<PAGE>
 
================================================================================
          
                      SECURITIES AND EXCHANGE COMMISSION
                            WASHINGTON, D.C.  20549

                                 _____________

                                  FORM 10-KSB

(MARK ONE)
[X]  ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE
     ACT OF 1934
For the fiscal year ended  June 30, 1998
                         -------------------------------------------------------
                                      OR
[_]  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   0-21832
                       ---------------------------------------------------------
 
                         TURBOSONIC TECHNOLOGIES, INC.
--------------------------------------------------------------------------------
                (Name of Small Business Issuer in its Charter)
 
                  Delaware                                  13-1949528
----------------------------------------------     -----------------------------
       (State or other jurisdiction of                   (I.R.S. Employer 
        incorporation or organization)                 Identification No.)
  
 
      550 Parkside Drive, Suite A-14, 
        Waterloo, Ontario, Canada                            N2L 5V4
----------------------------------------------     -----------------------------
(Address of principal executive offices)                    (Zip Code)

                                
                                (519) 885-5513
--------------------------------------------------------------------------------
               (Issuer's telephone number, including area code)

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

     Title of Each Class             Name of Each Exchange on Which Registered
     -------------------             -----------------------------------------

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


                                 Common Stock
--------------------------------------------------------------------------------
                               (Title of Class)

     Check whether the Issuer (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 Issuer was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days.  Yes........ No...X....

     Check if there is no disclosure of delinquent filers pursuant to Item 405
of Regulation S-B herein, and will not be contained, to the best of the Issuer's
knowledge, in definitive proxy or information statements incorporated by
reference in Part III of this Form 10-KSB or any amendment to this Form 10-KSB.
Yes ...X... No ......

     Issuer's revenues for its most recent fiscal year: $2,848,560

     Aggregate market value of the Issuer's common stock held by non-affiliates
of the Issuer as of October 22, 1998: $1,884,112

                  ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS
                        DURING THE PRECEDING FIVE YEARS

     Check whether the Issuer has filed all documents and reports required to be
filed by Section 12, 13 or 15 (d) of the Securities Exchange Act of 1934
subsequent to the distribution of securities under a plan confirmed by a court.
Yes ...X... No .....

                         ____________________________

     The number of shares outstanding of the Issuer's common stock is 10,000,000
(as of 6/30/98).
     Transitional Small Business Disclosure Format (check one): Yes ....... 
No ...X...

                      DOCUMENTS INCORPORATED BY REFERENCE

================================================================================
<PAGE>
 
                                    PART I


Item 1.   Business

     (a)  General Development of Business

     TurboSonic Technologies, Inc., formerly known as Sonic Environmental
Systems, Inc. (the "Company"), directly and through subsidiaries, designs and
markets integrated pollution control and industrial gas cooling/conditioning
systems, wet scrubber systems, flue gas desulfurization systems, and dust
suppression systems to ameliorate or abate industrial environmental problems.

     On July 17, 1996, certain of the Company's creditors instituted an
involuntary liquidation proceeding against the Company under Chapter 7 of the
Federal Bankruptcy Code in the United States Bankruptcy Court for the District
of New Jersey (the "Court").  On September 16, 1996, the Court converted this
involuntary proceeding case into a voluntary Chapter 11 reorganization
proceeding (the "Chapter 11 Proceeding"), thereby permitting the Company's
management to remain in control of the Company's business operations while
attempting to formulate a reorganization plan that would be acceptable to both
creditors and the Court.

     Contemporaneously therewith, the Company entered into an agreement with
Turbotak Technologies, Inc. ("Turbotak"), a privately held Canadian company
engaged in the design, manufacture, and servicing of air pollution control
equipment, which, among other matters, provided for Turbotak's acquisition of an
approximately $940,000 secured and unsecured bank claim against the Company and
its advance of $205,000 to the Company for working capital. Such agreement
further provided that the Company would propose a Chapter 11 reorganization plan
which, among other matters, would provide for a merger of the Company and
Turbotak and the acquisition by Turbotak's shareholders of a controlling equity
interest in the Company. The Company filed such a plan of reorganization with
the Court on March 7, 1997. On or about April 21, 1997, the Company filed a
first amended plan of reorganization with the Court (the plan of reorganization,
as so amended and subsequently modified on June 3, 1997, is hereinafter referred
to as the "Plan").

     The Plan was confirmed by the Bankruptcy Court on July 3, 1997 following
requisite creditor approval. The Plan provided for the extinguishment of all of
outstanding shares of the Company's common stock, as well as all outstanding
warrants and options to purchase the Company's common stock. The Plan further
provided that the Company consolidate with Turbotak (the "Consolidation") to
form a company to be called TurboSonic Technologies, Inc. which would have
10,000,000 shares of common stock outstanding, of which 8,200,000 shares or 82%
would be owned by Turbotak's present shareholders, 
<PAGE>
 
and 1,255,700 or approximately 12.6% would be issued to the Company's existing
shareholders on a pro-rata basis. The balance of such 10,000,000 shares would be
issued to the Company's existing creditors and others as described in the Plan.
Consummation of the Consolidation, which also extinguished Turbotak's claims
against the Company of approximately $1,145,000 took place on August 27, 1997
(the "Consolidation Date"),and resulted in the Company's subsequent discharge
from its Chapter 11 Proceeding. Reference is made to the Company's Current
Report on Form 8-K dated July 29, 1997 and the several exhibits thereto for more
detailed information about the Consolidation.

     The Company was incorporated in the State of Delaware in April 1961.  The
executive offices of the Company are located at 550 Parkside Drive, Suite A-14,
Waterloo, Ontario, Canada N2L 5V4; its telephone number is (519) 885-5513.
Unless the context indicates to the contrary, references to the Company herein
include both the Company and its majority and wholly-owned subsidiaries and all
references to shares of Common Stock and per share data herein give effect to
the implementation of the Plan upon the effectiveness of the Consolidation.

     (b)  Financial Information About Industry Segments

               Not Applicable.

     (c)  Narrative Description of Business

          Unless the context indicates to the contrary, all references to the
Company's business refer to those operations conducted by the Company subsequent
to the Consolidation Date.


     Introduction
     ------------

     The Company's principal customers are engaged in pulp and paper, chemical,
mining and metallurgical processing. In addition, certain of the Company's
customers, primarily located inside of the United States, are engaged in the
incineration of sewage sludge and solid, medical (infectious) and hazardous
waste.  A majority of the Company's customers have historically purchased
individual products or systems from the Company which, in many instances,
operate in conjunction with products and systems supplied by others.  In the
last several years, the Company has emphasized the marketing of custom
engineered air pollution control systems which offer a combination of its own
products and systems as an integrated environmental management solution.

                                       2
<PAGE>
 
     Certain of the Company's products and systems employ the Company's
atomizing nozzle technology which utilizes proprietary nozzles to atomize
liquids passing through the nozzles, resulting in the liquid being converted
into fine droplets. Droplet sizes and liquid flow rates can be modulated by
controlling the liquid and gas pressures applied to the nozzle. The atomizing
nozzles, which have been designed to reduce the temperature of gases, have been
sold by the Company for many years.

     The following table reflects the approximate percentages of the Company's
revenue derived from its principal customer categories during the fiscal years
indicated below (1997 percentages are for Turbotak only):

<TABLE>
<CAPTION>
                                   Year Ended June 30,
                                  ---------------------
                                     1998       1997
                                     ----       ----   
<S>                                  <C>        <C>
Hazardous Waste Incineration            3%         1%   
Solid Waste Incineration               15          5    
Chemical and Mining Processing         27         18    
Metallurgical Processing               33          8    
Dust Suppression                        1         --    
Pulp and Paper                         16         65    
Other                                   5          3    
                                      ---        ---    
                                      100%       100%   
                                      ===        ===    
</TABLE>

     The Company is contractually responsible to its customers for all phases of
the design, fabrication and, if included in the scope of the Company's contract,
field installation of its products and systems. The Company's successful
completion of its contractual obligation is generally determined by a
performance test which is conducted either by its customer or by a customer-
selected independent testing agency.

     The Company performs all process engineering, including but not limited to,
the determination of the size, geometry and structural characteristics of the
particular system needed for gaseous, non-condensate or particulate removal, and
performs the detailed design of, and develops specifications for, all
structural, electrical, mechanical and chemical components of such system. The
Company, historically, has not manufactured or fabricated its own products or
systems.  Rather, it purchases alloy steel components and various electrical and
other parts consisting of both off-the-shelf items and items, such as its
atomizing nozzles, which are made to its design and specifications by third
party manufacturers and fabricators, enters into subcontracts for field
construction, which it supervises, and manages all technical, physical and
commercial aspects of the performance of its contracts.  The Company also does
not engage in the field construction of its systems but relies on field
construction 

                                       3
<PAGE>
 
subcontractors operating under the supervision of the Company's own employees.

Products and Systems
--------------------

     The Company offers a range of products and systems, incorporating diverse
technologies, to address the industrial processing, air pollution control and
other environmental management needs of its customers.  Many of such customers
have historically purchased individual products or systems from the Company
which, in many instances, operate in conjunction with products and systems
supplied by others. In the last several years, the Company has emphasized the
marketing of custom engineered air pollution control systems which may provide
combinations of its own products and systems as an integrated environmental
management solution.

     The following table reflects the approximate percentages of the Company's
revenue derived from its principal products and systems during the fiscal years
indicated below (1997 percentages are for Turbotak only):

<TABLE>
<CAPTION>
                                     Year Ended June 30,
                                     ------------------- 
                                     1998           1997
                                     ----           ----  
<S>                                  <C>            <C>
Evaporative gas cooling
  and conditioning system              56%            30%
Flue gas desulfurization systems        -              - 
Wet scrubber systems                   29             65 
Dust control and                                         
  suppression systems                   1              - 
Other Nozzle Systems                   14              5 
                                      ---            --- 
                                      100%           100%
                                      ===            ===  
</TABLE>

     The principal products and systems offered by the Company are described
below:

     Evaporative Gas Cooling and Conditioning Systems
     ------------------------------------------------

     Gases containing particulates and other gaseous pollutants generally
emanate from their sources at extremely high temperatures (approximately
250(degrees)F -2,500(degrees)F). The temperature of such gases must be reduced
prior to their passage through air pollution control equipment to enable such
equipment to operate efficiently. The conventional method for reducing the
temperature of gases is to pass them through an evaporative gas cooling tower
that typically utilizes atomizing nozzles to spray a liquid into the gases.
However, liquid droplets which are injected into the hot gases do not always
evaporate properly or in a timely fashion, may cause 

                                       4
<PAGE>
 
uneven wetting of particulates or other pollutants and may not sufficiently
lower the temperature of the gases if such liquid droplets are too large. Any
one or more of these problems will adversely affect the operating efficiency of
the air pollution control equipment. The Company's evaporative gas cooling and
conditioning systems are designed to efficiently reduce the temperature of gases
by utilizing its atomizing nozzle to produce extremely small liquid droplets.

     Principal customers include businesses engaged in chemical, mining and
metallurgical processing and solid waste, medical and hazardous waste and sewage
sludge incineration.

     Flue Gas Desulfurization (FGD) Systems
     --------------------------------------

     Sulfur dioxide (SO\\2\\) emissions from utilities' coal-fired generation
facilities are the major contributor to "acid rain." The Company's flue gas
desulfurization (FGD) system is a regenerative process, utilizing an amine-based
sorbent manufactured by Dow Chemical to selectively absorb SO\\2\\ from process
gas exhaust streams, with particular application to coal-fired power boilers.
Further, the amine-based sorbent is regenerated for re-use during the on-going
scrubbing process. The system also allows for the recovery of SO\\2\\ in pure
form, which can be processed to produce liquid SO\\2\\, sulfuric acid and
elemental sulfur, depending on available markets for these byproducts. This
technology represents an advancement in the FGD field as it provides an economic
return for the user in addition to meeting regulatory requirements.

     A pilot FGD system has been successfully tested at a major paper company
installation.  The Company is now working with several companies who have
expressed an interest in acquiring FGD systems, although no sales have been made
as of September 30, 1998.

     Wet Scrubber Systems
     --------------------

     Wet scrubber systems are generally used to absorb gaseous pollutants and
particulate matter contained in exhaust gas streams. Unlike dry scrubbers which
employ chemical reagents such as lime to absorb particulate, wet scrubbers are
generally more efficient and, in addition, can absorb volatile and noxious
gases.

     Each wet scrubber system, consisting in most instances of a modular
scrubber unit, associated fans, duct work, pumps, piping and valves, as well as
control systems to maintain concentrations and volume levels of requisite
scrubbing chemicals, relies on the Company's proprietary spray nozzle systems to
finely atomize scrubbing liquids into literally billions of droplets. These
droplets are the vehicle for removal of solid, liquid and gaseous contaminants
from process exhaust gas streams. This approach is more efficient than
"conventional" practice because energy input is 

                                       5
<PAGE>
 
focused on atomized spray production, rather than overall gas handling,
resulting in reduced operating costs.

     The Company has applied its patented scrubber technology to a wide variety
of air pollution control problems for industries ranging from pulp and paper,
wood products, mining, non-ferrous metallurgical, iron and steel, chemical, food
and beverage, waste processing, hazardous and municipal solid waste
incineration, power generation, automotive, cement as well as general
manufacturing. Its equipment, designed to meet the most stringent regulations
limiting gaseous and particulate emissions, has been retrofitted into competing
technologies to improve their performance.

     Wet Electrostatic Precipitator Systems
     --------------------------------------

     Wet electrostatic precipitators ("WESPs") are one of several methods of
removing particulate from gas streams. WESPs, however, are able to remove much
finer particulate than dry electrostatic precipitators, scrubbers and fabric
filters. In a typical WESP, a gas stream flows into a vertical tube between
discharge and collecting electrodes. Particulate in the flowing gases are
charged as they pass through electrodes and are then attracted to oppositely
charged collection surfaces. In a WESP, particulate are removed from the
collecting surface by an irrigating film of liquid. The Company believes that
its SonicKleen(R) WESP system, which is based upon the use of atomizing nozzles,
is effective due to its design which concentrates the electrical discharge in
specific zones within the collecting tube.

     First introduced in 1991, two SonicKleen(R) WESP systems have been
installed in the sewage sludge incinerators of Naugatuck Treatment Company,
located in Naugatuck, Connecticut, for the removal of toxic heavy metals and 
sub-micron particulate. The Company has also installed three additional WESP
systems in sewage sludge incinerators, including one at Kodak's Rochester, New
York manufacturing plant. An additional SonicKleen(R) WESP system, installed in
June 1994 at a sulfuric acid production facility operated by Chevron in El
Segundo, California, never functioned at full capacity primarily as a result of
technical problems and difficulties encountered by Chevron with respect to that
facility's operations and is scheduled to be returned to the Company upon
Chevron's anticipated closure of this facility.

     The Company has also installed an air pollution control system, utilizing a
SonicKleen(R) WESP, in a hospital in Daytona Beach, Florida, which is intended
to remove toxic heavy metals, sub-micron particulate and hydrochloric acid from
medical waste. The Company believes that this installation was one of the first
on-site incinerators in the United States to utilize a WESP. Another WESP system
has been installed at a Mead Paper Company manufacturing facility to control
emissions from a waste wood 

                                       6
<PAGE>
 
boiler. This is the first installation for the Company in the pulp and paper
industry.

     Dust Control and Suppression Systems
     ------------------------------------

     Dust particles from primary and secondary crushing, screening, transfer and
loading-unloading facilities such as hoppers, feeders, bins, ducts, silos, and
rail and motor vehicles are a major source of atmospheric pollution as well as a
contributing factor towards a reduction in the useful life of operating
machinery components. The Company's Dry Fog(R) dust control and suppression
system utilizes the Sonicore(R) atomizing nozzle to envelop and bring down dust
particles with a dense fog of extremely fine droplets of water that can be
adjusted to approximate the size of such dust particles. The DryFog(R) system is
used primarily by concerns engaged in the handling or processing of sand, lime,
cement and similar aggregates.

     Atomizing Nozzles
     -----------------

     The Company offers a complete line of atomizing nozzles which can be used
in a wide variety of applications including hot gas quenching in processes such
as electric arc and oxygen furnaces employed in steel mills, furnace exhausts in
chemical process industries, and incinerator gas treatment systems. Many of the
Company's nozzle sales have been replacements (retrofits) of competitors' nozzle
systems that either did not meet specified performance criteria or are unable to
satisfy, current, more stringent regulations. The Company uses its sales of
nozzles for retrofits to expand its sales of its air pollution control
technology. There are hundreds of competitors who sell atomizing nozzles, some
of which compete directly with the Company's nozzles and many of which are sold
at lower prices.

     Heat Exchangers
     ---------------

     Ceramic heat exchangers are generally used to extract thermal energy from
heated air, which can be used in diverse applications to improve fuel
efficiencies and/or industrial processes.  Most applications are found in high
temperature ranges (generally above 1800(degrees)F) where metal heat exchangers
would be unsuitable due to excessive erosion or decomposition.

     The Company, through an 80% owned subsidiary, owns patent rights and
technology relating to the use of ceramic heat exchangers for increased fuel
efficiencies for high temperature industrial manufacturing and chemical
processes. Such heat exchangers, which employ ceramic composite materials in
such a manner as to effectively and efficiently seal and reuse heated process
air, have operated successfully in some, but not all, commercial environments.

                                       7
<PAGE>
 
     The persons from whom the Company acquired its ceramic heat exchanger
patent rights and technology commenced adversary proceedings in the Court
against the Company to rescind the transfer of such rights and for damages. One
of the lawsuits by a person from whom the Company acquired some of its ceramic
heat exchanger patent rights and technology has been resolved in the Company's
favor. Although such litigation sought to terminate the Company's right to
utilize these patent rights and technology, the Plan provided that any monetary
claims arising out of such litigation were to be treated as unsecured claims and
are to be discharged as provided in the Plan.

Parts, Repair and Refurbishment Services
----------------------------------------

     The Company provides replacement and spare parts and repair and
refurbishment services for both its industrial processing and air pollution
control systems following the expiration of the Company's warranty. Such
warranty generally ranges from 12 to 18 months depending, respectively, upon
when the system becomes operational or when it is shipped to the customer.
Warranty liabilities have been minimal to date. The Company believes that in
view of the extreme conditions under which industrial process and air pollution
control systems operate, maintenance, repair and rebuilding of these systems is
an ongoing requirement and should create additional demand for the Company's
services and products.

     The Company's standard contractual terms with respect to the sale of its
products and systems disclaim any liability for consequential or indirect losses
or damages stemming from any failure of the Company's products or systems or any
component thereof. The Company customarily seeks contractual indemnification
from its subcontractors for any loss, damage or claim arising from the
subcontractor's failure of performance, negligence or malfeasance. It is likely,
however, that a customer's inability to comply with applicable pollution control
laws or regulations stemming from the failure or non-performance of the
Company's products or systems may subject the Company to liability for any fines
imposed  upon  such  customer  by  governmental  regulatory authorities or for
damages asserted to have been incurred by any third party adversely affected
thereby.

     The following table reflects the approximate percentages of the Company's
revenue derived from original equipment sales and from rehabilitation,
maintenance and spare parts services during the fiscal years indicated below
(1997 percentages are for Turbotak only):

                                       8
<PAGE>
 
<TABLE>
<CAPTION>
                                        Year Ended June 30,
                                        -------------------   
                                        1998           1997
                                        ----           ----
<S>                                     <C>            <C>
Original equipment                        54%            75%
Rehabilitation, maintenance,                               
Spare parts and other                     46             25
                                         ---            ---
                                         100%           100%
                                         ===            === 
</TABLE> 

Marketing and Sales
-------------------

     The Company's marketing efforts are technical in nature and currently
involve its senior management and technical professionals, supported by
independent sales representatives in certain areas of South America, Central
America and the Far East. The Company's contractual arrangements with its
independent sales representatives accord each a defined territory within which
to sell some or all of the Company's products and systems, provide for the
payment of agreed-upon sales commissions and are terminable at will by either
the Company or the representative upon relatively short prior notice. None of
such representatives, however, have authority to execute contracts on the
Company's behalf. A significant portion of the Company's domestic sales are made
through the recommendation of architectural and engineering firms, which play a
significant role in the design and manufacture of air pollution control systems
and in customers' selection of the vendors of such systems. The Company has five
domestic sales representatives, each with a defined territory within which to
sell some or all of the Company's products and systems.

     The Company's sales representatives, who assist the Company in consummating
sales of its products and services, serve an ongoing liaison function between
the Company and its customers during the installation phase of the Company's
products and systems and address customers' questions or concerns arising
thereafter, are selected by the Company based upon industry reputation, prior
sales performance including number of prospective leads generated and sales
closure rates, and the breadth of territorial coverage, among other criteria.

     Technical inquiries received from potential customers are referred to the
Company's engineering personnel. Thereafter, the Company's sales and engineering
personnel jointly prepare either a budget for future planning, a proposal or a
final bid. The period between initial customer contact and issuance of an order
varies widely, but is generally between 6 and 24 months.

     Although the Company seeks to obtain repeat business from its customers, it
does not depend upon any single customer to maintain its level of activity from
year to year. However, one or more different customers may be expected to
account for greater than 10% 

                                       9
<PAGE>
 
of the Company's net revenues in any consecutive twelve month period.

     One customer, Wheelabrator, APC, accounted for 10% of the Company's net
revenues during the fiscal year ended June 30, 1998. During the fiscal year
ended June 30, 1997, one customer, Crowder Construction, accounted for 42% of
the Company's net revenues.


Backlog
-------

     At June 30, 1998, the amount of the Company's contract backlog was
approximately $670,000, contrasted with $653,000 at June 30, 1997. Backlog
represents work for which the Company has entered into a signed agreement or has
received an order to proceed. Completion of all of the Company's June 30, 1998
backlog is anticipated to occur prior to June 30, 1999.


Product Development
-------------------

     The Company has an ongoing program for the development and
commercialization of new industrial processing and air pollution control
products, systems and technologies, and heat exchangers and the enhancement of
existing products and systems.


Proprietary Protection
----------------------

     The Company owns or has licensed rights to 30 international patents
relating to a variety of air pollution control applications.  The Company's
patent rights to two issued U.S. patents relating to its ceramic heat exchanger
technology are subject to pending litigation (see "- Heat Exchangers").

     The Company has registered servicemarks or trademarks in the United States
and certain foreign countries for several identifying names which it uses with
its products and systems including Sonicool(R), Sonicore(R), SonicKleen(R) and
Dry Fog(R).

     The Company relies on a combination of patents, trade and service marks,
trade secrets and know-how to protect its proprietary technology and rights.
There can be no assurance that the Company's patents will not be infringed upon,
that the Company would have adequate remedies for any such infringement, or that
its trade secrets will not otherwise become known to or independently developed
by competitors. There can also be no assurance that any patents now or hereafter
issued to, licensed by or applied for by the Company will be upheld, if
challenged, or that the protections afforded thereby will not be circumvented by
others. Litigation may be necessary to defend the Company's proprietary rights,

                                       10
<PAGE>
 
which would result in significant cost to the Company and a diversion of effort
of its personnel (see "- Heat Exchangers").

Suppliers and Subcontractors
----------------------------

     Like other companies in the industrial processing and environmental
management control industry, the Company has historically relied on third
parties to manufacture and fabricate its products and to supply parts and
components for its systems in accordance with the Company's specifications. In
those instances in which the Company's scope of work includes installation of
equipment, the Company selects and supervises subcontractors for this work. To
date, the Company has not experienced difficulties either in obtaining
fabricated components and other materials and parts used in any of its products
and systems or in obtaining qualified subcontractors. The Company's vendor
sources for various components, materials and parts used in its systems,
including its atomizing nozzle, control switches and electrical and other
components, includes more than 50 firms. The Company does not depend on any one
of the vendors to a material extent, and in any event the Company believes that
alternative vendors would be available if needed. With respect to fabricators,
the Company has satisfactory relationships with more than ten fabricators.
Similarly, with respect to subcontractors for installation work, the Company has
satisfactory relations with more than three firms. On the basis of the number of
vendors, fabricators and subcontractors which it utilizes and the availability
of alternative sources, the Company does not believe that the loss of its
relationship with any one firm would have a materially adverse effect on its
business.

Bonding and Insurance
---------------------

     While only one of the contracts performed by the Company to date has
required it to procure bid and performance bonds, such requirements are
prevalent for projects partially or fully funded by federal, state or local
governments, such as municipal solid waste and sewage sludge incineration
projects. A bid bond guarantees that a bidder will execute a contract if it is
awarded the job and a performance bond guarantees performance of the contract.
The Company does not, at the present time, have any ability to provide bid or
performance bonds. This could have an adverse effect on the Company's ability to
obtain certain contracts.

     The Company currently maintains different types of insurance, including
general liability and property coverage. The Company, however, does not maintain
any professional liability insurance with respect to the engineering and other
professional services it 

                                       11
<PAGE>
 
renders its customers. A successful claim or claims in an amount in excess of
the Company's insurance coverage or for which there is no coverage could have a
material adverse effect on the Company.

Government Regulation
---------------------

     Stringent environmental laws have been enacted in the United States and, to
a lesser extent, in Canada and certain Western European nations in response to
public concern about the environment. The Company believes that the need to
comply with these laws creates demand for the Company's products and systems.
The Federal Clean Air Act, Federal, state and local regulations which implement
it and the enforcement of these laws and regulations largely determine the level
of expenditures that customers will make to limit emissions from their
facilities.

     The Federal Clean Air Act, initially adopted in 1970 and extensively
amended in 1990, requires compliance with ambient air quality standards and
empowers the EPA to establish and enforce limits on the emission of various
pollutants from specific types of industrial facilities. The states have primary
responsibility for implementing these standards, and, in some cases, have
adopted standards more stringent than those established by the EPA.

     The 1990 amendments to the Federal Clean Air Act require, among other
matters, the reduction in the United States of the annual emission of sulfur
oxides, believe to be the cause of "acid rain" from approximately 20,000,000
tons to 10,000,000 tons by the year 2000, significant reductions in the emission
of 189 identified hazardous air pollutants and toxic substances and the
installation of equipment and systems which will contain certain named toxic
substances used in industrial processes in the event of sudden, accidental,
high-volume releases. Such amendments also extend regulatory coverage to many
facilities previously exempt due to their small size and require the EPA to
identify those industries which will be required to install the mandated control
technology for the industry to reduce the emission of hazardous air pollutants
from their respective plants and facilities. Regulations promulgated by the EPA
in February 1993 further limit the concentration of pollutants, such as hydrogen
chloride, sulfur dioxide, chlorine, heavy metals and hazardous solid substances
in the form of extremely fine dust, from sewage sludge incinerators. Sewage
sludge incineration facilities were required to comply with these newly adopted
regulations by February 1995 although the EPA has since extended the time by
which these facilities must be in compliance.

     Legislative proposals introduced in the U.S. Congress seek abolition of
certain environmental laws and regulations, reduced levels of enforcement for
others and cost justification and 

                                       12
<PAGE>
 
extended hearings prior to the enactment of any future such laws and
regulations. The enactment into law of any one or more of such proposals, the
likelihood of which cannot be predicted, could have an adverse effect on the
Company's ability to sell its products and systems.

     The decision of a political subdivision to bid or contract for a sewage
sludge or solid waste incinerator is a complex process involving public policy
concerns, perception regarding the acceptability, availability  and  cost  of
land filling  or alternative waste disposal  processes, including recycling, the
availability of an acceptable incinerator site, local citizen support and/or
opposition to incinerators, governmental regulation and the cost of an
incineration facility. In view of these considerations, none of which are within
the control of the Company, there can be no assurances that contracts which the
Company may obtain for the installation of its air pollution control systems in
solid waste or sewage sludge incinerators may not be indefinitely postponed or
delayed.

     The materials handling aspect of the Company's business is also dependent
in part upon the regulation under the Federal Occupation and Safety Health Act
of dust concentration to which workers may be exposed in the workplace.

Competition
-----------

     The Company faces substantial competition in each of its principal markets
from numerous competitors. Most of the Company's competitors are larger and have
greater financial resources than the Company. The Company competes primarily on
the basis of price as well as its engineering and technological expertise, know-
how and quality of its products, systems and service. Additionally, the Company
believes that the successful performance of its installed products and systems
is a key factor in dealing with its customers, which typically prefer to make
significant purchases from a company with a solid performance history.

     Virtually all contracts for the Company's products and systems are obtained
through competitive bidding. Although price is an important factor and may in
some cases be the governing factor, it is not always determinative, and
contracts are often awarded on the basis of the efficiency or reliability of
products and the engineering and technical expertise of the bidder.

Employees
---------

     As of June 30, 1998, the Company employed 25 full time and 2 part time
persons, of which 2 were executive officers, 6 were 

                                       13
<PAGE>
 
engineers, 4 were in sales, 1 in production, 10 in technical support and 4 in
administrative support. None of the Company's employees are represented by a
labor union. The Company believes that its relationship with its employees is
satisfactory.

(d)  Financial Information about Foreign and Domestic Operations and Export
     Sales

     U.S. and Canadian customers collectively accounted for approximately 79%
and 98% of the Company's sales during the years ended June 30, 1998 and 1997,
respectively. South and Central American sales were concentrated primarily in
Chile, Peru, Mexico and Brazil, while Far East sales included concerns in Japan,
India and Thailand, the latter being countries in which environmental
regulations have been increasingly enforced by governmental authorities over the
past several years. All revenue derived from export sales is transacted in U.S.
dollars.

     The following table reflects the approximate percentages of the Company's
revenue derived from United States, Canadian and foreign sales during the fiscal
years indicated below (1997 percentages are for Turbotak only):

<TABLE>
<CAPTION>
                                   Year Ended June 30,
                                   ------------------- 
                                   1998           1997
                                   ----           ----
<S>                                <C>            <C>
United States                        49%            78% 
Canada                               30             20  
Europe                                7              -  
South and Central America             8              2  
Far East                              4              -  
Africa                                2              -  
                                    ---            ---  
                                    100%           100% 
                                    ===            ===  
</TABLE>


Forward-Looking Statements
--------------------------

     Forward-looking statements in this Annual Report, including without
limitation, statements relating to the Company's plans, strategies, objectives,
expectations, intentions and adequacy of resources, are made pursuant to the
safe-harbor provisions of the Private Securities Litigation Reform Act of 1995.
Readers are cautioned that such forward-looking statements involve risks and
uncertainties that could cause actual results to differ materially from those
expressed therein. Such risks and uncertainties include, among others, the
following:

     .  Dependence on Environmental Regulation.  The market for air pollution
        --------------------------------------                                
     control products and systems is directly 

                                       14
<PAGE>
 
     dependent upon the existence and enforcement of laws and regulations which
     limit or prohibit the release of pollutants into the atmosphere and impose
     substantial penalties for non-compliance. Legislative proposals introduced
     in the current session of the U.S. Congress seek abolition or reduced
     enforcement of many previously enacted environmental laws and regulations
     and would impose substantial impediments to the adoption of any additional
     environmental regulatory programs. The enactment of any such proposals into
     law or any reduction in the stringency of environmental law enforcement
     from present levels could have an adverse effect on the Company's ability
     to sell its products and systems and may have a materially adverse effect
     upon its future revenues and prospects of profitability.

     .  Limited Protection of Patents and Proprietary Rights.  The Company
        ----------------------------------------------------              
     relies on a combination of patents, trade and service marks, trade secrets
     and know-how to protect its proprietary technology and rights. There can be
     no assurance that the Company's patents will not be infringed upon, that
     the Company would have adequate remedies for any such infringement, or that
     its trade secrets will not otherwise become known to or independently
     developed by competitors. There can also be no assurance that any patents
     now or hereafter issued to, licensed by or applied for by the Company will
     be upheld, if challenged, or that the protections afforded thereby will not
     be circumvented by others. Litigation may be necessary to defend the
     company's proprietary rights, which would result in significant cost to the
     Company and a diversion of effort of its personnel.

     .  Export Sales.  Approximately 51% and 22% of the Company's revenues 
        ------------                                                       
     during the fiscal years ended June 30, 1998 and 1997, respectively, were
     derived from sales made outside of the United States. The Company's
     profitability and financial condition are materially dependent, therefore,
     on the success of its foreign sales efforts. Foreign sales are subject to
     certain inherent risks, including unexpected changes in regulatory and
     other legal requirements, tariffs and other trade barriers, great
     difficulty in collection of accounts receivable and potentially adverse tax
     consequences. There can be no assurance that these factors will not have
     any adverse impact on the Company's future foreign sales and, consequently,
     on the Company's operating results. All revenue derived from export sales
     is transacted in U.S. dollars.

     .  Bonding Requirements.  While only one of the contracts performed by the
        --------------------                                                   
     Company to date has required it to procure bid and performance bonds, such
     requirements are prevalent for projects partially or fully funded by
     federal, state or local governments, such as municipal solid waste or
     sewage sludge 

                                       15
<PAGE>
 
     incineration projects. A bid bond guarantees that a bidder will execute a
     contract if it is awarded the job and a performance bond will guarantee
     performance of the contract. The Company's inability to obtain bonding
     could have an adverse effect on the Company's future revenues.

     .  Permitting Delays.  All of the Company's domestic projects generally
        -----------------                                                   
     require permits to be issued by one or more governmental agencies prior to
     the commencement of both construction and operation.  Issuance of such
     permits are often delayed by political and other considerations. Permitting
     delays could case extended delay or cancellation of one or more of the
     Company's large projects, which would adversely impact the Company's future
     revenues.

     .  Dependence on Manufacturers, Fabricators and Subcontractors. The Company
        -----------------------------------------------------------             
     in most instances does not manufacture or fabricate its own products or
     systems, relying instead upon the services of third party manufacturers and
     fabricators. The Company also does not engage in the field construction of
     its systems but relies on field construction subcontractors operating under
     the supervision of the Company's own employees.  The unavailability of the
     services of, or a substantial increase in pricing by a significant number
     of, these manufacturers, fabricators or subcontractors could adversely
     affect the Company.  Given the number of manufacturers, fabricators and
     subcontractors which it utilizes and the availability of alternative
     sources, the Company does not believe that the loss of its relationship
     with  any one firm would have a material adverse effect on its business.

     .  Competition.  Most of the Company's competitors are larger and have
        -----------                                                        
     greater financial and other resources than the Company. The markets for
     environmental control products and systems are both characterized by
     substantial competition based primarily on engineering and technological
     expertise and quality of service. Because virtually all contracts for the
     Company's products and systems are obtained through competitive bidding,
     price is also a competitive factor and may be the most significant factor
     in certain instances. Although the Company believes that it competes on the
     basis of its technical expertise and reputation for service, there can be
     no assurance that the Company will maintain its competitive position in its
     principal markets.

     .  Fixed Price Contracts.  The Company's receipt of a fixed price contract
        ---------------------                                                  
     as a consequence of being the lowest competitive bidder carries the
     inherent risk that the Company's actual performance costs may exceed the
     estimates upon which its bid for such contract was based.  To the extent

                                       16
<PAGE>
 
     that contract performance costs exceed projected costs, the Company's
     profitability could be materially adversely affected.

     .  Potential Liability.  The Company may become subject to liability claims
        -------------------                                                     
     in connection with the use of its products and systems.  The Company does
     not carry any product liability insurance nor does it carry any
     professional liability insurance with respect to the engineering and other
     professional services it renders its customers.  Any future inability to
     obtain insurance of the type and in the amounts required could impair the
     Company's ability to obtain some contracts, which are, in certain
     instances, conditioned upon the availability of adequate insurance
     coverage.


Item 2.   Properties

     The Company leases approximately 9,700 square feet of executive and
administrative offices and shop space in Waterloo, Ontario, Canada at an annual
rent of approximately $48,000. Insurance and utilities are paid separately. This
lease expires on June 30, 2002 and may be renewed for an additional two year
term.

     The Company also leases approximately 5,040 square feet of office and shop
space in East Hanover, New Jersey at an annual rental of approximately $50,000.
In addition, the Company must pay annual cost of living increases (not to exceed
4% per year) based upon changes in the Consumer Price Index, taxes, insurance
and utilities.  This lease will expire on August 30, 2002 and may be renewed for
an additional five year term.


Item 3.   Legal Proceedings

     Numerous creditors filed lawsuits against the Company for non-payment of
monies  owed to  them  prior  to  the  institution  of the Company's bankruptcy
proceeding. Furthermore, the inventors and/or former owners of the Company's
heat exchanger technology have filed lawsuits against the Company for monetary
damages and challenging the Company's right to use the technology. All such
creditors' claims, including monetary damages, if any, attributable to the heat
exchanger technology litigation, are dischargeable as provided in the Plan.


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

     No matters were submitted for a vote to Registrant's security holders
during the fourth quarter of Registrant's fiscal year ended June 30, 1998.

                                       17
<PAGE>
 
                                    PART II


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

     (a)  The following table sets forth the range of the bid quotations for the
Company's Common Stock for the periods shown, as furnished by National Quotation
Bureau Incorporated and NASDAQ. 

<TABLE>
<CAPTION>
                                             Common Stock        
                                         --------------------    
                                         High(1)       Low(1)    
                                         -------       ------     
<S>                                      <C>           <C>       
Fiscal Year Ended                                                
June 30, 1998:                                                   
                                                                 
  Second Quarter (commencing                                     
     December 23, 1997)                   $  1/4        $ .30    
  Third Quarter                            1-1/8          1/4    
  Fourth Quarter                               1          3/8     
</TABLE>

________
(1)  The above quotations represent prices between dealers and do not include
retail mark up, markdown or commission. They do not necessarily represent actual
transactions.

     The Company's securities were delisted from the NASDAQ Small-Cap Market in
April 1996. Subsequent trading took place upon the OTC Bulletin Board until the
Consolidation Date at which time all of the Company's then outstanding
securities were extinguished, resulting in a cessation of trading activity. The
Company's Common Stock resumed trading on the OTC Bulletin Board on December 23,
1997. Prior to that date and subsequent to the Consolidation Date, the Common
Stock was quoted in the "pink sheets" published by National Quotation Bureau
Incorporated.


     (b)  As of June 30, 1998, there were 383 holders of record of the Common
Stock.

     (c)  The Company does not anticipate paying any cash dividends in the
foreseeable future, as it is the current policy of the Company's Board of
Directors to retain any earnings to finance the Company's future operations and
expand its business.

                                       18
<PAGE>
 
Item 6.   Selected Financial Data

     The selected consolidated financial data presented below are derived from
the Company's consolidated financial statements. This financial information
should be read in conjunction with Item 7. "Management's Discussion and Analysis
of Financial Condition and Results of Operations" and Item 8. "Financial
Statements and Supplementing Data."

STATEMENT OF OPERATIONS DATA:
(In thousand U.S. Dollars, except per share information)

<TABLE>
<CAPTION>
                                      Year Ended June 30,
                               ----------------------------------
                                  1998         1997        1996
                               -----------  -----------  --------
<S>                            <C>          <C>          <C>
 
Total Revenue                  $    2,849   $    4,150    $2,711
 
Total cost of revenue               1,965        2,601     1,771
 
Selling general and
   administrative expenses          1,953        1,541       802
 
Interest Income                        13           10         9
                               ----------   ----------    ------
 
Earnings (loss) from
   continuing operations
   before income taxes
   (benefit)                       (1,056)          18       147
 
Income taxes (benefit)             (   14)          59         5
                               ----------   ----------    ------
 
Net income (loss)              $   (1,042)  $     ( 41)   $( 142)
                               ==========   ==========    ======
 
Net income (loss) per share
 from continuing operations    $  ( 0 .12)  $   ( 0.00)      N/A
 
Cash dividends per share                -            -         -
 
Weighted average number of
   shares outstanding(1)        8,609,707    8,200,000       N/A
</TABLE>

                                       19
<PAGE>
 
BALANCE SHEET DATA:
(in thousand U.S.  Dollars)

<TABLE> 
<CAPTION> 
                                              June 30,
                                      ------------------------
                                      1998      1997      1996
                                      ----      ----      ----  
<S>                                 <C>       <C>       <C>
Working capital                     $(  138)  $   523   $ ( 401) 
Total assets                          2,421     2,146       761  
Long-term debt                          152       724       733  
Accumulated deficit                                              
Stockholders' equity                 (2,481)   (1,439)   (1,398) 
(Net capital deficiency)              1,239       301    (1,060)  
</TABLE>

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


Results of Operations
---------------------

Twelve Months Ended June 30, 1998
Compared with Twelve Months Ended June 30, 1997

     Original equipment revenue decreased $1,569,281 (50.6%) to $1,533,520 from
$3,102,801. This decrease was primarily due to the receipt in the 1997 period,
not repeated in the current period, of revenue from a large contract with
International Paper to provide an air pollution control system. The Company
believes that such decrease was also attributable to the reluctance of companies
in the forest products and pulp and paper industries to purchase air pollution
control equipment until the U.S. government adopted the new "cluster" rules
relating to air pollution amelioration. These rules were enacted in November
1997. As a consequence of such enactment, the Company anticipates that purchases
of its air pollution equipment should modestly increase over the next 12 to 18
months.

     Rehabilitation, maintenance and spare parts revenue increased by $267,929
(25.6%) to $1,315,040 for the twelve month period ended June 30, 1998 as
contrasted with $1,047,111 for the corresponding 1997 period. This increase
resulted from increased shipments of both nozzles and scrubber spare parts.

     Cost of original equipment for the twelve month period ended June 30, 1998
decreased by $864,183 (43.2%) to $1,138,336 as contrasted with $2,002,519 for
the corresponding 1997 period. Expressed as a percentage of original equipment
revenue, cost of original equipment was 74.2% for the current twelve month
period and 64.5% for the same period in 1997. This increase was due to
unforeseen costs on two projects and a product mix shift with the 

                                       20
<PAGE>
 
inclusion of larger jobs which included low margin components in the current
year-to-date figures.

     Cost of rehabilitation, maintenance and spare parts increased by $229,138
(38.3%) to $827,008 for the twelve months ended June 30, 1998 as compared to
$597,870 for the corresponding 1997 period. Expressed as a percentage of
rehabilitation, maintenance and spare parts revenue, such cost was 62.9% for
twelve months ended June 30, 1998 and 57.1% for the same period in 1997. This
increase was largely the result of increased revenues. Included in the totals
are a number of orders for components that typically command a lower margin than
experienced in the 1997 period.

     Total expenses including selling, general and administrative expenses
increased by $410,632 for the twelve month period ended June 30, 1998 to
$1,951,931 as contrasted with $1,541,299 for the corresponding 1997 period.
Expressed as a percentage of total revenue, selling, general and administrative
expenses were 68.5% for the current twelve month period and 37.1% for the same
period in 1997.  This increase was due to the addition of predecessor expenses
of approximately $589,915, which included $28,000 related to the Consolidation,
as well as $94,675 of inducement expense attributable to the conversion of
certain Company debentures into equity in the current period.  Amortization of
goodwill created by the Consolidation amounted to $153,475.

     Interest income increased $3,366 to $12,895 for the twelve months ended
June 30, 1998 from $9,529 in the comparable 1997 period.  This increase was
attributable to interest earned upon the proceeds from a private placement of
equity, discussed below, that were held in escrow pending completion of the
Merger.


Liquidity and Capital Resources
-------------------------------

     The Company had a negative cash flow from operating activities of $421,983
for the year ended  June 30, 1998 as compared to a negative cash flow of
$334,977 for the same period in 1997, a decrease of $87,006.

     By August 1997, the Company completed a private placement of 207,948 shares
of common stock at a price of $3.48 per share for an aggregate consideration of
$724,499. These funds were subsequently used for working capital.  Additional
funds were raised through the exercise of options held by directors and
employees.

     At June 30, 1998, the Company had negative working capital of $138,434 as
compared to positive working capital of $522,849 at June 30, 1997, a decrease of
$661,283. The Company's current ratio (current assets divided by current
liabilities) was 0.87 and 1.47 at June 30, 1998 and June 30, 1997, respectively.

                                       21
<PAGE>
 
     The Company's contracts typically provide for progress payments based upon
the achievement of performance milestones or the passage of time. The Company's
contracts often provide for the Company's customers to retain a portion of the
contract price until the achievement of performance guarantees has been
demonstrated. The Company attempts to have its progress billings exceed its
costs and estimated earnings on uncompleted contracts; however, it is possible,
at any point in time, that costs and estimated earnings can exceed progress
billings on uncompleted contracts, which would negatively impact cash flow and
working capital. At June 30, 1997, "Deferred costs and unbilled revenue"
exceeded "Unearned revenue and contract advances" by $24,595, thereby negatively
effecting working capital. At June 30, 1998, "Unearned revenue and contract
advances" were less than "Deferred contract cost and unbilled revenue" by
$110,988, thereby positively effecting working capital.

     As a result of the loss from operations incurred in the year ended June 30,
1998, the Company depleted its cash resources and had a working capital
deficiency at June 30, 1998 of $138,434.  As a consequence of such deficiency,
Donald R. Spink, Sr., an officer and director of the Company, together with
another shareholder of the Company, lent an aggregate of Canadian $200,000
(representing $129,400 at the exchange rate of $.647 at such date) to the
Company on October 21, 1998. These loans bear interest at 10% per annum, are
repayable on October 21, 2000, and are collateralized by a lien upon and
security interest in substantially all of the Company's assets. As an inducement
to advance these sums to the Company, the several lenders were granted warrants
to purchase an aggregate of 200,000 common shares of the Company at an initial
exercise price of $0.50 through October 31, 2000, increasing to $.075 thereafter
through October 31, 2002 and to $1.00 thereafter through October 21, 2003,
respectively. The warrants, whose initial exercise price was greater than the
market price of the Company's common shares on the date such warrants were
granted, expire on the earlier of October 31, 2003 or 30 days after the
Company's shares have closed at a price per share above $1.50 for 10 consecutive
trading days on the NASDAQ over-the-counter Bulletin Board.

     In addition, Patrick J. Forde, an officer and director of the Company, has
provided a memorandum of intent to provide a further loan of Canadian $100,000
prior to January 4, 1999 with identical terms to the above loans.

     The aforementioned shareholders have indicated their intention to provide 
financial support to the Company, if required, to meet working capital needs 
during the next year.

     The Company believes that projected cash generated from operations and the
proceeds from the above mentioned financing will be sufficient to meet its cash
needs through the end of the fiscal year ended June 30, 1999.  

                                       22
<PAGE>
 
Year 2000
---------

     The Company has performed a review of its Year 2000 preparedness relative
to its products and systems, its accounting software and its computer hardware.
The Company believes that it will not incur material costs in connection with
becoming Year 2000 compliant. In addition, the Company has received
communications from its significant third party vendors and service providers
stating that they are generally on target to become Year 2000 compliant in 1999
if they have not already done so. There can be no assurance that these third
party vendors and service providers will complete their own Year 2000 compliant
projects in a timely manner and that failure to do so would not have an adverse
impact on the Company's business.


Quantitative and Qualitative Information About Market Risk
----------------------------------------------------------

     The Company does not engage in trading market risk sensitive instruments
and does not purchase hedging instruments or "other than trading" instruments
that are likely to expose the Company to market risk, whether interest rate,
foreign currency exchange, commodity price or equity price risk. The Company has
issued no debt instruments, entered into no forward or future contracts,
purchased no options and entered into no swaps. The Company has no bank
borrowing facility which could subject it to the risk of interest rate
fluctuations.


Item 8.   Financial Statements and Supplementary Data

     Reference is made to pages F-1 through F-19 comprising a portion of this
Annual Report on Form 10-KSB.


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

     Reference is made to Registrant's Current Report on Form 8-K dated February
16, 1998 (filed February 20, 1998), the contents of which are incorporated
herein by reference, for information relating to Registrant's dismissal of
Arthur Andersen LLP as its independent auditors and its subsequent retention of
Ernst & Young LLP as its independent auditors.

                                       23
<PAGE>
 
                                   PART III


Item 10.  Directors and Executive Officers of Registrant

     The Company's executive officers and directors are as follows:

<TABLE>
<CAPTION>
     Name                        Age         Positions and Offices      
     ----                        ---         ----------------------    
<S>                              <C>         <C>                       
                                                                  
Dr. Donald R. Spink, Sr.         74          Chairman of the Board     
                                                                  
Edward F. Spink                  43          President and Director    
                                                                  
Patrick J. Forde                 64          Secretary/Treasurer       
                                             and Director              
                                                                  
Richard H. Hurd                  61          Director and Assistant    
                                             Secretary                 
                                                                  
Robert J. Ferb                   55          Director                   
 
Richard A. Horgan                55          Director
</TABLE>

     DR. DONALD R. SPINK, SR. Has served as Chairman of the Company since the
Consolidation Date. Prior thereto and from 1976 he was Chairman of Turbotak.

     EDWARD F. SPINK has served as President and a Director of the Company since
the Consolidation Date. Prior thereto and from 1995, he was President and a
director of Turbotak. Mr. Spink was Vice President - Operations of Turbotak from
1989 to 1995.

     PATRICK J. FORDE has been Secretary/Treasurer of the Company since the
Consolidation Date. Prior thereto and from 1986 he was a director of Turbotak.
Mr. Forde has served as Vice President -Corporate Planning for Turbotak since
1996. He was Chairman and Chief Executive Officer of Borg Textile Corporation
from 1982 to 1995. He is president and owner of Glencree Investments, Inc.,
chairman of the board of Waterloo Scientific, Inc. and serves on the board of
several other companies.

     RICHARD H. HURD served as President of the Company from August 1993 to
August 1997 and Treasurer of the Company from April 1994 to August 1997. He has
been a director of the Company since February 1993. Mr. Hurd was Vice President
- Finance and Corporate Development of the Company between May 1993 and July
1993, and the Company's director of finance and corporate development between
February 1993 and May 1993. Mr. Hurd has been President and sole owner of RHB
Capital Company Inc., a financial consulting company since 1987.

                                       24
<PAGE>
 
     ROBERT J. FERB served as Secretary and a director of the Company from 1988
to August 1997. Mr. Ferb has provided various legal services to the Company.

     RICHARD A. HORGAN has been retired since October 1993.  From September 1967
until September 1993, Mr. Horgan was a practicing attorney with Winthrop,
Stimson, Putnam & Roberts, New York, New York and Stamford, Connecticut,
specializing in commercial civil litigation.

     All directors hold office until the next annual meeting of stockholders and
the election and qualification of their successors. Executive officers are
elected annually by the Board of Directors to hold office until the first
meeting of the Board following the next annual meeting of stockholders or until
their successors are chosen and qualified.

     The Audit Committee of the Board is charged with the review of the
activities of the Company's independent auditors including, but not limited to,
fees, services and audit scope.  The Audit Committee is comprised of Messrs.
Forde, Hurd and Horgan. The Compensation Committee of the Board is responsible
for oversight and administration of executive compensation.  The Compensation
Committee is comprised of Messrs. Donald Spink, Forde and Horgan.

     The Company has no standing nominating committee of its Board of Directors,
nor any committees performing similar functions.  The Board of Directors as a
whole searches for potential nominees for Board positions and periodically
reviews the compensation of the Company's officers and employees and makes
appropriate adjustments.

     Section 16(a) of the Securities Exchange Act of 1934 requires the Company's
officers and directors, and persons who own more than 10% of the Company's
Common Stock, to file reports of ownership and changes in ownership with the
Securities and Exchange Commission ("SEC").  Officers, directors and greater
than 10% stockholders are required by the SEC regulation to furnish the Company
with copies of all Section 16(a) forms they file.

     Based solely on its review of the copies of such forms received by it, or
written representations from certain reporting persons that no such forms were
required for those persons, the Company believes that during the fiscal year
ended June 30, 1998, all filing requirements applicable to its officers,
directors and greater than 10% beneficial owners were complied with.

                                       25
<PAGE>
 
Item 11.  Executive Compensation

     Summary Compensation
     --------------------

     Set forth below is the aggregate compensation for services rendered in all
capacities to the Company during its fiscal years ended June 30, 1998 and 1997
to its chief executive officer and each of its executive officers whose
compensation exceeded $100,000 during its fiscal year ended June 30, 1998 (the
"Named Officer"):

<TABLE>
<CAPTION>
                                                             LONG TERM COMPENSATION 
                                                            ------------------------
                                 ANNUAL COMPENSATION               AWARDS          
                                 -------------------        ------------------------
                     FISCAL                                                         
NAME AND             YEAR                                   RESTRICTED   NUMBER OF  
PRINCIPAL            ENDED                                  STOCK        OPTIONS AND
POSITION             June 30,    SALARY    COMMISSIONS(1)   AWARDS       WARRANTS   
----------           --------    ------    --------------   --------     -----------
<S>                  <C>         <C>       <C>              <C>          <C>        
Edward F. Spink      1998        30,754    52,231               -             -     
 President           1997        31,911    68,122               -             -     
</TABLE> 

 ____________
(1) Commissions represent a fixed percentage of sales recorded in each fiscal
year.  Effective July 1, 1998, Edward F. Spink's compensation was revised to
include a base salary of $100,000 Canadian (US$63,000 at $1.47) plus a
discretionary bonus to be determined at the end of each fiscal year by the Board
of Directors.


     Option Grants in Last Fiscal Year
     ---------------------------------

     There were no option grants to the Named Officer during the year ended June
30, 1998.  As provided in the Plan, one employee - director and two non-employee
directors of the Company were granted options on the Consolidation Date to
acquire, respectively, 100,000, 50,000 and 50,000 shares of the Company's Common
Stock at an exercise price of $1.00 per share, being the market price of the
Company's Common Stock on the Consolidation Date. These options expire two year
from the Consolidation Date.


     Aggregated Option and Warrant Exercises in Last
     Fiscal Year and Fiscal Year End Option Values
     -----------------------------------------------

     Set forth below is further information with respect to unexercised options
and warrants to purchase the Company's Common Stock granted to the Named Officer
in the fiscal year ended June 30, 1998 and prior years.

                                       26
<PAGE>
 
<TABLE>
<CAPTION>
                             
                   Number of            Number of Exercised         Value of Unexercised
                   Shares               Options and Warrants        In-the-Money Options and
                   Acquired             at April 30, 1998           Warrants at April 30, 1998
                   on         Value     --------------------------  ---------------------------
Name               Exercise   Realized  Exercisable  Unexercisable  Exercisable   Unexercisable
----               ---------  --------  -----------  -------------  ------------  ------------- 
<S>                <C>        <C>       <C>          <C>            <C>           <C>
Edward F. Spink        -         -          -             -               -             -
</TABLE> 

Employment Agreements
---------------------

     None of the Company's current executive officers is employed pursuant to an
employment agreement with the Company.


Item 12.  Security Ownership of Certain Beneficial Owners and Management

     The following table sets forth, as of June 30, 1998 the shares of the
Company's Common Stock beneficially owned by each person who, to the knowledge
of the Company, is the holder of 5% or more of the Common Stock of the Company,
by each director of the Company, by the Named Officer and by all of the
executive officers and directors of the Company as a group:

<TABLE>
<CAPTION>
                              Amount and
Name of                       Nature of          Approximate
Beneficial Owner or           Beneficial         Percentage
Identity of Group             Ownership(1)       of Class
---------------------------   -------------      -----------
<S>                           <C>                <C>
Dr. Donald R. Spink, Sr.       3,356,931(1)(2)       32.9%
*
Edward F. Spink                  465,338(1)           4.6%
*
Patrick J. Forde                 719,159(1)(3)        7.1%
*
Richard H. Hurd                  213,938(1)(4)        2.1%
**
Robert J. Ferb                   108,437(1)(5)        1.1%
**
Richard A. Horgan                122,226(1)(6)        1.2%
**
Canadian Venture Founders      1,334,979(1)          13.1%
114 Lakeshore Road East
Oakville, Ontario L6J 6N2
Canada
 
All executive officers         4,986,029(1)-(6)      48.9%
 and directors as a
 group (6 persons)    
</TABLE>

                                       27
<PAGE>
 
___________
*    550 Parkside Drive, Suite A-14, Waterloo, Ontario  N2L 5V4, Canada.
**   11 Melanie Lane, Unit 22A, East Hanover, NJ 07936.
(1)  Represents shares of Sonic Canada Inc., a wholly owned subsidiary of the
Company, which by their terms are convertible at any time into a like number of
shares of Common Stock of the Company ("Sonic Canada Shares").
(2)  Includes 3,008,186 Sonic Canada Shares owned by Canadian numbered
corporation, over which shares Dr. Spink exercises voting control.
(3)  Includes 507,642 Sonic Canada Shares owned by the Patrick and Joan Forde
Family Trust. 
(4)  Includes 1,195 shares owned by Mr. Hurd's spouse, as to which Mr. Hurd
disclaims any beneficial ownership; also includes 100,000 shares issuable upon
exercise of an option expiring in August 1999 at an exercise price of $1.00 per
share, which option was granted pursuant to the Plan.
(5)  Includes 50,000 shares issuable upon the exercise of an option expiring in
August 1999 at an exercise price of $1.00 per share, which option was granted to
the Plan.
(6)  Includes 929 and 797 shares owned by Mr. Horgan's spouse and daughter,
respectively, as to which Mr. Horgan disclaims any beneficial ownership; also
includes 50,000 shares issuable upon exercise of an option expiring in August
1999 at an exercise price of $1.00 per share, which option was granted pursuant
to the Plan.


Item 13.  Certain Relationships and Related Transactions

     Edward F. Spink is Dr. Donald R. Spink, Sr.'s son.

                                       28
<PAGE>
 
                                    PART IV


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

     (a)  Financial Statements and Financial Statements Schedules:

          (i)       Financial Statements                    Page
                    --------------------                    ----

                    Reports of Independent Public
                         Auditors                           F-1
                    Consolidated Balance Sheet -
                         June 30, 1998                      F-2
                    Consolidated Statements of
                         Operations and deficit
                         for the years ended
                         June 30, 1998 and 1997             F-4
                    Notes to Consolidated Financial
                         Statements                         F-6 - F27

          (ii)      Financial Statements Schedules
                    ------------------------------

                    None


     The other financial statement schedules are omitted because the conditions
requiring their filing do not exist or the information required thereby is
included in the financial statements filed, including the notes thereto.

     (b)  Exhibits, List and Reports on Form 8-K:

          (i)       Exhibits
                    --------

                    21 - Subsidiaries
                    27 - Financial Data Schedule

          (ii)      List
                    ----

                    Inapplicable.

          (iii)     Reports on Form 8K
                    ------------------

                    None.

                                       29
<PAGE>
 
                         INDEPENDENT AUDITORS' REPORT



To the Stockholders of
TurboSonic Technologies, Inc.

We have audited the accompanying consolidated balance sheet of TURBOSONIC
TECHNOLOGIES, INC. and subsidiaries as of June 30, 1998, and the related
consolidated statements of operations and deficit and cash flows for the years
ended June 30, 1998 and 1997.  These consolidated financial statements are the
responsibility of the Company's management.  Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.

We conducted our audits in accordance with auditing standards generally accepted
in the United States.  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 provides a reasonable basis
for our opinion.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
TurboSonic Technologies, Inc. and subsidiaries as of June 30, 1998 and the
consolidated results of its operations and its cash flows for the years ended
June 30, 1998 and 1997 in conformity with accounting principles generally
accepted in the United States.



                                                  /s/ ERNST & YOUNG
                                                  Ernst & Young
                                                  Chartered Accountants


Kitchener, Canada
August 21, 1998.  Chartered Accountants
[Except for note 15 which is as of October 21, 1998.]

                                      F-1
<PAGE>
 
TURBOSONIC TECHNOLOGIES, INC. AND SUBSIDIARIES
[Incorporated under the laws of Delaware, United States of America]

                          CONSOLIDATED BALANCE SHEET
                                        

As at June 30                           Expressed in United States dollars


<TABLE>
<CAPTION>
                                                                  1998
                                                                    $
--------------------------------------------------------------------------------
<S>                                                          <C>
 
ASSETS
CURRENT
Cash                                                            69,277  
Accounts receivable [note 4]                                   491,137
Income taxes recoverable                                        29,135
Inventories [note 5]                                           137,388
Deferred contract costs and unbilled revenue                    52,764
Other current assets                                           111,286
--------------------------------------------------------------------------------
TOTAL CURRENT ASSETS                                           890,987
--------------------------------------------------------------------------------

Fixed assets [note 6]                                          113,489
Investment in unconsolidated subsidiaries                       10,746
Goodwill, less accumulated amortization                      1,395,943
Other assets                                                     9,660
--------------------------------------------------------------------------------
                                                             1,529,838
--------------------------------------------------------------------------------
TOTAL ASSETS                                                 2,420,825 
--------------------------------------------------------------------------------
</TABLE>

See accompanying notes

                                      F-2
<PAGE>
 
<TABLE>
<CAPTION>
                                                                       1998   
                                                                        $     
--------------------------------------------------------------------------------
<S>                                                                 <C>       
                                                                              
LIABILITIES AND SHAREHOLDERS' EQUITY                                          
CURRENT                                                                       
Accounts payable and accrued charges                                   675,428
Accrued commissions                                                     35,940
Accrued professional fees                                              154,301
Unearned revenue and contract advances                                 163,752
--------------------------------------------------------------------------------
TOTAL CURRENT LIABILITIES                                            1,029,421
--------------------------------------------------------------------------------
Accrued charges                                                        152,262
--------------------------------------------------------------------------------
TOTAL LIABILITIES                                                    1,181,683
--------------------------------------------------------------------------------
COMMITMENTS AND CONTINGENCIES [note 13]                                       
                                                                              
ShareHOLDERS' EQUITY                                                          
Share capital [note 7]                                                        
Authorized                                                                    
21,800,000 common shares par value $0.10 per share                           
 8,200,000 exchangeable common shares par value                              
           $0.10 per share [note 1]                                          
Issued                                                                        
1,800,000  common shares                                                    --
8,200,000  exchangeable shares                                       2,299,096
Additional paid-in capital                                           1,439,586
--------------------------------------------------------------------------------
                                                                     3,738,682
(Deficit)                                                           (2,481,156)
Currency translation adjustments                                       (18,384)
--------------------------------------------------------------------------------
TOTAL SHAREHOLDERS' EQUITY                                           1,239,142 
--------------------------------------------------------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY                           2,420,825
--------------------------------------------------------------------------------
</TABLE>

                                      F-3
<PAGE>
 
TurboSonic TECHNOLOGIES, INC. AND SUBSIDIARIES


                     CONSOLIDATED STATEMENT OF OPERATIONS
                                  AND DEFICIT


Year ended June 30                         Expressed in United States dollars


<TABLE>
<CAPTION>
                                                          1998          1997
                                                           $             $
--------------------------------------------------------------------------------
<S>                                                    <C>           <C>
 
CONTRACT REVENUE AND SALES                              2,848,560     4,149,912
Contract costs and cost of sales                        1,965,344     2,600,389
--------------------------------------------------------------------------------
GROSS MARGIN                                              883,216     1,549,523
--------------------------------------------------------------------------------

EXPENSES
Selling, general and administrative                     1,445,937       813,633
Research and development [note 8]                         108,670       161,837
Engineering                                               302,649       211,222
Debt conversion expense [note 9]                           94,675            --
Stock-based compensation                                       --       354,607
--------------------------------------------------------------------------------
                                                        1,951,931     1,541,299
--------------------------------------------------------------------------------
(Loss) income from operations                          (1,068,715)        8,224
Interest income                                            12,895         9,529
--------------------------------------------------------------------------------
(Loss) income before income taxes                      (1,055,820)       17,753
(Recovery of) provision for income taxes [note 10]        (13,925)       58,554
--------------------------------------------------------------------------------
NET (LOSS)                                             (1,041,895)      (40,801)
 
(Deficit), beginning of year                           (1,439,261)   (1,398,460)
--------------------------------------------------------------------------------
(DEFICIT), END OF YEAR                                 (2,481,156)   (1,439,261)
--------------------------------------------------------------------------------

(LOSS) PER SHARE [note 11]
Basic and diluted                                          $(0.12)       $(0.00)
--------------------------------------------------------------------------------
</TABLE>

See accompanying notes

                                      F-4
<PAGE>
 
TurboSonic TECHNOLOGIES, INC. AND SUBSIDIARIES


                     CONSOLIDATED STATEMENT OF CASH FLOWS


Year ended June 30                           Expressed in United States dollars


<TABLE>
<CAPTION>
 
                                                            1998          1997
                                                             $              $
-----------------------------------------------------------------------------------
<S>                                                      <C>            <C>
OPERATING ACTIVITIES
Net (loss)                                               (1,041,895)     (40,801)
Add (deduct) charges to operations not requiring a
 current cash payment
  Depreciation and amortization                             270,735       20,260
  Debt conversion expense                                    94,675           --
  Stock-based compensation                                       --      354,607
(Gain) on sale of fixed assets                                   --         (366)
-----------------------------------------------------------------------------------
                                                           (676,485)     333,700
Changes in non-cash working capital balances related
 to operations [note 12]                                    254,502     (668,677)
-----------------------------------------------------------------------------------
CASH (APPLIED TO) OPERATING ACTIVITIES                     (421,983)    (334,977)
-----------------------------------------------------------------------------------

INVESTING ACTIVITIES
Reverse acquisition [note 1]                                     --           --
Purchase of fixed assets                                    (47,394)     (17,071)
Deposit and prepaid costs                                  (118,391)    (366,582)
Advances to Sonic Environmental Systems, Inc.                    --      (98,972)
Proceeds on disposal of fixed assets                             --          366
-----------------------------------------------------------------------------------
CASH (APPLIED TO) INVESTING ACTIVITIES                     (165,785)    (482,259)
-----------------------------------------------------------------------------------
 
FINANCING ACTIVITIES
Issue of common shares                                      144,113    1,044,758
Cash held in trust                                           67,427      (69,229)
Deposit on common share offering                           (109,355)     112,278
-----------------------------------------------------------------------------------
CASH PROVIDED BY FINANCING ACTIVITIES                       102,185    1,087,807
-----------------------------------------------------------------------------------
Effect of exchange rate changes on cash                     (26,773)      (1,130)
-----------------------------------------------------------------------------------
 
NET CASH (APPLIED) PROVIDED DURING YEAR                    (512,356)     269,441
Cash, beginning of year                                     406,847      137,406
Cash, acquired on reverse acquisition                       174,786           --
-----------------------------------------------------------------------------------
CASH, END OF YEAR                                            69,277      406,847
-----------------------------------------------------------------------------------
</TABLE>

See accompanying notes

                                      F-5
<PAGE>
 
TurboSonic TECHNOLOGIES, INC. AND SUBSIDIARIES


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                                Expressed in United States dollars



1. ORGANIZATION AND BUSINESS DESCRIPTION

During the 1997 fiscal year, Sonic Environmental Systems ["Sonic"] entered into
certain transactions and agreements involving Turbotak Technologies, Inc.
["Turbotak"], a Canadian corporation, that resulted in the stockholders of
Turbotak acquiring a controlling interest of Sonic on August 27, 1997.

On September 16, 1996, Sonic consented to the entry of an Order for Relief under
Chapter 11 of the United States Bankruptcy Code.  On July 3, 1997 the Bankruptcy
Court confirmed the Debtor's First Amended Plan of Reorganization ["Plan"].
Subsequent to the approval, the Plan was modified and a Combination Agreement
was drawn up between Sonic and Turbotak which was approved by the stockholders
of Turbotak on August 25, 1997.

Pursuant to the Plan and Combination Agreement, effective August 27, 1997, the
transaction date, Sonic amended its certificate of incorporation to change its
name to TurboSonic Technologies, Inc. ["TurboSonic" or "the Company"].  All
existing and outstanding stock, warrants and options of Sonic were terminated
and cancelled.  TurboSonic has authorized share capital of 30,000,000 common
shares.  TurboSonic incorporated a subsidiary corporation [TurboSonic Canada] in
the Province of Ontario, Canada which was authorized to issue Class A and Class
B common shares.  TurboSonic subscribed for 100% of TurboSonic Canada's Class A
shares in exchange for a nominal capital contribution.

Also on August 27, 1997, the stockholders of Turbotak exchanged their shares for
TurboSonic Canada's Class B shares, which were distributed to each stockholder
of Turbotak on a pro rata basis. As a result of this exchange, Turbotak became a
wholly-owned subsidiary of TurboSonic Canada. The Class B shares of TurboSonic
Canada are exchangeable, at any time, at the election of the holders of such
shares, into an equivalent number of such shares of TurboSonic and have voting
rights through a trustee.

The exchangeable shares of TurboSonic Canada represent approximately 82% of the
outstanding shares of TurboSonic and represent voting control. Approximately 13%
of the shares of TurboSonic were issued to the existing stockholders of the
Company and the balance were issued in accordance with the Plan to unsecured
creditors and other identified interests.

                                      F-6
<PAGE>
 
TurboSonic TECHNOLOGIES, INC. AND SUBSIDIARIES


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                                Expressed in United States dollars


1. ORGANIZATION AND BUSINESS DESCRIPTION CONT'D

This reorganization is accounted for as a reverse acquisition in accordance with
accounting principles generally accepted in the United States.  Application of
reverse acquisition accounting results in the following:

(i)   The consolidated financial statements of the combined entity are issued
      under the name of the legal parent [TurboSonic] but are considered a
      continuation of the financial statements of the legal subsidiary
      [Turbotak];
(ii)  As Turbotak is deemed to be the acquirer for accounting purposes, its
      assets and liabilities are included in the consolidated financial
      statements of the continuing entity at their carrying values; and
(iii) For purposes of the business combination, the consideration is the
      $990,304 ascribed to the 9,847,370 common shares of Sonic outstanding
      immediately prior to the business combination plus $484,313 of transaction
      costs.

The purchase price attributed to Turbotak as the acquirer includes the
following:

<TABLE>
<CAPTION>
                                                                                         $
------------------------------------------------------------------------------------------------
<S>                                                                                <C>
Acquisition cost of the bank note payable by Sonic Environmental Systems, Inc.       250,000
Professional fees                                                                    234,313
Exchange of shares                                                                   990,304
------------------------------------------------------------------------------------------------
TOTAL CONSIDERATION                                                                1,474,617
------------------------------------------------------------------------------------------------
</TABLE>

Management has made an allocation of the purchase price among the individual
assets and liabilities of Sonic Environmental Systems, Inc. as follows:

<TABLE>
<CAPTION>
                                                                                         $
------------------------------------------------------------------------------------------------
<S>                                                                                <C>
Current assets                                                                       481,911 
Capital assets                                                                        71,386 
Other assets                                                                          99,308 
------------------------------------------------------------------------------------------------
                                                                                     652,605 
Current liabilities                                                                  727,406 
------------------------------------------------------------------------------------------------
                                                                                     (74,801)
Goodwill                                                                           1,549,418 
------------------------------------------------------------------------------------------------
TOTAL PURCHASE PRICE                                                               1,474,617  
------------------------------------------------------------------------------------------------
</TABLE>

                                      F-7
<PAGE>
 
TurboSonic TECHNOLOGIES, INC. AND SUBSIDIARIES


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                                Expressed in United States dollars


1. ORGANIZATION AND BUSINESS DESCRIPTION CONT'D

The following pro forma information represents values as if Sonic and Turbotak
had been consolidated July 1, 1996:

<TABLE> 
<CAPTION> 
                                                                      $
--------------------------------------------------------------------------------
<S>                                                              <C>       
Revenue                                                          6,209,440
Net (loss)                                                        (500,128)
(Loss) per share - basic                                             (0.05)
</TABLE> 

The US-based Company with its Canadian subsidiaries designs and markets air
pollution control systems including scrubber and spray nozzle systems. The
scrubber systems are mainly targetted to the North America pulp and paper
industry and other industrial manufacturers. The main markets for the nozzle
systems are the cement and steel industries. The Company allocates resources to
research and development to enhance the current product lines and their
applications. Information on segmented reporting is included in note 14.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

The consolidated financial statements have been prepared in accordance with
accounting principles generally accepted in the United States and are within the
framework of the significant accounting policies summarized below:

PRINCIPLES OF CONSOLIDATION

The consolidated financial statements include the accounts of the Company and
its majority-owned subsidiaries.  Significant inter-company accounts and
transactions have been eliminated in consolidation.  Investments in a majority-
owned subsidiary where control is temporary is accounted for under the equity
method.

INVENTORIES

Raw materials are valued at the lower of cost, on a first-in, first-out basis,
and replacement cost.

Finished goods are valued at the lower of cost, on a first-in, first-out basis,
and net realizable value.  Net realizable value is defined as selling price less
estimated selling costs.

                                      F-8
<PAGE>
 
TurboSonic TECHNOLOGIES, INC. AND SUBSIDIARIES


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                                Expressed in United States dollars


2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES CONT'D

GOODWILL

Goodwill that arose on the reverse acquisition of TurboSonic Technologies, Inc.
is being amortized over 10 years. Amortization expense in fiscal 1998 and
accumulated amortization at June 30, 1998 was $153,475. Goodwill is recorded at
the lower of book value and net recoverable amount. Any impairment in value is
recorded in earnings when it is identified based on management's projected
undiscounted future cash flows from the related operations.

FIXED ASSETS

Fixed assets and leasehold improvements are recorded at cost.  Depreciation is
calculated on the straight-line method over the estimated useful lives of the
assets, typically 5 or 7 years.  Leasehold improvements are amortized on a
straight-line basis over the lease term.

Full depreciation is taken in the year of acquisition and none in the year of
disposal.

INVESTMENTS

Investments in a majority-owned subsidiary, disclosed below, where control is
temporary and investments in a less-than-50%-owned company are accounted for on
the equity method whereby the original investment is recorded at cost and
adjustments are made for the Company's share of undistributed earnings or losses
of these companies.

In 1994, the Company acquired an 80% interest in Euthenergy International, Inc.
(EII).  The agreement provides a purchase option which will enable the minority
stockholder to reacquire the Company's 80% interest in EII for the greater of
(1) five times EII's average pre-tax profits or (2) a sum equal to (A) all
indebtedness owed to the Company by EII and (B) the aggregate face value of
EII's firm backlog, both measured as of the date of the exercise of the purchase
option.  The option initially became exercisable within 30 days after the
release of EII's financial statements for the fiscal year ended April 30, 1997
and annually thereafter upon release of each successive year's financial
statements.

As the result of the temporary control aspect of the EII acquisition, management
of the Company has not consolidated this subsidiary and is recording its
investment on the equity basis.

                                      F-9
<PAGE>
 
TurboSonic TECHNOLOGIES, INC. AND SUBSIDIARIES


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                                Expressed in United States dollars


2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES CONT'D

ACCOUNTING FOR REVENUES AND LONG-TERM CONTRACTS

The Company derives revenue from long-term contracts which require performance
[i.e. design, construction and performance testing] over a time span which may
extend one or more accounting periods. Generally, the percentage-of-completion
method is used to account for long-term contracts. For contracts involving
significant uncertainty, such as the use of new technology, the completed
contract method is used. Other revenues are recorded when products are shipped
to the customer or services are performed.

The percentage-of-completion is determined by best available engineering
estimates. When the current estimated costs to complete indicate a loss, such
losses are recognized immediately for accounting purposes.

Contract revenues recorded under the percentage-of-completion method in excess
of amounts billed are classified as deferred contract costs and unbilled
revenue. Amounts billed in excess of revenue earned and work-in-process balances
are classified as unearned revenue and contract advances.

GOVERNMENT GRANTS

Government grants are recorded when qualifying expenditures are incurred or the
specific terms of grant contracts are fulfilled. Grants received in advance of
the incurrence of qualifying expenditures are recorded as deferred grant
revenue. Grants received to finance specific expenses are included in the
statement of income as a reduction of these expenses. Grants received to finance
capital expenditures are applied to reduce the cost of the related capital
assets.

INVESTMENT TAX CREDITS

Investment tax credits are accrued when qualifying expenditures are made and
there is reasonable assurance that the credits will be realized. Investment tax
credits earned with respect to current expenditures for qualified research and
development activities are included in the statement of income as a reduction of
expenses. Tax credits earned with respect to capital expenditures are applied to
reduce the cost of the related fixed assets.

RESEARCH AND DEVELOPMENT EXPENDITURES

Research and development costs [other than capital expenditures] are expensed as
incurred. Expenditures are reduced by any related investment tax credits and
government grants.

                                      F-10
<PAGE>
 
TurboSonic TECHNOLOGIES, INC. AND SUBSIDIARIES


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                                Expressed in United States dollars


2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES CONT'D

INCOME TAXES

The Company accounts for income taxes in accordance with the provisions of
Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes
["SFAS 109"].  SFAS 109 requires recognition of deferred tax assets and
liabilities for the expected future tax consequences of events that have been
included in the financial statements or tax returns. Under this method, deferred
tax assets and liabilities are determined based on the difference between the
financial statement and tax bases of assets and liabilities using enacted tax
rates in effect for the year in which the differences are expected to reverse. A
valuation allowance against the deferred tax assets is provided when it is more
likely than not that a portion or all of a deferred tax asset will not be
realized.

ADVERTISING COSTS

All costs associated with advertising and promoting products are expensed as
incurred. Advertising and promotion expense was $18,390 in 1998 and $24,596 in
1997.

STOCK-BASED COMPENSATION

The Company grants subscription warrants for a fixed number of Class B shares to
employees and options to employees and certain directors for common shares. The
Company accounts for the warrant and option grants in accordance with APB
Opinion No. 25, Accounting for Stock Issues to Employees, and, where the
exercise price approximates the share value on the date of the grant, recognizes
no compensation expense. For the stock option grants in 1998 no compensation
expense was recognized; in fiscal 1997 $354,607 was recognized.

In October 1995, the Financial Accounting Standards Board ["FASB"] issued
Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based
Compensation, which provides an alternative to APB Opinion No. 25, Accounting
for Stock Issued to Employees, in accounting for stock-based compensation issued
to employees. The Statement allows for a fair value based method of accounting
for employee stock options and similar equity instruments. However, for
companies that continue to account for stock-based compensation arrangements
under Opinion No. 25, Statement No. 123 requires disclosure of the pro forma
effect on net income and earnings per share of its fair value based accounting
for those arrangements. The Company has determined the fair value of the options
and warrants at their date of grant using a Black-Scholes option pricing model.

                                      F-11
<PAGE>
 
TurboSonic TECHNOLOGIES, INC. AND SUBSIDIARIES


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                                Expressed in United States dollars


2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES CONT'D

LOSS PER SHARE

The loss per share figures are calculated on the following basis: the number of
shares outstanding prior to the date of the reverse acquisition are deemed to be
the number of shares issued by the legal parent to the shareholder of the legal
subsidiary. The number of shares outstanding from the date of the reverse
acquistion to the end of the fiscal period are deemed to be the actual number of
shares of the legal parent outstanding in that period. The loss per share is
calculated using the weighted average number of shares based on the
aforementioned determined number of shares.

In computing the loss per share, the Company has adopted Statement of Financial
Accounting Standard No. 128 ["SFAS 128"], Earning per Share; there was no impact
on prior year's per share amounts. In addition, the TurboSonic Canada Class B
exchangeable shares are considered outstanding common shares of TurboSonic.
There is no effect on the diluted (loss) per share as the effect of exercising
options would be anti-dilutive.

FOREIGN CURRENCY TRANSLATION

The Company maintains its accounts in Canadian dollars for Canadian-based
subsidiaries, their functional currency, and in United States dollars for the
legal parent company. The financial statements have been translated into United
States dollars in accordance with FASB Statement No. 52, Foreign Currency
Translation. All balance sheet accounts have been translated using the exchange
rates in effect at the balance sheet date. Income statement amounts have been
translated using the average exchange rate for the year. The gains and losses
resulting from the changes in exchange rates from year to year have been
reported separately as a component of shareholders' equity.

FOREIGN CURRENCY TRANSACTIONS

Monetary assets and liabilities are translated to the Company's functional
currency equivalent at the year-end exchange rate. Revenues and expenses are
translated to the Company's functional currency using the average exchange rate
for each month.

                                      F-12
<PAGE>
 
TurboSonic TECHNOLOGIES, INC. AND SUBSIDIARIES


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                                Expressed in United States dollars


2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES CONT'D

USE OF ESTIMATES

In preparing these consolidated financial statements in accordance with
accounting principles generally accepted in the United States, management is
required to make estimates and assumptions that affect the amounts reported in
the consolidated financial statements and accompanying notes. Significant
estimates include allowance for doubtful accounts, inventory obsolescence,
investment tax credits and profitability on long-term contracts. Actual results
could differ from those estimates.

IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS

In June 1997, the FASB issued Statement No. 131, Disclosures about Segments of
an Enterprise and Related Information, which is required to be adopted for the
Company's financial statements for the year ended June 30, 1999. Under the new
requirements, financial information about operating segments should be reported
on the basis that is used internally by the Company for evaluating operating
segments and resource allocation decisions. Also in June 1997, the FASB issued
Statement No. 130, Reporting Comprehensive Income which is required to be
adopted for the Company's quarterly reporting beginning September 30, 1998. In
February 1998, the FASB released Statement No. 132, Employers' Disclosures about
Pensions and other Postretirement Benefits - an amendment of FASB Statements No.
87, 88 and 106. In June 1998, the FASB released Statement No. 133, Accounting
for Derivative Instruments and Hedging Activities, which is effective for fiscal
years beginning after June 15, 1999. The Company has not determined the effect,
if any, of these pronouncements on its consolidated financial statements.

3. FINANCIAL INSTRUMENTS

Fair value of financial instruments

The carrying amounts reported in the balance sheet for cash, accounts
receivable, accounts payable and accrued liabilities approximate fair value
based on the short-term maturity of these instruments.

                                      F-13
<PAGE>
 
TurboSonic TECHNOLOGIES, INC. AND SUBSIDIARIES


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                                Expressed in United States dollars


3. FINANCIAL INSTRUMENTS CONT'D

Concentration of risk

Financial instruments that potentially subject the Company to credit risk
consist principally of trade accounts receivable. The Company designs and sells
environmental scrubbers and nozzles. Sales are made to end users of all sizes
located primarily in North America. Receivables are unsecured. The Company
provides an allowance for doubtful accounts equal to the estimated losses
expected to be incurred in the collection of accounts receivable. Allowances
recorded up to June 30, 1998 have not been material.

As at June 30, 1998 the Company had one customer that comprised 24% of the total
trade receivable balance and had no customers that comprised more than 10% of
the total trade receivable balance in fiscal 1997. For the year ended June 30,
1998, the Company had one customer that comprised 10% of total revenue, and one
customer in fiscal 1997 that comprised 42% of total revenue.

Trade accounts receivable and trade accounts payable are received or paid in
either U.S. or Canadian dollars.  Accordingly, the Company is at risk of a loss
for decreases in the value of the Canadian dollar relative to the U.S. dollar
for trade accounts receivable and increases in the value of the Canadian dollar
relative to the U.S. dollar for trade accounts payable.  The Company does not
use financial instruments to mitigate the foreign exchange risk.

The Company's cash balances are maintained in one United States chartered bank
which is a AA rated financial institution.  The Company's cash balances for the
Canadian-based subsidiaries are maintained in one Canadian chartered bank which
is a AA rated financial institution.

4. ACCOUNTS RECEIVABLE

<TABLE> 
<CAPTION> 
                                                                    1998
                                                                      $
--------------------------------------------------------------------------------
<S>                                                             <C>   
Trade accounts receivable                                        510,724
Other receivables                                                 89,529
Allowance for doubtful accounts                                 (109,116)
--------------------------------------------------------------------------------
                                                                 491,137
--------------------------------------------------------------------------------
</TABLE> 

Bad debt expense was $2,924 in 1998 and $10,650 in 1997.

                                      F-14
<PAGE>
 
TurboSonic TECHNOLOGIES, INC. AND SUBSIDIARIES


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                                Expressed in United States dollars


5. INVENTORIES

<TABLE> 
<CAPTION> 
                                                                   1998
                                                                     $
--------------------------------------------------------------------------------
<S>                                                             <C>   
Raw materials                                                    13,405
Finished goods                                                  123,983
--------------------------------------------------------------------------------
                                                                137,388
--------------------------------------------------------------------------------
</TABLE> 

 
6. FIXED ASSETS

<TABLE> 
<CAPTION> 
                                                   ACCUMULATED   
                                                  DEPRECIATION   
                                                       AND       NET BOOK
                                           COST    AMORTIZATION   VALUE 
1998                                        $           $           $
--------------------------------------------------------------------------------
<S>                                      <C>      <C>            <C>  
Office equipment                         401,500       340,050    61,450
Other equipment                          327,097       294,871    32,226
Leasehold improvements                    23,865         4,052    19,813
--------------------------------------------------------------------------------
                                         752,462       638,973   113,489
--------------------------------------------------------------------------------
</TABLE>

                                      F-15
<PAGE>
 
TurboSonic Technologies, Inc. and Subsidiaries


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                              Express in United States dollars


7. SHARE CAPITAL

TO AUGUST 27, 1997

The authorized share capital of Turbotak which, for accounting purposes, is
deemed to have acquired Sonic effective August 27, 1997, consisted of an
unlimited number of common shares without par value and 200,000 Class B, non-
voting, non-cumulative, special shares redeemable for $0.01 per share. Changes
in the capital stock of Turbotak to August 27, 1997, the effective date of the
business combination with Sonic, were as follows:

<TABLE>
<CAPTION>
                                      COMMON SHARES                  CLASS B SHARES
                                      -------------                  --------------
                            Number       Stated      Paid-in       Number      Stated
                           of shares     capital     capital     of shares     capital
                               #            $           $            #            $
---------------------------------------------------------------------------------------
<S>                        <C>           <C>         <C>         <C>           <C>
BALANCE JUNE 30, 1997      1,509,413     1,382,656   354,607        66,600       --  
 Debenture conversion        290,562       772,327    94,675            --       --  
 Debenture option                                                                    
   exercise                   25,000        18,014        --            --       --  
 Conversion of warrants           --            --        --        11,800       --   
---------------------------------------------------------------------------------------
BALANCE AUGUST 27, 1997    1,824,975     2,172,997   449,282        78,400       --
---------------------------------------------------------------------------------------
</TABLE>

During fiscal 1998, the Company's debenture holder converted the debt instrument
into common shares as disclosed in note 9, including its option of purchasing
25,000 common shares at $0.72 [$1.00 Cdn.] per share.

In prior years, as part of its discretionary incentive plan, the Company issued
subscription warrants to employees which, upon becoming vested, may be redeemed
for Class B shares at a price of $0.001.  In the past, the vesting period ranged
from one day to three years upon the discretion of the President of the Company.
As a result of a resolution of the Board of Directors, the outstanding warrants
were able to be exercised at the earliest of the original vesting date and the
effective date of the Combination Agreement discussed in note 1.  The warrants
expire five years after they are vested.  The number of subscription warrants
issued is determined by the President of the Company up to an accumulated total
of 200,000.

As a result of the reverse acquisition, the outstanding warrants as at June 30,
1997 [11,800] were converted to Class B shares.  No additional warrants were
issued during fiscal 1998.

                                      F-16
<PAGE>
 
TurboSonic Technologies, Inc. and Subsidiaries


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                              Express in United States dollars


7. SHARE CAPITAL CONT'D

AS AT AUGUST 27, 1997

For accounting purposes, the share capital of the continuing consolidated entity
as at August 27, 1997 is computed as follows:

<TABLE>
<CAPTION>
                                                                       $
--------------------------------------------------------------------------------
<S>                                                                <C>
Existing share capital and paid-in capital of
 Turbotak, August 27, 1997                                         2,622,279
Ascribed value of the shares of Sonic                                990,304
--------------------------------------------------------------------------------
SHARE CAPITAL OF SONIC, AUGUST 27, 1997                            3,612,583
--------------------------------------------------------------------------------
</TABLE>

As a result of the business combination, Turbotak became a wholly-owned
subsidiary of Sonic. For accounting purposes, at August 27, 1997, the
outstanding shares of the continuing consolidated entity consisted of the number
of Sonic shares issued to that date with an ascribed value equal to the share
capital of the continuing consolidated entity as computed above. As a result,
the number of outstanding shares of Sonic as at August 27, 1997 is computed as
follows:

<TABLE>
<CAPTION>
                                                                             NUMBER OF
                                                                                SHARES
-----------------------------------------------------------------------------------------
<S>                                                                         <C>  
Existing outstanding shares of Sonic, August 27, 1997                        9,847,370
Share transactions related to the business combination:
 Share consolidation upon bankruptcy                                        (8,511,370)
 Issued to Turbotak shareholders                                             8,051,950
 Other issuances of common shares                                              464,000
-----------------------------------------------------------------------------------------
OUTSTANDING COMMON SHARES OF SONIC, AUGUST 27, 1997                          9,851,950
----------------------------------------------------------------------------------------- 
</TABLE> 

TO JUNE 30, 1998
 
The authorized share capital of the Company consists 30,000,000 common shares
with a par value of $0.10.

<TABLE> 
<CAPTION> 
                                                                 #              $
------------------------------------------------------------------------------------------
<S>                                                        <C>               <C> 
BALANCE AUGUST 27, 1997                                     9,851,950        3,612,583
Private placement                                             148,050          126,099
------------------------------------------------------------------------------------------
BALANCE JUNE 30, 1998                                      10,000,000        3,738,682
------------------------------------------------------------------------------------------
</TABLE> 

                                      F-17
<PAGE>
 
TurboSonic Technologies, Inc. and Subsidiaries


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                              Express in United States dollars


7. SHARE CAPITAL CONT'D

During fiscal 1998, 148,050 common shares were issued as a private placement for
total consideration of $126,099.  The price per share was $0.852 [$1.18 Cdn.].

Certain directors were granted options in fiscal 1998, which vested immediately,
to purchase a total of 200,000 common shares of the Company at an exercise price
of $1.00 per share.  The options were outstanding as at June 30, 1998 and expire
August 27, 1999.

Stock-based Compensation

Pro forma information regarding net income and earnings per share is required by
Statement 123, and has been determined as if the Company had accounted for its
employee and director stock options under the fair value method of that
Statement. The fair value for these options was estimated at the date of grant
using a Black-Scholes option pricing model with the following assumptions; risk-
free interest rate of 6.00% [6.44% in 1997], dividend yield of 0%, volatility
factor of the expected market price of the Company's common stock of .5 and a
weighted-average expected life of the options of 2 years [one month in 1997].

The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options which have no vesting restrictions and are fully
transferable.  In addition, option value models require the input of highly
subjective assumptions including the expected stock price volatility.  Because
the Company's employee and director stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its employee and director stock options.

For purposes of pro forma disclosures, the estimated fair value of the options
is amortized to expense over the options' vesting period.  The Company's pro
forma information is as follows:

<TABLE>
<CAPTION>
                                                          1998        1997
                                                            $           $
--------------------------------------------------------------------------------
<S>                                                    <C>           <C>
Pro forma net (loss)                                   (1,049,895)   (41,541)
Pro forma (loss) per share
  Basic and diluted                                         (0.12)        --
</TABLE>

                                      F-18
<PAGE>
 
TurboSonic Technologies, Inc. and Subsidiaries


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                              Express in United States dollars


8. RESEARCH AND DEVELOPMENT EXPENSES

<TABLE>
<CAPTION>
                                                          1998        1997
                                                            $           $
--------------------------------------------------------------------------------
<S>                                                    <C>           <C>
Expenses incurred                                      111,419       169,156
Government grants                                       (2,749)       (7,319)
--------------------------------------------------------------------------------
                                                       108,670       161,837 
--------------------------------------------------------------------------------
</TABLE>

9. DEBT CONVERSION EXPENSE

After amendments to the original convertible debenture agreement, the debenture
holder agreed to waive accrued interest of $51,762 outstanding on the principal
portion of the debenture and, the Company issued 290,562 common shares on the
conversion of the $720,565 [$1,000,000 Cdn] principal amount. The total of
$772,327 is reflected in share capital, as disclosed in note 7. The Company also
granted to the debenture holder an option to acquire up to 25,000 common shares
of the Company at a price of $0.72 [$1.00 Cdn] per share for five years.

Based upon the fair market value of the shares when the amendments were made,
the transaction gave rise to an expense of $94,675.

                                      F-19
<PAGE>
 
TurboSonic Technologies, Inc. and Subsidiaries


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                              Express in United States dollars


10. INCOME TAXES

<TABLE> 
<CAPTION> 
                                             1998                 1997
                                         $           %         $       %
--------------------------------------------------------------------------------
<S>                                      <C>        <C>    <C>        <C>
(Recovery of) provision for income
 taxes based on basic Canadian
  federal income tax rates               (303,400)  (29)      5,167     29
(Recovery of) provision for income
 taxes based on basic Canadian
  provincial income tax rates            (161,494)  (16)      2,750     15
Lower effective tax rate of other
 countries                                 27,823     3          --     --
Increase (decrease) resulting from -
 Debt conversion expense                   39,663     4          --     --
 Goodwill amortization                     44,639     4          --     --
 Small business deduction                  29,912     3     (32,204)  (181)
 Realization of loss carryforwards
  from prior years                        (17,423)   (2)   (147,529)  (831)
 Benefits of loss carryforwards not
  recognized                              302,934    30      72,144    407
 Stock-based compensation                      --    --     158,226    892
 Other                                     23,421     2          --     --
--------------------------------------------------------------------------------
                                          (13,925)   (1)     58,554    331
--------------------------------------------------------------------------------
</TABLE> 

Income taxes paid are as follows:

<TABLE> 
<CAPTION> 
                                                            1998        1997
                                                              $           $
--------------------------------------------------------------------------------
<S>                                                       <C>         <C>   
Canadian Federal                                           7,753          --
U.S. Federal                                              21,166          --
Canadian Provincial                                        1,998          --
--------------------------------------------------------------------------------
                                                          30,917          --
--------------------------------------------------------------------------------
</TABLE>

                                      F-20
<PAGE>
 
TurboSonic Technologies, Inc. and Subsidiaries


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                              Express in United States dollars


10. INCOME TAXES CONT'D

Income tax refunds received are as follows:

<TABLE>
<CAPTION>
                                                  1998       1997
                                                    $          $
--------------------------------------------------------------------------------
<S>                                            <C>           <C>
Canadian Federal                               (10,724)       --
Canadian Provincial                             (7,948)       -- 
--------------------------------------------------------------------------------
                                               (18,672)       --
--------------------------------------------------------------------------------
</TABLE>

The Company is eligible for investment tax credits with respect to qualifying
scientific research and experimental development expenditures in Canada. An
amount of approximately $3,000 relating to investment tax credits for the 1996
year and approximately $42,000 for the 1995 year is included in income taxes
recoverable on the balance sheet as at June 30, 1998 and is subject to review
and audit by Revenue Canada. As a result of uncertainty related to Revenue
Canada's current assessing practices regarding claims for scientific research
and experimental development expenditures, no amount has been accrued for
potential investment tax credits in 1998 or 1997. Although the Company has used
its best judgment and understanding of the related income tax legislation in
determining this amount it is possible that the amounts could change by a
material amount dependent on the review and audit by Revenue Canada.

The Company has filed additional claims for investment tax credits related to
prior years. The benefit of these claims, if any, will be recognized in the
Company's accounts following audit and approval by Revenue Canada. It is
possible that the amount could be material.

The Company and its subsidiaries have unutilized, non-capital losses at June 30,
1998 available of approximately $8,900,000 for United States income tax purposes
to carry forward to future years, which expire in the years 2009 through 2018.

The Company and its subsidiaries have unutilized, non-capital losses at June 30,
1998 available of approximately $900,000 for Canadian income tax purposes to
carry forward to future years, which expire in the years 1999 through 2005.  If
claims for investment tax credits related to prior years are successful, the
amount of non-capital losses may be reduced.  In addition, the Company has
unclaimed scientific research and experimental development expenditures for
Canadian tax purposes of approximately $77,000 that may be carried forward
indefinitely to reduce taxable income in future years.  The benefit of the above
amounts has not been recognized in the accompanying financial statements.

                                      F-21
<PAGE>
 
TurboSonic Technologies, Inc. and Subsidiaries


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                              Express in United States dollars


10. INCOME TAXES CONT'D

Deferred tax liabilities and assets are comprised of the following as at June
30:

<TABLE>
<CAPTION>
                                                   1998         1997
                                                    $            $
--------------------------------------------------------------------------------
<S>                                             <C>           <C>
Tax over book depreciation                          13,966          --
--------------------------------------------------------------------------------
TOTAL DEFERRED TAX LIABILITIES                      13,966          --
--------------------------------------------------------------------------------

Book over tax depreciation                              --         262
Net operating loss carryforward                  3,475,214     325,046
--------------------------------------------------------------------------------
TOTAL DEFERRED TAX ASSETS                        3,475,214     325,308
Valuation allowance for deferred tax assets     (3,475,214)   (325,308)
--------------------------------------------------------------------------------
NET DEFERRED TAX LIABILITY (ASSET)                      --          --
--------------------------------------------------------------------------------
</TABLE>

11. LOSS PER SHARE

The weighted average number of common shares outstanding for fiscal 1998 was
8,609,707.

The 1997 loss per share reflects the 8,200,000 shares received by Sonic on the
reverse acquisition.

In 1998, the effect of the exercise of stock options is anti-dilutive.  In 1997,
the effect of the convertible debenture, stock options and warrant options was
anti-dilutive.

                                      F-22
<PAGE>
 
TurboSonic Technologies, Inc. and Subsidiaries


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                              Express in United States dollars


12. SUPPLEMENTARY INFORMATION ON CASH FLOWS

<TABLE>
<CAPTION>
                                                                         1998        1997
                                                                           $           $
----------------------------------------------------------------------------------------------
<S>                                                                    <C>         <C>
Changes in non-cash working capital balances related to operations
 Decrease (increase) in accounts receivable                             426,654    (349,142)
 (Increase) decrease in income taxes recoverable                        (30,171)     46,798
 Decrease in inventories                                                 16,597       4,108
 Decrease (increase) in deferred contract costs and
   unbilled revenue                                                     249,964    (214,651)
 (Increase) in other current assets                                      (9,621)    (89,782)
 Decrease in other assets                                                     9          --
 (Decrease) in accounts payable and accrued charges                    (281,547)   (239,528)
 (Decrease) increase in unearned revenue and contract advances         (105,010)    160,684
 (Decrease) increase in income taxes payable                            (12,373)     12,836
----------------------------------------------------------------------------------------------
                                                                        254,502    (668,677)
----------------------------------------------------------------------------------------------
</TABLE>

The following non-cash investing and financing activities occurred:

The Company issued 290,562 common shares upon the conversion of $720,565 of
convertible debentures.  In connection with the issuance, the debenture holder
waived receipt of accrued interest of $51,297 and issued an option to purchase
25,000 common shares of the Company.

13. COMMITMENTS AND CONTINGENCIES

Operating leases

The Company has entered into operating leases for office equipment and premises.
Minimum annual payments under these leases for years after June 30, 1998 are as
follows:

<TABLE>
<CAPTION>
                                                                     $
--------------------------------------------------------------------------------
<S>                                                              <C>
1999                                                             110,117
2000                                                             108,351
2001                                                             100,346
2002                                                             100,346
2003                                                              56,852
--------------------------------------------------------------------------------
                                                                 476,012
--------------------------------------------------------------------------------
</TABLE> 

                                      F-23
<PAGE>
 
TurboSonic Technologies, Inc. and Subsidiaries


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                              Express in United States dollars


13. COMMITMENTS AND CONTINGENCIES CONT'D

Rental expense for office equipment and premises was $101,329 in 1998 and
$57,284 in 1997.

Litigation

The inventors and/or former owners of the Company's heat exchanger technology
have filed lawsuits against the Company for monetary damages and reversion of
the patents to them.  Although the litigation seeks to terminate the Company's
right to utilize the intellectual property, management believes any monetary
claims by the litigants arising out of the litigation will be treated in the
Plan of Reorganization, discussed in note 1, as unsecured claims and discharged
as provided in the Plan.

Uncertainty due to the Year 2000 Issue

The Year 2000 Issue arises because many computerized systems use two digits
rather than four to identify a year.  Date-sensitive systems may recognize the
year 2000 as 1900 or some other date, resulting in errors when information using
year 2000 dates is processed.  In addition, similar problems may arise in some
systems which use certain dates in 1999 to represent something other than a
date.  The effects of the Year 2000 Issue may be experienced before, on, or
after January 1, 2000, and, if not addressed, the impact on operations and
financial reporting may range from minor errors to significant systems failure
which could affect an entity's ability to conduct normal business operations.
It is not possible to be certain that all aspects of the Year 2000 Issue
affecting the entity, including those related to the efforts of customers,
suppliers, or other third parties, will be fully resolved.

                                      F-24
<PAGE>
 
TurboSonic Technologies, Inc. and Subsidiaries


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                              Express in United States dollars


14. SEGMENT INFORMATION

Geographic area
 
Amounts in thousands

<TABLE> 
<CAPTION> 
                                                              Adjustments
                                                    United        and
                                           Canada   States   Eliminations   Consolidated
----------------------------------------------------------------------------------------------
<S>                                        <C>      <C>      <C>            <C> 
Sales to unaffiliated customers             2,152      697             --          2,849
Transfers between geographic areas             --       --             --             --
----------------------------------------------------------------------------------------------
TOTAL REVENUE                               2,152      697             --          2,849
----------------------------------------------------------------------------------------------  

OPERATING (LOSS)                             (295)    (438)            --           (733)
Debt conversion expense                                                              (95)
Interest income                                                                       13
Corporate expenses                                                                  (241)
----------------------------------------------------------------------------------------------
(LOSS) FROM CONTINUING OPERATIONS
 BEFORE INCOME TAXES                                                              (1,056)
----------------------------------------------------------------------------------------------
 
Identifiable assets as at June 30, 1998       837      276            (99)         1,014
Investment in unconsolidated subsidiary                                               11
Goodwill                                                                           1,396
----------------------------------------------------------------------------------------------
TOTAL ASSETS AS JUNE 30, 1998                                                      2,421
----------------------------------------------------------------------------------------------
</TABLE> 
 
Export sales

<TABLE> 
<CAPTION>  
                                                          1998           1997
                                                            $              $
--------------------------------------------------------------------------------
<S>                                                    <C>          <C>    
Asia                                                    56,506             --
Caribbean                                              118,969         25,875
Europe                                                 197,566         12,509
South America                                           16,501         14,881
USA                                                    888,532      3,243,092
Other                                                   33,495         41,207
Domestic                                               839,963        812,348
</TABLE>

                                      F-25
<PAGE>
 
TurboSonic Technologies, Inc. and Subsidiaries


                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


June 30, 1998                              Express in United States dollars


15. SUBSEQUENT EVENT

On October 21, 1998, two shareholders provided term loans to the Company
totalling $200,000 Canadian and representing $129,400 U.S. at the exchange rate
of $.647 at that date.  The loans are repayable on October 21, 2000, bear
interest at 10% and are collateralized by a general security agreement.  In
conjunction with the loans, warrants were granted to the lenders to purchase a
total of 200,000 common shares at per share prices of $0.50 from November 1,
1998 to October 31, 2000, $0.75 from November 1, 2000 to October 31, 2002, $0.75
from November 1, 2000 to October 31, 2002 and $1.00 from November 1, 2002 to
October 31, 2003.  The warrants expire on the earlier of October 31, 2003 or 30
days after the Company's shares have closed at a price per share above $1.50 for
10 consecutive trading days on the NASDAQ over-the-counter bulletin board.

In addition, another shareholder has provided a memorandum of intent to provide
a further loan of $100,000 Canadian prior to January 4, 1999 with identical
terms to the above loans.

The aforementioned shareholders have indicated their intention to provide
financial support to the Company, if required, to meet working capital needs
during the next year.

                                      F-26
<PAGE>
 
                                  SIGNATURES

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

                                   TURBOSONIC TECHNOLOGIES, INC.


                                   By: /s/Patrick J. Forde
                                      ---------------------------------
                                        Patrick J. Forde,
                                        Secretary, Treasurer

Dated: November 9, 1998


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

 
     Signatures                        Capacity                      Date
     -----------                       --------                      ----
                            
/s/Donald R. Spink, Sr.            Chairman of                            
--------------------------         the Board                              
Dr. Donald R. Spink, Sr.           of Directors                November 9, 1998
                                   
                                                                                
                                   President and                                
/s/Edward F. Spink                 Director (Principal                          
--------------------------         Executive Officer)          November 9, 1998 
Edward F. Spink                                                                 
                                                                                
                                                                                
                                   Secretary, Treasurer                         
                                   and Director                                 
                                   (Principal Financial                         
/s/Patrick J. Forde                and Accounting                               
--------------------------         Officer)                    November 9, 1998 
Patrick J. Forde                                                                
                                                                                
                                                                                
/s/Richard H. Hurd                                                              
------------------------           Director                    November 9, 1998 
Richard H. Hurd                                                                 
                                                                                
                                                                                
/s/Robert J. Ferb                                                               
------------------------           Director                    November 9, 1998 
Robert J. Ferb                                                                  
                                                                                
                                                                                
/s/Richard A. Horgan                                                            
------------------------           Director                    November 9, 1998 
Richard A. Horgan