SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549
                              --------------------

   
                                 FORM 10- KSB/A3
    

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


     For the fiscal year ended:                        Commission File No.:
         June 30, 1997                                     000-28198

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

                   CONVERSION TECHNOLOGIES INTERNATIONAL, INC.
        (Exact name of Small Business Issuer as specified in its charter)

            Delaware                                          13-3754366
     (State  or other  jurisdiction  of                     (I.R.S.  Employer
     incorporation or organization)                           I.D. Number)

           3452 Lake Lynda Drive
            Orlando, Florida                                  32817
     (Address of principal executive offices)               (Zip Code)

                                 (407) 207-5900
                 (Issuer's telephone number including area code)

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

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

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

    Common Stock, Redeemable Class A Warrants and Redeemable Class B Warrants

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

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

<PAGE>


Check if there is no disclosure of delinquent  filers in response to Item 405 of
Regulation S-B contained in this form, and no disclosure  will 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-KSB or any
amendment to this Form 10-KSB.
                               -------

Issuer's revenues for the fiscal year ended June 30, 1997 were $1,429,008.

The aggregate market value of voting stock held by  non-affiliates of registrant
was  $11,941,310  as of September 19, 1997,  based on the average of the closing
bid and closing ask price of the Common Stock on the Nasdaq  SmallCap  Market on
such date,  and assuming the  conversion of all  outstanding  shares of Series A
Convertible  Preferred  Stock held by  non-affiliates  of registrant into Common
Stock.

As of September 19, 1997, the issuer had outstanding  5,539,745 shares of Common
Stock, $.00025 par value.


Item 6.  Management's Discussion and Analysis of Financial Condition
         and Results of Operations
         -----------------------------------------------------------

Overview

Since  inception  through June 30, 1997,  the Company has  sustained  cumulative
losses of  approximately  $30,034,000.  Such  amount  includes  (i) a  one-time,
non-cash  charge to  operations  of  approximately  $6,232,000  relating  to the
write-off of research and  development  (in-process)  technologies  that had not
reached  technological  feasibility  and, in the opinion of  management,  had no
alternative  use,  which  were  purchased  in  conjunction  with  the  Company's
acquisition  of Dunkirk  in 1994,  (ii)  approximately  $2,528,000  expensed  as
process  development  costs related to research and development of the Company's
CRT glass  processing and ALUMAGLASS  product lines,  (iii) a non-cash charge to
operations   of   approximately   $5,712,000   relating  to  the   write-off  of
non-productive  fixed  assets  during the  quarter  ended June 30, 1997 and (iv)
other expenses, net of revenue, of approximately  $15,562,000.  The Company will
continue to incur losses until such time as revenues are  sufficient to fund its
continuing operations.

Although the Company has not yet achieved profitability, the Company has taken a
number of  recent  steps in an effort to  preserve  cash,  reduce  its costs and
increase  revenues.  In late  fiscal  1997 and early  fiscal  1998,  the Company
obtained a new management team that includes senior  executives with significant
experience in the engineering,  construction and marketing  fields. As discussed
elsewhere, the Company's long-term debt has been reduced through the redemption,
at a discount, of the IDA Bonds, reducing interest expense and cash required for
principal  repayments  significantly  and,  with  respect to the Key Bank loans,
renegotiated  debt to defer  payments  until  maturity which defers the required
cash outlays.  Raw material costs will be reduced through the use of third party
tollers and the application of lower cost alternative


                                      -2-
<PAGE>

substrates.   Investments  in  product   development  have  been  curtailed  and
investments  in  sales  and  marketing  will  be  increased.  Manufacturing  and
operating  overheads  have also been  reduced  through  payroll  reductions  and
savings  associated with  non-productive  equipment and processes that have been
shut-down,  such as the Company's melter.  The Company has begun to sell limited
amounts of the decorative  particles produced by its APT subsidiary and hopes to
increase  revenue  from this  product  line.  The  Company  will also  strive to
increase sales of other  abrasives and  aggregates as new marketing  efforts are
implemented.  Although management believes these steps will allow the Company to
continue as a going  concern for at least 12 months,  there can be no  assurance
that  the   foregoing   steps  will  result  in  the  Company   ever   achieving
profitability.

The Company has continued to experience  limited  revenue and negative cash flow
from  operations.  The Company had  revenues of  approximately  $277,000 for the
quarter ended June 30, 1997 and expects  revenues to be  approximately  $300,000
for the quarter  ending  September  30,  1997.  In general,  revenues  have been
reduced from prior periods due to the loss of Thomson as a CRT customer in March
1997.  The  Company  has  recently  begun to sell  increased  amounts of certain
recycled glass and hopes to obtain modest  increases in CRT revenue as a result.
In  addition,  the  Company  has  recently  begun  sales of  limited  amounts of
decorative  particles  manufactured by its APT subsidiary.  Although the Company
plans to maintain its CRT recycling revenue,  the Company will focus its efforts
on sales of decorative  particles,  abrasives and other substrates.  The Company
anticipates that these efforts will result in increased  revenue for the quarter
ending  December 31, 1997 as compared to the quarter ending  September 30, 1997,
however, there can be no assurance that such results will actually be achieved.

Since the Company has had limited  revenue and has incurred  significant  losses
which  has  resulted  in  a  working  capital  deficiency  and  a  stockholders'
deficiency  at June 30, 1997,  the Report of  Independent  Auditors  includes an
explanatory  paragraph indicating there is substantial doubt as to the Company's
ability to continue as a going concern. See Report of Independent Auditors.

Results of Operations

Fiscal Year Ended June 30, 1997 Compared to Fiscal Year Ended June 30, 1996

   
Consolidated  revenues  for the year ended June 30,  1997  ("fiscal  1997") were
approximately  $1,429,000,  consisting primarily of CRT glass recycling fees and
related clean cullet sales and  approximately  $248,000 of ALUMAGLASS sales. For
fiscal 1996, the Company had consolidated revenues of approximately  $2,680,000,
of which  approximately  $214,000 was from sales of ALUMAGLASS and the remainder
was CRT recycling fees and related clean cullet sales.  This decrease in revenue
during fiscal 1997 primarily reflects reduced beginning inventory of unprocessed
CRT glass and the loss of Thomson as a CRT customer.     

Cost  of  goods  sold  was  approximately  $3,952,000  for  fiscal  1997  versus
approximately  $3,094,000 for the prior fiscal year. Included in the fiscal 1997
cost was a $24,000  decrease in the  Company's  reserve for  potential  disposal
costs of raw  materials,  as compared to a $623,000  decrease in the reserve for
fiscal  1996  reflecting  a  significantly  larger  decrease  in  the  Company's
beginning raw


                                      -3-
<PAGE>


materials  inventory,  plus  approximately  $392,000  of costs for  starting  up
operations at the Company's particle coating facility in St. Augustine, Florida.
Excluding the effect of the change in the Company's  reserve for disposal during
fiscal 1997 and fiscal 1996, and the St. Augustine start-up costs, cost of goods
sold  decreased only  approximately  $133,000 in fiscal 1997 versus fiscal 1996,
despite  the  over  40%  decrease  in  revenues   noted  above.   Major  factors
contributing  to the higher  relative fiscal 1997 cost as compared to sales were
higher depreciation costs due to increased equipment purchases, an approximately
$97,000  write-off  of  raw  material  and  in-process  inventories  related  to
discontinued  processes  and  the  fact  that  under  the  prevailing  operating
conditions in both periods a significant  portion of the cost of production  was
fixed in nature.  Some savings were realized as a result of lower freight costs,
resulting  from a change in product  pricing  policy  whereby  customers now pay
freight on most shipments.

The Company's gross loss on sales of  approximately  $(2,523,000)  during fiscal
1997 compares with a loss of approximately  $(414,000) for the prior fiscal year
and reflects the lower revenue and higher costs detailed above.

Selling,  general  and  administrative  expenses  for fiscal 1997  increased  to
approximately $3,919,000 from $1,821,000 for fiscal 1996. This increase includes
(i)  approximately  $988,000 in higher  consulting costs of which  approximately
$705,000 was directly related to the terminated  merger with Octagon and $90,000
was an accrued  severance  payment to the former  President and Chief  Executive
Officer of the Company,  (ii)  approximately  $369,000 in higher legal costs and
approximately  $181,000 in outside service costs (primarily  financial printing)
both  of  which  also  relate  to  the  terminated  merger   activities,   (iii)
approximately  $165,000 in compensation expenses relating to capital stock, (iv)
approximately  $135,000 for the purchase of the APT particle coating  technology
that had not reached  technological  feasibility at the time of purchase,  (v) a
$99,000 settlement  received in fiscal 1996 from a former officer of Dunkirk and
(vi) approximately $93,000 in higher insurance costs.

A charge  against  operations of  approximately  $5,712,000  was recorded in the
fourth quarter of fiscal 1997 to write down fixed assets to their estimated fair
market value for processes  which have been shut down and no longer appear to be
viable  for  the  forseeable  future.  Most of  these  processes  relate  to the
manufacture of ALUMAGLASS. There had been no comparable expense in fiscal 1996.

The  shut-down  of the melter  used to  manufacture  ALUMAGLASS  and its related
processing  equipment is expected to improve the operating results and liquidity
of the Company by reducing its operating expenses.  The expenses estimated to be
associated with the melter operations were approximately $1,100,000 for the year
ended June 30,  1997.  The revenues  included  for that year were  approximately
$248,000  for the sale of  products  produced  by the  melter.  The  Company has
located a source of material  that is  comparable to that produced by the melter
which can be obtained at a significantly lower cost which is expected to improve
future operating results and liquidity.

The Company incurred  process  development  costs of approximately  $996,000 for
fiscal 1996. There were no similar charges in fiscal 1997.


                                      -4-
<PAGE>


Interest  expense  increased to  approximately  $1,277,000  for fiscal 1997 from
approximately  $1,077,000  for fiscal 1996,  reflecting  the  capitalization  of
approximately  $440,000 in interest during fiscal 1996. No interest  expense was
capitalized  during  fiscal 1997.  Partially  offsetting  this cost increase was
approximately  $240,000 in lower interest  expense in fiscal 1997 as a result of
reductions in debt principal.

Interest  income  of  approximately   $227,000  in  fiscal  1997  compares  with
approximately  $114,000 in fiscal 1996. The increase reflects higher earnings on
cash received from the Company's initial public offering in May 1996.

Other income of approximately $349,000 in fiscal 1997 was approximately $267,000
higher  than  fiscal  1996,  due  entirely  to a  $331,547  New York  State  net
investment  tax credit  recognized  in June 1997. (A cash refund of $566,547 was
received, but provision has been made for the return of an estimated $235,000 of
this to the State as a result of the shut down of related fixed assets.)

The fiscal 1996 Statement of Operations includes an extraordinary item amounting
to  $442,000.  This  charge  includes  underwriting,  debt  discount,  legal and
accounting  costs  relating to Bridge Notes issued in December,  1995 to provide
interim working capital until the initial public offering could be closed.

Liquidity and Capital Resources

The  Company's  business  is  capital  intensive.  The  Company  has  funded its
operations  principally from debt financing,  the private placement of preferred
stock  and  the  proceeds  of the  IPO.  At  June  30,  1997,  the  Company  had
approximately   $11,315,000  in  principal  amount  of  long-term   indebtedness
(excluding  capital lease  obligations)  and net working  capital  deficiency of
approximately  $(3,394,554).  As of June  30,  1997,  the  Company  had cash and
marketable securities of approximately $325,000.

In August and September  1997,  the Company raised  aggregate  gross proceeds of
$4,145,000 in a private  placement of Preferred  Stock.  An aggregate of 414,500
shares  of  Preferred  Stock  were  issued.  Each  share of  Preferred  Stock is
initially convertible into eight shares of Common Stock at a conversion price of
$1.25 per  share,  subject  to  adjustment  based on the lesser of $1.25 and the
prevailing  average market price of the Common Stock  immediately  preceding any
subsequent closing, if any. The maximum amount of such offering, including gross
proceeds  received  to date,  would  result  in  gross  proceeds  of  $5,000,000
($8,000,000  if the  Placement  Agent's  over-allotment  option is  exercised in
full), although there can be no assurance that any additional closings under the
offering will occur.

The Company  received  net  proceeds of  $3,606,150  from the  placement  of the
Preferred  Stock  (after  deducting  the  placement   agent's   commissions  and
non-accountable expense allowance). Of such net proceeds, $1,620,000 was used to
redeem the IDA Bonds and $500,000  plus  accrued  interest was used to repay the
1997 Bridge Loan, with the remainder to be used for transaction



                                      -5-
<PAGE>

expenses  estimated at $150,000 and general working capital purposes,  including
accrued payables.

In July and August  1997,  the 1997 Bridge  Loan  provided  the Company  with an
aggregate of $500,000 which was used for general working capital  purposes.  The
1997 Bridge Loan was repaid,  together with accrued  interest at the rate of 12%
per annum,  on  September  8, 1997 out of the  proceeds of the  Preferred  Stock
placement. In connection with such 1997 Bridge Loan, the Company issued warrants
to  purchase  100,000  shares of Common  Stock to the Aries Funds at an exercise
price equal to $1 5/16 per share.

In September 1997, the $8,000,000 principal amount of IDA Bonds were redeemed in
full in exchange for a cash payment of $1,620,000  and  Dunkirk's  forfeiture of
its interest in a related  debt  service  reserve fund (which had a then current
balance of approximately $190,000).

In July 1997,  ESDC agreed to honor its  guarantee of  approximately  $1,888,000
outstanding  principal  amount  of term  loans  owing by the  Company's  Dunkirk
subsidiary  to Key Bank,  and ESDC is in the process of assuming  from Key Bank,
and Key Bank is  assigning  to ESDC,  such  loans.  ESDC has agreed to defer all
interest  and  principal  payments due under the loans  through  January 1, 1998
until the maturity date of the loans, with interest continuing to accrue on such
deferred  amounts payable at maturity.  ESDC has also agreed to allow Dunkirk to
reduce  the  principal  amount of such  loans by the  amount  of a debt  service
reserve fund (the balance at June 30, 1997 was $449,190)  that will be forfeited
by Dunkirk.

As of September 19, 1997, the Company had approximately  $3,287,000 in principal
amount  of  long-term   indebtedness   (excluding  capital  lease  obligations),
consisting of (i) approximately  $1,888,000  outstanding  principal amount under
the Key Bank term loans  guaranteed  by ESDC,  which loans bear  interest at the
prime  rate and are  payable  in  monthly  installments  through  December  2001
(subject  to the  deferral  through  January  1,  1998  described  above),  (ii)
approximately  $695,000  aggregate  outstanding  principal  amount under various
mortgage and secured equipment loans and (iii) approximately  $704,000 aggregate
outstanding principal amount under subordinated indebtedness from certain of the
Company's CRT glass customers who provided  financial  assistance to the Company
during its start-up phase.  The Company's  long-term  indebtedness is secured by
liens on its fixed assets. The Company's long-term indebtedness has been used to
finance its facility, equipment and related capital expenditures. Certain of the
agreements related to such long-term  indebtedness  contain customary  covenants
and default provisions.

The  following  unaudited  pro forma  balance  sheet data reflects the following
transactions  as if they had  occurred  as of June  30,  1997:  (i) the  private
placement of 414,500  shares of Preferred  Stock  resulting in gross proceeds of
$4,145,000 less commissions and a  non-accountable  expense  allowance  totaling
$538,850 and placement expenses estimated at $150,000 (of which $60,000 was paid
from the  proceeds  and  $32,522  had been  recorded  by the Company at June 30,
1997), and (ii) retirement of the $8,000,000 principal amount of IDA Bonds for a
payment of $1,620,000  plus  $190,000  representing  debt service  reserve funds
forfeited  by Dunkirk  upon such  retirement  in  September  1997 plus  $230,000
removed from the debt service fund on


                                      -6-
<PAGE>
September 1, 1997 for payment of interest (with the assumption that there was no
related tax on the gain),  and (iii)  write-off of $330,361 of deferred  finance
charges related to the $8,000,000 retired IDA Bonds.

<TABLE>
<CAPTION>
                                                                                           June 30, 1997
                                                                       ---------------------------------------------------
                                                                                           Pro Forma
                                                                           Actual         Adjustments          As Adjusted
                                                                       ------------      -------------        ------------
                                                                                          (unaudited)          (unaudited)
                                    ASSETS
<S>                                                                    <C>               <C>                  <C>
Cash ..............................................................    $    325,092      $  1,868,672(1)      $  2,193,764
Other current assets ..............................................         855,810           (32,522)             823,288
                                                                       ------------      ------------         ------------
     Total current assets .........................................       1,180,902         1,836,150            3,017,052
Property, plant and equipment (net) ...............................       6,939,782              --              6,939,782
Noncurrent assets .................................................         446,929          (330,361)             116,568
Restricted assets .................................................         869,311          (419,964)             449,347
                                                                       ------------      ------------         ------------
                                                                       $  9,436,924      $  1,085,825         $ 10,522,749
                                                                       ============      ============         ============
             LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIENCY)

Accrued expenses ..................................................    $    858,447           (76,667)        $    781,780
All other current liabilities .....................................       3,717,009              --              3,717,009
                                                                       ------------      ------------         ------------
     Total current liabilities ....................................       4,575,456           (76,667)           4,498,789

Capital lease obligations, less current portion                              39,414              --                 39,414
Long-term debt, less current portion ..............................      10,784,343        (8,000,000)           2,784,343

Stockholders' equity (deficiency):
     Common stock, $.00025 par value, authorized 25,00,000
        shares, issued and outstanding 5,539,745 shares ...........           1,385              --                  1,385
     Additional paid-in capital, common stock .....................      24,186,932              --             24,186,932
     Preferred stock, $.001 par value, authorized 15,000,000
        shares, issued and outstanding 414,500 shares .............                               415                  415
     Additional paid-in capital, preferred stock ..................            --           3,455,735            3,455,735
     Unearned stock compensation ..................................        (116,369)             --               (116,369)
     Accumulated deficit ..........................................     (30,034,237)        5,706,342(2)       (24,327,895)
                                                                       ------------      ------------         ------------
Total stockholders' equity (deficiency) ...........................      (5,962,289)        9,162,492            3,200,203
                                                                       ------------      ------------         ------------
                                                                       $  9,436,924      $  1,085,825         $ 10,522,749
                                                                       ============      ============         ============
<FN>
----------
(1)  Reflects gross proceeds of $4,145,000 on the sale of Preferred Stock,  less
     commissions and estimated expenses totaling $656,328 and $1,620,000 paid to
     retire the IDA Bonds.

(2)  Reflects a pre-tax gain on retirement of $8,000,000  IDA Bonds based on (i)
     payments of $1,620,000  cash,  (ii)  forfeiture of $419,964 in debt service
     reserve funds,  (iii) $76,667 accrued interest recorded at June 30, 1997 on
     the IDA Bonds which was paid from the debt service  reserve fund subsequent
     to June 30, 1997,  and (iv) a write-off  of $330,361  for deferred  finance
     charges related to the retired IDA Bonds. The pro forma adjustment does not
     include the related  tax, if any,  that may be payable  with respect to the
     debt retirement.  If Dunkirk is deemed to be solvent  immediately  prior to
     the retirement of the IDA Bonds, the Company will recognize  taxable income
     for the debt  forgiveness  in its tax year ending June 30, 1998. The amount
     of such income may be offset by net operating loss carryforwards  ("NOLs"),
     subject to possible  limitations (see below).  Even if sufficient NOLs were
     available to offset such taxable  income,  the Company may still be subject
     to  alternative  minimum  tax. To the extent  that  Dunkirk is deemed to be
     insolvent  immediately prior to such repayment by an amount which equals or
     exceeds  the amount of debt  forgiveness,  the Company  will not  recognize
     taxable  income from such  repayment;  however,  certain of  Dunkirk's  tax
     attributes  (such as NOLs) would be subject to  reduction  and would not be
     available  to  offset  future  income  from  operations,  if any.  For this
     purpose,  the amount of insolvency is defined to be the excess of Dunkirk's
     liabilities over the fair value of its assets. An independent  appraisal of
     the fair value of Dunkirk'  assets has not been  completed at this time to
     determine Dunkirk's solvency.
</FN>
</TABLE>

The Company's  capital lease  payments were  approximately  $84,000 for the year
ended June 30, 1997 and are estimated to be approximately  $41,000,  $27,000 and
$23,000 for the fiscal years


                                      -7-
<PAGE>

ending June 30, 1998, 1999 and 2000,  respectively,  under current  commitments.
The Company's  utility expenses average  approximately  $35,000 per month at its
current level of operations.

The  Company's  base annual fixed  expenses  include  approximately  $447,000 in
aggregate  annual base  compensation for the current  executive  officers of the
Company  and debt  service  obligations  relating to the  Company's  outstanding
indebtedness,  which are estimated to aggregate  approximately  $489,000 for the
fiscal year ending June 30, 1998, excluding capital lease obligations.

The Company's  short-term and long-term  liquidity will depend on its ability to
achieve  cash-flow  break even on its  operations  and to increase  sales of its
products.  The Company  currently is not profitable and therefore relies on cash
from its financing  activities to fund its operations.  As discussed above under
the  heading  "Overview",  the  Company  has taken a number of steps to preserve
cash, reduce costs and increase its revenues, but there can be no assurance that
the Company will ever achieve  profitability.  In addition,  the Company has not
yet  achieved  sufficient  sales  to  replace  all the  revenue  lost  from  the
termination of the Company's  relationship  with Thomson in March 1997, and will
not achieve the levels of revenue it experienced  during the period when Thomson
was a customer until such time as additional revenue is obtained. The Company is
not aware of any other matters which are likely to have a material impact on the
Company's short-term or long-term liquidity.

The  Company  receives  waste  materials  for  processing  into  finished  goods
inventory,  which then can be sold to its customers.  The Company has recorded a
reserve for disposal for the probable  disposal  costs of waste  material it has
received  which cannot be processed  through the  Company's  current  processing
methods,  net of the amount of deferred  revenue  recorded  with respect to such
materials. The Company is continually attempting to refine existing processes to
increase  yields and/or  develop new  processes for the waste  materials on hand
which have not been able to be processed,  and therefore has not disposed of any
waste materials to date. The Company records a disposal  reserve with respect to
materials it cannot process  because it is probable it will incur these costs on
the ultimate disposition of the waste materials.  The Company estimates that the
disposal  costs for  material  received by the Company  that the Company  cannot
process,  if and when  incurred,  will  exceed the fees the  Company was paid to
accept such materials.

   
The Company sells its recycled  glass to  Techneglas  pursuant to a Clean Cullet
Sale Agreement (the "Cullet  Agreement") and an open purchase order arrangement.
The Cullet Agreement had an initial term of three years expiring August 1998 and
automatically renews for additional one year terms unless either party gives the
other written  notice of  termination  at least 120 days prior to the end of any
term.  The Cullet  Agreement  includes  provisions  relating to  specifications,
delivery  and  acceptance  of processed  CRT glass.  The Cullet  Agreement  also
requires the Company to sell, and Techneglas to purchase, various amounts of the
CRT glass processed by the Company.  The Cullet  Agreement also contains pricing
and other customary terms.  Techneglas has been purchasing  substantially all of
the CRT glass processed by the Company since the loss of Thomsen as a customer.
    


                                      -8-
<PAGE>

The Company has no material commitments for capital expenditures.

The Company  has  federal net  operating  loss  carryforwards  that  amounted to
approximately  $20.6  million at June 30, 1997,  which  expire  between 2006 and
2012.  Pursuant to Section 382 of the Internal  Revenue Code of 1986, as amended
(the "Code"),  utilization  of net operating  loss  carryforwards  is limited if
there  has been a change in  control  (ownership)  of the  Company.  Although  a
comprehensive  evaluation has not yet been  performed,  it is likely that due to
prior shifts in ownership (the Dunkirk merger and the completion of the IPO) and
anticipated  shifts in ownership (the Preferred Stock  offering),  the Company's
ability  to utilize  its net  operating  loss  carryforwards  could be  severely
limited.

Pending Accounting Pronouncements

SFAS No. 128 "Earning Per Share," SFAS No. 130 "Reporting  Comprehensive Income"
and SFAS No.  131  "Disclosure  about  segments  of an  Enterprise  and  Related
Information" are not effective for the Company until December 31, 1997, June 30,
1999 and June 30, 1999,  respectively.  Management believes these standards will
not have a material impact on the Company.



                                      -9-
<PAGE>



                          INDEX TO FINANCIAL STATEMENTS




Report of Independent Auditors.......... ....................................F-2

Consolidated Balance Sheets of Conversion Technologies
   International, Inc. and Subsidiaries as of June 30,
   1997 and June 30, 1996....................................................F-3

Consolidated Statements of Operations of Conversion
   Technologies International, Inc. and Subsidiaries for
   the years ended June 30, 1997 and June 30, 1996...........................F-4

Consolidated Statements of Stockholders' Equity of
   Conversion Technologies International, Inc. and Subsidiaries
   for the years ended June 30, 1997 and June 30, 1996.......................F-5

Consolidated Statements of Cash Flows of Conversion Technologies
   International, Inc. and Subsidiaries for the years ended
   June 30, 1997 and June 30, 1996...........................................F-6

Notes to Consolidated Financial Statements...................................F-8



                                      F-1
<PAGE>

                         REPORT OF INDEPENDENT AUDITORS


The Board of Directors and Stockholders
Conversion Technologies International, Inc.


We have  audited the  accompanying  consolidated  balance  sheets of  Conversion
Technologies International, Inc. and Subsidiaries (Company) at June 30, 1997 and
1996,  and the related  consolidated  statements  of  operations,  stockholders'
equity and cash flows for the years then ended.  These financial  statements are
the responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.

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

In our opinion,  the financial  statements  referred to above present fairly, in
all  material  respects,  the  consolidated  financial  position  of  Conversion
Technologies International, Inc. and Subsidiaries at June 30, 1997 and 1996, and
the  consolidated  results of their operations and cash flows for the years then
ended in conformity with generally accepted accounting principles.

The  accompanying  financial  statements  have been  prepared  assuming that the
Company will continue as a going concern. As more fully described in Note 1, the
Company has generated only minimal revenue, has incurred significant losses, has
a  working  capital  deficiency  and  has  a  stockholders'  deficiency.   These
conditions raise  substantial doubt about the Company's ability to continue as a
going  concern.  The  financial  statements  do not include any  adjustments  to
reflect the possible future effects on the  recoverability and classification of
assets or the amounts and classification of liabilities that may result from the
possible inability of the Company to continue as a going concern.


Metro Park, New Jersey                               ERNST & YOUNG LLP
September 18, 1997


                                      F-2
<PAGE>


 <TABLE>
<CAPTION>


                               Conversion Technologies International, Inc.
                                             and Subsidiaries

                                       Consolidated Balance Sheets

                                                                                    June 30,
                                                                          ------------------------------
                                                                             1997                1996
                                                                          -------------     ------------

                                         ASSETS
<S>                                                                       <C>               <C>
Cash and cash equivalents ...........................................     $    325,092      $  4,539,464
Marketable securities ...............................................             --           2,009,632
Accounts receivable, less allowance for doubtful accounts
     of $18,000 at June 30, 1997 and $25,000 at June 30, 1996 .......          146,225           343,214
Inventories .........................................................          521,060           337,736
Prepaid expenses and other current assets ...........................          188,525           205,984
                                                                          ------------      ------------
Total current assets ................................................        1,180,902         7,436,030

Property, plant and equipment:
     Land ...........................................................           75,000            75,000
     Building and improvements ......................................        1,578,293         1,609,832
     Machinery and equipment ........................................        6,713,599        11,573,933
     Construction in progress .......................................           29,500         1,008,480
                                                                          ------------      ------------
                                                                             8,396,392        14,267,245
     Less accumulated depreciation ..................................       (1,456,610)       (1,630,639)
                                                                          ------------      ------------
                                                                             6,939,782        12,636,606

Deferred finance charges, less accumulated amortization of
     $135,786 at June 30, 1997 and $81,272 at June 30, 1996 .........          443,829           494,843
Other noncurrent assets .............................................            3,100            38,304
Restricted assets
     Project Fund ...................................................              158            72,859
     Debt service reserve funds .....................................          869,153         1,268,457
                                                                          ------------      ------------
                                                                          $  9,436,924      $ 21,947,099
                                                                          ============      ============

          LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIENCY)

Accounts payable ....................................................     $  1,711,212      $  1,279,280
Deferred revenue ....................................................          491,944           557,907
Reserve for disposal ................................................          713,100           737,000
Accrued expenses ....................................................          858,447           778,306
Investment tax credit payable .......................................          235,000              --
Current portion of capital lease obligations                                    35,495            72,914
Current portion of long-term debt ...................................          530,258           437,285
                                                                          ------------      ------------
Total current liabilities ...........................................        4,575,456         3,862,692

Capital lease obligations, less current portion .....................           39,414            74,693
Long-term debt, less current portion ................................       10,784,343        11,281,715

Stockholders' equity (deficiency):
     Class A common  stock,  $.00025 par value,  authorized  25,000,000  shares,
        issued and outstanding 5,539,745 shares at June 30,
        1997 and 5,449,745 shares at June 30, 1996 ..................            1,385             1,362
     Additional paid-in capital .....................................       24,186,932        23,905,705
     Unearned Stock Compensation ....................................         (116,369)             --
     Accumulated deficit ............................................      (30,034,237)      (17,179,068)
                                                                          ------------      ------------
Total stockholders' equity (deficiency) .............................       (5,962,289)        6,727,999
                                                                          ------------      ------------
                                                                          $  9,436,924      $ 21,947,099
                                                                          ============      ============

                                         See accompanying notes.
</TABLE>
                                      F-3
<PAGE>


<TABLE>
<CAPTION>

                   Conversion Technologies International, Inc.
                                and Subsidiaries

                      Consolidated Statements of Operations


                                              Year ended June 30,
                                        ------------------------------
                                             1997              1996
                                        ------------      ------------

<S>                                     <C>               <C>
   
Revenues:
      Product sales                    $    945,871      $  2,075,118
      Recycling fees                        483,137           604,869
                                        ------------      ------------
Total revenue                             1,429,008         2,679,987
    

Cost of goods sold                        3,952,374         3,093,560
                                        ------------      ------------

Gross loss on sales                      (2,523,366)         (413,573)

Selling, general and administrative       3,918,726         1,821,179
Process development costs                      --             996,259
Write-off of fixed assets                 5,711,567              --
                                        ------------      ------------
Loss from operations                    (12,153,659)       (3,231,011)

Interest expense                         (1,277,310)       (1,076,077)
Interest income                             226,505           114,326
Other income                                349,295            81,811
                                        ------------      ------------

Loss before extraordinary item          (12,855,169)       (4,110,951)

Extraordinary item                              --            442,000
                                        ------------      ------------

Net loss                               $(12,855,169)     $ (4,552,951)
                                        ============      ============

Net loss per common share
     before extraordinary item          $     (2.69)     $      (2.64)
                                        ============      ============

Net loss per common share               $     (2.69)     $      (2.92)
                                        ============      ============
</TABLE>


                             See accompanying notes.


                                      F-4
<PAGE>

<TABLE>
<CAPTION>

                   Conversion Technologies International, Inc.
                                and Subsidiaries

                 Consolidated Statements of Stockholders' Equity

                   Years ended June 30, 1997 and June 30, 1996


                                             Preferred Stock                                  Class A Common Stock
                                  ------------------------------------------        ----------------------------------------
                                                                  Additional                                      Additional
                                       Number                       Paid-In          Number                        Paid-In
                                     of Shares       Amount         Capital         of Shares       Amount         Capital
                                     ---------       ------         -------         ---------       ------         -------

<S>                                 <C>            <C>            <C>                  <C>         <C>            <C>
Balance at July 1, 1995 ........     2,958,000     $    2,958     $5,994,271           909,404     $  227         4,427,710
     Issuance of Class A
       common stock ............                                                    3,527,050         882        13,526,159
     Converted to Common Stock .    (2,958,000)        (2,958)    (5,994,271)       1,023,054         255         5,996,974
     Surrendered and canceled ..                                                       (7,308)         (1)          (98,999)
     Repurchased and canceled ..                                                       (2,455)         (1)          (12,889)
     Debt discount on Bridge ...                                                                                    66,750
     Net Loss ..................
                                     ---------     ----------     ----------        ---------      ------      ------------
Balance at June 30, 1996 .......          --             --             --          5,449,745       1,362        23,905,705
     Issuance of Class A
       common stock ............                                                       90,000          23
     Stock Compensation ........                                                                                   281,227
     Net Loss ..................
                                     ---------     ----------     ----------        ---------      ------      ------------
Balance at June 30, 1997 .......          --       $     --       $     --          5,539,749      $1,385      $ 24,186,932
                                     =========     ==========     ==========        =========      ======      ============



                                                                            Total
                                       Unearned                         Stockholders'
                                        Stock         Accumulated          Equity
                                     Compensation       Deficit         (Deficiency)
                                     ------------     -----------       ------------

<S>                                  <C>            <C>               <C>
Balance at July 1, 1995 ........     $    --        $(12,626,117)     $ (2,200,951)
     Issuance of Class A
       common stock ............                                        13,527,041
     Converted to Common Stock .                                              --
     Surrendered and canceled ..                                           (99,000)
     Repurchased and canceled ..                                           (12,890)
     Debt discount on Bridge ...                                            66,750
     Net Loss ..................                      (4,552,951)       (4,552,951)
                                     ---------      ------------      ------------

Balance at June 30, 1996 .......          --         (17,179,068)        6,727,999
     Issuance of Class A
       common stock ............                                                23
     Stock Compensation ........      (116,369)                            164,858
     Net Loss ..................                     (12,855,169)      (12,855,169)
                                     ---------      ------------      ------------
Balance at June 30, 1997 .......     $(116,369)     $(30,034,237)     $ (5,962,289)
                                     =========      ============      ============

                                         See accompanying notes.
</TABLE>


                                      F-5
<PAGE>

 <TABLE>
<CAPTION>
                           Conversion Technologies International, Inc.
                                         and Subsidiaries

                              Consolidated Statements of Cash Flows


                                                                         Year ended June 30,
                                                                 -------------------------------
                                                                      1997               1996
                                                                 -------------     -------------

OPERATING ACTIVITIES
<S>                                                              <C>               <C>
Net loss ...................................................     $(12,855,169)     $ (4,552,951)
Adjustments to reconcile  net loss to net cash  provided by (used in)  operating
  activities:
     Depreciation expense ..................................        1,036,416           886,863
     Amortization of deferred financing and patent costs ...           54,514            54,302
     Write-down of fixed assets ............................        5,711,567              --
     Write-off of inventories ..............................           96,752              --
     Stock compensation expense ............................          164,858              --
     Settlement with former officer ........................                            (99,000)
     Debt discount on Bridge Notes .........................                             66,750
     Changes in operating assets and liabilities:
        Decrease (increase) in accounts receivable .........          196,989           (59,643)
        Increase in inventories ............................         (280,076)         (110,012)
        Decrease (increase) in other current assets ........           17,459           (72,952)
        Decrease (increase) in other noncurrent assets .....           35,204            (7,038)
        Decrease in deferred revenue .......................          (65,963)         (386,323)
        Increase (decrease) in accounts payable, reserve
              for disposal and other accrued expenses ......           723,173          (811,824)
                                                                 ------------      ------------
Net cash used in operating activities ......................       (5,164,276)       (5,091,828)

INVESTING ACTIVITIES
Sale (purchase) of marketable securities ...................        2,009,632        (2,009,632)
Capital expenditures .......................................       (1,051,159)       (4,396,016)
                                                                 ------------      ------------
Net cash provided by (used in) investing activities ........          958,473        (6,405,648)

FINANCING ACTIVITIES
Increase in deferred finance and registration costs ........           (3,500)          (40,427)
Issuance of notes payable ..................................             --           2,675,000
Payment of notes payable ...................................             --          (3,061,500)
Issuance of long-term debt .................................            8,282         3,056,476
Decrease (increase) in restricted assets ...................          472,005          (347,408)
Principal payments on long-term debt .......................         (412,681)         (399,445)
Principal payments under capital lease obligations .........          (72,698)          (93,750)
Issuance of common stock ...................................               23        13,514,151
                                                                 ------------      ------------
Net cash (used in) provided by financing activities ........           (8,569)       15,303,097
                                                                 ------------      ------------

(Decrease) increase in cash and cash equivalents ...........       (4,214,372)        3,805,621
Cash and cash equivalents at beginning of period ...........        4,539,464           733,843
                                                                 ------------      ------------
Cash and cash equivalents at end of period .................     $    325,092      $  4,539,464
                                                                 ============      ============
                                     See accompanying notes.
</TABLE>


                                      F-6
<PAGE>

<TABLE>
<CAPTION>
                           Conversion Technologies International, Inc.
                                         and Subsidiaries

                        Consolidated Statements of Cash Flows (continued)



                                                              Year ended June 30,
                                                          ----------------------------
                                                             1997             1996
                                                         ------------     ------------

SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
<S>                                                      <C>              <C>
Interest paid, net of amount capitalized .............   $ 1,320,882      $ 1,009,746
                                                         ===========      ===========


SUPPLEMENTAL DISCLOSURE OF NON CASH TRANSACTIONS
Surrender and cancellation of common stock ...........          --            (99,000)
Issuance of warrants in connection with bridge notes..          --             66,750



                                See accompanying notes.
</TABLE>


                                      F-7
<PAGE>



                   Conversion Technologies International, Inc.
                                and Subsidiaries

                   Notes to Consolidated Financial Statements

                                  June 30, 1997


1.   ORGANIZATION

Conversion  Technologies  International,  Inc. (the "Company") is engaged in the
business of  manufacturing,  recycling and  processing  various  substrates  and
advanced  materials.  These  substrates  and  materials  include (i)  industrial
abrasives  which  can be used  for  surface  cleaning  and  surface  preparation
applications such as in cleaning steel structures, railcars, aircraft parts, and
equipment in loose grain blasting  operations;  (ii)  decorative  particles that
visually enhance  structural  materials such as plasters,  tiles,  grouts,  wall
systems and roofing and flooring;  and (iii) performance aggregates which can be
used  as  structural  and  textural  enhancers,  fillers  and  additives  and to
strengthen and add consistency to materials such as cements,  plasters,  grouts,
roofing  and  flooring  and glass and  ceramic  materials.  The  Company is also
engaged in the business of recycling  cathode ray tube ("CRT") glass produced in
the  manufacture of  televisions  for resale to such  manufacturers  and others.
Although  substantially all of the Company's  revenues to date have been derived
from its CRT recycling  operations,  the Company intends to focus its efforts on
its substrates and advanced  materials  products.  The Company's revenue streams
are a combination of waste conversion fees and manufactured product sales.

On  November  9,  1995,   the  Board  of  Directors   approved  an   approximate
0.1218-for-one reverse split of its common stock. The accompanying  consolidated
financial  statements have been  retroactively  restated to reflect this reverse
stock split.

On May 16, 1996 the Company completed its initial public offering  ("IPO").  The
funds  generated  by this  offering  became  available at the closing on May 21,
1996,  and included the proceeds from  3,067,000  shares of common stock sold at
$4.40 per share,  3,067,000  Class A Warrants  sold at $0.05 each and  3,067,000
Class B Warrants sold at $0.05 each.  On June 7, 1996 the Company  closed on the
underwriter's  over-allotment  option  for  sales  of  460,050  of  each  of the
foregoing securities at identical pricing. (See Note 7).

In  November  1996,   the  Company   entered  into  an  Agreement  and  Plan  of
Reorganization with Octagon,  Inc.  ("Octagon") pursuant to which a wholly-owned
subsidiary of the Company would be merged with and into Octagon (the  "Merger"),
whereby,  Octagon would become a wholly-owned subsidiary of the Company. On June
30, 1997, the Company and Octagon  mutually  terminated the Merger.  Pursuant to
the terms of a Termination  Agreement,  the Company agreed to forgive  remaining
bridge loans,  including interest, in the approximate amount of $630,000 it made
to Octagon in fiscal 1997 in payment for certain services provided by Octagon to
the Company prior to the termination of the Merger and Octagon agreed to provide
certain services



                                      F-8
<PAGE>

1. Organization (continued)

to the Company.  This amount is included in Selling,  General and Administrative
expenses in the Consolidated Statement of Operations.

The accompanying consolidated financial statements have been prepared on a going
concern basis which  contemplates  the realization of assets and the liquidation
of liabilities in the ordinary  course of business.  The Company has had limited
revenue and has  incurred  significant  losses  which has  resulted in a working
capital  deficiency and a  stockholders'  deficiency.  In view of the foregoing,
there is  substantial  doubt about the Company's  ability to continue as a going
concern. The accompanying  consolidated  financial statements do not include any
adjustments relating to the realization of assets and liquidation of liabilities
that might be  necessary  should the  Company be unable to  continue  as a going
concern.

In late fiscal 1997 and early  fiscal 1998 the Company  engaged new  management.
The Company's new management team has initiated a plan to reverse the history of
limited  revenues and continued  losses  through a series of deliberate  actions
based upon the following five elements.  Long term debt has been renegotiated to
reduce  interest  expense (see Note 9). Raw material costs are being cut through
the use of third party  tollers and the  application  of lower cost  alternative
substrates.  Revenues from colored substrates are anticipated to increase as the
Company's  decorative  particle  production  facility in St. Augustine,  Florida
becomes  fully  operational.   Investments  in  product  development  have  been
curtailed  and   investments   in  sales  and   marketing   will  be  increased.
Manufacturing  and operating  overheads have been reduced.  Although  management
believes the foregoing course of action would allow the Company to continue as a
going concern for the next year, there are no assurances that management will be
successful in implementing the plans and eliminating the substantial doubt as to
its ability to continue as a going concern.

2.   Summary of Significant Accounting Policies

Basis of Presentation

The  accompanying  consolidated  financial  statements  have  been  prepared  in
accordance  with  generally  accepted  accounting  principles  and  include  the
accounts of Conversion  Technologies  International,  Inc. and its  wholly-owned
subsidiaries,  Dunkirk International Glass and Ceramics Corporation and Advanced
Particle Technologies, Inc. Intercompany accounts and transactions have been
eliminated in consolidation.

The preparation of financial  statements in conformity  with generally  accepted
accounting  principles  requires  management to make  estimates and  assumptions
which affect the amounts


                                      F-9
<PAGE>

2.   Summary of Significant Accounting Policies (continued)

reported in the financial  statements  and  accompanying  notes.  Actual results
could differ from those estimates.

Revenue Recognition

   
The  Company  derives  most of its  revenue  from fees  charged to accept  waste
materials and from the sale of its  products.  With respect to revenue from fees
charged to accept waste  materials,  the Company  initially  records the fees it
receives for accepting waste materials for processing as deferred revenue. After
the materials have been processed  into finished goods  inventory,  the deferred
revenue is  recognized  as fee revenue  based upon the amount of finished  goods
inventory  produced (by  tonnage)  valued at the fee charged for  accepting  the
waste material.  With respect to revenue from product sales,  including products
created from processed waste materials, revenue is recognized only upon shipment
of products to customers.
    

For the year ended June 30,  1997,  61.2% of the  Company's  revenue was derived
from two  major  customers.  Revenue  generated  from  each of  these  customers
amounted to $621,830  and  $252,686  which  represents  43.5% and 17.7% of total
revenue,  respectively. For the year ended June 30, 1996, 87.6% of the Company's
revenue was derived from three major customers.  Revenue  generated from each of
these customers  amounted to $1,395,568,  $677,648 and $273,709 which represents
52.1%,  25.3% and 10.2% of total revenue,  respectively.  The Company's customer
who generated the 17.7% and 25.3% of the total revenue for fiscal 1997 and 1996,
respectively,  ceased shipping CRT glass and purchasing  recycled CRT glass from
the Company in March 1997.

Reserve for Disposal

   
Dunkirk began  accepting  waste  materials  (primarily CRT glass) in early 1994.
Upon  accepting  the waste  materials,  Dunkirk  established  a reserve  for the
probable disposal costs for the unprocessed waste materials on hand in the event
the  conversion  processes  being  developed were not  successful.  To date, the
Company  has not yet  disposed  of the  materials  which it has not been able to
process.  The amount of  unprocessed  waste  materials on hand was 7,232 tons at
June 30,  1996 and 6,732  tons at June 30,  1997.  From July 1, 1995 to June 30,
1996, the Company reduced the reserve by approximately  $623,000;  and from July
1,  1996  to  June  30,  1997  the  Company   further  reduced  the  reserve  by
approximately  $24,000.  The decrease in the reserve,  which  resulted  from the
reduction in the quantities of unprocessed waste materials on hand, as they were
subsequently  processed,  have been  credited  against  operations.  The Company
intends to adjust the  reserve for  disposal if and when it can refine  existing
processes to increase  yields and/or  develop new processes for the  unprocessed
waste materials on hand.     




                                      F-10
<PAGE>

2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Inventories consisted of the following:

                                June 30,
                       ------------------------
                         1997            1996
                         ----            ----

Raw materials .......  $ 61,949        $ 79,237
Work-in-process......   111,961         135,536
Finished goods.......   347,150         122,963
                       --------        --------
                       $521,060        $337,736
                       ========        ========

Property, Plant and Equipment

Property,  plant  and  equipment  is  stated at cost.  The  Company  capitalized
interest  costs of $439,932 in the year ended June 30, 1996 with  respect to the
construction  of certain  long-term  assets.  Depreciation  and  amortization is
computed on the  straight-line  method over the  estimated  useful  lives of the
assets.   Amortization   on  assets  under  capital  leases  is  provided  on  a
straight-line basis over the lesser of the useful lives of the related assets or
the terms of the leases.

During  fiscal  1997,  the  Company  experienced  reduced  levels of revenue and
increased  costs.  Also in fiscal  1997,  the  Company  shut down its melter and
certain  related  equipment  which it does not intend to use in the  foreseeable
future,  and  accordingly,  the Company has adjusted these asset values to their
estimated fair value which was determined to be zero as it is estimated that the
cost  to  disassemble,  transport  and  reassemble  the  melter  and  peripheral
equipment  would  approximate  any remaining  fair value of those  assets.  As a
result,  the Company has taken a charge in the fourth  quarter  pursuant to SFAS
No. 121 "Accounting  for the Impairment of Long-Lived  Assets and for Long-Lived
Assets to be Disposed of" in the amount of $5,711,567.

Cash Equivalents

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



                                      F-11
<PAGE>

2.   Summary of Significant Accounting Policies (continued)

Marketable Securities

The Company considers all marketable  securities to be available for sale. These
securities were carried at cost which approximated fair value at June 30, 1996.

Deferred Financing Costs

Deferred costs include costs related to obtaining debt financing,  and are being
amortized under the interest method of accounting. (See Note 9).

Income Taxes

Deferred income tax assets and liabilities are recorded for differences  between
the financial statement and tax bases of assets and liabilities that will result
in taxable or  deductible  amounts in the future  based on enacted  tax laws and
rates  applicable to the periods in which the differences are expected to affect
taxable income.  Valuation  allowances are established  when necessary to reduce
deferred tax assets to the amount expected to be realized. Income tax expense is
the tax payable or refundable for the period plus or minus the change during the
period in deferred tax assets and liabilities.

Process Development Costs

Process development costs represent research and development associated with the
Company's CRT glass processing and ALUMAGLASS(TM)  product lines  (technologies)
in fiscal 1996. No such costs were incurred in fiscal 1997.

Investment Tax Credit

The Company received a gross cash refund of $566,547 related to a New York State
investment tax credit in June 1997. However, the Company has recorded a $235,000
reserve against this amount as the Company may be required to refund such amount
pursuant  to a  recapture  provision.  The net amount of $331,547 is included in
"Other Income."

Extraordinary Item

The consolidated statement of operations for the fiscal year ended June 30, 1996
includes  an  extraordinary  charge  of  $442,000,  representing  the  costs  of
obtaining bridge financing in the form of Bridge Notes totaling $2,225,000 which
were repaid out of the proceeds of the Company's IPO (see Note 4).


                                      F-12
<PAGE>

2.   Summary of Significant Accounting Policies (continued)


Net Loss Per Common Share

The net loss per common share is based on the net loss for the year,  divided by
the  weighted  average  number  of common  shares  outstanding  during  the year
(excluding the common shares that were deposited into escrow in connection  with
the Company's  initial  public  offering -see Note 7). Common Stock  equivalents
such as  stock  options  and  warrants  are not  included  as  their  effect  is
anti-dilutive.  However,  immediately  prior  to the  closing  of the  Company's
initial public  offering,  the Company's  Series A Preferred Stock was converted
into 1,023,054  shares of common stock (see Note 7). The weighted average number
of these converted  shares,  at June 30, 1997 and 1996 were 1,023,054,  and they
have  been  included  in the  related  net loss per  common  share  calculation.
Therefore,  the weighted average number of common shares outstanding at June 30,
1997 and 1996 were 4,773,311 and 1,559,908, respectively.

Employee Stock Option Plan

The Company has elected to follow  Accounting  Principles  Board Opinion No. 25,
"Accounting   for  Stock   Issued  to   Employees"   ("APB  25"),   and  related
Interpretations in accounting for its employee stock options. Under APB 25, when
the exercise price of the Company's  employee stock options equals or is greater
than  the  market  price  of the  underlying  stock  on the  date of  grant,  no
compensation expense is recognized.

Pending Accounting Pronouncements

SFAS No. 128 "Earnings Per Share," SFAS No. 130 "Reporting Comprehensive Income"
and SFAS No.  131  "Disclosure  about  segments  of an  Enterprise  and  Related
Information" are not effective for the Company until December 31, 1997, June 30,
1999 and June 30, 1999,  respectively.  Management believes these standards will
not have a material impact on the Company.


                                      F-13
<PAGE>

<TABLE>
<CAPTION>
3.   DEBT

Long-term debt consists of the following obligations as of June 30, 1997 and 1996:

                                                                        June 30,
                                                               ------------------------
                                                                   1997         1996
                                                               -----------   ----------

<S>                                                            <C>           <C>       
Dunkirk--Chautauqua    Region    Industrial   Development
  Corporation (CRIDA) mortgage note  (collateralized by a
  mortgage on real  property  having a carrying  value of
  approximately  $1,510,100  at June 30, 1997) payable in
  monthly  installments of $4,285 including interest at a
  variable rate (6% at June 30, 1997) through  October 1,
  2004.                                                        $   304,432   $   336,529

Dunkirk--Term loans with a  bank  payable  in 84  monthly
  installments   of  $40,944   including   principal  and
  interest  at the prime  rate  (8.50% at June 30,  1997)
  through December 27, 2001.  Collateral for this loan is
  a first purchase money lien on the Company's  machinery
  and  equipment,  and  repayment  is  guaranteed  by the
  former  Dunkirk  president  and the New York  State Job
  Development Authority (JDA). (See Note 9).                      1,887,871    2,192,379

Dunkirk--Subordinated mortgage note (collateralized  by a
  mortgage on real  property  having a carrying  value of
  approximately  $1,510,100  at June 30, 1997) payable in
  monthly  installments of $4,956  including  interest at
  10%  through   January  21,   2004.                               288,516      317,517

Dunkirk--Chautauqua   County   Industrial   Development  
  Agency  (CCIDA)  subordinated  note  payable in monthly
  payments  of $1,485  including  interest  at 7% through
  June 1, 1999.  The note  contains  various  restrictive
  covenants,   is  guaranteed   by  the  former   Dunkirk
  president  and  is  collateralized  by  a  subordinated
  security  interest in certain  machinery  and equipment
  having a carrying value of approximately $5,163,200.              33,170       49,295


                                      F-14
<PAGE>

                   Conversion Technologies International, Inc.
                                and Subsidiaries

                   Notes to Consolidated Financial Statements

                                  June 30, 1997


3.  DEBT (CONTINUED)

                                                                        June 30,
                                                               ------------------------
                                                                   1997         1996
                                                               -----------   ----------

Dunkirk--Southern Tier Enterprise Development Organization
  (STEDO)  subordinated  note  payable in monthly payments
  of $1,169  including  interest  at 8%  through   July 1,
  2002. The note contains various  restrictive  covenants,
  is  guaranteed by the former  Dunkirk  president and  is
  collateralized  by a subordinated  security  interest in
  certain   equipment   having   a   carrying   value   of
  approximately $5,163,200.                                         48,727       59,974

Dunkirk--New  York Job Development  Authority  (Al  Tech)
  subordinated note payable in monthly payments of $1,887
  including interest at 5% through September 1, 1999. The
  note  contains  various   restrictive   covenants,   is
  guaranteed  by  the  former  Dunkirk  president  and is
  collateralized  by a subordinated  security interest in
  certain   equipment   having   a   carrying   value  of
  approximately $5,163,200.                                         48,096       67,799

Dunkirk--Chautauqua County Industrial Development  Agency
  solid  waste   disposal   facility   bonds  payable  in
  quarterly  payments of interest only through  September
  1, 1998 at a rate of 11.5% subject to  adjustment  upon
  the achievement of stated debt service  coverage ratio.
  Beginning   December  1,  1998  and  annually   through
  December 1, 2010 principal payments which increase from
  $325,000  to  $1,025,000   are  payable  with  interest
  continuing  to be paid  quarterly.  The  bond  security
  agreement contains various restrictive covenants and is
  collateralized  by a security interest in the equipment
  acquired with the proceeds (see Notes 5 and 9).                8,000,000    8,000,000



                                      F-15
<PAGE>


                   Conversion Technologies International, Inc.
                                and Subsidiaries

                   Notes to Consolidated Financial Statements

                                  June 30, 1997


3.  DEBT (CONTINUED)


                                                                        June 30,
                                                               ------------------------
                                                                   1997         1996
                                                               -----------   ----------

Dunkirk--Subordinated unsecured debt from various electronic
   companies;    OI-NEG  TV  Products,  Inc.   (Techneglas),
   Thomson    Consumer   Electronics,   Sanyo  Manufacturing
   Corp.,  Toshiba  Display Devices and  Hitachi  Electronic
   Devices  (USA),   begin   with   quarterly   payments  of
   interest  only at  prime   plus  2%  (10.50%  at June 30,
   1997) through a  range of dates  ending  January 1, 1999.
   Beginning  between  March 31, 1998  and April 1, 1999 and
   going   through  a  range  of   dates   with  the   final
   subordinate debt issue ending  January  1, 2004 quarterly
   installments  of principal  plus  interest  at prime plus
   2% are   payable.  The  first   five  quarterly  interest
   payments  for  a portion of  the debt has been  converted
   by  the  Company   into   subordinated   notes   ($43,789
   converted  at  June  30,  1997)   payable   in  quarterly
   payments of interest  only at 8%  for  nineteen  quarters
   and  the  principal  amount  plus  interest   being   due
   between April 1, 1999 through April 1, 2000.                    703,789      695,507
                                                               -----------  -----------
Total Debt                                                      11,314,601   11,719,000

Less current maturities                                            530,258      437,285
                                                               -----------  -----------
                                                               $10,784,343  $11,281,715
                                                               ===========  ===========
</TABLE>

The  Company  has agreed to  indemnify  and hold  harmless  the  former  Dunkirk
president with respect to guarantees made by him for obligations of Dunkirk.  In
addition,  the  Company  has agreed to use its  reasonable  efforts to cause the
release of such guarantees.

Maturities  on  long-term  debt for the next five years are as follows (see Note
9):

                     June 30,
                       1998         $   530,258
                       1999           1,044,448
                       2000           1,107,982
                       2001             990,836
                       2002             865,939
                     Thereafter       6,775,138
                                    ------------
                                    $ 11,314,601
                                    ============


                                      F-16
<PAGE>

                   Conversion Technologies International, Inc.
                                and Subsidiaries

                   Notes to Consolidated Financial Statements

                                  June 30, 1997

3.  DEBT (CONTINUED)

The carrying  amounts and fair values of long-term  borrowings  consisted of the
following at June 30, 1997:

                                       Carrying Amount     Fair Value
                                       ---------------    ----------

5% subordinated note ..............    $    48,096       $    45,206
6% mortgage note ..................        304,432           262,189
7% subordinated note ..............         33,170            32,023
8% subordinated note ..............         48,727            46,420
8.50% secured bank loan ...........      1,887,871         1,887,871
10% subordinated mortgage note ....        288,516           284,256
Variable rate debt ................        703,789           703,789
11.5% solid waste disposal bonds ..      8,000,000         8,000,000
                                       -----------       -----------
     Total Long-Term Borrowings ...    $11,314,601       $11,261,754
                                        ==========        ==========

The fair values of fixed  long-term  borrowings  were  calculated as the present
value of  future  cash  flows  discounted  at the  Company's  estimated  current
borrowing rate of the respective issues ranging from prime plus 2% to prime plus
3% (See Note 9).

4.  NOTES PAYABLE

During the  period  commencing  September  1995 and ending  November  1995,  the
Company issued $700,000 of 6% convertible  promissory  notes, in anticipation of
additional equity  financing,  of which $50,000 was paid during fiscal 1996 (see
below).

During the period commencing  December 7, 1995 and ending December 15, 1995, the
Company obtained  additional  bridge financing  ("bridge loan") in the principal
amount of  $2,225,000,  (recorded,  net of the value  assigned  to the  attached
warrants,  at  $2,158,250)  which  includes  the  conversion  of $650,000 of the
$700,000  convertible  promissory  notes  discussed  above.  The bridge loan was
issued through a private placement  arranged by the underwriter of the Company's
IPO. This bridge loan was comprised of bridge units, each consisting of a bridge
note in the principal  amount of $50,000 bearing interest at the rate of 10% per
annum,  and warrants to purchase 25,000 shares of the Company's  common stock at
an  exercise  price of $4.00  per  share  commencing  one year  from the date of
issuance and expiring  three years after the initial  closing date of the bridge
loan offering.



                                      F-17
<PAGE>

                   Conversion Technologies International, Inc.
                                and Subsidiaries

                   Notes to Consolidated Financial Statements

                                  June 30, 1997


4.   NOTES PAYABLE (CONTINUED)

In March 1996, the Company  issued  $200,000 of promissory  notes,  due upon the
earlier  of the  closing  of the IPO and six  months  from the date  issued,  to
certain directors,  officers and security holders which bore interest at 10% per
annum.  In May 1996,  the Company  issued an  additional  $200,000 of promissory
notes to a  securityholder  with  identical  terms to the notes  issued in March
1996.

All of the  outstanding  bridge  notes and  promissory  notes were repaid at the
closing of the IPO from the proceeds thereof. Concurrent with the closing of the
offering,  the common  stock  warrants  issued to the bridge note  holders  were
converted into an equivalent  number  (1,112,500)  of Class A warrants,  each of
which entitles the holder to purchase, at an exercise price of $5.85, subject to
adjustment,  one share of common  stock and one Class B  warrant.  Each  Class B
warrant entitles the holder to purchase one share of common stock at an exercise
price, subject to adjustment, of $7.80 (see Note 7).

During fiscal 1996 Dunkirk  repaid a $262,500  balance plus accrued  interest to
close a $300,000 line of credit  arrangement  with a bank. In June, 1996 Dunkirk
repaid a $124,000 demand note plus accrued interest payable to a bank.

5.   RESTRICTED ASSETS

Dunkirk has $158 and  $72,859 of project  funds  available  at June 30, 1997 and
June 30, 1996,  respectively,  for the  acquisition  of qualified  machinery and
equipment  from the  unexpended  balance on the sale of the solid waste disposal
facility  bonds.  In addition,  a debt service reserve fund equivalent to 10% of
the bonds plus interest is required to be deposited in escrow  ($419,963 at June
30, 1997 and  $840,442 at June 30,  1996),  and may be  released  under  certain
conditions (see Note 9).

Dunkirk  also has a debt  service  reserve fund of $449,190 at June 30, 1997 and
$428,015 at June 30, 1996,  including interest,  deposited in escrow as required
by the JDA for payment of the final  installments  due on the related  debt (see
Note 9).

6.   COMMITMENTS AND CONTINGENCIES

The  Company is a party to  litigation  commenced  by the Company in the Supreme
Court of New York, County of Chautauqua,  against a general  contractor hired to
construct  the  improved  abrasives  finishing  area,  which  was a part  of the
Company's  capital  expansion  program.  The contractor  commenced work in April
1995,  but was asked to stop work in November 1995  following  significant  cost
overruns, problems and delays in construction and disputes with the


                                      F-18
<PAGE>

                   Conversion Technologies International, Inc.
                                and Subsidiaries

                   Notes to Consolidated Financial Statements

                                  June 30, 1997


6.   COMMITMENTS AND CONTINGENCIES (CONTINUED)

Company  over the  scope  of the work to be  performed  by the  contractor.  The
Company has served the  contractor  with its  complaint,  alleging,  among other
things, breach of contract, fraud and defamation, and seeks damages in excess of
$1,000,000.  The contractor has served an answer with  affirmative  defenses and
counterclaims  against the Company for breach of contract.  The aggregate amount
of the claims by the contractor against the Company is $483,000 plus interest.

The Company  does not believe that there will be a material  adverse  outcome in
the foregoing dispute.

The Company has entered into capital leases for machinery and equipment that may
be purchased on expiration of the leases on various dates through 2000.  The net
asset value of property under capitalized  leases,  included in property,  plant
and equipment, is as follows:

                                                  June 30,
                                         ------------------------
                                           1997            1996
                                           ----            ----

Machinery and equipment ............     $353,686        $354,352
Less accumulated amortization.......      289,382         217,375
                                         --------        --------
                                         $ 64,304        $136,977
                                         ========        ========

Lease amortization of $72,637 and $101,531 for the years ended June 30, 1997 and
1996, respectively, is included in cost of goods sold.

Future minimum lease payments together with the present value of the net minimum
lease payments for capitalized leases as of June 30, 1997 is as follows:

                                                   Capitalized     Operating
                                                     Leases          Leases
                                                   -----------     ---------
June 30,
    1998.........................................   $41,486         $75,780
    1999.........................................    27,179          75,780
    2000.........................................    22,854          50,520
    2001.........................................      --              --
    2002.........................................      --              --
                                                    --------       --------
    Total net minimum lease payments.............    91,519        $202,080
                                                                   ========
    Less amount representing interest............    16,610
                                                    -------
    Present value of net minimum lease payments..   $74,909
                                                    =======

Total rent  expense of the Company for the periods  ended June 30, 1997 and 1996
was $73,674 and $99,530, respectively.



                                      F-19
<PAGE>

                   Conversion Technologies International, Inc.
                                and Subsidiaries

                   Notes to Consolidated Financial Statements

                                  June 30, 1997


7.   CAPITAL STOCK

On May 16,  1996,  the  Company  completed  an initial  public  offering  of the
Company's common stock,  Class A warrants and Class B warrants.  Concurrent with
the  closing  of the IPO,  the  Company's  Preferred  Stock  ($.001  par  value,
authorized  15,000,000  shares) was converted  into  1,023,054  shares of common
stock  as  a  result  of  the  restatement  of  the  Company's   Certificate  of
Incorporation  which  adjusted  the  Preferred  Stock  conversion  ratio  due to
anti-dilution   provisions.   In  addition,   preferred  stock  warrants  became
exercisable for common stock (adjusted for a 0.1218-for-one reverse common stock
split-see  Note 1) and the number of common  shares  into which  certain  common
stock warrants and all preferred stock warrants are  convertible  increased by a
factor of approximately  2.84 upon the effective date of the IPO due to the fact
that those warrants had protection  against the dilutive effect of the valuation
placed on the Company upon the IPO.  Also,  upon the effective  date of the IPO,
the  Company  adjusted  the  exercise  price  of all the  options  and  warrants
outstanding  prior to the IPO to $4.40  with some  warrants  having an  exercise
price  equal to $4.40  plus a premium  in  certain  circumstances.  All  amounts
disclosed  related to options  and  warrants  have been  restated to reflect the
adjusted exercise prices.

In connection  with the IPO,  740,559  shares of the Company's  common stock and
options to purchase 71,923 shares of Common Stock (the "Escrow Securities") were
deposited into escrow by the holders thereof. The Escrow Securities will only be
released from escrow when the Company  attains  certain  earnings  levels or the
market price of the Company's common stock achieves certain levels. These Escrow
Securities are subject to cancellation  if such conditions are not achieved.  In
the  event  that  the  Escrow   Securities  are  released  from  escrow  to  the
stockholders  of  the  Company  who  are  officers,   directors,   employees  or
consultants of the Company,  compensation expense will be recorded for financial
reporting  purposes.  This non-cash charge to earnings will be equal to the fair
value of such securities on the date of their release.



                                      F-20
<PAGE>

                   Conversion Technologies International, Inc.
                                and Subsidiaries

                   Notes to Consolidated Financial Statements

                                  June 30, 1997


7.   CAPITAL STOCK (CONTINUED)

The Company has issued the  following  common stock  purchase  warrants,  all of
which expire between the fifth and seventh anniversary of the date of grant:


<TABLE>
<CAPTION>
                                                             Number of         Exercise
                                                              Shares            Price
                                                             ---------         --------

<S>                                                         <C>               <C>
Outstanding at July 1, 1995 ...........................        316,771        4.77-5.28
   Granted July 21, 1995 through December 15, 1995 ....      1,114,933        4.00-4.40
   Canceled ...........................................     (1,112,500)            4.00
                                                            ----------
Outstanding at June 30, 1996 ..........................        319,204        4.40-5.28
   Granted July 1, 1996 through June 30, 1997 .........           --               --
   Canceled July 1, 1996 through June 30, 1997 ........           --               --
                                                            ----------
Outstanding at June 30, 1997 ..........................        319,204        4.40-5.28
                                                            ==========
</TABLE>

In  conjunction  with its initial  public  offering,  the Company has issued the
following  Class A and  Class B  warrants,  all of  which  expire  on the  fifth
anniversary of the date issued:

<TABLE>
<CAPTION>
                                                  Class A                    Class B
                                           ----------------------     ----------------------
                                           Number of     Exercise     Number of     Exercise
                                            Shares        Price        Shares         Price
                                           ---------     --------     ---------     --------

<S>                                        <C>           <C>          <C>           <C>
Outstanding at July 1, 1995 ............       --            --          --             --
  Issued May 16, 1996 and June 7, 1996..   4,639,550     $ 5.85       3,527,050     $ 7.80
                                           ---------                  ---------
Outstanding at June 30, 1997 and 1996...   4,639,550                  3,527,050
                                           =========                  =========
</TABLE>

The Company  maintains an Employee Stock Option Plan (the "Employee Plan") and a
Non-Employee Director Stock Option Plan (the "Non-Employee Plan"). Stock options
may be granted at the  discretion  of the Board of  Directors.  The  Company has
reserved  440,000 and 70,400  shares of its common stock for  issuance  upon the
exercise  of  options  granted  under  the  Employee  and  Non-Employee   Plans,
respectively.  The  Non-Employee  Plan options are  exercisable in full one year
after  the date of grant  and  expire  ten  years  from the date of  grant.  The
Employee  Plan  options  primarily  vest  one-third  on each of the first  three
anniversaries of the date of grant and expire on the seventh  anniversary of the
date of grant.  The Company grants stock options at exercise  prices equal to or
greater than the fair market value of the Company's  common stock on the date of
grant.

On April 21, 1996,  the Company  granted,  effective as of the effective date of
the IPO,  non-qualified options to purchase 50,000 shares of its common stock at
an exercise price of $4.40 per share to an executive officer and director. These
options  are not part of the  Employee  Plan  and  Non-Employee  Plan,  and were
canceled  in June of 1997 with the  resignation  of the  executive  officer  and
director.



                                      F-21
<PAGE>

                   Conversion Technologies International, Inc.
                                and Subsidiaries

                   Notes to Consolidated Financial Statements

                                  June 30, 1997


7.   CAPITAL STOCK (CONTINUED)

The following  table  summarizes  the activity in options under the Employee and
Non-Employee Plans, plus options granted on a non-qualified basis:

                                                Weighted
                                                Average
                                    Number      Exercise
                                  of Shares      Price
                                  ---------     --------

EMPLOYEE PLAN OPTIONS
Outstanding at July 1, 1995...     38,083         4.40
   Granted ...................     38,424         4.40
   Canceled and expired ......     (6,884)        4.40
                                  -------
Outstanding at June 30, 1996..     69,623         4.40
   Granted ...................    148,000         4.40
   Canceled ..................    (48,543)        4.40
                                  -------
Outstanding at June 30, 1997..    169,080         4.40
                                  =======

NON-EMPLOYEE PLAN OPTIONS
Outstanding at July 1, 1995         6,266         4.40
   Granted ...................      1,217         4.40
                                  -------
Outstanding at June 30, 1996        7,483         4.40
   Granted ...................     50,847         3.16
                                  -------
Outstanding at June 30, 1997..     58,330         3.32
                                  =======

<TABLE>
<CAPTION>
                                    Options Outstanding                    Options Exercisable
                                      at June 30, 1997                       At June 30, 1997
                               -----------------------------------    ----------------------------
                                                  Weighted Average
                 Number of     Weighted Average   Contractual Life    Number of   Weighted Average
Range             Shares       Exercise Price         (Years)           Shares      Exercise Price
                 ---------     ----------------   ----------------    ---------   ----------------

<S>               <C>                <C>               <C>              <C>           <C>
$3.125             50,000           $3.13             10.00
$4.40-$5.00       177,410            4.40              6.39             75,557        $4.40
                  -------                                               ------
TOTAL             227,410           $4.12              7.18             75,557        $4.40
                  =======                                               ======
</TABLE>

Of the total  options  outstanding  under the  plans,  75,557  and  24,081  were
exercisable at June 30, 1997 and 1996, respectively.


                                      F-22
<PAGE>

                   Conversion Technologies International, Inc.
                                and Subsidiaries

                   Notes to Consolidated Financial Statements

                                  June 30, 1997


7. CAPITAL STOCK (CONTINUED)

At June 30, 1997,  the Company has reserved  510,400  shares of Common Stock for
the exercise of options.

Pro forma  information  regarding net loss and net loss per share is required by
SFAS No. 123, and has been  determined as if the Company had been accounting for
its employee and non-employee director stock options under the fair value method
of that Statement.  The fair value of these options was estimated at the date of
grant using a Black-Scholes  option pricing model for 1997 and the Minimum Value
Method  for 1996  prior to  becoming  a public  company  in May  1996,  with the
following  assumptions  for  1997  and  1996,   respectively:   weighted-average
risk-free  interest  rate of 6.0%  for both  years;  volatility  factors  of the
expected market price of the Company's  common stock of .778 for fiscal 1997 and
a weighted average expected life of the options of 7.36 for fiscal 1997 and 6.08
for fiscal 1996.

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

For purposes of pro forma  disclosures,  the estimated fair value of the options
granted in 1997 and 1996 is  amortized  to  expense  over the  options'  vesting
period.  The  weighted-average  grant date fair value of options  granted during
fiscal years 1997 and 1996 were $2.79 and $1.30, respectively. The Company's pro
forma information follows:

                                             1997               1996
                                             ----               ----

Pro Forma net loss.....................  $(13,127,518)      $(4,576,091)
Pro Forma loss per common share........  $(2.75)            $(2.93)

The  pro  forma  disclosures  presented  above  for  fiscal  year  1996  reflect
compensation expense only for options granted in fiscal 1996 and for fiscal 1997
only for options  granted in fiscal years 1996 and 1997.  These  amounts may not
necessarily  be  indicative  of the pro forma  effect of SFAS No. 123 for future
periods in which options may be granted.




                                      F-23
<PAGE>

                   Conversion Technologies International, Inc.
                                and Subsidiaries

                   Notes to Consolidated Financial Statements

                                  June 30, 1997


7.   CAPITAL STOCK (CONTINUED)

Effective as of August 26, 1996  ("Effective  Date"),  the Company  approved and
adopted the 1996 Long-Term Employee Incentive Plan (the "Plan"). Under the Plan,
payment  of  awards  may be in cash or the  common  stock  of the  Company  or a
combination of both, at the option of the Company.  The maximum number of shares
of the  Company's  common stock  available for awards under the Plan is 800,000,
subject to adjustments as provided in the Plan. The Plan will terminate  without
further  action  of the  board of  directors  on the  tenth  anniversary  of the
Effective Date. In October 1996, the Company issued a total of 90,000 shares (at
par value and,  accordingly,  compensation  expense is being  recognized) to two
former officers of the Company under the Plan which shares vest January 1, 1998.
Effective  in July 1997,  the Company  issued a total of 600,000  options to two
officers of the Company  which vest 20% at date of grant and 20% for each of the
next four years.

8.   INCOME TAXES

There was no income tax expense/benefit for the Company for the years ended June
30, 1997 and 1996.

Following is a reconciliation of income tax expense (credit) to the amount based
on the U.S. statutory rate of 34% for the years ended June 30, 1997 and 1996:

<TABLE>
<CAPTION>

                                                     For the year ended June 30,
                                                     ---------------------------
                                                        1997              1996
                                                     -----------      -----------

<S>                                                  <C>              <C>
Income tax benefit based on U.S. statutory rate...   $(4,370,758)     $(1,548,003)
Current year addition to the (federal) valuation
  allowance ......................................     4,370,758        1,548,003
                                                     -----------      -----------
                                                     $      --        $     --
                                                     ===========      ===========
</TABLE>



                                      F-24
<PAGE>

                   Conversion Technologies International, Inc.
                                and Subsidiaries

                   Notes to Consolidated Financial Statements

                                  June 30, 1997



8.   INCOME TAXES (CONTINUED)

The significant  components of the Company's deferred tax assets and liabilities
are as follows:

                                                       June 30,
                                             ---------------------------
                                                 1997            1996
                                             -----------     -----------
Deferred tax assets:
  Deferred revenue .....................     $   196,778     $   223,163
  Reserve for disposal .................         285,240         294,800
  Start-up costs .......................          57,334          86,000
  Fixed assets .........................       1,422,000
  Tax loss carryforward ................       8,228,700       4,584,808
                                             -----------     -----------
Total deferred tax assets ..............      10,190,052       5,188,771

Valuation allowances (federal & state)..      10,190,052       5,188,771
                                             -----------     -----------
Net deferred tax assets ................     $      --       $      --
                                             ===========     ===========

The above net  deferred  tax assets  have been  reserved  because it is not more
likely than not that they would be recognized.

At June 30, 1997, the Company has  approximately  $20.6 million of net operating
loss  carryforwards,  which expire  between 2006 and 2012. The Tax Reform Act of
1986  enacted  a complex  set of rules  (Section  382)  limiting  the  potential
utilization of net operating loss carryforwards in periods following a corporate
"ownership  change".  In general,  an ownership change is deemed to occur if the
percentage of stock of a loss corporation owned (actually,  constructively  and,
in some cases,  deemed) by one or more "5%  shareholders"  has increased by more
than 50 percentage  points over the lowest percentage of such stock owned during
a three year testing  period.  Although a  comprehensive  evaluation has not yet
been performed,  it is likely that due to prior shifts in ownership (the Dunkirk
merger and the completion of the IPO) and  anticipated  shifts in ownership (See
Note 9), the Company's  ability to utilize its net operating loss  carryforwards
could be severely limited.

9.   SUBSEQUENT EVENTS

In September  1997 the  beneficial  holders of Dunkirk's  $8,000,000  Chautauqua
County  Industrial  Development  Agency Solid Waste Disposal Facility Bonds (the
"IDA Bonds")  retired the IDA Bonds in exchange for receipt of a cash payment of
$1,620,000  and the  remaining  balance of a related debt  service  reserve fund
which has been  reduced for interest  payments  made to the  beneficial  holders
during  fiscal  1997  through  September  1,  1997.  The cash  payment  was made
utilizing  proceeds from the private placement  discussed below. This retirement
will  result in a net pretax  gain to the  Company of  approximately  $6,190,000
which will be recorded in the first



                                      F-25
<PAGE>

                   Conversion Technologies International, Inc.
                                and Subsidiaries

                   Notes to Consolidated Financial Statements

                                  June 30, 1997


9.   SUBSEQUENT EVENTS (CONTINUED)

quarter of fiscal 1998. The Company will also write-off  approximately  $330,000
of deferred  financing  costs  relating to such debt. If Dunkirk is deemed to be
solvent  immediately  prior  to the time of such  repayment,  the  Company  will
recognize  taxable  income for the debt  forgiveness in its tax year ending June
30,  1998.  The  amount  of such  income  may be offset  by net  operating  loss
carryforwards ("NOLs"), subject to the possible limitations discussed in Note 8.
Even if sufficient  NOLs were  available to offset such taxable income after the
limitations  described  below,  the Company may still be subject to  alternative
minimum tax. To the extent that  Dunkirk is deemed to be  insolvent  immediately
prior to such  repayment by an amount which equals or exceeds the amount of debt
forgiveness,  the Company will not recognize taxable income from such repayment;
however,  certain of Dunkirk's tax attributes (such as NOLs) would be subject to
reduction and would not be available to offset future income from operations, if
any. For this  purpose,  the amount of insolvency is defined to be the excess of
Dunkirk's  liabilities  over  the  fair  value  of its  assets.  An  independent
appraisal of the fair value of Dunkirk's  assets has not been  completed at this
time to determine Dunkirk's solvency.

The New York State Job  Development  Authority  (JDA) issued its guaranties (the
"Guaranties)") in favor of Key Bank of New York ("Key Bank") with respect to two
promissory  notes (the "term loans")  issued by Dunkirk and payable to the order
of Key Bank.  The JDA has agreed to exercise its option under the  Guaranties to
make the payments  required under the term loans directly to Key Bank,  provided
that Key Bank applies the amount  currently  held in the Company's  related debt
service reserve fund to reduce the principal amount of the term loans.  Upon the
assignment of the term loans and related loan  documents to the JDA, the JDA has
also agreed to defer monthly payments of principal and interest due from Dunkirk
under each term loan through January 1998 until the maturity date of such loans.
Interest  will  continue  to accrue on the  principal  amount  and  interest  so
deferred will be payable at maturity.

In July and August 1997,  the Company  borrowed an  aggregate  of $500,000  (the
"1997 Bridge Loan") for general working capital purposes. In connection with the
1997 Bridge Loan,  the Company  issued  warrants to purchase  100,000  shares of
Common  Stock at an exercise  price  equal to $1 5/16.  The 1997 Bridge Loan was
repaid in full plus accrued  interest at 12% per annum on September 8, 1997 from
proceeds from the private placement discussed below.

The  Company  has  entered  into a  placement  agency  agreement  for a  private
placement of the Company's  preferred stock. The private placement consists of a
minimum of  300,000  and a maximum  of  500,000  shares of Series A  Convertible
Preferred Stock (the  "Preferred  Stock") with an option for the Placement Agent
to sell up to an additional  300,000  shares to cover  over-allotments,  if any,
(the Preferred Stock is to be sold in units of 10,000) with a par value of $.001
per share and a stated value of $10 per share.  Each share of Preferred Stock is
initially convertible into eight shares of common stock at a conversion price of
$1.25 per share, subject to



                                      F-26
<PAGE>

                   Conversion Technologies International, Inc.
                                and Subsidiaries

                   Notes to Consolidated Financial Statements

                                  June 30, 1997


9.   SUBSEQUENT EVENTS (CONTINUED)

adjustment based on the lesser of $1.25 and the prevailing  average market price
of the common  stock  immediately  preceding  any  subsequent  closing,  if any.
Commencing  12 months  from the final  closing  of the  private  placement,  the
holders of the Preferred Stock are entitled to receive dividends payable in cash
or, at the option of the Company, in additional shares of Preferred Stock at the
rate of 10% per  annum.  The  Placement  Agent is  entitled  to  receive  a cash
commission  of 9% and a  non-accountable  expense  allowance  of 4% of the total
proceeds.  The Placement Agent is also entitled to receive  warrants to purchase
shares of the Company's  Preferred Stock equal to 10% of the total shares issued
at an exercise price equal to 110% of the offering price of such shares. Through
September 18, 1997,  414,500 shares of Preferred  Stock had been sold,  with net
proceeds  (after  deducting the placement  agent  commissions and expenses - see
above) to the Company of $3,606,150.

In August 1997, The Company's  Board of Directors  authorized an increase of the
authorized  number of the  Company's  common  shares  of up to a  maximum  of 60
million. This is subject to ratification of the Company's stockholders.

                                      

                                      F-27
<PAGE>


                                   SIGNATURES

Pursuant to the  requirement of Section 13 or 15 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.


                                     CONVERSION TECHNOLOGIES INTERNATIONAL, INC.


Dated:   February 12, 1998           /s/ William L. Amt
                                     -------------------------------------------
                                     William L. Amt
                                     President and Chief Executive Officer


Dated:  February 12, 1998            /s/ John G. Murchie
                                     -------------------------------------------
                                     John G. Murchie
                                     Controller and Principal Financial Officer



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