCIAL STATEMENT
         INFORMATION  (CONTINUED)


<TABLE>
                                              DICTAPHONE CORPORATION
                     SUPPLEMENTAL CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS INFORMATION
                                           YEAR ENDED DECEMBER 31, 1998


<CAPTION>
                                                      DICTAPHONE      DICTAPHONE       CONSOLIDATING
                                                      CORPORATION      NON-U.S.         ADJUSTMENTS      CONSOLIDATED
                                                      -----------     ----------       -------------     ------------
       Revenue from:
<S>                                                  <C>               <C>              <C>               <C>       
         Product sales and rentals                   $  189,818        $   17,355       $   (9,843)       $  197,330
         Contract manufacturing sales                    47,063               ---              ---            47,063
         Support services                                80,330             7,595              ---            87,925
                                                     ----------        ----------       ----------        ----------
             Total revenues                             317,211            24,950           (9,843)          332,318
                                                     ----------        ----------       ----------        ----------

       Costs and expenses:
         Cost of sales, rentals and support
          services                                      183,066            16,002          (10,380)          188,688
         Selling and administrative                     126,691            13,174                7           139,872
         Research and development                        17,128               ---              ---            17,128
         Interest expense - net and other                36,482             2,960              ---            39,442
                                                     ----------        ----------       ----------        ----------
             Total costs and expenses                   363,367            32,136          (10,373)          385,130
                                                     ----------        ----------       ----------        ----------

       Equity (loss) earnings                            (4,496)              ---            4,496               ---
                                                     ----------        ----------       ----------        ----------

       (Loss) income before income taxes                (50,652)           (7,186)           5,026           (52,812)

       Income tax (expense) benefit                      (1,405)              732             (205)             (878)
                                                     ----------        ----------       ----------        ----------

       Net (loss) income                             $  (52,057)       $   (6,454)      $    4,821        $  (53,690)
                                                     ==========        ==========       ==========        ==========

</TABLE>

                               39
<PAGE>

12.      SUPPLEMENTAL CONDENSED CONSOLIDATING FINANCIAL STATEMENT
         INFORMATION  (CONTINUED)


<TABLE>
                                              DICTAPHONE CORPORATION
                          SUPPLEMENTAL CONDENSED CONSOLIDATING BALANCE SHEET INFORMATION
                                                 DECEMBER 31, 1997


<CAPTION>
                                                      DICTAPHONE      DICTAPHONE       CONSOLIDATING
                                                      CORPORATION      NON-U.S.         ADJUSTMENTS      CONSOLIDATED
                                                      -----------     ----------       -------------     ------------
       ASSETS
       Current assets:
<S>                                                  <C>              <C>               <C>               <C>       
         Cash and cash equivalents                   $    8,276       $    2,001        $      ---        $   10,277
         Accounts receivable, less allowances            64,884            8,699            (1,644)           71,939
         Inventories                                     45,962            3,645              (828)           48,779
         Other current assets                             7,869            3,806               ---            11,675
                                                     ----------       ----------        ----------        ----------
           Total current assets                         126,991           18,151            (2,472)          142,670

       Investments in subsidiaries                       34,170              ---           (34,170)              ---
       Property, plant and equipment, net                32,041            3,290               ---            35,331
       Deferred financing costs                          10,900              ---               ---            10,900
       Intangibles, net                                 214,070           15,252               ---           229,322
       Other assets                                      49,131            2,365               323            51,819
                                                     ----------       ----------        ----------        ----------
       Total assets                                  $  467,303       $   39,058        $  (36,319)       $  470,042
                                                     ==========       ==========        ===========       ==========

       LIABILITIES AND STOCKHOLDERS'
       EQUITY
       Current liabilities:
         Accounts payable, interest payable
          and accrued liabilities                    $   48,649       $    6,602        $   (1,794)       $   53,457
         Advance billings                                34,252            2,932               ---            37,184
         Current portion of long-term debt                  628              167               ---               795
                                                     ----------       ----------        ----------        ----------
           Total current liabilities                     83,529            9,701            (1,794)           91,436
       Long-term debt                                   342,372           17,935           (17,491)          342,816
       Other liabilities                                 10,477               52               ---            10,529
       Stockholders' equity (deficit)                    30,925           11,370           (17,034)           25,261
                                                     ----------       ----------        ----------        ----------
       Total liabilities and stockholders' equity    $  467,303       $   39,058        $  (36,319)       $  470,042
                                                     ==========       ==========        ==========        ==========
</TABLE>

                               40
<PAGE>

12.      SUPPLEMENTAL CONDENSED CONSOLIDATING FINANCIAL STATEMENT
         INFORMATION  (CONTINUED)


<TABLE>
                                              DICTAPHONE CORPORATION
                          SUPPLEMENTAL CONDENSED CONSOLIDATING BALANCE SHEET INFORMATION
                                                 DECEMBER 31, 1998


<CAPTION>
                                                      DICTAPHONE      DICTAPHONE       CONSOLIDATING
                                                      CORPORATION      NON-U.S.         ADJUSTMENTS      CONSOLIDATED
                                                      -----------     ----------       -------------     ------------
       ASSETS
       Current assets:
<S>                                                  <C>              <C>               <C>               <C>       
         Cash and cash equivalents                   $   10,114       $    1,613        $      ---        $   11,727
         Accounts receivable, less allowances            75,447            6,782            (4,797)           77,432
         Inventories                                     50,666            2,987              (291)           53,362
         Other current assets                             4,062            3,079               118             7,259
                                                     ----------       ----------        ----------        ----------
           Total current assets                         140,289           14,461            (4,970)          149,780

       Investments in subsidiaries                       28,520              ---           (28,520)              ---
       Property, plant and equipment, net                29,320            3,105               ---            32,425
       Deferred financing costs                           9,920              ---               ---             9,920
       Intangibles, net                                 192,492           13,630               ---           206,122
       Other assets                                      52,028            4,052               ---            56,080
                                                     ----------       ----------        ----------        ----------
       Total assets                                  $  452,569       $   35,248        $  (33,490)       $  454,327
                                                     ==========       ==========        ===========       ==========

       LIABILITIES AND STOCKHOLDERS'
       EQUITY
       Current liabilities:
         Accounts payable, interest payable
          and accrued liabilities                    $   53,100       $   11,111        $   (5,581)       $   58,630
         Advance billings                                37,294            2,292               ---            39,586
         Current portion of long-term debt                  628              167               ---               795
                                                     ----------       ----------        ----------        ----------
           Total current liabilities                     91,022           13,570            (5,581)           99,011
       Long-term debt                                   369,445           17,783           (17,491)          369,737
       Other liabilities                                 13,324              817               ---            14,141
       Stockholders' equity (deficit)                   (21,222)           3,078           (10,418)          (28,562)
                                                     ----------       ----------        ----------        ----------
       Total liabilities and stockholders' equity    $  452,569       $   35,248        $  (33,490)       $  454,327
                                                     ==========       ==========        ==========        ==========
</TABLE>

                               41
<PAGE>

12.      SUPPLEMENTAL CONDENSED CONSOLIDATING FINANCIAL STATEMENT
         INFORMATION  (CONTINUED)


<TABLE>
                                              DICTAPHONE CORPORATION
                     SUPPLEMENTAL CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS INFORMATION
                                           YEAR ENDED DECEMBER 31, 1996

<CAPTION>

                                                        DICTAPHONE       DICTAPHONE      CONSOLIDATING
                                                        CORPORATION       NON-U.S.        ADJUSTMENTS     CONSOLIDATED
                                                        -----------      ----------      --------------   ------------
       Operating activities:
<S>                                                    <C>               <C>              <C>               <C>        
         Net loss                                      $  (32,696)       $   (4,439)      $    2,475        $  (34,660)
         Adjustments to reconcile net
           loss to net cash provided by (used in)
           operating activities:
           Depreciation and amortization                   66,889             4,246              ---            71,135
           Provision for deferred income taxes            (17,633)           (1,052)            (191)          (18,876)
           Change in assets and liabilities:
             Accounts receivable                            1,053               167            2,100             3,320
             Inventories                                    2,346             1,021              466             3,833
             Other current assets                            (244)             (204)             (65)             (513)
             Accounts payable and
               accrued liabilities                         (4,537)              900           (2,035)           (5,672)
             Advance billings                                 715              (548)             ---               167
             Other assets and other                        (8,228)           (1,438)          (2,750)          (12,416)
                                                       ----------        ----------       ----------        ----------
       Net cash provided by (used in)
         operating activities                               7,665            (1,347)             ---             6,318
                                                       ----------        ----------       ----------        ----------

       Investing activities:
         Payment for acquisition                           (8,000)              ---              ---            (8,000)
         Net investment in fixed assets                    (5,007)           (1,218)             ---            (6,225)
                                                       ----------        ----------       ----------        ----------
       Net cash used for investing activities             (13,007)           (1,218)             ---           (14,225)
                                                       ----------        ----------       ----------        ----------

       Financing activities:
         Repayment under term loan facility                (7,750)              ---              ---            (7,750)
         Borrowing from promissory notes                     (147)              147              ---               ---
         Borrowing under revolving credit
           facility                                        32,000               ---              ---            32,000
         Repayment under revolving credit
           facility                                       (23,000)              ---              ---           (23,000)
         Other                                               (783)            1,079              ---               296
                                                       -----------       ----------       ----------        ----------
       Net cash provided by financing activities              320             1,226              ---             1,546
                                                       ----------        ----------       ----------        ----------

       Effect of exchange rate changes on cash                ---                 9              ---                 9
                                                       ----------        ----------       ----------        ----------

       Decrease in cash                                    (5,022)           (1,330)             ---            (6,352)

       Cash and cash equivalents,
        beginning of period                                11,591             2,688              ---            14,279
                                                       ----------        ----------       ----------        ----------

       Cash and cash equivalents,
        end of period                                  $    6,569        $    1,358       $      ---        $    7,927
                                                       ==========        ==========       ==========        ==========
</TABLE>

                               42
<PAGE>

12.      SUPPLEMENTAL CONDENSED CONSOLIDATING FINANCIAL STATEMENT
         INFORMATION  (CONTINUED)
<TABLE>
                                              DICTAPHONE CORPORATION
                          SUPPLEMENTAL CONSOLIDATING STATEMENT OF CASH FLOWS INFORMATION
                                           YEAR ENDED DECEMBER 31, 1997


<CAPTION>
                                                        DICTAPHONE       DICTAPHONE      CONSOLIDATING
                                                        CORPORATION       NON-U.S.        ADJUSTMENTS     CONSOLIDATED
                                                        -----------      ----------      -------------    ------------
       Operating activities:
<S>                                                    <C>               <C>              <C>               <C>        
         Net loss                                      $  (66,646)       $     (582)      $     (994)       $  (68,222)
         Adjustments to reconcile net
           loss to net cash provided by (used in)
           operating activities:
           Depreciation and amortization                   65,115             3,400              ---            68,515
           Provision for deferred income taxes             (1,334)             (623)             190            (1,767)
           Non-recurring charge for digital
            product obsolescence                           13,426             1,476              ---            14,902
           Change in assets and liabilities:
              Accounts receivable                         (14,811)           (1,165)          (2,893)          (18,869)
              Inventories                                  (8,442)            4,385             (471)           (4,528)
              Other current assets                         (1,907)               31              ---            (1,876)
              Accounts payable and
                accrued liabilities                         6,821            (3,815)           2,890             5,896
              Advance billings                              3,006              (504)             ---             2,502
              Other assets and other                      (12,323)              169            1,158           (10,996)
                                                       ----------        ----------       ----------        ----------
       Net cash (used in) provided by
         operating activities                             (17,095)            2,772             (120)          (14,443)
                                                       -----------       ----------       -----------       ----------

       Investing activities:
         Net investment in fixed assets                    (4,962)             (937)             ---            (5,899)
                                                       ----------        ----------       ----------        ----------
       Net cash used for investing activities              (4,962)             (937)             ---            (5,899)
                                                       ----------        ----------       ----------        ----------

       Financing activities:
         Borrowing under term loan facility                62,750               ---              ---            62,750
         Repayment under term loan facility               (71,000)              ---              ---           (71,000)
         Proceeds from sale of common stock                35,000               ---              ---            35,000
         Borrowing under revolving credit
           facility                                        88,600               ---              ---            88,600
         Repayment under revolving credit
           facility                                       (88,600)              ---              ---           (88,600)
         Other                                             (2,986)           (1,103)             120            (3,969)
                                                       -----------       ----------       ----------        ----------
       Net cash provided by (used in) financing
         activities                                        23,764            (1,103)             120            22,781
                                                       ----------        ----------       ----------        ----------

       Effect of exchange rate changes on cash                ---               (89)             ---               (89)
                                                       ----------        ----------       ----------        ----------

       Increase in cash                                     1,707               643              ---             2,350

       Cash and cash equivalents,
        beginning of period                                 6,569             1,358              ---             7,927
                                                       ----------        ----------       ----------        ----------

       Cash and cash equivalents,
          end of period                                $    8,276        $    2,001       $      ---        $   10,277
                                                       ==========        ==========       ==========        ==========
</TABLE>

                               43
<PAGE>

12.      SUPPLEMENTAL CONDENSED CONSOLIDATING FINANCIAL STATEMENT
         INFORMATION  (CONTINUED)
<TABLE>
<CAPTION>
                                              DICTAPHONE CORPORATION
                          SUPPLEMENTAL CONSOLIDATING STATEMENT OF CASH FLOWS INFORMATION
                                           YEAR ENDED DECEMBER 31, 1998


                                                        DICTAPHONE       DICTAPHONE      CONSOLIDATING
                                                        CORPORATION       NON-U.S.        ADJUSTMENTS     CONSOLIDATED
                                                        -----------      ----------      -------------    ------------
<S>                                                    <C>               <C>              <C>              <C>         
       Operating activities:
         Net loss                                      $  (52,057)       $   (6,461)      $    4,828        $  (53,690)
         Adjustments to reconcile net
           loss to net cash provided by (used in)
           operating activities:
           Depreciation and amortization                   36,987             2,908              ---            39,895
           Provision for deferred income taxes              1,150            (1,377)             ---              (227)
           Non-recurring charge for product
            obsolescence                                    4,999               ---              ---             4,999
           Change in assets and liabilities:
              Accounts receivable                         (10,563)            1,661            3,153            (5,749)
              Inventories                                  (9,703)              505             (537)           (9,735)
              Other current assets                          3,807               678              205             4,690
              Accounts payable and
                accrued liabilities                         3,978             4,731           (3,787)            4,922
              Advance billings                              3,042              (519)             ---             2,523
              Other assets and other                      (10,488)               87           (5,650)          (16,051)
                                                       ----------        ----------       ----------        ----------
       Net cash (used in) provided by
         operating activities                             (28,848)            2,213           (1,788)          (28,423)
                                                       -----------       ----------       -----------       ----------

       Investing activities:
         Net investment in fixed assets                    (8,224)             (627)             ---            (8,851)
         Proceeds from sale of building                    14,000               ---              ---            14,000
                                                       ----------        ----------       ----------        ----------
       Net cash provided by (used in) investing
        activities                                          5,776              (627)             ---             5,149
                                                       ----------        ----------       ----------        ----------

       Financing activities:
         Repayment under term loan facility                (2,427)              ---              ---            (2,427)
         Borrowing under revolving credit
           facility                                        79,000               ---              ---            79,000
         Repayment under revolving credit
           facility                                       (49,500)              ---              ---           (49,500)
         Other                                             (2,163)           (1,940)           1,788            (2,315)
                                                       -----------       ----------       ----------        ----------
       Net cash provided by (used in) financing
        activities                                         24,910            (1,940)           1,788            24,758
                                                       ----------        ----------       ----------        ----------

       Effect of exchange rate changes on cash                ---               (34)             ---               (34)
                                                       ----------        ----------       ----------        ----------

       Increase/(decrease) in cash                          1,838              (388)             ---             1,450

       Cash and cash equivalents,
        beginning of period                                 8,276             2,001              ---            10,277
                                                       ----------        ----------       ----------        ----------

       Cash and cash equivalents,
        end of period                                  $   10,114        $    1,613       $      ---        $   11,727
                                                       ==========        ==========       ==========        ==========
</TABLE>

                               44
<PAGE>

13.    DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED
       INFORMATION

                Dictaphone  has two  reportable  segments:  System  Products and
       Services,  and Contract  Manufacturing.  The System Products and Services
       segment  consists of the sale and service of  system-related  products to
       dictation  and  voice  management  and  communications  recording  system
       customers  in  selected  vertical  markets.  The  Contract  Manufacturing
       segment  consists of the  manufacturing  operations of  Dictaphone  which
       provides outside electronics manufacturing services to original equipment
       manufacturers in the  telecommunications,  data management,  computer and
       electronics industries.

                The  accounting  policies of the  segments are the same as those
       described in the summary of significant  accounting policies.  Dictaphone
       evaluates  performance  based on profit or loss  from  operations  before
       income  taxes,  including  nonrecurring  gains  and  losses  and  foreign
       exchange gains and losses.

<TABLE>
                                              DICTAPHONE CORPORATION
                                              SEGMENT PROFIT AND LOSS

<CAPTION>
                                                                     SYSTEM
                                                                   PRODUCTS &        CONTRACT
                                                                    SERVICES       MANUFACTURING         TOTAL
                                                                   ----------      -------------         -----
<S>                                                 <C>           <C>               <C>              <C>       
       Revenue from external customers              1998          $  285,255        $   47,063       $  332,318
                                                    1997             297,178            42,864          340,042
                                                    1996             291,854            40,614          332,468

       Intersegment revenues                        1998                 ---            54,411           54,411
                                                    1997                 ---            55,919           55,919
                                                    1996                 ---            53,531           53,531

       Interest expense, net                        1998              39,442               ---           39,442
                                                    1997              44,662                --           44,662
                                                    1996              41,559               ---           41,559

       Depreciation and amortization                1998              38,240             1,655           39,895
                                                    1997              66,534             1,981           68,515
                                                    1996              67,004             4,131           71,135

       Segment profit                               1998             (57,424)            4,612          (52,812)
                                                    1997             (76,036)            6,754          (69,282)
                                                    1996             (56,116)            2,525          (53,591)

       Segment assets                               1998             444,979            43,805          488,784
                                                    1997             459,607            51,050          510,657
                                                    1996             499,274            43,957          543,231

       Expenditures for segment assets              1998              (8,503)             (348)          (8,851)
                                                    1997              (5,754)             (145)          (5,899)
                                                    1996              (6,025)             (200)          (6,225)

</TABLE>

                               45
<PAGE>

13.    DISCLOSURES ABOUT SEGMENTS ON AN ENTERPRISE AND RELATED
       INFORMATION (CONTINUED)


<TABLE>
       GEOGRAPHIC INFORMATION
<CAPTION>
                                                                                      LONG-LIVED
                                                                     REVENUES          ASSETS
                                                                     --------         ----------
<S>                                                 <C>           <C>               <C>       
       United States                                1998          $  293,321        $  312,280
                                                    1997             288,906           340,312
                                                    1996             280,447           385,920

       Canada                                       1998              11,641             5,320
                                                    1997              16,659             5,439
                                                    1996              14,439             6,444

       Europe                                       1998              19,492            15,467
                                                    1997              25,156            15,468
                                                    1996              30,982            16,669

       Latin America                                1998               3,625               ---
                                                    1997               3,674               ---
                                                    1996               1,890               ---

       Far East                                     1998               4,239               ---
                                                    1997               5,647               ---
                                                    1996               4,710               ---

       Adjustments                                  1998                 ---           (28,520)
                                                    1997                 ---           (33,847)
                                                    1996                 ---           (32,499)

           TOTAL                                    1998             332,318           304,547
                                                    1997             340,042           327,372
                                                    1996             332,468           376,534


       REVENUE RECONCILIATION
       Total revenue for reportable segments                         1998           $  386,729
                                                                     1997              395,961
                                                                     1996              385,999

       Elimination of intersegment revenues                          1998              (54,411)
                                                                     1997              (55,919)
                                                                     1996              (53,531)

         TOTAL CONSOLIDATED REVENUES                                 1998              332,318
                                                                     1997              340,042
                                                                     1996              332,468
</TABLE>
                               46
<PAGE>

13.    DISCLOSURES ABOUT SEGMENTS ON AN ENTERPRISE AND RELATED
       INFORMATION (CONTINUED)

<TABLE>
<CAPTION>
       ASSET RECONCILIATION
<S>                                                                  <C>            <C>       
       Total assets for reportable segments                          1998           $  488,784
                                                                     1997              510,657
                                                                     1996              543,231

       Adjustments                                                   1998              (34,457)
                                                                     1997              (40,615)
                                                                     1996              (38,396)

         CONSOLIDATED TOTAL                                          1998              454,327
                                                                     1997              470,042
                                                                     1996           $  504,835
</TABLE>

14.      PENSION AND OTHER POSTRETIREMENT BENEFITS

                  Effective with the Acquisition on August 11, 1995, the Company
         established  a  defined  benefit  pension  plan  for  all  active  U.S.
         employees.  Responsibility  for retired U.S.  employees was retained by
         Pitney Bowes.  Certain  employees in other  countries are covered under
         contributory  and  non-contributory  defined benefit pension plans. The
         Dictaphone  Plan  ("Dictaphone  Plan")  provides for benefits  based on
         employees' compensation and years of service. Company contributions are
         determined based on the funding requirements of the Employee Retirement
         Income   Security  Act  of  1974  and  other   governmental   laws  and
         regulations.

                  The Company  sponsors a defined  contribution  plan (401K) for
         domestic  employees.  In 1998,  the  Company  matched  50% of  employee
         contributions  up to 4% of  eligible  compensation,  subject to certain
         limitations. Total Company contributions were $345, $840 and $1,181 for
         the years ended December 31, 1996, 1997 and 1998, respectively.

                  The Company  provides certain  postretirement  health care and
         life insurance  benefits for qualifying  employees in the United States
         and Canada.  Substantially  all of these  employees may become eligible
         for coverage.  Most  retirees  outside the United States and Canada are
         covered by government sponsored and administered programs.

                  The following  table sets forth the amounts  recognized in the
         Company's  balance  sheet  at  December 31, 1997 and 1998  for  Company
         sponsored  defined  benefit  pension plans and  postretirement  benefit
         plans.

                               47
<PAGE>

14.      PENSION AND OTHER POSTRETIREMENT BENEFITS (CONTINUED)
<TABLE>

<CAPTION>
                                                                                                        POSTRETIREMENT
                                                                        PENSION BENEFITS                   BENEFITS
                                                                   ---------------------         ------------------------
                                                                   1997             1998         1997            1998
   RECONCILIATION OF PROJECTED BENEFIT OBLIGATION
<S>                                                               <C>             <C>           <C>            <C>       
     Projected benefit obligation at beginning of year            $   44,129      $   50,182    $    9,550     $   10,946
       Service cost                                                    2,185           2,393           630            668
       Interest cost                                                   3,197           3,499           685            353
       Benefits paid                                                  (1,400)         (1,778)         (226)          (289)
       Actuarial (gain) or loss                                        2,354           3,683           347         (5,621)
       Foreign exchange                                                 (283)            (10)          ---            ---
                                                                  ----------      ----------    ----------     ----------
     Projected benefit obligation at end of year                      50,182          57,969        10,986          6,057
                                                                  ----------      ----------    ----------     ----------

   RECONCILIATION OF ASSETS
     Assets at beginning of year                                      44,558          51,954           ---            ---
       Actual return on plan assets                                    8,409           7,632           ---            ---
       Employer contributions                                            279             372           226            289
       Benefits paid                                                  (1,400)         (1,778)          ---            ---
       Foreign exchange                                                  108            (405)         (226)          (289)
                                                                  ----------      ----------    ----------     ----------
     Fair value of plan assets at end of year                         51,954          57,775           ---            ---
                                                                  ----------      ----------    ----------     ----------

   ACTUARIAL PRESENT VALUE OF BENEFIT OBLIGATIONS
   Vested benefit obligation                                          38,449          45,652           ---            ---
   Accumulated benefit obligation                                     42,480          49,525        10,986          6,057
   Projected benefit obligation                                       50,182          57,969           ---            ---
   Plan assets at fair value                                          51,954          57,775           ---            ---
   Projected benefit obligation (in excess of) or less than
    plan assets                                                        1,772            (194)      (10,986)        (6,057)
   Unrecognized net (gain) or loss                                    (5,004)         (4,072)        1,264         (3,692)
   Prior service cost not yet recognized in net periodic
    benefit cost                                                         ---             ---           ---            ---
   Unrecognized net obligation (asset) existing at year end             (989)           (769)          ---            ---
                                                                   ---------        --------    ----------     ----------
   Prepaid benefit cost (liability) recognized in the
    statement of financial position                                   (4,221)         (5,035)       (9,722)        (9,749)
                                                                   ---------        --------    ----------     ----------
   Net periodic benefit cost included in the following components:
   Service cost - benefits earned during the year                      2,185           2,393           630            668
   Interest on projected benefit obligation                            3,197           3,499           685            353
   Expected return on assets                                          (4,138)         (4,682)          ---            ---
   Amortization of transitional assets at beginning of year             (205)           (204)          ---            ---
   Amortization of prior service cost at beginning of year               ---             ---           ---            ---
   Amortization of (gain)/loss at beginning of year                     (126)            (80)           (3)          (656)
                                                                   ---------        --------    ----------     ----------

   Net periodic benefit cost                                       $     913        $    926    $    1,312     $      365
                                                                   ---------        --------    ----------     ----------

   Discount rate for net periodic benefit cost                         7.50%           6.78%         7.50%          7.00%
   Discount rate for disclosure information                            7.07%           6.73%         7.00%          6.75%
   Salary increase assumption                                          4.97%           4.56%         4.75%          4.75%
   Long term rate of return on assets                                  9.35%           8.87%           ---            ---
</TABLE>

<TABLE>
<CAPTION>
                                                                                  1 PERCENTAGE        1 PERCENTAGE
                                                                                  POINT INCREASE      POINT INCREASE
                                                                                  --------------      --------------
<S>                                                                  <C>              <C>             <C>       
   Effect on total of service and interest cost components           --  1998         $   61          $     (54)
                                                                     --  1997            167                N/A
   Effect on postretirement benefit obligation                       --  1998            252               (244)
                                                                     --  1997          1,177                N/A
</TABLE>

                               48
<PAGE>

SCHEDULE II

<TABLE>

                                              DICTAPHONE CORPORATION

                                  SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS


<CAPTION>

                                                   BALANCE AT        CHARGED TO                      BALANCE
                                                    BEGINNING        COSTS AND                      AT END OF
            DESCRIPTION                             OF PERIOD         EXPENSES      DEDUCTIONS       PERIOD
            -----------                            ----------        ----------     ----------      ----------
<S>                                                 <C>              <C>             <C>             <C>      
YEAR ENDED DECEMBER 31, 1998
----------------------------
Allowance for doubtful accounts                     $    810         $   1,872       $  1,714        $     968

YEAR ENDED DECEMBER 31, 1997
----------------------------
Allowance for doubtful accounts                        1,339                72            601              810

YEAR ENDED DECEMBER 31, 1996
----------------------------
Allowance for doubtful accounts                        1,462             1,599          1,722            1,339

</TABLE>

                               49
<PAGE>

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

         None.


                                    PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

       The following  table sets forth certain  information  with respect to the
persons who are members of the Board of Directors or were executive  officers of
the Company as of March 15, 1999.

<TABLE>
<CAPTION>
NAME                              AGE    POSITION
----                              ---    --------

<S>                               <C>    <C>                                               
John H. Duerden ...............   58     Chairman, Chief Executive Officer and President
Joseph D. Skrzypczak...........   43     Chief Operating Officer and Director
Albert J. Fitzgibbons, III.....   53     Director
Emil F. Jachmann...............   52     Director
Alexis P. Michas...............   41     Director
Scott M. Shaw   ...............   36     Director
Peter P. Tong   ...............   57     Director
Joseph Delaney  ...............   53     Senior Vice President, Customer Support
Ronald A. Elwell...............   38     Senior Vice President and General Manager, Communications
                                         Recording Systems and International Operations
Daniel P. Hart  ...............   40     Senior Vice President, General Counsel and Secretary
Thomas C. Hodge ...............   53     Senior Vice President, Manufacturing and Logistics
Robert G. Schwager.............   45     Senior Vice President and General Manager, Voice Systems
</TABLE>

       The business  experience of each of the directors and executive  officers
during the past five years is as follows:

       JOHN H.  DUERDEN  has served as  Chairman,  Chief  Executive  Officer and
President  of the  Company  since  August  1995.  Mr.  Duerden  served  as Joint
President and Chief  Operations  Officer of the Reebok Brands division of Reebok
International Limited, with responsibility for global sales, finance, operations
and  production  from October 1994 to February 1995. He was a Director of Reebok
International  Limited  from  June  1991  until  April  1995.  Mr.  Duerden  was
previously  President of Worldwide  Operations for Reebok,  from January 1994 to
September  1994  and,  before  that,   President  of  the  Reebok  International
Operations  group of the Reebok Brands  division from October 1992 until January
1994.  Prior to that, Mr. Duerden was President and Chief  Executive  Officer of
the Reebok Brands division from February 1990 to September 1992 and President of
Reebok  International  Operations  from October 1988 to February 1990.  Prior to
joining Reebok,  Mr. Duerden was employed by Xerox Corporation for 20 years in a
variety of corporate and international  management positions.  In February 1997,
Mr. Duerden became a limited partner of Stonington Partners,  L.P. ("SPLP"). Mr.
Duerden is a director of Sunglass Hut International, Inc. and is on the Board of
Advisors of Outward Bound U.S.A.

                               50
<PAGE>

       JOSEPH D.  SKRZYPCZAK  has been a Director  of the Company  since  August
1995. Mr.  Skrzypczak has served as Chief Operating  Officer and Chief Financial
Officer since October 1998. Prior to being elected Chief Operating Officer,  Mr.
Skrzypczak  served as Senior Vice  President  and Chief  Financial  Officer from
October 1997 to October 1998 and served as Vice  President  and Chief  Financial
Officer from May 1994 to October 1997.  While serving in such capacity  prior to
the Acquisition,  Mr. Skrzypczak's  responsibilities covered Pitney Bowes Office
Systems,  which included the Company,  Copier Systems, and Facsimile Systems, in
which capacity he was directly  responsible for all financial and administrative
activities  of the Company.  In May 1989,  Mr.  Skrzypczak  was  appointed  Vice
President,  Finance,  Facsimile  Systems,  from which time his role  expanded to
include  finance  responsibilities  for  Copier  Systems  and  Dictaphone.   Mr.
Skrzypczak  joined Pitney Bowes in 1981 and held various  management  positions.
Prior to joining Pitney Bowes, Mr. Skrzypczak worked for Price Waterhouse. He is
a certified public accountant.

       ALBERT J. FITZGIBBONS,  III has served as a Director of the Company since
August 1995. Mr. Fitzgibbons is a Partner and a Director of Stonington Partners,
Inc.  ("Stonington  Partners"),  a  position  that he has held  since 1993 and a
Partner and a Director of  Stonington  Partners,  Inc. II  ("Stonington  II"), a
position he has held since  1994.  Mr.  Fitzgibbons  has also been a Director of
Merrill  Lynch  Capital  Partners,  Inc.  ("MLCP"),  a private  investment  firm
associated  with Merrill Lynch & Co.,  since 1988. He was a Partner of MLCP from
1993 to 1994 and  Executive  Vice  President  of MLCP  from  1988 to  1993.  Mr.
Fitzgibbons was also a Managing  Director of the Investment  Banking Division of
Merrill Lynch & Co. from 1978 to July 1994.  Mr.  Fitzgibbons is also a Director
of Borg-Warner  Security  Corporation,  Merisel,  Inc.,  United Artists  Theater
Circuit, Inc. and U.S. Foodservice.

       EMIL F.  JACHMANN  has served as a Director of the Company  since  August
1995.  Mr.  Jachmann is President  and Chief  Executive  Officer of Zen Research
Inc., which develops and markets high performance optical disc drive technology,
primarily  advanced  detection optics and chip sets. He has held these positions
since January 1995. Mr.  Jachmann was President of EFJ Associates from June 1994
to  January  1995.  From June 1991  until June  1994,  he was  President  of the
Shipping and Weighing  Systems  Division of Pitney Bowes.  Mr. Jachmann was also
President of Dictaphone Canada Ltd. from June 1990 to June 1991. Mr. Jachmann is
a Director of several privately held companies.

       ALEXIS P. MICHAS has served as Director of the Company since August 1995.
Mr.  Michas is the Managing  Partner and a Director of  Stonington  Partners,  a
position that he has held since 1993.  Mr.  Michas is also the Managing  Partner
and a Director of Stonington  II, a position he has held since 1994.  Mr. Michas
has also been a Director of MLCP since 1989,  he was a Partner of MLCP from 1993
to 1994 and Senior Vice President of MLCP from 1989 to 1993. Mr. Michas was also
a Managing  Director of the Investment  Banking  Division of Merrill Lynch & Co.
from 1991 to July 1994 and a Director  in the  Investment  Banking  Division  of
Merrill  Lynch & Co.  from 1990 to 1991.  Mr.  Michas is also a Director of Blue
Bird   Corporation,   Borg-Warner   Automotive,   Inc.,   Borg-Warner   Security
Corporation, Goss Graphics Systems, Inc., Packard BioScience Company and several
privately held companies.

       SCOTT M. SHAW has served as a Director of the Company  since August 1995.
Mr. Shaw is a Partner of Stonington  Partners, a position that he has held since
February 1999. Prior to being elected Partner,  Mr. Shaw had been a Principal of
Stonington  Partners  since 1993. Mr. Shaw was an Associate of MLCP from 1991 to
July 1994 and an  Analyst  of MLCP from 1986 to 1989.  Mr.  Shaw was also a Vice
President of the Investment Banking Division of Merrill Lynch & Co. from January
to July 1994, an Associate of the Investment Banking Division of Merrill Lynch &
Co.  from 1991 to 1994,  and an Analyst of the  Investment  Banking  Division of
Merrill  Lynch & Co.  from 1986 to 1989.  Mr.  Shaw is also a  Director  of Goss
Graphic Systems, Inc., United Artists Theater Circuit, Inc. and a privately held
company.

       PETER P. TONG has  served as a Director  of the  Company  since  February
1997. Mr. Tong is President of Mandarin Partners LLC, an investment partnership.
Mr. Tong was a private  investor  from 1996 to 1997.  From  January  1996 to May
1996,  Mr. Tong served as the  Co-President  of Marquette  Electronics,  Inc., a
manufacturer  of medical  equipment.  From 1991 to 1996, he served as President,
Chairman  and Chief  Executive  Officer of E for M  Corporation.  Mr.  Tong is a
Director of Packard BioScience Company and is also on the Boards of Directors of
several privately held companies.

                               51
<PAGE>

       JOSEPH  DELANEY has served as Senior  Vice  President,  Customer  Support
since October 1998.  From October 1997 to October 1998,  Mr.  Delaney  served as
Senior Vice President, Customer Service Operations and from June 1997 to October
1997 served as Vice President, Customer Service Operations. From January to June
1997,  Mr.  Delaney  served  as  acting  Vice  President  of  Customer   Service
Operations.  Mr.  Delaney  joined  Dictaphone  Corporation in December 1968 as a
service representative in Detroit, Michigan. Since that time he has held various
positions of  responsibility  with  Dictaphone.  Mr.  Delaney served as District
Service  Manager in Detroit,  Michigan from June 1976 to October 1990 and served
as Regional  Service  Director,  Southern  Region from  November 1990 to January
1997.

       RONALD A. ELWELL has served as Senior Vice President and General Manager,
Communications  Recording  Systems and  International  Operations  since October
1998.  From  October  1997 to October  1998,  Mr.  Elwell  served as Senior Vice
President and General Manager, Communications Recording Systems, and from August
1997 to October  1997 as Vice  President  and  General  Manager,  Communications
Recording Systems.  From April 1996 to August 1997, he served as Vice President,
Marketing and Product  Development for the Company and served as Vice President,
Product  Development  and  Engineering for Dictaphone from January 1996 to April
1996. Mr. Elwell joined Dictaphone Corporation in December 1983. Since that time
he has held various  positions of  responsibility  with  Dictaphone.  Mr. Elwell
served as District  Manager in  Harrisburg,  Pennsylvania  from 1988 to 1992 and
served as General Manager of Dictaphone  Canada from 1992 to November 1995. From
November  1995  to  January  1996,  he was a  Vice  President  in the  Company's
Marketing department.

       DANIEL P. HART has served as Senior Vice President and General Counsel of
the Company since October 1997 and Vice President, General Counsel from November
1995 to October  1997.  Mr. Hart is also  responsible  for the  Company's  human
resources department and business development activities. Mr. Hart has served as
Secretary of the Company since November 1995. From 1993 to 1994, Mr. Hart served
as General  Counsel of Brooke Group Ltd. and certain of its  affiliates and from
1988 to 1993 served as Associate General Counsel of such companies. Mr. Hart was
a consultant and private investor from 1994 to 1995.

       THOMAS C. HODGE has served as Senior Vice  President,  Manufacturing  and
Logistics  since October 1997.  From June 1989 to October 1997, Mr. Hodge served
as Vice  President,  Operations  Manufacturing  for the  Company's  facility  in
Melbourne,  Florida.  Prior to June  1989,  Mr.  Hodge  held  various  positions
throughout the manufacturing  facility.  Mr. Hodge joined Dictaphone Corporation
in October 1978 as the Production Control Manager.

       ROBERT G.  SCHWAGER  has  served as Senior  Vice  President  and  General
Manager,  Voice Systems since October 1998. Mr.  Schwager  served as Senior Vice
President and General  Manager,  Integrated  Health Systems from October 1997 to
October 1998, and from August 1997 to October 1997 as Vice President and General
Manager,  Integrated  Health  Systems.  From October  1995 to August  1997,  Mr.
Schwager served as Vice President,  Sales Operations,  North America, and served
as Vice President, Sales for Communications Recording Systems from February 1994
to October 1995. Mr. Schwager joined  Dictaphone  Corporation in 1978 as a Sales
Representative in the Milwaukee  District Office. He progressed  through various
sales management  positions to that of Regional Sales Vice President in 1988. In
1989,  Mr.  Schwager  joined  the  Company's  headquarters  staff  as  the  Vice
President,  Marketing.  Mr.  Schwager  was also  responsible  for the  Company's
international operations from September 1992 to March 1996.

                               52
<PAGE>

       Messrs.  Fitzgibbons,  Michas  and Shaw  serve as  members  of the  Audit
Committee and the Compensation Committee (the "Compensation Committee"). Each of
Messrs.  Fitzgibbons,  Michas and Shaw is an employee of Stonington Partners and
serves  on  the  Board  of  Directors  of the  Company  as a  representative  of
Stonington.

       The Company's  directors are elected to serve until their successors have
been elected and  qualified.  Other than Mr.  Jachmann and Mr. Tong who earned a
$25,000  fee in 1998,  no member of the Board  received  any annual  retainer or
meeting  fees.  All  members  of the  Board  of  Directors  are  reimbursed  for
out-of-pocket  expenses  incurred in connection  with meeting  attendance.  Each
officer of the Company serves at the pleasure of the Board of Directors, subject
the terms of any existing employment agreement.

       There are no family relationships among any of the directors or executive
officers of the Company.

ITEM 11. EXECUTIVE COMPENSATION

EXECUTIVE COMPENSATION

       The following table sets forth  information  concerning  compensation for
services  in all  capacities  awarded  to,  earned by or paid to each person who
served as the Company's  President and Chief  Executive  Officer during 1998 and
the four other most highly compensated executive officers of the Company,  whose
aggregate cash and cash equivalent  compensation  exceeded  $100,000 (the "named
executives") during 1998.

<TABLE>
<CAPTION>
                                            SUMMARY COMPENSATION TABLE

                                       ANNUAL COMPENSATION                      LONG-TERM COMPENSATION
                               ----------------------------------------- ---------------------------------------------
                                                                           AWARDS         PAYOUTS
                                                                           ------         -------
                                                              OTHER       SECURITIES    LONG-TERM
    NAME AND                                                 ANNUAL      UNDERLYING   INCENTIVE PLAN     ALL OTHER
PRINCIPAL POSITION       YEAR  SALARY ($)  BONUS ($)  COMPENSATION(1)($) OPTIONS (#)    PAYOUTS ($)   COMPENSATION ($)
------------------       ----  ----------  ---------  ------------------ -----------  --------------  ----------------

<S>                      <C>  <C>          <C>             <C>             <C>             <C>            <C>        
John H. Duerden          1998 $1,033,269   $497,500        $199,844            ---          ---           $285,893(3)
 Chairman, President     1997    985,981    497,500          95,713        325,000          ---            172,540
 and Chief Executive     1996    660,000    660,000         108,407            ---          ---            142,024
 Officer

Joseph D. Skrzypczak,    1998    298,269    395,000(2)       41,863         20,000          ---             45,067(3)
 Chief Operating         1997    239,171    137,500          12,455            ---          ---             17,047
 Officer                 1996    167,607    140,791          11,828            ---          ---             15,365

Robert G. Schwager,      1998    259,616    277,787             ---            ---          ---              3,579(3)
 Senior VP & General     1997    199,796     77,500             ---            ---          ---                837
 Manager, Voice          1996    184,377    106,933             ---            ---          ---                100
 Systems

Daniel P. Hart,          1998    228,462     65,000             ---          3,000          ---              4,188(3)
 Senior VP and           1997    172,669     77,000             ---          7,000          ---              2,690
 General Counsel         1996    122,500     59,450             ---            ---          ---                100

Ronald A. Elwell,        1998    271,635        ---             ---            ---          ---              5,100(3)
 Senior VP & General     1997    191,333     77,500             ---         15,000          ---              2,970
 Manager, Communica-     1996    151,389     77,760          88,501            ---          ---              1,229
 tions Recording Systems
 and International Opera-
 tions
</TABLE>
         --------------------------------


(1)   The amounts  reported  in this column for 1998,  1997 and 1996 for each of
      Messrs.  Duerden and Skrzypczak reflect tax gross ups made by the Company.
      The  amounts  reported  in this  column  for Mr.  Elwell in 1996  includes
      $22,916 in relocation expenses and $65,585 of tax gross-up.  The aggregate
      value of the perquisites and other personal  benefits  received by each of
      Messrs. Duerden, Skrzypczak, Schwager and Hart in 1998, 1997 and 1996, and

                               53
<PAGE>
      for Mr. Elwell in 1998 and 1997 have not been reflected because the amount
      was below the  Securities  and Exchange  Commission's  (the  "Commission")
      threshold for disclosure  (i.e., the lesser of $50,000 or 10% of the total
      of annual salary and bonus for such officer).

(2)   Includes a one time payment in the amount of $250,000  paid in  connection
      with the termination of prior employment  agreements.  See "Employment and
      Consulting Agreements."

(3)   The compensation reflected in this column for 1998 is comprised of Company
      contributions  to  the  Company's  Deferred  Savings  Plan,   supplemental
      contributions  under supplemental  benefits  arrangements and Company paid
      life insurance premiums.  Specifically, these amounts for fiscal 1998 were
      $0, $235,054 and $50,839 for Mr. Duerden; $2,523, $42,361 and $183 for Mr.
      Skrzypczak;  $3,479, $0 and $100 for Mr. Schwager; $4,023, $0 and $165 for
      Mr. Hart; and $5,000, $0 and $100 for Mr. Elwell.

STOCK OPTION GRANTS

       The following table sets forth information regarding grants of options to
purchase  Common Stock during the fiscal year ended December 31, 1998 to each of
the named executives. No stock appreciation rights were granted during 1998.

<TABLE>
<CAPTION>
                                               OPTION GRANTS IN 1998

                                                 INDIVIDUAL GRANTS
                       -----------------------------------------------------------------

                                                                                               POTENTIAL REALIZABLE VALUE
                                                                                                    AT ASSUMED ANNUAL
                          NUMBER OF         PERCENT OF                                            RATES OF STOCK PRICE
                         SECURITIES        TOTAL OPTIONS                                            APPRECIATION FOR
                         UNDERLYING         GRANTED TO        EXERCISE                               OPTION TERM (3)
                           OPTIONS         EMPLOYEES IN       PRICE ($/       EXPIRATION      ---------------------------
                         GRANTED(#)           1998(1)         SHARE)(2)          DATE            (5%)             (10%)
                         ----------           -------         ---------       ----------         ----             -----

NAME
<S>                       <C>                 <C>               <C>            <C>              <C>           <C>      
John Duerden............         ---            ---                 ---              ---              ---           ---
Joseph D. Skrzypczak....   20,000(4)            14%              $10.00         11/20/08         $325,779      $518,748
Robert G. Schwager......         ---            ---                 ---              ---              ---           ---
Daniel P. Hart..........    3,000(4)             2%               10.00          1/30/08           48,867        77,812
Ronald A. Elwell........         ---            ---                 ---              ---              ---           ---
</TABLE>
--------------------------------

(1)   The  Company  granted  options to  purchase  a total of 141,500  shares of
      Common Stock in 1998.

(2)   Each of the Company's  stock options were granted at the fair market value
      on the  date of  grant.  The fair  market  value  of the  Common  Stock on
      December  31, 1998 was $10.00 (as  determined  by the  Company's  Board of
      Directors).

(3)   Amounts reported in these columns  represent  amounts that may be realized
      upon exercise of options immediately prior to the expiration of their term
      assuming the specified  compounded  rates of appreciation  (5% and 10%) on
      the Common Stock over the term of the options. These assumptions are based
      on rules  promulgated  by the  Commission and do not reflect the Company's
      estimate of future stock price appreciation.  Actual gains, if any, on the
      stock  option  exercises  and common stock  holdings are  dependent on the
      timing of such  exercise  and the  future  performance  of the  underlying
      common  stock.  There can be no assurance  that the rates of  appreciation
      assumed in this table can be achieved or that the amounts  reflected  will
      be received by the option holder.

                               54
<PAGE>

(4)      One-half of the options  granted  vest  automatically  over a five year
         period and, of the other half,  6% were  retroactively  vested on April
         15, 1996,  0% were vested on April 15, 1997 and 1998, 0% will be vested
         on April 15, 1999 and the remaining will become eligible for vesting as
         to an additional 20% on April 15, 2000, with the remaining 10% on April
         15,  2001  if  the  Company  attains  certain  predetermined  financial
         performance goals.

OPTION EXERCISES AND YEAR-END VALUE TABLE

       The  following  table sets forth  information  regarding  the exercise of
stock  options  during  fiscal  1998  and the  number  and  year  end  value  of
unexercised  options held at December 31, 1998 by each of the named  executives.
No stock  appreciation  rights were  exercised  by the named  executives  during
fiscal 1998.

<TABLE>
<CAPTION>
                                     AGGREGATE OPTION EXERCISES IN FISCAL 1998
                                           AND FISCAL 1998 OPTION VALUES


                                                                                                    VALUE OF UNEXERCISED
                                                                  NUMBER OF SECURITIES                 IN-THE-MONEY(1)
                              SHARES                             UNDERLYING UNEXERCISED                   (OPTIONS)
                            ACQUIRED ON         VALUE        OPTIONS AT FISCAL YEAR-END (#)        AT FISCAL YEAR-END ($)
                           EXERCISE (#)     REALIZED ($)        EXERCISABLE/UNEXERCISABLE         EXERCISABLE/UNEXERCISABLE
                           ------------     ------------        -------------------------         -------------------------
NAME
----
<S>                              <C>          <C>                      <C>                              <C>        
John H. Duerden...........         ---             ---             177,633/357,367(2)                     $0/$0(4)
Joseph D. Skrzypczak......         ---             ---              14,850/50,150(2)                       0/0(4)
Robert G. Schwager........         ---             ---              14,850/30,150(2)                       0/0(4)
                                 3,900        $167,206                 4,000/0(3)                       182,188/0(5)
Daniel P. Hart............         ---             ---                11,300/28,700(2)                     0/0(4)
Ronald A. Elwell..........         ---             ---              12,900/32,100(2)                       0/0(4)
                                   468          15,049                   0/0(3)                            0/0(5)
</TABLE>
-----------------------------
(1)      Options are  "in-the-money"  if the fair market value of the underlying
         securities exceeds the exercise price of the options.

(2)      Represents options granted under the Company's Management Stock  Option
         Plan.

(3)      Represents  options  granted  under the Pitney  Bowes Stock Option Plan
         during the period 1985 through 1996.  The numbers have been adjusted to
         give  effect to the 1986,  1992 and 1998  two-for-one  stock  splits of
         Pitney Bowes stock.

(4)      The amounts  set forth  represent  the  difference  between  $10.00 per
         share, the fair market value of the Common Stock issuable upon exercise
         of  options  at  December  31,  1998  (as  determined  by the  Board of
         Directors),  and the exercise  price of the option,  multiplied  by the
         applicable number of options.

(5)      The amounts  set forth  represent  the  difference  between  $66.06 per
         share, the fair market value of Pitney Bowes common stock issuable upon
         exercise of options at December 31, 1998 and the exercise  price of the
         Pitney Bowes option, multiplied by the applicable number of options.

                               55
<PAGE>

PENSION PLANS

       The Company currently  maintains a non-contributory  pension plan for all
employees (the "Pension Plan").  As of December 31, 1998, the estimated  pension
benefits  payable to the named  executives  are as set forth below.  The Pension
Plan  provides  monthly  benefits  at age 65 equal to the sum of (i) for service
before January 1, 1988, 0.75% of the participant's  average annual earnings from
1983 through 1987 up to $18,000 plus 1.25% of the  participant's  average annual
earnings from 1983 to 1987 above $18,000  multiplied by the participant's  years
of  credited  service  before  January 1, 1988 and (ii) for each year of service
after January 1, 1988, 1% of the participant's  annual earnings for each year up
to the Social  Security Wage Base (as defined) for that year plus 1.5% of annual
earnings  above the Social  Security  Wage Base for that year.  Annual  earnings
includes overtime pay, incentive pay and bonuses, but excludes reimbursements of
other expense allowances, fringe benefits or moving expenses. Employees' pension
rights vest after five years of service.  Benefits are also available  under the
Pension Plan upon early or deferred  retirement.  The projected  annual  benefit
under the qualified  pension plan at age 65 assuming no future increases in pay,
the social  security  wage base and Internal  Revenue Code (the "Code")  Section
401(a)(17)  limits  and  with  no  provision  for  the  Supplemental   Executive
Retirement Plan ("SERP") for the named  executives is as follows:  Mr. Duerden -
$20,474;  Mr. Skrzypczak - $54,219;  Mr. Schwager - $73,572; Mr. Hart - $57,379;
and Mr.  Elwell - $70,360.  The  projected  annual  benefit  under the qualified
pension plan at age 65 assuming a 3% future increase in pay, the Social Security
Wage Base and Code Section  401(a)(17) limits and with no provision for the SERP
for the named executives is as follows:  Mr. Duerden - $22,036; Mr. Skrzypczak -
$73,008; Mr. Schwager - $88,658; Mr. Hart - $82,694; and Mr. Elwell - $98,107.

       The following table sets forth the estimated  annual  benefits,  based on
the indicated  credited years of service and the indicated average  compensation
used in calculating benefits,  assuming a normal retirement at age 65, no future
increases in pay,  the Social  Security  Wage Base and Code  Section  401(a)(17)
limits and with no provision for the SERP implemented by the Company.

<TABLE>
<CAPTION>
                                               RETIREMENT PLAN TABLE

                                                                         YEARS OF SERVICE
                                                 -------------------------------------------------------------
AVERAGE ANNUAL COMPENSATION                        15            20             25          30            35
---------------------------                      -------       -------       -------      -------      -------
<S>                                              <C>           <C>           <C>          <C>          <C>    
$   130,000..................................    $24,120       $32,160       $40,200      $48,240      $56,280
    160,000..................................     30,870        41,160        51,450       61,740       72,030
</TABLE>

SUPPLEMENTAL EXECUTIVE RETIREMENT PLAN

       The Company  adopted the SERP for certain  executive  officers during the
first  quarter of 1997 with benefits  determined  on a  retroactive  basis as of
January 1, 1996.  Benefits  under the SERP accrue  without regard to limitations
imposed  by Code  Sections  401(a)(17)  and 415 and are  offset  by any  benefit
accrued  under the Pension  Plan.  Participants  rights vest after five years of
service.

EMPLOYMENT AND CONSULTING AGREEMENTS

       On August 9, 1995, the Company entered into an employment  agreement with
John  Duerden  pursuant  to which  Mr.  Duerden  agreed  to  serve as  Chairman,
President and Chief Executive  Officer of the Company for an initial  employment
term of two years (which term is automatically  extended for additional two-year
terms unless  affirmatively  terminated  by either the Company or Mr.  Duerden).
Pursuant to an amendment to Mr. Duerden's employment agreement, dated January 1,
1997 (as amended,  the  "Employment  Agreement"),  effective as of such date his
annual base salary was  increased  to  $995,000.  In  addition,  Mr.  Duerden is
eligible to receive an annual cash bonus ranging from $497,500 to $995,000 based
upon the attainment of certain personal and budgeted performance  objectives for
the Company as determined by the Board of Directors.

                               56
<PAGE>

       Mr.  Duerden's  Employment  Agreement also provides that if he terminates
his  employment  without  Good Cause (as defined  therein) he will not,  for two
years either (i) directly or indirectly,  in any capacity, engage or participate
in, or become  employed by or under  advisory or consulting or other services in
connection with any Prohibited  Business (as  hereinafter  defined) or (ii) make
any  financial  investment,  whether  in the form of equity or debt,  or own any
interest,  directly or indirectly,  in any Prohibited Business.  Notwithstanding
the foregoing,  Mr. Duerden is not restricted  from making any investment in any
company  whose  stock is listed on an American  securities  exchange or actively
traded in the  over-the-counter  market and has sales in excess of $500 million;
provided that (i) such investment does not give Mr. Duerden the right or ability
to control or influence the policy  decisions of any  Prohibited  Business,  and
(ii)  such  investment  does not  create a  conflict  of  interest  between  Mr.
Duerden's  duties  under  the  Employment  Agreement  and his  interest  in such
investment. For purposes of the Employment Agreement "Prohibited Business" means
any dictation  product or  communications  recording  systems  business  located
within,  or  providing  service to any area located  within,  any state or other
jurisdiction  to  which  the  Company  (or  any  of its  subsidiaries)  provides
dictation  products or communications  recording  systems  services,  or located
within, or providing  service to any area located within,  any other area within
the United States.

       Pursuant to the Employment Agreement, if Mr. Duerden is terminated by the
Company  without  Cause or if he resigns for Good  Reason (as  defined  therein)
during the term of the agreement,  Mr. Duerden is entitled to receive a lump sum
payment  equal to two times his base  salary.  Mr.  Duerden is not  entitled  to
receive  severance in connection with a termination for Cause or resignation for
other  than  Good  Reason.  Upon a  termination  of  employment  due to death or
Disability (as defined  therein),  the Company is required to pay Mr. Duerden or
his estate, as the case may be, an amount equal to the sum of the accrued annual
base salary as of the date of death or Disability  and the accrued unpaid annual
bonus,  if any, for the fiscal year prior to the date of death or Disability and
a  pro-rata  portion of the  annual  bonus  accrued to the date of such death or
Disability.

       Mr. Duerden's  Employment  Agreement also includes a provision  requiring
the Company to establish  an annual  deferred  annuity  bonus  arrangement  (the
"Deferred Annuity Bonus  Arrangement") on his behalf.  The Company finalized the
Deferred Annuity Bonus Arrangement in February 1997. The intended annual benefit
to Mr. Duerden under the terms of the Deferred  Annuity Bonus  Arrangement is an
amount which is estimated to be equal to  two-thirds  of his average base salary
over the final three years of his employment  (reduced by amounts  receivable by
him from certain other pensions,  profit sharing accounts and Social  Security).
Benefits under the Deferred Annuity Bonus Arrangement are payable to Mr. Duerden
annually and are to be utilized by him for the  purchase of an annuity  contract
chosen and owned by him. As the owner of the annuity  contract,  Mr. Duerden has
the sole power to direct the investment  funds held.  The actual  benefits under
the annuity contract are dependent upon Mr. Duerden's investment  decision.  Mr.
Duerden's  entitlement to benefits under the Deferred Annuity Bonus  Arrangement
vest in increments of one-twelfth for each full year of employment from his date
of hire.

       As part of his  employment  arrangement,  Mr.  Duerden agreed to purchase
70,000 shares of the Company's Common Stock.  Mr. Duerden  purchased such shares
on  August  11,  1995  with  funds  provided  by  the  Company  pursuant  to  an
interest-bearing  non-recourse loan in the amount of $350,000.  Mr. Duerden also
received  210,000  options  under  the  Plan  (as  hereinafter   defined).   See
"Management  Stock Option Plan".  The 1995 options  granted to, and Common Stock
purchased by, Mr.  Duerden are subject to the same  conditions as apply to other
Management Investors (as hereinafter defined), as described in the "Stockholders
Agreement" (as hereinafter  defined).  Pursuant to the January 1, 1997 amendment
to the  Employment  Agreement,  the Company  granted Mr.  Duerden an  additional
325,000  stock  options  which  options were granted on August 1, 1997 and which
vest in one-third  increments  on the first three  anniversaries  of the date of
grant.  These  options,  which have an exercise  price of $10.00 per share,  are
subject to the Plan.

       The Company has entered into a letter  employment  agreement with each of
Messrs. Skrzypczak,  Schwager Hart and Elwell. The agreements have no fixed term
of employment.  In the event of an involuntary  termination of employment by the
Company for any reason  other than for cause (as  defined),  Mr.  Skrzypczak  is
entitled to receive salary  continuation for twenty-four months  irrespective of
subsequent  employment  status and  payable  in  accordance  with the  Company's
existing  payroll  practices.  In the  event of an  involuntary  termination  of
employment  by the  Company for any reason  other than for cause or  substantial
underperformance  (as  defined),  Mr.  Hart  is   entitled   to  receive  salary

                               57
<PAGE>

continuation  for  eighteen  months  after  termination  of  employment  without
mitigation and irrespective of subsequent  employment  status. At the conclusion
of the eighteen months of salary continuation, if Mr. Hart has not secured other
employment  at that time,  the Company will extend  salary  continuation  for an
additional six months,  on a  month-by-month  basis, as long as Mr. Hart,  using
reasonable  efforts,  has not  secured  other  employment.  Upon an  involuntary
termination  of employment by the Company for any reason other than for Cause or
for Substantial  Underperformance (as defined),  Mr. Schwager and Mr. Elwell are
entitled  to receive  salary  continuation  for a minimum of one year after such
termination  of  employment.  After the  conclusion  of the first year of salary
continuation,  if Messrs.  Schwager or Elwell have not secured other employment,
the Company has agreed to extend,  for a maximum of 12 additional  months,  such
salary continuation on a month-by-month basis as long as the respective officer,
using reasonable  efforts,  has not secured other employment.  In addition,  the
Company's  practice and policy is that, if a Senior Vice President's  employment
is terminated without cause, such officer is also entitled to receive any earned
and unpaid annual bonus amounts,  including a pro-rated amount in respect of the
year in which termination  occurs. In addition,  Mr. Skrzypczak's bonus for 1998
was  guaranteed to be not less than fifty  percent (50%) of his base salary.  In
October 1998, Mr. Skrzypczak entered into a new letter employment agreement with
the Company,  the severance terms of which are reflected above. In addition,  in
consideration   of  the  termination  of  Mr.   Skrzypczak's   prior  employment
agreements,  the Company paid Mr.  Skrzypczak the sum of $250,000 (which sum has
been included in the Summary Compensation Table).

       Each of Messrs.  Skrzypczak,  Schwager, Hart and Elwell are also entitled
to receive senior executive  outplacement  services from a nationally recognized
outplacement firm and are entitled to continue to participate in medical, dental
and life insurance plans,  under the same terms and conditions as when they were
employed by the Company, until the earlier of the commencement of new employment
or the  twelve  month  anniversary  of the date of  termination  of  employment.
Messrs. Skrzypczak, Schwager, Hart and Elwell are entitled to elect to receive a
cash amount equal to the cost of the above  mentioned  outplacement  services in
lieu thereof.  Each of Messrs.  Skrzypczak,  Schwager,  Hart and Elwell are also
entitled to an  additional  six-month  period of medical  insurance  coverage as
required under Section 498B of the Code.

       The Company has entered into a supplemental compensation arrangement with
Mr. Skrzypczak. The arrangement provides benefits under a supplemental executive
retirement  arrangement  without regard to any  limitations  under Code Sections
401(a)(17) and 415 and will be reduced by amounts  receivable by Mr.  Skrzypczak
from certain other pensions. Mr. Skrzypczak is 100% vested in his benefits under
this arrangement.

       In November  1995, the Company  entered into a consulting  agreement with
Mr. Jachmann, a director of the Company. Pursuant to the terms of the agreement,
Mr.  Jachmann  agreed to act as a consultant to the Company for an original term
of one year, August 11, 1995 through August 11, 1996.  Although a new consulting
agreement  has not been  executed,  the  Company  has  continued  to utilize Mr.
Jachmann's  services  on  a  month-by-month  basis.  In  consideration  for  his
consulting  services,  Mr.  Jachmann  receives  $3,000 per day. During 1998, Mr.
Jachmann received $15,000 for consulting services. Mr. Jachmann is also entitled
to receive $25,000 for services as a Director.

       In April 1997, the Company  entered into a consulting  agreement with Mr.
Tong, a Director of the Company.  In consideration for his consulting  services,
Mr. Tong receives  $1,500 per day.  During 1998, Mr. Tong received no income for
consulting  services.  Mr. Tong is also entitled to receive $25,000 for services
as a Director.

MANAGEMENT STOCK OPTION PLAN

       On August 11, 1995, the Company adopted the Management Stock Option Plan,
which was  amended on April 27,  1996 and on August 1, 1997  (collectively,  the
"Plan"), pursuant to which officers, key employees and non-employee directors of
the Company (the  "Participants")  may be granted  options to purchase shares of
Common  Stock.  The  Compensation  Committee  of the Board of  Directors  of the
Company (the "Committee") has the discretion to select those to whom options are
granted (from among those  eligible) and to determine  the exercise  price,  the
duration and other terms and conditions of the options. The Plan also allows the
Committee to determine  whether options granted are to be "Service  Options" (as
hereinafter defined).  The Committee has the authority to interpret and construe
the Plan and any interpretation or construction of the provisions of the Plan or
of any options granted under the Plan by the Committee are final and conclusive.

                               58
<PAGE>

       The Plan provides  that Service  Options will vest  automatically  over a
five-year  period (20% of the  options  vesting  each year) and the  Performance
Options will vest as to specified  percentages  over a five-year period based on
predetermined  financial  performance  goals. As to all outstanding  Performance
Options  granted prior to 1996, 10% were eligible for vesting on April 15, 1996,
20% were  eligible  for vesting on each of April 15, 1997 and April 15, 1998 and
the remaining  options  become  eligible for vesting as to an additional  20% on
each of April 15, 1999 and 2000,  with the remaining  10% becoming  eligible for
vesting on April 15, 2001. For all subsequent Performance Option grants, 20% are
eligible  for  vesting  on each  April 15,  based on the  Company's  prior  year
performance,  in any case,  no later than  August 11,  2005,  provided  that the
applicable  Participant continues to be employed or continues as a member of the
Board.  Based on the Company's  performance  in 1995,  1996,  1997 and 1998, the
Company's Board of Directors  determined that the following eligible Performance
Options would vest:  60% on April 15, 1996, 0% on April 15, 1997 and 0% on April
15, 1998. In addition,  the Board has  determined  that no eligible  Performance
Options will vest on April 15, 1999. Performance Options which are not vested on
each of the April 15 vesting  dates remain  eligible  for future  vesting by the
Board if the Company reaches certain  enterprise  values. In the event of a Sale
or an IPO (as defined therein) of the Company,  all outstanding unvested Service
and Performance  Options will become immediately vested and exercisable prior to
the  effective  date of such  Sale or IPO  and  appropriate  provisions  will be
required  to be made by the  Company to permit the holders of options to realize
the value of his or her options in connection  with such Sale or IPO to the same
extent as if he or she had exercised such options in full  immediately  prior to
the effective date of such Sale or IPO and participated therein.

       The terms and  conditions  of an option  grant are set forth in a related
option agreement (the "Option  Agreement").  Options granted under the Plan will
terminate upon the earliest to occur of (a) the tenth anniversary of the date of
the Option  Agreement;  (b) the date on which the Company acquires any shares of
Common Stock or options held by the  Participant in connection with the exercise
of a Put or Call  Right (as  defined  in the  Stockholders  Agreement);  (c) the
six-month  anniversary  of the  date of  death of the  Participant;  (d)  unless
otherwise provided in an agreement between the Participant and the Company,  the
thirty-day anniversary of the date of the Participant's Retirement or Disability
(as defined  therein);  and (e) immediately upon a Participant's  termination of
employment or  directorship  other than due to death,  Retirement or Disability;
provided  that  the  term  of the  option  may be  extended  in the  event  of a
termination  of an  option  under  (c),  (d) or  (e)  above  if the  Participant
exercises a Put Right  prior to the time the option  would  otherwise  terminate
under (c), (d) or (e) above and a  Restriction  (as defined in the  Stockholders
Agreement)  prevents the Company from purchasing the options pursuant to the Put
Right.  Payment of the option exercise price may be made in cash or Common Stock
which has been held by the  Participant  for more than six months.  The Board or
Compensation  Committee  may also,  in its sole  discretion,  cancel  the vested
portion  of an option or  options  held by a  Participant  whose  employment  or
directorship  has  terminated in exchange for a cash payment equal to the excess
of the Fair Value  Price (as  defined in the Plan) of the option over the option
exercise  price,  multiplied  by the number of shares of Common Stock subject to
such cancelled options,  or may cancel any outstanding options in exchange for a
cash  payment to a  Participant  equal to the excess of the Fair Value Price (as
defined in the Plan) of the option over the option exercise price, multiplied by
the number of shares of Common Stock subject to such cancelled  options,  or may
cancel any  outstanding  options in exchange for a cash payment to a Participant
equal to the excess of the fair market value of the  consideration  received for
Stonington   Shares  by  the  Stonington   Investor  (each  as  defined  in  the
Stockholders  Agreement)  in any sale of all of the then issued and  outstanding
Stonington Shares over the exercise price of the option multiplied by the number
of shares of Common Stock subject to such cancelled options.

       The  maximum  number of shares of Common  Stock  that are  available  for
options under the Plan is currently  1,200,000  shares. If options granted under
the Plan expire or terminate  without having been exercised in full or cancelled
in exchange for a cash or other payment,  the shares covered by such option will
again be available for grant under the Plan. In the event of the  declaration of
a stock  dividend,  or a  reorganization,  merger,  consolidation,  acquisition,
disposition,  separation,  recapitalization,  stock split,  split-up,  spin-off,
combination or exchange of any shares of Common Stock or like event,  the number
or  character of the shares  subject to the option or the exercise  price of any
option may be appropriately adjusted as deemed appropriate by the Committee.

       The Plan terminates upon, and no options may be granted after, August 11,
2005,  unless the Plan has sooner  terminated  due to grant and full exercise or
cancellation  of options  covering all the shares  available for grant under the
Plan.  The  Board  may at any time  amend,  suspend  or  discontinue  the  Plan;

                               59
<PAGE>

provided, however, that the Board may not alter, amend, discontinue or revoke or
otherwise impair any outstanding options granted under the Plan and which remain
unexercised  in a manner  adverse to the holders of the  options,  except if the
written consent of such holder is obtained.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
         MANAGEMENT

       The following  sets forth certain  information  regarding the  beneficial
ownership of the Common Stock as of March 15, 1999,  by (i) each person known to
the Company to own beneficially more than 5% of the outstanding shares of Common
Stock, (ii) each director of the Company,  (iii) each named executive,  and (iv)
all executive officers and directors of the Company, as a group.

<TABLE>
<CAPTION>
                                                                         AMOUNT AND NATURE
NAME AND ADDRESS                                                           OF BENEFICIAL        PERCENTAGE
OF BENEFICIAL OWNER                                                        OWNERSHIP (1)         OF CLASS
-------------------                                                      -----------------      ----------
<S>                                                                        <C>                    <C>   
Stonington Capital Appreciation 1994 Fund, L.P.(2)................         14,803,000              97.4%
   767 Fifth Avenue
   New York, New York  10153
John H. Duerden(3)................................................            247,633               1.6%
Joseph D. Skrzypczak(3)...........................................             29,850               *
Robert G. Schwager(3).............................................             29,850               *
Daniel P. Hart(3).................................................             19,300               *
Ronald A. Elwell(3)...............................................             22,900               *
Albert J. Fitzgibbons, III(4).....................................         14,803,000              97.4%
Emil F. Jachmann..................................................             10,000               *
Alexis P. Michas(4)...............................................         14,803,000              97.4%
Peter P. Tong.....................................................             10,000               *
Scott M. Shaw(4)..................................................         14,803,000              97.4%
Directors and executive officers as a group ((15) persons)(4)(5)..         15,201,253             100.0%
</TABLE>
----------------------------
*     Represents  beneficial  ownership  of  less  than 1% of the
      outstanding shares of Common Stock.

(1)   Beneficial  ownership  is  determined  in  accordance  with the  rules and
      regulations  of  the  Commission.   In  computing  the  number  of  shares
      beneficially  owned  by a  person  and the  percentage  ownership  of that
      person, shares of Common Stock subject to options, warrants or convertible
      securities  held  by  that  person  that  are  currently   exercisable  or
      convertible,  or exercisable  or  convertible  within 60 days of March 15,
      1999  are  deemed  outstanding.  Such  shares,  however,  are  not  deemed
      outstanding  for the purposes of  computing  the  percentage  of any other
      person.   Except  as  indicated  in  the  footnotes  to  this  table,  the
      stockholders named in the table have sole voting and investment power with
      respect to the shares set forth opposite such stockholder's name.

(2)   Stonington is the record holder of 14,653,000  shares, or 96.4%, of Common
      Stock. Stonington also controls, but disclaims beneficial ownership of, an
      additional 150,000 shares purchased by an institutional investor, pursuant
      to the Stockholder Agreement. Stonington is a Delaware limited partnership
      whose limited partners consist of certain institutional investors,  formed
      to invest in  corporate  acquisitions  organized by  Stonington  Partners.
      SPLP, a Delaware limited partnership, is the general partner of Stonington
      with a 1%  economic  interest  in  Stonington.  Except  for such  economic
      interest,  SPLP  disclaims  beneficial  ownership  of the shares set forth
      above.  Stonington II, a Delaware  corporation,  is the general partner of
      SPLP  with a 1%  economic  interest  in SPLP.  Except  for  such  economic
      interest,  Stonington II disclaims  beneficial ownership of the shares set
      forth  above.   Stonington  Partners,  a  Delaware  corporation,   is  the
      management  company for Stonington with a 1% interest in SPLP.  Except for
      such economic interest, Stonington Partners disclaims beneficial ownership
      of the shares set forth  above.  The limited  partners of SPLP are certain
      current and former employees of Stonington  Partners,  entities controlled
      by  certain   employees  of  Stonington  and   individuals   with  special
      relationships to portfolio companies of Stonington.

                               60
<PAGE>

      Pursuant to a management  agreement with Stonington,  Stonington  Partners
      has full  discretionary  authority  with  respect  to the  investments  of
      Stonington,   including   the  authority  to  make  and  dispose  of  such
      investments.  Stonington  Partners disclaims  beneficial  ownership of the
      shares  set  forth  above.  The  address  of  each  of  the  entities  and
      individuals listed in this footnote is c/o Stonington Partners,  Inc., 757
      Fifth Avenue, New York, New York 10153.

(3)   Includes shares of Common Stock which the directors and executive officers
      have the right to acquire  through the exercise of options  within 60 days
      of March  15,  1999,  as  follows:  Mr.  Duerden  -  177,633  shares;  Mr.
      Skrzypczak  - 14,850  shares;  Mr.  Schwager - 14,850  shares;  Mr. Hart -
      11,300  shares;  and Mr.  Elwell - 12,900  shares.  Mr.  Duerden is a 3.1%
      limited partner of SPLP.

(4)   The shares indicated as owned beneficially by Messrs. Fitzgibbons,  Michas
      and Shaw are owned or controlled by Stonington and are included because of
      their ownership of stock as status as directors of Stonington Partners and
      Stonington II. Messrs.  Fitzgibbons,  Michas and Shaw disclaim  beneficial
      ownership of such shares.

(5)   Includes  267,253 shares of Common Stock subject to options  granted under
      the Plan which are currently  exercisable  or vest within 60 days of March
      15, 1999 and 2,000,000  shares of Common Stock issuable upon conversion of
      Convertible  Preferred  Stock  which  are  currently  convertible  or  are
      convertible within 60 days of March 15, 1999.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

MANAGEMENT INVESTMENT AND MANAGEMENT LOANS

       In connection  with the  Acquisition,  the Company sold 197,000 shares of
Common  Stock to certain  key  members of the  Company's  Management,  including
Messrs.  Duerden,  Skrzypczak  and  Schwager  for  $1,970,000  (the  "Management
Placement").  The Company financed  $1,273,000 of the Management  Placement with
non-recourse  loans bearing interest at a rate equal to the Adjusted  Eurodollar
Rate (as defined) plus 2.75% in effect for the Revolving  Credit  Facility under
the Credit Agreement.  Interest was due annually starting in August 1998. Unless
prepaid, all principal, accrued and unpaid interest is due and payable on August
7, 2005. The obligations  under the management  notes are secured by a pledge of
the proportionate  number of shares of Common Stock pursuant to the Stockholders
Agreement. The name of each executive officer of the Company who participated in
the Management  Placement  whose  indebtedness to the Company exceeds $60,000 is
listed  below:  Mr.  Duerden -- $350,000;  Mr.  Skrzypczak  -- $95,600;  and Mr.
Schwager -- $140,000.

STOCKHOLDERS AGREEMENT

       The  Company,   Stonington,  each  of  the  institutional  investors  who
purchased $15 million of the Company's 14% Pay-in-Kind Perpetual Preferred Stock
("Pay-in-Kind  Preferred  Stock"),  together with  warrants to purchase  350,000
shares of Common Stock (the "Warrants") or $1.5 million of the Common Stock (the
"Equity Private Placement"), and each of Messrs. Duerden, Skrzypczak,  Schwager,
Hart and Elwell (each a "Stockholder") entered into a stockholder agreement (the
"Stockholders  Agreement"),  which  contains  among other terms and  conditions,
provisions relating to voting rights,  certain  restrictions with respect to the
transfer of Common Stock,  Pay-in-Kind  Preferred  Stock and Warrants by certain
parties  thereunder,  certain  rights  related  to puts and  calls  and  certain
registration  rights  granted by the  Company  with  respect to shares of Common
Stock.

       Pursuant to the terms of the Stockholders Agreement,  Stonington controls
the votes of the Common Stock purchased in the Equity Private Placements.  Under
the  Stockholders  Agreement,  Stonington also has the right to designate at any
time and from time to time at least three  Directors  of the Company and has the
right to remove such designees at any time and from time to time and each of the
Stockholders have agreed to vote in favor of such designation or removal of such
Directors. The Company currently has seven Board members.

        Pursuant to the terms of the Stockholders  Agreement,  in the event that
Stonington proposes to sell securities which, in the aggregate, represent 30% or
more of the Common Stock on a fully diluted basis to a third party which is not,
and  following  such  sale  will  not  be,  an  affiliate  of  Stonington,   the
Institutional  Investors  (as  defined in the  Stockholders  Agreement)  and the
Management Investors (as defined in the Stockholders Agreement)  will  have  the

                               61
<PAGE>

right to elect to  participate  in such sale with respect to a certain number of
shares of Common Stock. In the event that Stonington proposes to sell securities
which,  in the  aggregate,  represent 30% or more of the Common Stock on a fully
diluted  basis to a third party which is not, and  following  such sale will not
be,  an  affiliate  of  Stonington,  Stonington  has the right to  require  each
Management Investor, Institutional Investor and such other stockholders who have
agreed to be bound to the  Stockholders  Agreement to  participate  in such sale
with respect to a certain number of shares of Common Stock.

       Management  Investors are not permitted to sell or transfer Common Stock,
other than to Permitted  Transferees (as defined in the Stockholders  Agreement)
(i.e.,  family members and, upon the death of a Management  Investor,  to his or
her estate or  executors),  prior to the occurrence of the earlier of August 11,
2000 and an IPO (as defined in the Stockholders Agreement).  Following an IPO, a
Management  Investor  may  transfer  shares in  accordance  with Rule 144 of the
Securities Act of 1933, as amended (the "Securities Act"), or pledge shares to a
financial institution,  subject to applicable Securities Act restrictions. On or
after August 11, 2000,  if an IPO has not  occurred,  Management  Investors  are
permitted to sell Common Stock to third  parties  after first giving the Company
and the other Management Investors right of first refusal for the same number of
shares of Common Stock at the same price.

       Institutional  Investors  are not  permitted  to sell or transfer  Common
Stock,  other than to an Affiliate (as defined in the  Stockholders  Agreement),
prior to the occurrence of an IPO. Following an IPO, the Institutional Investors
will,  with  certain  limited  exceptions,  generally  be  permitted  to sell or
transfer  Common Stock subject to applicable  Securities Act  restrictions.  The
Pay-in-Kind Preferred Stock and Warrants are subject to transfer restrictions as
set forth in the Stockholders Agreement.

       Prior to an IPO,  the Company will have the right to require a Management
Investor  to  sell  his or  her  shares  of  Common  Stock  and  Options  upon a
termination of employment for any reason.  Such right will be exercisable within
a period of one year after the date of  termination  of employment  (or within a
period of six months in the event of a termination  of employment  due to death)
at a price per share  equal to the higher of Fair Value Price (as defined in the
Stockholders  Agreement) or the original per share  purchase price of a share of
Common Stock and at a price per Option equal to the difference  between the Fair
Value Price or the  original  per share  purchase  price of the shares of Common
Stock  covered  by such  Option and the  exercise  price of the shares of Common
Stock covered by such Option, multiplied by the number of shares of Common Stock
covered by the Option.  Prior to an IPO, the  Management  Investor will have the
right to require the Company to  purchase  his or her shares of Common  Stock or
Options upon termination of employment due to death,  Disability,  Retirement or
Involuntary  Termination (as defined therein).  Such a right will be exercisable
within a period of 180 days after the date of  termination  of employment due to
death,  Disability,  Retirement or  Involuntary  Termination  (a) at a price per
share of Common Stock equal to the Fair Value Price of a share of Common  Stock;
provided,  however,  that  upon  a  termination  of  employment  due  to  death,
Disability  or  Retirement,  the  purchase  price per share will be equal to the
greater of (x) the Fair Value  Price and (y) the  original  purchase  price plus
interest  at the  Adjusted  Eurodollar  Rate plus  2.75%,  minus the  Applicable
Pricing  Discount  (as defined in the Credit  Agreement)  as of the date of such
death, Disability or Retirement) (in either case, the "Put Price"); and (b) at a
price per Option equal to the difference  between the Put Price of the shares of
Common  Stock  covered by such  Option and the  exercise  price of the shares of
Common  Stock  covered  by such  Option,  multiplied  by the number of shares of
Common Stock covered by the Option.

       Stockholders  are, subject to certain  limitations,  entitled to register
shares of Common Stock in connection with a registration  statement  prepared by
the Company to register  Common Stock.  Stonington  has the right to require the
Company to take such steps as  necessary  to register  all or part of the Common
Stock held by Stonington  under the Securities Act pursuant to the provisions of
the Stockholders Agreement.  The Stockholders Agreement contains customary terms
and provisions with respect to, among other things,  registration procedures and
certain rights to  indemnification  granted by parties  thereunder in connection
with the registration of Common Stock subject to such agreement.

                               62
<PAGE>

                                    PART IV

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

(A)     1.     FINANCIAL STATEMENTS

               The financial statements are included in Part II, Item 8 of  this
Report.

        2.     FINANCIAL  STATEMENT  SCHEDULES AND  SUPPLEMENTARY
               INFORMATION REQUIRED TO BE SUBMITTED

               Schedule  II "Valuation and  Qualifying  Accounts" is included in
Part II, Item 8 of this Report.

(B)     Reports on Form 8-K.

               On January 8, 1999,  the Company  filed a Current  Report on Form
        8-K,  reporting  under Item 5 thereof,  the  amendment of the  Company's
        senior Bank Credit Agreement, dated as of August 7, 1995, as amended, to
        waive  compliance  by the  Company  of  the  financial  covenants  as of
        December 31, 1998 and for the four Fiscal Quarter period then ended,  to
        modify the covenants and related definitions in respect of certain asset
        sales and the  utilization  of the proceeds  from such asset  sales,  to
        modify  the  required  Maximum  Leverage,  Minimum  EBITDA  and  Minimum
        Interest  Coverage Ratio  Covenants,  to change the maturity date of the
        Tranche  C Loans  to be  equal to that of the  Tranche  B Loans,  and to
        increase the interest rate on the Tranche B Loans to be equal to that of
        the Tranche C Loans.

               In addition,  with the fifth amendment,  the Company's  principal
        shareholder  (the  "Shareholders")  agreed to provide the  Company  with
        $20,000,000  in new cash equity (the "New Equity")  contributions  on or
        before  January  28,  1999  to fund  working  capital  and  for  general
        corporate purposes.

(C)     Index to Exhibits.

               The  following  is a list of all  Exhibits  filed as part of this
Report:

EXHIBITS                          DESCRIPTION
--------                          -----------

  2.1  -- Stock  and  Asset  Purchase  Agreement,  dated  as of April 25,  1995,
          between  Pitney Bowes Inc. and  Dictaphone Acquisition  Inc. (filed as
          Exhibit 2.1 to the  Company's Registration Statement on Form S-1, File
          No. 33-93464, filed on June 14, 1995).

  2.2  -- Amendment  to Stock and Asset  Purchase  Agreement,  dated  August 11,
          1995, between Pitney Bowes Inc. and Dictaphone Acquisition Inc. (filed
          as Exhibit 2.2 to the Company's Form 10-Q for the fiscal quarter ended
          June 30, 1995, filed on September 21, 1995).

  2.3  -- Asset Purchase  Agreement,  dated August 11, 1995,  between Dictaphone
          Canada  Ltd./Ltee and Dictaphone  Canada  Acquisition  Inc.  (filed as
          Exhibit 2.3 to the  Company's  Form 10-Q for the fiscal  quarter ended
          June 30, 1995, filed on September 21, 1995).

  2.4  -- Stock Purchase Agreement,  dated August 11, 1995, between Pitney Bowes
          Deutschland GmbH and Dictaphone Acquisition Inc. (filed as Exhibit 2.4
          to the Company's Form 10-Q for the fiscal quarter ended June 30, 1995,
          filed on September 21, 1995).

  2.5  -- Stock Purchase Agreement, dated August 11, 1995, between Walnut Street
          Corp. and  Dictaphone  Acquisition  Inc.  (filed as Exhibit 2.5 to the
          Company's Form 10-Q for the fiscal quarter ended June 30, 1995,  filed
          on September 21, 1995).

  2.6  -- Stock Purchase Agreement,  dated August 11, 1995, between Pitney Bowes
          Holdings  Ltd.  and  Dictaphone  U.K.  Acquisition  Limited  (filed as
          Exhibit 2.6 to the  Company's  Form 10-Q for the fiscal  quarter ended
          June 30, 1995, filed on September 21, 1995).

                               63
<PAGE>

EXHIBITS                          DESCRIPTION
--------                          -----------

  2.7  -- General   Conveyance   Agreement,   dated  August  11,  1995,  between
          Dictaphone  Canada  Ltd./Ltee and Dictaphone  Canada  Acquisition Inc.
          (filed  as  Exhibit  2.7 to the  Company's  Form  10-Q for the  fiscal
          quarter ended June 30, 1995, filed on September 21, 1995).
  2.8  -- Assumption of Liabilities  Agreement,  dated August 11, 1995,  between
          Dictaphone  Canada  Ltd./Ltee and Dictaphone  Canada  Acquisition Inc.
          (filed  as  Exhibit  2.8 to the  Company's  Form  10-Q for the  fiscal
          quarter ended June 30, 1995, filed on September 21, 1995).
  2.9  -- Merger  Agreement  between   Dictaphone  U.S.   Acquisition  Inc.  and
          Dictaphone Corporation, dated August 11, 1995 (filed as Exhibit 2.9 to
          the  Company's  Form 10-Q for the fiscal  quarter ended June 30, 1995,
          filed on September 21, 1995).
  2.10 -- Agreement  and  Plan of  Merger  between  Dictaphone  Corporation  and
          Dictaphone  Corporation  (U.S.),  dated  January  28,  1998  (filed as
          Exhibit  2.10 to the  Company's  Form 10-K for the  fiscal  year ended
          December 31, 1997, filed on March 30, 1998).
  2.11 -- Certificate  of Ownership and Merger  merging  Dictaphone  Corporation
          with  and  into  Dictaphone  (U.S.)  (filed  as  Exhibit  2.11  to the
          Company's Form 10-K for the fiscal year ended December 31, 1997, filed
          on March 30, 1998).
  3(i) -- Restated Certificate of Incorporation of Dictaphone Corporation.
  3(ii)-- By-Laws of the Company,  adopted  April 20, 1995 (filed as Exhibit 3.3
          to the Company's Form 10-Q for the fiscal quarter ended June 30, 1995,
          filed on September 21, 1995).
  4.1  -- Indenture, dated as of August 11, 1995, among the Company,  Dictaphone
          Corporation (U.S.) and Shawmut Bank Connecticut, National Association,
          Trustee, relating to the 11-3/4% Senior Subordinated Notes Due 2005 of
          the Company  (filed as Exhibit 4.1 to the Company's  Form 10-Q for the
          fiscal quarter ended June 30, 1995, filed on September 21, 1995).
  4.2  -- Bank Credit  Agreement, dated as of August 7, 1995, among the Company,
          Dictaphone  Corporation (U.S.) and the Lenders party thereto (filed as
          Exhibit 4.2 to the  Company's  Form 10-Q for the fiscal  quarter ended
          June 30, 1995, filed on September 21, 1995).
  4.3  -- First Amendment to Credit Agreement,  dated as of June 28, 1996, among
          the  Company,  Dictaphone  Corporation  (U.S.) and the  Lenders  party
          thereto  (filed as Exhibit  10.13 to the Company's  Current  Report on
          Form 8-K, filed on July 18, 1996).
  4.4  -- Second Amendment to Credit Agreement, dated as of June 27, 1997, among
          the  Company,  Dictaphone  Corporation  (U.S.) and the  Lenders  party
          thereto  (filed as Exhibit  10.15 to the Company's  Current  Report on
          Form 8-K, filed on July 8, 1997).
  4.5  -- Third Amendment (Technical  Correction) to Credit Agreement,  dated as
          of July 21, 1997, by and among Dictaphone  Corporation  (U.S.) and the
          Lenders  party thereto  (filed as Exhibit 10.19 to the Company's  Form
          10-Q for the fiscal  quarter ended June 30, 1997,  filed on August 14,
          1997).
  4.6  -- Fourth Amendment to Credit Agreement, dated as  of  November 14, 1997,
          by and  among  Dictaphone Corporation and  the Lenders  party  thereto
          (filed as Exhibit 10.20 to the Company's  Current  Report on Form 8-K,
          filed on November 21, 1997).

 *4.7  -- Limited Waiver and Fifth Amendment to Credit Agreement, dated December
          31, 1998, by and among Dictaphone  Corporation  (U.S.) and the Lenders
          party thereto.
 *4.8  -- Limited Waiver and First  Amendment to Credit  Agreement,  dated as of
          December  31,  1998,  among  Dictaphone  Corporation  (U.S.)  and  the
          Lenders party thereto.
  10.1 -- Subscription Agreements for the Equity Private Placements, dated as of
          August 7, 1995 (filed as Exhibit 10.1 to the  Company's  Form 10-Q for
          the fiscal quarter ended June 30, 1995, filed on September 21, 1995).
  10.2 -- Subscription  Agreement for Management Private Placement,  dated as of
          August 7, 1995 (filed as Exhibit 10.2 to the  Company's  Form 10-Q for
          the fiscal quarter ended June 30, 1995, filed on September 21, 1995).
  10.3 -- Stockholders Agreement,  dated as of August 11, 1995 (filed as Exhibit
          10.3 to the Company's  Form 10-Q for the fiscal quarter ended June 30,
          1995, filed on September 21, 1995).
  10.4 -- Employment  contract  of John H.  Duerden,  dated as of August 9, 1995
          (filed as  Exhibit  10.4 to the  Company's  Form  10-Q for the  fiscal
          quarter ended June 30, 1995, filed on September 21, 1995).+

                               64
<PAGE>

EXHIBITS                          DESCRIPTION
--------                          -----------

  10.5 -- Amendment to employment contract of John H. Duerden,  dated January 1,
          1997 (filed as Exhibit 10.5 to the Company's  Form 10-K for the fiscal
          year ended December 31, 1996, filed on March 31, 1997).+
 *10.6 -- Letter   Agreement,  dated  October  21,  1998,  between   Dicataphone
          Corporation  and  Joseph D. Skrzypczak.+
  10.7 -- Employment contract of Robert G. Schwager,  dated June 19, 1995 (filed
          as Exhibit 10.7 to the Company's  Registration  Statement on Form S-1,
          File No. 33-93464,  filed on June 14, 1995).+
  10.8 -- Management  Stock  Option  Plan  of  the  Company  (filed  as  Exhibit
          10.9 to  the  Company's  Form 10-Q  for the fiscal  quarter ended June
          30, 1995,  filed on  September  21, 1995)  and  Amendment No. 1 to the
          Management  Stock  Option  Plan,  dated as of April 27, 1996 (filed as
          Exhibit  10.13  to  the  Company's  Form 10-Q for the  fiscal  quarter
          ended  March  31,  1996,  filed on May 15, 1996).+
  10.9 -- Supply   Agreement,  dated   August  11,  1995,  between  the  Company
          and  Pitney  Bowes  Inc.  (filed  as  Exhibit  10.10 to the  Company's
          Annual  Report  on  Form 10-K for the fiscal year ended  December  31,
          1995, File  No. 33-93464, filed  on March 29, 1996).
 10.10 -- Leasing   Agreement,   dated   August  10,  1995,  between  Dictaphone
          Corporation  (U.S.)  and Pitney  Bowes  Credit  Corporation  (filed as
          Exhibit  10.11 to the  Company's  Annual  Report  on Form 10-K for the
          fiscal year ended December 31, 1995, File No. 33-93464, filed on March
          29, 1996).
 10.11 -- Consulting Agreement, dated November 17, 1995, between the Company and
          Emil F.  Jachmann  (filed as  Exhibit  10.12 to the  Company's  Annual
          Report on Form 10-K for the fiscal year ended December 31, 1995,  File
          No.  33-93464,  filed on March 29,  1996).+
 10.12 -- Form of Letter Agreement  amending  the  Subscription  Agreement  for 
          the  Management Private  Placement,  dated as of August 7,  1995,  and
          the  Stockholders  Agreement,  dated as of August  11, 1995 (filed  as
          Exhibit 10.14 to the Company's Form 10-Q for the  fiscal quarter ended
          March 31, 1996, filed on May 15, 1996).+
 10.13 -- Letter Agreement,  dated April 11, 1997, between the Company and Peter
          Tong (filed as Exhibit 10.16 to the Company's Form 10-Q for the fiscal
          quarter ended June 30, 1997, filed on August 14, 1997).+
 10.14 -- Stock Option Agreement,  dated August 1, 1997, between the Company and
          John H. Duerden (filed as Exhibit 10.15 to the Company's Form 10-K405
          for  the  fiscal year  ended  December  31, 1997,  filed  on March 31,
          1998).+
 10.15 -- Amendment No. 2 to the Dictaphone  Management Stock Option Plan (filed
          as Exhibit  10.18 to the  Company's  Form 10-Q for the fiscal  quarter
          ended June 30, 1997, filed on August 14, 1997).+
 10.16 -- Letter  Agreement  between  the  Company  and Ronald A.  Elwell, dated
          November 8, 1996 (filed as Exhibit 10.18 to the Company's Form 10-K405
          for  the fiscal  year  ended  December  31, 1997,  filed  on March 31,
          1998).+
 10.17 -- Stock Option Agreement,  dated August 1, 1997, between the Company and
          Peter P. Tong (filed as Exhibit 10.19 to the  Company's  Form 10-Q for
          the fiscal quarter ended March 31, 1998, filed on May 14, 1998).+
 10.18 -- Agreement  of Purchase  and Sale of  Stratford,  CT  property  between
          Dictaphone Corporation and Stratford, CT Business Trust, dated May 14,
          1998 (filed as Exhibit 10.20 to the Company's Form 10-Q for the fiscal
          quarter ended June 30, 1998, filed August 14, 1998).
 10.19 -- Lease  Agreement  of  Stratford,   CT  property   between   Dictaphone
          Corporation  and  Stratford,  CT  Business  Trust,  dated May 14, 1998
          (filed as  Exhibit  10.21 to the  Company's  Form 10-Q for the  fiscal
          quarter ended June 30, 1998, filed August 14, 1998).
*10.20 -- Letter Agreement,  dated May 28, 1997, between Dictaphone  Corporation
          and Mr. Daniel P. Hart.+
*10.21 -- Executive  Severance  Agreement,  dated  November  11,  1996,  between
          Dictaphone Corporation and Mr. Daniel Hart.+
 21.1  -- List of  subsidiaries  of the  Company  (filed  as  Exhibit  21 to the
          Company's Registration Statement on Form S-1, File No. 33-93464, filed
          on June 14, 1995).
  24   -- Powers of Attorney (included on the signature page hereof).
 *27   -- Financial Data Schedule.

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

*    Filed herewith.
+    Management contract of compensatory arrangement.

                               65
<PAGE>

                                   SIGNATURES


         Pursuant to the  requirements  of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its  behalf  by the  undersigned,  thereunto  duly  authorized,  in the  City of
Stratford, State of Connecticut, on this 26th day of March, 1999.

                                                 DICTAPHONE CORPORATION

                                          By:       /S/ JOHN H. DUERDEN    
                                             ------------------------------
                                             John H. Duerden
                                             Chairman, Chief Executive
                                               Officer and President


         KNOWN BY ALL MEN BY THESE  PRESENTS,  that each person whose  signature
appears below  constitutes  and appoints Scott M. Shaw and Joseph D.  Skrzypczak
his true and lawful  attorney-in-fact and agent, with full power of substitution
and  resubstitution,  for him and in his name,  place and stead,  in any and all
capacities,  to sign any and all  amendments to this Annual Report on Form 10-K,
and to file  the  same,  with  all  exhibits  thereto  and  other  documents  in
connection therewith, with the Securities and Exchange Commission, granting unto
said attorney-in-fact and agent, full power and authority to do and perform each
and every  act and thing  requisite  and  necessary  to be done in and about the
premises,  as fully as he might or  could do in  person,  hereby  ratifying  and
confirming all that said  attorney-in-fact and agent or their or his substitutes
or substitute, may lawfully do or cause to be done by virtue hereof.

         Pursuant to the  requirements  of 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 indicated on the 26th day of March, 1999.

           SIGNATURE                                   TITLE(S)

 /S/  JOHN H. DUERDEN                  Chairman, Chief Executive Officer 
------------------------------         and President (Principal Executive
        John H. Duerden                Officer)

 /S/  JOSEPH D. SKRZYPCZAK             Chief Operating Officer, Chief Financial
------------------------------         Officer and Director (Principal Financial
Joseph D. Skrzypczak                   and Accounting Officer)

/S/ ALBERT J. FITZGIBBONS, III                        Director
------------------------------
 Albert J. Fitzgibbons, III

 /S/  EMIL F. JACHMANN                                Director
------------------------------
     Emil F. Jachmann

/S/   ALEXIS P. MICHAS                                Director
------------------------------
      Alexis P. Michas

/S/   SCOTT M. SHAW                                   Director
------------------------------
       Scott M. Shaw

 /S/  PETER P. TONG                                   Director
------------------------------
       Peter P. Tong


                               66
<PAGE>

                                  EXHIBIT INDEX


                                                                   SEQUENTIALLY
EXHIBITS                DESCRIPTION                                NUMBERED PAGE
--------                -----------                                -------------

 2.1   --  Stock and Asset Purchase Agreement,  dated as of April
           25, 1995,  between  Pitney  Bowes Inc. and  Dictaphone
           Acquisition   Inc.   (filed  as  Exhibit  2.1  to  the
           Company's Registration Statement on Form S-1, File No.
           33-93464, filed on June 14, 1995).
 2.2   --  Amendment to Stock and Asset Purchase Agreement, dated
           August  11,  1995,   between  Pitney  Bowes  Inc.  and
           Dictaphone  Acquisition  Inc. (filed as Exhibit 2.2 to
           the Company's  Form 10-Q for the fiscal  quarter ended
           June 30, 1995, filed on September 21, 1995).
 2.3   --  Asset  Purchase  Agreement,  dated  August  11,  1995,
           between  Dictaphone  Canada  Ltd./Ltee and  Dictaphone
           Canada  Acquisition  Inc. (filed as Exhibit 2.3 to the
           Company's  Form 10-Q for the fiscal quarter ended June
           30, 1995, filed on September 21, 1995).
 2.4   --  Stock  Purchase  Agreement,  dated  August  11,  1995,
           between Pitney Bowes  Deutschland  GmbH and Dictaphone
           Acquisition   Inc.   (filed  as  Exhibit  2.4  to  the
           Company's  Form 10-Q for the fiscal quarter ended June
           30, 1995, filed on September 21, 1995).
 2.5   --  Stock  Purchase  Agreement,  dated  August  11,  1995,
           between Walnut Street Corp. and Dictaphone Acquisition
           Inc.  (filed as Exhibit 2.5 to the Company's Form 10-Q
           for the fiscal  quarter ended June 30, 1995,  filed on
           September 21, 1995).
 2.6   --  Stock  Purchase  Agreement,  dated  August  11,  1995,
           between Pitney Bowes Holdings Ltd. and Dictaphone U.K.
           Acquisition  Limited  (filed  as  Exhibit  2.6  to the
           Company's  Form 10-Q for the fiscal quarter ended June
           30, 1995, filed on September 21, 1995).
 2.7   --  General Conveyance  Agreement,  dated August 11, 1995,
           between  Dictaphone  Canada  Ltd./Ltee and  Dictaphone
           Canada  Acquisition  Inc. (filed as Exhibit 2.7 to the
           Company's  Form 10-Q for the fiscal quarter ended June
           30, 1995, filed on September 21, 1995).
 2.8   --  Assumption of Liabilities Agreement,  dated August 11,
           1995,   between   Dictaphone   Canada   Ltd./Ltee  and
           Dictaphone  Canada  Acquisition Inc. (filed as Exhibit
           2.8 to the Company's  Form 10-Q for the fiscal quarter
           ended June 30, 1995, filed on September 21, 1995).
 2.9   --  Merger Agreement between  Dictaphone U.S.  Acquisition
           Inc. and Dictaphone Corporation, dated August 11, 1995
           (filed as Exhibit 2.9 to the  Company's  Form 10-Q for
           the  fiscal  quarter  ended  June 30,  1995,  filed on
           September 21, 1995).
 2.10  --  Agreement  and  Plan  of  Merger  between   Dictaphone
           Corporation and Dictaphone  Corporation (U.S.),  dated
           January  28,  1998  (filed  as  Exhibit  2.10  to  the
           Company's Form 10-K for the fiscal year ended December
           31, 1997, filed on March 30, 1998).
 2.11  --  Certificate of Ownership and Merger merging Dictaphone
           Corporation with and into Dictaphone  (U.S.) (filed as
           Exhibit 2.11 to the Company's Form 10-K for the fiscal
           year  ended  December  31,  1997,  filed on March  30,
           1998).
 3(i)  --  Restated  Certificate of  Incorporation  of Dictaphone
           Corporation.
3(ii)  --  By-Laws of the Company,  adopted April 20, 1995 (filed
           as  Exhibit  3.3 to the  Company's  Form  10-Q for the
           fiscal quarter ended June 30, 1995, filed on September
           21, 1995).

                               67
<PAGE>
                                                                   SEQUENTIALLY
EXHIBITS                DESCRIPTION                                NUMBERED PAGE
--------                -----------                                -------------

 4.1   --  Indenture,  dated as of  August  11,  1995,  among the
           Company,  Dictaphone  Corporation  (U.S.) and  Shawmut
           Bank  Connecticut,   National  Association,   Trustee,
           relating to the 11-3/4% Senior  Subordinated Notes Due
           2005  of the  Company  (filed  as  Exhibit  4.1 to the
           Company's  Form 10-Q for the fiscal quarter ended June
           30, 1995, filed on September 21, 1995).
 4.2   --  Bank  Credit  Agreement, dated as of  August  7, 1995,
           among the Company,  Dictaphone  Corporation (U.S.) and
           the Lenders party thereto (filed as Exhibit 4.2 to the
           Company's  Form 10-Q for the fiscal quarter ended June
           30, 1995, filed on September 21, 1995).
 4.3   --  First Amendment to Credit Agreement,  dated as of June
           28, 1996,  among the Company,  Dictaphone  Corporation
           (U.S.) and the Lenders party thereto (filed as Exhibit
           10.13 to the  Company's  Current  Report  on Form 8-K,
           filed on July 18, 1996).
 4.4   --  Second Amendment to Credit Agreement, dated as of June
           27,  1997, among the  Company,  Dictaphone Corporation
           (U.S.) and the Lenders party thereto (filed as Exhibit
           10.15 to the  Company's  Current  Report  on Form 8-K,
           filed on July 8, 1997).
 4.5   --  Third  Amendment  (Technical   Correction)  to  Credit
           Agreement,  dated as of July 21,  1997,  by and  among
           Dictaphone  Corporation  (U.S.) and the Lenders  party
           thereto  (filed as Exhibit 10.19 to the Company's Form
           10-Q for the fiscal quarter ended June 30, 1997, filed
           on August 14, 1997).
 4.6   --  Fourth  Amendment  to  Credit  Agreement, dated  as of
           November 14, 1997, by and among Dictaphone Corporation
           and the Lenders party thereto  (filed as Exhibit 10.20
           to the Company's  Current Report on Form 8-K, filed on
           November 21, 1997).
*4.7   --  Limited   Waiver   and  Fifth   Amendment   to  Credit
           Agreement,  dated  December  31,  1998,  by and  among
           Dictaphone  Corporation  (U.S.) and the Lenders  party
           thereto.
*4.8   --  Limited   Waiver   and  First   Amendment   to  Credit
           Agreement,   dated  as  of  December  31, 1998,  among
           Dictaphone  Corporation  (U.S.) and the Lender's party
           thereto.
 10.1  --  Subscription   Agreements   for  the  Equity   Private
           Placements,  dated as of  August  7,  1995  (filed  as
           Exhibit 10.1 to the Company's Form 10-Q for the fiscal
           quarter  ended June 30, 1995,  filed on September  21,
           1995).
 10.2  --  Subscription    Agreement   for   Management   Private
           Placement,  dated  as of  August  7,  1995  (filed  as
           Exhibit 10.2 to the Company's Form 10-Q for the fiscal
           quarter  ended June 30, 1995,  filed on September  21,
           1995).
 10.3  --  Stockholders  Agreement,  dated as of August 11,  1995
           (filed as Exhibit 10.3 to the Company's  Form 10-Q for
           the  fiscal  quarter  ended  June 30,  1995,  filed on
           September 21, 1995).
 10.4  --  Employment  contract of John H.  Duerden,  dated as of
           August 9, 1995 (filed as Exhibit 10.4 to the Company's
           Form 10-Q for the fiscal  quarter ended June 30, 1995,
           filed on September  21, 1995).+
 10.5  --  Amendment    to   employment   contract   of  John  H.
           Duerden,  dated January 1, 1997 (filed as Exhibit 10.5
           to  the Company's  Form 10-K for the fiscal year ended
           December 31, 1996, filed on March 31, 1997).+
*10.6  --  Letter  Agreement, dated  October  21,  1998,  between
           Dictaphone Corporation and Joseph D. Skrzypczak.+
 10.7  --  Employment contract of Robert G. Schwager,  dated June
           19,  1995  (filed  as  Exhibit  10.7 to the  Company's
           Registration Statement on Form S-1, File No. 33-93464,
           filed on June 14, 1995).+

                               68
<PAGE>

                                                                   SEQUENTIALLY
EXHIBITS                DESCRIPTION                                NUMBERED PAGE
--------                -----------                                -------------

 10.8  --  Management  Stock Option Plan of the Company (filed as
           Exhibit 10.9 to the Company's Form 10-Q for the fiscal
           quarter  ended June 30, 1995,  filed on September  21,
           1995)  and  Amendment  No. 1 to the  Management  Stock
           Option  Plan,  dated as of April  27,  1996  (filed as
           Exhibit  10.13  to the  Company's  Form  10-Q  for the
           fiscal quarter ended March 31, 1996,  filed on May 15,
           1996).+
 10.9  --  Supply Agreement,  dated August 11, 1995,  between the
           Company and Pitney Bowes Inc.  (filed as Exhibit 10.10
           to the  Company's  Annual  Report on Form 10-K for the
           fiscal  year  ended   December  31,  1995,   File  No.
           33-93464,  filed on March 29, 1996).           
10.10  --  Leasing  Agreement,  dated  August  10,  1995, between
           Dictaphone Corporation (U.S.) and Pitney Bowes  Credit
           Corporation (filed as Exhibit  10.11 to the  Company's
           Annual Report on Form  10-K for the fiscal year  ended
           December  31,  1995, File No. 33-93464, filed on March
           29, 1996).
10.11  --  Consulting    Agreement,  dated   November  17,  1995,
           between  the Company  and Emil F. Jachmann  (filed  as
           Exhibit 10.12  to  the Company's Annual Report on Form
           10-K for the fiscal year ended December 31, 1995, File
           No. 33-93464, filed on March 29, 1996).+
10.12  --  Form  of  Letter  Agreement  amending the Subscription
           Agreement for the Management Private  Placement, dated
           as of August 7, 1995, and  the Stockholders Agreement,
           dated as of August  11,  1995 (filed as  Exhibit 10.14
           to  the  Company's  Form 10-Q  for  the fiscal quarter
           ended March 31, 1996, filed on May 15, 1996).+
10.13  --  Letter   Agreement,  dated   April  11,  1997, between
           the Company and Peter Tong (filed  as Exhibit 10.16 to
           the Company's Form 10-Q for the  fiscal  quarter ended
           June 30, 1997, filed on August 14, 1997).+
10.14  --  Stock   Option   Agreement,   dated   August 1,  1997,
           between  the  Company  and  John H. Duerden (filed  as
           Exhibit 10.15  to the Company's  Form 10-K405  for the
           fiscal  year ended  December 31, 1997, filed  on March
           31, 1998).+
10.15  --  Amendment  No. 2 to the  Dictaphone  Management  Stock
           Option Plan (filed as Exhibit  10.18 to the  Company's
           Form 10-Q for the fiscal  quarter ended June 30, 1997,
           filed on August 14, 1997).+
10.16  --  Letter  Agreement  between  the  Company and Ronald A.
           Elwell, dated November 8, 1996 (filed as Exhibit 10.18
           to  the  Company's  Form  10-K405  for the fiscal year
           ended December 31, 1997, filed on March 31, 1998). +
10.17  --  Stock Option Agreement,  dated August 1, 1997, between
           the Company and Peter P. Tong (filed as Exhibit  10.19
           to the  Company's  Form  10-Q for the  fiscal  quarter
           ended March 31, 1998, filed on May 14, 1998).+
10.18  --  Agreement  of  Purchase  and  Sale  of  Stratford,  CT
           property between Dictaphone Corporation and Stratford,
           CT  Business  Trust,  dated  May 14,  1998  (filed  as
           Exhibit  10.20  to the  Company's  Form  10-Q  for the
           fiscal  quarter ended June 30, 1998,  filed August 14,
           1998).
10.19  --  Lease  Agreement  of  Stratford,  CT  property between
           Dictaphone  Corporation  and  Stratford,  CT  Business
           Trust, dated  May  14,  1998 (filed  as  Exhibit 10.21
           to  the  Company's  Form  10-Q  for the fiscal quarter
           ended June 30, 1998, filed August 14, 1998).

                               69
<PAGE>
                                                                   SEQUENTIALLY
EXHIBITS                DESCRIPTION                                NUMBERED PAGE
--------                -----------                                -------------

*10.20 --  Letter   Agreement,   dated  May  28,  1997,   between
           Dictaphone Corporation and Mr. Daniel P. Hart.+
*10.21 --  Executive  Severance  Agreement,  dated  November  11,
           1996,  between  Dictaphone  Corporation and Mr. Daniel
           Hart.+
 21.1  --  List of  subsidiaries of the Company (filed as Exhibit
           21 to the  Company's  Registration  Statement  on Form
           S-1, File No. 33-93464, filed on June 14, 1995).
 24    --  Powers of Attorney  (included  on the  signature  page
           hereof).
*27    --  Financial Data Schedule.

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

*    Filed herewith.
+    Management contract of compensatory arrangement.


                               70