<PAGE>

                                 UNITED STATES
                      SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, DC 20549

                                  FORM 10-K/A
                                AMENDMENT NO. 1
                  ------------------------------------------

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

For the fiscal year ended December 31, 1999

                                      OR

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

For the transition period from _________  to ___________

                        Commission File Number: 0-22944

                                 US WATS, INC.
                                 -------------
            (Exact name of Registrant as specified in its charter)

<TABLE>
<CAPTION>

<S>                                                      <C>
           New York                                                   22-3055962
-------------------------------                                     --------------
(State or other jurisdiction of                          (I.R.S.  Employer Identification No.)
incorporation or organization)

2 Greenwood Square, 3331 Street Road
Bensalem, Pennsylvania                                                   19020
------------------------------------                                 --------------
(Address of principal executive offices)                               (Zip Code)

(Registrant's telephone number, including area code):                (215) 633-9400
                                                                     --------------

Securities registered pursuant to Section 12 (b) of the Act:             None
                                                                         ----
</TABLE>
Securities registered pursuant to Section 12 (g) of the Act:

                        Common Stock ($0.001 par value)
                        -------------------------------
                               (Title of Class)

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

                         Yes     X              No
                             ---------             ---------

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form10-K.[_]

                                       1
<PAGE>

As of March 21, 2000 the market value of the Company's Common Stock held by non-
affiliates of the Registrant, based on the average closing sale price, was
approximately $12,600,000.

As of March 21, 2000 the Registrant has 20,728,444 shares of Common Stock
outstanding.


                                       2
<PAGE>

                           Description of Amendments

The Company has amended its Form 10-K for the fiscal year ended December 31,
1999 as follows:

                                       3
<PAGE>

                                    PART I
                                    ======

ITEM 3.  LEGAL PROCEEDINGS
--------------------------

On June 13, 1997, Mark Scully, a former President and Chief Operating Officer of
the Company, filed a complaint against the Company, Kevin O'Hare, Aaron Brown
and Stephen Parker, all former Company executives, in the United States District
Court for the Eastern District of Pennsylvania.  Mr. Scully asserted various
claims in connection with his termination of employment with the Company on
December 30, 1996.  In particular, he alleged, among other things, breach of
contract in connection with the termination of certain stock options, breach of
the alleged contract for employment, breach of an asserted duty of good faith
and fair dealing, fraudulent and negligent misrepresentation, and civil
conspiracy.  Mr. Scully alleged damages of at least $1.6 million, plus
attorneys' fees, costs and other disbursements and the cost of COBRA payments
and interest; $1 million of the alleged damages claimed are punitive.  The
Company contested the allegations of the complaint and intends to vigorously
defend against the action.  On June 9, 1999, the court issued its decision and
judgment was entered in favor of Mr. Scully and against the Company and two
former officers for the sum of approximately $626,000 and required the Company
to establish an escrow account equal to 120% of the judgement. The Court denied
Mr. Scully's claim for attorneys' fees and liquidated damages. An additional
amount of $376,000 was accrued during the quarter ended June 30, 1999 to
increase the reserve to the full judgment amount and was recorded in SG&A
expenses. The balance in the escrow account at December 31, 1999 was $770,363
and is recorded as Restricted Cash. The Company has appealed the decision and
maintains that the Court made a number of errors of law and that the Court
applied the wrong measure of damages. Mr. Scully has advised that he intends to
appeal as well.


The Company is party, in the ordinary course of business, to other litigation
involving services rendered, contract claims and other miscellaneous causes of
action arising from its business.  The Company has established reserves relating
to its legal claims and believes that potential liabilities in excess of those
recorded will not have a material adverse effect on the Company's Consolidated
Financial Statements, however, there can be no assurances to this effect.


                                       4
<PAGE>

                                   PART II
                                   -------

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

This annual report on Form 10-K includes "forward-looking statements" within the
meaning of Section 21E of the Securities Exchange Act of 1934, as amended and
Section 27A of the Securities Exchange Act of 1933, as amended.  Such statements
are subject to certain risks and uncertainties, including but not limited to:
changes in general economic conditions, increasing levels of competition in the
telecommunications industry, changes in telecommunications technologies, changes
in FCC regulations, the Company's reliance on transmission facilities based
carriers, risks involved in conducting international operations, the inability
to generate sufficient revenues to meet debt service obligations and operating
expenses, unanticipated costs associated with the Company's recent and future
acquisitions and the failure of the Company to manage its growth effectively.
Should one or more of these risks or uncertainties materialize, actual results
may vary materially from those estimated, anticipated or projected.  Although
the Company believes that the expectations reflected by such forward-looking
statements are reasonable based on information currently available to the
Company, no assurance can be given that such expectations will prove to have
been correct.  All forward-looking statements included herein are expressly
qualified in their entirety by these cautionary statements.


RESULTS OF OPERATIONS
---------------------


                            -1999 COMPARED TO 1998-

OVERVIEW

US WATS, Inc. is a switch-based interexchange carrier providing long distance
telephone communications services primarily to small and medium-size business
customers as well as residential customers.  The Company also provides inbound-
800 long distance services, as well as other telecommunications services such as
travel cards (calling cards), cellular, paging, internet service, dedicated
access, data services, pre-paid calling cards (debit cards), International
Callback and carrier termination services. The Company uses its own switches and
facilities to originate, transport and terminate calls for customers generally
located between Maine and Norfolk, Virginia and in California (on-net area).
Approximately 90% of the calls billed by the Company each month are processed
through the Company's own switches as of December 31, 1999.  For calls
originating or terminating outside the Company's own network (off-net area), the
Company utilizes the services provided by other long distance companies.

                                       5
<PAGE>

Total revenues decreased in 1999 by approximately $4,902,000 primarily due to
the decline in the average retail rate per minute and the Company's exit from
the International Callback business.

In addition, approximately $2,527,000 of the decrease in revenue was due to a
decline in retail sales through the agent and reseller channels, mostly
attributed to decreasing selling rates because of strong competition in the
marketplace.  Also, revenue through the carrier sales channel decreased by
approximately $1,338,000 for the year ended December 31, 1999.  In 1998, revenue
through the carrier channel consisted of a large amount of high credit risk
international traffic.  In 1999, the Company limited the amount of this traffic
in order to reduce bad debt exposure.

REVENUE

Revenues decreased 11% or approximately $4,902,000 to approximately $39,777,000
in 1999.  This was primarily due to a decrease in revenue through the carrier
sales channel of approximately $1,338,000.  In 1999, the Company limited the
amount of high-risk international traffic in order to reduce bad debt exposure.
Also, there was a decline in International Callback revenue of approximately
$1,037,000.  As deregulation occurs in European and Asian countries, the
International Callback business continues to diminish.  In addition, there was a
decrease in retail revenue of approximately $2,527,000.  As a result of strong
competition in the long distance marketplace, the Company's average retail rate
per minute decreased $.0194 from January, 1999 to December, 1999. This accounted
for approximately $2,360,000 of the decrease in retail revenue.


The table below shows the distribution of revenues on a percentage basis by
product line:

                            DISTRIBUTION OF REVENUES

                     Service                         % 1999   % 1998
                     ------------------------------------------------
                     Domestic 1+                         48%      45%
                     International                       22%      23%
                     Inbound                             17%      15%
                     Wireless                             3%       4%
                     Domestic Carrier Termination        10%      13%

GROSS PROFIT

Gross profit margin increased marginally from 28.8% in 1998 to 29.1% in 1999.
Gross profit decreased approximately $1,308,000 in 1999.  This was primarily due
to the decrease in revenues.

SELLING, GENERAL AND ADMINISTRATIVE EXPENSE

Selling, General and Administrative ("SG&A") expenses for 1999 were
approximately $813,000 lower than the amount incurred during 1998.  However,
SG&A expenses as a percentage of revenue increased  from 31.0% in 1998 to 32.8%
in 1999.   Depreciation expense decreased approximately $385,000 in 1999 due to
accelerating the depreciation of assets associated with one of the Company's
switches in 1998 (See footnote 2 of the financial statements).  Commission
expense decreased approximately $354,000 or 6.7% from 1998 due primarily to a
decrease in revenues on which commissions are paid. Salary compensation expense
decreased approximately $188,000 to approximately $2,857,000 primarily due to a
severance payment to a former president in 1998 of approximately $300,000.
Legal and consulting expenses increased approximately $243,000 primarily due to
fees associated with potential

                                       6
<PAGE>

strategic alternatives for the Company and the Company's pending reincorporation
merger into the state of Delaware. Also, other miscellaneous SG&A expenses
decreased approximately $129,000 in 1999.

PROVISION FOR BAD DEBT

Bad debt expense increased approximately $665,000 (from approximately 1.8% of
net sales in 1998 to approximately 3.7% of net sales in 1999).  In 1999, the
Company incurred bad debt expense of approximately $861,000 related to a large
carrier account, which contributed to bad debt expense for the year of
approximately $1,453,000.

NET LOSS FROM OPERATIONS

The Company recorded a net loss for 1999 of approximately $2,951,000 compared to
a net loss of approximately $1,828,000 for 1998.  This was primarily due to a
decrease in revenues, and an increase in bad debt expense.  A portion of the net
loss in 1999 was attributable to the following:  bad debt expense of
approximately $861,000 related to the writeoff of a large carrier account,
depreciation expense of approximately $105,000 associated with accelerating
depreciation of certain assets (See footnote 2 of the financial statements), and
a miscellaneous expense of $376,000 associated with a legal judgment (See
footnote 12 of the financial statements).


                            -1998 Compared to 1997-

Overview

The Company experienced significant changes in its business that negatively
impacted its results of operations for the year ended December 31, 1998.  In the
first quarter of 1998, the Company and ACC Corp. mutually terminated an
Agreement and Plan of Merger between the two Companies. During the first quarter
of 1998, prior to the termination of such agreement, the Company's operating and
sales initiatives were not met due to management's focus on integration plans
with ACC Corp.  As a result, the Company's revenues in the first quarter of 1998
were negatively impacted.

Also, revenues decreased in 1998 by approximately $3,023,000 due to a decline in
the International Callback revenue channel.  This was a result of management's
decision to gradually exit the International Callback business.  This decision
was based primarily on the telecommunications deregulation in European and Asian
countries.  As pricing for long distance services has decreased in these areas,
the International Callback business as a whole has diminished.

In addition, approximately $3,875,000 of the decrease in revenue was due to a
decline in the retail revenue channel, mostly attributed to decreasing selling
rates because of strong competition in the marketplace.  Also, revenue through
the carrier sales channel decreased by approximately $4,200,000 for the year
ended December 31, 1998.  In 1997, revenue through the carrier channel consisted
of a large amount of high credit risk international traffic.  In 1998, the
Company limited the amount of this traffic in order to reduce bad debt exposure.

REVENUE

Total revenues decreased 20.9% or approximately $11,788,000 to approximately
$44,679,000 in 1998,  primarily due to a decrease in carrier revenue of
approximately $4,200,000, a decrease in International Callback revenue of
approximately $3,023,000, and a decrease in retail revenue of approximately
$3,875,000.  As a result of strong competition in the long distance market, the
Company's average retail rate per minute decreased $.018 from January, 1998 to
December, 1998. This accounted for approximately $2,009,000 of the $3,875,000
decrease in retail revenue.

                                       7
<PAGE>

The table below shows the distribution of revenues on a percentage basis by
product line:

                            DISTRIBUTION OF REVENUES

                     Service                         % 1998   % 1997
                     ------------------------------------------------
                     Domestic 1+                         45%      37%
                     International                       23%      31%
                     Inbound                             15%      15%
                     Wireless                             4%       4%
                     Domestic Carrier Termination        13%      13%

GROSS PROFIT

Gross profit margin in 1998 increased 8.7% to 28.8% from 1997.  The increase in
gross profit margin is primarily attributable to the decrease in carrier
revenue, which generates a much lower margin than the Company's retail products,
but are a necessary component of fully utilizing network facilities.  As a
percentage of total revenue, carrier revenue decreased to approximately 26% for
1998 versus 28% in 1997.

SELLING, GENERAL AND ADMINISTRATIVE EXPENSE

Selling, General and Administrative ("SG&A") expenses for 1998 were
approximately $3,088,000 lower than the amount incurred during 1997.  However,
SG&A expenses as a percentage of revenue increased marginally from 30.0% in 1997
to 31.0% in 1998.  Depreciation expense increased approximately $441,000 in
1998.  Of this increase, $393,000 was due to accelerating the depreciation of
assets associated with one of the Company's switches.  Commission expense
decreased approximately $1,408,000 or 21.0% from 1997 due primarily to a
decrease in revenues on which commissions are paid. Salary compensation expense
decreased approximately $570,000 to approximately $3,045,000 due to less
headcount throughout 1998.  Also, other miscellaneous SG&A expenses decreased
approximately $1,537,000 in 1998.

PROVISION FOR BAD DEBT

Bad debt expense decreased approximately $677,000 (from approximately 2.6% of
net sales in 1997 to approximately 1.8% of net sales in 1998).  In 1997, the
Company incurred bad debts related to three large carrier accounts.  The
improvement in 1998 is mainly attributed to the Company's ability to more
effectively monitor and control exposure from revenue derived from the carrier
channel.

NET LOSS FROM OPERATIONS

The Company recorded a net loss before preferred dividends for 1998 of
approximately $1,828,000 versus a net loss before preferred dividends of
approximately $3,700,000 for 1997.  This improvement is mainly due to an
increase in gross profit margins, a decrease in bad debt expense, a decrease in
commission expense, a decrease in legal and accounting fees and a decrease in
salary expense offset by an increase in depreciation expense.  A portion of the
net loss before preferred dividends of approximately $1,828,000 in 1998 was
attributable to the following: a one time salary expense of approximately
$300,000 associated with severance paid to a former President, an increase in
miscellaneous expense of approximately $102,000 associated with moving the
corporate office, an increase in depreciation expense of approximately $393,000
(See footnote 2 under Property and

                                       8
<PAGE>

Equipment), consulting expenses of approximately $100,000 associated with the
engagement of Paine Webber to explore potential strategic alternatives for the
Company and approximately $256,000 for other consulting, legal and accounting
fees associated with potential strategic alternatives for the Company.


LIQUIDITY AND CAPITAL RESOURCES
-------------------------------

At December 31, 1999, cash and cash equivalents were approximately $827,000.
Cash flow used in operations in 1999 was approximately $525,000.  Net cash used
in investing activities in 1999 was approximately $1,943,000, which resulted
from the purchase of property and equipment primarily related to the new switch.
The Company expects to incur approximately $2,000,000 in capital expenditures in
2000 in order to upgrade its network and switching technology.

Working capital deficiency at December 31, 1999 was approximately $1,549,000 as
compared to a deficiency of approximately $369,000 at December 31, 1998. The
increase in working capital deficiency was primarily due to the increase in net
loss from 1998 to 1999 as stated above.

The Company has a revolving $2,000,000 credit facility with Century Business
Credit Corporation, which was renegotiated and amended on May 11, 1999 and is
automatically renewable for three successive one year periods. Interest on the
revolving credit facility is currently calculated at the prime lending rate plus
2 3/4%, with a minimum loan value of $750,000. The loan is collateralized by
accounts receivable and fixed and intangible assets of the Company. As of
December 31, 1999, the Company's outstanding balance on its credit facility was
approximately $1,037,000, leaving approximately $963,000 available for future
borrowing under the credit facility. The Company was not in compliance with two
of its debt covenants at December 31, 1999 concerning notification of an
acquisition of another entity and the bankruptcy of a significant customer.
However, the Company received a waiver related to such conditions of non-
compliance.

The Company has capital lease obligations for various equipment pursuant to
leases with terms of three to five years.  These leases expire at various times
through the year 2000.  The leases carry interest rates ranging from 9.0% to
13.9%, and are collateralized by the equipment purchased.  The aggregate lease
balance as of December 31, 1999 was approximately $153,000, which is due within
the next year.

On March 23, 1999, the Company through a private placement transaction, issued
900,000 shares of common stock to Gold & Appel Transfer, S.A., a majority
shareholder of the Company, for an aggregate purchase price of $1,530,000 or
$1.70 per share.  The proceeds of the issuance were used for general working
capital.  The terms of such transaction were negotiated between the Company and
Gold & Appel Transfer, S.A. on an arms length basis, with Mr. Anderson, the
controlling party of Gold & Appel, abstaining from all negotiations.

On March 22, 2000, the Company entered into a Loan Agreement with two
significant shareholders. The terms of the agreement call for the Company to
borrow up to $1,500,000 at a rate of 10% per annum and due and payable on March
1, 2001. The agreement includes that all parties may convert all or any portions
of the loan amount to shares of the Company's Common Stock at $2.50 per share.

The Company believes that it will require additional funds in the near future to
continue its operations.  In addition, the Company must raise additional capital
to meet the capital and surplus requirements for its Common Stock to remain
listed on The Nasdaq SmallCap Market.  Management will focus on obtaining
additional financing and raising additional equity in order to support future
growth.  The

                                       9
<PAGE>

Company's plans for growth include both substantial internal growth and the
potential acquisition of other long distance companies. Also, in order to
achieve the Company's plans for growth in the long distance business as well as
its entry into other communications services, the Company may require additional
equity and is currently seeking sources of funding. The Company cannot give
assurance as to the potential success of these efforts.


YEAR 2000
---------

The Year 2000 issue involved the fact that many computers and computer
applications define dates by the last two digits of the year, and as such would
possibly not be able to properly calculate, store, use or identify a date after
December 31, 1999.  In response to the Year 2000 issue, the Company dedicated
the time and resources it deemed necessary to address and correct any potential
Year 2000 problems.  Prior to January 1, 2000, the Company reviewed and
evaluated the possible effects of the Year 2000 issue upon its computer systems,
network elements and software applications and other office systems.

As part of the plan to identify and address the Year 2000 issue, the Company
identified an inventory of all systems, assessed the compliance of all systems,
upgraded or replaced any systems which were non-compliant and developed a
contingency plan to minimize the effects of any Year 2000 noncompliance.  The
Company also initiated inquiries from vendors that the Company interacts with
electronically regarding their compliance with the Year 2000 issue.

The Company purchased a new DSC MegaHub 600E switch in order to replace an old
noncompliant switch in Philadelphia.  The switch was installed and began
supporting operations in the third quarter of 1999.  The total cost of replacing
the switch was approximately $2.0 million.  As a result of the Company's focus
on the testing its computer systems, network elements, and software
applications, there were no disruptions from the Year 2000 issue.

The Company believes that its own network systems are Year 2000 compliant due to
the nature and extent of the testing the Company conducted and continues to
implement on such systems.



                                       10
<PAGE>

                                  SIGNATURES


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



                                    US WATS, INC.
                                    (Registrant)

                                    By:    /s/  Michael McAnulty
                                           ----------------------
                                           Michael McAnulty
                                           Chief Financial Officer and Treasurer


                                    Date:  April 4, 2000



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


SIGNATURE                 TITLE                                  DATE
---------                 -----                                  ----

/s/  David B. Hurwitz     President and Chief Executive Officer  April 4, 2000
------------------------
David B. Hurwitz

/s/  Michael McAnulty     Chief Financial Officer and Treasurer  April 4, 2000
------------------------
Michael McAnulty

/s/  James M. Rossi       Chairman of the Board                  April 4, 2000
------------------------
James M. Rossi

/s/  Walt Anderson        Director                               April 4, 2000
------------------------
Walt Anderson

/s/  Dominic J. Romano    Director                               April 4, 2000
------------------------
Dominic J. Romano

                                       11
<PAGE>

                        US WATS, INC.  AND SUBSIDIARIES
                  INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
                 YEARS ENDED DECEMBER 31, 1999, 1998, AND 1997


                                                                      Page (s)
                                                                      --------

CONSOLIDATED FINANCIAL STATEMENTS:

Independent Auditors' Report                                             F-1


Consolidated Balance Sheets
     December 31, 1999 and 1998                                      F-2 to F-3

Consolidated Statements of Operations
     Years ended December 31, 1999, 1998, and 1997                       F-4

Consolidated Statements of Common Shareholders' Equity (Deficiency)
     Years ended December 31, 1999, 1998, and 1997                   F-5 to F-7

Consolidated Statements of Cash Flows
     Years ended December 31, 1999, 1998, and 1997                       F-8

Notes to Consolidated Financial Statements                           F-9 to F-20

Financial Statement Schedule
- Schedule II - - Valuation and Qualifying Accounts                      F-21

                                      F-i
<PAGE>

INDEPENDENT AUDITORS' REPORT

Board of Directors and Shareholders
US Wats, Inc.
Bensalem, Pennsylvania

We have audited the accompanying consolidated balance sheets of US Wats, Inc.
and subsidiaries as of December 31, 1999 and 1998, and the related consolidated
statements of operations, common shareholders' equity (deficiency), and cash
flows for each of the three years in the period ended December 31, 1999.  Our
audits also included the financial statement schedule listed in the Index at
Item 14(a)(2).  These financial statements and financial statement schedule are
the responsibility of the Company's management.  Our responsibility is to
express an opinion on these financial statements and financial statement
schedule based on our audits.

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

In our opinion, such consolidated financial statements present fairly, in all
material respects, the financial position of US Wats, Inc. and subsidiaries as
of December 31, 1999 and 1998, and the results of their operations and cash
flows for each of the three years in the period ended December 31, 1999, in
conformity with accounting principles generally accepted in the United States of
America.  Also, in our opinion, such 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.

The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern.  As discussed in Note 3 to
the consolidated financial statements, the Company's net loss, negative working
capital and negative cash flows from operations raise substantial doubt about
its ability to continue as a going concern.  Management's plans concerning these
matters are also described in Note 3.  The consolidated financial statements do
not include any adjustments that might result from the outcome of this
uncertainty.



DELOITTE & TOUCHE LLP
Philadelphia, Pennsylvania

March 27, 2000

                                      F-1
<PAGE>

                         US WATS, INC. AND SUBSIDIARIES
                          CONSOLIDATED BALANCE SHEETS


                                                           December 31,
                                                      -----------------------
                                                         1999         1998
                                                      -----------  ----------

ASSETS
------

Current Assets
      Cash and cash equivalents                        $  827,048  $1,665,485
      Restricted cash                                     770,363          --
      Accounts receivable, net of allowance for
      doubtful accounts of $1,711,853 for 1999 and
    $934,624 for 1998                                   5,772,799   6,165,896
      Prepaid expenses and other                          201,724     166,977
                                                       ----------  ----------

         Total Current Assets                           7,571,934   7,998,358
                                                       ----------  ----------

Property and Equipment
      Telecommunications equipment                      4,120,775   5,031,047
      Equipment                                         1,863,177   1,690,490
      Software                                            655,422     652,422
      Office furniture and fixtures                       161,282     157,006
      Leasehold improvements                              668,820      46,671
                                                       ----------  ----------
                                                        7,469,476   7,577,636
Less accumulated depreciation and amortization          4,459,111   4,708,113
                                                       ----------  ----------

    Total Property and Equipment, net                   3,010,365   2,869,523
                                                       ----------  ----------

Other assets, net                                         323,914     153,583
                                                       ----------  ----------


        Total                                         $10,906,213 $11,021,464
                                                     ============ ===========


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

                                      F-2
<PAGE>

                        US WATS, INC.  AND SUBSIDIARIES
                          CONSOLIDATED BALANCE SHEETS

<TABLE>
<CAPTION>


                                                               December 31,
                                                       ----------------------------
                                                           1999           1998
                                                       -------------  -------------
<S>                                                    <C>            <C>
Liabilities and Shareholders' Equity
------------------------------------

Current Liabilities
  Note payable                                         $  1,036,507    $ 1,121,341
  Capital lease obligations, current portion                153,289        226,968
  Accounts payable                                        5,085,368      4,372,548
  Accrued commissions                                       643,321        891,318
  Accrued expenses and other                              1,162,975        790,699
  State and Federal taxes payable                         1,039,966        961,731
  Deferred revenue                                               --          2,887
                                                       ------------    -----------

   Total Current Liabilities                              9,121,426      8,367,492
                                                       ------------    -----------

Long-Term Liabilities
  Capital lease obligations, net of current portion              --        149,792
                                                       ------------    -----------

Commitments and Contingencies - see note 7

Redeemable preferred stock, $.01 par, authorized
  150,000 shares; 0 shares issued and
  outstanding in 1999 and 30,000 1998
  Redemption value: $11.00 per share                             --        330,000
                                                       ------------    -----------

Common Shareholders' Equity
  Common stock, $.001 par, authorized
    100,000,000 shares; issued:
    20,925,944 shares in 1999 and
    20,077,144 shares in 1998                                20,926         20,077
  Additional paid-in capital                             12,087,332      9,514,075
  Accumulated deficit                                   (10,323,252)    (7,358,853)
                                                       ------------    -----------
                                                          1,785,006      2,175,299
  Common stock held in treasury
  (219,000 shares in 1999 and 1,119,000 shares
  in 1998), at par value                                       (219)        (1,119)
                                                       ------------    -----------

                                                          1,784,787      2,174,180
                                                       ------------    -----------

     Total                                             $ 10,906,213    $11,021,464
                                                       ============    ===========
</TABLE>



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

                                      F-3
<PAGE>

                         US WATS, INC. AND SUBSIDIARIES
                     CONSOLIDATED STATEMENTS OF OPERATIONS


<TABLE>
<CAPTION>
                                                            Years Ended December 31,
                                                            -----------------------
                                                     1999           1998           1997
                                                     ----           ----           ----
<S>                                              <C>            <C>            <C>
Revenues                                          $39,777,331    $44,679,060    $56,466,698

Cost of sales                                      28,195,547     31,789,200     41,511,542
                                                  -----------    -----------    -----------

Gross profit                                       11,581,784     12,889,860     14,955,156

Selling, general and administrative expenses       13,038,455     13,851,001     16,939,142

Provision for bad debts                             1,453,496        788,493      1,465,248
                                                  -----------    -----------    -----------

Loss from operations                               (2,910,167)    (1,749,634)    (3,449,234)

Other income (expense)
      Interest income                                 135,646        164,180         71,921
      Interest expense                               (181,197)      (232,915)      (322,508)
                                                  -----------    -----------    -----------
Loss before income taxes                           (2,955,718)    (1,818,369)    (3,699,821)

Income tax benefits (expense)                           4,819        (10,000)            --
                                                  -----------    -----------    -----------

Net loss                                           (2,950,899)    (1,828,369)    (3,699,821)

Preferred dividends and accretion                      13,500         27,000         57,000
                                                  -----------    -----------    -----------

Net loss attributable to
      common shareholders                         $(2,964,399)   $(1,855,369)   $(3,756,821)
                                                  ===========    ===========    ===========

Net loss per share
      attributable to common shareholders               $(.15)         $(.10)         $(.23)
                                                  ===========    ===========    ===========

Weighted average number of shares outstanding      20,009,728     18,785,656     16,084,971
                                                  ===========    ===========    ===========
</TABLE>

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

                                      F-4
<PAGE>

                         US WATS, INC. AND SUBSIDIARIES
             CONSOLIDATED STATEMENTS OF COMMON SHAREHOLDERS' EQUITY
                          YEAR ENDED DECEMBER 31, 1999

<TABLE>


                                           Common     Common   Additional                    Treasury    Treasury
                            Common Stock   Par Value  Stock    Paid-In                       Stock       Stock At    Shareholders'
Description                 Shares Issued    $  .001  Payable  Capital       Deficit         Shares      Par Value   Equity
--------------------------  -------------    -------  -------  ------------  -------------   ---------   ---------   -------------
<S>                         <C>            <C>        <C>      <C>           <C>             <C>         <C>         <C>
Balance, December 31, 1998     20,077,144    $20,077            $ 9,514,075   $ (7,358,853)  1,119,000     $(1,119)    $ 2,174,180

Net Loss                                                                        (2,950,899)                             (2,950,899)

Shares Issued in
 Acquisition                      150,000        150                262,350                                                262,500

Exercise of Employee Stock
 Options                          398,800        399                420,896                                                421,295

Conversion of Preferred
 Stock                            300,000        300                329,700                                                330,000

Private Placement                                                 1,529,100                   (900,000)        900       1,530,000

Options Issued to
 Employees at
 Below Market Value                                                  31,211                                                 31,211
Cash Dividends on
 Preferred
 Stock ($.90 per share)                                                            (13,500)                                (13,500)
                               ----------   --------  -------   -----------   ------------   ---------     -------     -----------
Balance, December 31, 1999     20,925,944    $20,926       $0   $12,087,332   $(10,323,252)    219,000     $  (219)    $ 1,784,787
                               ==========    =======  =======   ===========   ============   =========     =======     ===========

The accompanying notes are an integral part of the consolidated financial statements
</TABLE>

                                      F-5
<PAGE>

                        US WATS, INC. AND SUBSIDIARIES
      CONSOLIDATED STATEMENTS OF COMMON SHAREHOLDERS' EQUITY (DEFICIENCY)
                         YEAR ENDED DECEMBER 31, 1998

<TABLE>


                                           Common     Common    Additional                   Treasury   Treasury    Shareholders'
                            Common Stock   Par Value  Stock     Paid-In                      Stock      Stock At    Equity
Description                 Shares Issued    $  .001  Payable   Capital       Deficit        Shares     Par Value   (Deficiency)
--------------------------  -------------    -------  -------   -----------   ------------   ---------  ---------   -------------
<S>                         <C>            <C>        <C>       <C>           <C>            <C>        <C>         <C>
Balance, December 31, 1997     17,654,100    $17,654    $ 166   $ 5,328,982    $(5,503,484)    250,000    $  (250)    $  (156,932)

Net Loss                               --         --       --            --     (1,828,369)         --         --      (1,828,369)

Short-Swing Profit
 Proceeds                                                  --     2,430,979             --          --         --       2,430,979

Exercise of Employee Stock
 Options                        1,068,984      1,069              1,403,422             --          --         --       1,404,491

Exercise of Warrants            1,188,000      1,188              1,259,419                                             1,260,607

Common Stock Issued               166,060        166    $(166)                          --          --         --

Options Issued for
 Consulting Services                                                133,204                                               133,204

Repurchase of Common Stock                                       (1,041,931)                   869,000    $  (869)     (1,042,800)

Cash Dividends on
 Preferred
 Stock ($.90 per share)                                                            (27,000)                               (27,000)
                               ----------   --------  -------   -----------   ------------   ---------    -------     -----------
Balance, December 31, 1998     20,077,144    $20,077    $   0   $ 9,514,075    $(7,358,853)  1,119,000    $(1,119)    $ 2,174,180
                               ==========    =======    =====   ===========    ===========   =========    =======     ===========


                      The accompanying notes are an integral part of these consolidated financial statements
</TABLE>

                                      F-6
<PAGE>

                        US WATS, INC. AND SUBSIDIARIES
            CONSOLIDATED STATEMENTS OF COMMON SHAREHOLDERS' EQUITY
                         YEAR ENDED DECEMBER 31, 1997

<TABLE>

                                           Common     Common    Additional                   Treasury   Treasury    Shareholders'
                            Common Stock   Par Value  Stock     Paid-In                      Stock      Stock At    Equity
Description                 Shares Issued    $  .001  Payable   Capital       Deficit        Shares     Par Value   (Deficiency)
--------------------------  -------------    -------  -------   -----------   ------------   ---------  ---------   -------------
<S>                         <C>            <C>        <C>       <C>           <C>            <C>        <C>         <C>
Balance, December 31, 1996     15,902,100    $15,902       --   $2,623,350    $(1,776,663)   250,000      $(250)    $   862,339

Net Loss                               --         --       --           --     (3,699,821)        --         --      (3,699,821)

Private Placement               1,590,000      1,590       --    2,298,410             --         --         --       2,300,000

Exercise of Employee Stock
 Options                          100,000        100       --      110,575             --         --         --         110,675

Exercise of Warrants               62,000         62       --       65,813             --         --         --          65,875

Common Stock to be Issued              --         --     $166      209,834             --         --         --         210,000

Options Issued for
 Consulting Services                   --         --       --       51,000             --         --         --          51,000

Accretion in Value of
 Preferred Stock                       --         --       --      (30,000)            --         --         --         (30,000)

Cash Dividends on
 Preferred
 Stock ($.90 per share)                                                           (27,000)                              (27,000)
                               ----------    -------  -------   ----------    -----------   --------  ---------     -----------
Balance, December 31, 1997     17,654,100    $17,654     $166   $5,328,982    $(5,503,484)   250,000      $(250)    $  (156,932)
                               ==========    =======  =======   ==========    ===========   ========  =========     ===========

                      The accompanying notes are an integral part of these consolidated financial statements
</TABLE>

                                      F-7
<PAGE>

                        US WATS, INC. AND SUBSIDIARIES
                     CONSOLIDATED STATEMENTS OF CASH FLOW

<TABLE>
<CAPTION>

                                                                               Years Ended December 31,
                                                                               -------------------------
                                                                             1999           1998          1997
                                                                          ------------  ------------  ------------
<S>                                                                       <C>           <C>           <C>
OPERATING ACTIVITIES:
      Net loss before preferred dividends                                 $(2,950,899)  $(1,828,369)  $(3,699,821)
      Adjustment to reconcile net loss to
      net cash provided by (used-in) operating activities
          Stock and stock options issued for services                          31,211       133,204       201,000
              Depreciation and amortization                                 1,069,329     1,439,171     1,010,186
              Provision for bad debts                                       1,453,496       788,493     1,465,248
      Changes in assets and liabilities which provided
       (used) cash:
               Accounts receivable                                         (1,060,399)      (55,307)   (1,850,431)
                    Prepaid expenses and other                                (34,747)      (58,294)       28,642
                    Other assets                                               54,356        (8,272)       94,554
                    Deferred revenue                                           (2,887)      (72,607)      (40,728)
                    Accounts payable and accrued expenses                     837,099    (2,872,750)    1,077,445
                    State & Federal Taxes payable                              78,235      (331,686)      330,045
                                                                          -----------   -----------   -----------

      Net cash used in operating activities                                  (525,206)   (2,866,417)   (1,383,860)
                                                                          -----------   -----------   -----------

INVESTING ACTIVITIES:
      Purchase of property and equipment                                   (1,172,358)   (1,276,562)     (395,491)
      Investment in internet service provider                                      --        40,000            --
      Increase in restricted cash                                            (770,363)           --            --
                                                                          -----------   -----------   -----------

     Net cash used in investing activities                                 (1,942,721)   (1,236,562)     (395,491)
                                                                          -----------   -----------   -----------

FINANCING ACTIVITIES:
      Proceeds from private placement                                       1,530,000            --     2,300,000
      Proceeds from stock option and warrant exercises                        421,295     2,665,098       236,550
      Short swing profit proceeds                                                  --     2,430,979            --
      Buyback of common stock                                                      --    (1,042,800)           --
     (Decrease) increase in notes payable net                                 (84,834)      430,515      (506,034)
      Repayment of capital lease obligations                                 (223,471)     (276,595)      (50,341)
      Preferred stock dividends                                               (13,500)      (27,000)      (27,000)
      Payment of loan acquisition costs                                            --            --       (40,743)
                                                                          -----------   -----------   -----------

      Net cash provided by financing activities                             1,629,490     4,180,197     1,912,432
                                                                          -----------   -----------   -----------

Net increase (decrease) in cash                                              (838,437)       77,218       133,081

Beginning cash and cash equivalents                                         1,665,485     1,588,267     1,455,186
                                                                          -----------   -----------   -----------

Ending cash and cash equivalents                                          $   827,048   $ 1,665,485   $ 1,588,267
                                                                          ===========   ===========   ===========
</TABLE>

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

                                      F-8
<PAGE>

                        US WATS, INC. AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


1.  BACKGROUND
--------------

US WATS, Inc. (the "Company" or "USW") is a switch-based interexchange carrier
providing long distance telephone communications services primarily to small and
medium-size business customers as well as residents. The Company also provides
inbound-800 long distance services, as well as other telecommunications services
such as travel cards (calling cards), cellular, paging, internet service,
dedicated access, data services, pre-paid calling cards (debit cards),
international callback, and carrier termination services. The Company uses its
own switches and facilities to originate, transport and terminate calls for
customers generally located in the Mid-Atlantic region and California (on-net
areas). For calls originating or terminating outside the Company's own network
(off-net area), the Company utilizes the services provided by other long
distance companies. Substantially all of the Company's revenues are earned from
its customers located on the East Coast.

The Company has formed a new subsidiary in the state of Delaware under the name
of Capsule Communications, Inc.  The shareholders have approved to reincorporate
in Delaware by merging the Company into the new subsidiary.  Upon approval from
the Public Utility Commissions, the Company will operate as a Delaware
Corporation under the name Capsule Communications, Inc.


2.  SUMMARY OF SIGNIFICANT ACCOUNTING  POLICIES
-----------------------------------------------

PRINCIPLES OF CONSOLIDATION

The consolidated financial statements include the accounts of the Company and
its five wholly-owned subsidiaries, USW Corporation, USW Enterprises, Inc.,
Carriers Group, Inc., US Wats of Virginia Inc. and Capsule Communications, Inc.
after elimination of all inter-company accounts, transactions and profits.

BUSINESS SEGMENTS

The Company's operations have been aggregated into a single reportable segment,
based on the similarity of its customers, products and methods of distribution,
as permitted under SFAS NO. 131.

REVENUE RECOGNITION

The Company recognizes revenue based upon the customer's usage of services. The
Company bills its customers for service on a monthly basis.  However, in some
instances, it bills certain customers on a more frequent basis.

CASH AND CASH EQUIVALENTS

The Company considers cash in bank and repurchase agreements with a maturity of
three months or less when purchased as cash and cash equivalents.

                                      F-9
<PAGE>

At certain times during the year, the Company has balances in its operating
accounts that in the aggregate exceed the $100,000 Federal Deposit Insurance
Corporation insurance limit.

PROPERTY AND EQUIPMENT

Property and equipment are recorded at cost. Depreciation is calculated for
financial reporting purposes using the straight-line method over the estimated
useful lives of the assets:

          Telecommunications equipment .....................7 years
          Furniture fixtures and other...........................5 years

The Company acquired a new MegaHub 600E switch to replace its Dex 400 switch in
Philadelphia in 1998.  The cost of the replacement switch was approximately
$1,062,000, which is included in telecommunications equipment.  The Company
began depreciating the new switch in 1998 and the switch was fully installed in
1999.

Depreciation and amortization expense of property, plant and equipment, loan
origination costs and goodwill for 1999, 1998, and 1997, was $1,069,329,
$1,439,171, and $1,010,186, respectively.

DEFERRED FINANCING COSTS

Loan origination costs are amortized over the term of the related loan, and are
included in other assets.

GOODWILL

The Company records the excess of purchase price over the fair market value of
net assets acquired as goodwill.  Goodwill is amortized using the straight line
method over 3 years.

ACCOUNTS PAYABLE

Accounts payable includes the cost of access charges due local telephone
companies and long distance transport purchased from long distance carriers.

MARKETING

All costs related to marketing and advertising the Company's products and
services are expensed in the period incurred.

USE OF ESTIMATES

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


INCOME TAXES

The Company accounts for income taxes in accordance with Statement of Financial
Accounting Standards (SFAS) No. 109, "Accounting for Income Taxes." (See Note 6)

                                      F-10
<PAGE>

LOSS PER COMMON SHARE ATTRIBUTABLE TO COMMON SHAREHOLDERS

Loss per common share attributable to common shareholders is computed by
dividing net loss after deduction of preferred stock dividends, by the
weighted average number of common shares outstanding during the period.

For the years ended December 31, 1999, 1998, and 1997, the Company's potential
common stock equivalents have either an antidilutive or have no effect on loss
per share attributable to common shareholders and, therefore, diluted loss per
common share attributable to common shareholders has not been presented.

The following table summarizes those securities that could potentially dilute
loss per common share attributable to common shareholders in the future that
were not included in determining the fully diluted loss per common share
attributable to common shareholders as there is either no effect or the effect
is antidilutive.

<TABLE>
<CAPTION>
                                                                 Years Ended December 31,
Potential Common Shares resulting from:                     1999           1998           1997
                                                        -------------  -------------  -------------

<S>                                                     <C>            <C>            <C>
Stock Options  (see Note 10)                                  427,620        589,785      1,206,691

Stock Warrants  (see Note 10)                                       0              0        624,822

Cumulative, Convertible, Redeemable Preferred Stock
(see Note 9)                                                        0        300,000        300,000
                                                              -------        -------      ---------

                                                              427,620        889,785      2,131,513
                                                              =======        =======      =========
</TABLE>

FAIR VALUE OF FINANCIAL INSTRUMENTS

The fair value of the Company's financial instruments such as accounts
receivable, accounts payable, and note payable approximate their carrying
amounts.

CARRYING VALUE OF LONG-TERM ASSETS

The Company evaluates the carrying value of long-term assets, including
property, plant and equipment, and other intangibles, based upon current and
anticipated undiscounted cash flows, and recognizes an impairment when such
estimated cash flows are less than the carrying value of the asset.  Measurement
of the amount of impairment, if any, is based upon the difference between
carrying value and fair value.

NEW ACCOUNTING PRONOUNCEMENTS

In June 1998, the FASB issued Statement of Financial Accounting Standards No.
133, "Accounting for Derivative Instruments and Hedging Activities.  This
statement establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts, (collectively referred to as derivatives) and hedging activities.  It
requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position and measure those instruments
at fair value.  The Company adopted this standard in January, 1999, which had no
impact on the Company's financial statements.

                                      F-11
<PAGE>

RECLASSIFICATION OF ACCOUNTS

Certain reclassifications have been made to conform prior years' balances to the
current year presentation.


3. LIQUIDITY AND CONTINUATION OF BUSINESS
-----------------------------------------

The consolidated financial statements of the Company have been prepared on a
going-concern basis, which contemplates the continuation of operations,
realization of assets and liquidation of liabilities in the ordinary course of
business. The Company incurred a net loss applicable to common shareholders of
approximately $2,964,000 during the year ended December 31, 1999 and had
negative cash flow from operating activities of $525,000.  At December 31, 1999
the Company had a net working capital deficit of $1,549,000 and an accumulated
deficit of $10,323,000.  In addition, the Company was not in compliance with
several of its covenants in its Loan and Security Agreement with Century
Business Credit Corporation, however, the Company received a waiver related to
such non-compliance.  Such conditions raise substantial doubt about the
Company's ability to continue as a going concern.  The accompanying financial
statements do not include any adjustments that might be necessary should the
Company be unable to continue as a going concern.

The Company plans to focus on growing its revenue base through the addition of
profitable customers and decreasing its network costs. The Company intends to
reduce its network costs by obtaining more favorable pricing from suppliers, by
forming strategic alliances with certain similarly situated companies and by
upgrading its switching technology to an Asynchronous Transfer Mode (ATM) based
backbone. This ATM packet switching technology transforms circuit switched voice
and data to packet switched voice and data allowing calls to be compressed,
therefore increasing capacity while decreasing the cost per minute to carry the
call. The Company has recently instituted several private internet web sites
from which its agents are generating new orders electronically. The Company
expects to continue its efforts to expand this strategy in order to generate new
business. Additionally, the Company intends to resell local access services
where available to its current and prospective customers in six Bell Atlantic
states under its favorable interconnection agreements. Finally, in an effort to
increase product lines, the Company has recently implemented a marketing plan to
resell Digital Subscriber Line (DSL) services where available to its current and
prospective customers, which provides dedicated internet access at much greater
speeds than existing dial-up service.

On March 23, 1999, the Company through a private placement transaction, issued
900,000 shares of common stock to Gold & Appel Transfer, S.A., a majority
shareholder of the Company, for an aggregate purchase price of $1,530,000 or
$1.70 per share.  The proceeds of the issuance are being used for general
working capital.  The terms of such transaction were negotiated between the
Company and Gold & Appel Transfer, S.A. on an arms length basis, with Mr.
Anderson abstaining from all negotiations and approvals.

On March 22, 2000, the Company entered into a Loan Agreement with two
significant shareholders. The terms of the agreement call for the Company to
borrow up to $1,500,000 at a rate of 10% per annum and due and payable on March
1, 2001. The agreement includes that all parties may convert all or any portions
of the loan amount to shares of the Company's Common Stock at $2.50 per share.

The Company believes that it will require additional funds in the near future to
continue its operations.  In addition, the Company must raise additional capital
to meet the capital and surplus requirements for its Common Stock to remain
listed on The Nasdaq SmallCap Market.  Management will focus on obtaining
additional financing and raising additional equity through private placement, in
order to support future growth.  The Company's plans for growth include both
substantial internal growth and the potential acquisition of other long distance
companies.  Also, in order to achieve the Company's plans for growth in the long
distance business as well as its entry into other communications services, the
Company may require

                                      F-12
<PAGE>

additional equity and is currently seeking sources of funding. The Company
cannot give assurance as to the potential success of these efforts.


4.  NOTE PAYABLE
----------------

The Company has a revolving $2,000,000 credit facility with Century Business
Credit Corporation, which is renewable for three successive one year periods
beginning on May 11, 1999.  Interest on the revolving credit facility is
currently calculated at the prime lending rate plus 2 3/4%, on a minimum loan
balance of $750,000.  The loan is collateralized by accounts receivable and
fixed and intangible assets of the Company.  As of December 31, 1999, the
Company's outstanding balance on its credit facility was approximately
$1,037,000 leaving approximately $963,000 available based on collateral, for
future borrowing under the credit facility.

The loan agreement contains covenants and restrictions which, among other
things, require maintenance of certain subjective financial performance
criteria, restricts encumbrance of assets, creation of indebtedness, places
limitations on annual capital expenditures and requires notification to the
lender of the occurence of certain events including the acquisition of other
entities, litigation and the bankruptcy of significant customers. The Company
was not in compliance with two of its covenants in the Loan and Security
Agreement at December 31, 1999 concerning notification of the acquisition of
another entity and the bankruptcy of a significant customer, however, the
Company received a waiver related to such conditions of non-compliance.

During 1999, the Company obtained a letter of credit in the amount of $752,000
for the potential settlement of litigation related to Mr. Scully (See footnote
12).


5.  OBLIGATIONS UNDER CAPITAL LEASES
------------------------------------

Property under capital leases is recorded at the lesser of the present value of
the minimum lease payments or its fair value at inception. The Company leases
various equipment under three-to-five-year noncancellable leases which expire at
various dates through 2000.

The leases carry interest rates ranging from approximately 9.0% to approximately
13.5% and are collateralized by the equipment purchased. The balance outstanding
on such leases was approximately $153,000, which is due in full in the next
year.
<TABLE>
<CAPTION>


                                                                  1999       1998
                                                                ---------  ---------
<S>                                                             <C>        <C>

  Aggregate capital lease obligation
   as of the year ended December 31                              $162,251   $427,407
  Less--amounts representing interest                               8,962     50,647
                                                                 --------   --------
  Present value of net minimum payments under capital leases      153,289    376,760
  Less--current portion of capital lease obligations              153,289    226,968
                                                                 --------   --------
   Capital lease obligations, net of current portion             $      0   $149,792
                                                                 ========   ========

</TABLE>

The following is an analysis of property under capital leases:

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

Telecommunications Equipment           $1,300,951  $1,405,151
Office Equipment                           22,512      57,300
                                       ----------  ----------
     TOTAL                              1,323,463   1,462,451

Less Accumulated Amortization             855,669     645,226
                                       ----------  ----------
     Net Assets Under Capital Lease    $  467,794  $  817,225
                                       ==========  ==========

                                      F-13
<PAGE>

Amortization of assets under capital leases charged to operations and included
in depreciation expense was $210,443 per year in 1999, 1998, and 1997.

6.  INCOME TAXES
----------------

The net deferred tax asset at December 31 includes the following:

                                                     1999               1998
                                                     ----               ----

   Deferred Tax Asset                          $   3,470,000      $   3,323,000
   Deferred Tax Liability                           (138,000)          (168,000)
   Valuation Allowance for Deferred Tax Asset     (3,332,000)        (3,155,000)
                                                -------------      -------------
                                                $          --      $          --
                                                =============      =============

The utilization of the deferred tax asset depends on the Company's ability to
earn taxable income in the future. Although estimates are subject to change,
management was not able to determine that utilization of the deferred tax asset
is likely. Accordingly, a valuation allowance has been provided for the entire
deferred tax asset. The tax effect of major temporary differences that gave rise
to the Company's deferred tax assets and liabilities at December 31 are as
follows:


                                                  1999           1998
                                                  ----           ----

      Net Operating Loss and Carryforwards   $ 2,412,000    $ 2,270,000
      Allowance for Doubtful Accounts            716,000        893,000
      Legal and Commission Reserves              334,000        157,000
      Charitable Contributions                        --          3,000
      Depreciation                              (138,000)      (168,000)
      AMT Credit                                   8,000             --
                                             -----------    -----------
      Net Deferred Tax Asset                   3,332,000      3,155,000
                                             -----------    -----------
      Valuation Allowance                     (3,332,000)    (3,155,000)
                                             -----------    -----------
   Total                                     $        --    $        --
                                             -----------    -----------


The provision for income tax expense (benefit) for the years ended December 31,
consisted of the following amounts:


                                  1999              1998               1997
                                  ----              ----               ----

Current tax expense (benefit)
   Federal                       $    --           $10,000          $    --
   State                              --                --               --
                                 -------           -------          -------


Deferred tax expense
   Federal                            --                --               --
   State                              --                --               --
                                 -------           -------          -------
                                 $    --           $10,000          $    --
                                 =======           =======          =======

                                      F-14
<PAGE>


The differences between the Company's income tax expense (benefit) and income
tax expense (benefit) computed using the U.S. Federal Income Tax rate were as
follows:
<TABLE>
<CAPTION>


                                     1999                            1998                              1997
                                                   % of                               % of                          % of
                                                   pretax                             pretax                        pretax
                                   Amount          income          Amount             income         Amount         income
<S>                                <C>             <C>             <C>                <C>            <C>            <C>
Computed "expected" income
    tax expense (benefit)         $(989,000)       (34.0)     $(1,209,000)         (34.0)        $(1,257,900)      (34.0)
Valuation allowance                 989,000         34.0        1,219,000           34.5           1,250,600        33.8
Other                                     0            0                 0              0              7,300          .2
                                  ---------         ----       -----------          -----        -----------       -----
Actual income tax
    expense (benefit)                    --           --      $    10,000             .5         $        --          --
                                  =========         ====      ===========          =====         ===========       =====
</TABLE>

The Company has available approximately $5,482,000 of net operating loss carry
forwards which may be applied against future federal taxable income. These carry
forwards begin to expire in 2005.


7.  COMMITMENTS AND CONTINGENCIES
---------------------------------

The Company has extended a long term contract for the purchase of 1+, 800, and
Private lines services over a 42 month period, expiring in November 2002.  The
contract provides for a minimum monthly commitment of $250,000 and an aggregate
commitment of $9,000,000 over the contract life.  The Company has met its
monthly commitments through December 1999.

The Company leases certain offices and equipment under operating leases. Future
annual minimum lease payments under the significant agreements are as follows
for the years ended December 31:

<TABLE>
<CAPTION>

<S>                                <C>
                     2000             449,511
                     2001             379,369
                     2002             197,313
                     2003              71,301
                     2004              64,680
                     thereafter       156,310
                                   ----------
                      TOTAL        $1,318,484
                                   ==========
</TABLE>

Rent expense incurred for operating leases was approximately $482,771, $492,789,
and $488,436 in 1999, 1998, and 1997, respectively.

The Company entered into employment agreements with certain of its key
management personnel. At December 31, 1999, the total minimum commitment level
over the next year is approximately $640,000.

The Company entered into a contract in December 1996 with its former Chairman
for consulting services.  The total minimum aggregate commitment level over the
remaining three years of the contract as of December 31, 1999 is approximately
$400,000.

                                      F-15
<PAGE>

The Company entered into an agreement with a long distance carrier effective
August 25, 1995 for that carrier to provide network design, network operation
and network management of the Company's switch in Oakland, CA.  The agreement
specified certain incentive bonuses, payable in common stock, for the carrier
based on traffic levels of the Oakland switch.  Based on levels reached during
the two year term of the agreement which ended August 25, 1997, the Company
issued the carrier 106,060 shares of common stock in 1999.  The fair value of
the shares was charged to Selling, General and Administrative Expense in 1997.
The agreement also specified performance incentives payable in the form of stock
option grants. In 1998, 100,000 options were awarded at a purchase price of
$2.375 per share. (See note 10)


8.   PENSION PLANS
------------------

The Company sponsors a 401(K) Pension and Profit Sharing Plan for all employees.
Effective January 1, 2000, the Company has elected to match 25% of the first 8%
of an employee's contribution to the plan.


9.   PREFERRED STOCK
--------------------

REDEEMABLE PREFERRED:

On July 1, 1999, the only preferred shareholder converted 30,000 shares of
preferred stock to 300,000 shares of common stock.  The Company paid $13,500 in
dividends to the preferred shareholder in 1999. The Company has no outstanding
cumulative, convertible, redeemable preferred stock as of December 31, 1999.


PREFERRED STOCK:

In November 1999, the shareholders approved an amendment to the Company's
Certificate of Incorporation to authorize 3,000,000 shares of par value $.01 per
share preferred stock.  No shares were issued as of December 31, 1999.


10.  COMMON STOCK, STOCK OPTIONS AND WARRANTS
---------------------------------------------

Under the Company's stock option plans, options may be granted to officers and
employees of the Company and its subsidiaries.  No option may be granted for a
term in excess of ten years from the date of grant.  As of December 31, 1999,
1,289,500 of the outstanding stock options were exercisable under the plans.
The exercise prices of the outstanding options represented the fair market value
at dates of grant.  In November 1999, the shareholders approved an amendment to
the Company's Certificate of Incorporation to adopt a new stock option plan by
the Company that would permit the grant of options with respect to 3,000,000
shares of common stock.

                                      F-16
<PAGE>

A summary of the Company's stock option plans activity for common shares for the
three years ended December 31, 1999 follows:
<TABLE>
<CAPTION>

                                                                                          Stock                     Weighted
                                                                                          Options                   Average
                                                                                          Price Range               Exercise
                                                      Number of Shares                    Per Share                 Price
                                                      ----------------                    ---------                 -----
<S>                                                   <C>                              <C>                         <C>

Outstanding 12/31/96                                         4,476,000                 $1.00 to $2.25              $1.43
     Granted                                                 1,610,000                 $1.00 to $1.91              $1.27
     Exercised                                                (160,000)                $1.00 to $1.44              $1.07
     Terminated                                             (3,483,166)                $1.00 to $2.25              $1.48
                                                            ----------                 --------------              -----
Outstanding 12/31/97                                         2,442,834                 $1.00 to $2.25              $1.28
     Granted                                                   516,750                 $1.19 to $2.38              $1.20
     Exercised                                              (1,068,984)                $1.00 to $1.53              $1.31
     Terminated                                                (37,300)                $1.00 to $2.00              $1.33
                                                            ----------                 --------------              -----
Outstanding 12/31/98                                         1,853,300                 $1.00 to $2.38              $1.28
     Granted                                                 1,046,000                 $1.38 to $2.22              $1.55
     Exercised                                                (398,800)                $1.00 to $1.53              $1.05
     Terminated                                               (101,250)                $1.00 to $2.22              $1.35
                                                            ----------                 --------------              -----
Outstanding 12/31/99                                         2,399,250                 $1.00 to $2.38              $1.43
                                                            ==========                 ==============              =====

</TABLE>

<TABLE>
<CAPTION>


                                       Options Outstanding                            Options Exercisable
                    --------------------------------------------------------          -------------------
                                         Weighted        Weighted Average                           Weighted
                                         Average            Remaining                                Average
     Range of                            Exercise          Contractual                              Exercise
 Exercised Prices     Outstanding         Price           Life in Years          Exercisable          Price
 ----------------     -----------         -----           -------------          -----------          -----
<S>                 <C>               <C>             <C>                     <C>                 <C>

  $1.00 - $1.03           354,000         $1.03               2.01                 354,000            $1.03
  $1.19 - $1.30           770,750         $1.24               1.91                 670,750            $1.23
  $1.38 - $1.75         1,047,500         $1.55               4.21                  38,500            $1.58
  $2.00 - $2.38           227,000         $2.17                .60                 226,250            $2.17
                        ---------         -----               ----               ---------            -----
                        2,399,250         $1.43               2.81               1,289,500            $1.35
                        =========         =====               ====               =========            =====
</TABLE>

EMPLOYEE STOCK OPTIONS

The Company accounts for stock options issued to employees in accordance with
Accounting Principles Board Opinion No. 25, under which compensation cost is
recognized based on the difference, if any, between the fair value of the
Company's stock at the time of option grant and the amount the employee must pay
to acquire the stock. The Company's options have been issued at fair market
value at the time of grant. Had compensation cost for the incentive and
nonqualifed options been determined consistent with Statement of

                                      F-17
<PAGE>

Financial Accounting Standards No. 123, Accounting for Stock - Based
Compensation (SFAS 123), the Company's pro forma net loss and net loss per share
for the years ended December 31 are as follows:

<TABLE>
<CAPTION>


                                            1999           1998           1997
                                        -------------  -------------  -------------
<S>                                     <C>            <C>            <C>
Reported Net Loss                        $(2,964,399)   $(1,855,369)   $(3,756,821)
Proforma Net Loss                        $(3,194,796)   $(2,040,115)   $(4,454,993)
Reported Net Loss Per Share              $      (.15)   $     (0.10)   $     (0.23)
Proforma Net Loss Per Share                     (.16)   $     (0.11)   $     (0.28)
</TABLE>

In accordance with the requirements of SFAS 123, this method of accounting has
not been applied to options granted prior to the fiscal year beginning January
1, 1995.  The resulting pro forma compensation cost may not be representative of
that to be expected in future years.

The weighted fair value of options granted during Fiscal 1999, 1998 and 1997 was
$.84, $.69 and $.75 respectively.  The fair value of each stock option grant is
estimated on the date of grant using the Black-Scholes option pricing model with
the following weighted average assumptions used for grants in 1999, 1998 and
1997: risk-free interest rates of 5.7%, 4.5% and 6.5% respectfully, expected
dividend yields of 0%, expected lives ranging from two to five years from the
date of grant, and expected price volatility between 60% and 80% for the options
granted in 1999, 1998 and 1997.

During 1999, the Company issued stock options to employees to purchase Common
Stock at below fair market value. The Company recorded $31,000 in selling,
general and administrative expense associated with these options.

THIRD PARTY STOCK OPTIONS

The Company accounts for stock options issued to outside consultants in
accordance with SFAS 123, under which compensation expense is recognized based
on the difference, if any, between the fair value of the award or the goods or
services received, whichever is more reliably measurable.  The Company has
measured the options based on the fair value of the award and the amount that
the outside consultant must pay to acquire the stock at the date of grant due to
its inability to reliably measure the fair value of the goods or services. (See
footnote 7).

In May 1997, the Company agreed to issue to an independent contractor, 50,000
warrants to purchase Common Stock. Each warrant entitles the holder to purchase
one share of Common Stock of the Company at a price of $1.03 per share until May
2002. In 1997, the Company recorded the related consulting fees as an expense in
the amount of $51,000 representing the estimated fair value of the options in
accordance with SFAS 123. In May 1998, the independent contractor exercised all
50,000 warrants resulting in an additional amount of $50 and $51,450 added to
Common Stock and paid in capital, respectively.

During 1998, the Company issued 143,750 options to purchase Common Stock to
three independent contractors. The options entitle one contractor to purchase
100,000 shares at $2.375 per share, another contractor to purchase 25,000 shares
at $1.1875 per share and the last contractor to purchase 18,750 shares at
$1.1875 per share. In 1998, the Company recorded approximately $133,000 in
selling, general and administrative expenses associated with these options.

There are no outstanding warrants remaining as of December 31, 1999.


11.  CASH FLOW INFORMATION
--------------------------

SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION

The Company made cash payments for interest of $181,197, $232,915 and $322,508,
for the years ended December 31, 1999, 1998, and 1997, respectively. The Company
made cash payments for income taxes of $0, $10,000, and $0, for the years ended
December 31, 1999, 1998, and 1997, respectively.

SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES

Redeemable Preferred Stock accreted in value by $30,000 in the year ended
December 31, 1997.

                                      F-18
<PAGE>

During the years ended December 31, 1999, 1998, and 1997, the Company acquired
approximately $0, $0, and $176,000, respectively of telephone communications and
other equipment with capital leases. The lease agreements were financed over
three and five year periods.

On August 31, 1999, the Company purchased certain assets of JMR Marketing
Corporation including a customer base, property and equipment and sales
contracts associated with certain Affinity Groups in exchange for 150,000 shares
of common stock, with a fair market value of $262,000.

On July 1, 1999, the only preferred shareholder converted 30,000 shares of
preferred stock to 300,000 shares of common stock.


12.  LITIGATION
---------------

On June 13, 1997, Mark Scully, a former President and Chief Operating Officer of
the Company, filed a complaint against the Company, Kevin O'Hare, Aaron Brown
and Stephen Parker in the United States District Court for the Eastern District
of Pennsylvania. Mr. Scully asserted various claims in connection with his
termination of employment with the Company on December 30, 1996. In particular,
he alleged, among other things, breach of contract in connection with the
termination of certain stock options, breach of the alleged contract for
employment, breach of an asserted duty of good faith and fair dealing,
fraudulent and negligent misrepresentation, and civil conspiracy. Mr. Scully
alleged damages of at least $1.6 million, plus attorneys' fees, costs and other
disbursements and the cost of COBRA payments and interest; $1 million of the
alleged damages claimed are punitive. The Company contested the allegations of
the complaint and intends to vigorously defend against the action. On June 9,
1999, the Court issued its decision and judgment was entered in favor of Mr.
Scully and against the Company and two former officers for the sum of
approximately $626,000 and required the Company to establish an escrow account
equal to 120% of the judgment. The Court denied Mr. Scully's claim for
attorneys' fees and liquidated damages. An additional amount of $376,000 was
accrued during the quarter ended June 30, 1999 to increase the reserve to the
full judgment amount and was recorded in SG&A expenses. The balance in the
escrow account at December 31, 1999 was $770,363, and is recorded as Restricted
Cash. The Company has appealed the decision and maintains that the Court made a
number of errors of law and that the Court applied the wrong measure of damages.
Mr. Scully has appealed the judgment as well.

The Company is party, in the ordinary course of business, to other litigation
involving services rendered, contract claims and other miscellaneous causes of
action arising from its business.  The Company has established reserves relating
to its legal claims and believes that potential liabilities in excess of those
recorded will not have a material adverse effect on the Company's Consolidated
Financial Statements, however, there can be no assurances to this effect.


13.  RELATED PARTY TRANSACTIONS
-------------------------------

INDEMNIFICATION ARRANGEMENTS

The Company is party to indemnification agreements with two of its directors,
Aaron R. Brown and Stephen J. Parker, dated August 1990.  In addition, the
Company has entered into an indemnification agreement with Kevin O'Hare, a
former executive officer of the Company, dated July, 1997.  In general, the
indemnification agreements obligate the Company to indemnify each of Messrs.
Brown, Parker and O'Hare against the liabilities and expenses incurred by them
in acting as a director or officer of the Company to the maximum extent allowed
by law.  As stated above, the Company, together with Messrs. Parker, Brown and
O'Hare, have been sued by a former president for various claims asserted by the
plaintiff in connection with his termination of employment with the Company on
December 30, 1996.  The Company and the individual defendants have selected
counsel to defend the action.  The Board of Directors has authorized the Company
to advance the expenses of the individual defendants incurred in defending this
action upon the receipt of an undertaking from each of them to repay the amounts
so advanced in the event it is determined that they are

not entitled to indemnification under applicable law. As of December 31, 1999,
no amounts had been advanced by the Company under such agreements. (See Note 12)

SALES AGENCY

Mr.Goldberg, a director of the Company, acts as a sub-agent for the Company and
is the co-owner of Goldberg & Associates, a company that acts as an agent for
the Company in the sale of products and services.  During 1999, the Company paid
Mr. Goldberg and such company a total of $89,960 in commissions for their
services as sales agents.  Commissions paid to Mr. Goldberg and such company
were at competitive rates.

PRIVATE PLACEMENT

On March 23, 1999, the Company through a private placement transaction, issued
900,000 shares of common stock to Gold & Appel Transfer, S.A., a majority
shareholder of the Company, for an aggregate purchase price of $1,530,000 or
$1.70 per share.  The proceeds of the issuance are being used for general
working capital.  The terms of such transaction were negotiated between the
Company and Gold & Appel Transfer, S.A. on an arms length basis, with Mr.
Anderson abstaining from all negotiations and approvals.

CHANGES IN MANAGEMENT

Effective February 19, 1999, Aaron Brown, Chairman, President and Chief
Executive Officer, terminated his employment with the Company.  Mr. Brown was
immediately replaced by David Hurwitz as President and Chief Executive Officer.

ACQUISITION

On August 31, 1999, the Company purchased certain assets of JMR Marketing
Corporation including a customer base, property and equipment and sales
contracts associated with certain Affinity Groups in exchange for 150,000 shares
of common stock.  The shares of common stock were issued to James M. Rossi (the
sole shareholder of JMR Marketing Corporation).


14.  SUBSEQUENT EVENTS
----------------------

On March 17, 2000, the Company purchased certain assets of the business of Cam-
Comm, Inc.  The Company acquired the customer base and accounts receivable of
approximately 70 private line customers from Cam-Comm, Inc. in exchange for a
cash payment of $150,000 and an agreement to pay an amount not to exceed an
additional $159,000 for an outstanding liability of Cam-Comm, Inc. The Company's
Chairman, James M. Rossi, is also the Chairman of Cam-Comm, Inc. Mr.
Rossi has agreed to reimburse the Company one half of any amount paid by
the Company in excess of a total of $200,000.

On March 22, 2000, the Company entered into a Loan Agreement with two
significant shareholders. The terms of the agreement call for the Company to
borrow up to $1,500,000 at a rate of 10% per annum and due and payable on March
1, 2001. The agreement includes that all parties may convert all or any portions
of the loan amount to shares of the Company's Common Stock at $2.50 per share.

                                      F-19
<PAGE>

15. OTHER SALES INFORMATION
---------------------------

Net sales information by the Company's product groups for the years ended
December 31 are summarized as follows:

<TABLE>
<CAPTION>
                                       1999                          1998                          1997
                                 -----------------             -----------------             -----------------
                                      Amount            %           Amount            %           Amount            %
                                 -----------------             -----------------             -----------------
<S>                              <C>                <C>        <C>                <C>        <C>                <C>
Domestic 1+                            $19,093,119        48         $20,105,578        45         $20,892,678        37
International                            8,751,013        22          10,276,183        23          17,504,676        31
Inbound                                  6,762,146        17           6,701,859        15           8,470,005        15
Wireless                                 1,193,320         3           1,787,162         4           2,258,668         4
Domestic Carrier Termination             3,977,733        10           5,808,278        13           7,340,671        13
                                       -----------       ---         -----------       ---         -----------       ---
    Total                              $39,777,331       100%        $44,679,060       100%        $56,466,698       100%
                                       ===========       ===         ===========       ===         ===========       ===
</TABLE>
All of the Company's operations are conducted in the United States of America.


                                      F-20
<PAGE>

                                 US WATS, INC.
                Schedule II - Valuation and Qualifying Accounts


<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------------------------------
COL. A                                     COL. B       COL. C                    COL. D       COL. E        COL. F
----------------------------------------------------------------------------------------------------------------------
DESCRIPTION                              BALANCE AT                         CHARGED TO       DEDUCTIONS-   BALANCE AT
                                          BEGINNING      CHARGED TO       OTHER ACCOUNTS-     ACCOUNTS       END OF
                                          OF PERIOD       EXPENSE           RECOVERIES       WRITTEN OFF     PERIOD
<S>                                      <C>             <C>              <C>                <C>           <C>

Period ended 12/31/99
---------------------

ALLOWANCE FOR DOUBTFUL
  ACCOUNTS-
  ACCOUNTS RECEIVABLE                    $  934,624          $1,453,496         $ 67,797    $  (744,064)   $1,711,853
                                        ------------------------------------------------------------------------------
Period ended 12/31/98
---------------------

ALLOWANCE FOR DOUBTFUL
  ACCOUNTS-
  ACCOUNTS RECEIVABLE                    $1,498,749          $  788,493         $(18,763)   $(1,333,855)   $  934,624
                                        ------------------------------------------------------------------------------
Period ended 12/31/97
---------------------

ALLOWANCE FOR DOUBTFUL
  ACCOUNTS-
  ACCOUNTS RECEIVABLE                     $  672,058          $1,465,248         $ 93,343    $  (731,900)   $1,498,749
                                        -------------------------------------------------------------------------------
</TABLE>

                                      F-21