UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549
                                    FORM 10-K

[X]  ANNUAL REPORT  PURSUANT TO SECTION 13 OR 15(D) OF THE  SECURITIES  EXCHANGE
     ACT OF 1934

                  For the fiscal year ended December 31, 1999.

                                       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 No. 0-24745

                                  Pathnet, Inc.
                                  -------------
             (Exact name of registrant as specified in its charter)

      DELAWARE                                           52-1941838
      --------                                            ----------
(State or other jurisdiction of                        (I.R.S. Employer
incorporation or organization)                        Identification No.)

1015 31ST STREET, N.W.
     WASHINGTON, DC                                          20007
---------------------                                        -----
(Address of principal executive offices)                  (Zip Code)

                                 (202) 625-7284
              (Registrant's telephone number, including area code)

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

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

Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the  preceding 12 months (or for such  shorter  period that the  registrant  was
required  to file  such  reports),  and  (2) has  been  subject  to such  filing
requirements for the past 90 days.

                                 Yes [X] No [ ]

As of  February  15, 2000 there were  3,068,218  shares of the  Issuer's  common
stock, par value $.01 per share, outstanding.

                       DOCUMENTS INCORPORATED BY REFERENCE

                                      None


<PAGE>




                                TABLE OF CONTENTS
<TABLE>

                                                                                                    PAGE
<CAPTION>
<S>                                                                                                 <C>

                                     PART I


Item 1.        Business                                                                                3
Item 2.        Properties                                                                             25
Item 3.        Legal Proceedings                                                                      25
Item 4.        Submission of Matters to a Vote of Security Holders                                    25


                                     PART II

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

               Stockholder Matters                                                                    26
Item 6.        Selected Consolidated Financial Data                                                   26
Item 7.        Management's Discussion and Analysis of Financial
               Condition and Results of Operations                                                    29
Item 7A.       Quantitative and Qualitative Disclosures about Market Risk                             55
Item 8.        Financial Statements and Supplementary Data                                            55
Item 9.        Changes in and Disagreements with Accountants on
               Accounting and Financial Disclosure                                                    55


                                    PART III

Item 10.       Directors and Executive Officers of the Registrant                                     56
Item 11.       Executive Compensation                                                                 61
Item 12.       Security Ownership of Certain Beneficial Owners and
               Management                                                                             65
Item 13.       Certain Relationships and Related Transactions                                         67


                                     PART IV


Item 14.    Exhibits, Financial Statement Schedules and Reports on Form 8-K                           74

Signatures                                                                                            79

Index to Financial Statements                                                                        F-1
</TABLE>


                                       2
<PAGE>


    THIS DISCUSSION CONTAINS  FORWARD-LOOKING  STATEMENTS THAT INVOLVE RISKS AND
UNCERTAINTIES INCLUDING, WITHOUT LIMITATION,  STATEMENTS RELATING TO OUR COMPANY
AND OUR BUSINESS UNITS' PLANS, STRATEGIES, OBJECTIVES, EXPECTATIONS,  INTENTIONS
AND RESOURCES. OUR ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE ANTICIPATED
IN  FORWARD-LOOKING  STATEMENTS AS A RESULT OF VARIOUS FACTORS,  INCLUDING THOSE
DESCRIBED  IN THE  SECTION OF THIS  ANNUAL  REPORT ON FORM 10-K  ENTITLED  "RISK
FACTORS."  UNLESS WE  INDICATE  OTHERWISE,  REFERENCES  TO OUR CURRENT OR FUTURE
BUSINESS,  STRATEGIES  OR PLANS ARE  REFERENCES  TO OUR  CONSOLIDATED  BUSINESS,
STRATEGIES OR PLANS, INCLUDING OUR OTHER FUTURE SUBSIDIARIES.

PART I

ITEM 1.  BUSINESS

THE COMPANY

     We were  founded in 1995 and are a  wholesale  telecommunications  provider
building a nationwide  network  designed to provide  other  wholesale and retail
telecommunications  service  providers with access to underserved and second and
third tier markets  throughout  the United  States.  We partnered with owners of
telecommunications  assets,  including utility,  pipeline and railroad companies
("Incumbents") to upgrade and aggregate  wireless  infrastructure to a microwave
network using high capacity  Synchronous Optical Network Technology,  also known
as "SONET" network. Through 1998, we signed agreements with eight Incumbents and
had over 6,000 miles of wireless network under development.

    In early 1999,  we expanded the scope of our  business  strategy  to include
fiber optic  technology to enable us to deliver high bandwidth  services as well
as dark and dim  fiber  to  inter-exchange  carriers  ("IXCs"),  local  exchange
carriers ("ILECs"), Internet service providers ("ISPs"), Regional Bell Operating
Companies ("RBOCs"),  cellular operators and resellers.  Our network will enable
our  customers to offer  additional  services to new and  existing  customers in
these markets without having to expend their own resources to build,  expand, or
upgrade their own networks.  In addition to serving unique  markets,  we plan to
differentiate our network by:

     o    Its  ability  to  provide a  complete  access  solution  in our target
          markets,  including collocations in ILEC central offices and intercity
          transport, and

     o    Its advanced  network  architecture  that will allow our  customers to
          offer the  latest  voice,  video,  and data  services  across a single
          network at very high speeds

     In November  1999,  we entered  into  agreements  providing  for  strategic
investments from Colonial  Pipeline  Company,  Burlington  Northern and Santa Fe
Corporation and CSX  Corporation  (the  "Transaction").  Upon the closing of the
Transaction,  we will form a new holding  company,  Pathnet  Telecommunications,
Inc.  ("PTI")  that will  receive the right to develop  over 12,000 miles of the
investors'  rights of way  holdings  in return  for  preferred  stock.  Colonial
Pipeline will also  contribute - in two separate  tranches - an aggregate of $68
million in cash in return for preferred  stock, an option to purchase  preferred
stock,  an option to  purchase  up to 10% of the number of shares  that  Pathnet
Telecommunications,  Inc.  actually  issues in an  underwritten  initial  public
offering at a price equal to 90% of the price that  Pathnet  Telecommunications,
Inc. charges for the sale of its shares in the offering and a single fiber optic
conduit  along a  portion  of the  Colonial  right  of way  corridors  or  other
telecommunications assets of equal value.

                                       3
<PAGE>


    The structure of the proposed  contribution and  reorganization  transaction
requires  Pathnet to obtain  waivers and consents from the holders of a majority
in  principal  amount of  Pathnet's  notes.  In  consideration  for the required
consents,  (1)  PTI is  offering  its  guarantees  for  all of  the  notes  (the
"Guarantee"),  (2) Pathnet  will make a consent  payment of $25.00 per $,1000 in
face amount of the notes to each of the consenting noteholders who held notes on
the record date of the consent  solicitation  and (3) Pathnet will  purchase and
pledge to the indenture trustee, for the benefit of the noteholders,  additional
United States Treasury securities as security covering the October 2000 interest
payment on the notes following the consummation of the Transaction

    The new investors  collectively will receive an approximate one-third equity
stake in the holding  company,  as well as proportionate  representation  on the
holding company board. Closing of the Transaction is subject to the satisfaction
on or before March 31, 2000,  of certain  conditions,  including  consent of the
holders a majority of the principal amount of our outstanding bonds. There is no
assurance that these  conditions will be satisfied by that date. IN THIS REPORT,
THE WORDS "WE," "US" AND "OUR" REFER TO PATHNET  INC.  FOR PERIODS  PRIOR TO THE
CLOSING OF THE TRANSACTION  AND TO THE NEW HOLDING COMPANY AND ITS  SUBSIDIARIES
(INCLUDING PATHNET INC.) FOR PERIODS AFTER THE CLOSING OF THE TRANSACTION.

    We expect our nationwide network to grow to approximately 20,000 route miles
utilizing fiber and high capacity  Synchronous Optical Network Technology,  also
known as "SONET"  microwave.  We intend to continue to develop our backbone on a
"smart-build"  basis by prioritizing route development along corridors with high
demand for dark fiber and conduit or partnering  with  established  companies in
the joint  development of those routes.  We expect our network will terminate in
central  offices in our target markets where we intend to collocate and use ILEC
unbundled  network  elements or other third  party local  network  assets in the
provision of service to our customers.

As of December 31, 1999,  our network  consisted  of over 6,300  wireless  route
miles  providing  wholesale  transport  services  to 30 cities  and 500 miles of
installed  fiber.  We are  constructing  an additional  600 route miles of fiber
network,  which is scheduled  for  completion in the first half of 2000. We have
also entered into two additional  co-development agreements for the construction
of an additional  750 route miles of fiber optic  network.  We expect to develop
additional  backbone  network from a pool of over 12,000 route miles of right of
way  received  in the  Transaction  -- 8,000 of which  will  have  some  form of
exclusivity.  These  additional route miles will provide us with the opportunity
to develop unique and diverse paths  connecting our target markets back to major
tier one metropolitan areas.

    In addition to building our network, since inception we have:

     o    Obtained state  regulatory  certification or otherwise been authorized
          to provide our planned telecommunications  services in 13 states, with
          applications pending in an additional 8 states, which will allow us to
          obtain unbundled network elements from the ILECs;

     o    Executed   interconnection   agreements   with  three  existing  local
          telephone companies; US West, Ameritech and Southwestern Bell;

     o    Executed  agreements  providing  for  collocations  with US  West  and
          BellSouth;

     o    Launched  our  Alliance  Program  under which we expanded  our virtual
          network to reach additional markets by reselling portions of two other
          carriers' networks;

                                       4
<PAGE>

     o    Signed Master Service Agreements with the three largest U.S. IXCs;

     o    Completed our fully operational  Network Operations Center,  providing
          twenty-four hours a day, seven days-a-week coverage; and

     o    Entered into a leased fiber agreement for an indefeasible right to use
          (sometimes  referred  to as an  "IRU") a  portion  of our  dark  fiber
          capacity on our fiber route currently being  constructed from Chicago,
          Illinois to Aurora (a suburb of Denver), Colorado.

MARKET OPPORTUNITY

INDUSTRY OVERVIEW

    We believe that the  following  five  factors  create a  substantial  market
opportunity for our products and services:

     o    Increasing  demand for high capacity access and transport  services to
          accommodate  unprecedented  consumer  demand for  Internet  access and
          related services;

     o    Growing  disparity,  sometimes  referred to as the  "digital  divide,"
          between  telecommunications  services available in the largest markets
          and those  services  available in second and third tier markets due to
          our  telecommunications  service provider  customers' nearly exclusive
          focus of resources  and product  offerings on first tier  domestic and
          global markets;

     o    Rapid development of new technologies such as Digital  Subscriber Line
          services ("DSL") that allow carriers to exploit existing local network
          infrastructure to deliver multiple media (including voice, data, video
          and  Internet)  at high  speed  over a single  physical  local  access
          connection to a network;

     o    Rapid  migration  from  circuit-based  network  architectures  to fast
          packet-based   network  technologies  that  allow  for  the  efficient
          integration of multiple  customers  across a common  backbone  network
          infrastructure; and

     o    Adoption of the  Telecommunications  Act and certain state  regulatory
          initiatives    that   provide    increased    opportunities   in   the
          telecommunications marketplace by opening local markets to competition
          and requiring ILECs to provide additional direct  interconnection  and
          collocation to their competitors.

    We intend to  exploit  these  developments  and employ  emerging  convergent
technologies  in the  deployment  of  our  backbone  network  and  local  access
platform.    We   believe   the   emergence    and    acceptance   of   advanced
convergence-supporting  technologies  at the  user  premise  will  significantly
increase our abilities to provide low cost solutions to our carrier customers in
underserved and second and third tier markets that have been overlooked by other
emerging telecommunications service providers.

ADDRESSABLE MARKET

    We worked  with The  Yankee  Group on an  addressable  market  study for the
products  and services we expect to bring to the  marketplace  in the near term.

                                       5
<PAGE>

The study  found that the  communications  market is  currently  a $270  billion
market in the U.S.  and is  expected to grow at over 10%  annually  for the next
five years.  According to The Yankee  Group,  the sections of the market that we
expect to address --  backbone  infrastructure  services,  inter-city  and local
wholesale  transport  services and local  access  services -- are among the most
rapidly growing components of the current telecommunications landscape which The
Yankee Group forecasts to grow at  approximately  18% annually for the next five
years. The Yankee Group estimates that the addressable market for these products
and  services in the United  States to be $30 billion in 1999,  expanding to $80
billion by 2005.

    We plan to serve  second and third tier  markets  with  populations  between
600,000 and 50,000,  of which there are over 200, with  backbone  infrastructure
services,  long haul  wholesale  transport  and local access  services.  We also
expect to  capture  a portion  of the long  haul  wholesale  transport  services
segment between first tier markets with  populations  over 600,000.  We estimate
that the  addressable  market for these  products and services is $13 billion in
1999, growing to $27 billion in 2004.

BUSINESS STRATEGY

    Our business objective is to become the preferred facilities-based wholesale
telecommunications  provider to customers in our target markets. To achieve this
goal, we plan to:

     o    Concentrate  our  focus  on the  needs of  telecommunications  service
          providers and their customers;

     o    Focus on underserved and second and third tier markets;

     o    Enter and roll-out service rapidly in our target markets;

     o    Design, build and acquire a low-cost network;

     o    Provide superior customer service and service quality; and

     o    Pass to our customers savings from the deployment of our local network
          access program.

    Each of these strategies is discussed in more detail below:

     o    CONCENTRATE  OUR  FOCUS  ON THE  NEEDS OF  TELECOMMUNICATIONS  SERVICE
          PROVIDERS  AND THEIR  CUSTOMERS.  Our  customers  are companies in the
          business of selling communications  services to end user customers. We
          believe  that  these  companies  are  investing  considerable  sums to
          connect as many  customers  as  possible to keep pace with the rapidly
          evolving telecommunications  marketplace and that these carriers would
          like to find the means to maximize the return on their investments and
          deployment of resources.  We further believe that these challenges are
          magnified  when they  consider  serving  customers in second and third
          tier markets. Very few of these  telecommunications  service providers
          operate at a scale that justifies  significant  investment in building
          their own network in smaller  markets.  The  alternative -- re-selling
          ILEC local  networks -- has limited appeal because it can be expensive
          and, in many cases,  the ILEC network  components  lack the  broadband
          capabilities that these  telecommunications  service providers need to
          compete effectively in the marketplace.  We believe that our customers
          will be able to  effectively  "timeshare"  our products and  services.
          This will enable them to access second and third tier markets to serve
          their customers without incurring high capital  expenditures,  or many
          of the  franchising  and  licensing  fees and long lead times that are
          usually associated with building their own networks and establishing a
          meaningful local collocation presence in these markets.

                                       6
<PAGE>

     o    FOCUS ON  UNDERSERVED  AND SECOND AND THIRD TIER  MARKETS.  We plan to
          serve second and third tier markets with  populations  between 600,000
          and  50,000,  of which there are over 200, as well as a portion of the
          first tier  markets  with  populations  over  600,000.  We believe our
          customers will value our backbone network because,  for the most part,
          it will be built along unique rights of way offering route  separation
          and diversity in the event of a network system failure.  Also,  unlike
          others backbone networks that bypass second and third tier markets, we
          will  construct  and design our  backbone to  interconnect  into these
          markets.  We seek to be among the first to market  advanced  wholesale
          transport  and  local  access  services  in  many of our  markets.  By
          pioneering in second and third tier markets,  we hope to capitalize on
          escalating  demand  for high  capacity  bandwidth  services  that is a
          product of the current  unprecedented  demand for Internet  access and
          related services.

     o    ENTER AND ROLL OUT SERVICE RAPIDLY IN OUR TARGET  MARKETS.  We seek to
          become the first  emerging  carrier to enter and roll out our products
          and services broadly in our targeted  underserved and second and third
          tier markets by:

          o    Securing central office space before our competitors do;

          o    Obtaining and retaining customers before significant  competition
               for our products and services in these markets arises; and

          o    Maintaining  advantages over our competitors by offering superior
               coverage and high customer satisfaction.

     o    DESIGN,  BUILD AND  ACQUIRE A LOW-COST  NETWORK.  Consistent  with our
          conservative  capital expenditure  program,  one of our key strategies
          since  inception has been to establish  strategic  relationships  with
          owners of existing  telecommunications  infrastructure,  to reduce our
          capital  costs and time to market.  As of December  31,  1999,  we had
          entered into  strategic  relationships  with eight  companies who have
          provided the  foundation  for our existing  6,300-route  mile wireless
          network.  We have also  entered into three  co-development  agreements
          relating  to the  construction  of  1,850  fiber  route  miles.  After
          completing the Transaction  through our strategic  relationships  with
          BNSF,  CSX and  Colonial,  we will have access to over 12,000 miles of
          valuable  rights of way,  8,000  miles of which will have some form of
          exclusivity.

               We are  developing  our network using a "smart  build"  approach.
          Under this  approach,  we attempt to reduce the risk of  building  our
          network by obtaining one or more  co-development  partners to share in
          the costs.  We also  determine  the level of  customer  demand  before
          construction   by  obtaining   direct  customer  input  regarding  the
          attractiveness  of a  route  and,  in  certain  cases,  entering  into
          pre-construction  sales of dark  fiber and  conduit.  As a result,  we
          expect that the cost of our retained  nationwide backbone network will
          be significantly  less than a comparable  network built or acquired at
          market  rates.  We  intend  to  continue  this  low cost  approach  in
          providing our local access services.  We plan to secure CLEC status in
          each  state  that  we  provide  service  and  we  anticipate   signing
          interconnection  agreements  with  all of the  relevant  ILECs.  These
          interconnection   agreements  allow  us  to  construct  our  microwave
          tributary  routes  directly  to  the  ILEC  central  office  facility,
          allowing  us to use  the  existing  central  office  as our  point  of
          presence  in the market,  and avoid the cost of  separate  facilities.
          This will enable us to obtain and use unbundled  network elements from
          the ILECs at favorable rates and terms,  including space in the ILEC's
          central offices that are necessary to establish our collocations.

                                       7
<PAGE>

     o    PROVIDE SUPERIOR CUSTOMER SERVICE AND SERVICE QUALITY.  As part of our
          strategy to obtain and retain business and telecommunications  service
          provider customers, we intend to provide superior service and customer
          care. We will aim to provide high quality services by offering what we
          believe  to be  state-of-the-art  networking  solutions  and  superior
          customer  service.   These  networking  solutions  include  end-to-end
          proactive  network  monitoring  and  management  through  our  Network
          Operations  Center, 24 hours a day, seven  days-a-week.  We also offer
          multiple security features and we have completed implementing our Year
          2000  readiness  program to ensure that our  networks  and systems are
          Year  2000  compliant.  See "RISK  FACTORS  -- RISKS  RELATING  TO OUR
          COMPANY  OPERATIONS"  and  "MANAGEMENT'S  DISCUSSION  AND  ANALYSIS OF
          FINANCIAL  CONDITION AND RESULTS OF OPERATIONS -- YEAR 2000  READINESS
          DISCLOSURE." We plan to provide superior customer service to promote a
          high level of  customer  satisfaction,  achieve  customer  loyalty and
          accelerate the use of our products and services. In addition, we have,
          and will continue to install, a technologically  advanced network that
          we  believe  provides  the high  level of  reliability,  security  and
          flexibility that our customers demand.  Our fiber and wireless network
          is  designed  to  meet  industry   standards  for  delivering  network
          reliability of 99.999% per network segment.

     o    PASS TO OUR CUSTOMERS SAVINGS FROM THE DEPLOYMENT OF OUR LOCAL NETWORK
          ACCESS  PLATFORM.  We plan to deploy a convergent local network access
          platform.  In other  words,  we  intend  to  combine,  or  enable  the
          combination  of,  all  multiple  customer  applications  onto a single
          physical  local  access  connection,  which  will  travel  on our fast
          packet-based  capable backbone  infrastructure.  Using this convergent
          platform  we  believe  that our  telecommunications  service  provider
          customers  will be able to launch  their own  services to better serve
          their end user customers.

PROJECTED DEVELOPMENT OF BUSINESS PLAN

         With the  funds and  other  assets  received  in the  Transaction,  and
additional  equity  financings,  we plan to complete the first phase of our long
term  business  plan.  Our long term  business  plan  calls for us to develop an
approximately  20,000 mile  network and provide  services to over 200 second and
third  tier  markets.  In the first  phase of this plan,  we expect to  complete
development of approximately 12,500 route miles of network and approximately 400
collocations  by the end of 2002.  We project  the  development  of our  network
through the end of 2000 to be:

<TABLE>
                                                   PROJECTED              PROJECTED          PROJECTED
                                                 NETWORK ROUTE          COLLOCATIONS         ACCESSED
                                                MILES COMPLETED           DEVELOPED           CITIES
<CAPTION>
         <S>                                            <C>                  <C>               <C>
         As of December 31, 1999...                      6,800                 40               30
         End of Second Quarter 2000                      7,600                 85               50
         End of Fourth Quarter 2000                      9,100                150               80
         End of Second Quarter 2001                     10,500                230              120
</TABLE>


                                       8
<PAGE>

     We plan on drawing on the following sources of cash to fund the first phase
of our long term business plan:

     o    our current cash resources;

     o    the  anticipated   proceeds  (after  associated  expenses)  from  both
          tranches  of   Colonial's   investment  in  our  shares  of  series  E
          convertible   preferred  stock  as  part  of  the   contribution   and
          reorganization transaction;

     o    borrowings  under senior secured  vendor  financing that we propose to
          execute in  connection  with the  purchase  of fiber  optic  cable and
          associated network equipment;

     o    payments from our co-development  partners and sales to infrastructure
          and bandwidth services customers; and

     o    additional equity investment(s) of at least $100 million.


STRATEGIC RELATIONSHIPS

FIBER CO-DEVELOPMENT PARTNERS

    WORLDWIDE FIBER. In March 1999, we entered into a  co-development  agreement
with Worldwide  Fiber,  Inc. for the design,  engineering  and  construction  by
Worldwide Fiber of a multiple conduit  fiber-optic  system.  One of the conduits
will contain a fiber optic cable consisting of a specified number of fiber optic
strands.  The conduits and any installed strands will be equally divided between
Pathnet and Worldwide Fiber, and the costs to construct the route will be shared
equally  by the  partners.  In  addition,  Pathnet  will pay  Worldwide  Fiber a
management fee equal to 10% of Pathnet's  share of the  development  costs.  The
system will be approximately 1,100 route miles long, between Aurora, Colorado (a
suburb of Denver) and Chicago, Illinois. The first segment, Chicago, Illinois to
Omaha,  Nebraska,  is scheduled to be completed in the fourth  quarter 1999, and
the second segment,  Omaha to Aurora, is scheduled to be completed by the end of
the first quarter of 2000. In connection with the co-development  agreement,  we
entered into a joint  marketing  agreement with Worldwide Fiber under which both
Worldwide Fiber and we will attempt to sell certain inactive fiber optic strands
on the route,  and will share the revenues from such sales.  The joint marketing
agreement also permits each party to retain fiber optic strands for its own use,
subject to certain restrictions on resale, and to swap a certain number of fiber
optic strands to third parties.

    TRI-STATE.  In August 1999, we entered into a co-development  agreement with
Tri-State  Generation  and  Transmission  Association,  Inc.  and four  regional
electric cooperatives for our design,  engineering and construction of an aerial
fiber  system,  approximately  420 route miles long,  between  Albuquerque,  New
Mexico  and  Grand  Junction,   Colorado.  This  system,  constructed  on  power
transmission lines, will contain a specified number of fiber optic strands.  The
cost to construct the system will be borne equally between Pathnet and the other
parties.  In connection  with the  co-development  agreement,  we entered into a
joint  marketing  agreement under which each party will reserve a portion of the
fiber  strands for its own  operations,  a subset of which will be available for


                                       9
<PAGE>

swaps with third parties. The remaining fiber strands will be jointly sold, with
Pathnet as the exclusive  marketing agent. Any revenues derived from the sale of
those fiber strands will be shared equally between Pathnet and Tri-State,  after
deduction of a Pathnet  marketing  fee. We expect this system to be completed in
the second half of 2000.

    ALLIANCE PROGRAM. We have entered into capacity purchase agreements with two
other  carriers,  IXC and  Frontier,  enabling  us to resell  capacity  on their
networks.  This allows us to extend our  network  reach to POPs  throughout  the
markets  reached by Frontier's  and IXC's  networks and pre-sell  capacity along
routes we intend to develop.

WIRELESS CO-DEVELOPMENT PARTNERS

    FIXED POINT  MICROWAVE  SERVICES  AGREEMENTS.  We have  entered into several
fixed point microwave services agreements with  co-development  partners who own
existing wireless  telecommunications  assets. Typically, under these agreements
we lease an interest in the  co-development  partner's  sites and  facilities on
which our network is built and in return we provide the  co-development  partner
with  capacity on such  network for its own internal  use. We typically  pay the
co-development  partner a portion of the  revenue  derived  from our selling the
excess  bandwidth  on  that  co-development   partner's  route.  Generally,  the
co-development  partner  receives  up to 20% of the  revenues  earned  after the
systems  have  been in  place  for 48  months.  In  addition,  these  agreements
generally require the co-development  partner to make capital investments toward
the upgrade of its systems  infrastructure  to make it suitable for installation
of the equipment  used in our digital  network  which,  in most cases,  includes
significant  modifications to structures,  towers,  battery plants and equipment
shelters. These agreements generally provide for a five or ten year term that is
subject to  renewal by us upon the  occurrence  of certain  events,  for up to a
25-year term. As of February 15, 2000, we had entered into fixed point microwave
services agreements with these co-development partners:

    o Idaho Power Company;

    o Northern Indiana Public Service Company;

    o The Burlington Northern and Santa Fe Railway Company;

    o Kinder Morgan, Inc. (formerly KN Energy, Inc.);

    o Kinder Morgan, Inc. (formerly KN Telecommunications, Inc.);

    o Texaco Pipeline;

    o Northern Border Pipeline Company; and

    o Northeast Missouri Electric Power Cooperative.

    TOWER LEASE AGREEMENTS.  We entered into a leasing arrangement with American
Tower Corporation under which American Tower granted us a 25-year license to use
certain of its towers to deploy several wireless portions of our network.

PRODUCTS AND SERVICES

    We plan to offer the following products and services:

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<PAGE>

    o   DARK FIBER AND  CONDUIT FOR SALE OR GRANT OF LONG LEASE  TERMS.  We sell
        rights for dark fiber and related services as well as rights to conduit.
        Dark fiber  consists  of fiber  strands  contained  within a fiber optic
        cable  which  has been  laid  but  does  not yet  have its  transmission
        electronics  installed.  A sale or grant of an indefeasible right to use
        our dark fiber typically has a term which approximates the economic life
        of a fiber optic strand  (generally 20 to 30 years).  Purchasers of dark
        fiber  rights  typically   install  their  own  electrical  and  optical
        transmission  equipment.  Substantially  all of our  current and planned
        builds  include  laying  spare  conduits,  and we may sell rights to use
        them. A purchaser of conduit rights  typically lays its own cable inside
        the  conduit.  Related  services for both sales of rights for dark fiber
        and  conduits  may include  installation  of customer  equipment  at the
        locations  where we have  installed  transmission  equipment and network
        equipment and maintenance of the purchased fiber or conduit.  Generally,
        we expect our  customers to pay for dark fiber rights and conduit at the
        time of delivery and acceptance of the fiber or conduit,  although other
        payment options may be available. In addition, depending upon the nature
        of our  contractual  terms,  we will  treat our sales of dark  fiber and
        conduit as sales-type  leases or operating  leases. We typically require
        our customers to make ongoing payments for maintenance services.

    o   DARK FIBER FOR LEASE OR LEASE TO PURCHASE. We will also lease dark fiber
        for a term less than the period for which the indefeasible  usage rights
        are typically granted.  Leases will be typically structured with monthly
        payments over the term of the lease.  Generally,  we expect to realize a
        premium in lease pricing for bearing the risk that the lease will not be
        renewed  for the  balance  of the  life of the  asset.  We plan to offer
        customers the option to lease to purchase.

    o   WAVELENGTH  LEASE.  In our  network,  we intend to use Dense  Wavelength
        Division  Multiplexing,  or DWDM,  a  technology  that  allows  multiple
        optical signals to be combined so that they can be aggregated as a group
        and  transported  over a single  fiber to increase  capacity.  This will
        allow us to sell a customer exclusive  long-term use of a portion of the
        transmission  capacity  of a fiber optic  strand  rather than the entire
        strand.  We expect that the  installation of the necessary  transmission
        equipment to provide  these  services  along our first  completed  fiber
        route from Chicago to Denver will be complete in the first half of 2000.
        We expect to be able to derive up to 160 individual  wavelength channels
        at either OC-48 or OC-192 per fiber pair.

    o   INTER-CITY  WHOLESALE  TRANSPORT  SERVICES.   Our  inter-city  transport
        services are focused on second and third tier markets and are  comprised
        of  point-to-point  services offered as Time Division  Multiplexing,  or
        TDM, which is an electronic process that combines multiple communication
        channels into a single, higher-speed channel by interleaving portions of
        each in a consistent manner over time-based  private lines at high speed
        including DS-1, DS-3, OC-3, OC-12, OC-48 and OC-192. We believe that our
        services will be particularly attractive to our customers because of our
        low cost backbone  transport and low cost local loops  (attributable  to
        our  collocation  in the ILEC's  central office and our use of unbundled
        network  element  transport).  We believe  that we offer  more  flexible
        commitment levels with higher  reliability than are currently  available
        on traditional multiplexed services. As of December 31, 1999, we offered
        inter-city wholesale transport services on our 6,300 route mile-wireless
        network as well as via our Alliance Program.

    o   LOCAL WHOLESALE TRANSPORT SERVICES. Once we establish collocation in the
        ILEC's central offices in second and third tier markets, we believe that
        we will be able to deliver local transport between central offices or to
        connect  those central  offices to our backbone or a  telecommunications

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<PAGE>

        service  provider  customer  backbone.  We plan to offer local transport
        services, such as xDSL-based private lines or TDM-based private lines at
        high rates of speed including DS-0, DS-1, DS-3, OC-3,  OC-12,  OC-48. We
        expect  our  customers  to use  these  services  to reduce  charges  for
        inter-office transport or to provide end office trunking.

    o   LOCAL ACCESS SERVICES. We plan to deliver our local access services from
        network  presences we have  established by collocating with the ILECs in
        second tier and third tier  markets  and  through the local  networks we
        have established  using a combinations of unbundled network elements and
        other network components from other communications carriers.

    o   VIRTUAL  POINTS OF  PRESENCE  (VPOP).  We plan to bundle  our  wholesale
        transport services and local access services to offer our virtual points
        of presence service,  sometimes referred to as VPOP. Through this bundle
        of services, we intend to offer our customers the ability to establish a
        virtual point of presence for their networks using our facilities,  thus
        avoiding the need to place any equipment at a collocation  site. We will
        focus this VPOP service on second and third tier markets. We expect that
        our VPOP service will allow our customers to virtually  extend the reach
        of their networks while  expending less resources and incurring far less
        risk than if that customer had expanded and built its own network.

SALES AND MARKETING STRATEGY

    Our wholesale  customers tend to be very  knowledgeable  about the nature of
the  services and  technology  available in the  marketplace.  As a result,  our
marketing efforts are largely limited to ensuring that our products and services
are  visible  and  well  represented  in the  market.  As part of our  marketing
strategy,  we  attempt  to  position  ourselves  as the  provider  of choice for
telecommunication  service providers because of the quality of our service,  the
control we provide  customers over their service  platforms,  the reliability of
our services and our low cost position.  We believe our cost advantages allow us
to sell our  services  on our  network  at  prices  that  represent  potentially
significant  savings  for our  large-volume  customers  relative  to their other
alternatives.

    We sell our  services  to large  regional  and  national  telecommunications
service  providers  through our direct sales team on a national  account  basis.
Since we sell primarily to other telecommunications service providers, we expect
that our  sales  and  marketing  department  will  remain  relatively  small and
focused,  resulting in strong customer  relationships and lower operating costs.
Our sales team consists of senior level  management  personnel  and  experienced
sales representatives with extensive knowledge of the industry and our products.
This  team  also  has key  industry  contacts  at  various  levels  within  many
telecommunications service provider organizations.

CUSTOMERS

    We have defined a range of products and services designed to meet the unique
needs of our  customers  and, as a result,  we intend to offer  several types of
services to these types of customers:

     o    Full service IXCs: we intend to provide low cost DSL-based  transport,
          used to deliver  broadband  access.  We expect to  provide  lower cost
          access  and short  haul  transport  to reduce  the cost of  delivering
          traditional voice, private line or data services;

     o    CLECs and  competitive  IXCs:  we can extend  reach to new  markets by
          providing a more  efficient  means for CLECs to originate or terminate
          voice  traffic  and  a  lower  cost  source  of  inter-city  wholesale
          transport or infrastructure services;

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<PAGE>

     o    ISPs: we intend to offer low cost DSL to deliver  broadband access. We
          expect  to be able to extend  ISPs  reach to new  markets.  We plan to
          provide  low cost  infrastructure  services  and  wholesale  transport
          services. We expect to provide direct access to the locations at which
          ISPs exchange each other's traffic.

     o    ILECs:  we expect to provide  lower cost network  services  within the
          ILEC's own region and  wholesale  transport  services and local access
          services  out of region as ILECs  become  permitted  to provide  these
          services;

     o    Wireless and cable providers (including cellular  companies):  we plan
          to provide  backhaul  services,  head end  distribution  services  and
          wholesale transport services; and

     o    Resellers:  we expect to provide  low cost  termination  for  switched
          traffic.

THE PATHNET NETWORK

BACKBONE NETWORK

    We plan to create an  approximately  20,000 route mile  nationwide  network.
Tributaries using either fiber or wireless  technology will connect our backbone
to our targeted  markets.  We believe that  connecting the second and third tier
markets to a national  backbone is the key to funneling  traffic  between  these
markets and first tier markets.

    NETWORK ROUTE SELECTION AND SMARTBUILD APPROACH. In order to utilize capital
effectively,  we employ a  "smart-build"  approach.  This  means that we seek to
reduce our risks in undertaking the build by:

     o    Obtaining one or more co-development partners to share in the costs;

     o    Determining  the levels of customer  demand  before  construction  (by
          obtaining direct customer input on the route); and

     o    In certain  cases,  seeking to effect  pre-construction  sales of dark
          fiber and conduit.

    Before  deciding  to  construct  or  acquire a network  to serve  particular
markets, we review the demographic, economic, competitive and telecommunications
demand  characteristics  of the markets along proposed  routes,  including their
location, the concentration of potential business,  government and institutional
end-user  customers,  the  economic  prospects  for  the  area,  available  data
regarding    transport    demand   and   actual   and   potential    competitive
telecommunications  company competitors.  We estimate market demand on the basis
of market  research  performed  by us and  others,  utilizing  a variety of data
including  estimates of the number of interstate  access and intrastate  private
lines in the market based primarily on FCC reports and commercial databases.

    We  expect  to enter  into a  co-development  relationship  with one or more
partners  to share the  costs of  building  the route as well as the dark  fiber
revenue from each  constructed  route.  We recently  employed  this  approach in
developing  our  fiber  routes  from  Chicago,  Illinois  to Aurora (a suburb of
Denver, Colorado), and from Albuquerque,  New Mexico to Grand Junction, Colorado
with  our  partners,  Worldwide  Fiber  and  Tri-State.  Typically,  independent
contractors   selected  through  a  competitive   bidding  process  provide  our


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<PAGE>

construction and  installation  services.  In certain of our network builds,  we
provide  project  management   services,   including  contract  negotiation  and
supervision of the construction, testing and certification of our facilities.

    FIBER CURRENCY,  SWAPS AND  ACQUISITIONS.  When  determining the fiber optic
cable and conduit  sizing for a particular  route,  we take into  account  these
considerations:

     o    Fiber strands required for our retained network;

     o    Fiber strands required by our co-development partner's network;

     o    Projected sales of fiber strands and conduits along the route;

     o    Quantity of fiber  strands to be retained and  allocated  for swaps to
          obtain fiber strands on routes owned by others; and

     o    Retained  empty conduit in the event we desire to deploy  different or
          advanced technologies.

    We believe  fiber has a  "currency"  value  depending  upon the value of the
route to specific  telecommunications  service  providers.  Once we  determine a
particular  route has a high currency  value, we expect to capitalize on this by
using excess fibers and conduit to enable  advantageous fiber swaps and sales of
fiber and conduit. If we determine that a particular route is being sufficiently
served by existing  fiber,  we will not build our own network  along that route,
but instead we will use our fiber  "currency"  to swap for existing  fiber along
those routes or we will acquire dark fiber that is already  installed by another
company.  In this way,  swaps will allow us to leverage our  network,  gain more
geographical coverage and decrease our time to market.

    In  order  to  connect  our   network   with  our   customers,   we  develop
interconnections  from our backbone  network into our targeted  underserved  and
second and third tier markets. We design and install our interconnections  using
the most cost  effective  technology to meet the market's needs that may include
building  fiber optic  cable,  acquiring  existing  fiber,  installing  wireless
components, or combinations of these technologies.

LOCAL ACCESS CONVERGENT PLATFORM

    We believe establishing a local presence in our target markets will position
us to deploy a  convergent  local  network  access  platform  that  will  enable
multiple customer  applications to be combined at a single physical local access
connection  and  then  travel  onto our  advanced,  fast  packet-based  backbone
infrastructure.   From  this  convergent  platform,  we  expect  to  enable  our
telecommunications  service  provider  customers to launch their own services to
better serve their customers.

    We intend to obtain state  certification  or authorization as a CLEC in each
state in which we are required to do so, and to sign interconnection  agreements
with the  relevant  ILECs  in our  target  markets.  Once we have  obtained  the
appropriate state authorization and entered into interconnection agreements with
the  ILECs,  we will  be  able  to  construct  our  central  office  collocation
facilities  at the premises of, and obtain and use network  elements  from,  the
existing local telephone companies.  As of February 15, 2000, we were authorized
to  provide  our   products   and   services  in  13  states  and  have  several
interconnection agreements in negotiation with the ILECs.

    As of December 31, 1999, we had 40 collocations,  which are  environmentally
controlled,  secure  sites  designed  to house  transmission,  routing and other
equipment.  We are designing our collocations with an average of 100 square feet
in order to provide our customers direct local access via our access platform to


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<PAGE>

those markets. We intend to expand our network to include multiple  collocations
in ILEC  central  offices  within  our target  markets  in order to provide  the
platform for our end-to-end service offerings for our customers.

    Once our collocations are  established,  we plan to link these  collocations
together  within the market using unbundled  network element  transport from the
ILECs in order to provide our products and services  throughout  the market.  In
addition  to  these  unbundled  network  elements,   there  are  other  possible
alternatives for us to employ in linking these central offices. For instance, we
may lease or purchase  dark fibers from a third  party  provider,  use  wireless
connections  or possibly  even lay our own local fiber if  warranted  based upon
demand.

EQUIPMENT SUPPLIER RELATIONSHIPS

    We have agreed upon an exclusive vendor  agreement with Lucent  Technologies
which provides for discounted  pricing on the fiber that we purchase from Lucent
as well as marketing and engineering support in connection with the expansion of
our network. The effectiveness of this agreement is conditioned on the execution
of documents  relating to the financing by Lucent of such purchases of fiber and
the  execution of these  financing  documents  is, in turn,  conditioned  on the
closing of theTransaction.

    Under a Master Agreement between us and NEC, dated August 8, 1997, we agreed
to purchase from NEC certain equipment, services and licensed software for us to
use in our network under pricing and payment terms the we believe are favorable.
In  addition,  NEC has  agreed,  subject  to  certain  conditions,  to  warranty
equipment that we purchase from NEC for three years, if defective,  to repair or
replace  certain  equipment  promptly and to maintain a stock of critical  spare
parts for up to 15 years.  This  agreement  with NEC  provides  for fixed prices
during the first three years of its term.

    We have also entered into a Purchase  Agreement with the Andrew  Corporation
in which we agreed  exclusively  to  recommend  to our  co-development  partners
certain products  manufactured by Andrew. In return, Andrew agreed to sell those
products  to our  co-development  partners  and to us for a three  year  period,
renewable  for two  additional  one-year  periods at our option.  The  agreement
generally provides for discounted pricing based on projected order volume.

PROPOSED CREDIT FACILITY WITH LUCENT

     We have been negotiating with Lucent Technologies,  Inc., over the terms of
a senior secured credit facility that would provide us with vendor financing for
fiber optic cable purchases. The credit facility would be executed in connection
with a fiber optic cable  purchase  agreement  where we agree to make Lucent our
exclusive provider of fiber optic cable. Neither party has signed the definitive
agreements governing the proposed financing, but we expect to execute definitive
agreements in the next several  weeks.  We describe  below the material terms of
the  proposed  Lucent  credit  facility,  based  on the  current  drafts  of the
agreements.  We  cannot  assure  you  that  we will  enter  into  any  financing
agreements with Lucent,  or that any agreements that we execute will be on these
terms.  However,  we currently expect that we will enter into a vendor financing
agreement with Lucent on terms similar to those outlined below.

     The first tranche of the proposed  facility will be $60 million and will be
available to be drawn after the facility  becomes  effective  until  January 31,
2001.  The  proceeds of any loans by Lucent must be used to finance  fiber optic
cable that we purchase under the fiber optic cable purchase agreement between us
and Lucent. The loans will not cover the entire invoice cost of those purchases.

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<PAGE>

Under the Lucent credit facility,  we will be required to pay various  customary
arrangement,  commitment  and other fees. To preserve  exclusivity,  Lucent must
offer additional tranches on similar terms to the first tranche.

     If executed as currently  drafted,  we expect the proposed  credit facility
with Lucent to have these terms:

     o    The first tranche loans would mature on December 31, 2005;

     o    Mandatory prepayments are required in connection with dark fiber sales
          and other dispositions;

     o    Lucent's   obligation   to  loan  any  funds  under  the  facility  is
          conditioned on, among other things:

          --   We must purchase and pay for a specified  minimum dollar value of
               Lucent products;

          --   A newly-formed vendor financing  subsidiary of Pathnet or Pathnet
               Telecom would be the borrower under the credit  facility and must
               be  capitalized  with  assets  having  a value  of at  least  $60
               million;

          --   We must obtain the  necessary  permits  (including  any  required
               rights of way) required to build the network segment in which the
               financed fiber will be installed; and

     o    The loans would bear interest at floating rates based on an index plus
          a specified margin.

    The indebtedness outstanding under the Lucent credit facility is expected to
be  guaranteed by the borrower (a newly formed  vendor  financing  subsidiary of
ours or Pathnet  Telecommunications,  Inc.). The indebtedness will be secured by
all  property and assets  owned by, and all capital  stock of and  inter-company
indebtedness owed to, the borrower.

    We anticipate that the Lucent credit facility will contain various covenants
typical for facilities of this nature. Some of those covenants will restrict the
vendor  financing  subsidiary and its  subsidiaries,  if any, from,  among other
things:

     o    Incurring indebtedness;

     o    Entering into merger or consolidation transactions;

     o    Disposing of their assets;

     o    Acquiring assets; and

     o    Making certain restricted payments;

     o    Paying  interest or principal on the Notes if excess cash is available
          at PTI or us for Note repayment;

     o    Creating any liens on its assets;

     o    Making investments;

     o    Entering into sale and leaseback transactions; and

     o    Entering into non-arms'-length basis transactions with affiliates.

    As currently  drafted,  the Lucent  credit  facility  also requires that the
vendor financing  subsidiary comply with various customary financial  covenants,
including required ratios for:

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<PAGE>

    o Consolidated Indebtedness to Total Capitalization;

    o Consolidated Indebtedness to Consolidated EBITDA;

    o Consolidated EBITDA to Consolidated Debt Service;

    o Consolidated EBITDA to Consolidated Interest Expense; and

    o Minimum annual revenues to the vendor financing subsidiary.

    The draft  Lucent  credit  facility  contains a number of events of default,
including:

     o    Nonpayment of principal, interest, fees or other amounts;

     o    The  occurrence  of a default on other  material  indebtedness  of the
          vendor  financing  subsidiary  and its  subsidiaries  (if any) and, in
          certain  circumstances,  of Pathnet  Telecommunications,  Inc. and its
          subsidiaries  including a  termination  by Lucent as the result of our
          default on the fiber supply agreement with Lucent;

     o    Failure to comply with certain  covenants,  conditions  or  provisions
          under the credit facility;

     o    The existence of certain judgments;

     o    The  occurrence of any default under  material  agreements  that could
          result  in  a  material   adverse  effect  on  the  vendor   financing
          subsidiary;

     o    The breach of representations or warranties;

     o    Commencement  of  reorganization,  bankruptcy,  insolvency  or similar
          proceedings;

     o    The occurrence of certain ERISA events; and

     o    A change of control of Pathnet Telecommunications,  Inc. or the vendor
          financing subsidiary.

        If the borrowing subsidiary defaults on its obligations under the Lucent
credit facility,  all of those  obligations  could be declared to be immediately
due and  payable.  Upon a  payment  default  or  upon  any  acceleration  of the
obligations  under  the  Lucent  credit  facility,  assuming  those  obligations
exceeded  $7.5  million,  any amounts  then owing  under the Notes would  become
immediately due and payable.

        Under the Lucent credit facility, the vendor financing subsidiary is not
permitted   to   offer   any   guarantee   of  any   indebtedness   of   Pathnet
Telecommunications,  Inc. or us. In addition to the Lucent credit  facility,  we
intend to enter into similar financing  arrangements with other of our equipment
vendors. We expect that other vendor financing  participants will demand similar
restrictions.

NETWORK RELIABILITY

    We have constructed our network  operations center in Washington,  D.C. This
network operations center,  currently provides real-time,  end-to-end monitoring
of our  network  operations  24  hours  a day,  seven  days-a-week,  as  well as
pro-active  customer  care  for  all of our  customers'  services.  The  network
operations center ensures the efficient and reliable  performance of the network
through  pro-active  early  identification  and prevention of potential  network
disruptions.  In addition,  our network operations center enables us to schedule
and conduct  maintenance of our network while minimizing  interference  with the
use of the network by our customers.  Specific  features provided by our network
operations  center  include  network  fault and event  management,  network  and

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<PAGE>

service   level   performance   management   and  analysis  as  well  as  remote
configuration of all network  elements.  our network  operations center has full
fallback capability and it appears to be Year 2000 compliant.

COMPETITION

    Competition  in the  telecommunications  industry is intense.  In our target
markets,  we expect  to face  increasing  competition  in the areas of price and
performance,  transmission  quality,  breadth and  reliability  of our  network,
customer service and support,  brand recognition and critical relationships with
third parties such as Internet  service  providers.  While we generally will not
compete with telecommunications service providers for end user customers, we may
compete as a "carriers'  carrier" with certain of those providers including IXCs
(such as AT&T Corp.,  MCI  WorldCom,  Inc.  and Sprint  Corporation),  wholesale
providers   (such  as  Qwest   Communications   International   Inc.,   Williams
Communications Group, Inc., DTI Holdings,  Inc., Global Crossing Ltd and Level 3
Communications, Inc.), ILECs (such as US West, BellSouth, Bell Atlantic, SBC and
GTE Corporation) and CLECs (such as GST Communications, Inc., ITC/Deltacom, Inc.
and Metromedia Fiber Network,  Inc.) who would otherwise be our customers in our
target  markets.  Other entities which may become our competitors in this regard
include communications service providers,  cable television companies,  electric
utilities, wireless telephone operators, microwave carriers, satellite carriers,
and large end users with private networks.

    Initially, in second and third tier markets our most significant competitors
will be ILECs and other CLECs.  Many of the largest ILECs will begin offering in
the near future some of the products and services we plan to offer and some have
already  begun  to do so.  These  companies  are able to draw  upon  established
networks,  well-known  brand names,  customer  loyalty,  a pre-existing  base of
management  and  employees,  and greater  access to capital  than will likely be
available to us. Moreover,  many ILECs own the telephone wires they use, and can
bundle digital data services, for example,  without having to incur the costs of
negotiating interconnection agreements. As other industry participants also seek
to enter these markets, we will face increasing competition.

    Industry  consolidation and strategic alliances between  participants in the
telecommunications  industry will also increase the level of competition we will
face,   particularly  as  the  demand  for  bundling  of  services  surges.  New
technologies,   further   deregulation  and  other  changes  in  our  regulatory
environment  will create  further  competitive  pressures as we enter our target
markets.

GOVERNMENT REGULATION

    OVERVIEW. Our  telecommunications  businesses are subject to varying degrees
of federal,  state and local  regulation.  We are a  telecommunications  carrier
under the  terms of the  federal  Communications  Act.  As a  telecommunications
carrier,  we are subject to FCC and state utility  commission  regulation of our
activities.  Local authorities also may regulate the permitting and construction
of our telecommunications facilities.

    The  Telecommunications  Act created a uniform  national  policy in favor of
competition in all  telecommunications  market segments. As described below, the
rules and policies  implementing  the  Telecommunications  Act remain subject to
agency action and litigation at both the federal and state level. We nonetheless
believe that the national policy in favor of competition that was created by the
Telecommunications  Act will  lead to  increased  market  opportunities  for us.
Because  these  opportunities   require  additional  agency  action  before  the
Telecommunications  Act is fully  implemented,  and because these actions may be

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<PAGE>

subject to court  review,  we cannot  predict  the pace at which the law will be
fully implemented.

    We are required to file  federal and state  tariffs  describing  the prices,
terms and  conditions of our services,  and these tariffs are subject to varying
degrees of regulatory oversight and approval. We must also comply with state and
local license or permit requirements  relating to the installation and operation
of our network.  Burdensome license,  permit or other regulatory requirements or
developments  could make it more  difficult for us to comply with these laws and
regulations.

    The FCC and state public  service  commissions  generally  have the right to
impose sanctions, forfeitures, or other penalties mandating refunds if a carrier
fails to comply with  applicable  rules. We cannot assure you that regulators or
such third parties will determine that we have complied with all applicable laws
and regulations. Any proceedings against us could have a material adverse effect
on our business, financial condition, or results of operations.

    FEDERAL   REGULATION.   The  FCC  regulates   interstate  and  international
telecommunications  services,  and  it  also  regulates  the  holders  of  radio
licenses. We are subject to FCC regulation as a common carrier, which means that
we are subject to longstanding  general requirements that our rates be "just and
reasonable" and that we not engage in "unjust or unreasonable discrimination" in
serving the public.  As a common  carrier,  we also must file  certain  periodic
reports and  applications  with the FCC, and the FCC has  jurisdiction to act on
certain  complaints for failure to comply with regulatory  obligations.  We also
are  required  to  file  basic   tariffs  at  the  FCC  for  our   provision  of
telecommunications services generally, although those tariffs are not subject to
pre-effective  review and can be amended on one day's notice.  We are subject to
the  licensing  processes of the FCC for the use of our microwave  licenses.  We
also generally  must apply to the FCC for its consent  before  assigning a radio
license or transferring control (for example,  through the sale of stock) of any
company holding radio licenses or common carrier authorizations.

    We are not,  however,  subject to the  particular  laws and FCC  regulations
imposed by the  Telecommunications  Act on ILECs,  which are the existing  local
telephone companies including, among others, the former Bell operating companies
and GTE. These  regulations have provided,  and we believe they will continue to
provide,  significant  opportunities  for  us to  compete  with  ILECs  for  the
provision of competitive telecommunications services. These laws and regulations
require ILECs to:

    o   Provide  "physical  collocation"  to  competitors,  a  requirement  that
        permits us and other  similarly  licensed common carriers to install and
        maintain our own network termination equipment at ILEC central offices;

    o   "Unbundle"   components   of  their   local   service   networks   in  a
        nondiscriminatory manner so that we and other new competitors can obtain
        network facilities,  equipment,  features, functions and capabilities at
        cost-based prices (which may include a reasonable profit);

    o   Permit us and other competitors to  "interconnect"  with ILEC facilities
        at any technically feasible point within their networks, at prices based
        on cost (which may include a reasonable profit);

    o   Engage   in    "reciprocal    compensation"    for   the   exchange   of
        telecommunications  traffic,  an obligation  that requires ILECs and new
        competitors  to complete  calls  originated by competing  carriers under
        reciprocal arrangements at prices based on a reasonable approximation of
        incremental  cost,  or through the mutual  exchange  of traffic  without
        explicit payment;

                                       19
<PAGE>

    o   Establish  wholesale  prices for  their  services to  promote  resale of
        services and facilities by new competitors;

    o   Establish  "number  portability"  so that  customers can maintain  their
        existing  phone  numbers  when they switch  from one  telecommunications
        provider  to  another   without   impairing   quality,   reliability  or
        convenience;

    o   Establish   "dialing  parity"  so  that  customers  will  not  detect  a
        difference  in quality or  complexity  in dialing  telephone  numbers or
        accessing operators and emergency services; and

    o   Provide  nondiscriminatory  access to telephone poles, ducts, conduits
        and rights of way.

    Applicable  FCC  regulations  require  ILECs to negotiate in good faith with
carriers requesting any of the above arrangements.  If the negotiating  carriers
cannot reach agreement in a prescribed time,  either carrier may request binding
arbitration of the disputed issues by a state regulatory commission. This set of
obligations provides significant market opportunity for new competitors, but, as
discussed  below,  we cannot  assure you that the  various  government  agencies
responsible for  implementing  these  pro-competitive  policies and requirements
will do so in a timely and effective manner.

    The   Telecommunications  Act  requires  the  FCC  to  establish  rules  and
regulations to implement its local competition  provisions.  In August 1996, the
FCC issued rules governing interconnection,  resale, unbundled network elements,
the  pricing  of  those  facilities  and  services,   and  the  negotiation  and
arbitration  procedures  that would be  utilized  by states to  implement  those
requirements.  These rules,  which were generally  favorable to new competitors,
were vacated in part by a July 1997 ruling of the United States Court of Appeals
for the Eighth  Circuit.  On January 25, 1999,  the United States  Supreme Court
issued  an  opinion  upholding  the  authority  of the FCC to  establish  rules,
including  pricing  rules,  to implement  statutory  provisions  governing  both
interstate and intrastate services under the  Telecommunications  Act. The Court
also upheld rules allowing  carriers to select  provisions  from among different
interconnection  agreements  approved by state commissions for the carriers' own
agreements (the  "pick-and-choose"  rule) and a rule allowing carriers to obtain
combinations of unbundled network elements.

    The Supreme Court, however,  vacated the FCC rule setting forth the specific
unbundled network elements that ILECs must make available,  finding that the FCC
had failed to apply the appropriate statutory standard. On November 5, 1999, the
FCC  responded  to the  Court's  decision by issuing a decision  that  maintains
competitors' access to a wide variety of unbundled network elements.  Six of the
seven unbundled elements the FCC had originally  required carriers to provide in
its 1996 order  implementing  the  Telecommunications  Act remain  available  to
competitors.   These  elements  are  loops,  including  loops  used  to  provide
high-capacity  and  advanced  telecommunications   services;  network  interface
devices;  local  circuit  switching,  subject  to  restrictions  in major  urban
markets;  dedicated and shared transport;  signaling and call-related databases;
and operations support systems. The FCC removed access to operator and directory
assistance  service from the list of available  unbundled network  elements.  In
addition, the FCC added to its list certain unbundled network elements that were
not at issue in 1996. These elements include subloops, or portions of loops, and
dark fiber  loops and  transport.  The FCC did not,  however,  require  ILECs to
unbundle  facilities  used to provide  Digital  Subscriber  Line service (packet
switches  and  digital  subscriber  line access  multiplexers).  The FCC did not
decide,  but sought additional  information on, the question of whether carriers

                                       20
<PAGE>

may  combine  certain  unbundled  network  elements  to provide  special  access
services  to compete  with those  provided  by the ILECs.  The ability to obtain
unbundled  network  elements is an  important  element of our  business,  and we
believe  that the  FCC's  actions  in this area have  generally  been  positive.
However,  we cannot  predict  the  extent to which the  existing  rules  will be
sustained in the face of additional legal action and the scope of the rules that
are yet to be crafted by the FCC. For  example,  the FCC may restrict the use of
unbundled network elements for the provision of services affording long distance
companies access to local telephone networks, which would reduce our competitive
price  advantage  and limit the  market  opportunities  in that  segment  of the
telecommunications market.

    The rates  charged for  interconnection  and unbundled  network  elements we
require  vary  greatly.  These  rates  are  subject  to the  approval  of  state
regulatory  commissions,  through  approval  processes that typically  involve a
lengthy review of the rates proposed by the ILECs in each state. The final rates
approved  typically depend on the ILECs' initial rate proposals and the policies
of the state public  utility  commission.  These rate approval  proceedings  are
time-consuming and expensive.  Recurring and non-recurring charges for telephone
lines and other  unbundled  network  elements  may  increase  based on the rates
proposed by the ILECs and approved by state regulatory  commissions from time to
time,  which  would  have  a  material  adverse  effect  on the  results  of our
operations.  Moreover,  because the cost-based methodology for determining these
rates is still subject to judicial review,  there is great uncertainty about how
these rates will be determined in the future.

     Underthe rules adopted by the FCC pursuant to the  Telecommunications  Act,
we have entered into collocation  agreements with two major ILECs (BellSouth and
USWest) covering 17 states.  These agreements include the provision of unbundled
network  elements to be used in connection  with  competitive  telecommunication
services.  We have  also  entered  into a  collocation  agreement  with  another
existing  ILEC,  BellSouth,  covering  9  states.  We expect  these  collocation
agreements to be part of the more comprehensive  interconnection agreements with
these  ILECs  that  are  currently  under  negotiation.   In  addition,  we  are
negotiating   additional   collocation  agreements  in  other  states.  We  have
negotiated with two ILECs for the provision of unbundled  network elements to be
used in connection with competitive  telecommunications  services. We expect the
pace of these negotiations to continue for the foreseeable  future.  Although we
expect,  based on our  experience  thus far, that such  negotiations  will yield
acceptable  agreements  that will permit us to implement  our  business  plan on
schedule,  we cannot  predict  the extent to which  ILECs  interpreting  the FCC
regulations may seek to frustrate our  collocation  plans or the extent to which
we will need to seek arbitration or commence  litigation to achieve our goal. If
we are unable to enter into, or experience a delay in obtaining, interconnection
agreements,  this  inability or delay may  materially  and adversely  affect our
business and financial prospects.

    The FCC has been  reviewing the policies and practices of the ILECs with the
goal of  facilitating  the  efforts of  telecommunications  companies  to obtain
access to central office space and other network  facilities  more easily and on
more favorable terms. On March 31, 1999, the FCC adopted rules to make it easier
and less  expensive for  telecommunications  companies to obtain  central office
space and to require ILECs to make new  alternative  arrangements  for providing
central  office  space.  However,  the FCC's new rules  have not been  uniformly
implemented  in a timely  manner and may not  ultimately  enhance our ability to
obtain central office space.  Difficulties we experience in obtaining  access to
and interconnection  with the ILECs' facilities can negatively impact our future
plans for providing certain services.

    Our   expected   provision   of   DSL   is   largely   unregulated   by  the
Telecommunications  Act  or the  FCC  because  we,  and  the  telecommunications

                                       21
<PAGE>

companies  that  are our  customers,  are not  ILECs.  Moreover,  our  customers
providing  DSL service to end users,  such as Internet  service  providers,  are
unregulated  "information  services  providers."  The FCC  affirmed  in a report
adopted on April 10, 1998, that Internet  service  providers will not be subject
to regulation as telecommunications  carriers under the Telecommunications  Act.
They  thus  will  not be  subject  to  universal  service  subsidies  and  other
regulations.  We cannot,  however,  assure you that neither Congress nor the FCC
will alter that regulatory  scheme in the future.  Further,  in August 1998, the
FCC proposed new rules that would allow ILECs to provide  their own DSL services
through separate  affiliates that are not subject to ILEC  regulation.  Although
the FCC recently decided some of the other issues raised in that proceeding, the
question  of  whether  ILECs can  provide  unregulated  DSL  services  through a
separate  affiliate  remains  unresolved.  Some  members of  Congress  also have
expressed interest in giving ILECs additional pricing flexibility for high speed
data services and expanding the  geographic  area in which ILECs may offer these
services to their customers. Any expansion of ILECs' ability to offer high speed
data and  Internet  services  may have an  adverse  impact on our  business.  On
November 18, 1999,  the FCC decided to require  ILECs to share  telephone  lines
with  DSL  providers,   an  action  that  may  foster  competition  by  allowing
competitors to offer DSL services without the purchase their customers to having
to a second  telephone line.  Whether this development will be implemented in an
effective way remains to be seen. Moreover,  it is impossible to predict whether
the FCC or Congress may change the rules under which these  services are offered
and, if such  changes are made,  the extent of the impact of such changes on our
business.

    The  Telecommunications  Act  obligates  the  FCC  to  establish  "universal
service"  mechanisms  to ensure  that  certain  subscribers  living in rural and
high-cost  areas, as well as certain  low-income  subscribers,  continue to have
access to  telecommunications  and  information  services  at prices  reasonably
comparable  to  those  charged  for  similar  services  in  urban  areas.  These
mechanisms also are meant to foster the provision of advanced telecommunications
services to schools, libraries and rural health-care facilities. Under the rules
adopted  by  the  FCC  to  implement  these  requirements,   we  and  all  other
telecommunications providers will be required to contribute to a fund to support
universal  service.  The amount that we must contribute to the federal universal
service   subsidy   will  be  based   on  our   share   of   specified   defined
telecommunications  end-user revenues.  Therefore, it is difficult to predict in
advance the precise contributions that we will be required to make.

    The FCC  regulates  the fees that  local  telephone  companies  charge  long
distance  companies for access to their local networks.  These fees are commonly
called access charges. The FCC is currently considering a proposal, supported by
parts of both the local  and long  distance  telephone  industries,  that  would
restructure and most likely significantly reduce access charges.  Changes in the
access charge structure could fundamentally change the economics of some aspects
of our business.  Any material  reduction in the access charges imposed by local
telephone companies could significantly reduce our price advantage in the market
for  services  affording  long  distance  companies  access  to local  telephone
networks.

    As an  enhancement to our local access  services,  during the second half of
2000,  we expect to begin  marketing  and selling DSL services to our second and
third tier  markets.  To provide  unbundled  DSL capable  lines to connect  each
customer to our equipment,  we will use networks owned by ILECs.  The terms upon
which we connect our network to ILECs' networks are specified in interconnection
agreements  that we must negotiate with the ILECs  operating in our existing and
target  markets.  Federal law requires ILECs to provide access to their networks
through  interconnection  agreements  and to  offer  network  elements  to other
telecommunications  carriers at rates which  generally  must be  cost-based  and

                                       22
<PAGE>

nondiscriminatory.  However,  we  may be  unable  to  negotiate  interconnection
agreements  on  favorable  terms.  The  failure  of ILECs to comply  with  their
obligations  under these  interconnection  agreements  could  result in customer
dissatisfaction and the loss of potential customers.

    We also are  regulated by the FCC as the holder of a  substantial  number of
common  carrier  fixed  point-to-point  microwave  licenses  that  we use on the
wireless  portion of our network.  Under the FCC's rules, we must coordinate our
proposed  frequency  use with other  existing  users of the  spectrum to prevent
interference.  After  completing that process,  we (and, in some cases,  our co-
development  partners)  must apply to the FCC for the  issuance  of a license to
permit us to transmit information on the frequencies we desire to use. To obtain
a  license  we must  demonstrate  that the  owner of the  transmission  site has
complied with the  reporting,  notification  and technical  requirements  of the
Federal Aviation  Administration for the construction,  installation,  location,
lighting and painting of  transmitter  towers and antennae  like ours.  Once the
license is  obtained,  we must make  routine  regulatory  filings and obtain the
FCC's prior consent for any assignment of the license or any substantial  change
in control of the entity holding the license and for certain  modifications to a
licensed  facility.  We cannot assure you that we, or any of our  co-development
partners who desire to be the licensee  for their  portion of our network,  will
obtain all of the  licenses or  approvals  necessary  for the  operation  of our
business,  the transfer of any license or the  modification of any facility,  or
that the FCC will not impose  burdensome  conditions or  limitations on any such
license, transfer or approval.

    Our  ownership  also is regulated by the FCC to ensure that we do not exceed
the foreign ownership  restrictions imposed by the Communications Act. Under the
Act,  we cannot  increase  our foreign  ownership  to a level  greater  than 25%
without  obtaining  prior  FCC  consent.  The  FCC has  determined  that it will
authorize a higher  level of foreign  ownership,  up to 100%,  on a  streamlined
basis where the foreign  ownership  is by citizens  of, or  companies  organized
under the laws of, World Trade  Organization  member  states.  (A more demanding
public interest showing is required by proposals to increase  foreign  ownership
by citizens or countries of non-WTO member states.) We currently comply with the
25% cap on foreign  ownership,  and we will monitor foreign investment to ensure
that we do not exceed that benchmark without obtaining  appropriate FCC consent.
These requirements may, in some circumstances,  be applied to our co-development
partners  as  well.  If a  co-development  partner  were to  choose  to hold the
relevant license itself, and not through a holding company,  that co-development
partner would be subject a provision that limits direct foreign ownership of FCC
licenses to 20%. The FCC does not have discretion to waive this limitation. If a
co-development  partner  exceeded  the 20%  limitation  it would be  required to
reduce its foreign ownership in order to obtain or retain its license.

     STATE REGULATION.  The  Telecommunications  Act preempts state statutes and
regulations that restrict the provision of competitive local  telecommunications
services. State commissions can, however, impose reasonable terms and conditions
upon the provision of telecommunications service within their respective states.
States also can require that telecommunications providers apply for and obtain a
certificate of public convenience and necessity or other  authorization prior to
commencing service in their respective states. We are in the process of becoming
certified,  to the extent such  certification is required,  in the 48 contiguous
states and the  District of Columbia as a  competitive  local  exchange  carrier
("CLEC") or other competitive  telecommunications  carrier under the regulations
of each state's regulatory commission.  We currently are authorized or permitted
to provide at least a portion  of our  proposed  services  in  thirteen  states:
Colorado, Florida, Idaho, Indiana, Iowa, Michigan,  Minnesota, Montana, Nebraska

                                       23
<PAGE>

(local  access  services  only),  Oregon and Texas,  Wisconsin and Wyoming (long
distance services only). We have pending applications before an additional eight
state  commissions.  Although we do not anticipate any issues that would prevent
us from obtaining authorization as a competitive  telecommunications  carrier in
each of the  states  in which  we will  apply,  we  cannot  assure  you that all
required state authorizations will be granted.

    In most states,  we are required to file tariffs  setting  forth the general
terms,  conditions  and prices for  services  classified  as  intrastate  by the
particular  state  commission  in question.  Most states  require us to list the
services provided and the specific rate for each service.  Under various states'
rules, however, we have regulatory  flexibility to set price ranges for specific
services and, in some cases,  prices can be set on an individual customer basis.
We also may be required to file applications with some states for the assignment
of our  state  certifications  to any  other  entity  and  for any  transfer  of
substantial  control that we decide to undertake in the future. Some states also
may  require  a filing  prior to the  issuance  of  substantial  debt or  equity
securities or other  transactions  that would result in a lien upon the property
we use to  provide  intrastate  telecommunications  services.  States  generally
require  us to file  various  reports  and pay  certain  fees,  including  state
universal service subsidies.  Like the FCC, most state commissions are empowered
to consider complaints filed against carriers subject to their jurisdiction.  We
cannot assure you that our state  certificates will not be revoked or amended by
state commissions.

    LOCAL  REGULATION.  We may be  required to obtain  local  permits for street
opening and  construction  permits to install and expand  fiber optic  networks.
Local zoning  authorities  often  regulate our use of towers for  microwave  and
other  telecommunications  sites.  We also are  subject to  general  regulations
concerning  building  codes  and local  licensing.  The  Telecommunications  Act
requires  that fees  charged  to  telecommunications  carriers  be  applied in a
competitively  neutral  manner,  but there can be no  assurance  that  ILECs and
others with whom we will be competing  will bear costs  similar to those we will
bear in this regard.

    OTHER LAWS AND REGULATIONS.  Although the foregoing  discussion  provides an
overview  of the major  regulatory  issues  that  confront  our  business,  this
discussion does not attempt to describe all current and proposed federal,  state
and local rules and initiatives affecting the telecommunications industry. Other
federal and state laws and  regulations  are  currently  the subject of judicial
proceedings and proposed additional legislation.  In addition, some of the FCC's
rules  implementing  the  Telecommunications  Act  will be  subject  to  further
judicial  review and could be altered  or  vacated by courts in the  future.  We
cannot  predict  the  ultimate  outcome  of  any  such  further  proceedings  or
legislation.

INTELLECTUAL PROPERTY

    We use the name "Pathnet" as our primary business name and service mark, and
have registered that name with the United States Patent and Trademark Office. In
addition,  we have registered our service mark "A NETWORK OF OPPORTUNITIES"  and
our logo with the United States Patent and Trademark Office.

    We regard our  products,  services  and  technology  as  proprietary  and we
attempt to protect them with patents, copyrights, trademarks, trade secret laws,
restrictions  on  disclosure  and  other  methods.  These  methods  may  not  be
sufficient  to protect our  technology.  We also enter into  confidentiality  or
license  agreements with our employees and  consultants,  and generally  control
access  to  and  distribution  of  our   documentation   and  other  proprietary
information.  Despite these precautions, it may be possible for a third party to
copy or otherwise  obtain and use our products,  services or technology  without

                                       24
<PAGE>

authorization, or to develop similar technology independently.

    We  currently  have a patent  application  pending  and we intend to prepare
additional applications and seek patent protection for our systems to the extent
possible.  These  patents  may not be issued to us, and if issued,  they may not
protect our  intellectual  property from  competition  that could seek to design
around or invalidate these patents.

EMPLOYEES

    As of January 31,  2000,  we employed  126 people.  As needed,  we also hire
temporary  employees  and  independent   contractor  computer  programmers.   In
connection with our growth strategy,  we anticipate hiring a significant  number
of additional  personnel in sales and other areas of our  operations in the near
future.  Our employees are not unionized,  and we believe our relations with our
employees  are good.  Our success will continue to depend in part on our ability
to attract and retain  highly  qualified  employees.  See "RISK FACTORS -- RISKS
RELATING TO OUR COMPANY OPERATIONS."

ITEM 2.  PROPERTIES

         Our network and our component assets are the principal  properties that
we own. Our  installed  fiber optic cable is laid on rights of way held by us or
our co-development  partners, and our digital wireless network is constructed on
our leasehold interests in telecommunications infrastructure.

         Our corporate  headquarters  are located in  Washington,  D.C.,  and we
lease this space from 6715 Kenilworth Avenue General Partnership,  under a Lease
Agreement  dated  August 9,  1997.  Recently,  we  executed  a lease  with 11720
Sunrisecorp.,  L.L.C.  for  approximately  40,000 square feet of office space in
Reston,  Virginia  which will become our new  headquarters  in the first half of
2000. We also lease office space in Richardson, Texas under a lease that expires
in 2003.

         We believe that all of our properties are well maintained.

ITEM 3.  LEGAL PROCEEDINGS

         From time to time, we are a party to routine litigation and proceedings
in the ordinary  course of business.  We are not aware of any current or pending
litigation  to which we are or may be a party that we believe  could  materially
adversely affect our financial position, results of operations or cash flows.

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

         During the fourth  quarter of the fiscal year covered by this Report on
Form 10-K, on December 31, 1999, the Company solicited written consents from the
holders  of the  Company's  Series  A  Convertible  Preferred  Stock,  Series  B
Convertible   Preferred   Stock  and  Series  C  Convertible   Preferred   Stock
(collectively the  "Stockholders") to (i) approve all actions taken by the Board
of Directors of the Company during the period from May 1, 1999 through  December
31, 1999 and (ii) approve and ratify certain agreements and arrangements entered
into by the Company in the  ordinary  course of business  during the period from
July 1, 1999 through December 31, 1999. Effective December 31, 1999, the Company
received   written   consents   approving  such   proposals  from   Stockholders
representing  10,784,279 votes with  Stockholders  representing  5,080,436 votes
abstaining.



                                       25
<PAGE>

PART II

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

         The Company has authorized  60,000,000 shares of Common Stock for which
there is no  established  public trading  market.  As of February 15, 2000 there
were 7 record  holders of the Company's  Common Stock.  As of December 31, 1999,
stock  option  awards  to  purchase   2,675,597  shares  of  Common  Stock  were
outstanding.

     The Company has not paid any cash dividends on its Common Stock in the past
and does not  anticipate  paying any cash  dividends  on its Common Stock in the
foreseeable  future.  Further,  the terms of the  Indenture  by and  between the
Company and The Bank of New York, dated April 8, 1998 (the "Indenture") relating
to the  Company's  12 1/4%  Senior  Notes due 2008  restrict  the ability of the
Company to pay  dividends on the Common  Stock,  as  described  in  Management's
Discussion  and Analysis of Financial  Condition and Results of  Operations,  as
well as in Note 8 to the  Company's  Financial  Statements  included  in Item 14
elsewhere in this Annual Report on Form 10-K.

ITEM 6.  SELECTED CONSOLIDATED FINANCIAL DATA

         We present below selected historical consolidated financial information
for  Pathnet  and the pro forma  balance  sheet data for  Pathnet  Telecom.  The
summary  historical  statements of operations  data for the years ended December
31,  1997,  1998 and 1999 and for the period  from  August 25, 1995 (the date of
Pathnet's  inception)  to December 31, 1999 and the summary  historical  balance
sheet as of December  31,  1999 have been  derived  from our  audited  financial
statements  that are included  elsewhere in this Annual Report on Form 10-K. The
summary  historical  statement of operations data for the period from August 25,
1995  (date of our  inception)  to  December  31,  1995  and for the year  ended
December 31, 1996 and the balance  sheet data as of December 31, 1995,  1996 and
1997 have been derived from Pathnet's audited financial  statements that are not
included  elsewhere in this Annual Report on Form 10-K.  The unaudited pro forma
balance sheet data as of December 31, 1999 gives effect to the  contribution and
reorganization  transaction  as if it  occurred  on  January  1,  1999.  We have
provided the unaudited pro forma balance sheet data for  informational  purposes
only.


                                       26
<PAGE>

<TABLE>

                                  PERIOD FROM                                                                 PERIOD FROM
                               AUGUST 25, 1995                                                             AUGUST 25, 1995
                                  (DATE OF                                                                      (DATE OF
                                INCEPTION) TO                    YEAR ENDED DECEMBER 31,                     INCEPTION) TO
                                 DECEMBER 31,  ------------------------------------------------------------   DECEMBER 31,
                                      1995         1996            1997          1998             1999           1999
                                -----------    -----------     -----------   ------------     -------------  -------------
<CAPTION>
<S>                              <C>           <C>             <C>            <C>             <C>            <C>

STATEMENTS OF
  OPERATIONS DATA:
Revenue........................  $       --    $     1,000     $   162,500   $  1,583,539     $   3,311,096  $   5,058,135
Operating expenses:
  Cost of revenue..............          --             --              --      7,547,620        12,694,909     20,242,529
  Selling, general and
    administrative.............     429,087      1,333,294       4,247,101      9,615,867        14,669,747     30,295,096
Contribution and
    Reorganization expenses....          --             --              --             --         1,022,998      1,022,998
  Depreciation and
    amortization expense.......         352          9,024          46,642        732,813         6,204,381      6,993,212
                                 ----------    -----------     -----------    -----------     -------------  -------------
Total operating expenses.......     429,439      1,342,318       4,293,743     17,896,300        34,592,035     58,553,835
Net operating loss.............    (429,439)    (1,341,318)     (4,131,243)   (16,312,761)      (31,280,939)   (53,495,700)
Interest expense(a)............          --       (415,357)             --    (32,572,454)      (41,010,069)   (73,997,880)
Interest income................       2,613         13,040         159,343     13,940,240        13,111,953     27,227,189
Write off of initial public
offering  costs................          --             --              --     (1,354,534)               --     (1,354,534)
Other income (expense),  net...          --             --          (5,500)         2,913           142,743        140,156
                                 ----------    -----------     -----------    -----------     -------------  -------------
Net loss.......................  $ (426,826)   $(1,743,635)    $(3,977,400)  $(36,296,596)    $ (59,036,312) $(101,480,769)
                                 ==========    ===========     ===========    ===========     =============  =============
Basic and diluted loss
  per common share.............  $    (0.15)   $     (0.60)    $     (1.37)  $     (12.51)    $      (20.14)
Weighted average number
of common shares outstanding...   2,900,000      2,900,000       2,900,000      2,902,029         2,931,644
</TABLE>

<TABLE>


                                                                AS OF DECEMBER 31
                                 -----------------------------------------------------------------------------------------
                                    1995          1996             1997          1998             1999           1999
                                 ----------    -----------     -----------    -----------     -------------  -------------
                                                                                               HISTORICAL    PRO FORMA (b)
                                                                                                              (UNAUDITED)
<CAPTION>
<S>                              <C>           <C>             <C>           <C>              <C>            <C>
BALANCE SHEET DATA:
Cash, cash equivalents and
  Marketable securities
  excluding  marketable
  securities pledged as
  collateral (b)...............  $   82,973    $ 2,318,037     $ 7,831,384   $227,117,417     $ 138,402,131  $ 170,448,726
Property and equipment, net ...       8,551         46,180       7,207,094     47,971,336       131,928,365    131,928,365
Intangible assets - right of
  way .........................          --             --              --             --                --    187,275,006
Total assets ..................      91,524      2,365,912      16,097,688    365,414,129       320,535,987    547,188,488
Long-term obligations (c)......          --             --              --    346,212,125       349,714,404    353,989,404
Total liabilities .............      17,350        145,016       5,892,918    366,492,370       380,303,073    383,074,949
Redeemable preferred stock ....     500,000      4,008.387      15,969,641     35,969,639        35,969,639     37,871,959
Stockholders' equity (deficit).    (425,826)    (1,787,471)     (5,764,871)   (37,047,880)      (95,736,725)   125,566,854
--------------------------

</TABLE>

(a)  The 1996 expense relates to the beneficial  conversion feature of a loan at
     December 31, 1996.

(b)  The  unaudited  pro forma  balance sheet data as of December 31, 1999 gives
     effect to the contribution and reorganization transaction as if it occurred
     on January 1, 1999.  The  unaudited  pro forma balance sheet was derived by
     adjusting  Pathnet's  historical  balance  sheet as of December 31, 1999 to
     reflect the transaction described below:

     o    Contribution  of over  12,000  route  miles of  rights  of way with an
          estimated  value of $187 million for 8,511,607  shares of our series D
          convertible preferred stock.

     o    Receipt of $38  million in cash at the initial  closing for  1,729,631
          shares of our Series E redeemable preferred stock. Another $25 million
          in cash  (which is  excluded  from our above pro forma  balance  sheet
          data) will be received in exchange for 1,137,915  shares of our Series
          E redeemable  preferred  stock  (conditioned  upon the completion of a
          fiber optic network  segment  build that we expect to complete  during
          the first calendar quarter of 2000);

                                       27
<PAGE>

     o    Exchange of 2,977,593  shares of outstanding  Pathnet common stock for
          2,977,593 shares of PTI's common stock;

     o    Exchange  of  5,470,595  shares  of  Pathnet  mandatorily   redeemable
          preferred stock into 15,864,715 shares of PTI's convertible  preferred
          stock;

     o    Receipt of $1 million in cash for options to purchase 1,593,082 shares
          of PTI's Series E redeemable  preferred  stock at $21.97 per share and
          shares of PTI's common stock at an initial public offering;

     o    Receipt of $4 million in cash for PTI's sale to  Colonial of rights in
          a specified number of conduit miles of PTI's future network;

     o    Receipt of  $275,000  in rights of way for PTI's sale to  Colonial  of
          rights in a specified number of conduit miles of PTI's future network;
          and

     o    Our payment of a 2.5%  consent  fee to holders of the notes  (assuming
          all holders of notes consent to the  contribution  and  reorganization
          transaction) of approximately $8.8 million in the aggregate.

(c)  Cash, cash  equivalents and marketable  securities  include  investments in
     marketable securities available for sale.

(d)  Long term obligations include other non-current liabilities of $3,092,779.

(e)  We  have  not  included   unaudited  pro  forma   statement  of  operations
     information  to  give  effect  to  the  contribution   and   reorganization
     transaction  as if it occurred on January 1, 1999.  An unaudited  pro forma
     statement  of  operations  would  reflect  only  amortization   expense  of
     approximately  $939,000  of deferred  financing  cost  attributable  to the
     consent fee that we plan to pay in  connection  with the  contribution  and
     reorganization  transaction  and  approximately  $2,278,000 of  anticipated
     transaction costs, of which $1,898,000 will be expensed as incurred and the
     remainder  offset  against  stockholders'  equity  (deficit).  The deferred
     financing  cost will be amortized and charged to interest  expense over the
     remaining life of the notes.  Generally,  we do not begin amortizing rights
     of way used in our network until the network is completed and available for
     use. As of December 31, 1999, none of the rights of way contemplated by the
     contribution  and  reorganization  transaction were used in our fiber optic
     network.  Because  the  amortization  of the  deferred  financing  cost and
     expensed  transaction  costs  would  have  represented  the only pro  forma
     adjustments  to the  statement of  operations  data,  we have not presented
     unaudited pro forma statement of operations data. Instead, we have adjusted
     our pro forma deficit  accumulated  during the development stage to account
     for these expenses.



                                       28
<PAGE>



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

     OUR ACTUAL  RESULTS  COULD  DIFFER  MATERIALLY  FROM THOSE  ANTICIPATED  IN
FORWARD-LOOKING  STATEMENTS MADE IN THIS SECTION AS A RESULT OF VARIOUS FACTORS,
INCLUDING  THOSE  DESCRIBED  IN THE SECTION OF THIS  ANNUAL  REPORT ON FORM 10-K
ENTITLED "RISK FACTORS." YOU SHOULD ASSUME FOR PURPOSES OF THIS SECTION THAT ALL
REFERENCES TO OUR BUSINESS,  OUR ACTIONS OR CONDITIONS AFFECTING US PRIOR TO THE
DATE OF THIS  PROSPECTUS  ARE  REFERENCES  TO  PATHNET'S  BUSINESS,  ACTIONS  OR
CONDITIONS  AFFECTING PATHNET.  UNLESS WE INDICATE OTHERWISE,  REFERENCES TO OUR
FUTURE  BUSINESS,  STRATEGIES,  OR PLANS,  ARE  REFERENCES  TO OUR  CONSOLIDATED
BUSINESS,  STRATEGIES OR PLANS, INCLUDING PATHNET  TELECOMMUNICATIONS,  INC. AND
ITS OTHER FUTURE  SUBSIDIARIES.  YOU SHOULD READ THE  FOLLOWING  DISCUSSION  AND
ANALYSIS IN CONJUNCTION WITH OUR COMBINED FINANCIAL STATEMENTS AND RELATED NOTES
INCLUDED IN THIS ANNUAL REPORT ON FORM 10-K. YOU CAN FIND ADDITIONAL INFORMATION
CONCERNING OUR BUSINESSES AND STRATEGIC INVESTMENTS AND ALLIANCES IN THE SECTION
OF THIS ANNUAL REPORT ON FORM 10-K ENTITLED "BUSINESS."

OVERVIEW

    Since our  inception  on August 25,  1995,  our  principal  activities  have
included:

o    Entering into  strategic  relationships  with owners of  telecommunications
     assets and co-development partners;

o    Developing and constructing our digital backbone network;

o    Negotiating  collocation  and  interconnection  agreements  and  installing
     collocations and interconnections off our backbone network;

o    Designing and developing our network  architecture  and operations  support
     systems,   including  the  buildout  and  launch  of  our  24-hour  network
     operations center;

o    Raising capital and hiring management and other key personnel;

o    Developing "leading edge" products and services; and

o    Procuring governmental authorizations.

     In November 1999 we signed a contribution  and  reorganization  transaction
with three new investors,  The Burlington Northern and Santa Fe Railway Company,
CSX  Transportation   Company,  Inc.  and  Colonial  Pipeline  Company.  If  the
conditions to closing are satisfied and the Transaction is concluded,  we expect
to  develop  additional  backbone  network  from a pool of  right  of way  miles
received  in  the  Transaction  --  8,000  of  which  will  have  some  form  of
exclusivity.  These additional route miles would provide us with the opportunity
to develop unique and diverse paths  connecting our target markets back to major
tier one metropolitan areas.

     As of December 31, 1999, our network consisted of over 6,300 wireless route
miles  providing  wholesale  transport  services  to 30 cities  and 500 miles of
installed  unlit fiber.  We are  constructing  an additional  600 route miles of
fiber optic network  scheduled for completion in the first half of 2000. We have
also entered into two additional  co-development agreements for the construction
of an additional 750 route miles of fiber optic network.  During 2000, we intend
to deploy additional products and services including bundled wholesale transport
and local access services.

                                       29
<PAGE>

    We have  experienced  operating  losses since our  inception,  and we expect
these operating losses to continue as we expand our operations. Implementing our
business plan will require significant capital  expenditures.  See "RISK FACTORS
-- RISKS RELATING TO OUR  FINANCING." Our financial  performance  will vary from
market to market,  and the time when we will achieve  positive  earnings  before
interest, taxes, depreciation and amortization, if at all, will depend on the:

    o Size of our target markets;

    o Timely completion of backbone routes, collocations and interconnections;

    o Cost of the necessary infrastructure;

    o Timing of and barriers to market entry; and

    o Commercial acceptance of our services.

SOURCES OF REVENUE

    INFRASTRUCTURE   SERVICES.  We  employ  a  "smart  build"  approach  in  the
development  of our  network  that  includes  determining  the level of customer
demand on a route  before  construction  and, in certain  cases,  entering  into
pre-construction  sales of dark  fiber  and  conduit.  We can sell  indefeasible
rights of use or leases of fiber or conduit  along a segment of our network at a
fixed price.  Under our dark fiber and conduit  sales  agreements,  we expect to
receive all of the proceeds  relating to the sale of the dark fiber and conduits
upon completion of the route and acceptance by the customer.  Our dark fiber and
conduit sale business is becoming  increasingly  competitive  as other  carriers
build and expand their  networks.  To expedite  infrastructure  development  and
decrease  development  risk, we have sought,  and in the future will continue to
seek,  co-developers  to share the project  construction  costs. We have pursued
co-marketing  arrangements  to  facilitate  selling  the  assets  along  network
segments and we may continue to do so in the future.

    MANAGEMENT  SERVICES.  To date, we have  generated  revenues  primarily from
services  related  to the  construction  of our  digital  network.  We expect to
continue  construction of our digital network with co-development  partners when
these  projects will allow us to retain  bandwidth,  fiber or conduit  assets on
routes  that  complement  and reduce the costs of  completing  our  network.  We
anticipate  that the  percentage  of revenues  that we receive  from  management
services will decline as we near the completion of our network.

    WHOLESALE  TRANSPORT AND LOCAL ACCESS  SERVICES.  We provide  inter-city and
local wholesale transport services and local access services to our customers on
a long-term or  month-to-month  basis.  We plan to bundle local access  services
with our wholesale transport services to provide low cost,  end-to-end solutions
for our customers. Our service agreements with customers are generally leases of
capacity  which  provide for  monthly  payments  due in advance on a  fixed-rate
basis. We price our customer contracts according to the capacity,  the length of
the  circuit  used,  the term of the  contract  and the  extent  of value  added
services  provided.  Nonrecurring  revenues include  installation and activation
charges  for new  customers.  We seek to price  our  services  competitively  in
relation  to  those  of  the  ILECs  and  other  competitive  telecommunications
companies in our targeted underserved and second and third tier markets.

    Although pricing will be an important part of our strategy,  we believe that

                                       30
<PAGE>

customer relationships,  customer care and consistent quality will be the key to
generating  customer loyalty.  During the past several years,  market prices for
many telecommunications  services have been declining -- a trend we believe will
likely  continue.  As prices decline for any given  service,  we expect that the
total number of customers and the  proportion of our  customers  purchasing  our
bundled services will increase.

OPERATING EXPENSES

    COST OF REVENUE. The primary components of our cost of services to date have
been costs relating to network  engineering,  operations and  maintenance.  With
expected growth of our bundled wholesale  transport and local access services we
expect  components  such as access  costs  (including  fees for use of the local
loop,   rent,   power   and   other   fees   charged   by   ILECs,   competitive
telecommunications  companies and other providers) and costs associated with the
provision of services to comprise a greater portion of our costs of service.

    SELLING, OPERATIONS AND ADMINISTRATION.  We are building a small and focused
sales and marketing  department  that should allow us to maintain a low ratio of
overhead  expenses to  revenues  compared  to other  telecommunications  service
providers.  Our general and  administrative  costs include  expenses  typical of
other  telecommunications  service providers,  including office leases, customer
care,  billing,  corporate  administration  and human resources.  We expect that
these costs will grow  significantly  as we expand our  operations  and that our
administrative  overhead will be a large portion of these expenses.  However, we
expect these  expenses to decline as a percentage of our revenue as we build our
customer base and increase the number of customers connected to our network.

    DEPRECIATION AND AMORTIZATION.  Because we are primarily a  facilities-based
wholesale provider, expenses associated with depreciation of property, plant and
equipment will be a substantial  ongoing expense for us. We expect  depreciation
and  amortization  expense  to  increase  significantly  as more of our  network
becomes  operational  and as we  increase  capital  expenditures  to expand  our
network. Depreciation and amortization expense will include:

     o    Depreciation of network infrastructure equipment;

     o    Depreciation of improvements to central  offices,  other  collocations
          and related equipment;

     o    Depreciation of network control center facilities, furniture, fixtures
          and corporate facilities;

     o    Amortization of rights of way; and

     o    Amortization of software.

RESULTS OF OPERATIONS

YEAR ENDED DECEMBER 31, 1999 COMPARED TO YEAR ENDED DECEMBER 31, 1998

    During the year ended December 31, 1999, we continued to focus on :

     o    developing  relationships  and  strategic  alliances  with  owners  of
          valuable  telecommunications  assets  such as  rights  of way and with
          co-development partners,

     o    building out our network,

     o    obtaining  the  regulatory  status and entering  into  interconnection
          agreements  in each of our  target  markets  to  enable  us to  obtain

                                       31
<PAGE>

          unbundled  network  elements and central  office space from the ILECs,
          and

     o    developing our  infrastructure  including the hiring of key management
          personnel.

    REVENUE.  For the  twelve  months  ended  December  31,  1999 and  1998,  we
generated revenues of approximately $3.3 million and $1.6 million, respectively.
This increase is attributable  to revenues from our sales of  telecommunications
services,  which were $2.4 million in 1999 compared with approximately  $165,000
in 1998.  We expect that a  substantial  portion of our future  revenue  will be
generated from our sale of wholesale transport  services,  local access services
and backbone infrastructure services.

    OPERATING EXPENSES.  For the twelve months ended December 31, 1999 and 1998,
we incurred operating expenses of approximately $34.6 million and $17.9 million,
respectively.  The  increase  is  primarily a result of  additional  staff costs
incurred in developing our infrastructure,  depreciation expenses as more of our
network came on line and  administrative  costs related to obtaining  regulatory
status.  Cost of  revenue  reflects  direct  costs  we  incurred  in  performing
construction and management services and providing telecommunications services.

    INTEREST EXPENSE.  Interest expense for the twelve months ended December 31,
1999 and 1998 was approximately  $41.0 million and $32.6 million,  respectively.
Interest expense primarily represents interest on the notes issued in April 1998
together with the amortization expense related to bond issuance costs in respect
of the notes and the amortization expense related to deferred financing costs.

    INTEREST  INCOME.  Interest  income for the twelve months ended December 31,
1999 and 1998 was approximately  $13.1 million and $13.9 million,  respectively.
The decrease in interest income reflects a decrease in cash and cash equivalents
and  marketable  securities  as those funds were used in building  our  network,
funding  operations,  and  making  interest  payments  on our notes in April and
September of 1999.

YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997

    During  the  twelve  months  ended  December  31,  1998,  we  focused on (1)
developing  relationships  and  strategic  alliances  with  owners  of  valuable
telecommunications  assets  such  as  rights  of  way  and  with  co-development
partners,  (2) building out our network, and (3) hiring key management and other
personnel.

    REVENUE.  Substantially  all of our revenue for the year ended  December 31,
1998  consisted  of fees  received  for  services we  provided  to our  wireless
co-development  partners,  including analysis of existing  facilities and system
performance,  advisory  services relating to personal  communication  system (or
PCS) provider spectrum relocation matters,  and turnkey network construction and
management  services.  For the  years  ended  December  31,  1998 and  1997,  we
generated revenue of approximately $1.6 million and $162,500, respectively. This
increase was  attributable to fees we received for performing  construction  and
management services primarily for one customer.

    OPERATING EXPENSES.  For the twelve months ended December 31, 1998 and 1997,
we incurred operating expenses of approximately  $17.9 million and $4.3 million,
respectively.  This increase results primarily from accelerating the buildout of

                                       32
<PAGE>

our   network  and   additional   staff  costs   incurred  in   developing   our
infrastructure.  Cost of revenue reflects direct costs we incurred in performing
construction and management services and providing telecommunications services.

    INTEREST EXPENSE.  Interest expense for the twelve months ended December 31,
1998 was approximately  $32.6 million. We had no interest expense for the twelve
months ended December 31, 1997.  Interest expense primarily  represents interest
on the notes  together with the  amortization  expense  related to bond issuance
costs in respect of the notes.

    INTEREST  INCOME.  Interest  income for the twelve months ended December 31,
1998 and 1997 was approximately  $13.9 million and $159,300,  respectively.  The
increase in interest  income  represents  interest earned on the proceeds of the
notes issued in April, 1998.

CAPITAL EXPENDITURES

    We have invested a significant amount of capital  constructing and deploying
our digital network.  We intend to continue to expand our network  coverage.  We
plan to add a bundled product comprised of local access and wholesale  transport
to our existing  products.  These  efforts will require us to fund our operating
losses and we will require significant capital to:

     o    Continue  construction  and  development  of  our  nationwide  network
          infrastructure;

     o    Purchase and install  electronics,  transmission  and  interconnection
          equipment  and other  components  along the  network  and as needed to
          establish the platform for our local access and bundled services;

     o    Procure, design and construct central office and other collocation and
          interconnection sites; and

     o    Continue development of our corporate infrastructure.

    Capital  expenditures were approximately $80.2 million for the twelve months
ended  December  31,  1999.  We expect  that our  capital  expenditures  will be
substantially  higher in future periods in connection  with the expansion of our
network and services in our target markets.

    As of December 31, 1999, we had capital  commitments of approximately  $89.9
million  relating  to  the  development  of our  network  pursuant  to  existing
agreements. From December 31, 1999 until December 31, 2000 we intend to:

    o   Complete the  construction  and lighting of network segments to which we
        are currently committed, including Chicago, Illinois to Aurora (a suburb
        of Denver),  Colorado,  Grand Junction,  Colorado to  Alberquerque,  New
        Mexico and Alberquerque to El Paso, Texas;

    o   Begin perfection and  pre-engineering  of selected network segments from
        the right of way  acquired  under the  Contribution  and  Reorganization
        Transaction; and

    o   Commence construction on up to three additional fiber routes;

    o   Continue  interconnecting  and  collocating  in 60 to 80 of our targeted

                                       33
<PAGE>

        underserved and second and third tier markets.

LIQUIDITY AND CAPITAL RESOURCES

     From  inception  through  December  31, 1999,  we financed  our  operations
primarily  through  private  placements of $36 million of equity  securities and
$338.7  million of net proceeds  raised from the issuance of the Senior Notes in
April 1998.  As of December 31, 1999,  we had  approximately  $138.4  million of
cash, cash equivalents and marketable  securities to fund future operations.  In
connection  with  the  Transaction,  Colonial  is  to  contribute  an  aggregate
(including both tranches) of $68 million in cash to us in exchange for shares of
our series E convertible  preferred stock,  rights to a single conduit along the
Colonial  rights  of way and an option to  purchase  additional  shares of PTI's
capital stock.  The Transaction  will bring the total cash equity  investment in
PTI and its  subsidiaries to $100 million,  including $25 million to be received
upon the completion of a fiber optic network during the second calendar  quarter
of 2000.

     In addition, we expect to finance the cost of some of our equipment through
vendor financing arrangements.  We have negotiated with Lucent a proposed credit
facility in which  Lucent will,  subject to certain  conditions  (including  the
closing of the  Transaction),  provide us with  financing  for fiber optic cable
that we purchase from them. For a description of the terms and conditions of the
proposed  financing  transaction  with Lucent see  "BUSINESS -- PROPOSED  CREDIT
FACILITY WITH LUCENT."

     We estimate that our current available resources, together with those to be
received in the contribution and reorganization transaction,  will be sufficient
to  fund  the  implementation  of  ourlong  term  business  plan,  as  currently
contemplated,  including  the capital  commitments  described  above,  operating
losses in new markets and working  capital needs  through the fourth  quarter of
2000. In the event the strategic  investment from Colonial is not consummated or
is consummated on different  terms,  this projection of available  resources may
change. After such time, we expect we will require additional  financing,  which
may include commercial bank borrowings,  additional vendor financing or the sale
or issuance of equity or debt securities.

    Our  expectations  of our future  capital  requirements  and cash flows from
operations are based on current estimates. If our plans or assumptions change or
prove  to be  inaccurate,  we may  require  additional  sources  of  capital  or
additional capital sooner than anticipated.  See "RISK FACTORS -- RISKS RELATING
TO OUR FINANCING."

YEAR 2000 READINESS DISCLOSURE

     The Year 2000 issue  exists  because  many  computer  systems and  software
applications  use two, rather than four,  digits to designate a particular year.
As a result,  these systems and applications may not properly recognize the Year
2000,  or  process  data that  includes  that  date,  potentially  causing  data
miscalculations or inaccuracies, operational malfunctions or failures.

     OVERVIEW OF OUR YEAR 2000 PROGRAM.  In the fourth quarter of 1998, we began
a corporate-wide program to ready technology systems, non-technology systems and
software  applications  for  the  Year  2000.  We  identified  all  systems  and

                                       34
<PAGE>

applications  that we believe needed to be modified or  reprogrammed  to achieve
Year 2000 compliance and implemented the necessary changes.

     In December 1999, we completed the inventory, assessment and remediation of
mission critical hardware systems and software  applications,  including network
computing and network systems  engineering.  We developed and tested contingency
plans for the event that certain of our  suppliers or service  providers may not
have been Year 2000 compliant.

     In preparation for the Year 2000  transition,  we provided 24 hour coverage
from December 31, 1999 through January 3, 2000 in our network  operating  center
and corporate data center. No year 2000 related problems were encountered and no
interruption of service occurred.

     As  part  of our  Year  2000  plan,  we  requested  confirmation  from  our
communications equipment vendors and other key suppliers, financial institutions
and  customers  that  their  systems  would be Year  2000  compliant.  Responses
received  indicated  a high level of Year 2000  compliance  at these  companies.
Although we have  incurred no Year 2000  problems to date,  we cannot assure you
that the systems of companies with which we do business are Year 2000 compliant.
If the vendors important to us fail to provide needed products and services, our
network  buildout and  operations  could be affected and thereby have a material
adverse effect on our results of operations, liquidity and financial condition.

     We hired outside  consultants  to assist us with our Year 2000  compliance,
but we relied  primarily on our own  employees to develop and implement our Year
2000 compliance  strategy.  Because our existing  systems are relatively new, we
have not replaced any significant  portion of them. As a result our expenditures
to implement  our Year 2000 plan were not material to date and we do not believe
our future  expenditures  on this  matter will be  material  (remediation  costs
incurred to date have been less than $100,000).  Such  expenditures  represented
less than 1% of 1999 projected capital  expenditures and were funded out of cash
flow  from  operations.  To the  extent we will  have to  replace a  significant
portion  of our  technology  systems,  which  currently  appears  unlikely,  our
expenditures  could  have  material  adverse  effects  on us. As a  result,  our
expenditures  to ensure Year 2000  compliance have not been material to date. We
expect to continue to use existing  employees  for the  significant  part of our
Year 2000 compliance efforts.

     Due to the general uncertainty inherent in the Year 2000 problem, resulting
in large part from the  uncertainty of the Year 2000 readiness of third parties,
we cannot  ensure our ability to timely and cost  effectively  resolve  problems
associated with the Year 2000 issue that may adversely affect our operations and
business or expose us to third party  liability and we have been unable to fully
determine the risks associated with the reasonably likely worst case scenario.

RISK FACTORS

     The  extent to which the risk  factors  described  in this  "RISK  FACTORS"
section  will  affect  us  depend  at  least in part on the  disposition  of the
contribution   and   reorganization   transaction.   If  the   contribution  and
reorganization  transaction is completed, we and Pathnet Telecommunications Inc.
will operate the business on a consolidated basis. We will become a wholly-owned
subsidiary of Pathnet  Telecommunications,  Inc. As a result,  risk factors that
relate to future business plans would apply to Pathnet Telecommunications,  Inc.
as well as to us. If the  contribution  and  reorganization  transaction  is not
completed,  the risk  factors,  to the extent they relate to rights of way to be
contributed to us in that transaction, will not apply.

                                       35
<PAGE>

                          RISKS RELATING TO OPERATIONS

IF WE  FAIL  TO  SATISFY  THE  CONDITIONS  TO  CLOSING  UNDER  THE  CONTRIBUTION
AGREEMENTS WITH BNSF, CSX AND COLONIAL AND THE TRANSACTION  DOES NOT TAKE PLACE,
THE COMPANY'S BUSINESS PLAN AND FINANCIAL CONDITION WILL BE ADVERSELY AFFECTED.

    The  obligations of BNSF, CSX and Colonial to close on the  Transaction  are
subject to a variety of conditions.  Among these  conditions is the  requirement
that the holders of a majority of the outstanding  amount of the Company's notes
consent to the  transaction.  If these conditions are not satisfied on or before
March 31, 2000, than the parties to the Transaction  have the right to terminate
the agreements.  If we are unable to obtain the necessary  noteholder consent or
fail to satisfy any of the other  conditions on or before March 31, 2000, and if
the  transaction is terminated as a result,  the Company will lose access to the
additional  assets  and  cash  to be  contributed  in the  Transaction,  and the
Company's current business plan will need to be substantially modified.

IF WE ARE  UNABLE  TO  DEVELOP  THE  RIGHTS OF WAY THAT WE WILL  RECEIVE  IN THE
CONTRIBUTION AND REORGANIZATION TRANSACTION, OR IF THE DEVELOPMENT COSTS MORE OR
TAKES LONGER THAN WE  ANTICIPATE,  WE MAY NOT BE ABLE TO DEVELOP ALL PORTIONS OF
OUR NETWORK OR GENERATE THE REVENUES NECESSARY TO BECOME PROFITABLE.

    Several  factors could interfere with our ability to develop or even prevent
us from developing the rights of way or portions of those rights of way that are
the subject of the contribution and reorganization transaction:

o    our inability to obtain  property rights from third parties where BNSF, CSX
     and Colonial do not own outright  much of the property  over which they are
     granting us rights of way;

o    restrictions  imposed by BNSF,  CSX,  and  Colonial  to minimize or prevent
     interference with their primary business operations;

o    physical or engineering restrictions;

o    terms of existing  contractual  arrangements  between BNSF, CSX or Colonial
     and third parties, including our competitors; and

o    competitive  factors,  including  potential  oversupply  of  communications
     bandwidth along the segments that we wish to develop.

    We cannot assure you that we will obtain the necessary  property  rights and
access to the  segments  that we wish to  develop.  If we fail to  obtain  these
rights,  we may not be able to develop these rights of way for our network,  and
our  business  plans would be  impaired.  In  addition,  we cannot  predict with
certainty  the costs of  developing  segments of our network on these  rights of
way.  These costs could be  significantly  higher than we anticipate  and may be
prohibitively expensive.

IF WE ARE UNABLE TO COMPLETE  CONSTRUCTION OF THE NETWORK ROUTE SEGMENT ON WHICH
COLONIAL HAS CONDITIONED THE $25 MILLION SECOND TRANCHE OF ITS INVESTMENT IN OUR
SERIES E  CONVERTIBLE  PREFERRED  STOCK,  WE MAY NOT  RECEIVE  THOSE  FUNDS FROM
COLONIAL AS PLANNED.

     Our   contribution   agreement  with  Colonial   requires  us  to  complete
construction of the Chicago,  Illinois to Aurora, a suburb of Denver,  Colorado,

                                       36
<PAGE>

as a condition to our receiving the second  tranche of the Colonial  investment.
We may be unable to complete this  construction  within the time frame  allotted
under the  agreement.  If we are  unsuccessful  in building  this portion of the
network in a timely  manner,  we will  forfeit  $25 million of the funds that we
expect to receive in the contribution and reorganization  transaction. A loss of
these funds could hinder our ability to implement our business plan as currently
contemplated.

WE HAVE AGREED TO  INDEMNIFY  BNSF,  CSX AND COLONIAL  FROM  CERTAIN  LOSSES AND
LIABILITIES  IN  DEPLOYING  AND  OPERATING  OUR  NETWORK,  AND THESE  LOSSES AND
LIABILITIES COULD BE SIGNIFICANT.

    In the  agreements  by which we obtain our  rights of way we have  agreed to
release and indemnify BNSF, CSX and Colonial from claims,  losses or liabilities
resulting from damage to property,  personal injury to personnel, and many other
circumstances  while we construct  and operate our network.  In some cases,  our
release  and  indemnity  apply even to  circumstances  outside  of our  control,
including where the claim, loss or liability arises from the negligence or gross
negligence of BNSF, CSX, Colonial or their employees or contractors within their
control.  While we intend to obtain insurance to address these issues, we cannot
ensure  that  insurance  coverage  will be  available  or,  if it is  available,
adequate to cover all of these risks.  If our insurance  coverage is inadequate,
or if coverage is not available for some of these risks,  we could be exposed to
significant losses and liabilities.

OUR  TELECOMMUNICATIONS  NETWORK WILL BE  CONSTRUCTED  ON RIGHTS OF WAY USED FOR
RAILROAD AND PIPELINE PURPOSES AND COULD BE DAMAGED OR DELAYED BY OTHER BUSINESS
OPERATIONS CONDUCTED ALONG THOSE RIGHTS OF WAY.

    BNSF,  CSX and  Colonial use the rights of way on which we intend to install
our telecommunications  network for railroad and pipeline purposes. Events could
occur,  including the derailment of a train,  the breach of a pipeline or damage
resulting  from  track or  pipeline  maintenance  or  construction,  that  could
interrupt telecommunications services on or otherwise damage our network. If any
of those events occur, our ability to provide telecommunications services to our
customers could be compromised,  and our relationship with those customers could
be seriously damaged.

IF WE CANNOT  SUCCESSFULLY  COORDINATE OUR NETWORK  CONSTRUCTION  AND OPERATIONS
WITH OUR RIGHTS OF WAY  PROVIDERS'  EXISTING  OPERATIONS  AS REQUIRED  UNDER OUR
AGREEMENTS,  WE MAY NOT BE ABLE TO DEVELOP OR OPERATE OUR NETWORK AS PLANNED AND
OUR REVENUES COULD BE MATERIALLY IMPAIRED.

    The lease and access agreements we will enter into with BNSF, Colonial,  CSX
and our other rights of way  providers  require that we  coordinate  our network
design,  construction,  deployment,  operation  and  maintenance  with the rail,
pipeline,  utility  and  other  operations  of  the  applicable  rights  of  way
providers. Those agreements generally provide that the rights of many providers'
operational  needs take precedence  over our own in terms of scheduling,  access
time,  personnel  and other  rights.  Scheduling  conflicts  could  increase our
development  or  operational  costs on particular  segments of rights of way, or
make deployment along the affected  segment  commercially  impracticable.  If we
cannot  coordinate  these  activities   successfully  with  the  rights  of  way
providers,  the development,  design,  construction,  deployment,  operation and
maintenance  of the affected  segments of our network could be delayed or become
prohibitively expensive.

WE ARE  UNDERTAKING A MAJOR  EXPANSION OF THE BUSINESS AND WE MAY NOT BE ABLE TO
MANAGE THIS EXPANSION EFFECTIVELY GIVEN OUR LIMITED PAST OPERATING EXPERIENCE.

                                       37
<PAGE>

     Pathnet was incorporated in August 1995 and is a development  stage company
with only a  limited  operational  history.  As of  December  31,  1999,  we had
constructed  approximately  6,300 wireless route miles and 500 fiber route miles
of our digital  network and had completed  construction of 40  collocations.  To
achieve  our  business   plan,   we  will  need  to  expand  our  fiber  network
substantially and at a much faster rate than in prior years.

     The success of this  expansion  will depend upon,  among other things,  our
ability successfully to:

     o    implement our sales and marketing strategy;

     o    evaluate markets for our products and services;

     o    acquire additional rights of way;

     o    identify profitable network routes;

     o    secure additional financing for our network deployment;

     o    reach agreement with a sufficient number of appropriate co-development
          partners to develop the network  necessary  to complete  our  business
          plan;

     o    install facilities;

     o    obtain required government authorizations;

     o    interconnect  to, and  collocate  with,  facilities  owned by existing
          local telephone companies; and

     o    obtain  appropriately  priced unbundled network elements and wholesale
          services from existing local telephone companies.

     We must accomplish these activities in a timely manner,  at reasonable cost
and on satisfactory terms and conditions. As we increase our product and service
offerings  and expand  our  network  into our  targeted  markets,  there will be
additional   demands  on  operating   support  systems,   sales  and  marketing,
administrative  resources and network infrastructure.  We cannot assure you that
we will be able to manage our growth successfully, and if we are unsuccessful in
doing so, our business,  results of operations  and financial  condition will be
negatively affected.  Moreover,  because we are expanding our business plan into
new markets and  technologies  not previously  used by us, we may not be able to
identify  and manage all of the  material  risks that may arise as we pusue this
new business plan.

DEVELOPING  AND  EXPANDING  OUR  BUSINESS  MAY  SUBJECT  US TO ADDED  MARKET AND
REGULATORY RISKS.

    The  rights  of  way  acquired  in  connection  with  the  contribution  and
reorganization transaction may significantly expand our business, making us more
vulnerable  to  competition  from major  telecommunications  companies  and more
likely to become the subject of regulatory  scrutiny.  Increased  competition or
regulatory  burdens  could  interfere  with our  ability  to  capitalize  on the
expansion of our business.

OUR  BUSINESS  PLANS  REQUIRE US TO MAKE  SIGNIFICANT  INVESTMENTS  IN A RAPIDLY
EVOLVING  INDUSTRY  AND OUR  BUSINESS AND  FINANCIAL  PERFORMANCE  MAY SUFFER IF
MARKET  AND  TECHNOLOGICAL  DEVELOPMENTS  RENDER  OUR  CHOSEN  TECHNOLOGIES  AND

                                       38
<PAGE>

STRATEGIES OBSOLETE OR UNRESPONSIVE TO MARKET DEMAND.

     Our   business   strategy   is  to   provide   an   integrated   bundle  of
telecommunications  services and expand our operations and network. To implement
this strategy will be investing  heavily in a rapidly  evolving  industry.  As a
result our  investments  will be subject to a variety of  factorsin  addition to
those  described in the other "risk  factors" set forth in this Annual Report on
Form 10-K. These additional risks include:

     o    market pricing pressures for the services and products we offer;

     o    changes in expenses  associated with the construction and expansion of
          our network and services;

     o    operating and technical problems;

     o    availability of additional capital on acceptable terms; and

     o    variations in market growth rates for our products and services;

    These factors could adversely  affect our business  strategies by increasing
the cost and difficulty of  implementing  our business  plans, or making it more
difficult for us to generate adequate revenues.

WE MAY BE UNABLE TO HIRE AND RETAIN SUFFICIENT QUALIFIED PERSONNEL, AND THE LOSS
OF ANY OF OUR KEY EMPLOYEES  COULD  MATERIALLY  ADVERSELY  AFFECT OUR ABILITY TO
CONSTRUCT OUR NETWORK,  CONDUCT OUR NETWORK  OPERATIONS  AND IMPLEMENT OUR SALES
STRATEGY.

    Our  products  and  services  are  technical  in nature,  and the market for
employees in the  telecommunications  industry is competitive and dynamic.  As a
result,  our future  success will depend in large part on our ability to attract
and retain a substantial number of highly skilled, knowledgeable,  sophisticated
and  qualified  managerial,   professional  and  technical  personnel.  We  have
experienced, and we expect to continue to experience, significant and increasing
competition  from other  companies in  attracting  and  retaining  personnel who
possess the skills that we are seeking.  We  therefore  may be unable to attract
and retain senior management, other key employees, or other skilled personnel in
the future.  We depend on these  employees  to implement  our business  plan and
manage our planned growth  successfully,  and losing key employees  could have a
material adverse effect on our ability to implement the essential  components of
our business plan.

THE LOSS OR  INTERRUPTION OF  RELATIONSHIPS  WITH OR SERVICES FROM KEY SUPPLIERS
AND THIRD PARTY  CONTRACTORS  COULD DELAY AND INCREASE COSTS ASSOCIATED WITH THE
CONSTRUCTION OF OUR NETWORK.

     We depend on third party  suppliers  for a number of  components  and parts
used in our network.  We may be unable to obtain  supplies or services  from our
usual  suppliers  for  reasons  beyond  our  control.   Although  there  may  be
alternative  suppliers of components for all of the components and  transmission
equipment  contained  in our  network  or  required  to offer our  products  and
services,  but those  alternatives  may not be  available  to us on as favorable
terms. Any nationwide shortage, or extended interruption in the supply of any of
the key components,  change in the pricing  arrangements  with our suppliers and
manufacturers  or delay in transitioning a replacement  supplier's  product into
the network could disrupt our operations.

    We also use  third  party  contractors  to  build  various  segments  of our
network. If any of these relationships is terminated or a supplier or contractor
fails to provide  reliable  services  or  equipment,  and we are unable to reach
suitable  alternative  arrangements  quickly  or  on  favorable  terms,  we  may

                                       39
<PAGE>

experience   significant  delays  and  additional  costs.  The  failure  of  our
contractors to complete their activities in a timely manner,  within anticipated
budgets and in accordance with our quality  standards and performance  criteria,
could  also  delay  the  completion  of our  network  or make it more  costly to
construct.

OUR FAILURE TO IDENTIFY,  DEPLOY AND MAINTAIN  SOPHISTICATED  BILLING,  CUSTOMER
SERVICE AND INFORMATION  SYSTEMS COULD HAVE A NEGATIVE EFFECT ON OUR PRODUCT AND
SERVICE OFFERINGS, CUSTOMER RELATIONS AND REVENUES.

    We will depend on sophisticated  information and processing systems to grow,
monitor costs,  bill customers,  service  customer orders and achieve  operating
efficiencies. As we expand our services and increase our customer base, our need
for enhanced billing and information systems will increase.  If we are unable to
adequately  identify our information and processing  needs or develop or upgrade
systems as necessary,  we may not be able to offer services or products that our
customers require,  our customer relations could be damaged,  and our ability to
reach our financial and operational objectives could be compromised.

OUR YEAR 2000  COMPLIANCE  EFFORTS MAY NOT  ULTIMATELY  PROVE TO BE  SUCCESSFUL,
WHICH COULD MATERIALLY INTERFERE WITH OUR NETWORK AND OTHER BUSINESS OPERATIONS.

     The Year 2000 issue is the result of  computer  programs  using two digits,
rather than four, to define the  applicable  year.  Because of this  programming
convention,  software,  hardware or firmware may  recognize a date using "00" as
the year 1900 rather than the year 2000.  This could result in system  failures,
miscalculations  or errors  causing  disruptions of operations or other business
problems,  including,  among others, an inability to process transactions,  send
invoices,  or engage in similar normal business  activities.  As of February 22,
2000, we have not experienced any significant Year 2000 issues. However, we will
not be able to fully  asses the impact of Year 2000 issues on our  business  and
operations until later this year. If we or our major vendors,  other key service
providers or customers fail to address  adequately  their  respective  Year 2000
issues  in  a  timely  manner,   we  could   experience,   among  other  things,
interruptions in our network and a decline in sales which would adversely affect
our  business.  The Year 2000  issues and our Year 2000  readiness  program  are
described in further  detail above in  "MANAGEMENT'S  DISCUSSION AND ANALYSIS OF
FINANCIAL   CONDITION  AND  RESULTS  OF   OPERATIONS  --  YEAR  2000   READINESS
DISCLOSURE."

IF WE DO NOT SUCCESSFULLY  MANAGE  ACQUISITIONS,  STRATEGIC  ALLIANCES AND JOINT
VENTURES  THAT WE MAY NEED TO IMPLEMENT  OUR BUSINESS  PLAN,  OUR  FINANCIAL AND
OPERATIONAL PERFORMANCE MAY BE ADVERSELY AFFECTED.

    To expand and deploy our network in a timely manner,  we may need to acquire
other  businesses,  form  strategic  alliances or enter into joint ventures that
will complement our existing  business  markets or accelerate our entry into our
target markets. These transactions may:

     o    pose challenges in assimilating the acquired operations and personnel;

     o    disrupt our ongoing business;

     o    divert resources;

     o    create  difficulties  in  maintaining  uniform  standards,   controls,
          procedures and policies;

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<PAGE>

     o    impede management of our growth and information systems;

     o    present  challenges  where  entering  markets in which we have  little
          experience; or

     o    impair relationships with employees or customers.

    We currently have no definitive  acquisition agreement in place, although we
have  had  discussions   with  other  companies  and  will  continue  to  assess
opportunities  on an ongoing  basis.  Our failure to implement our expansion and
growth  strategy  successfully  would  have a  material  adverse  effect  on our
business, results of operations and financial condition.

                         RISKS RELATING TO OUR FINANCING

WE EXPECT NEGATIVE OPERATING CASH FLOWS AND SUBSTANTIAL OPERATING LOSSES FOR THE
FORESEEABLE FUTURE.

    We have incurred  operating  losses and negative cash flow since  inception.
From August 25, 1995 through  December 31, 1999, our operations have resulted in
cumulative net losses of $101.5 million.  We expect to incur continued operating
losses and negative cash flow as we build our network, offer additional products
and  services  and  increase  our  customer  base.  These losses will reduce our
ability  to meet  working  capital  needs  and  increase  our need for  external
financing  to support  our  objectives.  Until and unless we develop an adequate
customer base and revenue stream,  our capital and other operating  expenditures
will  result  in  negative  cash flow and  operating  losses.  We  expect  these
expenditures  to increase as we develop our customer  base in existing  markets,
expand into new  markets  and  diversify  our  service  offerings.  We may never
develop an adequate customer base, sustain  profitability or generate sufficient
cash  flow to meet our  obligations  on the  guarantees,  debt or fund our other
business needs. We therefore cannot assure you that we will become profitable in
the future.

WE WILL BE GUARANTEEING  AND/OR INCURRING A SUBSTANTIAL  AMOUNT OF DEBT THAT MAY
INCREASE OUR  OPERATING  COSTS AND COULD IMPAIR OUR ABILITY TO RAISE  ADDITIONAL
REQUIRED  FUNDS,  INVEST IN OUR  OPERATIONS  OR WITHSTAND A DECLINE IN PROJECTED
REVENUES.

    We currently have, and after the contribution and reorganization transaction
has  closed  we will  have,  a  substantial  amount of debt in  relation  to our
stockholders'  equity.  As of December 31,  1999,  we had  approximately  $380.3
million of indebtedness  outstanding and total stockholders' equity (deficit) of
($95.7)  million.  We plan to incur  additional  indebtedness  in developing our
business.

     The amount of our debt could adversely affect our future prospects by:

     o    impairing our ability to borrow additional money;

     o    requiring  us to use a  substantial  portion  of our cash  flows  from
          operations  to pay  interest or repay debt which will reduce the funds
          available  to us for our  operations,  acquisition  opportunities  and
          capital expenditures;

     o    placing us at a competitive  disadvantage with companies that are less
          restricted by their debt arrangements; and

     o    making  us more  vulnerable  in the  event of a  downturn  in  general
          economic  conditions or upon the occurrence of any risks  described in
          this section.

                                       41
<PAGE>

WE MAY NOT HAVE  SUFFICIENT  FUNDS  FROM OUR OWN CASH FLOW OR OTHER  SOURCES  TO
SERVICE OUR DEBT.

    We cannot assure you that we will be able to meet our debt obligations under
the guarantees,  our notes or otherwise. If we are unable to generate sufficient
cash to meet our  obligations or if we fail to satisfy the  requirements  of our
debt  agreements,  we will be in default.  A default under the notes,  which may
include a material default under other indebtedness, would permit the holders of
the  notes  (and  other  debt  for  which  we will  be  directly  or  indirectly
responsible)  to  require  payment  before the  scheduled  due date of the debt,
resulting  in further  financial  strain on us and causing  additional  defaults
under our other indebtedness.

OUR INABILITY TO OBTAIN  ADDITIONAL  FINANCING NEEDED IN THE FUTURE MAY DELAY OR
PREVENT  THE  COMPLETION  OF OUR NETWORK  AND THE ROLL OUT OF OUR  PRODUCTS  AND
SERVICES TO OUR CUSTOMERS.

    We expect to need significant additional capital to complete the buildout of
our planned  network and fulfill our long-term  business  strategies.  We may be
unable to produce  sufficient  cash flows from  ongoing  operations  to fund our
business  plan and future  growth.  This could  require us to alter our business
plan,  including  delaying,  reducing or  abandoning  our  expansion or spending
plans,  which  could  have a  material  adverse  effect  on our  future  revenue
prospects or our business.

    In addition, we may elect to pursue other business  opportunities that could
require  additional capital  investments in our network.  If any of these events
were to occur,  we could be required to sell  assets,  borrow more money than we
currently anticipate,  issue additional debt or equity securities,  refinance or
restructure our debt or enter into joint ventures.

    Our ability to arrange financing depends upon many factors, including:

     o    general  economic  and  capital  markets  conditions,  especially  the
          non-investment grade debt market;

     o    conditions in the telecommunications industry;

     o    regulatory, technological or competitive developments;

     o    investor  confidence  and  credit  availability  from  banks  or other
          lenders;

     o    the success of our network and demand for our products and services;

     o    cost overruns and unforeseen delays; and

     o    provisions  of tax and  securities  laws that affect  capital  raising
          activities.

    Our inability to raise  additional funds would have an adverse effect on our
ability to  complete  our  network.  If we decide to raise  additional  funds by
incurring  more debt, we may become  subject to  additional or more  restrictive
financial covenants.  These covenants or other terms of the additional financing
may place significant limits on our financial and operating flexibility,  or may
not be acceptable to us. Our failure to raise  sufficient  funds when needed and
on  reasonable  terms may  require  us to modify or  significantly  curtail  our
business  expansion  plans.  These  modifications  could have a material adverse
impact on our growth and ability to compete and to service our existing debt.

ALTHOUGH THE COMPANY NOTES ARE REFERRED TO AS "SENIOR  NOTES" THEY ARE, AND WILL
CONTINUE TO BE, EFFECTIVELY SUBORDINATED TO OUR SECURED DEBT AND THE SECURED AND
UNSECURED DEBT OF OUR SUBSIDIARIES.

                                       42
<PAGE>

    The notes are unsecured and therefore are and will  following the closing of
the transaction,  continue to be effectively subordinated to any secured debt we
may incur to the extent of the value of the assets  securing  that debt.  In the
event of a default, foreclosure,  bankruptcy or similar proceeding involving us,
our assets that serve as collateral will be available to satisfy the obligations
under any secured debt before any  payments  are made on the notes.  If there is
any shortfall after the foreclosure on these assets, our secured creditors would
have a claim for that  shortfall  ranking  equally with the  noteholder's  claim
against us under the  guarantees.  In addition we may secure any additional debt
with our assets or borrow through  subsidiaries.  Those secured  assets,  or the
assets of our  borrowing  subsidiaries,  will be  available  to other  creditors
before they are available to the noteholders.

FOLLOWING  THE CLOSING OF THE  TRANSACTION  WE WILL DEPEND ON PAYMENTS  FROM OUR
SUBSIDIARIES TO REPAY OUR DEBTS, AND OTHER CREDITORS OF OUR  SUBSIDIARIES  OTHER
THAN PATHNET WILL HAVE CLAIMS AGAINST THE ASSETS OF THOSE  SUBSIDIARIES THAT ARE
SENIOR TO THE NOTES.

    After the contribution and reorganization transaction has closed, we will be
a holding  company that  receives a  substantial  part of our revenues  from our
subsidiaries.  Our  ability  to obtain  payments  from our  subsidiaries  may be
restricted  by the  profitability  and cash flows of our  subsidiaries  and laws
relating to the payment of dividends by a subsidiary to its parent  company.  If
our  subsidiaries  are unable to pay dividends,  we may be unable to service our
debt,  including  our  obligations  under  the  supplemental  indenture  and the
guarantees. If any of our subsidiaries experiences a bankruptcy,  liquidation or
reorganization,  its  creditors  will  generally be entitled to payment of their
claims from the assets of that  subsidiary  before any assets are made available
for  distributions  to us,  except  to the  extent we may also have a claim as a
creditor. In that situation, creditors of our subsidiaries and future holders of
preferred stock, if any, of our subsidiaries, would have claims on the assets of
the subsidiaries with priority over our claims.

OTHER THAN PATHNET, THE HOLDING COMPANY'S  SUBSIDIARIES,  INCLUDING SUBSIDIARIES
THAT  WE MAY  FORM  IN  THE  FUTURE,  WILL  NOT  FOLLOWING  THE  CLOSING  OF THE
TRANSACTION, GUARANTEE OR OTHERWISE BE RESPONSIBLE FOR MAKING FUNDS AVAILABLE TO
US OR TO PATHNET TO MAKE PAYMENTS ON THE NOTES OR GUARANTEES.

    Like the  notes,  the  rights  under  the  guarantees  to be  issued  in the
Transaction  will be  structurally  subordinated  to both secured and  unsecured
debts of our  subsidiaries  other than Pathnet.  Under the terms of the existing
indenture,  Pathnet has formed new subsidiaries that are separate legal entities
with no obligations under the notes. The supplemental indenture will extend this
structure  to  us.  If  we  incorporate  additional  subsidiaries,  whether  new
subsidiaries of Pathnet or "sister" companies to Pathnet, these new subsidiaries
also will be separate  legal  entities.  They will have no obligation  under the
supplemental  indenture  or  the  guarantees  to  make  payments  or to  provide
dividends  or other funds to us or Pathnet to permit us to make  payments on the
notes or guarantees.

    We  have  concluded  that  revising  the  Indenture  to  provide  for  these
guarantees  would  interfere  with our  ability  to obtain  equipment  and other
financing necessary in connection with the future development of our network. As
a result,  the notes are and will  continue to be, and the  guarantees  will be,
effectively subordinated to the debts of our subsidiaries other than Pathnet.

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<PAGE>

VENDOR FINANCING  ARRANGEMENTS  WILL LIKELY REQUIRE PATHNET  TELECOMMUNICATIONS,
INC. TO FORM SUBSIDIARIES WITH SUBSTANTIAL  ASSETS THAT WILL NOT BE OBLIGATED TO
GUARANTEE THE NOTES.

     Pathnet  Telecommunications,  Inc.  expects  to take  advantage  of  vendor
financing  in  constructing  our  network.  Pathnet  Telecommunications,  Inc.'s
proposed vendor financing  agreement with Lucent  specifically  requires Pathnet
Telecommunications,  Inc.,  if  it  wishes  to  take  advantage  of  the  Lucent
financing,  to form a new  subsidiary and to contribute to this new subsidiary a
substantial   portion  of  Pathnet   Telecommunications,   Inc.'s  assets.  This
contribution  of assets would include the rights of way relating to the segments
of our network  that we plan to construct  with fiber for which Lucent  provides
vendor  financing,  and could include  additional cash  contributions.  This new
subsidiary will not guarantee the notes. See "BUSINESS-PROPOSED  CREDIT FACILITY
WITH LUCENT."

PATHNET   TELECOMMUNICATIONS,   INC.'S  INDEBTEDNESS  WILL  CONTAIN  RESTRICTIVE
COVENANTS,  WHICH  COULD  EXPOSE IT TO  ADDITIONAL  DEFAULTS  AND  RESTRICT  ITS
OPERATIONS.

    By entering into the  supplemental  indenture,  Pathnet  Telecommunications,
Inc. will become subject to a number of restrictive  covenants parallel to those
contained in the indenture and applicable to Pathnet. These restrictions affect,
and, in certain cases  significantly  limit (and in some cases prohibit),  among
other things, our ability and the ability of our subsidiaries to:

    o incur additional indebtedness;

    o create liens;

    o make investments;

    o pay dividends;

    o issue stock; and

    o sell assets.

     For example,  the indenture  restricts and the supplemental  indenture will
restrict Pathnet Telecommunications,  Inc.'s ability to incur indebtedness other
than indebtedness to finance the acquisition of equipment,  inventory or network
assets  and other  specified  indebtedness.  In  addition,  if and when  Pathnet
Telecommunications,  Inc. (or its subsidiaries)  borrow funds under its proposed
credit facility with Lucent or under other credit  facilities with other vendors
or third  parties  who may  provide  financing,  PTI may be required to maintain
specified    financial    ratios.    We   cannot   assure   you   that   Pathnet
Telecommunications,  Inc. will be able to maintain those  required  ratios after
each  borrowing,  and its failure to do so or comply with other  covenants could
lead to a default  on those  facilities  and a  foreclosure  against  any assets
securing the facilities.  These restrictive  covenants may also adversely affect
our ability to finance our future  operations or capital needs,  or to engage in
other business activities that may be in our interest.

PROVISIONS IN PATHNET TELECOMMUNICATION, INC.'S CERTIFICATE OF INCORPORATION AND
BYLAWS, THE STOCKHOLDERS AGREEMENT TO WHICH IT WILL BECOME A PARTY AND THE TERMS
OF THE INDENTURE AND SUPPLEMENTAL INDENTURE COULD DELAY OR PREVENT OUR CHANGE OF
CONTROL, EFFECTIVELY HINDERING ITS ACCESS TO ADDITIONAL EQUITY FINANCING.

    Pathnet Telecommunications,  Inc.'s certificate of incorporation, bylaws and

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<PAGE>

stockholders  agreement contain  provisions that will make any acquisition of us
or investment in Pathnet  Telecommunications,  Inc.  more  difficult,  including
restrictions  on  removal  of  directors  and  limitations  on  the  ability  of
stockholders  to  call  special  meetings.   The  terms  of  its  indenture  and
supplemental  indenture  may also  restrict  and  discourage  attempts to change
control of it. Our ability to attract  future equity  investment may be hindered
because of these provisions, thereby limiting our access to additional capital.

                     RISKS RELATING TO OUR NETWORK BUSINESS

DIFFICULTIES  THAT WE MAY EXPERIENCE IN EXPANDING OUR NETWORK COULD INCREASE OUR
ESTIMATED COSTS AND DELAY SCHEDULED COMPLETION OF OUR NETWORK.

    We plan to expand our  existing  network,  enter new markets and broaden our
product  and service  offerings  -- all of which are  significant  undertakings.
These  activities will require us to install and operate  additional  facilities
and equipment,  and develop,  introduce and market new products and services. To
deploy these additional  services we will need to modify and add to our existing
network  architecture.  We will also need to obtain and install our equipment in
the existing local  telephone  companies'  central office  collocation  space as
described in further detail below. We may encounter  administrative,  technical,
operational, regulatory and other problems as a result of our expansion. Many of
these factors and problems are beyond our control. If we experience difficulties
in  addressing  and solving these  problems,  we may not be able to complete our
network buildout or expand our products and services as planned or in accordance
with our current cost or time estimates.

WE MAY PURSUE OTHER  RELATIONSHIPS WITH  TELECOMMUNICATIONS  PROVIDERS AND OTHER
BUSINESS  OPPORTUNITIES  THAT COULD EXPOSE US TO  ADDITIONAL  RISKS OR DELAY THE
CONSTRUCTION AND OPERATION OF OUR NETWORK.

    We may enter into  relationships  with long  distance  telephone  companies,
existing local telephone  companies,  Internet  Service  Providers,  competitive
telecommunications  companies or other entities to manage  existing assets or to
deploy alternative telecommunications products and services. We may also seek to
serve  markets in addition to  underserved  or second or third tier  markets and
customers in addition to  telecommunications  service providers.  Pursuing these
other  opportunities could require additional  financing,  pose additional risks
(such as increased or different  competition,  additional regulatory burdens and
network  economics and pricing  different from our currently planned network and
products and services) and divert our resources and  management  time. We cannot
assure you that we will  successfully  integrate  any new  opportunity  into our
operations or that the opportunity would perform as expected.

WE MAY NOT BE ABLE TO OBTAIN  OR  MAINTAIN  APPROPRIATE  RIGHTS OF WAY AND OTHER
ACCESS  RIGHTS THAT WE MAY NEED TO BUILD AND  OPERATE  OUR  NETWORK  WHICH WOULD
LIMIT OUR ABILITY TO IMPLEMENT  OUR BUSINESS  PLAN,  DEPRIVING US OF A SOURCE OF
REVENUE NECESSARY TO IMPLEMENT OUR BUSINESS PLAN.

    In  addition  to the rights of way, to which we will gain access as a result
of the contribution and reorganization  transaction, we expect that we will need
to obtain and maintain  additional  rights of way to  construct  and develop our
network. We cannot assure you, however,  that we will continue to have access to
existing  rights of way, leases and licenses after the expiration of our current
agreements,  or that we will obtain  additional  rights  necessary to extend our
network on  reasonable  terms.  In addition,  if a  franchise,  license or lease
agreement  is  terminated  and we are forced to remove or abandon a  significant

                                       45
<PAGE>

portion of our network,  our  business,  results of  operations,  and  financial
condition will be materially adversely affected.

THIRD  PARTY  CHALLENGES  TO OUR USE OF RIGHTS OF WAY  OBTAINED  FROM OTHERS MAY
DELAY,  HINDER OR OTHERWISE  LIMIT THE DEVELOPMENT AND OPERATION OF OUR NETWORK,
DEPRIVING US OF THE REVENUES NECESSARY TO IMPLEMENT OUR BUSINESS PLAN.

    To construct  and maintain  our fiber optic and  wireless  network,  we have
obtained  and will  obtain  easements,  leases,  rights of way,  franchises  and
licenses  from  various  private  parties,   including   railroads,   pipelines,
utilities,  actual and potential competitors and local governments.  Some of our
agreements with right of way providers require us to acknowledge that others who
question the right of way providers' ownership claim to the easement or property
right may challenge our claim to the rights of way being granted.  Third parties
have  challenged,  and we expect in the future that third parties may challenge,
our use of rights of way obtained by or from others, including the rights of way
we  will  obtain  upon  the  closing  of  the  contribution  and  reorganization
transaction. If we are unable to resolve any of these challenges, or if the cost
of addressing them is higher than we contemplate, these challenges may hinder or
delay our business plans.

IF WE ARE  UNABLE TO OBTAIN  ADDITIONAL  PERMITS  AND  AGREEMENTS  NECESSARY  TO
OPERATE  AND EXPAND OUR  NETWORK,  WE MAY BE UNABLE TO  DEVELOP  OUR  NETWORK OR
GENERATE SUFFICIENT REVENUES.

    We may require  additional  pole  attachment or conduit use agreements  with
existing local telephone companies,  utilities or other local exchange carriers.
We cannot  guarantee  that we, or our operating  companies or partners,  will be
able to obtain new or maintain existing permits, pole attachment and conduit use
agreements  needed to develop and operate and expand our network and provide our
planned  products  and  services.  Our failure to obtain or  maintain  necessary
permits,  pole  attachments  and  conduit use  agreements  could have a material
adverse effect on our ability to operate and expand our network.

IF WE ARE UNABLE TO OBTAIN AND MAINTAIN ON GOOD TERMS,  THE LEASEHOLD  ACCESS OR
OTHER  SERVICES  AND  MAINTENANCE  AGREEMENTS  ON WHICH WE RELY TO  OPERATE  THE
WIRELESS PORTION OF OUR NETWORK, IT MAY BECOME MORE EXPENSIVE, OR WE MAY EVEN BE
UNABLE, TO OPERATE THOSE PORTIONS OF OUR NETWORK.

    We do not own,  and we do not expect to own in the  future,  the  underlying
sites and  facilities  upon  which  our  current  wireless  digital  network  is
deployed.  Instead, we (or our affiliated companies) have entered into long term
fixed point microwave  services  agreements  with certain of our  co-development
partners such as Kinder Morgan, formerly KN Energy. Under these agreements, each
co-development  partner  has agreed to grant us a  leasehold  interest  in, or a
similar right to use, their facilities and  infrastructure as required for us to
deploy our network.  As a result,  we depend and will  continue to depend on the
facilities and infrastructure of our  co-development  partners for the operation
of our business. In many cases, we also rely on our co-development  partners for
the  maintenance and  provisioning  of circuits on our network.  We have entered
into  maintenance  agreements with some of these  co-development  partners where
they  perform  maintenance  and  provisioning  services  for us in return  for a
monthly fee. The  cancellation  or non-renewal of any of these  arrangements  or
agreements could have a material adverse effect on our business.

DISAGREEMENTS WITH OUR CO-DEVELOPMENT PARTNERS OR DIFFICULTIES WE MAY EXPERIENCE

                                       46
<PAGE>

IN OUR OTHER STRATEGIC RELATIONSHIPS COULD HINDER THE DEVELOPMENT OF OUR NETWORK
AND OUR EXPANSION INTO TARGET MARKETS.

    As  part  of  our  "smart   build"   strategy  and  the   contribution   and
reorganization transaction, we have formed and plan to continue in the future to
pursue  strategic  alliances  and  relationships  which  would allow us to enter
certain markets for  telecommunications  services sooner than if we had made the
attempt independently. As our network is further developed, we will be dependent
on some of these  arrangements  in order  to  expand  our  network  into  target
markets.

    Any disagreements with our  co-development  partners or companies with which
we have a strategic  alliance  could impair or  adversely  effect our ability to
conduct  our  business.   In  addition,   the  bankruptcy  or  insolvency  of  a
co-development  partner could result in the termination of its agreement with us
and any related right of way agreements. The effect of those terminations or the
failure of a co-development partner to make required capital contributions would
have a material adverse effect on us.

WE MAY BE UNABLE TO OBTAIN ACCESS TO AND INTERCONNECTION  WITH THE FACILITIES OF
EXISTING  LOCAL  TELEPHONE  COMPANIES  ON  FAVORABLE  TERMS WHICH  COULD  DELAY,
INCREASE THE COST OF OR PREVENT US FROM  PROVIDING  LOCAL ACCESS  SERVICE IN OUR
TARGET MARKETS.

    Our ability to provide  local  access  services  depends  upon our  securing
access to existing local telephone companies'  networks,  including the physical
or  virtual  collocation  of our  equipment  in  the  existing  local  telephone
companies' central offices in our target markets.

    Challenges we may face in obtaining  central  office space from the existing
local telephone companies include:

     o    limitations on the availability of central office space in high demand
          target markets where other  competitive  telecommunications  companies
          are seeking or have obtained central office space to offer services;

     o    delays  when  existing  local  telephone  companies  fail to  promptly
          address our requests for central office space; and

     o    expenditure  of time and  money  to  pursue  negotiations,  regulatory
          disputes,  and legal actions for resolution of disputes regarding lack
          of sufficient central office space.

    We expect that these  challenges  may delay our  attempts to obtain  central
office  space,  which  would slow down our  deployment  of our  network  and our
ability to increase the number of our customers.

IF EXISTING LOCAL TELEPHONE  COMPANIES ON WHOM WE DEPEND FOR INTERCONNECTION AND
OTHER NETWORK  ELEMENTS REFUSE TO COOPERATE OR FAIL TO PERFORM THEIR  AGREEMENTS
WITH US, WE MAY BE DELAYED IN OR EVEN PREVENTED FROM  COMPLETING OUR NETWORK AND
OFFERING COMPETITIVE SERVICES TO OUR CUSTOMERS.

    We will  interconnect  with  and use  existing  local  telephone  companies'
networks to provide  local  access  services  to our  customers.  This  strategy
presents a number of challenges  because we depend on existing  local  telephone
companies to:

     o    allow us to use their technology and capabilities of their networks to
          service our customers;

     o    cooperate with us to provide and repair facilities; and

                                       47
<PAGE>

     o    provide the services and network  components that we order,  for which
          they depend significantly on unionized labor. Labor issues have in the
          past  and  may  in  the  future  hurt  the  existing  local  telephone
          companies' performance.

    Our  dependence  on  existing  local  telephone  companies  may  cause us to
encounter  delays in  establishing  our network and rolling out our products and
services.  We must also establish  satisfactory billing and payment arrangements
with existing local telephone  companies.  We may not be able to do these things
in a manner that will allow us to retain and grow our customer base.

IF THE  QUALITY,  AVAILABILITY  AND  MAINTENANCE  OF  EXISTING  LOCAL  TELEPHONE
COMPANIES'  NETWORKS IS  UNSATISFACTORY,  OUR  NETWORK  MAY NOT BE  SUFFICIENTLY
AVAILABLE OR RELIABLE TO MEET OUR BUSINESS PLAN OR CUSTOMER EXPECTATIONS.

    We may not be able to obtain the  facilities  and the  services we need from
existing local telephone companies at satisfactory quality levels,  rates, terms
and conditions.  Our inability to do so could delay the expansion of our network
and degrade the quality of our services to our customers.

WIRELESS  PATH FAILURES OR CABLE CUTS ON OUR NETWORK  COULD  INTERFERE  WITH OUR
NETWORK OPERATIONS,  DAMAGE OUR RELATIONSHIPS WITH OUR CUSTOMERS OR EXPOSE US TO
LIABILITY.

    We do not have route diversity on our digital  network to maintain  services
if a wireless  path  failure or fiber cable cut  occurs.  If we were to suffer a
deterioration in the perceived quality or reliability of our service as a result
of a path failure,  cable cut, or other network outage,  our customer  relations
would be  materially  adversely  affected  and we could be exposed to  liability
claims.

                         RISKS RELATING TO OUR INDUSTRY

OUR BUSINESS AND INDUSTRY ARE VERY COMPETITIVE AND INCREASED  COMPETITION  COULD
REQUIRE US TO LOWER OUR  PRICES OR PROVIDE  MORE  EXPENSIVE  SERVICE  THAT WOULD
ADVERSELY AFFECT OUR FINANCIAL PERFORMANCE.

    The telecommunications industry is extremely competitive,  particularly with
regard to price and service. Many of our existing and potential competitors have
significantly greater financial,  personnel,  marketing and other resources than
we do. For  example,  some of our  competitors  have  already  made  substantial
long-term  investments in the  construction of wireless and fiber optic networks
and the acquisition of bandwidth.  Many of our  competitors  also have the added
competitive  advantage of an established network and existing customer base. For
example,  some communications  carriers and local cable companies have extensive
networks in place that could be upgraded to fiber optic cable.  Those  companies
also have more employees and more substantial  capital  resources to begin those
upgrades.  If communications  carriers and local cable companies decide to equip
their existing  networks with fiber optic cable,  they could become  significant
competitors of ours in a short period of time.

IF   WE   ENCOUNTER    INCREASED    COMPETITION   FROM   EXISTING   AND   FUTURE
TELECOMMUNICATIONS  SYSTEMS ON ROUTES  WHERE WE PLAN TO  PROVIDE  INFRASTRUCTURE
SERVICES  AND  WHOLESALE  TRANSPORT  SERVICES,  WE  MAY  BE  UNABLE  TO  COMPETE
EFFECTIVELY  FOR THOSE  SERVICES OR WE MAY NEED TO REDUCE OUR PRICES IN A MANNER
THAT ADVERSELY AFFECTS OUR FINANCIAL PERFORMANCE.

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<PAGE>

    Other  companies  may  choose to compete  with us in our  current or planned
markets by selling or leasing network assets or wholesale  transport services to
our targeted customers. This competition could have a material adverse effect on
our business. Our competitors for these products and services include:

     o    long distance  companies,  such as AT&T Corp., MCI WorldCom,  Inc. and
          Sprint Corporation;

     o    wholesale providers, such as Qwest Communications  International Inc.,
          Williams  Communications  Group, Inc., IXC  Communications,  Inc., DTI
          Holdings, Inc., Global Crossing Ltd. and Level 3 Communications, Inc.;

     o    existing local telephone companies,  such as US West, BellSouth,  Bell
          Atlantic,  SBC and GTE  Corporation,  which  currently  dominate their
          local  telecommunications  markets and have sought or may soon seek or
          obtain  authority  to provide  long  distance  services in their local
          markets;

     o    competitive  telecommunications companies often referred to as such as
          GST Telecommunications,  Inc., ITC/Deltacom, Inc. and Metromedia Fiber
          Network, Inc.; and

     o    potential competitors capable of offering services similar to those we
          offer,  such as  communications  service  providers,  cable television
          companies, electric utilities, microwave carriers, satellite carriers,
          wireless  telephone   operators  and  large  end  users  with  private
          networks.

ADDITIONAL    COMPETITION    FROM   LOCAL    TELEPHONE    COMPANIES   OR   OTHER
TELECOMMUNICATIONS  SERVICE  PROVIDERS  AS THEY BEGIN TO PROVIDE OR EXPAND THEIR
LOCAL ACCESS SERVICES IN THE MARKETS THAT WE HAVE TARGETED,  MAY PREVENT US FROM
ACHIEVING OUR SALES GOALS.

    Our principal  competitor in the provision of local access  services in each
of our markets is the existing local telephone company.  Although recent federal
legislation and rule-making  proceedings  afford us increased  opportunities  to
compete in providing  these  services,  some aspects of these  proceedings  also
benefit existing local telephone companies.  Potential changes in the regulation
of telecommunications  services could deprive us of some competitive  advantages
that we now enjoy, which could harm our business.

    In   addition   to   the   existing   local   telephone   companies,   other
telecommunications  service providers, such as Covad Communications Group, Inc.,
NorthPoint  Communications  Group, Inc. and Rhythms  Netconnections,  Inc., have
recently begun  providing some local services.  Other  competitors and potential
entrants in the market for the provision of these services include long distance
companies, cable television companies,  electric utilities,  microwave carriers,
wireless  telephone system  operators,  data service  companies and operators of
private networks.  Significant new competitors also could enter the local market
through consolidation and strategic alliances in the industry,  foreign carriers
being allowed to compete in the U.S. market, technological advances, and further
deregulation and other regulatory initiatives.  The introduction of any of these
new  competitors  into our  markets  for local  services  could  materially  and
adversely affect our business. See "BUSINESS -- COMPETITION."

WE DO NOT PLAN TO OFFER A BROAD RANGE OF  PRODUCTS OR SERVICES IN THE  IMMEDIATE
FUTURE,  AND THIS LIMITATION COULD INCREASE OUR VULNERABILITY TO CHANGING TRENDS
IN OUR INDUSTRY OR INCREASED  COMPETITION.  AT THE SAME TIME, OUR FUTURE SUCCESS
WILL  DEPEND ON GROWTH  IN THE  DEMAND  FOR  LOCAL  ACCESS  SERVICES  WE PLAN TO
CONTINUE TO OFFER.

    We have  planned  to  undertake  only a narrow  scope of  activities  in the

                                       49
<PAGE>

immediate  future,  which could  limit  potential  revenues  and result in lower
revenues than competitors who now provide a wide range of services.  Although we
have recently  commenced  marketing local access services to  telecommunications
service  providers,  we cannot assure you that we will be successful in entering
this  business.  If the markets for these  services  fail to develop,  grow more
slowly than  anticipated  or become  saturated  with  competitors,  our business
prospects,  operating  results  and  financial  condition  could  be  materially
adversely affected.

OUR PRODUCT AND SERVICE OFFERINGS ARE SUBJECT TO RISKS OF INDUSTRY OVER-CAPACITY
AND RESULTING DOWNWARD PRICING PRESSURES.

    Since  shortly  after  the  AT&T  divestiture  in 1984,  the  long  distance
transmission  industry  generally has  experienced  over-capacity  and declining
prices.  These trends have  exerted  downward  pricing  pressures on a number of
telecommunications  services, including our wholesale transport services, and we
anticipate that prices for these services will continue to decline over the next
several years because:

     o    existing  long  distance  carriers  and  potential  new  carriers  are
          constructing  new fiber  optic and other  long  distance  transmission
          networks;

     o    regulatory  changes may permit the existing local telephone  companies
          to provide long-distance services out-of-region;

     o    expansion and new construction of transmission networks,  particularly
          fiber optic cable networks,  are likely to create  substantial  excess
          capacity relative to demand in the short or medium term; and

     o    recent  technological  advances  may  greatly  expand the  capacity of
          existing and new fiber optic cable.

    Dramatic and  substantial  price  reductions in the long  distance  industry
could  require  us to reduce our  prices  significantly  or to revise the mix of
products and services we plan to offer.  Either of these results could adversely
affect our business. Also, an increase in the capacity of any of our competitors
to provide transport services could adversely affect our business even if we are
also able to increase our capacity.

INCREASED SUPPLY OF FIBER OPTIC CABLE IN THE INDUSTRY MAY LEAD TO LOWER PRICES.

     The supply of fiber optic cable that is already  buried in conduits but has
none  of  the  associated  transmission  electronics  installed  has  increased,
resulting in downward pricing pressure on sales of fiber optic strands.  The FCC
recently  issued an order requiring  existing local telephone  companies to make
inactive fiber optic strands and other transport  facilities  available to other
telecommunications   carriers  at  cost-based   nondiscriminatory  prices.  This
requirement  could further  increase the supply of and decrease demand for fiber
optic  strands  that  we  sell,  adversely  affecting  our  business,  financial
condition and results of operations.

IF WE FAIL TO  RECOGNIZE  OR MAKE THE  INVESTMENTS  NECESSARY  TO KEEP PACE WITH
RAPID TECHNOLOGICAL  CHANGES, OUR SERVICES MAY BECOME LESS DESIRABLE OR OBSOLETE
AND WE MAY FACE HIGHER COSTS OR BE UNABLE TO COMPETE EFFECTIVELY.

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<PAGE>

    The  telecommunications  industry is  characterized by rapid and significant
changes in technology.  We cannot predict the effect of technological changes on
our business.  The  introduction of new products or technologies  may reduce the
cost or  increase  the  supply  of  services  similar  to those  that we plan to
provide, or could render those services and our network assets less desirable or
even obsolete. As a result, new entrants in the communications services industry
may become our most  significant  competitors in the future.  These new entrants
may not be burdened by an installed base of outdated equipment and the resulting
competition they may provide could have a material adverse effect on our ability
to meet our sales targets.

                          RISKS RELATING TO REGULATION

REGULATORY  CHANGES COULD REQUIRE US TO POSTPONE OR MODIFY OUR BUSINESS PLANS OR
DEPRIVE US OF THE MEANS TO ESTABLISH OUR NETWORK IN OUR TARGET MARKETS.

    Communications  services  are  subject  to  significant  regulation  at  the
federal,  state and local levels.  Our business  plans require us to exploit new
opportunities  afforded by recent regulatory  changes.  However,  the regulatory
environment could adversely affect us in a number of ways, including:

     o    delays in receiving required regulatory approvals or the imposition of
          onerous conditions for these approvals;

     o    difficulties  in  completing  and  obtaining  regulatory  approval  of
          interconnection  agreements with existing local  telephone  companies;
          and

     o    enactment of new and adverse legislation or regulatory requirements or
          changes in the interpretation of existing laws or regulations.

    Many  regulatory  proceedings  regarding  issues that are  important  to our
business are currently  underway or are being  contemplated by federal and state
authorities.  Changes in regulations or future  regulations  adopted by federal,
state or local regulators, or other legislative or judicial initiatives relating
to the  telecommunications  industry could cause our pricing and business models
to fluctuate  dramatically  or otherwise  or otherwise  have a material  adverse
effect on us.

THE FCC MAY IMPLEMENT THE PROVISIONS OF THE  TELECOMMUNICATIONS ACT OF 1996 IN A
MANNER THAT IS ADVERSE TO OUR BUSINESS PLAN AND STRATEGIES.

    The  Telecommunications  Act of 1996 was intended,  among other  things,  to
foster  competition  in the local  telephone  market.  However,  the FCC and the
states  are still  implementing  many of its rules and  policies  and it remains
uncertain how successfully the  Telecommunications Act will promote competition.
Moreover, the Telecommunications Act and other recent federal laws regarding the
U.S.   telecommunications   industry  remain  subject  to  judicial  review  and
additional FCC rule-making  proceedings.  Our business  strategy involves taking
advantage   of  some  of  the   competitive   opportunities   advanced   by  the
Telecommunications Act, and the FCC may promulgate regulations  implementing the
Telecommunications Act that are adverse to our business.

OUR ABILITY TO OFFER LONG DISTANCE COMPANIES LOCAL ACCESS SERVICE AT COMPETITIVE
RATES MAY BE LIMITED BY NEW REGULATIONS AND LEGISLATIVE INITIATIVES.

    Like most companies in the communications industry, we must comply with many

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<PAGE>

regulatory requirements.  However, unlike some of our competitors,  particularly
the existing local telephone companies,  we are not currently subject to some of
the  burdensome  regulations  federal  law  imposes  on  the  telecommunications
industry.  Our ability to compete in the provision of local access services will
depend upon a continued favorable,  pro-competitive regulatory environment.  New
regulations or legislation  affording greater  flexibility and regulatory relief
to our competitors  could adversely  affect us by increasing  competition in the
provision of local services.

    The FCC is currently  considering an industry  proposal to  restructure  the
fees that existing local telephone  companies charge long distance  companies to
use their local networks.  These fees are referred to as access charges. Changes
in  the  access  charge  structure  could  fundamentally   affect  the  economic
environment in which we and our customers operate. If the FCC reduces the access
charges imposed by existing local telephone  companies,  it would  significantly
reduce our price  advantage in the market for local access services used by long
distance  companies  to access the existing  local  telephone  companies'  local
networks.

    The FCC is also  considering  whether to impose  limits on  certain  uses of
selected  portions of the local  telecommunications  networks,  sometimes called
"unbundled  network  elements",  we purchase from the existing  local  telephone
companies.  If the FCC limits our  ability to offer long  distance  companies  a
package of unbundled  network  elements that can be used to reach end users, our
ability to offer our local access services at competitive rates may be harmed.

PENDING  REGULATORY  INITIATIVES MAY MAKE IT EASIER FOR EXISTING LOCAL TELEPHONE
COMPANIES  AND THEIR  AFFILIATES TO OFFER  DIGITAL  SUBSCRIBER  LINE SERVICES TO
CUSTOMERS IN OUR TARGET  MARKETS  INCREASING  THE  COMPETITION  THAT WE FACE FOR
CUSTOMERS SEEKING THESE SERVICES.

    In August 1998,  the FCC proposed new rules that would allow  existing local
telephone companies to provide Digital Subscriber Line services through separate
affiliates not subject to existing local telephone company  regulation.  The FCC
recently  decided some of the other issues  raised in that  proceeding,  but the
question of whether existing local telephone  companies can provide  unregulated
Digital   Subscriber  Line  services  through  a  separate   affiliate   remains
unresolved.  Any decision that would permit an existing local telephone  company
affiliate to offer Digital  Subscriber  Line  services  without being subject to
regulation  imposed on existing local telephone  companies could have a material
adverse effect on us by, for example,  increasing the competition we face in the
provision of Digital Subscriber Line services.

IF WE ARE UNABLE TO OBTAIN AND MAINTAIN THE NECESSARY  FCC  LICENSES,  WE MAY BE
UNABLE TO OPERATE THE WIRELESS PORTIONS OF OUR NETWORK.

    Portions  of our  network  are  wireless,  meaning  that we  provide  access
services via over-the-air microwave transmissions instead of through fiber optic
cables.  Our arrangements with certain of our wireless  co-development  partners
contemplate  that the  wireless  portion of our  digital  network  will  largely
provide  "common  carrier  fixed  point-to-point  microwave"  telecommunications
services  under  Part 101 of the FCC's  rules.  These  services  are  subject to
regulation  by  federal,  state  and local  governmental  agencies.  Changes  in
existing laws and  regulations  governing our provision of these  services could
have a material adverse effect on our business, financial condition, and results
of operations.

                                       52
<PAGE>

IF WE DO NOT ACCURATELY PREDICT THE COST OF COMPLYING WITH FEDERAL AND STATE AND
OTHER  SURCHARGES ON OUR SERVICES WE MAY NOT  ACCURATELY  ANTICIPATE THE COST OF
PROVIDING OUR SERVICES TO CUSTOMERS, AND OUR EARNINGS AND CUSTOMER RELATIONSHIPS
COULD BE ADVERSELY AFFECTED.

    As a  telecommunications  provider,  we must pay a variety of surcharges and
fees on our gross revenues from  interstate  services and  intrastate  services.
Interstate  surcharges  include  fees for Federal  Universal  Service and common
carrier obligations, number administration,  the provision of telecommunications
services  to the  disabled  and  other  miscellaneous  FCC  requirements.  State
regulators  impose  similar  surcharges  and fees on  intrastate  services.  The
division of our services between interstate  services and intrastate services is
a matter of interpretation, and FCC or relevant state commission authorities may
in the future  contest  how we  allocate  our  charges.  If this  allocation  is
changed,  our payment  obligations for the relevant  surcharges  could increase.
Periodic revisions by state and federal regulators of the applicable  surcharges
may also increase the surcharges and fees we currently pay.

    For  more   information  on  these  and  other  risks  posed  by  regulatory
initiatives, see "BUSINESS -- GOVERNMENT REGULATION."

WE MAY BE REQUIRED TO REGISTER AS AN INVESTMENT COMPANY,  WHICH WOULD SUBJECT US
TO SIGNIFICANT  ADDITIONAL  REGULATORY BURDENS AND INTERFERE WITH OUR ABILITY TO
HOLD INVESTMENTS OR RAISE FINANCING FOR OUR BUSINESS.

    We have, and after the consummation of the  contribution and  reorganization
transaction PTI will have,  substantial cash balances and short-term investments
on a  consolidated  basis.  As a result,  we may be  considered  an  "investment
company"  under the Investment  Company Act of 1940. The Investment  Company Act
requires  companies  that are engaged  primarily in the  business of  investing,
reinvesting,  owning,  holding or trading in securities,  or that fail numerical
tests  regarding  composition  of assets and  sources of income and that are not
primarily  engaged in a  business  other than  investing,  reinvesting,  owning,
holding or trading in securities, to register as "investment companies." Various
substantive  restrictions are imposed on investment  companies by the Investment
Company Act.

    We are primarily  engaged in a business other than  investing,  reinvesting,
owning, holding or trading securities. However, we could be deemed an investment
company within the meaning of the Investment  Company Act. If we are required to
register as an  investment  company under the  Investment  Company Act, we would
become subject to substantial  regulation of our capital structure,  management,
operations, transactions with "affiliated persons," as defined in the Investment
Company Act,  and other  matters.  To avoid having to register as an  investment
company,  we may  have  to  hold a  portion  of our  liquid  assets  as  cash or
government securities instead of as investment securities. Having to register as
an investment company or holding a material portion of our liquid assets as cash
or government  securities to avoid  registration  could have a material  adverse
effect on us.

THIS  ANNUAL  REPORT  ON FORM 10-K  CONTAINS  "FORWARD-LOOKING  STATEMENTS"  AND
INFORMATION RELATING TO OUR BUSINESS AND US THAT ARE NOT HISTORICAL FACTS.

    We  make  statements  in  this  Annual  Report  on Form  10-K  that  are not
historical facts. You can identify these  forward-looking  statements by our use
of  terminology  such as  "believes,"  "expects,"  "may,"  "will,"  "should"  or
"anticipates" or comparable words.  These  forward-looking  statements  include,
among others, statements concerning:

                                       53
<PAGE>

     o    Our business strategy and competitive advantages;

     o    Our anticipated potential revenues from designated markets;

     o    The growth of the telecommunications industry and our business;

     o    The markets for our services and products;

     o    Forecasts of when we will enter  particular  markets or begin offering
          particular services;

     o    Our anticipated capital expenditures and future funding  requirements,
          including  the role of  vendor  and other  sources  of  financing  for
          equipment and related asset purchases; and

     o    Anticipated regulatory developments.

    These  statements  are only  predictions.  You  should be aware  that  these
forward-looking  statements  are subject to risks and  uncertainties,  including
financial and regulatory  developments,  industry  trends,  and projections that
could cause actual events or results to differ  materially  from those expressed
or implied by the statements. Should one or more of these risks or uncertainties
materialize,  or should our underlying  assumptions  about them prove incorrect,
our  actual  results,  our  performance  or our  proposed  activities  may  vary
materially from those expressed or implied by these forward-looking  statements.
We disclose  factors  that could cause our actual  results to differ  materially
from our  descriptions  in this "RISK  FACTORS"  section and  elsewhere  in this
annual  Report on Form  10-K  including  the  sections  under the  "MANAGEMENT'S
DISCUSSION AND ANALYSIS OF FINANCIAL  CONDITION AND RESULTS OF OPERATIONS,"  and
"BUSINESS"  captions.  Please read the entire  Annual  Report on Form 10-K for a
description  of  some  of  these  risks,   including   competitive,   financial,
developmental,  operational,  technical,  regulatory and other risks  associated
with our business.  You should not place undue  reliance on the  forward-looking
statements in this annual  Report on Form 10-K,  which speak only as of the date
of this Annual  Report on Form 10-K.  We  undertake  no  obligation,  and do not
intend, to update or revise any forward-looking statements,  whether as a result
of new information, future events or otherwise.



                                       54
<PAGE>



ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

        We are exposed to minimal  market risks.  We manage  sensitivity  of our
results of operations to these risks by  maintaining a  conservative  investment
portfolio,  (which primarily consists of debt securities,  that typically mature
within one year),  and entering into long-term debt obligations with appropriate
pricing and terms. We do not hold or issue derivative,  derivative  commodity or
other financial instruments for trading purposes. Financial instruments held for
other than trading purposes do not impose a material market risk on us.

         We are exposed to interest rate risk. We  periodically  need additional
debt  financing  due to our large  operating  losses,  and capital  expenditures
associated with  establishing  and expanding our network  coverage  increase our
financing  needs.  The  interest  rate  that we will be able to  obtain  on debt
financing will depend on market conditions at that time, and may differ from the
rates we have obtained on our current debt.

         Although all of our long-term debt bears fixed interest rates, the fair
market  value of our fixed  rate  long-term  debt is  sensitive  to  changes  in
interest rates. We have no cash flow or earnings exposure due to market interest
rate changes for our fixed long-term debt obligations.

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

         The Company's  financial  statements and supplementary  data,  together
with the report of the independent accountants,  are included or incorporated by
reference  elsewhere  herein.  Reference  is made  to the  "Index  to  Financial
Statements" following the signature pages hereto.

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

         None.



                                       55
<PAGE>



PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

DIRECTORS AND EXECUTIVE OFFICERS

         The table below sets forth certain information concerning the directors
and executive  officers of the Company.  Directors of the Company are elected at
the annual meeting of stockholders.  Executive officers of the Company generally
are appointed at the Board of Directors' first meeting after each annual meeting
of stockholders.
<TABLE>
<CAPTION>

NAME                                         AGE           POSITION(S) WITH COMPANY
<S>                                          <C>           <C>
Richard A. Jalkut ..........................   55          President, Chief Executive Officer and Director
Robert A. Rouse ............................   50          Executive Vice President, Chief Operating
                                                             Officer and President, Network Services
James M. Craig .............................   43          Executive Vice President, Chief Financial
                                                             Officer and Treasurer
William R. Smedberg, V......................   38          Executive Vice President, Corporate Development
Michael A. Lubin ...........................   50          Vice President, General Counsel and Secretary
Shawn F. O'Donnell .........................   34          Senior Vice President of Engineering and
                                                             Construction
Peter J. Barris ............................   47          Director
Kevin J. Maroni ............................   37          Director
Patrick J. Kerins ..........................   44          Director
Stephen A. Reinstadtler ....................   33          Director
------------------------------------
</TABLE>

     RICHARD A. JALKUT has served as President,  CEO and director of the Company
since  August  1997.  Mr.  Jalkut  has  over  30  years  of   telecommunications
experience. From 1995 to August 1997, he served as President and Group Executive
of NYNEX  Telecommunications  Group, where he was responsible for all activities
of  the  NYNEX  Telecommunications  Group,  an  organization  with  over  60,000
employees.  From 1991 until 1995,  Mr. Jalkut served as President and CEO of New
York Telephone Co. Inc.,  the  predecessor  company to NYNEX  Telecommunications
Group. Mr. Jalkut currently serves as a member of the board of directors of HSBC
Bank USA, a commercial bank; Ikon Office  Solutions,  Inc., a company engaged in
wholesale and retail office  equipment;  Digex  Incorporated;  and Home Wireless
Networks, a start-up company developing a wireless product for home and business
premises.

     ROBERT A.  ROUSE has  served as the  Company's  Executive  Vice  President,
President of Network Services since April 1999 and, since September 1999, as The
Company's  Chief  Operating  Officer.  Mr. Rouse joined the Company with over 30
years experience in the telecommunications industry. Before joining the Company,
from October 1996 to November  1998,  Mr. Rouse was  Executive  Vice  President,
Engineering,  Systems and  Operations  of  Intermedia,  responsible  for network
services,  engineering  and systems.  Before that,  from October 1986 to October
1996,  he served in several  positions  at MCI  beginning as the Director of New
York City  Operations  and spending  the last three as Senior Vice  President of
Network Services for MCI/Concert.  As senior Vice President of Network Services,
he was responsible for integrating the network and product functionality between

                                       56
<PAGE>

MCI and British  Telecom as well as building  global  networks.  From March 1986
until  September  1986,  Mr.  Rouse served as the Regional  Vice  President  for
Eastern Operations for US West. In addition, Mr. Rouse spent 17 years, from June
1969 until March 1986, with Frontier Communications,  Inc. where he was involved
in a series of unregulated start-up business ventures,  and he played a key role
in developing Frontier's long distance company.

     JAMES M. CRAIG has served as  Executive  Vice  President,  Chief  Financial
Officer and Treasurer of the Company since April 1999. Mr. Craig has 22 years of
accounting  and  finance  experience,  including  15 years  specifically  in the
communications  industry.  From February 1997 to April 1999, Mr. Craig served as
the Senior Director Treasury Management for Omnipoint  Communications,  where he
was was responsible for corporate planning and forecasting. In this position, he
also served as a point of contact for investment banks,  sell-side  analysts and
rating  agencies.  Before that, Mr. Craig assisted in the launch of two start-up
telecommunications companies, from February 1996 to February 1997 at UniSite and
from  September  1995 to February 1997 at National  Telecom PCS, Inc. While with
UniSite,  he established  regional and national  alliances  between  UniSite and
telecommunications  tower owners. Mr. Craig also spent a total of 11 years, from
1983 to  1995,  with  MCI,  holding  positions  such  as  Director  of  Wireless
Communications,    Director    of    Corporate    Development,    Director    of
Telecommunications Group Planning and Director of Corporate Treasury Group. From
1982  through  1983 and from 1977  through  1980,  Mr. Craig served a s a Senior
Accountant at the Cowper Group and from 1980 to 1982 he practiced as a certified
public accountant with Touche Ross and Co.

     WILLIAM R.  SMEDBERG,  V joined the Company  initially as a  consultant  in
1996, served as Vice President, Finance and Corporate Development of the Company
from  January 1997 to February  1999 and assumed the position of Executive  Vice
President,  Corporate  Development of the Company in March 1999.  Before joining
the Company,  Mr. Smedberg served as Director,  Strategic Planning and Corporate
Development for Jamont, a European  consumer  products joint venture among Nokia
Oy, Montedison  S.p.A. and James River Corporation of Virginia,  Inc., from 1991
to 1996,  where he was responsible  for Jamont's  corporate  finance,  strategic
planning and corporate development.

     MICHAEL  A.  LUBIN  has  served  as Vice  President,  General  Counsel  and
Secretary of the Company since its inception in August 1995.  Before joining the
Company,  Mr. Lubin was an attorney-at-law at Michael A. Lubin, P.C., a law firm
he founded in 1985.  Mr. Lubin has experience in  telecommunications,  copyright
and intellectual  property matters,  corporate and commercial law,  construction
claims adjudication and trial work. From 1976 until 1981, he served as a Federal
prosecutor with the Fraud Section,  Criminal Division,  United States Department
of Justice.

     SHAWN  O'DONNELL  has served as Senior Vice  President of  Engineering  and
Construction  of the Company since August 1999.  Mr.  O'Donnell has more than 14
years of  engineering  experience  in the  telecommunications  industry.  Before
joining the  Company,  Mr.  O'Donnell  served as Director of  Transmissions  and
Facility  Standards  and  Engineering  with MCI WorldCom  from  November 1996 to
August 1999. In that  position,  he was in charge of a 340+ person team that was
responsible for overall  transmission and facility  engineering for local,  long
distance and Internet networks. From April 1988 to November 1996, he also held a
variety  of  other  positions  at  MCI  WorldCom,  including  Senior  Manger  of
Transmission  Engineering  Implementation and Senior Manager of Switched Network
Planning.  Before  joining  MCI  WorldCom,  from  June 1986 to April  1988,  Mr.

                                       57
<PAGE>

O'Donnell  was a Control  Engineer  with Potomac  Edison.  While  there,  he was
responsible for the management of communications  networks  associated with high
voltage control systems.

     PETER J. BARRIS has been a director of the Company since August 1995. Since
1992, Mr. Barris has been a partner;  in 1994, was appointed a General  Partner;
and,  in  1999,  was  appointed  Managing  General  Partner  of  New  Enterprise
Associates, a firm that manages venture capital investments.  Mr. Barris is also
a  member  of the  board  of  directors  of  Mobius  Management  Systems,  Inc.,
PcOrder.com, Inc. and Careerbuilder, Inc., each of which is quoted on the NASDAQ
National Market.

     KEVIN J. MARONI has been a director of the Company since August 1995. Since
1994,  Mr.  Maroni has been a principal,  and, in 1995,  was appointed a General
Partner of Spectrum Equity Investors, which manages private equity funds focused
on growth  capital for  Telecommunications  companies.  Prior to  Spectrum,  Mr.
Maroni  worked at Time  Warner and Harvard  Management  Company.  Mr.  Maroni is
currently  on the  board of  directors  of  several  private  companies  and CTC
Communications Corp (which is quoted on the NASDAQ National Market).

     PATRICK J. KERINS has been a director of the Company since July 1997. Since
March 1997, Mr. Kerins has served as Managing Director of Grotech Capital Group,
which is engaged in venture capital and other private equity  investments.  From
1987 to March 1997, he worked in the investment banking division of Alex Brown &
Sons, Incorporated,  including serving as Managing Director beginning in January
1994.  Mr.  Kerins is a member of the board of  directors  of CD Now,  Inc.,  an
online  retailer of compact  discs and other  music  related  projects  which is
quoted on the NASDAQ National Market.

     STEPHEN A.  REINSTADTLER has been a director of Pathnet since October 1997.
Since August 1995, Mr. Reinstadtler has served as Vice President and Director at
Toronto  Dominion  Capital  (U.S.A) Inc.,  where he has been involved in private
equity and  mezzanine  debt  investments.  From April 1994 to July 1995,  he was
Manager  at The  Toronto-Dominion  Bank,  where he was  involved  in  commercial
lending activities to the telecommunications industry. From August 1992 to April
1994, Mr. Reinstadtler also served as Associate at Kansallis-Osake-Pankki, where
he was  involved in  commercial  lending  activities  to the  telecommunications
industry.


COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION

     We have a compensation committee of our board of directors, which currently
consists  of two of our  directors,  Messrs.  Maroni  and  Barris.  Prior to the
resignation of Richard Prins from our board of directors in 1999, we had a three
member compensation  committee,  consisting of Messrs. Maroni, Barris and Prins.
Our  compensation  committee was established to, among other things,  administer
our stock  incentive  plans,  review  and make  recommendations  to the board of
directors  concerning  the  compensation  of  executive  officers,  and consider
existing  and  proposed  employment  agreements  between  us and  our  executive
officers.

     During the fiscal  year ended  December  31,  1999,  none of our  executive
officers  served as a member of our  compensation  committee or as a director of
any entity of which any of directors served as an executive  officer.  No member
of our compensation committee is currently our employee.

                                       58
<PAGE>

DIRECTOR COMPENSATION

     Currently,   our  directors  do  not  receive   directors'  fees  or  other
compensation and they are not compensated or reimbursed for their  out-of-pocket
expenses incurred in serving as directors or for attending meetings of the board
of directors or its committees.

LIMITATION OF LIABILITY AND INDEMNIFICATION

     We are incorporated under the laws of the State of Delaware.

     Section  102(b)(7)  of the  Delaware  General  Corporation  Law  permits  a
provision in the  certificate of  incorporation  of each  corporation  organized
thereunder,  eliminating  or  limiting,  with certain  exceptions,  the personal
liability  of a director to the  corporation  or its  stockholders  for monetary
damages for certain breaches of fiduciary duty as a director.

     Our certificate of incorporation limits, to the fullest extent permitted by
law, the  liability of our  directors  to us and our  stockholders  for monetary
damages for breach of their fiduciary duty. This provision is intended to afford
our  directors  the  benefit  of the  Delaware  General  Corporation  Law.  This
limitation on liability does not extend to:

     o    Any breach of a director's duty of loyalty to us or our stockholders;

     o    Acts or  omissions  not in good  faith  or which  involve  intentional
          misconduct or a knowing violation of law;

     o    Violations  of the Delaware  General  Corporation  Law  regarding  the
          improper payment of dividends; or

     o    Any transaction from which the director derived any improper  personal
          benefit.

     Section 145 of the Delaware General Corporation Law, in summary, empowers a
Delaware  corporation,  within certain  limitations,  to indemnify its officers,
directors,  employees and agents against expenses  (including  attorneys' fees),
judgments,  fines  and  amounts  paid in  settlement,  actually  and  reasonably
incurred by them in connection  with any suit or proceeding  other than by or on
behalf  of the  corporation,  if  they  acted  in  good  faith  and in a  manner
reasonably  believed  to be in or  not  opposed  to  the  best  interest  of the
corporation,  and,  with  respect to a  criminal  action or  proceeding,  had no
reasonable cause to believe their conduct was unlawful.

     With respect to actions by or on behalf of the corporation,  Section 145 of
the Delaware  General  Corporation  Law permits a  corporation  to indemnify its
officers, directors, employees and agents against expenses (including attorneys'
fees)  actually  and  reasonably  incurred  in  connection  with the  defense or
settlement  of such action or suit,  provided  such person meets the standard of
conduct described in the preceding paragraph,  except that no indemnification is
permitted in respect of any claim where such person has been found liable to the
corporation,  unless the Court of  Chancery or the court in which such action or
suit was brought approves such  indemnification  and determines that such person
is fairly and reasonably entitled to be indemnified.

     Our certificate of incorporation requires us to indemnify our directors and
officers to the extent not prohibited by law for actions or proceedings  arising
because of their positions as directors or officers.

     Our  stockholders   agreement  provides  for  indemnification  of  us,  our
directors and officers, and persons who control us within the meaning of Section
15 of the  Securities  Act  or  Section  20 of  the  Exchange  Act  for  certain
liabilities, including liabilities under the Securities Act.

                                       59
<PAGE>

     In addition,  Pathnet maintains, and we will maintain,  standard directors'
and officers' insurance policies.




                                       60
<PAGE>



ITEM 11..EXECUTIVE COMPENSATION

     The following table sets forth certain information  concerning the cash and
non-cash  compensation  earned by or awarded to the Chief Executive  Officer and
each of the six other Named  Executive  Officers  of the  company  for  services
rendered in all capacities in each of the last three fiscal years.  The officers
listed in the table below are referred to as the Named Executive Officers:

<TABLE>
<CAPTION>

                                                        ------                                      LONG - TERM
                                                     COMPENSATION *                OTHER           COMPENSATION
                                                     --------------               ANNUAL       SECURITIES UNDERLYING
NAME AND PRINCIPAL POSITION               YEAR       SALARY         BONUS       COMPENSATION *    OPTIONS GRANTED **
---------------------------               ----       ------         -----       -------------- ---------------------
<S>                                       <C>        <C>            <C>         <C>            <C>
Richard A. Jalkut                         1999      $400,000        $300,000    $   40,733 (1)            --
   President and Chief Executive          1998       400,000               --       40,289 (2)            --
   Officer                                1997       166,154 (3)         --          9,857 (4)         858,754
Michael A. Lubin                          1999       135,019          47,120          --                  --
   Vice President, General Counsel        1998       136,840           5,000          --                15,000
    and  Secretary                        1997       136,115              --          --                  --
William R. Smedberg V                     1999       182,886         139,000          --                50,000
   Executive Vice President,              1998       111,250          28,267          --                78,656
   Corporate Development                  1997       100,384              --          --                  --
James M. Craig                            1999       122,206 (5)      78,750          --               125,000
   Executive Vice President, Chief
   Financial Officer and Treasurer
Shawn F. O'Donnell                        1999        58,739 (6)      52,500          --                50,000
   Senior Vice President of
   Engineering and Construction
Robert A. Rouse                           1999       239,276 (7)     133,751        36,943 (8)         350,000
   Executive Vice President, Chief
   Operating Officer and President,
   Network Services
Kevin J. Bennis                           1999       207,138 (9)      27,500          --                  --
   Executive Vice President and           1998       246,353 (10)          --      185,602 (6)         382,500
   President Communications
   Services
-----------------------------------
</TABLE>
*    Except  as  stated  herein,  none of the  above  Named  Executive  Officers
     received  perquisites or other personal benefits in excess of the lesser of
     $50,000 or 10% of such individual's salary plus annual bonus.
**   We have not issued any stock  appreciation  rights or  long-term  incentive
     plans.
(1)  Consists of $7,227 for club dues; $13,368 for lodging; $15,090 for airfare;
     and $5,048 for other transportation.
(2)  Consists of $16,277 for club dues; $7,756 for lodging; $11,685 for airfare;
     and $4,571 for other transportation.
(3)  Mr. Jalkut  commenced  employment  with the Company in August 1997, and was
     compensated at a rate of $400,000 per annum in 1997.
(4)  Reimbursement for travel expenses.
(5)  Mt Craig  began his  employment  with  Pathnet on April 19,  1999,  and his
     salary was $175,000 per annum in 1999.
(6)  Mr.  O'Donnell began his employment with Pathnet on August 9, 1999, and his
     salary was $150,000 per annum in 1999.
(7)  Mr. Rouse began his  employment  with  Pathnet on April 26,  1999,  and his
     salary  was  $325,000  per  annum in 1999.
(8)  Reimbursement  for  moving expenses.
(9)  Mr. Bennis' employment with Pathnet was terminated on September 17, 1999.
(10) Mr. Bennis began his  employement  with the Company on February 9, 1998 and
     his salary was $275,000 per annum.
(11) Consists of $48,093 in residence settlement charges in Georgia;  $99,319 in
     residence settlement charges in Virginia; $22,780 in other moving expenses;
     and $15,410 in rent.

                                       61
<PAGE>

STOCK OPTION GRANTS AND EXERCISES

         The following  table sets forth the  aggregate  number of stock options
granted to each of the Named  Executive  Officers  during the fiscal  year ended
December 31, 1999. Stock options are exercisable to purchase Common Stock of the
Company.

                        OPTION GRANTS IN LAST FISCAL YEAR
<TABLE>


                               NUMBER OF       PERCENT OF                               POTENTIAL REALIZABLE VALUE AT
                               SECURITIES    TOTAL OPTIONS                               ASSUMED ANNUAL RATE OF STOCK
                               UNDERLYING      GRANTED TO     EXERCISE                PRICE APPRECIATION FOR THE OPTION
                                OPTIONS       EMPLOYEES IN      PRICE    EXPIRATION                  TERM
                                GRANTED       FISCAL YEAR      $/SHARE      DATE       0%         5%         10%
                                -------       -----------      -------   ----------   ----      ------     ------
<CAPTION>
<S>                             <C>            <C>            <C>          <C>        <C>    <C>           <C>

Richard A. Jalkut ........         --             -- %        $    --        --       $    --  $       --   $       --

Michael A. Lubin..........         --             -- %        $    --        --       $    --  $       --   $       --

William R. Smedberg ......       50,000          6.88           5.20       5/13/2009       0      163,513      414,373

James M. Craig............      125,000         17.21           5.20       5/13/2009       0      408,782    1,035,933

Shawn F. O'Donnell........       50,000          6.88           5.20        8/5/2009       0      163,513      414,373

Robert A. Rouse...........      350,000         48.18           5.20       5/13/2009       0    1,144,588    2,900,611

Kevin J. Bennis...........         --              --                        --
                                                                 --                       --          --          --
</TABLE>

------------------------
(1)      The information disclosed assumes, solely for purposes of demonstrating
         potential  realizable  value of the stock  options,  that the estimated
         fair market  value per share of Common  Stock was $5.20 per share as of
         December 31, 1999 and increases at the rate indicated during the option
         term.

(2)      The options vest  ratably  over a four year  period.  The option may be
         transferred  only by will or by the laws of descent  and  distribution.
         Upon a change of control of the Company and  termination  of optionee's
         employment  without  cause,  the options  that would  otherwise  become
         vested  within one year will be deemed vested  immediately  before such
         optionee's termination.




                                       62
<PAGE>



OPTION EXERCISES AND FISCAL YEAR-END OPTION VALUES

         None of the Named Executive  Officers  exercised any options during the
fiscal  year ended  December  31,  1999.  The  following  table sets forth as of
December 31,  1999,  the  aggregate  number of options held by each of the Named
Executive Officers.

                          FISCAL YEAR-END OPTION VALUES
<TABLE>
<CAPTION>


                                                          NUMBER OF SECURITIES UNDERLYING
                               SHARES                         UNEXERCISED OPTIONS AT
                            ACQUIRED ON      VALUE        --------------------------------         VALUE OF UNEXERCISED
                              EXERCISE      REALIZED          DECEMBER 31, 1999                  IN-THE-MONEY OPTIONS (1)
                              --------      --------         ------------------                 ------------------------
NAME                                                     EXERCISABLE     UNEXERCISABLE      EXERCISABLE    UNEXERCISABLE
----                                                     -----------     -------------      -----------    -------------
<S>                            <C>       <C>              <C>               <C>            <C>              <C>
Richard A. Jalkut ........         --          --         572,502           286,252        $ 5,650,595      $ 2,825,307
Michael A. Lubin..........         --          --         145,215            11,250          1,573,621           65,250
William R. Smedberg ......         --          --          58,686            69,970            513,093          492,191
James M. Craig..........           --          --               0           125,000                  0          725,000
Shawn F. O'Donnell........         --          --               0            50,000                  0          290,000

Robert A. Rouse...........         --          --               0           350,000                  0        2,030,000

Kevin J. Bennis........        90,625    $894,469               0                 0                  0                0
</TABLE>

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

(1)  Based on an assumed market price of the Common Stock of $11.00 per share as
     of December 31, 1999.

SCHAEFFER BOARD RESIGNATION

     In October 1997,  Mr.  Schaeffer was our employee and was granted an option
to purchase  148,418  shares of common stock under our 1997 Plan;  the number of
shares and ther exercise price were subsequently  adjusted in a stock split. Mr.
Schaeffer  is no longer an  officer  or  director  of the  company.  In a letter
agreement  dated  November 4, 1999,  in which Mr.  Schaeffer  resigned  from his
position as a director of Pathnet,  we agreed with Mr. Schaeffer agreed that Mr.
Schaeffer holds options for a total of 107,389 shares of our common stock, which
are fully vested at an exercise  price of $3.67 per share.  PI will assume these
option  grants and  convert  them to options  for shares of its common  stock at
closing of the Transaction.


JALKUT EMPLOYMENT AGREEMENT

     We are currently a party to an employment  agreement with Mr. Jalkut. Under
this employment agreement,  Mr. Jalkut will receive a minimum annual base salary
of  $400,000  (or any  greater  amount  approved  by a majority  of the board of
directors),  bonuses and other  benefits  determined  by the board of directors.
Additionally,  Mr.  Jalkut is  entitled  to  receive  reimbursement  of  certain
expenses,  all of which  expenses may not exceed $50,000 per year. In accordance
with  his  employment  agreement,   on  August  4,  1997,  Mr.  Jalkut  received
nonqualified  stock  options for 296,122  shares of common  stock at an exercise
price of $3.28 per  share;  the  number  of shares  and the  option  price  were
subsequently  adjusted in a stock split.  These  options vest ratably over three
years.  We have granted Mr.  Jalkut  registration  rights for the shares he will
receive upon exercise of his options. If we terminate Mr. Jalkut's employment he
may  elect,  within 10  business  days of his  termination,  to have us pay him,
subject  to the  terms of the  Indenture  and the  Supplemental  Indenture,  the

                                       63
<PAGE>

aggregate  fair  value of his  options  then  vested or held by him.  We will be
required to make any payments in accordance with his employment agreement.

     During his employment and for two years after his termination, Mr. Jalkut's
employment  agreement  requires him to refrain from  investing in  businesses or
activities that compete with us, soliciting our employees or otherwise competing
with us,  by,  for  example,  working  with or for one of our  competitors.  Mr.
Jalkut's  employment  agreement  also prevents him from  disclosing or using our
confidential or proprietary information at any time.

     Other  than  the  restrictions  on  Mr.  Jalkut  described  above  and  our
obligation  to pay  severance  for one year  following  the  termination  of Mr.
Jalkut's employment  (depending on the basis for his termination),  Mr. Jalkut's
employment  agreement  will  terminate  in the  event  of his  death  and may be
terminated:

     o    By us:

          (a)  Without cause (as defined in his employment agreement), by giving
               60 days' prior written notice; or

          (b)  For cause,  generally  subject to a 30-day  written notice of the
               board's intention to terminate him for cause;

          (c)  Upon  Mr.  Jalkut's  disability  (as  defined  in his  employment
               agreement); and

     o    By Mr. Jalkut:

          (a)  Without cause, by giving 180 days' prior written notice; and

          (b)  Immediately,  upon a constructive  termination (as defined in his
               employment agreement).

     Unless we  terminate  Mr.  Jalkut's  employment  for cause,  or Mr.  Jalkut
terminates his employment  without cause,  Mr. Jalkut is entitled to continue to
receive his salary for 12 months  following the  termination  of his  employment
with us.

OTHER AGREEMENTS

     Messrs.  Schaeffer,  Lubin, O'Donnell,  Rouse, Craig and Smedberg each have
entered into an agreement  withus.  which requires each of them to (1) assign to
us all inventions  developed by them during their  employment,  (2) maintain the
confidentiality of Pathnet proprietary information, and (3) refrain from working
with or for a competitor of ours for two years after his termination.



                                       64
<PAGE>




ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

    The table below provides some information  regarding beneficial ownership of
our capital stock as of December 31, 1999 for:
     o    Each of the Named Executive Officers.
     o    Each of our directors.
     o    All of our executive officers and directors as a group.
     o    Each other person, entity or group who we know beneficially owns 5% or
          more of any class of our  stock.  All share  amounts in the table have
          been adjusted and are presented  assuming  that the  Contribution  and
          Reorganization  Transaction was closed as of December 31, 1999. Unless
          otherwise noted,  the address of each of our Named Executive  Officers
          and directors is 1015 31st Street, N.W., Washington, D.C. 20007.

                                        ISSUED AND OUTSTANDING
                                             COMMON STOCK

<TABLE>
<CAPTION>

STOCKHOLDER (a)                                                   SERIES A PREFERRED       SERIES B PREFERRED
---------------                                                   ------------------       ------------------
                                                   PERCENTAGE               PERCENTAGE              PERCENTAGE
                                                   ----------               ----------              ----------
                                         SHARES     OF CLASS     SHARES      OF CLASS     SHARES     OF CLASS
                                         -------    --------     -------     --------     -------    --------

<S>                                     <C>             <C>      <C>              <C>    <C>              <C>
Spectrum Equity Investors, L.P. (d).           --           --   1,372,668        47.3%  1,220,099        25.5%
Spectrum Equity Investors II, L.P. (d)         --           --          --           --         --           --
New Enterprise Associates VI, Limited
Partnership (e).....................           --           --     522,000        18.0%    685,014        14.3%
Onset Enterprise Associates II, L.P. (f)       --           --     522,000        18.0%    463,976         9.7%
Onset Enterprise Associates III, L.P.          --           --          --           --         --           --
(f).................................
Paul Capital Partner Funds (g)......           --           --     245,989         8.5%    125,144         2.6%
Thomas Domencich (h)................           --           --     145,000         5.0%     62,573         1.3%
Toronto Dominion Capital (USA) Inc. (i)        --           --          --           --    884,146        18.5%
Grotech Partners IV, L.P. (j).......           --           --          --           --    884,146        18.5%
Utech Climate Challenge Fund, L.P. (k)         --           --          --           --    442,076         9.2%
Utility Competitive Advantage Fund, LLC        --           --          --           --         --           --
(l).................................
David Schaeffer(m)..................    2,900,000        94.5%          --           --         --           --
Richard A. Jalkut (n)...............           --           --          --           --         --           --
Michael A. Lubin  (o)...............           --           --          --           --         --           --
William R. Smedberg (p).............           --           --          --           --         --           --
Kevin J. Maroni (q).................           --           --   1,372,668        47.3%  1,220,099        25.5%
Peter J. Barris (r).................           --           --     522,000        18.0%    685,014        14.3%
Patrick J. Kerins (s)...............           --           --          --           --    884,146        18.5%
Stephen A. Reinstadtler (t).........           --           --          --           --    884,146        18.5%
All Directors and Named Executive
Officers as a Group (n) (o) (p) (q) (r)        --           --   1,894,668        65.3%  3,673,405        76.7%
-------------------
</TABLE>
<TABLE>

                                                                            BENIFICIAL OWNERSHIP OF
STOCKHOLDER (a)                            SERIES C PREFERRED     STOCK          COMMON STOCK
---------------                            ------------------    OPTIONS (b)    ------------
                                                     PERCENTAGE  ----------     TOTAL      PERCENTAGE
                                                     ----------                 ------     ----------
                                            SHARES    OF CLASS                  SHARES         (c)
                                            -------   --------                  ------         ---

<S>                                       <C>              <C>                 <C>              <C>
Spectrum Equity Investors, L.P. (d).      1,363,406        16.7%         --    3,956,173        56.3%
Spectrum Equity Investors II, L.P. (d)    1,363,406        16.7%         --    1,363,406        30.8%
New Enterprise Associates VI, Limited
Partnership (e).....................      1,374,051        16.8%         --    2,581,065        45.7%
Onset Enterprise Associates II, L.P. (f)    817,672        10.0%         --    1,803,648        37.0%
Onset Enterprise Associates III, L.P.       272,553         3.3%         --      272,553         8.2%
(f).................................
Paul Capital Partner Funds (g)......        136,275         1.7%         --      507,573         5.9%
Thomas Domencich (h)................             --           --         --      207,573         6.3%
Toronto Dominion Capital (USA) Inc. (i)   1,006,500        12.3%         --    1,890,646        38.1%
Grotech Partners IV, L.P. (j).......      1,006,500        12.3%         --    1,890,646        38.1%
Utech Climate Challenge Fund, L.P. (k)      136,276         1.7%         --      578,352        15.9%
Utility Competitive Advantage Fund, LLC     366,980         4.5%         --      366,980        10.7%
(l).................................
David Schaeffer(m)..................             --           --    107,389    3,007,389        94.7%
Richard A. Jalkut (n)...............             --           --    572,502      572,502        15.7%
Michael A. Lubin  (o)...............             --           --    145,215      145,215         4.5%
William R. Smedberg (p).............             --           --    128,656      128,656         4.0%
Kevin J. Maroni (q).................      2,726,812        33.4%         --    5,319,579        63.4%
Peter J. Barris (r).................      1,374,051        16.8%         --    2,581,065        45.7%
Patrick J. Kerins (s)...............      1,006,500        12.3%         --    1,890,646        38.1%
Stephen A. Reinstadtler (t).........      1,006,500        12.3%         --    1,890,646        38.1%
All Directors and Named Executive
Officers as a Group (n) (o) (p) (q) (r)   6,113,863        74.8%    903,172   12,585,108        80.4%
(s) (t).............................
-------------------
</TABLE>


                                       65
<PAGE>


(a)  In accordance  with the rules of the  Securities  and Exchange  Commission,
     each beneficial owner's holding has been calculated  assuming full exercise
     of  outstanding  warrants and options  exercisable  or  convertible  by the
     holder within 60 days after December 31, 1999.

(b)  Only Options exercisable within 60 days after December 31, 1999 are listed.

(c)  The pro forma  percentages  of  beneficial  ownership of common stock as to
     each beneficial  owner assumes the exercise or conversion into common stock
     of all outstanding  options,  warrants and  convertible  securities held by
     such owner that are  exercisable or convertible  within 60 days of December
     31,  1999,  but not the  exercise or  conversion  of options,  warrants and
     convertible securities held by others shown in the table.

(d)  Spectrum Equity Investors,  L.P.'s and Spectrum Equity Investors II, L.P.'s
     address is One International Place, Boston, Massachusetts, 02110.

(e)  New Enterprise  Associates VI, Limited  Partnership's address is 1119 Saint
     Paul Street, Baltimore, Maryland, 21202.

(f)  Onset Enterprise Associates II, L.P.'s and Onset Enterprise Associates III,
     L.P.'s address is 8911 Capital of Texas Highway, Austin, Texas, 78759.

(g)  The Paul  Capital  Partner  Funds are five funds that  constitute a "group"
     under Section  13(d) of the Exchange Act. Each fund's  address is: c/o Paul
     Capital  Partners,   50  California  Street,  Suite  3000,  San  Francisco,
     California,  94111.  The five funds are Paul Capital  Partners V L.P., Paul
     Capital  Partners V (Domestic  Annex Fund) L.P.,  Paul  Capital  Partners V
     International,  L.P.,  Paul Capital  Partners VI, L.P. and PCP  Associates,
     L.P.

(h)  Thomas  Domencich's  address is 104 Benevolent  Street,  Providence,  Rhode
     Island, 02906.

(i)  Toronto Dominion  Capital (USA) Inc.'s address is 31 West 52nd Street,  New
     York, New York, 10019.

(j)  Grotech  Partners  IV,  L.P.'s  address  is 9690  Deereco  Road,  Timonium,
     Maryland, 21093.

(k)  Utech Climate  Challenge  Fund,  L.P.'s and Utility  Competitive  Advantage
     Fund, L.L.C.'s address is c/o Arete Ventures,  Two Wisconsin Circle,  Chevy
     Chase, Maryland 20815.

(l)  Utility  Competitive  Advantage  Fund  L.L.C.'s  address is c/o  William T.
     Heflin,  Managing Director,  Kinetic Ventures,  L.L.C., 2 Wisconsin Circle,
     Suite 620, Chevy Chase, Maryland 20815.

(m)  Mr. Schaeffer is no longer an officer or director of Pathnet.

(q)  Mr. Maroni, who is a limited partner of the general partner of Spectrum and
     a general partner of the general  partner of Spectrum Equity  Investors II,
     L.P., disclaims beneficial ownership of the shares owned by Spectrum Equity
     Investors, L.P. and Spectrum Equity Investors II, L.P.

(r)  Mr. Barris, who is general partner of the general partner of New Enterprise
     Associates VI, Limited  Partnership,  disclaims beneficial ownership of the
     shares owned by New Enterprise Associates VI, Limited Partnership.

(s)  Mr. Kerins,  Managing  Director of the general partner of Grotech  Partners
     IV, LP,  disclaims  beneficial  ownership  of the  shares  owned by Grotech
     Partners IV, LP.

(t)  Mr.  Reinstadtler,  Vice President and Director of Toronto Dominion Capital
     (USA) Inc.,  disclaims  beneficial ownership of the shares owned by Toronto
     Dominion Capital (USA) Inc.



                                       66
<PAGE>

ITEM 13..CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

EXISTING PATHNET, INC. AGREEMENTS

SERIES A PURCHASE AGREEMENT

         Pursuant to an  Investment  and  Stockholders'  Agreement,  dated as of
August 28, 1995 (the  "Series A Purchase  Agreement"),  by and among the Company
and Spectrum  Equity  Investors,  L.P.,  New  Enterprise  Associates VI, Limited
Partnership,  Onset  Enterprise  Associates II, L.P., IAI Investment Funds VIII,
Inc.,   Thomas   Domencich,   Dennis  R.  Patrick  and  the  Corman   Foundation
Incorporated,  (together,  the "Series A Purchasers") and David  Schaeffer,  the
Series A Purchasers made their initial investments in the Company.  The Series A
Purchasers (i) agreed,  subject to the  satisfaction of certain  conditions,  to
purchase in the aggregate  1,000,000  shares of Series A  Convertible  Preferred
Stock for an aggregate  purchase price of $1.0 million,  (ii) purchased  500,000
shares of such 1,000,000  shares of Series A Convertible  Preferred Stock for an
aggregate  purchase  price of $500,000 and (iii) agreed to make available to the
Company,  under certain  circumstances,  bridge loans in an aggregate  principal
amount of $500,000 (the "Bridge Loan  Commitment").  Pursuant to Amendment No. 1
to the Investment and Stockholders' Agreement, dated as of February 8, 1996, the
Series  A  Purchasers  purchased  the  remaining  500,000  shares  of  Series  A
Convertible  Preferred  Stock  for an  aggregate  purchase  price  of  $500,000.
Pursuant to Amendment No. 2 to the Investment and Stockholders'  Agreement dated
as of August 2, 1996, the Series A Purchasers, among other things, increased the
amount  of the  Bridge  Loan  Commitment  to an  aggregate  principal  amount of
$700,000 and advanced such amount to the Company,  such loans being evidenced by
bridge loan notes (collectively, the "Bridge Loan Notes"). The Bridge Loan Notes
carried an  interest  rate of 12% per annum and were due and  payable in full on
the earlier to occur of the first anniversary of the issuance of the Bridge Loan
Notes or the closing date of the  Company's  next equity  financing.  The Bridge
Loan Notes were to be convertible  into any future equity security issued by the
Company at 73% of the price to be paid for such security by other investors.  In
addition,  the Series A Purchasers agreed to make available to the Company, upon
the  occurrence  of certain  events,  additional  bridge  loans in an  aggregate
principal amount of $300,000 (the "Additional Bridge Loan Commitment").

SERIES B PURCHASE AGREEMENT

         The  Company,  each of the Series A Purchasers  and several  additional
purchasers (together,  the "Series B Purchasers") and Mr. Schaeffer entered into
an Investment and  Stockholders'  Agreement,  dated as of December 23, 1996 (the
"Series B Purchase  Agreement"),  pursuant  to which,  among other  things,  the
Series B  Purchasers  agreed to acquire  in the  aggregate  1,651,046  shares of
Series B Convertible  Preferred  Stock for an aggregate  purchase  price of $5.0
million.  Of these  amounts,  609,756  shares of Series B Convertible  Preferred
Stock were  purchased on December 23, 1996,  for an aggregate  purchase price of
$2.0 million.  In addition,  the $700,000 principal amount of Bridge Loan Notes,
plus $33,367 of accrued interest, were converted into 306,242 shares of Series B
Convertible  Preferred  Stock.  At the same time,  the Series A Purchasers  paid
$300,000 representing the committed but undrawn portion of the Additional Bridge
Loan  Commitment  to the  Company  for the sale of  125,292  shares  of Series B
Convertible  Preferred  Stock.  The Series B Purchasers  purchased the remaining
609,756 shares of Series B Convertible  Preferred  Stock subject to the Series B
Purchase  Agreement  for  $2.0  million  on June  18,  1997.  See  Note 9 to the
financial statements included elsewhere in this Report.


                                       67
<PAGE>

SERIES C PURCHASE AGREEMENT

         The Company,  the Series A Purchasers,  the Series B Purchasers and one
additional  purchaser  (together the "Series C  Purchasers")  and Mr.  Schaeffer
entered into the Investment and Stockholders' Agreement, dated October 31, 1997,
as amended (the "Investment and  Stockholders'  Agreement"),  pursuant to which,
among other things,  the Series C Purchasers  agreed to acquire 2,819,549 shares
of Series C Convertible Preferred Stock for an aggregate purchase price of $30.0
million.   The  Series  C  Purchasers  purchased  939,850  shares  of  Series  C
Convertible  Preferred Stock for an aggregate purchase price of $10.0 million on
October 31, 1997,  and  purchased  an  additional  1,879,699  shares of Series C
Convertible  Preferred  Stock for an aggregate  purchase  price of $20.0 million
simultaneously  with the closing of the Debt  Offering.  In connection  with the
Investment and Stockholders'  Agreement,  the Company,  the holders of Preferred
Stock  (collectively,  the  "Investors")  and Mr.  Schaeffer agreed to amend and
restate,  in part,  the  Series A Purchase  Agreement  and the Series B Purchase
Agreement.  These amendments restated the provisions of such agreements relating
to affirmative and negative covenants, transfer restrictions, rights to purchase
and  registration  rights.  These  sections  of each of the  Series  A  Purchase
Agreement,  the  amendments  thereto,  and the Series B Purchase  Agreement were
similar in all material respects.  In order to remove any doubt as to this fact,
to simplify  matters and for  convenience (to have in one agreement the material
provisions  that  survive  the  purchase  and sale of the  Series A  Convertible
Preferred Stock,  Series B Convertible  Preferred Stock and Series C Convertible
Preferred Stock  (collectively  the "Series Preferred Stock") and the closing of
an initial  public  offering),  the  aforementioned  sections  were  amended and
restated in the Investment and  Stockholders'  Agreement.  See "--Investment and
Stockholders' Agreement."

TERMS OF THE SERIES PREFERRED STOCK

         Each share of Series  Preferred Stock will  automatically  be converted
into Common Stock immediately upon the closing of a qualified public offering of
capital stock of the Company. A qualified public offering is defined as: (i) the
Company is valued on a pre-money  basis at greater  than  $50,000,000,  (ii) the
gross proceeds received by the Company exceed $20,000,000, and (iii) the Company
uses a  nationally  recognized  underwriter  approved  by  holders of a majority
interest of the Series  Preferred  Stock.  As of December 31,  1998,  the Series
Preferred Stock was convertible into an aggregate of 15,864,715 shares of Common
Stock.

         Each share of Series Preferred Stock entitles its holder to a number of
votes  equal to the  number of shares of Common  Stock  into which such share of
Series Preferred Stock is convertible. With respect to the Board of Directors of
the Company,  prior to the  completion  of a qualified  public  offering (i) the
holders of Series A Convertible  Preferred Stock are entitled to vote separately
as a class to elect  two  directors  of the  Company  (the  "Series  A  Investor
Directors"),  (ii) the  holders  of  Series B  Convertible  Preferred  Stock are
entitled to vote  separately  as a class to elect one  director  (the  "Series B
Investor  Director"),  (iii) the holders of the Series C  Convertible  Preferred
Stock are  entitled  to vote  separately  as a class to elect one  director  (to
"Series C Investor Director"), (iv) the holders of the Common Stock are entitled
to vote  separately  as a class  to  elect  two  directors  (the  "Common  Stock
Directors"),  (v) the chief  executive  officer  (the  "CEO") of the  Company is
appointed by the affirmative vote of the Common Stock Directors and the Series A
Investor  Directors,  Series B Investor Director and Series C Investor Director,
voting  together,  and (vi) the CEO will be elected to the Board of Directors of
the Company by the holders of Common Stock and Series  Preferred  Stock,  voting
together.

                                       68
<PAGE>

         The  holders  of the Series  Preferred  Stock are  entitled  to receive
dividends  in  preference  to and at the same  rate as  dividends  are paid with
respect  to the  Common  Stock.  In the event of any  liquidation,  dissolution,
winding  up  or  deemed  liquidation  of  the  Company,   whether  voluntary  or
involuntary,  each holder of a share of Series  Preferred  Stock  outstanding is
entitled  to be paid  before any payment may be made to the holders of any class
of Common  Stock or any  stock  ranking  on  liquidation  junior  to the  Series
Preferred Stock, an amount,  in cash, equal to the original  purchase price paid
by such holder, appropriately adjusted for stock splits, stock dividends and the
like, plus any declared but unpaid dividends.

         The  Series  A  Convertible   Preferred  Stock,  Series  B  Convertible
Preferred Stock and Series C Convertible  Preferred Stock A, Series B and Series
C Preferred Stock were $1,000,000, $5,033,367, and $30,000,052, respectively, as
of December 31, 1998. In the event the assets of the Company are insufficient to
pay liquidation preference amounts, all of the assets available for distribution
shall be  distributed  to each  holder  of  Series  Preferred  Stock PRO RATA in
proportion  to the  number  of shares of  Series  Preferred  Stock  held by such
holder.

         Shares of the Series  Preferred  Stock may be converted at any time, at
the option of the holder,  into shares of Common Stock.  The number of shares of
voting Common Stock to be received  upon  conversion is subject to adjustment in
the event of stock dividends and  subdividends,  certain  combinations of Common
Stock,  and issuances of Common Stock and of securities  convertible into Common
Stock that have a dilutive effect. As of December 31, 1998, each share of Series
Preferred Stock was convertible into 2.9 shares of Common Stock.

INVESTMENT AND STOCKHOLDERS' AGREEMENT

         Pursuant to the terms of the  Investment and  Stockholders'  Agreement,
the Investors and Mr.  Jalkut are entitled to certain  registration  rights with
respect to  securities of the Company.  On any three  occasions at the option of
the holders,  the holders of a majority of the securities  registrable under the
terms of the Investment and Stockholders' Agreement  ("Registrable  Securities")
may require the Company to effect a  registration  under the  Securities  Act of
1933 of their  Registrable  Securities,  subject to the Company's right to defer
such  registration  for a period of up to 60 days.  In addition,  if the Company
proposes to register  securities  under the Securities Act of 1933 (other than a
registration  relating either to the sale of securities to employees pursuant to
a stock option,  stock purchase or similar plan or a transaction  under Rule 145
of the Securities  Act), then any of the holders of Registrable  Securities have
the right (subject to certain cut-back  limitations) to request that the Company
register such holder's Registrable Securities.  All registration expenses of the
Investors (exclusive of underwriting discount and commissions) up to $60,000 per
offering  will be borne by the Company.  The Company has agreed to indemnify the
Investors  against  certain  liabilities  in  connection  with any  registration
effected pursuant to the foregoing terms,  including  liabilities  arising under
the Securities Act.

PATHNET TELECOMMUNICATIONS INC. STOCKHOLDERS AGREEMENT

         Following the closing of the Transaction, the Pathnet Inc. stockholders
agreement  will  terminate,   and  a  new  Pathnet   Telecommunications,   Inc.,
stockholders  agreement  will go  into  effect.  We  summarize  in this  section
selected  materials  of the  new  stockholders  agreement.  For a more  complete
description,  we refer  you to the  copy of  Pathnet  Telecommunications,  Inc's

                                       69
<PAGE>

stockholders  agreement  filed as an exhibit to the Pathnet  Telecommunications,
Inc.'s Registration  Statement on Form S-1 (Registration No. 333-91469) filed by
Pathnet  Telecommunications,  Inc. with the Securities  and Exchange  Commission
(the "Commission") on November 22, 1999

         If there is an inconsistency  between this summary and the stockholders
agreement, the stockholders agreement will control.

OVERVIEW

     Upon  closing  of  the  various  contribution   agreements  comprising  the
Transaction,  PTI will enter into a stockholders  agreement with CSX,  Colonial,
BNSF, our other preferred  stockholders  and David  Schaeffer.  The stockholders
agreement will put in place at the Pathnet  Telecom level many of the provisions
that  currently  apply under  Pathnet's  existing  Investment  and  Stockholders
Agreement.  Pathnet's  existing  Investment and  Stockholders  Agreement will be
terminated after the Transaction.

         In accordance with the  stockholders  agreement,  each stockholder will
agree to vote in favor of the election of a board of directors  consisting of 10
members:

     o    Two  designees of the Series A Preferred  Stockholders  (initially,  a
          designee  of  Spectrum  Equity  Investors  L.P.  and  the  other  will
          initially  be a  designee  of New  Enterprise  Associates  VI  Limited
          Partnership);

     o    One  designee of the Series B  Preferred  Stockholders  (initially,  a
          designee of Grotech Partners IV, L.P.);

     o    One  designee of the Series C  Preferred  Stockholders  (initially,  a
          designee of Toronto Dominion Capital (U.S.A.),  Inc.) who may not be a
          partner or associate of Spectrum, New Enterprise Associates or Grotech
          for so long as they have  designation  rights  under our  stockholders
          agreement;

     o    Three  designees  of the Series D and E  Preferred  Stockholders  (one
          designated by BNSF, one by CSX and one by Colonial);

     o    PTI's CEO;

     o    One  independent  "outside"  director,  who is  neither  a  member  of
          management nor an affiliate of any stockholder; and

     o    One  director  who will be elected by all voting  stockholders  voting
          together  as a  single  class,  as  provided  by  our  certificate  of
          incorporation.

     Under  the  stockholders  agreement,  PTI  will  be  subject  to  covenants
substantially  similar  to  those  in  effect  under  Pathnet's  Investment  and
Stockholders  Agreement.  For so long as at least 25% of the shares of preferred
stock  outstanding  immediately  after the  closing  of the  Transaction  remain
outstanding,  these  covenants  will require that PTI obtain the approval of the
holders of two-thirds of the  outstanding  shares of preferred stock (all voting
as a single class) before Pathnet  Telecommunications,  Inc.  undertake  certain
fundamental actions, including mergers, dispositions,  acquisitions,  amendments
to our certificate of incorporation  and bylaws,  affiliated  transactions,  and
certain  issuances  of  securities.  In  addition,  certain  actions  that would
adversely  affect the rights of a single series of preferred  stock  relative to
any other series of  preferred  stock would  require the  majority  vote of each
adversely affected series.

                                       70
<PAGE>

     Each party to the stockholders  agreement will represent and warrant to the
other  stockholders  that they,  he or it (1) has no present  intention or plan,
formally or informally, on the closing date to transfer or dispose of any of the
shares received by such party under their,  his or its  contribution  agreement,
and (2) intends for their,  his or its  contribution  of Pathnet shares or other
property to us in accordance with their, his or its contribution agreement to be
treated as part of a single  integrated  transaction  in which gain or loss will
not be  recognized  for tax  purposes.  Each existing  Pathnet  stockholder  who
participates will represent and warrant to the other parties that it intends its
contribution  of Pathnet  shares to us to  qualify as a tax-free  reorganization
under Section  368(a)(1)(B) of the Internal Revenue Code, pursuant to which gain
or loss will not be recognized.

REGISTRATION RIGHTS

     In the stockholders  agreement,  PTI. will grant registration rights to its
preferred  stockholders and to Mr. Jalkut and Mr. Schaeffer.  These registration
rights will be substantially similar to the registration rights granted to these
same holders in the Pathnet Investment and Stockholders  Agreement,  except that
Mr.  Schaeffer will be granted  registration  rights.  The holders of securities
subject  to  registration  rights  will  have both  "demand"  and  "piggy  back"
registration rights.

DEMAND RIGHTS

     Pathnet  Telecommunications,  Inc. will grant "demand"  registration rights
for two  separate  groups of our  equity  securities.  The  groups  are  broadly
distinguished  by the  identity  of the  holders  who can  demand  that  Pathnet
Telecommunications,  Inc.  register their shares under the  Securities  Act. The
first group consists of the holders of:

     o    Shares of common  stock issued to Pathnet  Telecommunications,  Inc.'s
          preferred  stockholders,  or issuable  to Pathnet  Telecommunications,
          Inc.'s preferred  stockholders  upon the conversion of their shares of
          preferred stock; and

     o    Shares of common  stock  issued or  issuable  to Mr.  Jalkut  upon the
          exercise of his options.

     Pathnet  Telecommunications,  Inc.  refer  to these  groups  of  shares  as
"registrable  securities."  On  three  separate  occasions,  by the  vote of the
holders of the applicable percentage of the registrable  securities  outstanding
in this first group,  the holders of the shares in this group may require PTI to
use its best efforts to file a registration statement with the SEC in respect of
their registrable securities.  Before Pathnet  Telecommunications,  Inc. make an
initial "Qualified Public Offering" (which the stockholders agreement defines as
a public  offering of more than $75 million in value of our  securities at a per
share price that  implies a valuation  in excess of $600  million for all of the
shares of our capital stock), the holders of at least 67% of the total number of
outstanding  registrable  securities must  affirmatively vote to exercise any of
these demand  rights.  After Pathnet  Telecommunications,  Inc. makes an initial
Qualified Public Offering, the holders of 20% of the total number of outstanding
registrable securities may make the demand. Although Pathnet Telecommunications,
Inc. does not include Mr.  Schaeffer's shares in calculating the percentages for
purposes of the demand by this group,  he will be entitled to  participate  on a
proportional   basis  in  any  registration   demanded  by  this  group  of  our
stockholders.

     Separately, PTI. will grant Mr. Schaeffer a single right to demand that PTI
register his shares of its common stock under the Securities Act. Mr.  Schaeffer
will have the right to exercise  his demand  registration  right if: (1) Pathnet
Telecommunications,  Inc. complete an initial Qualified Public Offering, and (2)
its registration statement filed in respect of that initial offering either:

                                       71
<PAGE>

     o    Does not include Mr.  Schaeffer's  shares of its common  stock that he
          proposes to register; or

     o    Has ceased to be effective within the thirty-day  period following the
          expiration of a mandatory  "lock-up"  period  applicable to all of the
          holders of our  securities  with  registration  rights.  (The  lock-up
          provisions of our  stockholders  agreement  will prohibit sales of our
          securities by the parties to our  stockholders  agreement for a period
          up  to  180  days  following  the  completion  of  an  initial  public
          offering.)

     Although they may not initiate a "demand" under this provision, the holders
of Pathnet  Telecommunications,  Inc.'s registrable  securities identified above
may  participate on a  proportional  basis in any  registration  demanded by Mr.
Schaeffer under this provision of the stockholders agreement.

     In exercising these demand  registration  rights,  the stockholders must in
all cases  have  selected  an  underwriter  reasonably  acceptable  to us who is
prepared to underwrite  the offering of the shares on a firm  commitment  basis.
Pathnet  Telecommunications,  Inc. will have additional obligations to assist in
the  registration and underwriting of any shares that these holders seek to sell
pursuant to their registration  rights.  Pathnet  Telecommunications,  Inc. will
have a right to defer each of those demand  registrations  for up to 60 days, if
our legal counsel has advised us that filing a registration  statement  relating
to such a demand registration would require us either (1) to disclose a material
impending  transaction and Pathnet  Telecommunications,  Inc. have determined in
good faith that the  disclosure  would have a material  adverse effect on us, or
(2) to conduct a special audit.

     Pathnet has  separate  "demand  registration"  obligations  under a Warrant
Registration  Rights Agreement  executed in conjunction with Pathnet 's Note and
warrant offering in April 1998. Under that agreement,  the holders of a majority
of the Pathnet  warrants may require  Pathnet on one  occasion  after an initial
public  offering to register  under the  Securities  Act their  shares of common
stock received upon the exercise of their  warrants,  subject to Pathnet's right
to  defer  the  registration  of  those  shares  for up to 60  days  in  similar
circumstances. In connection with the transaction, PTI expects to propose to the
holders of these rights that it assume Pathnet 's obligations under this Warrant
Registration  Rights  Agreement.  If the  requisite  holders  of  the  Pathnet's
warrants consent to the proposed amendments, PTI may be required by the terms of
the Warrant  Registration  Rights Agreement to register additional shares of our
common stock upon the exercise of these warrants.

PIGGYBACK RIGHTS

     Pathnet Telecommunications,  Inc will also grant to each of these groups of
its stockholders (and, if it assumes Pathnet's obligations to the holders of its
warrants, then also to those warrant holders) so-called "piggyback" registration
rights,  under  which  they can  require  Pathnet  Telecommunications,  Inc.  to
register  their shares of common stock  whenever it registers  any of its equity
securities under the Securities Act. These piggyback registration rights will be
subject to underwriter "cutbacks," which means that Pathnet  Telecommunications,
Inc.'s managing  underwriter may decide to limit the number of shares added to a
registration  that it  initiate  because  the  underwriter  has  concluded  that
including the additional  "piggyback" shares would have an adverse impact on the
marketing  of the  securities  to be sold in the  underwritten  offering.  These
piggyback  registration rights will not apply to any registration  relating to a
public  offering  pursuant  to demand  registration  rights  granted  to Pathnet
warrantholders,  to the  registration  of securities  with our employee  benefit
plans,  on any  SEC  form  that  does  not  permit  secondary  offerings,  or to
securities we issue in a merger, exchange offer or similar transaction.

                                       72
<PAGE>

     Pathnet  Telecommunications,  Inc.'s will be required to bear up to $60,000
of registration  expenses for each demand  registration  under its  stockholders
agreement.  In addition,  it will agree to  indemnify  the  registration  rights
holders against,  and provide contribution for, liabilities under the Securities
Act,  the  Securities  Exchange  Act of 1934 or  other  federal  or  state  laws
regarding the registration of our securities. However, it will not indemnify the
registration  rights  holders  against,  or provide them  contribution  for, any
untrue  statements or omissions made by us in reliance on and in conformity with
information furnished to us in writing by the registration rights holders.

PREEMPTIVE RIGHTS

     Under  the  stockholders  agreement,  each of  Pathnet  Telecommunications,
Inc.'s  preferred  stockholders  and  Mr.  Schaeffer  will  have  the  right  to
participate  in  certain  of our  sales  of  securities.  Specifically,  on each
occasion between the closing of the Contribution and Reorganization  Transaction
and an initial  "Qualified Public Offering" that it issues shares of its capital
stock (or other  securities  convertible or exchangeable for our capital stock),
PTI's preferred  stockholders  and Mr. Schaeffer will have the right to purchase
their pro rata share of the newly issued securities.  In addition,  in the event
that any of our preferred  stockholders or Mr.  Schaeffer elects not to purchase
his or its  pro  rata  share  of the  newly  issued  securities,  the  remaining
preferred  stockholders  and Mr. Schaeffer will have the right to purchase those
shares as well.

TRANSFER RESTRICTIONS

     Mr. Schaeffer's ability to transfer his shares of our capital stock will be
subject to restrictions under our stockholders  agreement. He is prohibited from
making any transfers other than specifically  enumerated "Permitted  Transfers."
Those Permitted Transfers include:

     o    Transfers  made  in  accordance  with  specified   provisions  of  our
          stockholders  agreement  which,  among other things,  grant a right of
          first refusal to our preferred stockholders with respect to the shares
          Mr. Schaeffer proposes to transfer.

     o    Transfers by Mr.  Schaeffer to his spouse or his children,  to a trust
          he establishes for his spouse or children,  upon his death, to a trust
          established under his will and other similar transfers,  provided that
          the transferee  enters into an enforceable  written  agreement that is
          satisfactory  to us and to a majority of our  preferred  stockholders,
          providing that the shares  transferred by Mr. Schaeffer remain subject
          to our stockholders agreement.

     o    Transfers  that  constitute a bona fide pledge or other  granting of a
          security interest in Mr.  Schaeffer's  shares of our stock to secure a
          loan for borrowed money, subject to specified restrictions,  including
          limitations on the purpose of any such loan, the minimum net assets of
          the lending institution, and a review of the applicable loan documents
          by  our  outside   counsel  for  compliance  with  the  terms  of  our
          stockholders agreement.



                                       73
<PAGE>



PART IV

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

(A)   THE FOLLOWING DOCUMENTS ARE FILED AS PART OF THIS REPORT:

     (1) Financial Statements

         Consolidated Balance Sheets as of December 31, 1999 and 1998

         Consolidated  Statements of Operations for the years ended December 31,
         1999,  1998 and 1997,  and for the  period  August  25,  1995  (date of
         inception) to December 31, 1999

         Consolidated  Statements  of  Comprehensive  Loss for the  years  ended
         December 31, 1999,  1998 and 1997,  and for the period  August 25, 1995
         (date of inception) to December 31, 1999

         Consolidated  Statements of Cash Flows for the years ended December 31,
         1999,  1998 and 1997,  and for the  period  August  25,  1995  (date of
         inception) to December 31, 1999

         Consolidated  Statement of Stockholders' Equity (Deficit) for the years
         ended December 31, 1999, 1998, 1997 and 1996, and for the period August
         25, 1995 (date of inception) to December 31, 1997

         Notes to Consolidated Financial Statements

     (2) Financial Statement Schedules

         All  schedules  are  omitted  because  they are not  applicable  or not
         required or because the required  information is incorporated herein by
         reference  or included in the  financial  statements  or notes  thereto
         included elsewhere in this report.

(B)   REPORTS ON FORM 8-K.

      On  November  9, 1999,  the company  announced  that it had  entered  into
      agreements  providing for  strategic  investments  from Colonial  Pipeline
      Company,  Burlington  Northern  and Sante Fe  Corporation  (BNSF)  and CSX
      Corporation.

(C)      EXHIBITS.

      The  following  exhibits are filed as a part of this Annual Report on Form
10-K:

   EXHIBIT NUMBERDESCRIPTION OF DOCUMENT
<TABLE>
<CAPTION>

      ITEM 14              EXHIBITS
        <S>                <C>
         3.1 (ii)          Amended and Restated Certificate of Incorporation of Pathnet, Inc.
                           and Certificate of Amendment to such Certificate of Incorporation.
         3.2 (ii)          Amended and Restated Bylaws of Pathnet Telecommunications, Inc.
         4.1 (i)           Indenture, dated as of April 8, 1998, between Pathnet, Inc.
                           and The Bank of New York, Inc. as Trustee

                                       74
<PAGE>

         4.4 (i)           Form of Note
         4.5 (i)           Pledge Agreement, dated as of April 8, 1998, among Pathnet,
                           Inc., The Bank of New York as Trustee and The Bank of New
                           York as the Securities Intermediary

       10.1 (i) (2)        Pathnet, Inc. 1995 Stock Option Plan
       10.2 (i) (2)        Pathnet, Inc. 1997 Stock Incentive Plan as amended by Amendment No. 1
                           to 1997 Stock Incentive Plan.
       10.3 (v)            Contribution Agreement, dated as of November 2, 1999, by and
                           among Pathnet Telecommunications, Inc., Pathnet, Inc. and
                           The Burlington Northern Santa Fe Railway Company
       10.4 (v)            Contribution Agreement, dated as of November 2, 1999, by and
                           among Pathnet Telecommunications, Inc., Pathnet, Inc. and
                           Colonial Pipeline Company
       10.5 (v)            Contribution Agreement, dated as of November 2, 1999, by and
                           among Pathnet Telecommunications, Inc., Pathnet, Inc. and
                           CSX Transportation, Inc.
       10.6 (v)            Contribution Agreement, dated as of November 2, 1999, by and
                           among Pathnet Telecommunications, Inc., Pathnet, Inc. and
                           The Preferred Stockholders of Pathnet, Inc.
       10.7 (v)            Contribution Agreement, dated as of November 2, 1999, by and
                           among Pathnet Telecommunications, Inc., Pathnet, Inc. and
                           Common Stockholders of Pathnet, Inc.
       10.8 (v)            Contribution Agreement, dated November 4, 1999, by and among
                           Pathnet Telecommunications, Inc., Pathnet, Inc. and David
                           Schaeffer
       10.9 (i)            Warrant Agreement, dated as of April 8, 1998, between
                           Pathnet, Inc. and The Bank of New York, as warrant agent
       10.10 (i)           Warrant Registration Rights Agreement, dated as of April 8,
                           1998, among Pathnet, Inc., Spectrum Equity Investors, L.P.,
                           New Enterprise Associates VI, Limited Partnership, Onset
                           Enterprise Associates II, L.P., FBR Technology Venture
                           Partners, L.P., Toronto Dominion Capital (U.S.A.) Inc.,
                           Grotech Partners IV, L.P., Richard A. Jalkut, David
                           Schaeffer and the Initial Purchasers
       10.11 (i)           Lease Agreement, dated August 9, 1997, by and between
                           Pathnet, Inc. and 6715 Kenilworth Avenue General Partnership
                           relating to Pathnet Inc.'s offices in Georgetown, including
                           Amendment to Lease Agreement dated March 5, 1998, and Second
                           Amendment to Lease dated June 1, 1998
       10.12 (iii)         Amendment No. 3 to Lease Agreement, dated September 1, 1998,
                           by and between Pathnet, Inc. and 6715 Kenilworth Avenue
                           General Partnership
       10.13 (i)           Notes Registration Rights Agreement, dated April 8, 1998, by
                           and among Pathnet, Inc. and Merrill Lynch & Co., Merrill
                           Lynch, Pierce, Fenner & Smith Incorporated, Bear Stearns &
                           Co. Inc., TD Securities (USA) Inc. and Salomon Brothers
       10.14 (i) (2)       Employment Agreement, dated August 4, 1997, by and between

                                       75
<PAGE>

                           Pathnet, Inc. and Richard A. Jalkut, as amended by Amendment
                           to Employment Agreement, dated April 6, 1998
       10.15 (vi) (2)      Letter Agreement, dated April 7, 1999, between Pathnet, Inc.
                           and Robert Rouse, relating to Mr. Rouse's employment with
                           Pathnet, Inc.
       10.16 (i) (2)       Non-Disclosure, Assignment of Inventions and Non Competition
                           Agreement, dated February 2, 1998, by and between Pathnet,
                           Inc. and Kevin Bennis.
       10.17 (viii)        Assignment and Acceptance, by and between Pathnet, Inc. and
                           Pathnet Telecommunications, Inc.
       10.18 (i) (2)       Non-Qualified Stock Option Agreement, dated August 4, 1997,
                           by and between Pathnet, Inc. and Richard A. Jalkut
       10.19 (i) (2)       Non-Qualified Stock Option Agreement, dated October 31,
                           1997, by and between Pathnet, Inc. and David Schaeffer
       10.20 (viii) (3)    IXC Master Services Agreement, dated June 17, 1999, by and
                           between IXC Communications Services, Inc. and Pathnet, Inc.,
                           as amended by Amendment No. 1 dated August 26, 1999 and
                           Amendment No. 2, dated October 13, 1999
       10.21 (viii) (3)    Capacity Agreement, dated August 10, 1999, between Frontier
                           Communications of the West, Inc. and Pathnet, Inc.
                           Collocation and Interconnection Agreements:
       10.22 (viii)        Collocation Agreement, dated July 29, 1999, by and between
                           BellSouth Telecommunications, Inc. and Pathnet, Inc.
       10.23 (viii)        Interim Collocation Agreement, dated August 12, 1999,
                           between U S West Communications, Inc. and Pathnet, Inc.
                           Equipment Supply Contracts:
       10.24 (i)           Master Agreement, dated August 8, 1997, between Pathnet,
                           Inc. and NEC America, Inc. as amended by Amendment No. 1 to
                           Master Agreement, dated November 9, 1997, Amendment No. 2 to
                           Master Agreement, dated April 2, 1998, Amendment No. 3 to
                           Master Agreement, dated May 4, 1998, and Amendment No. 4 to
                           Master Agreement, dated July 10, 1998
       10.25 (iii)         Amendment No. 5 to Master Agreement, dated November 20,
                           1998, by and between Pathnet, Inc. and NEC America, Inc.
       10.26 (i)           Purchase Agreement, dated July 1, 1995, between Andrew
                           Corporation and Path Tel, Inc., as amended by Amendment One,
                           dated September 16, 1996 and Amendment Two, dated July 1,
                           1997
       10.27 (v)           Agreement, dated March 31, 1999, between Pacific Fiber Link,
                           LLC and Pathnet, Inc.
       10.28               (v)  Marketing  Agreement,   dated  March  31,  1999,
                           between Pacific Fiber Link, LLC and Pathnet, Inc.
       10.29 (v)           Dark Fiber Network Agreement, dated August 5, 1999, by and
                           among Pathnet, Inc., Tri-State Generation and Transmission
                           Association, Inc., Empire Electric Association, Inc., La
                           Plata Electric Association, Inc., Delta-Montrose Electric
                           Association, Inc. and San Miguel Power Association, Inc.
       10.30 (viii)        Form of Letter agreement, dated November 4, 1999, by and

                                       76
<PAGE>

                           among Pathnet, Inc., David Schaeffer, Spectrum Equity
                           Investors, L.P., Spectrum Equity Investors II, L.P., New
                           Enterprise Associates VI, Limited Partnership and Grotech
                           Partners IV, L.P.
       10.31 (viii)        Licence of Marks, dated November 10, 1999, by and between
                           Pathnet, Inc. and Pathnet Telecommunications, Inc.
       10.32.1 (vii)       Investment and Stockholders Agreement, dated as of
                           October 31, 1997 (the "Investment and Stockholders Agreement")
                           by and among Pathnet, Inc. and certain stockholders of Pathnet, Inc.
       10.32.2 (vii)       Consent Waiver and Amendment, dated as of March 19, 1998,
                           relating to the Investment and Stockholders Agreement
       10.32.3 (vii)       Amendment No. 1 to the Investment and Stockholders Agreement
                           dated as of April 1, 1998.
       21.1 (1)            List of Subsidiaries of Pathnet Telecommunications, Inc.
       27.1 (1)            Financial Data Schedule
       99.1 (viii)         Consent of the Yankee Group
----------
</TABLE>

     (i)  Incorporated  by  reference to the  corresponding  exhibit to Pathnet,
          Inc.'s Registration Statement on Form S-1 (Registration No. 333-52247)
          filed by Pathnet,  Inc. with the  Securities  and Exchange  Commission
          (the  "Commission")  on May 8, 1998,  as amended by Amendment No. 1 to
          such  Registration  Statement  filed with the  Commission  on July 16,
          1998, and as further  amended by Amendment No. 2 to such  Registration
          Statement  filed with the  Commission on July 27, 1998, and as further
          amended by Amendment No. 3 to such  Registration  Statement filed with
          the Commission on August 10, 1998.

     (ii) Incorporated  by  reference  to  Pathnet,  Inc.'s  Form 10-K (File No.
          000-24745)  filed by Pathnet,  Inc.  with the  Commission on March 18,
          1999.

     (iii)Incorporated  by  reference  to  Pathnet,  Inc.'s  Form 10-Q (File No.
          000-24745) filed by Pathnet, Inc. with the Commission on May 17, 1999.

     (iv) Incorporated  by  reference  to  Pathnet,  Inc.'s  Form 10-Q (File No.
          000-24745)  filed by Pathnet,  Inc.  with the  Commission on August 9,
          1999.

     (v)  Incorporated  by  reference  to  Pathnet,  Inc.'s  Form 10-Q (File No.
          000-24745) filed by Pathnet,  Inc. with the Commission on November 15,
          1999.

     (vi) Incorporated  by  reference  to  Pathnet,  Inc.'s  Form 8-K  (File No.
          000-24745)  filed by Pathnet,  Inc.  with the  Commission on April 29,
          1999.

     (vii)Incorporated  by  reference to the  corresponding  exhibit to Pathnet,
          Inc.'s Registration Statement on Form S-4 (Registration No. 333-53467)
          filed by Pathnet, Inc. with the Commission on May 22, 1998, as amended
          by  Amendment  No. 1 to such  Registration  Statement  filed  with the
          Commission on August 12, 1998, and as further amended by Amendment No.
          2 to such  Registration  Statement filed with the Commission on August
          21,  1998,  and  as  further  amended  by  Amendment  No.  3  to  such
          Registration  Statement  filed with the Commission on August 31, 1998.
          (viii)  Incorporated  by  reference  to the  corresponding  exhibit to
          Pathnet Telecommunications,  Inc.'s Registration Statement on Form S-1
          (Registration No. 333-91469) filed by Pathnet Telecommunications, Inc.
          with the  Securities and Exchange  Commission  (the  "Commission")  on
          November 22, 1999, as amended by Amendment No. 1 to such Registration
          Statement  filed with the  Commission  on December  16,  1999,  and as
          further  amended by  Amendment  No. 2 to such  Registration  Statement

                                       77
<PAGE>

          filed with the Commission on February 22, 2000.

     (1)  Filed herewith.

     (2)  Constitutes management contract or compensatory arrangement.

     (3)  Certain  portions of this exhibit have been omitted based on a request
          for confidential treatment filed separately with the Commission.





                                       78
<PAGE>



                                   SIGNATURES

Pursuant to the  requirements of Section 13 or 15(d) of the Securities  Exchange
Act of 1934,  the  Registrant  has duly  caused  this report to be signed on its
behalf  by the  undersigned,  thereunto  duly  authorized,  in the  District  of
Columbia on this 22nd day of February 2000.

                                                           PATHNET, INC.

                                      By: /s/ Michael A. Lubin
                                      ------------------------
                                          Name: Michael A. Lubin
                                      Title: Vice President, General Counsel And
                                                Secretary

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

    SIGNATURE                TITLE                            DATE

/s/  Richard A. Jalkut       Chief Executive Officer and      February 22, 2000
----------------------                   Director
Richard A. Jalkut

/s/  James M. Craig          Executive Vice-President         February 22, 2000
---------------------         Chief Financial Officer
James M. Craig                and Treasurer (Principal
                              Financial Officer and
                              Controller

/s/  Peter J. Barris         Director                         February 22, 2000
----------------------
Peter J. Barris

/s/ Kevin J. Marconi         Director                         February 22, 2000
----------------------
Kevin J. Maroni

/s/ Patrick J. Kerins        Director                         February 22, 2000
----------------------
Patrick J. Kerins



/s/ Stephen A. Reinstadtler  Director                         February 22, 2000
----------------------------
Stephen A. Reinstadtler


                                       79
<PAGE>


                         PATHNET, INC. AND SUBSIDIARIES
                          INDEX TO FINANCIAL STATEMENTS

<TABLE>
<CAPTION>
                                                                                                             PAGE
                                                                                                             ----
         <S>                                                                                                 <C>

         Report of Independent Accountants                                                                    F-2

         Consolidated Balance Sheets as of December 31, 1999 and 1998                                         F-3

         Consolidated  Statements of Operations for the years ended December 31,
            1999,  1998 and 1997,  and for the period  August 25,  1995 (date of
            inception) to
            December 31, 1999                                                                                 F-4

         Consolidated  Statements  of  Comprehensive  Loss for the  years  ended
            December 31, 1999, 1998 and 1997, and for the period August 25, 1995
            (date of inception) to December 31, 1999 F-5

         Consolidated  Statements of Cash Flows for the years ended December 31,
            1999,  1998 and 1997,  and for the period  August 25,  1995 (date of
            inception) to
            December 31, 1999                                                                                 F-6

         Consolidated  Statement of Stockholders' Equity (Deficit) for the years
           ended  December 31,  1999,  1998,  1997 and 1996,  and for the period
           August 25, 1995
           (date of inception) to December 31, 1999                                                           F-7

         Notes to Consolidated Financial Statements                                                           F-8

</TABLE>


<PAGE>


                        REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Stockholders
Pathnet, Inc.

              In our opinion,  the consolidated  financial  statements listed in
the accompanying index present fairly, in all material  respects,  the financial
position of Pathnet,  Inc. and its subsidiaries (a development stage enterprise)
(the Company) at December 31, 1999 and 1998, and the results of their operations
and their cash flows for each of the three  years in the period  ended  December
31, 1999 and for the period  August 25, 1995 (date of inception) to December 31,
1999, in conformity  accounting principles with generally accepted in the United
States.  These  financial  statements  are the  responsibility  of the Company's
management;  our  responsibility  is to express  an  opinion on these  financial
statements  based on our audits.  We conducted our audits of these statements in
accordance  with auditing  standards  generally  accepted in the United  States,
which 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,  assessing the  accounting  principles
used and  significant  estimates made by management,  and evaluating the overall
financial  statement  presentation.   We  believe  that  our  audits  provide  a
reasonable basis for the opinion expressed above.



                                                      PricewaterhouseCoopers LLP



McLean, VA
February 22, 2000


<PAGE>

                         PATHNET, INC. AND SUBSIDIARIES
                         A Development Stage Enterprise
                           CONSOLIDATED BALANCE SHEETS
<TABLE>

                                                                                            December 31,       December 31,
                                                                                                1999               1998
                                                                                            ------------       ------------
<CAPTION>
<S>                                                                                         <C>                <C>

                                         ASSETS
Cash and cash equivalents                                                                   $ 90,661,837       $ 57,321,887
Note receivable                                                                                        -          3,206,841
Interest receivable                                                                            1,048,417          3,848,753
Marketable securities available for sale, at market                                           42,651,836         97,895,773
Prepaid expenses and other current assets                                                      1,437,464            205,505
                                                                                            ------------       ------------
      Total current assets                                                                   135,799,554        162,478,759
Property and equipment, net                                                                  131,928,365         47,971,336
Deferred financing costs, net                                                                  9,649,680         10,508,251
Restricted cash                                                                               16,452,916         10,731,353
Marketable securities available for sale, at market                                            5,088,458         71,899,757
Pledged marketable securities held to maturity                                                21,265,206         61,824,673
Other assets                                                                                     351,808                  -
                                                                                            ------------       ------------
     Total assets                                                                           $320,535,987      $ 365,414,129
                                                                                            ============       ============
                   LIABILITIES, MANDATORILY REDEEMABLE PREFERRED STOCK
                           AND STOCKHOLDERS' EQUITY (DEFICIT)
Accounts payable                                                                            $ 18,543,195       $ 10,708,263
Accrued interest                                                                               8,932,293          8,932,294
Accrued expenses and other current liabilities                                                 3,113,181            639,688
                                                                                            ------------       ------------
   Total current liabilities                                                                  30,588,669         20,280,245
Commitments and contingences
12 1/4% Senior Notes, net of unamortized bond discount of $3,378,375 and $3,787,875
   respectively                                                                              346,621,625        346,212,125
Other noncurrent liabilities                                                                   3,092,779                  -
                                                                                            ------------       ------------
   Total liabilities                                                                         380,303,073        366,492,370
                                                                                            ------------       ------------
Series A convertible preferred stock, $0.01 par value, 1,000,000 shares authorized, issued
  and outstanding at December 31, 1999 and 1998, respectively (liquidation preference
  $1,000,000)                                                                                  1,000,000          1,000,000
Series B convertible preferred stock, $0.01 par value, 1,651,046 shares authorized, issued
  and outstanding at December 31, 1999 and 1998, respectively (liquidation preference
  $5,033,367)                                                                                  5,008,367          5,008,367
Series C convertible preferred stock, $0.01 par value, 2,819,549 shares authorized, issued
  and outstanding at December 31, 1999 and 1998, respectively (liquidation preference
  $30,000,052)                                                                                29,961,272         29,961,272
                                                                                            ------------       ------------
   Total mandatorily redeemable preferred stock                                               35,969,639         35,969,639
                                                                                            ------------       ------------
Common stock, $0.01 par value, 60,000,000 shares authorized, 3,068,218 and 2,902,358
  shares issued and outstanding                                                                   30,682             29,024
Deferred compensation                                                                           (441,760)          (978,064)
Additional paid-in capital                                                                     6,264,362          6,156,406
Accumulated other comprehensive (loss) income                                                    (90,240)           208,211
Deficit accumulated during the development stage                                            (101,499,769)       (42,463,457)
                                                                                            ------------       ------------
   Total stockholders' equity (deficit)                                                      (95,736,725)       (37,047,880)
                                                                                            ------------       ------------
     Total liabilities, mandatorily redeemable preferred stock and stockholders'
       equity (deficit)                                                                     $320,535,987       $365,414,129
                                                                                            ============       ============

</TABLE>

              THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
                       CONSOLIDATED FINANCIAL STATEMENTS.


                                     F - 3

<PAGE>

                         PATHNET, INC. AND SUBSIDIARIES
                         A Development Stage Enterprise
                      CONSOLIDATED STATEMENTS OF OPERATIONS

<TABLE>
                                                                                                            FOR THE PERIOD
                                                                          FOR THE YEAR ENDED               AUGUST 25, 1995
                                                                            DECEMBER 31,                 (DATE OF INCEPTION)
                                                          ---------------------------------------------    TO DECEMBER 31,
                                                             1999              1998             1997             1999
                                                          ------------    ------------     ------------     -------------
<CAPTION>
<S>                                                       <C>             <C>              <C>              <C>
Revenue                                                   $  3,311,096    $  1,583,539        $ 162,500       $ 5,058,135
                                                          ------------    ------------     ------------     -------------
Operating expenses:
     Cost of revenue                                        12,694,909       7,547,620               --        20,242,529
     Selling, general and administrative                    14,669,747       9,615,867        4,247,101        30,295,096
     Contribution and reorganization expenses                1,022,998              --               --         1,022,998
     Depreciation expense                                    6,204,381         732,813           46,642         6,993,212
                                                          ------------    ------------     ------------     -------------
        Total operating expenses                            34,592,035      17,896,300        4,293,743        58,553,835
                                                          ------------    ------------     ------------     -------------
Net operating loss                                         (31,280,939)    (16,312,761)      (4,131,243)      (53,495,700)
Interest expense                                           (41,010,069)    (32,572,454)              --       (73,997,880)
Interest income                                             13,111,953      13,940,240          159,343        27,227,189
Write-off of initial public offering costs                          --      (1,354,534)              --        (1,354,534)
Other income (expense), net                                    142,743           2,913           (5,500)          140,156
                                                          ------------    ------------     ------------     -------------
        Net loss                                          $(59,036,312)   $(36,296,596)    $ (3,977,400)    $(101,480,769)
                                                          ============    ============     ============     =============
Basic and diluted loss per
     common share                                         $     (20.14)   $     (12.51)    $      (1.37)
                                                          ============    ============     ============
     common shares outstanding                               2,931,644       2,902,029        2,900,000
                                                          ============    ============     ============
</TABLE>



                ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
                       CONSOLIDATED FINANCIAL STATEMENTS.


                                     F - 4

<PAGE>


                         PATHNET, INC. AND SUBSIDIARIES
                         A Development Stage Enterprise
                  CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

<TABLE>
                                                                                                            FOR THE PERIOD
                                                                          FOR THE YEAR ENDED               AUGUST 25, 1995
                                                                            DECEMBER 31,                 (DATE OF INCEPTION)
                                                          ---------------------------------------------    TO DECEMBER 31,
                                                             1999              1998             1997             1999
                                                          ------------    ------------     ------------     -------------
<CAPTION>
<S>                                                       <C>             <C>              <C>              <C>
Net loss                                                  $(59,036,312)   $(36,296,596)    $ (3,977,400)    $ 101,480,769)

Other comprehensive (loss) income:
    Net unrealized (loss) gain on marketable
       securities available for sale                          (298,451)        208,211               --           (90,240)
                                                          ------------    ------------     ------------     -------------
Comprehensive loss                                        $(59,334,763)   $(36,088,385)    $ (3,977,400)    $(101,571,009)
                                                          ============    ============     ============     =============

</TABLE>

                ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE
                  CONSOLIDATED FINANCIAL STATEMENTS.


                                     F - 5



<PAGE>
                         PATHNET, INC. AND SUBSIDIARIES
                         A Development Stage Enterprise
                     CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
                                                                                                             FOR THE PERIOD
                                                                                                             AUGUST 25, 1995
                                                                                  FOR THE YEAR ENDED       (DATE OF INCEPTION)
                                                                                     DECEMBER 31,            TO DECEMBER 31,
                                                                 ------------------------------------------  ---------------
                                                                       1999            1998          1997           1999
                                                                 -------------- ------------- -------------  ---------------
<CAPTION>
<S>                                                              <C>            <C>           <C>            <C>
Cash flows from operating activities:
   Net loss                                                      $  (59,036,312)$ (36,296,596) $ (3,977,400)  $ (101,480,769)
   Adjustment to reconcile net loss to net cash used in
    operating activities:
     Depreciation expense                                             6,204,381       732,813        46,642        6,993,212
     Amortization of deferred financing costs                         1,138,722       842,790             -        1,981,512
     Loss on sale of equipment                                           17,370             -         5,500           22,870
     Gain on sale of marketable securities                             (157,983)            -             -         (157,983)
     Write-off of deferred financing costs                                    -       581,334             -          581,334
     Interest expense resulting from amortization of discount on
       the bonds payable                                                409,500       307,125             -          716,625
     Amortization of premium on pledged securities                      537,251             -             -          537,251
     Amortization of deferred compensation                              536,304       701,295             -        1,237,599
     Interest expense for beneficial conversion feature of
       bridge loan                                                            -             -             -          381,990
     Accrued interest satisfied by conversion of bridge loan to
       Series B convertible preferred stock                                   -             -             -           33,367
   Changes in assets and liabilities:
     Interest receivable                                              3,370,552    (4,846,952)            -       (1,476,400)
     Prepaid expenses and other assets                               (1,583,767)     (156,935)      (46,876)      (1,789,272)
     Accounts payable                                                   689,533         6,709       386,106        1,197,147
     Accrued interest                                                         -     8,932,294             -        8,932,294
     Accrued expenses and other liabilities                           2,816,674       339,688       269,783        3,456,361
                                                                 -------------- ------------- -------------  ---------------
       Net cash used in operating activities                        (45,057,775)  (28,856,435)   (3,316,245)     (78,832,862)
                                                                 -------------- ------------- -------------  ---------------
Cash flows from investing activities:
   Expenditures for network in progress                             (79,378,740)  (33,619,342)   (1,739,782)    (114,737,864)
   Expenditures for property and equipment                             (910,668)   (2,769,076)     (381,261)      (4,116,561)
   Proceeds on sale of equipment                                          5,624             -             -            5,624
   Sale and maturity of marketable securites available for sale     170,446,259    51,542,384             -      221,988,643
   Purchase of marketable securities available for sale             (48,531,491) (221,129,703)            -     (269,661,194)
   Purchase of marketable securities pledged as collateral                    -   (83,097,655)            -      (83,097,655)
   Sale of pledged marketable securities held to maturity            39,452,000    22,271,181             -       61,723,181
   Restricted cash                                                   (5,721,563)   (9,971,142)     (760,211)     (16,452,916)
   Issuance of note receivable                                                -    (3,206,841)            -       (3,206,841)
   Repayment of note receivable                                       3,206,841         9,000             -        3,215,841
                                                                 -------------- ------------- -------------  ---------------
       Net cash provided by (used in) investing activities           78,568,262  (279,971,194)   (2,881,254)    (204,339,742)
                                                                 -------------- ------------- -------------  ---------------
Cash flows from financing activities:
   Issuance of voting and non-voting common stock                             -             -             -            1,000
   Proceeds from sale of preferred stock                                      -    19,999,998    12,000,054       35,000,052
   Proceeds from sale of Series B convertible preferred stock
     representing the conversion of committed but undrawn portion
     of bridge loan to Series B convertible preferred stock                   -             -             -          300,000
   Proceeds from bond offering                                                -   350,000,000             -      350,000,000
   Proceeds from bridge loan                                                  -             -             -          700,000
   Exercise of employee common stock options                            109,614            81             -          109,695
   Payment of issuance costs for preferred stock offerings                    -             -       (38,780)         (63,780)
   Payment of deferred financing costs                                 (280,151)  (11,681,947)     (250,428)     (12,212,526)
                                                                 -------------- ------------- -------------  ---------------
       Net cash provided by (used in) financing activities             (170,537)  358,318,132    11,710,846      373,834,441
                                                                 -------------- ------------- -------------  ---------------
Net increase in cash and cash equivalents                            33,339,950    49,490,503     5,513,347       90,661,837
Cash and cash equivalents at the beginning of period                 57,321,887     7,831,384     2,318,037                -
                                                                 -------------- ------------- -------------  ---------------
Cash and cash equivalents at the end of period                   $   90,661,837 $  57,321,887  $ 7,831,384    $   90,661,837
                                                                 ============== ============= =============  ===============
Supplemental disclosure:
   Cash paid for interest                                        $   43,081,220 $  22,271,234 $           -  $    65,352,454
                                                                 ============== ============= =============  ===============
   Noncash investing & financing transactions:
    Conversion of bridge loan plus accrued interest to
      Series B preferred stock                                   $            - $           - $           -  $       733,367
                                                                 ============== ============= =============  ===============
    Conversion of non-voting common stock to voting common stock $            - $           - $           -  $           500
                                                                 ============== ============= =============  ===============
    Issuance of voting and non-voting common stock               $            - $           - $           -  $         9,000
                                                                 ============== ============= =============  ===============
    Acquisition of network equipment financed by accounts
      payable                                                    $   20,095,646 $  10,200,650 $   5,092,013  $    20,095,646
                                                                 ============== ============= =============  ===============
</TABLE>

   THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
                                  STATEMENTS.


                                     F - 6


<PAGE>

                          PATHNET INC. AND SUBSIDIARIES
                         A Development Stage Enterprise
                  STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
<TABLE>


                                                                         NOTE                                 ACCUMULATED
                                                                      RECEIVABLE                  ADDITIONAL     OTHER
                                                     COMMON STOCK        FROM       DEFERRED        PAID-IN  COMPREHENSIVE
                                                  SHARES     AMOUNT   STOCKHOLDER COMPENSATION      CAPITAL       LOSS
                                                  --------- --------- ----------- ------------    ---------- -------------
<CAPTION>
<S>                                               <C>       <C>       <C>         <C>             <C>        <C>
Balance at August 25, 1995 (date of inception)           -- $      -- $        -- $         --    $       -- $          --
                                                  1,450,000    14,500      (4,500)          --            --            --
Issuance of Non-voting common stock               1,450,000    14,500      (4,500)          --            --            --
Net loss                                                 --        --          --           --            --            --
                                                         --        --          --           --            --            --
   Balance at December 31, 1995                   2,900,000    29,000      (9,000)          --            --            --
Cancellation of Non-voting common stock          (1,450,000)  (14,500)         --           --            --            --
Issuance of Voting common stock                   1,450,000    14,500          --           --            --            --
Interest expense for beneficial conversion
   feature of bridge loan                                --        --          --           --       381,990            --
Net loss                                                 --        --          --           --            --            --
                                                  --------- --------- ----------- ------------    ---------- -------------
   Balance at December 31, 1996                   2,900,000    29,000      (9,000)          --       381,990            --
Net loss                                                 --        --          --           --            --            --
                                                  --------- --------- ----------- ------------    ---------- -------------
   Balance at December 31, 1997                   2,900,000    29,000      (9,000)          --       381,990            --
Exercise of stock options                             2,358        24           -           --            57            --
Repayment of note receivable                             --        --       9,000           --            --            --
Deferred compensation expense related to issuance
    of employee common stock options                     --        --          --   (1,679,359)   1,679,359             --
Amortization of compensation expense related to
   issuance of employee common stock options             --        --          --      701,295            --            --
Fair value of warrants to purchase common
   stock                                                 --        --          --           --    4,095,000             --
Net unrealized gain on marketable securities
   available for sale                                    --        --          --           --            --        208,211
Net loss                                                 --        --          --           --            --            --
                                                  --------- --------- ----------- ------------    ---------- -------------
   Balance at December 31, 1998                   2,902,358 $  29,024 $        -- $   (978,064) $ 6,156,406      $ 208,211
Exercise of stock options                           165,860     1,658          --           --      107,956             --
Amortization of compensation expense related to
   issuance of employee common stock options             --        --          --      536,304            --            --
Net unrealized gain on marketable securities
   available for sale                                    --        --          --           --            --      (298,451)
Net loss                                                 --        --          --           --            --            --
                                                  --------- --------- ----------- ------------    ---------- -------------
   Balance at December 31, 1999                   3,068,218 $  30,682 $        -- $   (441,760)$ 6,264,362       $ (90,240)
                                                  ========= ========= =========== ============    ========== =============
</TABLE>
<TABLE>

                                                       DEFICIT
                                                     ACCUMULATED    ACCUMULATED
                                                        OTHER          DURING
                                                    COMPREHENSIVE   DEVELOPMENT
                                                        STAGE          TOTAL
                                                    -------------   -----------
<CAPTION>
<S>                                                 <C>             <C>
Balance at August 25, 1995 (date of inception)      $          --   $        --
                                                           (9,500)           500
Issuance of Non-voting common stock                        (9,500)           500
Net loss                                                 (426,826)      (426,826)
                                                    -------------   ------------
   Balance at December 31, 1995                          (445,826)      (425,826)
Cancellation of Non-voting common stock                        --        (14,500)
Issuance of Voting common stock                                --         14,500
Interest expense for beneficial conversion
   feature of bridge loan                                      --        381,990
Net loss                                               (1,743,635)    (1,743,635)
                                                    -------------   -------------
   Balance at December 31, 1996                        (2,189,461)    (1,787,471)
Net loss                                               (3,977,400)    (3,977,400)
                                                    -------------   ------------
   Balance at December 31, 1997                        (6,166,861)    (5,764,871)
Exercise of stock options                                      --             81
Repayment of note receivable                                   --          9,000
Deferred compensation expense related to issuance
  of employee common stock options                             --             --
Amortization of compensation expense related to
   issuance of employee common stock options                   --        701,295
Fair value of warrants to purchase common
   stock                                                       --      4,095,000
Net unrealized gain on marketable securities
   available for sale                                          --        208,211
Net loss                                              (36,296,596)   (36,296,596)
                                                    -------------   ------------
   Balance at December 31, 1998                     $ (42,463,457)  $(37,047,880)
Exercise of stock options                                      --        109,614
Amortization of compensation expense related to
   issuance of employee common stock options                   --        536,304
Net unrealized gain on marketable securities
   available for sale                                          --       (298,451)
Net loss                                              (59,036,312)   (59,036,312)
                                                    -------------   ------------
   Balance at December 31, 1999                     $(101,499,769)  $(95,736,725)
                                                    =============   ============
</TABLE>


  THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
                                  STATEMENTS.


                                     F - 7

<PAGE>


                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

1.       THE COMPANY

     Pathnet, Inc. (Company) is wholesale telecommunications provider building a
nationwide   network   designed   to   provide   other   wholesale   and  retail
telecommunications  service  providers with access to underserved and second and
third tier markets  throughout  the United  States.  The Company's  network will
enable its customers including ILECs, IXCs, ISPs, CLECs,  cellular operators and
resellers to offer  additional  services to new and existing  customers in these
markets  without  having to expend  their own  resources  to build,  expand,  or
upgrade their own networks.

     During 1999,  Pathnet  continued to construct and deploy  digital  networks
utilizing both wireless and fiber-optic technologies.  Pursuant to its agreement
with  Worldwide  Fiber USA (WFI),  the Company  began to construct  and market a
multi-conduit fiber-optic network between Chicago, Illinois and Denver, Colorado
during the  second  quarter.  In August  1999,  the  Company  announced  it will
co-develop  a 400 mile fiber  network  connecting  Grand  Junction,  Colorado to
Albequerque,  New Mexico with Tri State Generation and Transmission Association,
Inc.  (Tri-State).  In November  1999,  Pathnet signed an agreement with Caprock
Communications  (CapRock) to construct a 350 mile  multi-conduit,  fiber network
between  Albuquerque,  New Mexico and El Paso,  Texas.

     As of December  31, 1999,  the  Company's  network  consisted of over 6,300
wireless route miles providing wholesale transport services to 30 cities and 500
miles of installed  fiber.  The Company is  constructing an additional 600 route
miles of fiber  network,  which is scheduled for completion in the first half of
2000.

     Since inception,  the Company's  business has been funded primarily through
equity  investments by the Company's  stockholders and $350.0 million  aggregate
principal amount of 12 1/4% Senior Notes due 2008 (Senior Notes) which have been
registered under the Securities Act of 1933, as amended.

     A  substantial   portion  of  the  Company's  initial  activities  involved
developing  strategic   relationships  with  co-developers  such  as  railroads,
pipelines  and  utilities  and building its  network.  Accordingly,  most of its
earlier  revenues  reflected only project  management  and advisory  services in
connection  with  the  design,  development  and  construction  of its  network.
Revenues derived from the sale of telecommunication services along the Company's
digital  network are  approximately  51% to date.  The  Company has  experienced
significant  operating and net losses and negative  operating  cash flow to date
and expects to  continue to  experience  operating  and net losses and  negative
operating cash flow until such time as it is able to generate revenue sufficient
to cover its operating expenses

2.       SIGNIFICANT ACCOUNTING POLICIES

BASIS OF ACCOUNTING

     The Company  recently  commenced  providing  telecommunication  services to
customers and  recognizing  the revenue from the sale of such  telecommunication
services.  The  Company's  principal  activities  to  date  have  been  securing
contractual   alliances  with  its   co-development   partners,   designing  and
constructing network path segments,  obtaining capital and planning its proposed
service.  Accordingly,  the  Company's  consolidated  financial  statements  are
presented as a  development  stage  enterprise,  as  prescribed  by Statement of
Financial  Accounting  Standards No. 7, "Accounting and Reporting by Development


                                       F - 8
<PAGE>

                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

Stage  Enterprises."  As a development  stage  enterprise,  the Company has been
relying on the  issuance of equity and debt  securities,  rather than  recurring
revenues, for its primary sources of cash since inception.

   CONSOLIDATION

     The consolidated financial statements include the accounts of Pathnet, Inc.
and its wholly-owned  subsidiaries,  Pathnet/Idaho  Power License,  LLC, Pathnet
Fiber  Optics,  LLC  and  Pathnet/Idaho  Power  Equipment,   LLC.  All  material
intercompany accounts and transactions have been eliminated in consolidation.

USE OF ESTIMATES

     The  preparation of the financial  statements in conformity  with generally
accepted  accounting  principles  requires  management  to  make  estimates  and
assumptions  that affect the reported  amounts of assets and  liabilities at the
date of the  financial  statements  and the  reported  amounts of  revenues  and
expenses  during the reported  period.  The  estimates  involve  judgments  with
respect to, among other things,  various  future  factors which are difficult to
predict and are beyond the control of the Company.  Actual  amounts could differ
from these estimates.

LOSS PER SHARE

     Basic  earnings  (loss) per share is computed by dividing net income (loss)
by the weighted average number of shares of Common Stock outstanding  during the
applicable period. Diluted earnings (loss) per share is computed by dividing net
income (loss) by the weighted  average common and  potentially  dilutive  common
equivalent  shares  outstanding  during the applicable  period.  For each of the
periods  presented,  basic and diluted loss per share are the same. The exercise
of 2,675,597 employee Common Stock options, the exercise of warrants to purchase
1,116,500  shares of Common Stock,  and the  conversion  of 5,470,595  shares of
Series A, B and C convertible  preferred stock into 15,864,715  shares of Common
Stock as of December 31, 1999, which could potentially dilute basic earnings per
share in the future,  were not included in the  computation  of diluted loss per
share for the periods presented because to do so would have been antidilutive in
each case.

FAIR VALUE OF FINANCIAL INSTRUMENTS

     The Company  believes that the carrying  amount of certain of its financial
instruments,  which include cash equivalents and accounts  payable,  approximate
fair value due to the  relatively  short  maturity of these  instruments.  As of
December  31,  1999,  the fair value of the  Company's  12 1/4% Senior Notes was
approximately $220.5 million.

CASH EQUIVALENTS

     The  Company  considers  all highly  liquid  instruments  with an  original
maturity of three months or less to be cash equivalents.

CONCENTRATION OF CREDIT RISK

     Financial   instruments   which   potentially   subject   the   Company  to
concentrations of credit risk consist of cash and cash  equivalents,  marketable
securities and associated interest receivable,  note receivable,  and restricted
cash.  Marketable  securities and associated  interest  receivable  include U.S.
Treasury   securities  and  debt   securities  of  U.S.   Government   agencies,

                                     F- 9
<PAGE>

                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

certificates of deposit and money market funds,  and corporate debt  securities.
The  Company  has  invested  its  excess  cash in a  money  market  fund  with a
commercial  bank.  The money  market fund is  collateralized  by the  underlying
assets of the fund.  The  Company's  restricted  cash is maintained in an escrow
account (see note 7) at a major bank. The Company has not experienced any losses
on its cash and cash equivalents and restricted cash.

MARKETABLE SECURITIES

     Management determines the appropriate  classification of its investments in
marketable   securities   at  the  time  of  purchase   and   reevaluates   such
determinations  at each balance sheet date.  Debt  securities  are classified as
held to maturity  when the Company has the  positive  intent and ability to hold
the  securities to maturity.  The Company has classified  certain  securities as
held to maturity pursuant to a pledge agreement. Held to maturity securities are
stated at amortized  cost.  Debt  securities for which the Company does not have
the intent or ability to hold to maturity are  classified as available for sale,
along with any  investments in equity  securities.  Securities are classified as
current or noncurrent based on the maturity date.  Securities available for sale
are carried at fair value  based on quoted  market  prices at the balance  sheet
date,  with unrealized  gains and losses  reported as part of accumulated  other
comprehensive income (loss).

     The  amortized  cost of debt  securities  is adjusted for  amortization  of
premiums and accretion of discounts to maturity.  Such amortization and interest
are  included  in  interest  income or  expense.  Realized  gains and losses are
included  in other  income  (expense),  net in the  consolidated  statements  of
operations.  The cost of securities sold is based on the specific identification
method. The Company's  investments in debt and equity securities are diversified
among high credit quality securities in accordance with the Company's investment
policy.

PROPERTY AND EQUIPMENT

     Property and equipment,  consisting of network in progress,  communications
network,  office and computer  equipment,  furniture  and fixtures and leasehold
improvements,  is stated at cost.  Network in  progress  costs  incurred  during
development, including interest, are capitalized.  Depreciation of the completed
communications  network  commences  when the network  equipment is ready for its
intended  use and is computed  using the  straight-line  method  with  estimated
useful  lives  of  network  assets  ranging   between  three  to  twenty  years.
Depreciation of the office and computer  equipment and furniture and fixtures is
computed  using the  straight-line  method,  generally over three to five years,
based upon estimated useful lives,  commencing when the assets are available for
service.  Leasehold  improvements  are  amortized  over the lesser of the useful
lives of the assets or the lease term.  Expenditures for maintenance and repairs
are expensed as incurred.  When assets are retired or disposed, the cost and the
related  accumulated  depreciation  are  removed  from  the  accounts,  and  any
resulting gain or loss is recognized in operations for the period.

IMPAIRMENT OF LONG-LIVED ASSETS

     The Company  periodically  evaluates the  recoverability  of its long-lived
assets.  This  evaluation  consists of a comparison of the carrying value of the
assets with the assets'  expected  future cash flows,  undiscounted  and without
interest costs.  Estimates of expected future cash flows represent  management's
best estimate based on reasonable and supportable  assumptions and  projections.
If the expected future cash flow,  undiscounted  and without  interest  charges,
exceeds the carrying value of the asset, no impairment is recognized. Impairment
losses are measured as the  difference  between the carrying value of long-lived

                                      F - 10
<PAGE>

                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

assets and their fair value.

DEFERRED INCOME TAXES

     The Company  uses the  liability  method of  accounting  for income  taxes.
Deferred income taxes result from temporary differences between the tax bases of
assets and liabilities and their financial  reporting  amounts at each year-end,
based on enacted laws and statutory tax rates applicable to the periods in which
the differences are expected to affect taxable income.  Valuation allowances are
established  when  necessary,  to reduce net  deferred  tax assets to the amount
expected  to be  realized.  The  provision  for  income  taxes  consists  of the
Company's current provision for federal and state income taxes and the change in
the Company's net deferred tax assets and liabilities during the period.

REVENUE RECOGNITION

     The Company earns revenue from the sale of telecommunications  capacity and
for  project  management  and  consulting  services.  Revenue  from  the sale of
telecommunications  capacity is earned when the service is provided. Revenue for
project  management  and  consulting  services  is  recognized  over the related
project  period as milestones  are  achieved.  The Company  defers  revenue when
contractual payments are received in advance of the performance of services.

     Revenue  from  the sale of  telecommunications  capacity  includes  revenue
earned  under  indefeasible  right to use  agreements.  The  Company  recognizes
revenue earned under such agreements on a straight-line basis over their term.

DEFERRED FINANCING COSTS

     The Company has incurred  costs related to the Debt Offering  together with
costs associated with obtaining future debt financing  arrangements.  Such costs
are amortized over the term of the debt or financing arrangement other than when
financing  has not  been  obtained,  in  which  case,  the  costs  are  expensed
immediately.

SEGMENT REPORTING

     In June 1997, the Financial  Accounting Standards Board issued SFAS No.131,
"Disclosures About Segments of an Enterprise and Related  Information"(SFAS  No.
131). SFAS No. 131 changes the way public companies  report segment  information
in annual  financial  statements  and also  requires  those  companies to report
selected segment  information in interim financial  reports to stockholders.  It
also establishes  standards for related disclosures about products and services,
geographic areas, and major customers. Management believes the Company's current
operations comprise only one segment, the sale of  telecommunications  capacity,
and as such,  adoption of SFAS No. 131 does not impact the  disclosures  made in
the Company's financial statements.

3.       MARKETABLE SECURITIES

     The Company's  marketable  securities are considered  "available for sale,"
and, as such, are stated at market value. The net unrealized gains and losses on
marketable  securities are reported as part of accumulated  other  comprehensive
income (loss).  Realized gains or losses from the sale of marketable  securities
are based on the specific identification method.

                                      F - 11
<PAGE>


                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

     The following is a summary of the  investments in marketable  securities at
December 31, 1999:
<TABLE>
<CAPTION>

                                                                              GROSS UNREALIZED
                                                         COST               GAINS        LOSSES             MARKET VALUE
                                                         ----               -----        ------             ------------
  <S>                                               <C>                 <C>          <C>            <C>
  Available for sale securities:
    U.S. Treasury securities and debt securities
      of U.S. Government agencies                    $       19,363,417 $        --  $     59,490   $       19,303,927
    Corporate debt securities                                26,959,695       8,800        30,088           26,938,407
    Debt Securities issued by foreign
      governments                                             1,507,422        --           9,462            1,497,960
                                                     ------------------ -----------  ------------   ------------------
                                                     $       47,830,534 $     8,800  $     99,040   $       47,740,294
                                                     ================== ===========  ============   ==================
</TABLE>

     Gross  realized  gains on  sales of  available  for  sale  securities  were
approximately  $158,000 during the year ended December 31, 1999.  Gross realized
gains and gross realized  losses on sales of available for sale  securities were
immaterial during the year ended December 31, 1998.

     The  amortized  cost and market value of available  for sale  securities by
contractual maturity at December 31, 1999 is as follows:

                                                  COST        MARKET VALUE
   Due in one year or less                $   42,688,416      $ 42,651,835
   Due after one year through two years        5,142,118         5,088,459
                                          --------------      ------------
                                          $   47,830,534      $ 47,740,294
                                          ==============      ============

     Expected  maturities  may differ from  contractual  maturities  because the
issuers  of the  securities  may have the  right to prepay  obligations  without
prepayment penalties.

     In addition to  marketable  securities,  the  Company  has  investments  in
pledged  marketable  securities  that are pledged as collateral for repayment of
interest on the  Company's  Senior Notes through April 2000 (see note 8) and are
classified  as  non-current  assets on the  consolidated  balance  sheet.  As of
December 31, 1999,  pledged  marketable  securities  consisted of U.S.  Treasury
securities   classified  as  held  to  maturity   with  an  amortized   cost  of
approximately   $20.8  million,   interest   receivable  on  pledged  marketable
securities  of   approximately   $356,000  and  cash  and  cash  equivalents  of
approximately $112,000. All of the investments contractually mature by March 31,
2000.

4.       NOTE RECEIVABLE

     In 1998,  under  the terms of a  promissory  note  with an  incumbent,  the
Company  agreed to  advance up to $10.0  million  principal  for the  purpose of
funding the  incumbent's  equipment  expenditures  under a Fixed Point Microwave
Services  agreement.  Equipment  expenditures  initially incurred by the Company
were recharged at cost to the incumbent as principal under the promissory  note.
The principal amount of the promissory note was paid during 1999.

                                       F - 12
<PAGE>


                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

5.       PROPERTY AND EQUIPMENT

     Property and  equipment,  stated at cost,  is comprised of the following at
December 31, 1999 and 1998:

                                               1999                   1998
                                         -----------------         ---------

     Network in progress                 $      63,123,322      $    38,669,088
     Communications network                     71,604,029            6,890,686
     Office and computer equipment               2,262,935            2,267,647
     Furniture and fixtures                      1,555,771              766,013
     Leasehold improvements                        337,181              166,733
                                          ----------------      ---------------
                                               138,883,238           48,760,167
     Less: accumulated depreciation             (6,954,873)            (788,831)
                                        ------------------      ---------------
     Property and equipment, net         $     131,928,365      $    47,971,336
                                        ==================      ===============

     Network in  progress  includes  (i) all  direct  material  and labor  costs
together  with  related  allocable   interest  costs,   necessary  to  construct
components of a high capacity digital wireless and fiber optic network, and (ii)
network related  inventory parts and equipment.  The network in progress balance
as of December 31, 1999 includes  approximately $36.8 million for costs incurred
under the  Company's  agreement  with WFI to  construct  a digital  fiber  optic
network and $2.7  million for a right of use under an  agreement  with  Northern
Border  Pipeline for  microwave  access.  When a portion of the network has been
completed and made available for use by the Company,  the accumulated  costs are
transferred from network in progress to communications network and depreciated.

6.       DEFERRED FINANCING COSTS

     During 1998, the Company  incurred  total  issuance costs of  approximately
$11.3 million in connection with the Debt Offering.  For the year ended December
31, 1999 and 1998,  amortization of the costs of approximately  $1.1 million and
$843,000 was charged to interest expense, respectively.

7.       RESTRICTED CASH

     Restricted  cash  comprises  amounts  held in escrow to  collateralize  the
Company's obligations under certain of its development agreements.  The funds in
each escrow  account are available only to fund the projects to which the escrow
is related.  Generally,  funds are released  from escrow to pay project costs as
incurred.  During  the year ended  December  31,  1999,  the  Company  deposited
approximately $13.4 million in escrow and $7.7 million was released from escrow.
During the year ended  December 31, 1998,  the Company  deposited  approximately
$10.3 million in escrow and no funds were released from escrow.

8.       LONG-TERM DEBT

     During  1998,  the  Company  completed  the Debt  Offering  for total gross
proceeds of $350.0  million less total  issuance  costs of  approximately  $11.3
million.  Upon issuance,  approximately $345.9 million of the gross proceeds was
allocated to the Senior Notes and  approximately  $4.1 million was  allocated to
the Warrants based upon estimated fair values.  The Warrants expire on April 15,

                                       F - 13
<PAGE>

                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)


2008.  The  estimated  value  attributed  to the Warrants has been recorded as a
discount  on the face  value  of the  Senior  Notes  and as  additional  paid-in
capital.  This discount is amortized as an increase to interest  expense and the
carrying value of the debt over the related term using the interest method.  The
Company has  recorded  approximately  $410,000  and  $307,000 of expense for the
years  ended  December  31,  1999  and  1998,   respectively,   related  to  the
amortization of this discount. Interest on the Senior Notes accrues at an annual
rate of 12 1/4 %, payable semiannually,  in arrears, beginning October 15, 1998,
with  principal due in full on April 15, 2008.  For the years ended December 31,
1999 and 1998,  interest on the Senior Notes was approximately $42.9 million and
$31.3 million,  respectively,  of which approximately $3.6 million and $362,000,
respectively,  was  capitalized as network under  development.  The Company used
approximately  $81.1  million of the  proceeds  related to the Debt  Offering to
purchase U.S.  Government debt  securities,  which are restricted and pledged as
collateral  for  repayment of all interest due on the Senior Notes through April
15, 2000. The Senior Notes are  redeemable,  in whole or part, at any time on or
after April 15, 2003 at the option of the Company,  at the following  redemption
prices plus accrued and unpaid  interest (i) on or after April 15, 2003; 106% of
the  principal  amount,  (ii) on or after April 15, 2004;  104% of the principal
amount,  (iii) on or after April 15, 2005; 102% of the principal amount and (iv)
on or after April 15, 2006; 100% of the principal  amount.  In addition,  at any
time prior to April 15, 2001, the Company may redeem within sixty days, with the
net cash  proceeds  of one or more  public  equity  offerings,  up to 35% of the
aggregate  principal  amount of the Senior Notes at a redemption  price equal to
112.25% of the principal  amount plus accrued and unpaid interest  provided that
at least  65% of the  original  principal  amount  of the  Senior  Notes  remain
outstanding.  Upon a change in control,  as  defined,  each holder of the Senior
Notes may require the Company to  repurchase  all or a portion of such  holder's
Senior Notes at a purchase  price of cash equal to 101% of the principal  amount
plus accrued and unpaid interest and liquidated damages if any.

     The Senior Notes contain certain covenants which restrict the activities of
the  Company  including   limitations  of  indebtedness,   restricted  payments,
issuances and sales of capital stock, affiliate transactions, liens, guarantees,
sale of assets and dividends.

9.       CAPITAL STOCK TRANSACTIONS

COMMON STOCK

     The initial  capitalization  of the Company,  on August 25, 1995,  occurred
through the issuance by the Company of 1,450,000  shares of voting  common stock
and 1,450,000 shares of non-voting common stock.

     On May 8,  1998,  the  Company  filed a  Registration  Statement  with  the
Securities  and Exchange  Commission  for an initial  public  offering of common
stock (Initial Public Offering). The Company's susequently postponed the Initial
Public Offering. In relation to the postponement of the Initial Public Offering,
the  Company  wrote off  approximately  $1.4  million  in  expenses,  consisting
primarily of legal and  accounting  fees,  printing  costs,  and  Securities and
Exchange  Commission  and  Nasdaq  Stock  Market  fees.  On July 24,  1998,  the
Company's  stockholders  approved a 2.9-for-1  stock split which was effected on
August 3, 1998,  the record date.  All share  information  has been adjusted for
this stock split for all periods presented.

                                       F - 14
<PAGE>


                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

PREFERRED STOCK

     As part of its  initial  capitalization  on August 25,  1995,  the  Company
initiated  a private  offering  of  1,000,000  shares  of  Series A  convertible
preferred  stock for  $1,000,000.  Pursuant to the terms of the  Investment  and
Stockholders' Agreement by and among the Company and certain stockholders of the
Company  (Investment and  Stockholders'  Agreement),  the offering closed in two
phases of $500,000 each. As of the signing of the  Investment and  Stockholders'
Agreement, the Company received $500,000, representing the first closing on this
offering in 1995. In addition,  the offering  provided for a convertible  bridge
loan in the amount of  $1,000,000.  The bridge loan carried an interest  rate of
12% per annum and was due and  payable  in full on the  earlier  to occur of the
anniversary  date  of the  bridge  loan  issuance  or the  closing  date  of the
Company's  next equity  financing.  The bridge loan was converted  into Series B
preferred stock at 73% of the price of the Series B convertible  preferred stock
issued in the next equity financing.

     In February 1996, the Company issued 500,000 shares of Series A convertible
preferred stock to the original investors in exchange for $500,000, representing
the second closing under the Investment and Stockholders'  Agreement.  In August
1996, the Company drew $700,000 on a bridge loan with the original investors.

     On December 23, 1996, the Company consummated a private offering of 609,756
shares of Series B  convertible  preferred  stock for  $2,000,000  less issuance
costs of $25,000  pursuant to the Investment  and  Stockholders'  Agreement.  In
addition,  simultaneously,  the  $700,000  bridge  loan plus  $33,367 of accrued
interest was converted  into 306,242  shares of Series B  convertible  preferred
stock.  The Company  recognized  $271,107 of interest expense to account for the
beneficial  conversion  feature  of  the  bridge  loan.  In  addition,  $300,000
representing  the committed but undrawn  portion of the bridge loan, was paid to
the Company  for the sale of 125,292  shares of Series B  convertible  preferred
stock at a discounted rate. The Company recognized  $110,883 of interest expense
to account for the  beneficial  conversion  feature of the committed but undrawn
bridge loan.  On June 18, 1997,  pursuant to the  Investment  and  Stockholders'
Agreement,  the Company received an additional $2,000,000 in a second closing in
exchange for 609,756 shares of Series B convertible  preferred stock. There were
no issuance costs associated with the second closing.

     On  October  31,  1997,   pursuant  to  the  Investment  and  Stockholders'
Agreement,  the Company  consummated  a private  offering  of 939,850  shares of
Series C  convertible  preferred  stock  for  approximately  $10  million,  less
issuance  costs of $38,780.  On April 8, 1998,  pursuant to the  Investment  and
Stockholders'  Agreement,  the Company consummated a second closing of 1,879,699
shares of Series C convertible  preferred stock for an aggregate  purchase price
of approximately $20.0 million. There were no issuance costs associated with the
second closing.

     Each share of Series A, Series B and Series C convertible  preferred  stock
entitles  each  holder to a number of votes  per  share  equal to the  number of
shares of Common  Stock into which each share of Series A, Series B and Series C
convertible preferred stock is currently convertible.

     The  holders of the Series A, Series B and Series C  convertible  preferred
stock are entitled to receive dividends in preference to and at the same rate as
dividends  are paid  with  respect  to the  common  stock.  In the  event of any
liquidation,  dissolution  or winding up of the  Company,  whether  voluntary or
involuntary,  holders  of  each  share  of  Series  A,  Series  B and  Series  C
convertible  preferred  stock  outstanding  are  entitled  to be paid before any
payment  shall be made to the holders of any class of common  stock or any stock

                                       F - 15
<PAGE>

                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

ranking on liquidation junior to the convertible  preferred stock, an amount, in
cash, equal to the original purchase price paid by such holder plus any declared
but unpaid dividends.

     In the event the assets of the Company are  insufficient to pay liquidation
preference  amounts,  then all of the assets available for distribution shall be
distributed  pro rata so that each holder  receives  that  portion of the assets
available  for  distribution  as the number of shares of  convertible  preferred
stock held by such  holder  bears to the total  number of shares of  convertible
preferred stock then outstanding.

     Shares of the Series A, Series B, and Series C convertible  preferred stock
may be converted at any time,  at the option of the holder,  into voting  common
stock.  The number of shares of voting common stock entitled upon  conversion is
the  quotient  obtained by dividing the face value of the Series A, Series B and
Series C convertible  preferred stock by the Applicable Conversion Rate, defined
as the  Applicable  Conversion  Value  of  $0.34,  $1.13  or  $3.67  per  share,
respectively.

     Each share of convertible  preferred stock shall automatically be converted
into the  number  of shares  of  voting  common  stock  which  such  shares  are
convertible upon application of the Applicable  Conversion Rate immediately upon
the closing of a qualified  underwritten  public offering covering the offer and
sale of  capital  stock  which is  defined  as:  (i) the  Company is valued on a
pre-money basis at greater than $50,000,000, (ii) the gross proceeds received by
the  Company  exceed  $20,000,000,  and  (iii)  the  Company  uses a  nationally
recognized  underwriter approved by holders of a majority interest of the Series
A, Series B and Series C convertible preferred stock voting together.

     If the Company issues any additional shares of common stock of any class at
a price less than the Applicable  Conversion  Value, in effect for the Series A,
Series B or  Series C  convertible  preferred  stock  immediately  prior to such
issuance  or sale,  then  the  Applicable  Conversion  Value  shall be  adjusted
accordingly.

     In the event a qualified public offering has not occurred prior to December
23,  2000,  the  holder of shares  of Series A or Series B  preferred  stock can
require  the  Company to redeem the shares of Series A and Series B  convertible
preferred  stock.  After  receipt from any one holder of an election to have any
shares  redeemed,  the  Company is required to send a notice to the Series A and
Series B preferred stockholders on December 24, 2000 of the redemption price. If
after  sending  the  redemption  notice  to  Series  A and  Series  B  preferred
stockholders,  the  Company  receives  requests  for  redemption  on or prior to
January 11, 2001,  from the holders of at least 67% of the Series A and Series B
convertible  preferred stock taken together,  the Company must redeem all shares
of Series A and Series B convertible  preferred stock. Payment of the redemption
price is due on  January  23,  2001,  for a cash  price  equal  to the  original
purchase  price  paid by such  holders  for each  share of Series A and Series B
convertible  preferred stock as adjusted for any stock split, stock distribution
or stock dividends with respect to such shares.  The successful  completion of a
qualified  public offering is not within the control of the Company.  Therefore,
the Company  does not  present  the Series A and Series B  preferred  stock as a
component of stockholders' equity.

     In the event that a qualified  public  offering has not  occurred  prior to
November 3, 2001,  the holder of shares of Series C preferred  stock can require
the Company to redeem the shares of Series C convertible  preferred stock. After
receipt  from any one holder of an  election  to have any shares  redeemed,  the
Company is required to send a notice to the Series C preferred  stockholders  on

                                       F - 16
<PAGE>

                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

November 4, 2001 of the redemption price. If after sending the redemption notice
to Series C preferred stockholders, the Company receives requests for redemption
on or prior to November 21, 2001, from the holders of at least 67% of the Series
C convertible  preferred  stock,  the Company must redeem all shares of Series C
convertible  preferred stock. Payment of the redemption price is due on December
3, 2001 for a cash  price  equal to the  original  purchase  price  paid by such
holders for each share of Series C convertible  preferred  stock as adjusted for
any stock split,  stock  distribution  or stock  dividends  with respect to such
shares.  The successful  completion of a qualified public offering is not within
the control of the Company. Therefore, the Company does not present the Series C
preferred stock as a component of stockholders' equity.

     Notwithstanding  the provisions for optional  redemption  described  above,
pursuant to a Consent  Waiver and Amendment  effective  March 24, 1998 among the
Company and certain  stockholders  of the Company,  the holders of the Series A,
Series B and  Series C  convertible  preferred  stock  agreed  that no  optional
redemption of the Series A, Series B or Series C convertible preferred stock may
be made by the Company  prior to 90 days after (i) the final  maturity  dated of
the Senior Notes (ii) or such earlier date (after the redemption  date specified
for such preferred stock) as the Senior Notes shall be paid in full.

10.      STOCK OPTIONS

     On August 25,  1995,  the Company  adopted the 1995 Stock Option Plan (1995
Plan), under which incentive stock options and non-qualified stock options could
be granted to the Company's  employees and certain other persons and entities in
accordance  with law. The  Compensation  Committee,  which  administers the 1995
Plan,  determined  the number of options  granted,  the  vesting  period and the
exercise  price of each  award  made  under  the 1995  Plan.  The 1995 Plan will
terminate August 28, 2005 unless  terminated  earlier by the Board of Directors.
During 1998, the Compensation  Committee determined that no further awards would
be granted under the 1995 Plan.

     Options  granted  to date under the 1995 Plan  generally  vest over a three
year period and expire  either 30 days after  termination  of  employment  or 10
years  after  date  of  grant.  As of  December  31,  1999,  a total  of  70,731
non-qualified  stock options and 353,662 incentive stock options were issued and
outstanding  at an exercise  price of $0.03 per share,  an amount  estimated  to
equal or exceed  the per share  fair  value of the  common  stock at the time of
grant. As of December 31, 1999, the options issued at an exercise price of $0.03
had a weighted  average  contractual life of 5.7 years. As of December 31, 1999,
424,393 of the options issued at an exercise price of $0.03 were exercisable.

     On August 1, 1997, the Company  adopted the 1997 Stock Incentive Plan (1997
Plan), under which incentive stock options,  non-qualified stock options,  stock
appreciation  rights,  restricted  stock,  performance  awards and certain other
types of awards may be granted to the  Company's  employees  and  certain  other
persons and entities in  accordance  with the law. To date,  only  non-qualified
stock options have been granted under the 1997 Plan. The Compensation Committee,
which administers the 1997 Plan,  determines the number of options granted,  the
vesting period and the exercise price of each award granted under the 1997 Plan.
The 1997 Plan will  terminate  July 31, 2007 unless  earlier  terminated  by the
Board of Directors.

     Options  granted under the 1997 Plan  generally  vest over a three to seven
year  period and expire:  (1) ten years  after the date of grant,  (2) two years
after the date of the  participant's  termination  without cause,  disability or


                                       F - 17
<PAGE>

                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

death, (3) three months after the date of the participant's resignation,  (4) on
the date of the  participant's  termination with cause or (5) on the date of any
material breach of any confidentiality or non-competition  covenant or agreement
entered into between the participant and the Company.

     The options issued on October 31, 1997, at $3.67,  vest on October 31, 2004
provided,  however (i) if the  Company  has met 80% of its revenue and  Earnings
Before Interest,  Taxes,  Depreciation and Amortization  (EBITDA) budget for the
calendar year ended December 31, 1998,  which budget is approved by the Board of
Directors of the Company,  50% of the shares  covered by the options  shall vest
and become  exercisable  on January 1, 1999,  (ii) if the Company has met 80% of
its revenue and EBITDA  budget for the  calendar  year ended  December 31, 1999,
which budget is approved by the Board of Directors of the Company, the remaining
50% of the shares  covered by the options shall vest and become  exercisable  on
January 1, 2000, and (iii) in the event that the first 50% of the shares covered
by the options did not vest on January 1, 1999 as set forth in (i) above and the
Company not only meets 80% of its  revenue and EBITDA  budget for the year ended
December 31, 1999 but exceeds 80% of its revenue and EBITDA  budget for the year
ended  December 31, 1999,  which budget is approved by the Board of Directors of
the Company,  in an amount at least equal to the deficiency that occurred in the
year ended  December 31, 1998,  100% of the shares  covered by the options shall
vest and become exercisable on January 1, 2000. Unvested and uncancelled options
issued at $3.67 immediately become fully vested and exercisable upon a change of
control or a qualified public offering,  as defined in the option agreement.  In
an agreement  dated  November 4, 1999,  107,389  options  became fully vested at
$3.67 per share and the remaining options were cancelled.

     The options  issued at $1.13 vest  ratably  over three or four  consecutive
years  subject to certain  acceleration  provisions  set forth in an  employment
agreement such as the immediate  vesting upon a change in control or a qualified
initial public offering. Under certain circumstances and subject to the terms of
the  Senior  Notes,  upon the  election  of the  employee  upon  termination  of
employment,  the Company  will be required to pay the employee the fair value of
the vested options held on the date of such termination.

     As of December 31, 1999,  a total of 2,251,204  non-qualified  options were
issued  and  outstanding,  1,119,957  at an  exercise  price of $1.13 per share,
197,110 at an exercise price of $3.67 per share and 934,137 at an exercise price
of $5.20 per share.  As of December 31,  1999, a total of 976,785  non-qualified
options  were  exercisable,  761,921  at an  exercise  price of $1.13 per share,
129,818 at an exercise  price of $3.67 per share and 85,046 at an exercise price
of $5.20 per share.  As of December 31, 1999, the weighted  average  contractual
life of the options issued at $1.13, $3.67 and $5.20 was 7.7, 8.1 and 9.2 years,
respectively.

     During  the year ended  December  31,  1998,  667,373,  89,721 and  350,000
options  were issued at an exercise  price of $1.13,  $3.67 and $5.20 per share,
respectively.  The estimated fair value of the Company's underlying common stock
in  each  case  was  determined  to  be  $1.99,  $16.00  and  $5.20  per  share,
respectively.  Accordingly, the Company calculated deferred compensation expense
of  approximately  $1.7 million  related to these  options to be  recognized  as
compensation  expense  over  their  vesting  period.  The  compensation  expense
recognized  during the years ended December 31, 1999 and 1998 was  approximately
$536,000 and $701,000, respectively.

     During the year ended December 31, 1999,  726,450 options were issued at an
exercise price of $5.20 per share  representing  the estimated fair value of the
Company's underlying common stock.



                                       F - 18
<PAGE>

                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)


          Stock option activity was as follows:

 <TABLE>
<CAPTION>
                                                        1995 PLAN                       1997 PLAN
                                             -----------------------------------   ----------------
                                                              NON-                   NON-                     WEIGHTED
                                               INCENTIVE    QUALIFIED             QUALIFIED                    AVERAGE
                                                 STOCK       STOCK                  STOCK                      EXERCISE
                                                OPTIONS     OPTIONS      PRICE     OPTIONS         PRICE        PRICE
                                                -------     -------      -----     -------         -----        -----

    <S>                                          <C>          <C>     <C>          <C>          <C>            <C>
    Options outstanding, December 31, 1996       424,395      77,805  $   0.034           --          --       $  0.034
    Granted                                           --          --         --    1,289,167    $1.13-$3.67    $  1.980
    Exercised                                         --          --         --           --          --           --
    Canceled                                          --          --         --           --          --           --
                                                 -------     --------              ---------
    Options outstanding, December 31, 1997       424,395      77,805     $0.034    1,289,167    $1.13-$3.67    $  1.430

    Options granted                                   --          --         --    1,107,094    $1.13-$5.20    $  2.622
    Options exercised                                 --      (2,358)    $0.034           --            --          --
    Options cancelled                                 --      (4,716)    $0.034       (5,554)   $1.13-$5.20    $  3.145
                                                 -------     -------               ---------
     Options outstanding at December 31, 1998     424,395     70,731     $0.034    2,390,707    $1.13-$5.20    $  1.888

    Options granted                                   --          --         --      726,450       $5.20       $ 5.2000
    Options exercised                            (70,733)         --     $0.034      (95,127)   $0.03-$1.13    $ 0.6609
    Options cancelled                                 --          --         --     (770,826)   $1.13-$5.20    $2.9313
                                                 -------    --------               ---------
    Options outstanding at December 31, 1999     353,662      70,731     $0.034    2,251,204    $1.13-$5.20     $2.5636
                                                 =======    ========               =========
</TABLE>

     The Company  measures  compensation  expense for its  employee  stock-based
compensation using the intrinsic value method and provides pro forma disclosures
of  net  loss  as if the  fair  value  method  had  been  applied  in  measuring
compensation  expense.  Under  the  intrinsic  value  method of  accounting  for
stock-based  compensation,  when  the  exercise  price  of  options  granted  to
employees  is less than the fair  value of the  underlying  stock on the date of
grant,  compensation  expense is to be recognized  over the  applicable  vesting
period.


                                                YEAR ENDED DECEMBER 31,
                                             1997        1998          1999
                                             ----        ----          ----

      Net loss as reported              $59,036,312   $36,296,596   $3,977,400
      Pro forma net loss                $59,222,962   $36,859,594   $3,978,164
      Basic and diluted net loss per
          share as reported.                $(20.14)      $(12.51)      $(1.37)
      Pro forma basic and diluted net
          loss per share                    $(20.20)      $(12.70)      $(1.37)

     The fair value of each  option is  estimated  on the date of grant  using a
type of Black-Scholes  option pricing model with the following  weighted-average
assumptions  used for grants during the years ended  December 31, 1998 and 1997,
respectively:  dividend  yield  of 0%,  expected  volatility  of  0%,  risk-free
interest rate of 5.18 % and 6.55% and expected  terms of 5.5 and 5.0 years.  The
following  weighted  average  assumptions  were used for grants  during the year
ended  December 31,  1999:  dividend  yield of 0%,  expected  volatility  of 0%,
risk-free interest rate of 5.16% and expected terms of 5.8 years.

                                       F - 19
<PAGE>


                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

     As  of  December  31,  1999  and  1998,  the  weighted  average   remaining
contractual life of the options is 7.9 years and 8.6 years, respectively.

11.      VENDOR AGREEMENTS

     Pursuant  to a Master  Agreement  entered  into by the  Company  and NEC on
August 8, 1997, as amended,  the Company has the option to acquire, by March 31,
2003, a total of $200 million worth of certain equipment,  services and licensed
software  to be used by the  Company in its  network  under  pricing and payment
terms that the Company  believes are  favorable.  In  addition,  NEC has agreed,
subject to certain  conditions,  to warranty equipment  purchased by the Company
from NEC for three years, if defective,  to repair or replace certain  equipment
promptly and to maintain a stock of critical spare parts for up to 15 years. The
Company's  agreement  with NEC provides for fixed prices  during the first three
years of its term.  As of December 31,  1999,  the Company had  purchased  $51.9
million of equipment under this agreement.

     Pursuant  to a supply  agreement  entered  into by the  Company  and Lucent
Technologies  (Lucent)  on December  18,  1998,  the Company  agreed that Lucent
should be its exclusive supplier of fiber optic cable for its nationwide,  voice
and data  network.  Lucent may provide  financing  of up to  approximately  $400
million of fiber purchases for the construction of the Company's network and may
provide  or arrange  financing  for  future  phases of the fiber  portion of the
Company's  network.  The  total  amount  of  financing  over  the  life  of this
seven-year  agreement is not to exceed $1.8 billion.  Certain  material terms of
the Company's  transactions with Lucent are currently under review by Lucent and
the Company.  There can be no assurance that the financing  contemplated  by the
supply  agreement will be  consummated  or, if  consummated,  consummated on the
terms and conditions  described above. The supply agreement provides that Lucent
will  provide the Company with a broad level of support,  including  fiber optic
equipment,  network planning and design,  technical and marketing  support,  and
financing.  As of December 31, 1999, no purchases were made by the Company under
this agreement.

12.      COMMITMENTS AND CONTINGENCIES

     The Company maintains office space in Washington,  D.C.,  Virginia,  Kansas
and Texas. The most significant  leases relate to the Company's new headquarters
facilities in Reston Virginia and in Washington, D.C.

     On December 30, 1998,  the Company  entered into a lease  agreement for the
lease of tower site space,  sufficient to perform its obligations  under a fixed
point  microwave  agreement  (FPMA)  with an  incumbent.  Under the terms of the
lease,  the  Company is  obligated  to rent of  $130,000  per month for a period
expiring on the later of (i) the expiration of the FPMA as to that site, or (ii)
ten years from the effective date of the agreement.  The agreement  provides for
an  increase  in the rent  payable  commencing  on  December 1, 1999 and on each
succeeding  year thereafter to December 1, 2008, by an amount equal to 4 percent
of the rent then in effect.

     The Company's future minimum rental payments under noncancellable operating
leases are as follows:

                                       F - 20
<PAGE>


                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

         2000                                  $   3,388,583
         2001                                      3,216,376
         2002                                      3,284,920
         2003                                      3,205,368
         2004 and thereafter                      19,097,648
                                               -------------
         Total                                 $  32,192,895
                                               =============


     Rent  expense  for the years ended  December  31,  1999,  1998 and 1997 was
approximately $821,000, $390,000 and $115,000, respectively.

     The Company earns  microwave  telecommunication  capacity  revenue under an
indefeasible  right of use (IRU)  agreement  dated December 1, 1998, of $137,000
per  month  commencing  December  1998  and  expiring  on the  later  of (i) the
expiration  of the FPMA as to that site,  or (ii) ten years  from the  effective
date of the  agreement.  The IRU agreement  provides for an increase in the rent
receivable commencing on December 1, 1999 and on each succeeding year thereafter
to  December  1,  2008,  by an  amount  equal to 4 percent of the rent  then in
effect.

     As  of  December  31,  1999,   the  Company  had  capital   commitments  of
approximately  $89.9  million  relating to purchases of  telecommunications  and
transmission  equipment and its agreement  with WFI,  Tri-State and CapRock (see
note 14).

     During 1999, the Company entered into a contractual agreement that provided
for  extended  payment  terms  over a  four-year  period  for  the  purchase  of
approximately  $2.7 million in network equipment.  Accordingly,  such amount has
been included in other  noncurrent  liabilities  in the  Company's  consolidated
balance sheet as of December 31, 1999.

     From time to time, the Company is subject to claims arising in the ordinary
course of business. In the opinion of management, no such matter individually or
in the  aggregate,  exists  which is expected  to have a material  effect on the
results of operations, cash flows or financial position of the Company.

13.      INCOME TAXES

     The tax  effect of  temporary  differences  that  give rise to  significant
portions  of the net  deferred  tax asset at December  31, 1999 and 1998,  is as
follows:

<TABLE>
<CAPTION>
                                                                                      DECEMBER 31,
                                                                                   1999           1998
                                                                                   ----           ----
     <S>                                                                   <C>               <C>

     Deferred revenue                                                      $        3,646    $       949
     Capitalized start-up costs                                                 1,005,353      1,370,937
     Capitalized research and development costs                                    48,482          66,111
     Depreciation                                                              (2,844,859)            --
     Net operating loss carryforward                                           40,571,930     15,325,484
     Other timing differences                                                     110,078             --
                                                                           --------------    -----------
                                                                               38,894,630     16,763,481
     Less valuation allowance                                                 (38,894,630)   (16,763,481)
                                                                           --------------    -----------
     Net deferred tax asset                                                $           --    $        --
                                                                           ==============    ===========
</TABLE>

     Capitalized  costs  represent  expenses  incurred in the  organization  and
start-up of the Company. For federal income tax purposes,  these costs are being
amortized over sixty months.

     The  ultimate  realization  of deferred  tax assets is  dependent  upon the
generation  of future  taxable  income in the periods in which  those  temporary
differences  are  deductible.  The  Company has  provided a valuation  allowance

                                       F - 21
<PAGE>


                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

against  its  deferred  tax  assets as they are  long-term  in nature  and their
ultimate realization cannot be determined.

14.      FIBER AGREEMENTS

     In March 1999, the Company entered into a co-development agreement with WFI
for the  design,  engineering  and  construction  by WFI of a  multiple  conduit
fiber-optic  system.  One of the  conduits  will  contain  a fiber  optic  cable
consisting of a specified  number of fiber optic  strands.  The conduits and any
installed  strands will be equally divided between the parties,  and the cost to
construct the route will be shared  equally by the Company and WFI. In addition,
the Company will pay WFI a management fee equal to 10% of the Company's share of
the development  costs.  The total shared  projected costs for the project is in
excess of $100 million. The system will be approximately 1,100 route miles long,
between Aurora,  Colorado (a suburb of Denver) and Chicago,  Illinois. The first
segment,  Chicago,  Illinois to Omaha,  Nebraska,  was  completed  in the fourth
quarter  1999,  and the second  segment,  Omaha to Aurora,  is  scheduled  to be
completed  by the end of the second  quarter  of 2000.  In  connection  with the
co-development  agreement,  the Company entered into a joint marketing agreement
with WFI under  which both WFI and the  Company  will  attempt  to sell  certain
inactive fiber optic strands on the route, and will share the revenues from such
sales.  The joint  marketing  agreement  also permits each party to retain fiber
optic strands for its own use, subject to certain restrictions on resale, and to
swap a certain number of the fiber optic strands to third parties.

     In August 1999, the Company  entered into a  co-development  agreement with
Tri-State and four regional  electric  cooperatives for design,  engineering and
construction  of an aerial  fiber  system,  approximately  420 route miles long,
between  Albuquerque,  New Mexico and Grand  Junction,  Colorado.  This  system,
constructed  on power  transmission  lines,  will contain a specified  number of
fiber optic  strands.  The cost to  construct  the system will be borne  equally
between the Company and the other parties. The total projected combined cost for
this route is approximately $48 million.  In connection with the  co-development
agreement, the Company entered into a joint marketing agreement under which each
party will  reserve a portion of the fiber  strands  for its own  operations,  a
subset of which will be available  for swaps with third  parties,  the remaining
fiber strands will be jointly sold, with the Company as the exclusive  marketing
agent.

     Any revenues  derived  from the sale of those fiber  strands will be shared
equally  between  the  Company  and  Tri-state,  after  deduction  of a  Company
marketing fee. We expect this system to be completed in the second half of 2000.

     In December 1999,  the Company  announced a  co-development  agreement with
CapRock to construct a  multi-conduit,  fiber network between  Albuquerque,  New
Mexico and El Paso,  Texas.  The total projected cost for this 350- mile network
segment  is  approximately  $40  million  with a  scheduled  completion  date of
year-end 2000.

15.      CONTRIBUTION AND REORGANIZATION

     On November 4, 1999, the Company, together with Pathnet  Telecommunications
Inc.  (PTI) a  Delaware  company  formed  on  November  1,  1999,  entered  into
agreements  providing for strategic  investments from Colonial Pipeline Company,
Burlington  Northern and Santa Fe Corporation  and CSX  Corporation to PTI. Upon
the closing of this  transaction,  PTI will  receive  the right to develop  over

                                       F - 22
<PAGE>

                         PATHNET, INC. AND SUBSIDIARIES
                         A DEVELOPMENT STAGE ENTERPRISE
            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (CONTINUED)

12,000 miles of the investors'  rights of way with an estimated  value of $187.0
million in return for 8,511,607  shares of PTI's Series D convertible  preferred
stock.  In addition to providing a portion of the right of way access,  Colonial
Pipeline will pay $68.0 million of cash to PTI comprised of $38.0 million at the
initial  closing for  1,729,631  shares of PTI's Series E  redeemable  preferred
stock, $25.0 million for 1,137,915 shares of PTI's Series E redeemable preferred
stock (upon the  completion  of a fiber  optic  network  segment  build that the
Company expects to complete during the second  calendar  quarter of 2000),  $1.0
million  for the  issuance of an option to  purchase  1,593,082  shares of PTI's
Series E  redeemable  preferred  stock for  $21.97 per share and shares of PTI's
common stock in connection  with an initial public offering and $4.0 million for
rights in 2,200 conduit miles of our future network.  Further,  upon the closing
of this  transaction,  all of the  Company's  common stock will be exchanged for
common stock of PTI resulting in the Company becoming a wholly-owned  subsidiary
of PTI.  In  addition,  all of the  Company's  5,470,595  shares of  mandatorily
redeemable   preferred   stock  will  be  converted  into  15,864,715  of  PTI's
convertible  preferred  stock.  The new investors  collectively  will receive an
approximate   one-third   equity   stake  in  PTI,  as  well  as   proportionate
representation  on the PTI Board of Directors.  As part of this  transaction and
the  reconstitution  of the Pathnet Board,  Dave  Schaeffer,  former Chairman of
Pathnet and an existing director, resigned from the Company's Board of Directors
effective November 4, 1999.

     The terms of the strategic investment  transaction require that consents be
obtained from the holders of a majority of the Company's  existing  Senior Notes
in exchange for a proposed payment of approximately  $8.8 million.  As a result,
on November 22, 1999, PTI filed a preliminary prospectus with the Securities and
Exchange Commission, to offer all holders of the Senior Notes a guarantee of the
obligations of the Company to make interest and principal  payments.  Concurrent
with this offer,  the Company is seeking consents from the holders of the Senior
Notes to the waiver and the amendment of certain provisions of the Indenture. On
February 22, 2000, the Company  expects to file an amendment to its  preliminary
prospectus with the Securities and Exchange  Commission.  The Company expects to
close this transaction  immediately  following  receipt of the required consents
and other required regulatory  approvals.  For the year ended December 31, 1999,
the Company had expensed $1,022,998 of fees related to this transaction.

                                     F - 23