<PAGE>

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                       SECURITIES AND EXCHANGE COMMISSION

                             WASHINGTON, D.C. 20549

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

                                  FORM 10-K/A

                              AMENDMENT NO. 1 TO

                                   (MARK ONE)
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES
                             EXCHANGE ACT OF 1934.

For Fiscal Year Ended: December 31, 1998
OR
[  ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934.

<TABLE>
<S>                                            <C>
FOR THE TRANSITION PERIOD FROM       TO        COMMISSION FILE NUMBER: 0-27580
      .
</TABLE>

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

                           AVTEL COMMUNICATIONS, INC.

                   (Exact Name of Registrant in Its Charter)

<TABLE>
<S>                    <C>
      DELAWARE              87-0378021
   (State or Other       (I.R.S. Employer
   Jurisdiction of      Identification No.)
  Incorporation or
    Organization)

  501 Bath Street,             93101
  Santa Barbara, CA         (Zip Code)
(Address of Principal
 Executive Offices)
</TABLE>

        (Issuer's Telephone Number, Including Area Code) (805) 884-6300

          Securities registered under Section 12(b) of the Act: None.
                           --------------------------

             Securities registered under Section 12(g) of the Act:

                          Common Stock Par Value $0.01

                                (Title of class)
                           --------------------------

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

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

    The aggregate market value of the Registrant's Common Stock held by
non-affiliates of the Registrant was approximately $45,593,193, computed at the
last sale price of such Common Stock on The Nasdaq SmallCap Market as of March
17, 1999.

                    APPLICABLE ONLY TO CORPORATE REGISTRANTS

    As of March 17, 1999, there were 10,539,123 shares of the Registrant's
Common Stock, par value $0.01, issued and outstanding, excluding treasury stock.

                      DOCUMENTS INCORPORATED BY REFERENCE

    The information required by Part III (Items 10, 11, 12 and 13) of Form 10-K
is incorporated by reference to the Registrant's definitive Proxy Statement
relating to its annual meeting of stockholders to be held on or about May 27,
1999, which will be filed with the Commission within 120 days after the end of
the Registrant's fiscal year.

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

<PAGE>

EXPLANATORY NOTE

     AvTel Communications, Inc. hereby amends its Annual Report on Form 10-K
for the year ended December 31, 1998.  This amendment is prompted by the
restatement of AvTel's consolidated financial statements for the year ended
December 31, 1998.  AvTel's net loss for 1998 has been decreased by
$1,325,000, from the previously-reported $7,127,318 ($.74 per share
common--basic and diluted) to $5,802,318 ($.61 per common share--basic and
diluted).

     The restated consolidated financial statements recognize the tax benefit
of carrying back $4,294,000 of the 1998 net operating loss to reduce prior
years' taxable income.  AvTel expects to receive a refund of approximately
$1,325,000 of taxes paid in prior years and has recorded a receivable of that
amount.  The 1998 income tax benefit was increased by a corresponding amount.

     Included in this Form 10-K/A is condensed quarterly operating
information which reflects the effects of utilizing the net operating loss to
offset prior taxes paid.

<PAGE>

ITEM 6.  SELECTED FINANCIAL DATA

    For accounting purposes, the Share Exchange was treated as a reverse
acquisition of AvTel by Matrix. Accordingly, the Company's results of operations
reflect the operations of Matrix prior to December 1, 1997 and reflect the
combined operations of AvTel and Matrix subsequent to December 1, 1997. The
following selected operations data of the Company for the years ended December
31, 1998, 1997, 1996, 1995 and 1994 and balance sheet data as of December 31,
1998, 1997, 1996, 1995 and 1994 have been derived from the Company's (or
Matrix's) audited financial statements. These selected financial data should be
read in conjunction with "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and the consolidated financial statements
and notes thereto included elsewhere herein.

STATEMENT OF OPERATIONS DATA:

<TABLE>
<CAPTION>
                                                               YEARS ENDED DECEMBER 31,
                                      --------------------------------------------------------------------------
                                          1998            1997           1996           1995           1994
                                      -------------  --------------  -------------  -------------  -------------
<S>                                   <C>            <C>             <C>            <C>            <C>
Revenues............................  $  44,013,498  $   51,389,080  $  71,558,295  $  64,289,718  $  59,551,307
Operating income (loss).............     (7,423,753)    (10,757,960)     4,091,034      2,422,393        604,109
Net income (loss)...................     (5,802,318)    (10,191,720)     2,566,734     (2,440,493)       643,200
Net loss per common share
  --basic and diluted...............          (0.61)          (1.23)           N/A            N/A            N/A
Cash dividends per
  common share......................       --              --             --             --             --
</TABLE>

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

N/A--Not applicable

BALANCE SHEET DATA:

<TABLE>
<CAPTION>
                                                                  AS OF DECEMBER 31,
                                       -------------------------------------------------------------------------
                                           1998           1997           1996           1995           1994
                                       -------------  -------------  -------------  -------------  -------------
<S>                                    <C>            <C>            <C>            <C>            <C>
Working capital (deficit)............  $  (1,697,959) $   5,570,657  $   6,066,620  $     206,071  $    (140,741)
Total Assets.........................     15,959,354     18,724,850     20,338,404     17,580,694     14,957,279
Long term borrowings.................      1,112,890       --             --             --             --
Stockholders' Equity.................      4,510,253      7,809,048      7,861,883      3,539,522      2,372,333
</TABLE>

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

Notes to Selected Financial Data

                                       1
<PAGE>
(1) Matrix was originally formed May 29, 1990 as a Texas general partnership.
    The partners consisted of Matrix Communications, Limited ("MCL") a Texas
    limited liability partnership and Onward and Upward, Inc. ("OUI"). Effective
    January 1, 1994, the partnership was dissolved. Prior to the dissolution,
    cash distributions were made to OUI in satisfaction of its partnership
    interest. Concurrent with the dissolution, all remaining tangible and
    intangible assets and liabilities of Matrix then owned by MCL were
    transferred to Matrix Telecom, Inc., a Texas corporation. Effective June 30,
    1995, MCL was liquidated and its sole asset (Matrix capital stock) was
    distributed to MCL's partners in proportion to their ownership interests.

(2) Matrix's original stock issuance consisted of 100 common shares. Effective
    December 31, 1994, a 10 for 1 stock split was declared. Concurrent with the
    dissolution of MCL on June 30, 1995, Matrix's then outstanding 1,000 shares
    of common stock were canceled and 100,000 shares were distributed to the
    prior MCL partners in proportion to the ownership interest in MCL. Effective
    March 10, 1997, an 18 for 1 stock split was declared resulting in 3,484,260
    shares being then outstanding. On December 1, 1997, the Company effected the
    Reverse Stock Split as part of the Reincorporation Merger, and then acquired
    Matrix through the issuance of 9,582,493 shares of Common Stock (including
    1,999,997 shares held as treasury stock after the Share Exchange which have
    subsequently been cancelled). All share amounts have been restated to
    reflect the stock splits and share exchanges.

(3) In October 1995, Matrix issued 2,405,499 shares of its common stock valued
    at $3,607,682 in exchange for all of the outstanding common stock of DNS
    Communications, Inc., a Houston based long distance reseller. Subsequent to
    the acquisition, the operations of DNS generated substantial losses. DNS's
    customer churn rate and bad debts as well as projected cash flows were
    evaluated as of December 31, 1995, and it was determined that the remaining
    investment in the DNS acquired customer base totaling approximately
    $4,462,000 should be written off.

(4) Per share amounts are not reflected for 1996, 1995 and 1994 due to the
    recapitalization of the Company as a result of the reverse acquisition in
    1997.

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

                                   BACKGROUND

    The following information should be read in connection with the consolidated
financial statements of the Company and related notes included elsewhere in this
report.

SHARE EXCHANGE

    As described above under "Business--Background--Acquisition of Matrix," on
December 1, 1997, AvTel and Matrix completed the Share Exchange. For accounting
purposes, the Share Exchange was treated as a reverse acquisition of AvTel by
Matrix. AvTel was the legal acquirer and accordingly, the Share Exchange was
effected by the issuance of AvTel Common Stock in exchange for all of the common
stock then outstanding of Matrix. In addition, holders of Matrix outstanding
stock options received non-qualified stock options of AvTel. The following
discussion of results of operations reflects the operations of Matrix prior to
December 1, 1997 and reflects the combined operations of AvTel and Matrix
subsequent to December 1, 1997. Accordingly, references to the Company refer to
operations of Matrix prior to the Share Exchange and the combined operations of
Matrix and AvTel subsequent to the Share Exchange.

    The reverse acquisition of AvTel by Matrix was accounted for using the
purchase method of accounting. In order to value the consideration given in the
Share Exchange, the market price of AvTel's Common Stock for a period
immediately preceding the announcement of the Share Exchange was used. As of the
date of acquisition, the Company determined the fair value of the net tangible
and intangible assets and liabilities acquired. The underlying fair value of
AvTel's net assets was substantially less than the indicated market value of
AvTel's common and preferred stock. Accordingly, the Company recorded a charge
to income of $9.1 million immediately subsequent to the reverse acquisition.

                                       2
<PAGE>
ACQUISITION OF NEW BEST CONNECTIONS, INC.

    Effective July 1, 1997, Matrix acquired New Best Connections, Inc., a Texas
corporation ("Best"), an affiliate of Matrix through substantially similar
common ownership, by means of a share-for-share exchange. Best's primary assets
were cash of $211,000, ownership of shares of Matrix common stock, and Best's
relationships with the field force of sales agents. The assets and liabilities
of Best were recorded at their historical cost, which approximated the fair
value of such assets as of July 1, 1997.

ACQUISITION AND DISPOSITION OF DNS COMMUNICATIONS, INC.

    In October 1995, Matrix issued shares of its common stock valued at $3.6
million in exchange for all of the outstanding common stock of DNS
Communications, Inc. ("DNS"), a Houston-based long distance reseller. The
transaction was accounted for under the purchase method. The purchase price in
excess of the book value of DNS net assets was pushed down to DNS and was
allocated based upon the estimated fair value of the assets and liabilities
acquired at the date of acquisition.

    Subsequent to the acquisition, the operations of DNS generated substantial
losses. DNS's customer churn rate and bad debts as well as projected cash flows
were evaluated and as of December 31, 1995 it was determined that the remaining
investment in the DNS acquired customer base totaling approximately $4.4 million
should be written off.

    In June 1996, Matrix sold the customer base acquired in the DNS acquisition
in addition to certain blocks of customers acquired during 1995 and 1996
together with related assets to a former officer of Matrix and a former
shareholder of DNS for approximately $5.2 million. Matrix recorded a gain on
this sale of approximately $3.2 million.

    Due to the timing of the acquisition and subsequent decision to sell the
operations of DNS, Matrix has recorded its interest in DNS operations using the
equity method of accounting.

                             RESULTS OF OPERATIONS

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

    REVENUES

    Revenues for the year ended December 31, 1998 decreased 14.4% or $7.4
million to $44.0 million from $51.4 million for the year ended December 31,
1997. The decrease in revenues resulted primarily from the reorganization and
repositioning of the Company's Channel Markets Group ("CMG"). The focus of the
Company is to be a provider of broadband network services integrating voice,
data and internet solutions to mid-size corporations, small-office home-office
professionals and select residential market segments. Historically, CMG has
focused on selling retail long distance telephone service through telemarketing,
direct mail, and distributors or agents. During the fourth quarter of 1998, CMG
implemented a new strategy to sell Internet access and additional voice services
exclusively through affinity groups, agents and distributors.

    The primary source of revenues of the Company during 1998 continued to be
voice distribution channels. Factors similar in nature to those affecting all
resellers of long distance have continued to effect a decline in revenues. Due
to pricing pressures within the industry and the competitive reductions by the
first tier carriers, the Company similarly continued to reduce retail pricing of
long distance products to meet consumer expectations, terminated the direct
marketing of casual calling products and discontinued the telemarketing of
residential customers. Long distance revenue, excluding discontinued sales
channels, decreased 9.5% while the associated minutes of usage decreased only
3.8% for the year ended December 31, 1998 compared to the year ended December
31, 1997. Long distance revenue from affiliated companies was $4.6 million and
$3.6 million for the years ended December 31, 1998 and December 31, 1997,
respectively.

                                       3
<PAGE>
    Decreases in revenues were additionally affected by a continued attrition
and price reductions of a maturing customer. The effects of reduced revenue from
discontinued sales channels is expected to be offset by increasing revenues from
the Company's repositioning of CMG and the addition of new marketing
organizations. The effects of competitive lower pricing as well as the decline
of the customer base is expected to lessen dramatically as pricing decreases
within the industry and reaches its floor, and the Company increases its focus
on third party distributors, affinity groups and niche markets. Management
additionally anticipates that the revenue decrease will stabilize as the
continued integration of and revenue from the Business Markets Group ("BMG")
targeting corporate data networking, voice and Internet service needs continues
to expand and grow beyond the long distance portion.

    Decreases in revenues resulting from the Share Exchange of AvTel and Matrix
effective December 1, 1997 were anticipated by the Company beginning in the
first quarter of 1998. At that time, the management team chose to discontinue
and reduce certain unprofitable distribution channels. Management continued
throughout 1998 to reduce the Company's dependence on low margin, high churn
segments and to focus its resources in the business markets with higher average
billing and retention rates, niche ethnic consumer markets, small office-home
office distributors and agents, and internet service providers. For the year
ended December 31, 1998, revenues generated from discontinued sales channels
decreased 43.4% or $8.2 million to $10.7 million from $18.9 million for the year
ended December 31, 1997. Long distance revenue generated from agents increased
3.5% or $665,000 to $19.5 million for the year ended December 31, 1998 from
$18.9 million for the year ended December 31, 1997.

    Data networking needs of the corporate customer and the Internet have
continued to drive and change the telecom industry. The future focus of the
Company continues to move toward incorporating voice and data networking
solutions into the construction of corporate Intranets and Wide Area Networks
which will decrease the Company's dependence on traditional long distance
services of the residential consumer. The primary focus of the Company has been
to move quickly and efficiently towards becoming a viable resource to the
corporate world having few options in this new wave of technology. With the
acquisition of RLI effective November 1, 1998, the Company recognized $1.0
million in technology systems integration and repair service revenues for the
two months ended December 31, 1998.

    GROSS MARGIN

    Gross margin decreased $3.0 million to $12.2 million for the year ended
December 31, 1998 from $15.2 million for the year ended December 31, 1997. As a
percentage of revenues, gross margin decreased by 1.9 percentage points to 27.6%
for the year ended December 31, 1998 from 29.5% for the year ended December 31,
1997. The decrease in gross margin as a percentage of revenues primarily
resulted from an increase in bad debt expenses, which was partially offset by
decreases of network cost from renegotiated contracts and leased facilities, all
of which are included in cost of sales.

    Network cost as a percentage of revenues decreased by 1.3 percentage points
to 65.2% for the year ended December 31, 1998 from 66.5% for year ended December
31, 1997. The primary factor that effected this decrease was significantly lower
wholesale rates, which went into effect March and July of 1998, negotiated with
the Company's major underlying carriers.

    Bad debt expense as a percentage of revenues increased by 2.6 percentage
points to 6.2% for the year ended December 31, 1998 compared to 3.6% for the
year ended December 31, 1997. The increased bad debt expense primarily resulted
from decreased collection percentages from the Local Exchange Carriers ("LECs")
in certain geographical regions, primarily the northeastern portion of the
United States. This related principally to the Company's now discontinued casual
calling business. The majority of the Company's revenues are billed by the LECs
and the Company's bad debt expense was affected by the lower collection
percentages of the LECs. Collection policies and aggressiveness in collection
procedures among the LECs vary. A significant amount of casual calling was
experienced in the northeastern portion of the United States in which the LECs'
collection percentages were considerably lower, and the

                                       4
<PAGE>
Company's bad debt expense as a percentage of revenues increased. The majority
of new products being sold by the Company have been designed as direct billed or
electronic internet billed products, and the bad debt percentages experienced by
the Company's internal collection staff are significantly lower than those of
the LECs. For the fourth quarter of 1998, the Company experienced an average bad
debt percentage of 3.8% on direct billed products and 9.1% on LEC billed
products. Therefore, as the number of customers being billed by the LEC
decreases, and the Company implements its policy of moving away from the LEC
billing services, bad debt expense as a percentage of revenue is anticipated to
decrease. As of December 31, 1998, 58% of the Company's revenue was direct
billed compared to 23% as of December 31, 1997.

    SELLING, GENERAL, AND ADMINISTRATIVE COSTS

    Selling, general, and administrative costs increased $2.4 million to $18.5
million for the year ended December 31, 1998 from $16.1 million for the year
ended December 31, 1997. As a percentage of revenues, selling, general, and
administrative costs increased by 10.6 percentage points to 42.0% for the year
ended December 31, 1998 from 31.4% for the year ended December 31, 1997.

    The primary reason for the increase to selling, general, and administrative
costs was the expanded sales force and related expenses including general office
expense, rent, utilities and travel expenditures. The remaining increase in cost
was attributable to the purchase of RLI by the Company, effective November 1,
1998. As of December 31, 1998, the Company had three primary business locations,
eight additional sales locations throughout the United States and 47 sales and
marketing related employees compared to two primary business locations, two
remote sales locations and 21 sales and marketing related employees as of
December 31, 1997.

    The decrease in revenue as explained above resulted in a decrease in selling
expenses of $1.6 million for the year ended December 31, 1998. Stock
compensation expense for the year ended December 31, 1998 was $477,000 compared
to $749,000 for the year ended December 31, 1997. The change was due primarily
to two circumstances. First, during 1998, the Company caused certain options
previously granted to accelerate (and to expire if not exercised before December
13, 1998). As a result, fewer of such options were exercised than contemplated
in 1997, and the stock price used to calculate stock compensation expense for
such options was considerably lower than in 1997. The resulting decrease in
stock compensation expense was partially offset by additional expense recognized
in connection with the early vesting of a restricted stock grant to a departing
director. Certain non-employee agents were granted options for participation in
the generation of new business for the Company. Accordingly, stock compensation
was expensed under the requirements of SFAS No. 123.

    DEPRECIATION AND AMORTIZATION

    Depreciation and amortization increased $427,000 to $1,107,000 for the year
ended December 31, 1998 from $680,000 for the year ended December 31, 1997. The
increase primarily resulted from amortization of the acquired customer base
associated with the Share Exchange of AvTel and Matrix effective December 1,
1997. The customer base is amortized on a straight-line basis over five years.
Similarly, the acquisition and consolidation of assets related to the Share
Exchange resulted in some increases in depreciation expense. As a result of the
acquisitions of DMI and RLI in the fourth quarter of 1998, the company
recognized goodwill in the amount of $4.5 million. Goodwill is amortized on a
straight-line basis over fifteen years. RLI comprised $4.4 million of goodwill.
Goodwill was determined by the purchase price in excess of net liabilities
assumed. RLI provides service and installation of local area networks. Their
name and reputation in their existing geographical area is strong and
facilitates RLI's entry into other geographical markets. The service provided is
generally recurring and RLI's clientele is comprised of large, stable companies
that are loyal to their product and level of service provided.

                                       5
<PAGE>
    INTEREST EXPENSE AND OTHER INCOME, NET

    Interest expense and other income net of other expenses decreased $195,000
to $95,000 for the year ended December 31, 1998 from $290,000 for the year ended
December 31, 1997. Interest expense increased $74,000 to $86,000 for the year
ended December 31, 1998 from $12,000 for the year ended December 31, 1997 due to
interest on the Coast Business Credit line of credit and leased equipment
acquired as the result of the Share Exchange of AvTel and Matrix. Other income
decreased $121,000 to $181,000 for the year ended December 31, 1998 from
$302,000 for the year ended December 31, 1997 primarily due to the decrease of
interest earned from cash investments.

    INCOME TAXES

    The Company recognized a current and deferred tax benefit of $1,527,000
for the year ended December 31, 1998 compared to $276,000 for the year ended
December 31, 1997. The tax benefit in 1998 resulted from the loss from
operations and the current portion of the benefit is attributable to the
carryback of a portion of such loss to prior years. As of December 31, 1998,
the Company has net operating loss carryforwards for federal tax purposes of
approximately $4.9 million which are available on a limited basis to offset
future federal taxable income, if any, through 2018.

YEAR ENDED DECEMBER 31, 1997 COMPARED WITH YEAR ENDED DECEMBER 31, 1996

    REVENUE

    Revenue for the year ended December 31, 1997, decreased 28.1% or $20.2
million to $51.4 million from $71.6 million for the year ended December 31,
1996. The decrease in revenue resulted primarily from decreases in sales from
three significant sales channels, all of which were affiliated with the Company
through substantially common ownership prior to the Share Exchange of AvTel and
Matrix effective December 1, 1997. These sales channels were a distributor
selling via telemarketing, a distributor focusing on the casual or dial-around
customer, and a DNS distributor of long distance services. The relationship with
the DNS distributor was terminated resulting from the sale of the DNS customer
bases in June of 1996.

    The Company in 1997 chose to reduce its focus on the promotion of the
dial-around customer due to the significant costs of direct mailing and bad debt
associated with this product. Reduced sales from the telemarketing distributor
resulted from the erosion of the retail pricing in the market for the
residential consumer. Pricing continued to decline during 1997, and attrition
from a maturing customer base resulted in losing customers on higher gross
margin products. Attrition rates associated with long distance products are a
normal industry occurrence; however, methods of calculation differ within the
industry.

    The Company sought to reduce its risk from reliance on a small group of
distributors, and refocused to obtain multiple revenue sources external to the
Company. New distributors significantly contributed to the mix in 1997. 1997
sales from sources other than the Company's primary 1996 distributors increased
more than 20%.

    GROSS MARGIN

    Gross margin decreased $8.7 million in 1997, to $15.2 million for the year
ended December 31, 1997 from $23.9 million for the year ended December 31, 1996.
As a percentage of net sales gross margin decreased 3.9 percentage points to
29.5% for the year ended December 31, 1997 from 33.4% for the year ended
December 31, 1996. Two primary factors contributed to the decrease in gross
margin in 1997.

    First, due to increasing competitive market demands, the Company was forced
to continue decreasing its retail rates in 1997 to meet the competitive rate
reductions; however, the underlying carrier costs to the Company did not change
due to contractual commitments. Accordingly, cost of network as a percentage of
revenue increased reflecting a lower gross margin in 1997 over 1996.

                                       6
<PAGE>
    Second, bad debt as a percentage of revenue increased approximately 2% in
1997, primarily resulting from increased bad debt associated with the casual or
dial-around product. The majority of the Company's revenues were billed and
collected from the Local Exchange Carriers ("LECs"), with which the Company has
agreements. Collection policies and aggressiveness in collection procedures
differ among the LECs. The Company experienced significant sales growth in a
geographical location in which the LECs bad debt percentages were significantly
higher than other LECs.

    SELLING, GENERAL, AND ADMINISTRATIVE COSTS

    The Company's selling, general, and administrative costs decreased $2.7
million in 1997 from 1996. As a percentage of revenue, such costs increased 5.1
percentage points to 31.4% for the year ended December 31, 1997 compared to
26.3% for the year ended December 31, 1996. This increase resulted primarily
from the decrease in revenues causing the expense as a percentage of revenue to
increase. Certain changes are more fully described below.

    Certain selling, general, and administrative costs related to the addition
of AvTel operations to Matrix subsequent to the effective date of the Share
Exchange, December 1, 1997, amounted to approximately $286,000, accounting for
 .56% of the increase as a percentage of revenues in 1997 over 1996. Selling
costs related to direct mailing to the casual or dial-around customer (which
were absorbed by the sales distributor in 1996) were approximately $605,000 in
1997, accounting for 1.18% of the increase as a percentage of revenues in 1997
over 1996. Salary expenses increased approximately $651,000 between the years,
or 3.76% as a percentage of revenues in 1997 over 1996, resulting primarily from
integration of AvTel employees subsequent to the Share Exchange and the addition
of certain sales and marketing personnel in 1997.

    Billing and collection fees and distributor commissions decreased
approximately $3.9 million, or 1.82% as a percentage of revenues. Most of the
new products sold in 1997 were direct billed. As the percentage of direct billed
customers increased, billing and collection fees have decreased. Similarly, as
sales of certain products having a higher commission structure have declined,
commission expense has also declined.

    Certain regulatory and professional services increased approximately
$266,000, or 1.22% as a percentage of revenues in 1997 over 1996. Carrier fees
specific to telecommunication providers upon reaching certain thresholds of
customers were met in the last half of the year in 1996; therefore, increased
fees in 1997 resulted from being charged the lower volume based fees for a full
year. Professional fees increased in 1997 over 1996 for two primary reasons.
First, due to increased market demands for information systems programmers, the
Company was forced to secure external contractors. Second, certain telemarketing
and verification costs associated with the sales process increased in 1997
primarily resulting from the sales distributor absorbing these costs in 1996.
Other selling, general and administrative costs decreased approximately $213,000
in 1997. As a percentage of revenue, these costs increased .81% in 1997 over
1996 due to decreasing revenues.

    ACQUISITION-RELATED WRITEOFF

    The $9.1 million write off relates to the Share Exchange and is discussed
under "Background" above.

    DEPRECIATION AND AMORTIZATION

    Depreciation and amortization expense decreased approximately $314,000 for
the year ended December 31, 1997, compared to the year ended December 31, 1996,
resulting primarily from older assets becoming fully depreciated.

                                       7
<PAGE>
    INTEREST EXPENSE AND OTHER INCOME, NET

    Interest expense decreased $219,000 to $12,000 for the year ended December
31, 1997 from $231,000 for the year ended December 31, 1996. The decrease
resulted from reduced borrowings in 1997 compared to 1996. The Company had
sufficient cash from operations to meet operating expenses and capital
expenditures. Other income net of other expenses increased more than 11% for
1997 over 1996 primarily resulting from increases in interest earned from cash
investments.

    INCOME TAXES

    The Company recognized a tax benefit of $276,000 for the year ended December
31, 1997 compared to a tax expense of $1.7 million for the year ended December
31, 1996. The tax benefit in 1997 resulted from the loss from operations for the
year 1997.

                        LIQUIDITY AND CAPITAL RESOURCES

    The Company's consolidated financial statements have been prepared on a
going concern basis, which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business. As shown in the
consolidated financial statements during the years ended December 31, 1998
and 1997, the Company reported net losses of $5,802,318 and $10,191,720,
respectively. In addition, as of December 31, 1998, the Company had a working
capital deficit of $1,697,959, and for the year ended December 31, 1998, net
cash used in operations totaled $5,978,797.

    As a result, as of December 31, 1998, unless the Company effects substantial
changes in its operating methods, the Company does not have sufficient resources
to meet its anticipated operating requirements during 1999 without obtaining
additional financing. The Company is actively pursuing an equity line of credit
through discussion with potential investors. If the Company is unable to obtain
financing in a timely manner and on acceptable terms, management is developing
and intends to implement a plan that would allow the Company to continue to
operate through 1999. This plan would include significantly reducing the
Company's workforce, eliminating advertising expenditures, reducing professional
services and reducing or eliminating other discretionary expenditures.

    On October 2, 1998, the Company entered into a secured credit facility with
Coast Business Credit. This credit facility consists of a line of credit of up
to $7.5 million. Under the line of credit, the Company may borrow up to 75% of
eligible receivables (as defined). In addition, the line of credit may be
utilized in connection with certain acquisitions and equipment purchases as well
as to provide a facility for issuing letters of credit. Borrowings under the
line of credit bear interest, payable monthly, based upon the prime rate of Bank
of America NT & SA plus 2% (9.75% at December 31, 1998). As of December 31,
1998, borrowing outstanding under the credit facility amounted to $1,113,000
with approximately $1,634,000 available for future borrowings. Borrowings under
the credit facility are secured by substantially all of the assets of the
Company. The credit facility expires on October 31, 2000.

    Subsequent to the end of the year, the Company sold $1,500,000 of its Series
B Convertible Preferred Stock in a private placement. The Company is also
actively pursuing a private equity line of credit arrangement with potential
investors which may enable the Company to raise additional capital through
subsequent sales of its Common Stock. See "Business--Recent Developments."

    The primary sources of operating cash flow for the Company are (1) revenues
derived from the sale of information technology and telecommunications services
to individuals and business, and (2) its secured credit facility. Minor sources
of revenues are received for the provision of back office support to affiliated
and non-affiliated companies and for earnings from investment income. The
primary uses of cash are payments to underlying network vendors for provisioning
telecommunications facilities, to sales distributors for soliciting long
distance sales, and to the major LECs for billing and collecting directly from
the end user. Net cash used in operations totaled $6.0 million for the year
ended December 31, 1998, and net cash

                                       8
<PAGE>
provided by operations was $1.7 million for the year ended December 31, 1997,
and $1.0 million for the year ended December 31, 1996.

    As of December 31, 1998, the Company had a working capital deficit of $1.7
million. The Company's accounts receivable decreased to $4.8 million at December
31, 1998 from $7.0 million at December 31, 1997. The decrease was primarily due
to a corresponding decrease in sales described elsewhere in this discussion.
Current liabilities increased to $10.2 million as of December 31, 1998 from $9.8
million as of December 31, 1997. The increase in current liabilities is due to
the additional liabilities acquired with the purchase of RLI, offset by the
decrease in accrued liabilities due to a corresponding decrease in sales. Sales
and excise taxes included in current liabilities increased to $1.4 million for
the year ended December 31, 1998 from $736,000 for the year ended December 31,
1997, as a result of the tax liabilities assumed with the purchase of RLI. Due
to affiliates decreased to $324,000 for the year ended December 31, 1998 from
$2.7 million for the year ended December 31, 1997. In 1998, Pacific Gateway
Exchange ("PGE") was no longer affiliated with the Company. As of December 31,
1997, $2.3 million was included in due to affiliates associated with PGE.

    Prior to the Share Exchange, the Company loaned $2.0 million to an
affiliated company, Core Marketing, LLC, during 1997. Of such amount, $201,000
was repaid prior to December 31, 1997, and the remainder was repaid in 1998.

    The Company has been able to finance its capital expenditures, which have
consisted primarily of property and equipment, from funds generated from
operations and, commencing in the last quarter of 1998, with the proceeds of its
secured credit facility. An important component of the Company's past growth has
been to develop its business through acquisitions, including the Share Exchange
and the acquisitions of RLI and DMI. The Company intends to continue this
strategy. In appropriate circumstances, the Company may utilize its capital
stock for acquisitions in addition to debt and equity financing.

YEAR 2000 COMPLIANCE

    The Year 2000 issue concerns the inability of computer systems and certain
other equipment to properly recognize and process data that uses two digits
rather than four to designate particular years. The Company has initiated a Year
2000 Project Plan ("the Plan") to assess whether its systems that process date
sensitive information will perform satisfactorily leading up to and beyond
January 1, 2000. The goal of the Plan is to correct, prior to January 1, 2000,
any Year 2000-related problem with critical systems, the failure of which could
have a material adverse effect on the Company's operations. The Plan includes
steps to (1) identify each critical system element that requires date code
remediation, (2) establish a plan to remediate such systems, (3) implement all
required remediations and (4) selectively test the remediated systems.

    Thus far, the identification phase has identified Year 2000 issues in the
following critical Company-owned and leased systems: rating and billing systems
used by the Company to process and prepare billing data for its customer base.
In addition, the Company receives critical services from providers of utilities
and other services to facilities that house employees and equipment. The Company
is also critically reliant upon the systems of other telecommunications
providers on which the Company depends to deliver services and invoices to its
customers. The identification and planning phases of the Plan are materially
complete as they relate to Company-owned systems. As they relate to third party
vendors and other telecommunications carriers, the identification and planning
phases are on-going and are expected to be materially complete during second
quarter 1999.

                                       9
<PAGE>
    Based on work completed under the Plan to date, the Company currently
intends to take the following additional steps under its Plan with respect to
Company-owned systems, third-party vendors and other telecommunications
carriers:

    - The Company generally plans to remediate Company-owned rating, billing and
      collection systems through the revision or replacement of current system
      components. Necessary changes to Company-owned systems are in process and
      are expected to be completed by third quarter 1999. The selective testing
      and verification of such changes are expected to be completed in the third
      quarter of 1999. Due to the large number of system components requiring
      remediation, the Company does not intend to test every remediated system
      but will rely upon the results of testing of the critical components of
      such systems to determine the effectiveness of remediation efforts.
      Components not tested are not considered critical to the Company's
      business.

    - With respect to critical services provided by utilities and other third
      parties, the Company is in the process of contacting all such suppliers.
      Thus far, a majority of those suppliers who have responded have indicated
      that their systems and service delivery mechanisms are Year 2000 compliant
      or can be made so through currently available modifications. The Company
      plans to continue monitoring all third-party remediation efforts and to
      develop contingency plans for the delivery of such services as necessary.

    - The Year 2000 compliance status of other telecommunications providers with
      which the Company's systems interact is not yet known. The Company is
      making inquiries of these providers to determine their compliance status
      and expects to obtain the results of compliance tests during second
      quarter 1999, although there can be no assurance that providers will
      supply this information.

    While the Company currently believes that it will be able to remediate and
selectively test Company-owned systems in time to minimize any detrimental
effect on its operations, there can be no assurance that such steps will be
successful. Failure by the Company to timely and effectively remediate its
systems, or the failure of critical vendors and suppliers and other
telecommunications carriers to remediate affected systems, could have a material
adverse impact on the Company's business, financial condition, results of
operations and prospects. Because the impact of Year 2000 issues on the Company
is materially dependent on the mitigation efforts of parties outside the
Company's control, the Company cannot assess with certainty the magnitude of any
such potential adverse impact. However, based upon risk assessment work
conducted thus far, the Company believes that the worst case scenario of the
failure by the Company, its suppliers or other telecommunications carriers with
which the Company interacts to resolve Year 2000 issues would be an inability by
the Company to timely and accurately process service requests and to timely and
accurately bill its customers. In addition to lost earnings, these failures
could also result in loss of customers due to service interruptions and billing
errors, substantial claims by customers and increased expenses associated with
stabilizing operations and executing mitigation plans.

    Contingency planning to maintain and restore service in the event of natural
disasters, power failures and systems-related problems is a routine part of the
Company's operations. The Company believes that such contingency plans will
assist the Company in responding to the failure by outside service providers to
successfully address Year 2000 issues. In addition, the Company is currently
identifying and considering various Year 2000-specific contingency plans,
including identification of alternate vendors and service providers and manual
alternatives to system operations. These Year 2000-specific contingency plans
are expected to be materially completed during the second quarter of 1999, but
their review and development will continue throughout 1999.

    Although the total costs to implement the Plan cannot be precisely
estimated, the Company incurred minimal costs during 1998 (none of which was
related to hardware costs) and anticipates spending an aggregate of
approximately $750,000 during 1999 (which includes $250,000 of hardware costs).
These costs will be expensed as incurred, unless new systems or equipment are
purchased that should be capitalized in accordance with generally accepted
accounting principles. Some of the costs represent ongoing investment

                                       10
<PAGE>
in systems upgrades, the timing of which is being accelerated in order to
facilitate Year 2000 compliance. In some instances, such upgrades will position
the Company to provide more and better-quality services to its customers than
they currently receive. The Company expects to fund these costs with a
combination of financing provided by the hardware vendor, cash provided by
operations, and other debt or equity financing. Cost estimates and statements of
the Company's plans discussed above are forward-looking statements that are
derived using numerous assumptions of future events, many of which are outside
the Company's control, including the availability and future cost of trained
personnel and various other resources, third party modification plans, the
absence of systems requiring remediation that have not yet been discovered, and
other factors.

                                   INFLATION

    The Company does not believe that the relatively moderate rates of inflation
over the past three years have had a significant effect on its net sales or its
profitability.

                   RECENTLY-ISSUED ACCOUNTING PRONOUNCEMENTS

    On January 1, 1998, the Company adopted SFAS No. 130, Reporting
Comprehensive Income. SFAS No. 130 establishes standards for reporting and
presentation of comprehensive income and its components in a full set of
financial statements. Comprehensive income consists of net income and net
unrealized gains (losses) on securities and is presented in the consolidated
statements of stockholders' equity and comprehensive income. The statement
requires only additional disclosures in the consolidated financial statements;
it does not affect the Company's financial position or results of operations.
Comprehensive income (loss) for the years ended December 31, 1998, 1997 and 1996
is equal to net income (loss) reported for such periods.

    In 1998, the Company adopted the provisions of SFAS No. 131, Disclosures
About Segments of an Enterprise and Related Information. SFAS No. 131
establishes standards for the way that public business enterprises report
information about operating segments in annual financial statements and requires
that those enterprises report selected information about operating segments in
interim financial reports issued to shareholders. It also establishes standards
for related disclosures about products and services, geographic areas and major
customers. This statement supersedes SFAS No. 14, Financial Reporting for
Segments of a Business Enterprise, but retains the requirement to report
information about major customers. See Note 11 of the Notes To Consolidated
Financial Statements for segment disclosures.

    In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities. SFAS No. 133
establishes accounting and reporting standards for derivative instruments and
hedging activities. This statement is effective for all fiscal quarters of all
fiscal years beginning after June 15, 1999. Management does not anticipate that
this statement will have a material impact on the Company's consolidated
financial statements.

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

    The financial statements of the Company and supplementary data are included
beginning immediately following the signature page to this report.

                                       11
<PAGE>
                                    PART III

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

    (a) The index to the financial statements and financial statement schedules
       filed as part of this report is set forth immediately following the
       signature page.

    (b) The Company did not file any Current Reports on Form 8-K during the
       quarter ending December 31, 1998.

    (c) The index to the exhibits filed as part of this report is set forth
       immediately following the financial statements.

                                       12
<PAGE>
                                   SIGNATURES

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

                                AVTEL COMMUNICATIONS, INC.

Dated: July 2, 1999             By              /s/ ANTHONY E. PAPA
                                     -----------------------------------------
                                                  Anthony E. Papa,
                                             CHAIRMAN OF THE BOARD AND
                                              CHIEF EXECUTIVE OFFICER

                                       13
<PAGE>
                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

<TABLE>
<CAPTION>
                                                                                                               PAGE
                                                                                                             ---------
<S>                                                                                                          <C>
Independent Auditors' Report...............................................................................        F-2

Consolidated Balance Sheets, December 31, 1998 and 1997....................................................        F-3

Consolidated Statements of Operations, Years ended December 31, 1998, 1997 and 1996........................        F-4

Consolidated Statements of Stockholders' Equity, Years ended December 31, 1998, 1997
  and 1996.................................................................................................        F-5

Consolidated Statements of Cash Flows, Years ended December 31, 1998, 1997 and 1996........................        F-6

Notes to Consolidated Financial Statements.................................................................        F-7

Schedule II--Valuation and Qualifying Accounts, Years ended December 31, 1998, 1997,
  and 1996.................................................................................................       F-26
</TABLE>

                                      F-1
<PAGE>
                          INDEPENDENT AUDITORS' REPORT

The Board of Directors
AvTel Communications, Inc.:

    We have audited the accompanying consolidated balance sheets of AvTel
Communications, Inc. and subsidiaries as of December 31, 1998 and 1997, and the
related consolidated statements of operations, stockholders' equity, and cash
flows for each of the years in the three-year period ended December 31, 1998. In
connection with our audits of the consolidated financial statements, we also
have audited the accompanying financial statement schedule. These consolidated
financial statements and financial statement schedule are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
consolidated financial statements and financial statement schedule based on our
audits.

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

    In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of AvTel
Communications, Inc. and subsidiaries at December 31, 1998 and 1997, and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 1998, in conformity with generally
accepted accounting principles, after restatement for the income tax refund
receivable discussed in Note 5. Also in our opinion, the related financial
statement schedule, when considered in relation to the basic consolidated
financial statements taken as a whole, presents fairly, in all material
respects, the information set forth therein.

                                          KPMG LLP

Dallas, Texas
April 14, 1999, except as to Note 5
  which is as of July 2, 1999


                                      F-2
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

                          CONSOLIDATED BALANCE SHEETS

                           DECEMBER 31, 1998 AND 1997

<TABLE>
<CAPTION>
                                                                                         1998           1997
                                                                                     -------------  -------------
<S>                                                                                  <C>            <C>
                                      ASSETS
Current assets:
  Cash and cash equivalents........................................................  $     911,179      4,807,441
  Accounts receivable, net.........................................................      4,804,532      6,961,953
  Due from affiliates..............................................................        501,858      2,127,771
  Federal and state income tax receivable..........................................      1,325,000        598,970
  Other current assets.............................................................        921,435        861,950
                                                                                     -------------  -------------
    Total current assets...........................................................      8,464,004     15,358,085
Property and equipment, net........................................................      1,684,707      1,791,682
Goodwill, net......................................................................      4,463,747             --
Other assets, net..................................................................      1,346,896      1,575,083
                                                                                     -------------  -------------
    Total assets...................................................................  $  15,959,354     18,724,850
                                                                                     -------------  -------------
                                                                                     -------------  -------------
                       LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
  Accounts payable and other accrued expenses......................................  $   2,643,761      1,546,762
  Accrued network service costs....................................................      4,217,206      4,319,198
  Sales and excise taxes payable...................................................      1,433,483        736,012
  Unearned revenue.................................................................        954,101             --
  Due to affiliates................................................................        324,020      2,719,417
  Other current liabilities........................................................        589,392        466,039
                                                                                     -------------  -------------
    Total current liabilities......................................................     10,161,963      9,787,428
Deferred income taxes..............................................................             --        498,712
Long term borrowings...............................................................      1,112,890             --
Other liabilities..................................................................          5,381         50,782
Common stock subject to put option (note 4)........................................        168,867        578,880
                                                                                     -------------  -------------
    Total liabilities..............................................................     11,449,101     10,915,802
                                                                                     -------------  -------------
Stockholders' equity:
  Preferred stock, authorized 750,000 shares, $0.01 par value......................             --             --
  Series A convertible preferred stock, authorized 250,000 shares, $0.01 par value,
    cumulative as to 8% dividends, 147,700 and 207,700 shares issued and
    outstanding at December 31, 1998 and 1997 respectively. (Liquidation preference
    of $704,032 December 31, 1998 including dividends in arrears.).................          1,477          2,077
  Common stock, Authorized 20,000,000 shares, $0.01 par value; issued 10,409,473
    and 11,437,056 shares at December 31, 1998 and 1997 respectively, including
    112,578 and 385,920 shares subject to put options on December 31, 1998 and 1997
    respectively...................................................................        102,969        110,511
  Additional paid in capital.......................................................     19,630,404     17,138,739
  Accumulated deficit..............................................................    (15,224,597)    (9,422,279)
  Treasury stock, none at December 31, 1998 and 1,999,997 common shares at December
    31, 1997.......................................................................             --        (20,000)
                                                                                     -------------  -------------
    Total stockholders' equity.....................................................      4,510,253      7,809,048
                                                                                     -------------  -------------
Commitments and contingencies
    Total liabilities and stockholders' equity.....................................  $  15,959,354     18,724,850
                                                                                     -------------  -------------
                                                                                     -------------  -------------
</TABLE>

          See accompanying notes to consolidated financial statements.

                                      F-3
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

                     CONSOLIDATED STATEMENTS OF OPERATIONS

                  YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996

<TABLE>
<CAPTION>
                                                                         1998            1997           1996
                                                                     -------------  --------------  -------------
<S>                                                                  <C>            <C>             <C>
Revenues (note 6)..................................................  $  44,013,498      51,389,080     71,558,295
Cost of revenues (note 6)..........................................     31,849,354      36,227,507     47,674,396
                                                                     -------------  --------------  -------------
    Gross margin...................................................     12,164,144      15,161,573     23,883,899
                                                                     -------------  --------------  -------------
Operating expenses:
  Selling, general and administrative (note 6).....................     18,480,576      16,141,132     18,798,925
  Acquisition related write off (note 2)...........................             --       9,098,545             --
  Depreciation and amortization....................................      1,107,321         679,856        993,940
                                                                     -------------  --------------  -------------
                                                                        19,587,897      25,919,533     19,792,865
                                                                     -------------  --------------  -------------
    Operating income (loss)........................................     (7,423,753)    (10,757,960)     4,091,034

Interest expense (note 6)..........................................        (86,251)        (11,692)      (230,922)
Other income, net..................................................        181,107         301,580        393,498
                                                                     -------------  --------------  -------------
    Income (loss) before income tax expense........................     (7,328,897)    (10,468,072)     4,253,610
                                                                     -------------  --------------  -------------
Income tax expense (benefit).......................................     (1,526,579)       (276,352)     1,686,876
                                                                     -------------  --------------  -------------
                                                                     -------------  --------------  -------------
    Net income (loss)..............................................  $  (5,802,318)    (10,191,720)     2,566,734
                                                                     -------------  --------------  -------------
                                                                     -------------  --------------  -------------
Net loss per common share--basic and diluted (note 8)..............  $       (0.61)          (1.23)
                                                                     -------------  --------------
                                                                     -------------  --------------
Weighted average number of common shares...........................      9,633,474       8,267,296
                                                                     -------------  --------------
                                                                     -------------  --------------
</TABLE>

          See accompanying notes to consolidated financial statements.

                                      F-4
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES
                CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
                  YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996
<TABLE>
<CAPTION>
                                            PREFERRED STOCK              COMMON STOCK
                                          --------------------   ----------------------------
                                           SHARES      AMOUNT       SHARES         AMOUNT
                                          ---------   --------   ------------   -------------
<S>                                       <C>         <C>        <C>            <C>
Balances at December 31, 1995...........         --        --       6,872,883       5,336,815
  Purchase of common stock..............         --        --              --              --
  Issuance of common stock..............         --        --       1,463,771       2,195,211
  Net income............................         --        --              --              --
                                          ---------   --------   ------------   -------------
Balances at December 31, 1996...........         --        --       8,336,654       7,532,026
  Acquisition of Best (note 2)..........         --        --         934,987       3,361,208
  Share for share exchange between AvTel
    and Matrix (note 2):
    Reverse acquisition of AvTel........    207,700     2,077       1,839,563          18,396
    Reflect new capitalization of
      Company...........................         --        --        (171,548)    (10,802,234)
  Issuance of common stock for exercise
    of options..........................         --        --          15,000             150
  Expired put options (note 4)..........         --        --          96,480             965
  Stock compensation earned (note 7)....         --        --              --              --
  Net loss..............................         --        --              --              --
                                          ---------   --------   ------------   -------------
Balances at December 31, 1997...........    207,700   $ 2,077      11,051,136   $     110,511
  Conversion of preferred stock (note
    4)..................................    (60,000)     (600)         60,000             600
  Issuance of common stock for exercise
    of options and restricted common
    stock...............................         --        --         473,326           4,733
  Issuance of common stock for
    acquisitions (note 2)...............         --        --         680,000           6,800
  Expired put options (note 4)..........         --        --          48,187             482
  Exercised put options (note 6)........         --        --         185,847           1,859
  Purchase of officer notes receivable
    (note 6)............................         --        --              --              --
  Stock compensation earned (note 7)....         --        --              --              --
  Retirement of treasury stock..........         --        --      (2,201,601)        (22,016)
  Net loss..............................         --        --              --              --
                                          ---------   --------   ------------   -------------
Balances at December 31, 1998...........    147,700   $ 1,477      10,296,895   $     102,969
                                          ---------   --------   ------------   -------------
                                          ---------   --------   ------------   -------------

<CAPTION>
                                                        RETAINED
                                          ADDITIONAL    EARNINGS         TREASURY STOCK
                                           PAID IN    (ACCUMULATED   -----------------------
                                           CAPITAL      DEFICIT)       SHARES      AMOUNT        TOTAL
                                          ----------  ------------   ----------  -----------  -----------
<S>                                       <C>         <C>            <C>         <C>          <C>
Balances at December 31, 1995...........         --    (1,797,293)           --           --    3,539,522
  Purchase of common stock..............         --            --      (171,548)    (439,584)    (439,584)
  Issuance of common stock..............         --            --            --           --    2,195,211
  Net income............................         --     2,566,734            --           --    2,566,734
                                          ----------  ------------   ----------  -----------  -----------
Balances at December 31, 1996...........         --       769,441      (171,548)    (439,584)   7,861,883
  Acquisition of Best (note 2)..........         --            --    (1,999,997)  (3,317,940)      43,268
  Share for share exchange between AvTel
    and Matrix (note 2):
    Reverse acquisition of AvTel........  9,129,040            --            --           --    9,149,513
    Reflect new capitalization of
      Company...........................  7,064,710            --       171,548    3,737,524           --
  Issuance of common stock for exercise
    of options..........................     52,350            --            --           --       52,500
  Expired put options (note 4)..........    143,755            --            --           --      144,720
  Stock compensation earned (note 7)....    748,884            --            --           --      748,884
  Net loss..............................         --   (10,191,720)           --           --  (10,191,720)
                                          ----------  ------------   ----------  -----------  -----------
Balances at December 31, 1997...........  17,138,739   (9,422,279)   (1,999,997) $   (20,000)   7,809,048
  Conversion of preferred stock (note
    4)..................................         --            --            --           --           --
  Issuance of common stock for exercise
    of options and restricted common
    stock...............................    512,879            --            --           --      517,612
  Issuance of common stock for
    acquisitions (note 2)...............  1,526,950            --            --           --    1,533,750
  Expired put options (note 4)..........     36,770            --            --           --       37,252
  Exercised put options (note 6)........    372,918            --      (201,604)      (2,016)     372,761
  Purchase of officer notes receivable
    (note 6)............................   (435,000 )          --            --           --     (435,000)
  Stock compensation earned (note 7)....    477,148            --            --           --      477,148
  Retirement of treasury stock..........         --            --     2,201,601       22,016           --
  Net loss..............................         --    (5,802,318)           --           --   (5,802,318)
                                          ----------  ------------   ----------  -----------  -----------
Balances at December 31, 1998...........  19,630,404  (15,224,597)           --  $        --    4,510,253
                                          ----------  ------------   ----------  -----------  -----------
                                          ----------  ------------   ----------  -----------  -----------
</TABLE>

          SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.

                                      F-5
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

                     CONSOLIDATED STATEMENTS OF CASH FLOWS

                  YEARS ENDED DECEMBER 31, 1998, 1997 AND 1996

<TABLE>
<CAPTION>
                                                                                             1998          1997         1996
                                                                                          -----------  ------------  -----------
<S>                                                                                       <C>          <C>           <C>
Cash flows from operating activities:
  Net income (loss).....................................................................  $(5,802,318) $(10,191,720)   2,566,734
  Adjustments to reconcile net income (loss) to net cash provided by (used in) operating
    activities:
    Depreciation and amortization.......................................................    1,107,321       679,856      993,940
    Amortization of advanced commissions................................................      220,928     1,355,492      618,791
    Acquisition related write off.......................................................           --     9,098,545           --
    Gain on disposition of assets.......................................................      (83,139)           --           --
    Provision for bad debts.............................................................    2,727,803     1,829,770    1,461,471
    Deferred income taxes...............................................................     (498,712)      (80,377)    (321,678)
    Stock compensation earned...........................................................      477,148       748,884           --
    Equity in income of DNS.............................................................           --            --     (122,327)
    Changes in certain operating assets and liabilities:
      Accounts receivable...............................................................      374,477     1,969,332   (1,971,970)
      Due from affiliates...............................................................     (106,071)     (915,357)     345,336
      Federal and state income tax receivable...........................................     (741,094)     (598,970)          --
      Other current assets..............................................................     (224,820)    1,787,672     (393,781)
      Accounts payable and accrued liabilities..........................................   (1,034,923)   (2,876,789)  (1,397,160)
      Due to affiliates.................................................................   (2,395,397)   (1,138,568)    (742,663)
                                                                                          -----------  ------------  -----------
        Net cash provided by (used in) operating activities.............................   (5,978,797)    1,667,770    1,036,693
                                                                                          -----------  ------------  -----------
Cash flows from investing activities:
  Cash received (paid) in acquisitions (note 2).........................................     (474,082)      477,643           --
  Loans to affiliate....................................................................           --    (2,000,000)          --
  Payments received on loans to affiliates..............................................    1,798,889       201,111           --
  Purchase of property and equipment....................................................     (473,089)     (212,421)    (701,718)
  Repayments from DNS, net..............................................................           --            --    1,577,432
  Proceeds from sale of property and equipment..........................................       94,370         2,749      (14,482)
                                                                                          -----------  ------------  -----------
        Net cash provided by (used in) investing activities.............................      946,088    (1,530,918)     861,232
                                                                                          -----------  ------------  -----------
Cash flows from financing activities:
  Principal payments on capital leases..................................................      (59,055)       (4,306)          --
  Issuance of common stock for exercise of options......................................      517,612        52,500           --
  Borrowings on line of credit..........................................................    9,753,467            --           --
  Amounts paid on line of credit........................................................   (8,640,577)           --           --
  Purchase of officer notes receivable..................................................     (435,000)           --           --
  Purchase of common stock for treasury.................................................           --            --     (439,583)
                                                                                          -----------  ------------  -----------
        Net cash provided by (used in) financing activities.............................    1,136,447        48,194     (439,583)
                                                                                          -----------  ------------  -----------
Net increase (decrease) in cash and cash equivalents....................................   (3,896,262)      185,046    1,458,342
Cash and cash equivalents at beginning of year..........................................    4,807,441     4,622,395    3,164,053
                                                                                          -----------  ------------  -----------
Cash and cash equivalents at end of year................................................  $   911,179  $  4,807,441    4,622,395
                                                                                          -----------  ------------  -----------
                                                                                          -----------  ------------  -----------
Cash paid (received) during the year for:
  Interest..............................................................................  $    86,121        11,594      212,404
                                                                                          -----------  ------------  -----------
                                                                                          -----------  ------------  -----------
  Income taxes, net of refunds..........................................................  $  (487,007)      925,161    1,482,103
Noncash financing activities:
  Common stock issued for advanced commissions..........................................  $        --            --    2,195,211
                                                                                          -----------  ------------  -----------
                                                                                          -----------  ------------  -----------
  Common stock issued for receivable from major shareholder.............................  $        --            --      723,600
                                                                                          -----------  ------------  -----------
                                                                                          -----------  ------------  -----------
  Common stock issued for Best acquisition..............................................  $        --     3,361,208           --
                                                                                          -----------  ------------  -----------
                                                                                          -----------  ------------  -----------
  Treasury stock acquired with Best acquisition.........................................  $        --    (3,317,940)          --
                                                                                          -----------  ------------  -----------
                                                                                          -----------  ------------  -----------
  Common and preferred stock issued in AvTel reverse acquisition........................  $        --     9,149,513           --
                                                                                          -----------  ------------  -----------
                                                                                          -----------  ------------  -----------
  Common stock issued for DMI acquisition...............................................  $    30,000            --           --
                                                                                          -----------  ------------  -----------
                                                                                          -----------  ------------  -----------
  Common stock issued for RLI acquisition...............................................  $   650,000            --           --
                                                                                          -----------  ------------  -----------
                                                                                          -----------  ------------  -----------
</TABLE>

          See accompanying notes to consolidated financial statements.

                                      F-6

<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                       DECEMBER 31, 1998, 1997, AND 1996

(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

    (A) BUSINESS AND BACKGROUND

    On December 1, 1997, AvTel Communications, Inc. ("AvTel") and Matrix
Telecom, Inc. ("Matrix") completed a share for share exchange pursuant to a
stock exchange agreement dated April 29, 1997 as subsequently amended ("Share
Exchange"). For accounting purposes, the Share Exchange was treated as a reverse
acquisition of AvTel by Matrix. AvTel was the legal acquirer and accordingly,
the Share Exchange was effected by the issuance by AvTel of 9,582,493 shares of
common stock in exchange for all of the common stock then outstanding of Matrix.
In addition, holders of outstanding Matrix stock options received 22,338
non-qualified stock options of AvTel. The purchase method of accounting was
used, with Matrix being treated as the acquirer for accounting purposes. The
results of operations reported in the accompanying consolidated financial
statements reflect the operations of Matrix prior to December 1, 1997 and the
combined operations of AvTel and Matrix subsequent to December 1, 1997.
References to the "Company" refer to operations of Matrix prior to the Share
Exchange and the combined operations of Matrix and AvTel subsequent to the Share
Exchange. As a result of the Share Exchange, Matrix became a wholly owned
subsidiary of AvTel. (See note 2).

    The Share Exchange provided that each Matrix shareholder would receive
2.4819 AvTel common shares for each common share of Matrix then issued including
treasury shares held by Matrix. For periods prior to the December 1, 1997 Share
Exchange, all share amounts have been restated to reflect the Share Exchange as
a 2.4819 for one stock split. In addition, on March 10, 1997 Matrix declared an
18 for one stock split. All share amounts have also been restated to reflect
this stock split.

    AvTel was formed to be a provider of broadband network services integrating
voice, data and Internet solutions for individuals and corporate customers. The
Company sells and markets a broad range of telecommunications and advanced
network services through independent value added resellers, third party
marketing organizations and internal direct sales professionals. The Company
targets mid-size corporations, small-office home-office professionals and select
residential market segments through two primary business units, its Business
Markets Group ("BMG") and Channel Markets Group ("CMG").

    BMG targets mid-size corporate customers for their broadband data, voice and
Internet networking needs. Following this sales strategy, the Company's
objective is to become the underlying telecommunications carrier for the
transport of data, voice and Internet traffic. Through a value-added sales
process, the Company designs, provisions and manages its customers' networks.
The Company will provide a host of additional value-added services assisting its
customers to create enhanced intranet and extranet applications. Additionally,
BMG markets to its customer base a variety of traditional communications
products and services such as long distance telephone service, executive calling
cards and video/audio conferencing.

    CMG targets and markets to distribution companies, agents, resellers and
affinity groups that maintain access to large groups of individuals and small
businesses through affinity relationships and niche marketing strategies. CMG
provides Internet access, long distance telephone and other services to
customers in 49 states. The Company is fully certified or registered in all
states where required and operates under Section 214 authority from the Federal
Communications Commission ("FCC"). The Company, through a wholly owned
subsidiary, has a national-deployed Carrier Identification Code ("CIC"). The
Company maintains its own convergent billing platform, rating system and
monitoring center.

                                      F-7
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
    (B) LIQUIDITY

    The Company's consolidated financial statements have been prepared on a
going concern basis, which contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business. As shown in the
consolidated financial statements during the years ended December 31, 1998
and 1997, the Company reported net losses of $5,802,318 and $10,191,720,
respectively. In addition, as of December 31, 1998, the Company had a working
capital deficit of $1,697,959, and for the year ended December 31, 1998, net
cash used in operations totaled $5,978,797.

    As a result, as of December 31, 1998, unless the Company effects substantial
changes in its operating methods, the Company does not have sufficient resources
to meet its anticipated operating requirements during 1999 without obtaining
additional financing. The Company is actively pursuing an equity line of credit
through discussion with potential investors. If the Company is unable to obtain
financing in a timely manner and on acceptable terms, management is developing
and intends to implement a plan that would allow the Company to continue to
operate through 1999. This plan would include significantly reducing the
Company's workforce, eliminating advertising expenditures, reducing professional
services and reducing or eliminating other discretionary expenditures.

    (C) PRINCIPLES OF CONSOLIDATION

    The consolidated financial statements include the accounts of the Company
and its wholly-owned subsidiaries. All significant intercompany balances and
transactions have been eliminated in consolidation.

    (D) CASH AND CASH EQUIVALENTS

    For purposes of the statement of cash flows, the Company considers all
demand deposits, time deposits, and other highly liquid investments with a
remaining maturity at date of purchase of less than ninety days to be cash
equivalents.

    (E) COMMISSIONS

    Commissions to sales agents are paid and expensed based on a percentage of
billings as incurred.

    Commissions paid in advance of $221,000 as of December 31, 1997, included in
other current assets, were expensed over a period of eighteen months based on
estimated billings of the customers for which the commissions were paid. The
above advances were fully expensed during 1998 and no additional advance
commission payments were made.

    (F) REVENUE RECOGNITION

    Long distance, frame relay, Internet, systems integration and repair service
revenues are recognized as service is provided. Amounts paid in advance are
recorded as unearned revenue and recognized as services are provided.

    (G) PROPERTY AND EQUIPMENT

    Property and equipment are recorded at cost. Maintenance and repairs are
charged against income as incurred, while renewals and major replacements are
capitalized. The cost and related accumulated depreciation of assets sold or
retired are removed from the accounts, and any resulting gain or loss is

                                      F-8
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
reflected in operations. The Company provides depreciation on fixed assets using
the straight-line method over the estimated useful lives of the respective
assets.

    (H) GOODWILL

    Goodwill of $4.5 million, which is net of amortization of $19,000 as of
December 31, 1998, represents the excess of purchase price over fair value of
net assets acquired in the DMI and RLI acquisitions and is amortized on a
straight-line basis over fifteen years. The Company assesses the recoverability
of this intangible asset by determining whether the amortization of the goodwill
balance over its remaining life can be recovered through undiscounted future
cash flows of the acquired operation. The amount of goodwill impairment, if any,
is measured based on expected undiscounted future operating cash flows expected
to be generated by the acquired business. The assessment of the recoverability
of goodwill will be impacted if estimated future operating cash flows are not
achieved.

    (I) INCOME TAXES

    The Company utilizes the asset and liability method for accounting for
income taxes. Under this method, deferred tax assets and liabilities are
recognized for the future tax consequences attributable to differences between
the financial statement carrying amounts of existing assets and liabilities and
their respective tax bases and operating loss and tax credit carryforwards.
Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in income in the
period that includes the enactment date.

    (J) USE OF ESTIMATES

    Management of the Company has made a number of estimates and assumptions
that affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the consolidated financial
statements and the reported amounts of revenues and expenses during the
reporting period to prepare these consolidated financial statements in
conformity with generally accepted accounting principles. Actual results could
differ from those estimates.

    (K) CONCENTRATIONS OF CREDIT RISK

    The Company's subscribers are primarily small business owners and
residential subscribers and are not concentrated in any specific geographic
region of the United States. The Company has agreements with Local Exchange
Companies, which provide billing and collection services to the majority of the
Company's subscribers. A significant portion of the Company's accounts
receivable is due from these companies.

    (L) ACCOUNTS RECEIVABLE

    Accounts receivable are net of allowances for doubtful accounts and other
provisions of $935,000 and $982,000 as of December 31, 1998 and 1997,
respectively. The Company establishes an allowance for doubtful accounts based
upon factors surrounding the credit risk of subscribers, historical trends and
other information.

                                      F-9
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
    (M) FINANCIAL INSTRUMENTS

    The Company's financial instruments include cash, receivables, payables, and
accrued expenses. The carrying amount of such financial instruments approximates
fair value because of the short maturity of these instruments.

    (N) ACQUIRED CUSTOMER BASE

    Acquired customer base of $1,240,000, which is net of accumulated
amortization of $343,000 at December 31, 1998, included in other assets, is
being amortized on a straight-line basis over five years. The Company assesses
the recoverability of this intangible asset by determining whether the acquired
customer base balance can be recovered through undiscounted future operating
cash flows of the acquired operations. The amount of impairment, if any, is
measured based on projected discounted cash flows. The assessment of the
recoverability of the acquired customer base will be impacted if estimated
future operating cash flows are not achieved.

    (O) IMPAIRMENT OF LONG-LIVED ASSETS

    In January, 1996, the Company adopted Statement of Financial Accounting
Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed Of" ("SFAS No. 121"). SFAS No. 121 requires
that long-lived assets and certain intangibles be reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount of
an asset may not be recoverable. Recoverability of assets to be held and used is
measured by a comparison of the carrying amount of an asset to the future net
cash flows expected to be generated by the asset. If such assets are considered
to be impaired, the impairment to be recognized is measured by the amount by
which the carrying amount of the net asset exceeds the fair value of the assets.
Assets to be disposed of are reported at the lower of the carrying amount or
fair value less costs to sell.

    (P) COMPREHENSIVE INCOME

    In 1998, the Company adopted Statement of Financial Accounting Standards No.
130, "Reporting Comprehensive Income" ("SFAS No. 130"). SFAS No. 130 establishes
standards for reporting and presentation of comprehensive income and its
components in a full set of financial statements. Comprehensive income includes
net income and other comprehensive income, which is generally composed of
changes in the fair value of available-for-sale marketable securities, foreign
currency translation adjustments and adjustments to recognize additional minimum
pension liabilities. The statement requires additional disclosures in the
consolidated financial statements; it does not affect the Company's financial
position or results of operations. Comprehensive income (loss) for the years
ended December 31, 1998, 1997 and 1996 is equal to net income (loss) reported
for such periods.

    (Q) SEGMENT REPORTING

    In 1998, the Company adopted the provisions of Statement of Financial
Accounting Standards No. 131, "Disclosures About Segments of an Enterprise and
Related Information" (SFAS No. 131"). SFAS No. 131 establishes standards for the
way that public business enterprises report information about operating segments
in annual financial statements and requires that those enterprises report
selected information about operating segments in interim financial reports
issued to shareholders. It also establishes standards for related disclosures
about products and services, geographic areas and major customers. (See Note
11).

                                      F-10
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
    (R) RECLASSIFICATIONS

    Certain reclassifications have been made to prior period amounts in order to
conform to current year presentation.

(2) ACQUISITIONS

    MATRIX TELECOM, INC.-- On December 1, 1997, AvTel and Matrix completed the
Share Exchange. For accounting purposes the Share Exchange was treated as a
reverse acquisition of AvTel by Matrix. AvTel was the legal acquirer and,
accordingly, the Share Exchange was effected by the issuance of AvTel common
stock in exchange for all of the common stock then outstanding of Matrix. In
addition, holders of outstanding Matrix stock options received non-qualified
stock options of the Company. Immediately after the Share Exchange the former
shareholders of Matrix held approximately 84% of the then outstanding common
stock of the Company.

    The consummation of the Share Exchange was subject to the satisfaction of
several conditions by AvTel. These included the reincorporation of AvTel (then a
Utah corporation; "AvTel Utah") in Delaware by way of a merger (the
"Reincorporation Merger") with and into AvTel Communications, Inc., a Delaware
corporation, a wholly-owned subsidiary formed for the sole purpose of this
merger. As part of the merger, AvTel (the surviving Delaware corporation) issued
to its stockholders one share of new Delaware Common Stock for each four shares
of AvTel-Utah's Common Stock outstanding immediately prior to the
Reincorporation Merger. AvTel's Series A Convertible Preferred Stock and its
outstanding options were similarly adjusted. Accordingly, the Reincorporation
Merger essentially effected a one for four reverse stock split of AvTel's
shares.

    The reverse acquisition of AvTel by Matrix was accounted for using the
purchase method of accounting. In order to value the consideration given in the
Share Exchange the market price of AvTel's common stock for a period immediately
preceding the announcement of the Share Exchange was used. As of the date of
acquisition, the Company determined the fair value of the net tangible and
intangible assets acquired and liabilities assumed. Concurrently, the Company
determined that the carrying amount of recorded goodwill was not recoverable.
Accordingly, the Company recorded a charge to income of $9,098,545 immediately
subsequent to the reverse acquisition.

    In connection with the completion of the Share Exchange, the Company entered
into a Registration Rights and Lockup Agreement dated December 1, 1997 (the
"Registration Rights and Lockup Agreement"). The Registration Rights and Lockup
Agreement requires that the Company use its best efforts to file a shelf
registration statement providing for the sale by certain stockholders of all
securities issued to them in connection with the Exchange Agreement, subject to
a two-year holding restriction imposed on such stockholders. Under the
Registration Rights and Lockup Agreement, the Company is obliged to use its
reasonable efforts to keep the shelf registration statement effective on a
continuous basis for a period described in the Registration Rights and Lockup
Agreement. Such stockholders may also require the Company to undertake up to two
additional demand registrations of their securities if the shelf registration is
not in place. As of April 14, 1999, this registration obligation related to
6,457,123 shares held by 14 stockholders.

    BEST CONNECTIONS, INC. ("BEST")-- Effective July 1, 1997, shareholders of
Best, an affiliate of Matrix through substantially common ownership, contributed
their ownership of Best to Matrix in exchange for

                                      F-11
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(2) ACQUISITIONS (CONTINUED)
934,987 shares of Matrix common stock. Best's primary assets were 1,999,997
shares of Matrix common stock and cash of $211,000. The assets and liabilities
of Best were recorded at their historical cost which approximated the fair value
of such assets as of July 1, 1997. As a result of the combination, Matrix
assumed the obligation to grant up to 1,999,997 stock options to agents of Best
and certain employees of affiliated companies. Such option grants relate to
services, including sales promotion activities, to be performed by the
recipients on behalf of the Company. Accordingly, the fair value of such options
is being charged to expense by the Company as the related services are provided.

    DIGITAL MEDIA, INC. ("DMI")-- Effective September 25, 1998, the Company
acquired all of the capital stock of DMI, a California based developer of
multimedia software. The Company exchanged 30,000 shares of its common stock
valued at $71,250 for all of the outstanding common stock of DMI. The
transaction was accounted for under the purchase method of accounting. The
assets and liabilities of DMI were recorded at their historical cost which
approximated their fair value at September 25, 1998. The Company recorded
goodwill of approximately $117,000, which represents the excess of the purchase
price over the fair value of the net assets received. The goodwill is being
amortized on a straight-line basis over fifteen years.

    REMOTE LOJIX/PCSI, INC. ("RLI")-- Effective November 1, 1998, the Company
acquired all of the capital stock of RLI, a New York based provider of
information technology services to corporate customers. The Company exchanged
650,000 shares of its common stock valued at $1,462,500 and the outstanding
balance of a $500,000 loan from the Company for all of the outstanding common
stock of RLI. The transaction was accounted for under the purchase method of
accounting. The assets and liabilities of RLI were recorded at their historical
cost which approximated the fair value at November 1, 1998. The Company recorded
goodwill of approximately $4.4 million, which represents the excess of the
purchase price over the fair value of the assets received. The goodwill is being
amortized on a straight-line basis over fifteen years.

    Unaudited pro forma results of operations of the Company as if the share
exchange of Matrix and the acquisitions of Best, DMI and RLI had occurred as of
the beginning of the periods presented is as follows:

<TABLE>
<CAPTION>
                                                                      YEAR ENDED DECEMBER 31
                                                                  ------------------------------
                                                                       1998            1997
                                                                  --------------  --------------
<S>                                                               <C>             <C>
Revenue.........................................................  $   49,711,440  $   58,967,268
Loss from operations............................................      (8,909,490)    (12,749,469)
Net loss........................................................      (7,799,180)    (12,378,014)
Proforma net loss per share.....................................  $        (0.76) $        (1.02)
</TABLE>

    The pro forma financial information has been prepared for comparative
purposes only and does not purport to indicate the results of operations that
would have occurred had the acquisition been made at the beginning of the period
indicated, or which may occur in the future.

                                      F-12
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(2) ACQUISITIONS (CONTINUED)
    As of the date of acquisitions, the fair market value of the assets acquired
and liabilities assumed included the following:

<TABLE>
<CAPTION>
                                                                          1998
                                                        -----------------------------------------
                                                             DMI           RLI          TOTAL
                                                        -------------  -----------  -------------
<S>                                                     <C>            <C>          <C>
Current assets other than cash........................  $      50,105    1,034,803      1,084,908
Property and equipment................................         44,313      132,169        176,482
Goodwill..............................................        117,169    4,375,191      4,492,360
Current liabilities...................................       (166,255)  (3,579,663)    (3,745,918)
Common stock issued...................................        (71,250)  (1,462,500)    (1,533,750)
                                                        -------------  -----------  -------------
Cash acquired (paid)..................................  $      25,918     (500,000)      (474,082)
                                                        -------------  -----------  -------------
                                                        -------------  -----------  -------------

                                                                          1997
                                                        -----------------------------------------
                                                           MATRIX         BEST          TOTAL
                                                        -------------  -----------  -------------
Current assets other than cash........................  $     258,041      --             258,041
Property and equipment................................        577,836       15,137        592,973
Customer base.........................................      1,583,000      --           1,583,000
Goodwill..............................................      9,098,545      --           9,098,545
Current liabilities...................................     (1,945,526)    (183,041)    (2,128,567)
Long-term liabilities.................................       (688,854)     --            (688,854)
Common and preferred stock issued.....................     (9,149,513)  (3,361,208)   (12,510,721)
Treasury stock acquired...............................       --          3,317,940      3,317,940
                                                        -------------  -----------  -------------
Cash acquired.........................................  $     266,471      211,172        477,643
                                                        -------------  -----------  -------------
                                                        -------------  -----------  -------------
</TABLE>

(3) PROPERTY AND EQUIPMENT

    Property and equipment consisted of the following:

<TABLE>
<CAPTION>
                                          ESTIMATED           DECEMBER 31
                                            USEFUL    ---------------------------
                                             LIFE         1998           1997
                                          ----------  ------------   ------------
<S>                                       <C>         <C>            <C>
Communications system...................  2-5 years   $  1,318,326   $  1,318,326
Office furniture and equipment..........  1-7 years      3,420,773      2,945,795
Leasehold improvements..................  lease term       521,319        416,220
                                                      ------------   ------------
Total property and equipment............                 5,260,418      4,680,341
Accumulated depreciation and
  amortization..........................                (3,575,711)    (2,888,659)
                                                      ------------   ------------
Property and equipment, net.............              $  1,684,707   $  1,791,682
                                                      ------------   ------------
                                                      ------------   ------------
</TABLE>

    Depreciation expense was $737,000, $632,000 and $877,000 for 1998, 1997 and
1996, respectively.

                                      F-13
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(4) STOCKHOLDERS' EQUITY

    The Series A convertible preferred shareholders are entitled to receive
cumulative annual dividends at a rate of 8% and are entitled to a preference in
liquidation in the amount of $4 per share plus unpaid dividends. There were
$137,000 cumulative Series A convertible preferred stock dividends in arrears at
December 31, 1998. The Series A preferred stock is convertible, on a one-for-one
basis, into shares of Company common stock. During 1998, a total of 60,000
shares of the Company's Series A convertible preferred stock was converted to
60,000 shares of the Company's common stock.

    In December 1998, the Company retired all of its outstanding treasury stock.

    In December 1996, the Company issued 1,463,771 shares of common stock for
future commissions due to affiliates as of October 31, 1996. A value of $1.50
per share was used in determining the number of shares to issue in settlement of
the $2,195,211 obligation. Of this amount, $221,000, $1,355,000 and $619,000 was
expensed as commission expense in 1998, 1997 and 1996, respectively.

    During 1996, the Company sold to certain employees 482,400 shares of common
stock at $1.50 per share. As of December 31, 1996, the Company had recorded a
$723,600 receivable for such shares, which was subsequently collected. Proceeds
used to repay the $723,600 receivable were loaned to the employees by a major
shareholder of the Company. As of December 31, 1998 and 1997, the shares subject
to this agreement could be put to the Company at the option of the employee at
approximately $1.50 per share ($168,867 and $578,880), respectively. Such
amounts have been included in other liabilities. Under certain circumstances
(e.g. employee termination) the Company has a call at the same amounts. The call
and put rights vest over a period of five years. As of December 31, 1998, these
rights were forty percent vested. Activity in common stock outstanding related
to shares subject to put follows:

<TABLE>
<CAPTION>
                                                                         SHARES      AMOUNT
                                                                       ----------  -----------
<S>                                                                    <C>         <C>
Sale of common shares subject to put.................................     482,400  $   723,600
Increase in share value subject to put charged to expense............          --      172,400
                                                                       ----------  -----------
  Balance, December 31, 1996.........................................     482,400      896,000

Decrease in share value subject to put recorded as a reduction to
  expense............................................................          --     (172,400)
Vested shares no longer subject to put...............................     (96,480)    (144,720)
                                                                       ----------  -----------
  Balance, December 31, 1997.........................................     385,920      578,880

Vested shares no longer subject to put...............................     (48,187)     (37,253)
Called shares subject to put.........................................    (225,155)    (372,760)
                                                                       ----------  -----------
  Balance, December 31, 1998.........................................     112,578  $   168,867
                                                                       ----------  -----------
                                                                       ----------  -----------
</TABLE>

    During May 1996, the Company purchased 171,548 shares of its common stock as
treasury stock for $439,584. As further discussed in note 8 in connection with
the Best and Matrix combination effective July 1, 1997, Matrix acquired an
additional 1,999,997 shares of its common stock as treasury stock. As a part of
the recapitalization done in connection with the AvTel reverse acquisition,
Matrix retired the 171,548 shares of its common stock discussed above and the
Company recorded the remaining treasury stock at par value.

                                      F-14
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(5) FEDERAL AND STATE INCOME TAXES

    The provision for income taxes consisted of the following:

<TABLE>
<CAPTION>
                                                           1998         1997          1996
                                                        -----------  -----------  ------------
<S>                                                     <C>          <C>          <C>
Current tax expense (benefit):
  Federal.............................................  $(1,325,000) $  (234,899) $  1,751,047
  State and local.....................................        7,531      (41,453)      257,507
                                                        -----------  -----------  ------------
                                                         (1,317,469)    (276,352)    2,008,554
                                                        -----------  -----------  ------------
Deferred tax expense (benefit):
  Federal.............................................     (209,110)          --      (254,350)
  State and local.....................................           --           --       (67,328)
                                                        -----------  -----------  ------------
                                                           (209,110)          --      (321,678)
                                                        -----------  -----------  ------------
                                                        $(1,526,579) $  (276,352) $  1,686,876
                                                        -----------  -----------  ------------
                                                        -----------  -----------  ------------
</TABLE>

    Income tax expense differs from the amounts computed by applying the U.S.
federal income tax rate of 34 percent to pretax income as a result of the
following:

<TABLE>
<CAPTION>
                                                        1998           1997           1996
                                                    -------------  -------------  ------------
<S>                                                 <C>            <C>            <C>
Computed "expected" tax expense (benefit).........  $  (2,491,825) $  (3,559,144) $  1,404,637
State and local taxes, net of federal income tax
  effect..........................................       (135,961)       (27,359)      125,518
Other nondeductible items.........................         22,539      3,093,522            --
Losses not providing tax benefit..................      1,269,289        330,190            --
Other.............................................       (190,621)      (113,561)      156,721
                                                    -------------  -------------  ------------
                                                    $  (1,526,579) $    (276,352) $  1,686,876
                                                    -------------  -------------  ------------
                                                    -------------  -------------  ------------
</TABLE>

    Deferred income taxes as of December 31, 1998 and 1997 reflect the impact of
temporary differences between financial statement carrying amounts and tax bases
of assets and liabilities. The tax effects of

                                      F-15
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(5) FEDERAL AND STATE INCOME TAXES (CONTINUED)
temporary differences that give rise to significant portions of the net deferred
tax assets at December 31, 1998 and 1997 are presented below:

<TABLE>
<CAPTION>
                                                          DECEMBER 31
                                                     ----------------------
                                                        1998        1997
                                                     ----------  ----------
<S>                                                  <C>         <C>
Deferred tax assets
  Net operating loss and alternative minimum
    tax credit carryovers..........................  $2,169,634  $  814,425
  Compensation related items.......................     480,137     299,554
  Contingent liabilities and other.................     268,340     204,978
                                                     ----------  ----------
  Gross deferred tax asset.........................   2,918,111   1,318,957
  Less valuation allowance.........................  (2,453,958) (1,184,669)
                                                     ----------  ----------
    Net deferred tax asset.........................     464,153     134,288

Deferred tax liabilities:
  Customer base intangible.........................    (464,153)   (633,000)
                                                     ----------  ----------
    Net deferred tax liability.....................  $       --  $ (498,712)
                                                     ----------  ----------
                                                     ----------  ----------
</TABLE>

    The valuation allowance for deferred tax assets increased $1,269,289 and
$1,184,669 during 1998 and 1997, respectively.

    In assessing the realizability of deferred tax assets, management considers
whether it is more likely than not that some portion or all of the deferred tax
assets will not be realized. The ultimate realization of deferred tax assets is
dependent upon the generation of future taxable income during the periods in
which those temporary differences become deductible. Management considers the
scheduled reversal of deferred tax liabilities, projected future taxable income
and prior taxes paid in making this assessment. Based upon its evaluation of
these factors, management believes that it is more likely than not that the
Company will realize the benefits of these deductible differences, net of the
valuation allowance, at December 31, 1998. At December 31, 1998, the Company has
net operating loss carryforwards for federal tax purposes of approximately
$4,860,000 which are available on a limited basis to offset future federal
taxable income, if any, through 2018. When realized, such benefit will first be
utilized to reduce intangible assets recorded in the reverse acquisition of
AvTel by Matrix.

     In accordance with the Internal Revenue Code of 1986, as amended, the
Company may carryback the 1998 net operating loss, subject to certain
limitations, up to two (2) years to reduce prior years' taxable income.  Any
unused portion may be carried forward up to twenty (20) years.  The Company
expects to utilize $4,294,000 of the net operating loss to offset prior years'
taxable income resulting in a refund of approximately $1,325,000 of taxes
previously paid.

     The Company's 1998 consolidated financial statements have been restated
to give effect to the recognition of the income tax receivable discussed in
the preceding paragraph. As a result of this restatement, net loss for the
year ended December 31, 1998 has been decreased by $1,325,000 ($0.13 per
common share--basic and diluted) from amounts previously reported.

(6) RELATED PARTY TRANSACTIONS

    The Company has had transactions in the normal course of business with
various companies which are affiliated with shareholders of the Company. Pacific
Gateway Exchange, Inc. ("PGE") provides the Company with significant domestic
and international transmission services. As of January 1, 1998, PGE was no
longer affiliated with the Company. During 1998, a director and several
significant holders of the Company's common stock divested themselves of a
substantial portion of their holdings of PGE common stock; they have advised the
Company that they no longer could be deemed to be in control of PGE. A
significant number of the Company's employees were leased from United Group
Service Center, an affiliate, which provides such services to a number of
affiliated companies. This lease agreement was terminated on December 31, 1998,
at which time these individuals became employees of the Company. The Company
provides long distance and data network service to a number of affiliated
companies.

                                      F-16
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(6) RELATED PARTY TRANSACTIONS (CONTINUED)
Balances with affiliates related to operating activities are settled monthly. In
addition, the Company has made both interest bearing and non-interest bearing
advances to affiliated companies.

    Due from affiliates consists of the following:

<TABLE>
<CAPTION>
                                                            DECEMBER 31
                                                        --------------------
                                                          1998       1997
                                                        ---------  ---------
<S>                                                     <C>        <C>
Core Marketing--note receivable due September 1,
  1998................................................  $      --  $1,798,889
UICI Administrators (long distance services)..........    308,346     94,417
Interactive Media Works (IMW) (long distance
  services)...........................................      6,214     25,263
Core Marketing (long distance services)...............     82,695    111,280
AMLI Management Co. (long distance services)..........     10,695         --
Other receivables from various affiliates.............     93,908     97,922
                                                        ---------  ---------
                                                        $ 501,858  $2,127,771
                                                        ---------  ---------
                                                        ---------  ---------
</TABLE>

    Due to affiliates consists of the following:

<TABLE>
<CAPTION>
                                                                         1998         1997
                                                                      ----------  ------------
<S>                                                                   <C>         <C>
PGE (not considered an affiliate in 1998)...........................  $       --  $  2,335,787
Group Association (UGA) and Core Marketing (commissions)............       5,339       134,618
Other payables to various affiliates................................     318,681       249,012
                                                                      ----------  ------------
                                                                      $  324,020  $  2,719,417
                                                                      ----------  ------------
                                                                      ----------  ------------
</TABLE>

                                      F-17
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(6) RELATED PARTY TRANSACTIONS (CONTINUED)
    Significant services and transactions incurred in the normal course of
operations with affiliated companies are summarized as follows:

<TABLE>
<CAPTION>
                                                                            1998          1997          1996
                                                                        ------------  ------------  -------------
<S>                                                                     <C>           <C>           <C>
Revenues include the following:
  U.S. Telco-billing and collection services, customer service and
    accounting services...............................................  $         --  $    200,370  $          --
  Long distance revenues from affiliates: UGA, UICI, IMW, Core
    Marketing, and AMLI...............................................     4,592,040     3,351,375      5,445,903
                                                                        ------------  ------------  -------------
                                                                        $  4,592,040  $  3,551,745  $   5,445,903
                                                                        ------------  ------------  -------------
                                                                        ------------  ------------  -------------
Cost of revenues includes the following:
  Network transmission services--PGE (not considered an affiliate in
    1998).............................................................  $         --  $ 15,917,688  $  20,527,236
                                                                        ------------  ------------  -------------
                                                                        ------------  ------------  -------------
Selling, general and administrative expenses include the following:
  Expenses paid on behalf of PGE (not considered an affiliate in 1998)
    for access services, for which the Company was reimbursed.........  $         --  $  3,534,154  $   5,040,051
  Expenses incurred for leasing employees from United Group Service
    Center............................................................     5,581,428     4,395,820      4,542,007
  Sales commissions to affiliates:
    Core Marketing, UICI, UGA, Best Connections and AMLI..............       140,187       990,533      5,335,233
  Overhead expenses reimbursed to/from UGA Divisions..................       241,810       110,761         77,231
  Core Marketing--casual mailings and telemarketing...................        21,425       603,742             --
                                                                        ------------  ------------  -------------
                                                                        $  5,984,850  $  9,635,010  $  14,994,522
                                                                        ------------  ------------  -------------
                                                                        ------------  ------------  -------------
Interest expense includes the following:
  Interest paid to shareholder........................................  $         --  $         --  $     173,380
                                                                        ------------  ------------  -------------
                                                                        ------------  ------------  -------------
</TABLE>

    During 1997, the Company loaned $2,000,000 to an affiliated company, Core
Marketing, LLC. Of such amount, $201,000 was repaid in 1997 and the remainder
was repaid in 1998.

    In July 1998, the Company purchased notes receivable from one of the
Company's significant shareholders at a discount. The notes receivable evidenced
loans made by the significant shareholder in 1996 to Matrix employees to finance
their purchases of Matrix common stock (which was subsequently converted to
shares of the Company's common stock). Each of the employees who delivered a
note receivable also entered into a Buyback Agreement dated October 6, 1996 (the
"Buyback Agreement"), pursuant to which the Company has the option (but no
obligation) to repurchase a portion of such employee's stock upon the
termination of his or her employment. The original notes, plus accrued interest,
at the date of purchase by the Company was $573,000. The Company purchased these
notes for $435,000.

                                      F-18
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(6) RELATED PARTY TRANSACTIONS

    In connection with the purchase of the notes receivable above, the Company
repurchased 240,912 shares of its common stock subject to the Buyback Agreement
from terminated employees. The Company exercised its right to repurchase 225,154
of such shares at a price range of $1.51 to $1.70 per share, and the former
employees used the $373,081 in proceeds to reduce the amount of their notes. The
Company repurchased an additional 15,758 shares in satisfaction of the remaining
balance of $116,085 on the former employees' notes.

(7) STOCK COMPENSATION

    AVTEL OPTIONS--Prior to the Share Exchange AvTel adopted a 1997 Incentive
Stock Option Plan (the "AvTel 1997 Plan") for option grants to officers and key
employees. The AvTel 1997 Plan authorizes grants of options to purchase up to
250,000 shares of authorized but unissued common stock and 125,000 shares of
restricted common stock. Stock options are to be granted with an exercise price
greater than or equal to the stock's fair market value at the date of grant.
Options generally vest 25% after one year and 25% each year thereafter until
fully vested. Such options typically expire after ten years. In addition, AvTel
had other options which had been granted prior to the adoption of the AvTel 1997
Plan. After the Share Exchange all outstanding options became obligations of the
Company.

    On January 1, 1998, the Company granted options to purchase 75,000 shares of
the Company's common stock at an exercise price of $1.50 per share. On March 1,
1998 the Company granted options to purchase 100,000 shares of the Company's
common stock at an exercise price of $1.50 per share. These options become
exercisable based on qualified billings of long distance customers generated by
the optionees from the respective dates of grant through December 31, 2000. As
of December 31, 1998, 27,316 options are exercisable.

    On February 24, 1998, the Company's Board of Directors approved the grant of
a total of 120,000 shares of restricted common stock to two board members
pursuant to the Company's 1997 Stock Incentive Plan. The restricted stock
provisions will lapse over four years or fully lapse in the event of death or
permanent disability of the grantees. During 1998 one of the board members
resigned from the board and his 60,000 shares were vested immediately. As of
December 31, 1998, only those 60,000 shares of restricted common stock are
vested.

    During 1998, the Company adopted the 1998 Stock Incentive Plan (the "AvTel
1998 Plan"), which provides for the issuance of up to 1,500,000 shares of AvTel
common stock pursuant to stock options and issuances of restricted stock, as
well as for the grant of stock appreciation rights. Stock options are to be
granted with an exercise price greater than or equal to the stock's fair market
value at the date of grant. Options generally vest 25% after one year and 25%
each year thereafter until fully vested. Such options typically expire after ten
years. As of December 31, 1998, the Company granted 671,000 options under the
AvTel 1998 Plan. Exercise prices range from $2.375 to $4.00 per share.

    MATRIX OPTIONS--Prior to the Share Exchange, the Board of Directors of
Matrix approved stock options for certain officers and employees. Stock option
transactions of Matrix are included in the table below. At the time of the Share
Exchange, Matrix had 22,338 options outstanding to purchase its common stock. In
connection with the Share Exchange, the Company reissued these stock options and
they vested immediately. These reissued options expire in December 2002.

                                      F-19
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(7) STOCK COMPENSATION (CONTINUED)
    The Company applies APB Opinion No. 25 in accounting for the AvTel 1997
Plan, 1998 Stock Incentive Plan and the Matrix options discussed above; and,
accordingly, no compensation cost has been recognized for its stock options
issued to employees in the financial statements. For stock options granted to
non-employees, the Company accounts for such options in accordance with the
requirements of SFAS No. 123. Had the Company determined compensation cost based
on the fair value at the grant date for stock options issued to employees under
SFAS No. 123, the Company's net loss in 1998 and 1997 would not have materially
changed.

    BEST CONNECTIONS, INC. OPTIONS--As discussed in Note 2, as a result of the
Matrix combination with Best, Matrix assumed the obligation to issue stock
options to Best's agents under Best's 1997 Option Plan. Effective as of the date
of combination, July 1, 1997, 1,292,000 options to purchase Matrix common shares
were granted to Best agents at $1.50 per share, which will result in aggregate
commission expense of approximately $764,000 over the vesting period. The option
price per share was $1.50. The agents' options become exercisable no later than
December 31, 1999 and may be exercised earlier based on qualified billings of
long distance customers generated by the agents during six month measurement
periods. After the Share Exchange such options became obligations of the
Company. As of December 31, 1998, 641,532 options have been earned and 172,120
exercised under the Plan and the Company recorded expense totaling approximately
$132,000 and $249,000 related to such options based on qualified billings for
1998 and 1997, respectively. Options generally expire two years from the date
they become exercisable or sixty days subsequent to termination of employment.

    The per share weighted average fair value of stock options granted on July
1, 1997 was $.59 on the date of the grant using the Black-Scholes
option--pricing model with the following weighted-average assumptions: expected
volatility of 30%, risk-free interest rate of 6.0%, and an expected life of 3.5
years.

    BEST CONNECTIONS, INC. OPTIONS AND RESTRICTED STOCK AGREEMENTS--As discussed
in Note 2 as a result of the Matrix combination with Best, Matrix assumed the
obligation to issue stock options, consisting of Matrix common shares owned by
Best, to employees of affiliated companies. Effective July 15, 1997, the Company
issued 247,500 options to purchase an equal number of shares of its common
stock, at $1.50 per share subject to the provisions of a Restricted Stock
Agreement. The Restricted Stock Agreement includes a call provision by the
Company that lapses 10 percent each six months beginning December 15, 1997
through June 15, 2002 or fully lapses in the event of death or permanent
disability of the option holder. The call price is equal to the initial purchase
price of $1.50 plus the aggregate amount of net income or less the aggregate
amount of net losses per share for each fiscal quarter beginning after December
15, 1997; provided that the call price could not be less than $1.50 per share.
During 1998 AvTel relinquished its right to call the shares which caused the
options to vest immediately and to expire if not exercised before December 13,
1998. AvTel provided the holders the option of a "cashless" exercise by
purchasing up to one half the shares issuable at $3.00 The Company recognized
expense over the life of the options in accordance with the provisions of SFAS
No. 123 and recorded expense of $500,000 in 1997 and a reduction of expense of
$170,000 in 1998. At December 31, 1998, 107,250 options had been exercised,
67,250 were used for the cashless exercise, 45,500 expired, and 27,500 were
cancelled.

                                      F-20
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(7) STOCK COMPENSATION (CONTINUED)
    Stock option activity is as follows:

<TABLE>
<CAPTION>
                                                                             WEIGHTED AVERAGE
                                                                                 EXERCISE
                                                                  OPTIONS          PRICE
                                                                 ----------  -----------------
<S>                                                              <C>         <C>
Outstanding at December 31, 1995...............................      53,607      $    2.24
  Canceled.....................................................     (31,269)          2.24
                                                                 ----------
Outstanding at December 31, 1996...............................      22,338           2.24
  AvTel options outstanding at time of Share Exchange..........     255,109           4.52
  Granted......................................................   1,539,500           1.50
  Exercised....................................................     (15,000)          3.50
                                                                 ----------
Outstanding at December 31, 1997...............................   1,801,947           1.78
  Granted......................................................   1,024,500           3.31
  Expired......................................................     (46,750)          1.54
  Forfeited....................................................    (106,999)          1.91
  Exercised....................................................    (353,327)          1.81
                                                                 ----------
Outstanding at December 31, 1998...............................   2,319,371           2.45
                                                                 ----------          -----
                                                                 ----------          -----
  Exercisable at December 31, 1995.............................          --      $      --
  Exercisable at December 31, 1996.............................       3,574           2.24
  Exercisable at December 31, 1997.............................     349,972           2.21
  Exercisable at December 31, 1998.............................     524,849           2.16
</TABLE>

    Total expense recorded for stock based awards during 1998 and 1997 was
$477,148 and $748,884, respectively.

    The following table summarizes certain information about the Company's stock
options at December 31, 1998.

<TABLE>
<CAPTION>
                             OPTIONS OUTSTANDING
                  -----------------------------------------
                                 WEIGHTED
                                 AVERAGE        WEIGHTED             OPTIONS EXERCISABLE
                                REMAINING        AVERAGE     ------------------------------------
    RANGE OF      NUMBER OF    CONTRACTUAL      EXERCISE     NUMBER OF OPTIONS  WEIGHTED AVERAGE
EXERCISE PRICES    OPTIONS         LIFE           PRICE         EXERCISABLE      EXERCISE PRICE
----------------  ----------  --------------  -------------  -----------------  -----------------
<S>               <C>         <C>             <C>            <C>                <C>
$   1.50 -  2.25   1,427,218      2.5 years     $    1.57          462,334          $    1.54
    2.38 -  3.30     303,749            8.5          2.92           26,736               2.93
    4.00 -  6.00     555,112            9.9          4.02            2,487               4.00
    6.75 -  8.00      17,093            8.9          7.47           17,093               7.47
   12.00 - 14.00      16,199            8.1         12.77           16,199              12.77
                  ----------  --------------       ------          -------             ------
                   2,319,371            5.1          2.45          524,849               2.16
                  ----------                                       -------
                  ----------                                       -------
</TABLE>

                                      F-21
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(8) EARNINGS PER COMMON SHARE

    The Company adopted the provisions of Statement of Financial Accounting
Standards No. 128, EARNINGS PER SHARE ("SFAS 128") in the fourth quarter of
1997, which required companies to present basic earnings per share and diluted
earnings per share.

<TABLE>
<CAPTION>
                                                                     1998            1997
                                                                 -------------  --------------
<S>                                                              <C>            <C>
Numerator:
  Net loss.....................................................  $  (5,802,318)    (10,191,720)
  Less preferred dividends.....................................         47,264           5,540
                                                                 -------------  --------------
    Loss applicable to common shareholders.....................  $  (5,849,582)    (10,197,260)
                                                                 -------------  --------------
                                                                 -------------  --------------
Denominator:
  Weighted average number of common shares used in basic and
    diluted loss per common share..............................      9,633,474       8,267,296
                                                                 -------------  --------------
                                                                 -------------  --------------
  Basic and diluted loss per common share......................  $       (0.61)          (1.23)
                                                                 -------------  --------------
                                                                 -------------  --------------
</TABLE>

    Per share amounts are not reflected for 1996 due to the recapitalization of
the Company as a result of the reverse acquisition in 1997.

(9) LEASING ACTIVITIES AND OTHER COMMITMENTS

    The Company leases office space and various equipment under operating leases
expiring in various years through 2004. In the normal course of business,
operating leases are generally renewed or replaced by other leases. Total rental
expenses were $546,000 in 1998, $245,000 in 1997, and $325,000 in 1996. Future
minimum lease payments under non-cancelable operating leases (with initial or
remaining lease terms in excess of one year) and future minimum capital lease
payments as of December 31, 1998 are: 1999--$731,000; 2000--$688,000;
2001--$426,000; 2002--$307,000; and 2003--$101,224.

    Substantially all of the Company's switching and transmission facilities
have been provided by two suppliers under negotiated contractual agreements. The
Company purchases long distance services at certain per-minute rates, which vary
depending on the time and type of call. At December 31, 1998, there are
outstanding contractual agreements committing the Company to $18,570,000 minimum
usage through February 15, 2000.

(10) REVOLVING LINE OF CREDIT

    In 1998, the Company entered into a Loan and Security Agreement with a bank,
which provides for an asset-based revolving credit line with a floating interest
rate of prime plus 2% (9.75% at December 31, 1998), payable monthly. The credit
limit is the lesser of $7,500,000 or a percentage of the amount of the Company's
eligible receivables and other items. Borrowings are secured by substantially
all of the assets of the Company. The agreement also calls for a minimum
borrowing of $1,500,000 with a two-year term. At December 31, 1998, there was
$1,112,890 outstanding under the agreement, and an additional $1,655,000 was
eligible for borrowing under the revolving credit line.

    The Loan and Security Agreement contains restrictions on net worth, future
acquisitions and other transactions.

                                      F-22
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(11) SEGMENT REPORTING

    In June 1997, the Financial Accounting Standards Board issued Statement No.
131, DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION, which
the Company adopted in 1998. The Company identifies such segments based on
management responsibility. The Company's two primary business segments are
Business Markets Group ("BMG") and Channel Markets Group ("CMG").

    BMG targets mid-size corporate customers for their broadband data, voice and
Internet networking needs. Through a value-added sales process, the Company
designs, provisions and manages its customers' networks. The Company provides a
host of additional value-added services assisting its customers to create
enhanced intranet and extranet applications. Additionally, BMG markets to its
customer base a variety of traditional communications products and services such
as long distance telephone service, executive calling cards and wireless paging.

    CMG targets and markets to distribution companies, agents, resellers and
affinity groups ("Channel Partners") that maintain access to large groups of
individuals and small businesses through affinity relationships and niche
marketing strategies. Channel Partners include non-profit organizations and
for-profit distribution groups. CMG provides Internet access, long distance
telephone and other services to customers in 49 states.

    During 1998, the Company measured and monitored the progress of BMG and CMG
based on revenues from external customers and gross margin. The results for the
year ended December 31, 1998 are as follows:

<TABLE>
<CAPTION>
                                YEAR ENDED DECEMBER 31, 1998
---------------------------------------------------------------------------------------------
                                                       BMG            CMG           TOTAL
                                                   ------------  -------------  -------------
<S>                                                <C>           <C>            <C>
Revenue from external customers..................  $  6,338,114     37,675,384     44,013,498
Gross margin.....................................     1,846,895     10,317,249     12,164,144

Total assets.....................................     8,079,998      7,879,356     15,959,354
</TABLE>

<TABLE>
<CAPTION>
                                YEAR ENDED DECEMBER 31, 1997
---------------------------------------------------------------------------------------------
                                                       BMG            CMG           TOTAL
                                                   ------------  -------------  -------------
<S>                                                <C>           <C>            <C>
Revenue from external customers..................  $  5,791,993     45,597,087     51,389,080
Gross margin.....................................     1,715,205     13,446,368     15,161,573

Total assets.....................................     2,241,825     16,483,025     18,724,850
</TABLE>

<TABLE>
<CAPTION>
                                YEAR ENDED DECEMBER 31, 1996
---------------------------------------------------------------------------------------------
                                                       BMG            CMG           TOTAL
                                                   ------------  -------------  -------------
<S>                                                <C>           <C>            <C>
Revenue from external customers..................  $  6,368,460     65,189,835     71,558,295
Gross margin.....................................     2,135,461     21,748,438     23,883,899

Total assets.....................................       705,964     19,632,440     20,338,404
</TABLE>

(12) CONTINGENCIES

    The Company's common stock has been traded on The Nasdaq SmallCap Market
since May 28, 1998. Trading in the Company's stock was halted by Nasdaq after
the close of trading on November 12, 1998,

                                      F-23
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(12) CONTINGENCIES (CONTINUED)
through the close of trading on November 13, 1998, as a result of an unusual
upsurge in its stock price and trading volume. This unusual event has triggered
the initiation of class action litigation under the federal securities laws. The
Company believes that these claims are without merit and intends to defend
vigorously this litigation. However, it is not possible at this time for the
Company to predict with certainty the outcome of this litigation. Even if the
Company prevails in the litigation, the expenses of the defense could have a
material adverse effect on the Company's operating results and financial
condition.

    The Company presently has other contingent liabilities relating to various
lawsuits and other matters related to the conduct of its business. On the basis
of information furnished by counsel and others, management believes these
contingencies upon resolution will not materially affect the financial condition
or results of operations of the Company.

(13) SUBSEQUENT EVENTS

    On April 13, 1999, the Company sold 1,500 shares of its newly-designated
Series B Convertible Preferred Stock (the "Series B Stock") to AMRO
International, S.A., an entity organized under the laws of Panama, Austinvest
Anstalt Balzers, an entity organized under the laws of Liechtenstein, and
Esquire Trade & Finance Inc., an entity organized under the laws of the British
Virgin Islands (the "Series B Investors") for $1,500,000. The Series B Stock has
a liquidation preference of $1,000 per share. The Series B Stock will be
entitled to an annual dividend of $30 per share, payable in cash or Common
Stock, at the Company's option. The annual dividend will increase to $60 per
share if the Company ever ceases to be listed on The Nasdaq Stock Market or any
national securities exchange. The Series B Stock is convertible into Common
Stock at the option of the Series B Investors at any time. The number of shares
of Common Stock to be received by a Series B Investor upon conversion will equal
the liquidation preference of the amount converted, divided by the conversion
price. The conversion price will be the lesser of (1) $6.875, or (2) 89% of the
low closing bid price for the Common Stock on The Nasdaq SmallCap Market at the
time of conversion. The conversion price will not be less than $3.00 for 180
days after the date of issuance of the Series B Stock. Thereafter the conversion
price will not be less than $2.00 as long as certain revenue and EBITDA
requirements are met. As a result, the Company could issue up to 750,000 shares
of Common Stock upon conversion if all of the Series B Stock were converted at
the lowest possible conversion price (assuming such revenue and EBITDA
requirements continue to be met). Unless the Company shall have obtained the
approval of its voting stockholders in accordance with the rules of The Nasdaq
Stock Market, the Company will not issue shares of Common Stock upon conversion
of any shares of Series B Stock if such issuance of Common Stock, when added to
the number of shares of Common Stock previously issued by the Company upon
conversion of or as dividends on shares of the Series B Stock, would exceed
19.9% of the number of shares of Common Stock which were issued and outstanding
on the original issuance date of the Series B Stock. The Company will pay
converting Series B Investors in cash for any excess over such amount.

    The Company also issued the Series B Investors warrants to purchase up to
20,000 shares of Common Stock at a price of $8.60 per share. The warrants may be
exercised beginning September 30, 1999, and terminate on March 31, 2002.

    The Company and the Series B Investors entered into a Registration Rights
Agreement that requires the Company to file, and obtain and maintain the
effectiveness of, a Registration Statement with the Securities and Exchange
Commission (the "Commission") in order to register the public resale of all

                                      F-24
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                       DECEMBER 31, 1998, 1997, AND 1996

(13) SUBSEQUENT EVENTS (CONTINUED)
shares of the Common Stock acquired by the Series B Investors (a) upon
conversion of the Series B Stock, (b) in payment of dividends on the Series B
Stock, and (c) upon exercise of the warrants. The Company will be subject to
significant monetary penalties if it fails to obtain or maintain the
effectiveness of such Registration Statement.

    The Company paid Trinity Capital Advisors, Inc. $60,000 as compensation
for arranging the placement of the Series B Stock.

(14) QUARTERLY FINANCIAL DATA (UNAUDITED)

<TABLE>
<CAPTION>
                                                                      1998
                                    -------------------------------------------------------------------------
                                      1st Qtr         2nd Qtr        3rd Qtr         4th Qtr         Total
                                      -------         -------        -------         -------         -----
 <S>                                 <C>             <C>            <C>            <C>             <C>
 Revenues                            12,444,839      11,294,866     10,589,137      9,684,656      44,013,498
 Gross margin                         3,156,844       2,938,848      3,336,290      2,732,162      12,164,144
 Net loss as previously reported     (1,672,490)     (2,112,947)    (1,208,539)    (2,133,342)     (7,127,318)
 Tax benefit from NOL carryback
  (note 5)                              304,448         413,004        156,006        451,542       1,325,000
 Adjusted net loss                   (1,368,042)     (1,699,943)    (1,052,533)    (1,681,800)     (5,802,318)

 Net loss per  common share -
  basic and diluted as previously
  reported                                (0.18)          (0.22)         (0.13)         (0.22)          (0.74)
 Net loss per  common share -
  basic and diluted adjusted for
  tax benefit from NOL carryback          (0.15)          (0.18)         (0.11)         (0.17)          (0.61)
</TABLE>

     During each of the quarters in 1998 the Company incurred a net operating
loss for federal income tax purposes.  Approximately $4,294,000 of the NOL
may be carried back to reduce taxable income in prior years.  The 1998
quarterly information has been adjusted to reflect the tax benefit of the
carryback of the tax NOL in each quarter.

                                      F-25
<PAGE>
                  AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES

                SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS

                 YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996

<TABLE>
<CAPTION>
                                                    BALANCE AT                                     BALANCE AT
                                                     BEGINNING                                       END OF
DESCRIPTION                                          OF PERIOD     ADDITIONS       DEDUCTIONS        PERIOD
--------------------------------------------------  -----------  -------------    -------------    ----------
<S>                                                 <C>          <C>              <C>              <C>
Allowance for doubtful
  Accounts and other
  Provisions--years ended:
  December 31, 1998...............................  $   982,000      2,728,000(a)     2,775,000(b)    935,000
                                                    -----------  -------------    -------------    ----------
                                                    -----------  -------------    -------------    ----------
  December 31, 1997...............................  $   627,000      1,830,000(a)     1,475,000(b)    982,000
                                                    -----------  -------------    -------------    ----------
                                                    -----------  -------------    -------------    ----------
  December 31, 1996...............................  $   730,000      1,461,000(a)     1,564,000(b)    627,000
                                                    -----------  -------------    -------------    ----------
                                                    -----------  -------------    -------------    ----------

Valuation allowance for
  deferred tax assets:
  December 31, 1998...............................  $ 1,185,000      1,269,000(c)            --     2,454,000
                                                    -----------  -------------    -------------    ----------
                                                    -----------  -------------    -------------    ----------
  December 31, 1997...............................  $        --      1,185,000(c)            --     1,185,000
                                                    -----------  -------------    -------------    ----------
                                                    -----------  -------------    -------------    ----------
  December 31, 1996...............................  $        --             --               --            --
                                                    -----------  -------------    -------------    ----------
                                                    -----------  -------------    -------------    ----------
</TABLE>

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

(a) Charged to cost of revenues.

(b) Amounts written off.

(c) Recognized as a component of deferred tax assets.

                                      F-26
<PAGE>
EXHIBIT INDEX

<TABLE>
<CAPTION>
EXHIBIT
NUMBER TITLE OF DOCUMENT
------ --------------------------------------------------------------------------
<C>    <S>
  2.1  Acquisition Agreement, dated as of August 30, 1996, by and among Hi-Tiger
         International, Inc., a Utah corporation, AvTel Communications, Inc., a
         Utah corporation, and AvTel Holdings, Inc., a California corporation.
         (Incorporated by reference to Exhibit A to Registrant's Information
         Statement on Schedule 14C dated October 2, 1996).

  2.2  Amendment No. 1 to Acquisition Agreement, dated October 22, 1996, among
         Hi-Tiger International, Inc., AvTel Communications, Inc. and AvTel
         Holdings, Inc. (Incorporated by reference to Exhibit 2.2 to Registrant's
         Current Report on Form 8-K dated October 23, 1996).

  2.3  Stock Exchange Agreement, dated as of April 29, 1997, by and between the
         Registrant and Matrix Telecom, Inc. (Incorporated by reference to
         Exhibit 2 to Registrant's Current Report on Form 8-K dated April 30,
         1997).

  2.4  Amendment to Stock Exchange Agreement, dated as of August 25, 1997, by and
         between the Registrant and Matrix Telecom, Inc. (Incorporated by
         reference to Exhibit 2 to Registrant's Current Report on Form 8-K dated
         August 25, 1997).

  2.5  Agreement and Plan of Merger, dated as of October 3, 1997, between AvTel
         Communications, Inc., a Delaware corporation and AvTel Communications,
         Inc., a Utah corporation. (Incorporated by reference to Exhibit 2.7 to
         Registrant's Annual Report on Form 10-KSB for the year ended September
         30, 1997).

  2.6  Stock Purchase Agreement, dated as of July 22, 1998, among the Registrant
         and the shareholders of Remote Lojix/PCSI, Inc. (Incorporated by
         reference to Registrant's Annual Report on Form 10-K for the year
         ended December 31, 1998).

  2.7  First Amendment to Stock Purchase Agreement, dated as of August 18, 1998,
         among the Registrant and the shareholders of Remote Lojix/PCSI, Inc.
         (Incorporated by reference to Registrant's Annual Report on Form 10-K
         for the year ended December 31, 1998).

  2.8  Earnout Agreement, dated as of October 30, 1998, among the Registrant and
         certain shareholders of Remote Lojix/PCSI, Inc. (Incorporated by
         reference to Registrant's Annual Report on Form 10-K for the year
         ended December 31, 1998).

  3.1  Certificate of Incorporation of the Registrant. (Incorporated by reference
         to Exhibit 3.1 to Registrant's Annual Report on Form 10-KSB for the year
         ended September 30, 1997).

  3.2  Certificate of Designations, Preferences and Rights of Series B
       Convertible Preferred Stock. (Incorporated by reference to Registrant's
       Annual Report on Form 10-K for the year ended December 31, 1998).

  3.3  Bylaws of the Registrant. (Incorporated by reference to Exhibit 3.2 to
         Registrant's Annual Report on Form 10-KSB for the year ended September
         30, 1997).

 10.1  Rights Agreements dated October 23, 1996, between the Registrant and
         holders of the Registrant's Series A Convertible Preferred Stock.
         (Incorporated by reference to Exhibit 4.2 to Registrant's Current Report
         on Form 8-K dated October 23, 1996).

 10.2  1997 Stock Incentive Plan. (Incorporated by reference to Exhibit A to the
         Registrant's definitive Proxy Statement on Schedule 14A dated January 8,
         1997.)

 10.3  1998 Stock Incentive Plan. (Incorporated by reference to Exhibit A to
         Registrant's definitive Proxy Statement on Schedule 14A dated April 28,
         1998).
</TABLE>

                                      I-1
<PAGE>

<TABLE>
<CAPTION>
EXHIBIT
NUMBER TITLE OF DOCUMENT
------ --------------------------------------------------------------------------
<C>    <S>
 10.4  New Best Connections, Inc. Amended and Restated 1997 Option Plan.
         (Incorporated by reference to Exhibit 4.2 to Registrant's Registration
         Statement on Form S-8 dated May 22, 1998).

 10.5  First Amendment to New Best Connections, Inc. Amended and Restated 1997
         Option Plan. (Incorporated by reference to Registrant's Annual Report
         on Form 10-K for the year ended December 31, 1998).

 10.6  Registration Rights and Lockup Agreement dated December 1, 1997, between
         the Registrant and Matrix Telecom, Inc., on behalf of the stockholders
         of Matrix, (Incorporated by reference to Exhibit 4 to Registrant's
         Current Report on Form 8-K dated December 1, 1997).

 10.7  Triple Net Real Property Lease (Multi-Tenant Building) dated as of
         February 16, 1998, by and between Bath Street Partners, a California
         limited partnership and the Company. (Incorporated by reference to
         Exhibit 10.8 to Registrant's Annual Report on Form 10-K for the year
         ended December 31, 1997).

 10.8  Commercial Lease Agreement dated February 28, 1995, Matrix Telecom, Inc.
         and Ameritas Life Insurance Corp., as amended by Lease Modification
         Agreement dated March 2, 1995. (Incorporated by reference to Exhibit
         10.9 to Registrant's Annual Report on Form 10-K for the year ended
         December 31, 1997).

 10.9  Resale Solutions Switched Services Agreement dated March 12, 1998, between
         Matrix Telecom, Inc. and Sprint Communications Company L.P.
         (Incorporated by reference to Exhibit 10.10 to Registrant's Annual
         Report on Form 10-K for the year ended December 31, 1997).

 10.10 Amendment to Carrier Transport Switched Services Agreement dated October
         15, 1998, between Matrix Telecom and Sprint Communications Company L.P.
         (Incorporated by reference to Exhibit 10.1 to Registrant's Quarterly
         Report on Form 10-Q for the quarter ended September 30, 1998).

 10.11 Loan and Security Agreement dated October 2, 1998, among Registrant,
         Matrix Telecom, Inc. and Coast Business Credit. (Incorporated by
         reference to Exhibit 10.2 to Registrant's Quarterly Report on Form 10-Q
         for the quarter ended September 30, 1998).

 10.12 License Agreement dated as of March 1, 1999, between Matrix Telecom, Inc.
         and Electronic Data Systems Corporation. (Incorporated by reference to
         Registrant's Annual Report on Form 10-K for the year ended December 31,
         1998).

 10.13 Convertible Preferred Stock and Warrants Purchase Agreement dated as of
         April 5, 1999, among Registrant, AMRO International, S.A., Austinvest
         Anstalt Balzers, and Esquire Trade & Finance Inc. (Incorporated by
         reference to Registrant's Annual Report on Form 10-K for the year
         ended December 31, 1998).


 10.14 Registration Rights Agreement dated as of April 5, 1999, among Registrant,
         AMRO International, S.A., Austinvest Anstalt Balzers, and Esquire Trade
         & Finance Inc. (Incorporated by reference to Registrant's Annual Report
         on Form 10-K for the year ended December 31, 1998).
 10.15 Stock Purchase Warrants granted by Registrant to AMRO International, S.A.,
         Austinvest Anstalt Balzers, and Esquire Trade & Finance Inc. (Incorporated
         by reference to Registrant's Annual Report on Form 10-K for the year ended
         December 31, 1998).

 21    List of Subsidiaries. (Incorporated by reference to Registrant's
         Annual Report on Form 10-K for the year ended December 31, 1998).

 23    Consent of KPMG LLP.

 27    Restated Financial Data Schedule.
</TABLE>

                                      I-2