SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

                                    FORM 10-K

                  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D)
              OF THE SECURITIES EXCHANGE ACT OF 1934 (FEE REQUIRED)
                      FOR THE YEAR ENDED DECEMBER 31, 1996

                          COMMISSION FILE NO. 0 - 26728

                             Tel-Save Holdings, Inc.
             (Exact name of registrant as specified in its charter)

             Delaware                                        23-2827736
             --------                                        ----------
(State or other jurisdiction of                             (I.R.S. Employer
incorporation or organization)                           Identification Number)


                                 6805 Route 202
                          New Hope, Pennsylvania 18938
                                 (215) 862-1500
    (Address, including zip code, and telephone number, including area code,
                  of registrant's principal executive offices)

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


Title of each class                    Name of each exchange on which registered
-------------------                    -----------------------------------------
         None                                   Not applicable

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

                     Common Stock, par value $.01 per share

         Indicate  by check  mark  whether  the  Registrant  (1) has  filed  all
documents  and  reports  required  to be  filed  by  Section  13 or 15(d) of the
Securities  Exchange  Act of 1934  during the  preceding  12 months (or for such
shorter  period that the  Registrant  was required to file such reports) and (2)
has been subject to such filing  requirements for the past 90 days. 
                                                                  Yes [X] No [ ]

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

         The aggregate  market value of voting stock held by  non-affiliates  of
the registrant as of March 13, 1997 was approximately  $681,467,000 based on the
average of the high and low prices of the 


<PAGE>

Common  Stock on March 13, 1997 of  $17.19   per share as reported on the Nasdaq
National Market.

         As of March 13, 1997, the Registrant had outstanding  62,887,998 shares
of its Common Stock, par value $.01 per share.




<PAGE>
                       DOCUMENTS INCORPORATED BY REFERENCE

         Portions of the Tel-Save Holdings,  Inc. definitive proxy statement for
the 1997 Annual Meeting of Stockholders  are incorporated by reference into Part
III of this Form 10-K.

                             TEL-SAVE HOLDINGS, INC.
                               INDEX TO FORM 10-K
                      FOR THE YEAR ENDED DECEMBER 31, 1996

ITEM                                                                        PAGE
 NO.                                                                         NO.
 ---                                                                         ---

                                     Part I

1        Business..............................................               1
2        Properties............................................               27
3        Legal Proceedings.....................................               27
4        Submission of Matters to a Vote of Security Holders...               27

                                     Part II

5        Market for the Registrant's Common Equity and
         Related Stockholder Matters...........................               29
6        Selected Financial Data...............................               30
7        Management's Discussion and Analysis of Financial
         Condition and Results of Operations...................               31
8        Financial Statements and Supplementary Data...........               39
9        Changes in and Disagreements with Accountants on
         Accounting and Financial  Disclosure..................               57

                                    Part III

10       Directors and Executive Officers of the Registrant....               57
11       Executive Compensation................................               57
12       Security Ownership of Certain Beneficial Owners
         and Management........................................               57
13       Certain Relationships and Related Transactions........               57

                                     Part IV

14       Exhibits, Financial Statement Schedules and Reports
         on Form 8-K...........................................               58




<PAGE>



PART I

ITEM 1. BUSINESS

         For the  definition  of  certain  terms  used in this  Form  10-K,  see
"Glossary."

OVERVIEW

         Tel-Save  Holdings,  Inc.  ("Company")  provides long distance services
primarily to small and  medium-sized  businesses  located  throughout the United
States.  The Company's long distance service offerings include outbound service;
inbound toll-free 800 service; and dedicated private line services for data.

         Prior to the fourth quarter of 1996, the Company  operated  solely as a
switchless,  nonfacilities-based  reseller of AT&T long  distance  services.  By
purchasing  large usage  volumes  from AT&T  pursuant to contract  tariffs,  the
Company has been able to procure substantial  discounts and offer low cost, high
quality  long  distance  services  to its  customers  at  rates  generally  more
favorable than those offered directly by AT&T.

         In order to reduce its dependence on AT&T contract tariffs and increase
its growth  opportunities,  the  Company  in 1996  deployed  its own  nationwide
telecommunications   network,   One  Better  Net  ("OBN").   OBN  features  five
Company-owned,   AT&T  (now  Lucent  Technologies,  Inc.  hereinafter  "Lucent")
manufactured   5ESS-2000  switches  connected  with  AT&T  digital  transmission
facilities.  OBN's  reduced  cost  structure  allows the  Company to offer rates
competitive  with those of non-AT&T  resellers  while  continuing to provide the
quality  of  AT&T  (now  Lucent)   manufactured   switches   and   AT&T-provided
transmission  facilities and billing services.  OBN allows the Company to pursue
the non-AT&T based  switchless  resale market,  which represents the majority of
the switchless resale long distance market.

         The Company's strategy for expanding its business is to market services
directly to business and residential end users, to continue to support  existing
partitions  and to attract  additional  partitions  (including  those now in the
non-AT&T  resale  market).  The Company  intends to attract new  partitions  and
support  existing  partitions  by, among other  things,  continuing  its current
practice of offering advances to new partitions to enable such partitions to pay
outstanding  balances due to their existing long distance providers in order for
such  partitions to transfer  their end users to the Company's  service,  and to
existing partitions to support their marketing efforts. The Company also intends
to approach residential  customers through its telemarketing  operations as well
as new marketing and advertising media, such as the Company's recently announced
arrangement with America Online, Inc. ("AOL") pursuant to 


                                       1
<PAGE>
which  the  Company   will  be  the   exclusive   provider   of  long   distance
telecommunications services to AOL subscribers.

         Tel-Save, Inc., the Company's predecessor  ("Predecessor  Corporation")
and now its operating subsidiary,  was incorporated in Pennsylvania in May 1989.
The  Company  was  incorporated  in  Delaware  in June 1995.  The address of the
Company's principal executive offices is 6805 Route 202, New Hope,  Pennsylvania
18938, and its telephone number is (215) 862-1500.  Unless the context otherwise
requires, "Company" includes the Predecessor Corporation and the Company's other
subsidiaries.

DEVELOPMENT OF THE COMPANY

         The Company,  originally  incorporated  in 1989 as Tel-Save,  Inc., was
formed to  capitalize on the FCC mandate  allowing the resale of AT&T  services.
The Company  initially  marketed  AT&T's  multi-location  calling plan ("MLCP"),
which provided incremental  discounts earned by inclusion of the usage volume of
diverse  end user  locations  under a  single  service  plan.  The  Company  was
successful in marketing MLCP, but realized that there were significant  barriers
to growth  associated  with the product,  primarily  the lack of reporting  from
AT&T, product inflexibility and the lack of control over end user accounts.

         In late 1989,  the Company  successfully  obtained an  additional  AT&T
service plan developed by AT&T and marketed as Software  Defined Network Service
("SDN"),  an AT&T product designed for larger business  customers.  SDN provided
the Company with higher margins,  network  controls,  advanced  features and the
ability to rebill its end users through AT&T and AT&T's  College and  University
Systems  ("ACUS"),  thus  enabling the Company to have more control over the end
user  account.  As a result of SDN,  the  Company  began to offer  services on a
wholesale basis through partitions. The Company thereby outsourced its marketing
and end user service  expenses to  partitions,  allowing it to focus on managing
the AT&T  relationship  and to  further  develop  its  billing  and  information
systems.

         In  December  1992,  the Company  obtained  the first  contract  tariff
created by AT&T  specifically for the Company.  The contract tariff provided the
Company with significant additional price advantages at stabilized rates and the
ability to absorb the traffic of  competitors'  plans into the contract  tariff.
The Company  subsequently  obtained other contract  tariffs,  which also provide
AT&T inbound 800 services and AT&T private line services,  in order to diversify
its service offerings.  This in turn has further enabled the Company to increase
the number of its partitions and end users.

         To date,  the Company has  primarily  operated  as a  "switchless"  and
nonfacilities-based  provider  of  long  distance  services  by  reselling  AT&T
services.  The Company offers its partitions and end 

                                       2
<PAGE>


users nationwide  access to AT&T long distance network services through contract
tariffs, including outbound long distance, 800 service and private line service.
Outbound long distance service accommodates voice, data and video transmissions.
The Company's 800 service is currently  provided by reselling AT&T's 800 Service
(Readyline, Megacom 800, etc.), which is AT&T's inbound, toll-free (recipient of
the call pays the charges) long  distance  service.  The Company's  private line
service is currently  provided by reselling  AT&T  Private Line  Service,  which
includes dedicated transmission lines connecting pairs of sites.

         The Company  successfully  established  its  position  as a  switchless
reseller of AT&T long distance  services as a result of its ability to negotiate
with and obtain  favorable  contract  tariffs from AT&T,  manage and  distribute
data,  bill   accurately  and  provide   partition   support.   Contract  tariff
subscriptions do not impose restrictions on the rates the Company may charge its
partitions and end users.  By purchasing  large usage volumes from AT&T pursuant
to such  contract  tariffs,  the Company is able to procure  substantial  volume
discounts and offer long distance  services to its  partitions  and end users at
rates  generally more favorable  than those offered  directly by AT&T.  With its
information  systems, the Company is able to manage and distribute to partitions
information such as data about end user usage and payment history.

         Prior to 1995, substantially all of the Company's services consisted of
reselling  AT&T outbound or SDN long  distance  services.  In 1994,  the Company
began to offer  800  services,  which  accounted  for 30.9% of 1995  sales,  and
private line service, which accounted for 10.2% of 1995 sales. The Company's 800
services and private line service accounted for 32.4% and 7.9%, respectively, of
1996 sales.

         In order to reduce its  dependence  on the AT&T  contract  tariffs  and
increase its growth opportunities, the Company began to develop its own network,
OBN, in late 1995.  In 1996,  the Company  deployed five  5ESS-2000  switches in
Chicago, Dallas, Jacksonville, New York and San Francisco and installed new 5E11
software.  The Company began testing new customer  calls over its network in the
third  quarter  of 1996.  In the  fourth  quarter  of 1996,  the  Company  began
provisioning  on a test basis new customer  orders on OBN. To date,  the Company
has provisioned  approximately  50,000 end users to OBN. OBN enables the Company
to offer its end users and partitions  more  competitive  rates than in the past
and to  improve  customer  provisioning,  as well  as to  improve  reporting  to
existing and new  partitions.  Currently  the Company is continuing to provision
new  customers  on OBN while  completing  the final  testing of OBN. The Company
expects  final  testing of OBN to be completed  in April 1997,  and at that time
there  will be a general  release of OBN.  Thereafter,  the  Company  expects to
provision a large majority of its new customer orders on OBN.

                                       3
<PAGE>


STRATEGY

         The Company has historically  expanded its business  primarily  through
the addition of  partitions  and by providing new and existing  partitions  with
operational, financing, marketing and management support. The Company's strategy
for future  business  growth is to market its services  directly to business end
users,  broaden the Company's  target market to include  residential  customers,
continue to support  existing  partitions,  attract  additional  partitions  and
introduce new services.

          Increase Direct Marketing Efforts.  By marketing its services directly
          to end users,  the Company  expects to increase its profit  margins by
          taking  advantage  of the  difference  between  the  reduced  costs of
          offering services on OBN and the rates charged directly to end users.

          Broaden Target Market to Include  Residential  Customers.  The Company
          intends to expand its service  offerings  to attract  the  residential
          segment of the long  distance  market.  New  services  may include new
          features  relating  to  customers  reporting  and  billing  as well as
          improved  rates.  The  Company  will  use  direct  marketing  and  new
          marketing and advertising  media, such as online services,  to attract
          the  end  users  in  this  customer  segment.  Recently,  the  Company
          announced its arrangement  with AOL pursuant to which the Company will
          be the exclusive provider of long distance telecommunications services
          to AOL's subscribers. See "SALES AND MARKETING -- Residential."

          Provide  Operational,  Financing,  Marketing and Management Support to
          Partitions.  The Company will  continue to sell its  services  through
          partitions.  To do so, the Company will  continue to provide  existing
          and new  partitions  with low rates  and  operational,  marketing  and
          management support. The operational,  marketing and management support
          includes  financing,  training in customer service and use of the data
          base,  collection  services,  lists of  prospective  end  users  and a
          business  management  system  designed  and  developed  by the Company
          exclusively for its use and its partitions' use.

         The  Company's  basic  strategy  for  business  growth  is based on the
deployment of OBN. OBN is expected to lower the Company's costs, to maintain its
access to AT&T services and AT&T (now Lucent) equipment, to improve provisioning
of new  accounts,  and to  provide a  network  that can be  expanded  to add new
products and services.

         Provide Low Cost,  High  Quality  Alternative  to Other  Carriers.  The
         Company's deployment of OBN will reduce its costs and allow it to offer
         pricing to its partitions and end users  competitive with or below that
         typically  offered by major long distance carriers and their resellers.
         OBN's cost  structure  is  expected  

                                       4
<PAGE>


         to allow the  Company to expand its target  market  beyond the  current
         AT&T  resale  market to  include  the  balance of the  switchless  long
         distance market (i.e., the non-AT&T long distance resale market), which
         currently  represents the majority of the long distance  resale market.
         The  Company  also  intends to market to AT&T's  end users,  as well as
         other end users including residential and larger commercial accounts.

         Emphasize Quality and  Functionality of AT&T (now Lucent)  Manufactured
         Switches,  and AT&T-Provided  Transmission  Facilities and Billing. The
         Company  offers  products  and services on OBN similar to those that it
         offers as a switchless  reseller of AT&T  services.  OBN has been built
         using AT&T (now  Lucent)  manufactured  switches  in  conjunction  with
         leased AT&T transmission facilities.  The 5ESS-2000 switch is generally
         considered the most reliable switch in the telecommunications industry.
         In  addition  to  offering   services  using  AT&T  as  the  underlying
         facilities-based  carrier, the Company will continue to use the billing
         services of AT&T and ACUS.

         Improve  Provisioning  of End User Accounts.  OBN allows the Company to
         establish  service  directly  for or activate  end user  accounts.  The
         Company will  provide new end user  account data  directly to the local
         exchange carrier  ("LEC"),  which will then change the end user account
         to the  service  provided  by the  Company  or its  partition.  This is
         expected to increase  the  timeliness  and the  acceptance  rate of the
         establishment of service, or provisioning,  and will allow lists of end
         users to be maintained confidentially.

         Expandable   Network  With  Capability  to  Support  New  Products  and
         Services.  The AT&T (now Lucent) 5ESS-2000  switches can be expanded to
         increase  capacity  significantly  and can at the same time accommodate
         local,  long  distance,  private line and wireless  services.  OBN thus
         enables the Company to provide new products  and services  beyond those
         currently possible as a switchless reseller.

         The Company  also  intends to continue to explore  strategic  alliances
with other  channels of  distribution,  partitions and  nonfacilities-based  and
other providers of long distance services.

SALES AND MARKETING

         Partitions
         ----------
         To date,  the Company has primarily  marketed its services to small and
medium-sized business end users (i.e.,  generally businesses with fewer than 200
employees)  throughout the United States through  independent  long distance and
marketing  companies  known as  "partitions."  Partitions  resell and market the
Company's products,  

                                       5
<PAGE>
allowing the Company to minimize its marketing and end user overhead. Partitions
offer end users a variety of  services  and  rates.  As  compensation  for their
services,  partitions  generally  receive  the  difference  between  the  amount
received by the Company from end users and the amount  charged by the Company to
the partition for providing such services. One partition, The Furst Group, Inc.,
accounted for  approximately  11% of the Company's sales in 1996;  however,  the
Company does not expect that any  partition  will account for 10% or more of the
Company's sales in 1997.

         A  substantial  number  of  the  Company's   partitions  have  executed
partition  agreements  with the Company  pursuant to which the Company agrees to
provide  services  utilizing  the AT&T  network  service  and end  user  billing
services at agreed  upon prices or  discounts.  The  Company  requires  that the
partitions  adhere to certain  Company  established  guidelines in marketing the
Company's  services  and  comply  with  federal  and  state  regulations.  These
requirements  include certain  representations  by each  organization that it is
acting as an  independent  contractor  with regard to the sale of the  Company's
services,  and not as a joint venture partner, agent or employee of the Company,
along  with  provisions  for the  proper  completion  of forms and  other  sales
procedures.  In  addition,  most of the  payments  made by end  users  are  paid
directly  into a lock-box  controlled by the Company.  The  Company's  partition
agreements  typically  run for  three  years or for the  term of the  applicable
tariffs,  whichever is less.  The  partitions  generally  make no minimum use or
revenue  commitments to the Company under these  agreements  with respect to the
resale of AT&T services. The agreements also are generally non-exclusive. If the
Company  were to lose  access to services  on the AT&T  network or AT&T  billing
services or  experience  difficulties  with OBN, the Company's  agreements  with
partitions could be adversely affected.

         The  Company  believes  that  the  discounts  it will be able to  offer
partitions and end users using OBN,  together with the functionality and quality
of OBN operating in conjunction with AT&T-provided  transmission  facilities and
the accuracy of billing services  obtained from AT&T and ACUS, will enable it to
attract  current and future  partitions  to OBN. The Company  will  continue its
policy of advancing funds to most partitions to support their marketing efforts.
Historically,  partitions  of the Company have  continued  to do business  under
their partition agreements following changes in the Company's service offerings.

         The  Company  intends  to  continue  to  promote  increased   marketing
activities  of certain of its  partitions  through  advances  collateralized  by
assets of such partitions.  In return for providing such marketing advances, the
Company seeks long-term arrangements with such partitions.  In 1996, the Company
entered into long term arrangements with several existing and new partitions.

         Current marketing practices, including the methods and means to convert
a customer's long distance  telephone service from one carrier to another,  have
recently  been  subject to increased  regulatory  review at both the federal and
state levels.  This increased  regulatory  

                                       6
<PAGE>


review  could  affect  possible  future  acquisition  of new  business  from new
partitions or other resellers.  Provisions in the Company's partition agreements
mandate   compliance  by  the  partitions  with  applicable  state  and  federal
regulations.  Because the  Company's  partitions  are  independent  carriers and
marketing  companies,   the  Company  is  unable  to  control  such  partitions'
activities.  The Company is also unable to predict the extent of its partitions'
compliance  with  applicable   regulations  or  the  effect  of  such  increased
regulatory review.

         Direct Marketing
         ----------------

         The Company  began to actively  market its  telecommunication  services
directly to end users in 1996. Through its direct marketing efforts, the Company
expects to increase its profit  margins by taking  advantage  of the  difference
between the reduced  costs of providing  services over OBN and the rates charged
to end users.  The Company  began its direct  marketing in the first  quarter of
1996 with a telemarketing  operation based in Clearwater,  Florida.  In December
1996,  in connection  with the  settlement  of certain  disagreements  among the
Company, American Business Alliance, Inc. ("ABA"), a switchless reseller of long
distance  telecommunications  services and a partition of the Company, and ABA's
shareholders,  the Company acquired  substantially all of ABA's assets and hired
substantially all of ABA's employees. These actions significantly  increased the
Company's  capabilities for direct marketing of telecommunication  services. The
Company  expects that in 1997 a large  majority of the Company's new orders will
be generated  from direct  marketing.  The Company  currently  has 260 employees
involved in its direct  marketing  operations.  Direct  marketing  efforts  have
focused  initially  on inbound and outbound  services to small and  medium-sized
businesses and may expand to include residential customers.

         Operation of its own direct marketing will require the Company to incur
additional costs above levels historically experienced by the Company. There can
be no  assurance  that  any  cost  savings  will be  realized  utilizing  direct
marketing.  Direct  marketing  by the  Company  also may  adversely  affect  the
Company's  relationships  with  its  partitions  as  both  the  Company  and the
partitions  will be  competing  to  provide  similar  services.  The  Company is
required to comply with additional  regulatory standards for direct marketing of
telecommunications  services,  and is  subject  to  increased  risk of  customer
complaints or federal or state enforcement actions with respect to its marketing
and order  verification  practices.  Actions  have  been  brought  against  many
carriers based on allegations of "slamming" or the unauthorized  conversion of a
customer's chosen long distance carrier.


                                       7
<PAGE>



         Residential
         -----------
         On February 25, 1997, the Company  announced that it had entered into a
Telecommunications  Marketing  Agreement  (the  "AOL  Agreement"),  dated  as of
February 22, 1997 and effective as of February 25, 1997,  with AOL,  under which
the Company will be the exclusive  provider of long-distance  telecommunications
services under a distinctive brand name to be used exclusively for the Company's
services.  The services will include  provision for online sign-up,  call detail
and reports and credit card payment.  Under the AOL Agreement,  AOL will provide
millions of dollars of online  advertising  and  promotion  of the  services and
provide all of its  subscribers  with access to a dedicated  service area online
for the Company. AOL subscribers who sign-up for the telecommunications services
will be customers of the Company,  as the carrier  providing such services.  The
Company  also  has  certain  rights  under  the AOL  Agreement  to  offer,  on a
comparably exclusive basis, local and wireless  telecommunications services when
such services  become  available to the Company through a contract for resale or
otherwise.

         It is anticipated  that the services will be tested in the early summer
and offered  generally to AOL subscribers in the fall of 1997. The AOL Agreement
has an initial term of three years and can be extended by AOL on an annual basis
thereafter.

         Under the AOL  Agreement,  the Company made an initial  payment of $100
million to AOL at signing and agreed to provide marketing  payments to AOL based
on a percentage of the Company's profits from the services (between 50% and 70%,
depending  on the number of  subscribers  to the  services).  The AOL  Agreement
provides that $43 million of the initial  payment will be offset and recoverable
by the Company through reduction of such profit-based  marketing payments during
the initial term of the AOL Agreement or, subject to certain monthly  reductions
by  offset  of  the  amount  thereof,  directly  by  AOL  upon  certain  earlier
terminations  of the AOL  Agreement.  The $57  million  balance  of the  initial
payment  will  be  offset  and is  recoverable  through  a  percentage  of  such
profit-based  marketing  payments  made  after the first  five  years of the AOL
Agreement  (when  extended  beyond  the  initial  term) and by offset  against a
percentage of AOL's share of the profits from the services after  termination or
expiration of the AOL  Agreement.  Any portion of the $43 million not previously
recovered  or reduced in amount  would be added to the $57  million and would be
recoverable similarly.

         Also under the AOL Agreement,  the Company issued to AOL at signing two
warrants to purchase shares of the Company's  common stock at a premium over the
market  value of such stock on the issuance  date.  One warrant is for 5 million
shares, at an exercise price of $15.50 per share,  one-half of which shares will
vest at the time the  service is first made  generally  available  to AOL online
network   subscribers  in  accordance  with  the  AOL  Agreement  or  the  first

                                       8

<PAGE>
anniversary of the warrant  issuance,  whichever is earlier,  and the balance of
which will vest on the first  anniversary  of issuance if the AOL  Agreement has
not terminated.  The other warrant is for up to 7 million shares, at an exercise
price of $14.00 per share, which will vest,  commencing December 31, 1997, based
on the number of  subscribers  to the services and would vest fully if there are
at least 3.5 million such  subscribers  at any one time. The Company also agreed
to issue to AOL an additional warrant to purchase 1 million shares of its common
stock,  at  market  value at the time of  issuance,  upon  each of the first two
annual  extensions by AOL of the term of the AOL Agreement,  which warrants also
will vest based on the number of subscribers to the services.

         In connection with the AOL Agreement,  the Company and AOL will jointly
develop the online marketing and advertising for the services.  The Company will
provide online customer  service as well as inbound calling  customer service to
the AOL  subscriber  base in  connection  with the  services.  While the Company
expects to utilize its Clearwater,  Florida facility to provide customer service
support to AOL  subscribers,  the  Company  may need to  increase  staffing  and
purchase  equipment to support this activity.  The Company  anticipates  that it
will  incur   expenses  for  the  start-up  and   development  of  the  services
contemplated  in the AOL  Agreement  during  1997,  including  expenses  for the
expansion of the Clearwater operation, for software programming and for software
and hardware additions to the Company's network, OBN, to expand its capacity for
the traffic.  The Company  believes that the  increased  revenues to the Company
resulting from the AOL Agreement and the services  offered pursuant thereto will
be limited in 1997, but could be  significant in 1998,  although there can be no
assurance  that  these  results  can  be  achieved  in  light  of  a  number  of
uncertainties,  including the following: the Company's ability to timely develop
the online  ordering,  call detail,  billing and  customer  services for the AOL
subscribers,  which will require, among other things, being able to identify and
employ  sufficient  personnel  qualified to provide necessary  programming;  the
Company's and AOL's ability to work effectively  together to jointly develop the
online marketing contemplated by the AOL Agreement;  the response rate to online
promotions  of  AOL's  online  subscribers,  most of  whom  are  expected  to be
residential  rather than businesses,  which have historically been the Company's
customer  base;  the Company's  ability to expand OBN to  accommodate  increased
traffic levels;  and AOL's ability to  successfully  execute its publicly stated
business plan and implement its announced network changes  to improve subscriber
access to its online service.

SERVICES

         Partitions
         ----------
         The Company  offers  operational,  financing,  marketing and management
support to partitions, which provides the partitions with 

                                       9
<PAGE>


the ability to operate and manage their  businesses and attract and maintain end
users.  Such support  includes  financial  resources,  low long distance  rates,
collection  services,  prospective  customer lists and a management  information
system designed and developed by the Company  exclusively for use by the Company
and its partitions  ("Business  Management System" or "BMS"). The Company offers
start-up  financing as well as financing to its existing  partitions and expects
to increase  such  financing in the future.  The Company's  Business  Management
System  provides  a link  between  the  Company's  operations  center  and  each
partition, including information relating to billing, collections, provisioning,
network  usage  and other  end user  information.  The  Company  also  compiles,
evaluates and distributes prospective customer lists.

         Service on a long  distance  network is activated  by a process  called
provisioning.  On a daily basis, through the Business Management System provided
by the Company,  the Company's partitions transmit required end user information
to the  Company.  Orders for AT&T  network  services  resold by the Company as a
switchless  reseller are formatted by the Company in the manner required by AT&T
and transmitted to AT&T's information  management  system,  where AT&T processes
the  information  and sends status  updates on orders to the Company  which,  in
turn,  reports  such  status to the  partitions.  Orders  for OBN  services  are
processed and controlled by the Company. By controlling the provisioning process
with OBN, the Company believes it can increase acceptance rates of new end users
and reduce the time required to initiate service provided through the Company.

         The Company promotes increased  marketing  activities by certain of its
partitions and attracts new partitions through advances.  Such advances are made
in  installments  subject to the success of marketing  efforts by the applicable
partition.  As a condition to such advances,  the Company  generally  requires a
partition  to agree to utilize the  Company's  Business  Management  System,  to
accept the Company's billing services and lock-box  procedures pursuant to which
sales  generated  by a partition  are paid  directly to the  Company's  lock-box
account  and to grant the Company a security  interest in such sales.  In return
for providing such marketing advances,  the Company seeks long-term arrangements
with such  partitions.  The Company  believes that such  long-term  arrangements
benefit the Company and its partitions as such arrangements  foster increases in
the Company's end user base resulting in increases in minutes of traffic.

         End Users
         ---------
         The  Company  offers  customer  service  to end users  marketed  by its
telemarketing operations as well as to end users of certain partitions. Customer
service  representatives are located in the Company's  facilities in Clearwater,
Florida and New Hope and  

                                       10
<PAGE>


Kingston,  Pennsylvania. The Company plans to provide online customer service as
well as inbound calling customer service in connection with the services offered
to AOL subscribers.

INFORMATION AND BILLING SERVICES

         The Company  utilizes  the billing  services of AT&T and ACUS, a wholly
owned  strategic  business  unit of AT&T.  As a result,  the Company's end users
benefit from the reliability and accuracy associated with AT&T billing. Detailed
call  information on the usage of each end user is produced by AT&T (in the case
the of  switchless  resale  business)  and by the  Company  (in the  case of OBN
business).  In both cases,  AT&T then  processes  the  information  and provides
billing  information  to the  Company.  ACUS bills the end users  pursuant  to a
custom  billing format bearing the names of either the Company or the applicable
partition in the bill heading.


         AT&T has  removed  the  "AT&T"  name  from the  heading  of the  bills,
although  the text of the bills or bill inserts may still refer to the fact that
an AT&T unit provides billing  services.  AT&T could further obscure its role in
providing billing services altogether, which could have an adverse impact on the
Company.  The Company is developing its own information systems in order to have
its own billing  capacity,  although  the Company has not  provided  such direct
billing services to end users in the past.

         BMS is  provided  to each  partition.  BMS  resides at the  partitions'
locations and communicates with the Network Management System ("NMS") located at
the Company's  headquarters.  NMS allows direct  interface with the LECs and the
Company's  network  to perform  functions  historically  handled by AT&T.  These
computerized  management systems control order processing,  accounts receivable,
billing and status information in a streamlined  fashion between the Company and
its partitions.  Furthermore,  when applicable,  the systems  interface with the
AT&T  Provisioning  System and ACUS for order  processing and billing  services,
respectively.  Enhancements  and  additional  features  are  provided as needed.
Electronic  processing  and feature  activation  are  designed  to maintain  the
Company's goal of minimizing overhead.

         The Company has developed its own new  information  systems through the
use   of   client/server   technology.   The   Company   purchased   symmetrical
multi-processing ("SMP") hardware in conjunction with SQL Database software from
Informix  Corporation.  This system is now  operational  and has the capacity to
process the Company's  current  volume of  information  services and exceeds the
Company's  needs  for  the  foreseeable  future,  except  with  respect  to  the
information  and  billing  systems  that the  Company  will need to  develop  in
connection with the AOL Agreement,  including  online  sign-up,  call detail and
billing reports and credit card billing.


                                       11

<PAGE>


         The  information  functions  of the system are designed to provide easy
access to all information  about an end user,  including  volume and patterns of
use, which will help the Company and partitions  identify  value-added  services
that might be well  suited for that end user.  The Company  also  expects to use
such information to identify  emerging end user trends and respond with services
to meet end  users'  changing  needs.  Such  information  should  also allow the
Company and its partitions to identify unusual or declining use by an individual
end user, which  frequently  indicates that an end user is switching its service
to a competitor.

         In addition,  in connection  with the AOL  Agreement,  the Company will
need to develop systems for online sign-up,  call detail and billing reports and
credit card payments.  Any delay or difficulties in developing systems or hiring
personnel  could  adversely  affect  the  timing of the  implementation  of this
service  offering to AOL  subscribers  and, in turn, the success of this service
offering.

ONE BETTER NET

         In order to reduce  its  dependence  on AT&T  contract  tariffs  and to
increase   its   growth   opportunities,   the   Company   developed   its   own
telecommunications  network,  OBN, which utilizes AT&T (now Lucent) manufactured
switches  owned by the  Company  in  conjunction  with  AT&T-provided  lines and
digital   cross-connect   equipment   (herein   referred  to  as   "transmission
facilities") and AT&T-provided billing systems that the Company uses pursuant to
agreements  with AT&T and ACUS.  OBN includes  five AT&T (now Lucent)  5ESS-2000
switches,  which are  generally  considered  the most  reliable  switches in the
telecommunications  industry. The Company was one of the first installation site
for AT&T's 5ESS-2000  switching  equipment  featuring the new Digital Networking
Unit -- SONET  technology,  a  switching  interface  designed  to  increase  the
reliability  of  the  5ESS-2000  and  to  provide  much  greater  capacity  in a
significantly smaller footprint. The five switches -- in Jacksonville, New York,
Chicago,  Dallas and San  Francisco -- were  initially  deployed  with AT&T 5E10
software and were recently  upgraded to 5E11 software,  increasing the Company's
trunk capacity by approximately 33%.

         OBN allows the Company to offer long distance  services directly to its
end users and partitions  throughout the continental United States at rates that
are  competitive  with  or  below  those  offered  by the  major  long  distance
providers.  OBN also  allows the  Company to  control  provisioning  of end user
accounts.

         The  Company's  current  contract  tariffs  under which it resells AT&T
services require the Company to pay one  all-inclusive  "bundled" charge to AT&T
for the delivery of services,  including switching and transmission services and
the  payment of LEC  access  fees.  As a result of the  deployment  of OBN,  the
Company will pay "unbundled"  charges consisting of charges paid directly to the
LECs for access 

                                       12

<PAGE>
charges and,  under AT&T contract  tariffs,  charges paid to AT&T for use of its
network transmission facilities. The Company will pay AT&T "bundled" charges for
use of its  international  facilities to handle the  international  portion of a
call on OBN. The total cost per call to the Company for the LEC access fees, the
charges for use of AT&T's  transmission  facilities  and the  overhead  cost for
calls using OBN is expected to be less than the "bundled"  charge currently paid
under AT&T contract tariffs.  LEC access fees represent a substantial portion of
the  total  cost  of  providing  long  distance  services.  As a  result  of the
Telecommunications  Act, it is  generally  expected  that the entry over time of
competitors  into LEC markets will result in lowering of access fees,  but there
is no assurance that this will occur. To the extent it does occur,  the Company,
by using OBN,  will  receive the benefit of any future  reduction  in LEC access
fees, which it would not automatically receive under contract tariffs.

         In October 1996, the Company  subscribed to a new AT&T contract tariff,
which  permits the Company to  continue  to resell  through  mid- 1998 AT&T long
distance services, including AT&T SDN service and other services, at rates which
are more favorable to the Company than prior tariffs.  As a result,  the Company
decided only to provision  new end users on OBN and to leave  existing end users
on AT&T  service.  The new AT&T  contract has enabled the Company to earn higher
margins on existing traffic,  minimize possible attrition that might result from
moving  existing  end users from the AT&T network to OBN.  This has  permitted a
more gradual introduction of OBN, which has reduced the expense of providing the
capacity required in a more rapid phase-in of OBN and lessened the impact of any
technical difficulties during the phase-in of OBN.

         In 1997,  the Company  will  continue  to offer  private  line  service
through  contract  tariffs  with AT&T.  Although  the Company  will  continue to
provide such private line service  through AT&T,  the Company also will begin to
offer private line service using OBN to new and existing customers.

         In order for the Company to provide  service  over OBN, the Company has
installed and  operates,  and is  responsible  for the  maintenance  of, its own
switching  equipment.  The Company also has  installed  lines to connect its OBN
switches to LEC switches and is responsible  for  maintaining  these lines.  The
Company  entered  into a  contract  with GTE  with  respect  to the  monitoring,
servicing and maintenance of the switching  equipment purchased from AT&T. There
can be no  assurance  that the Company  will be  successful  in  operating  as a
switch-based  carrier.  Additional  management personnel and information systems
are  required to support OBN, the costs of which have  increased  the  Company's
overhead. Moreover, operation as a switch-based provider subjects the Company to
risk of  significant  interruption  in the  provision  of services on OBN in the
event of

                                       13
<PAGE>
damage to the Company's  facilities  (switching equipment or connections to AT&T
transmission  facilities)  such as could be caused by fire or natural  disaster.
Such  interruption  could  have a  material  adverse  impact  on  the  Company's
financial condition and results of operations.

         The  Company  began  testing new  customer  calls over OBN in the third
quarter of 1996. In the fourth quarter of 1996,  the Company began  provisioning
on a test basis new customer orders on OBN. To date, the Company has provisioned
approximately  50,000 end users to OBN.  Currently  the Company is continuing to
provision  new customers on OBN while  completing  the final testing of OBN. The
Company  expects final testing of OBN to be completed in April 1997, and at that
time there will be a general release of OBN. Thereafter,  the Company expects to
provision a large majority of its new customer orders on OBN.

         The  5ESS-2000  switches make it possible for the Company in the future
to offer a number of additional or enhanced services. For example, the Company's
5ESS-2000 switches could support the offering of Centrex features,  such as call
waiting,  conference calling,  distinctive ringing and least cost routing,  that
traditionally  were  available  only to end users  with their own  equipment  or
through  purchase  from the end  users'  local  exchange  carrier  ("LEC").  The
5ESS-2000  switches could support Advanced  Intelligent  Network ("AIN"),  which
provides  an  open  network   architecture   allowing  for  interconnections  of
inexpensive  peripheral  equipment  and  databases  and the  deployment  of such
services  as  calling  cards,   debit  cards,   voice   recognition  and  caller
identification,  without the involvement of switch manufacturers.  The 5ESS-2000
switches  could  help the  Company  to  provide  competitive  telecommunications
services  to  tenants  of  multi-tenant  office and  residential  buildings  and
complexes. The 5ESS-2000 switch also has the capacity to direct local service as
well as long distance service.

AT&T CONTRACT TARIFFS

         The  Company  historically  has  obtained  services  from AT&T  through
contract  tariffs and has been able to obtain the services it seeks and to do so
at increasingly favorable contract tariff rates. The deployment of OBN decreases
the Company's  dependence on AT&T  contract  tariffs.  To the extent the Company
will need future  contract  tariffs,  there is no guarantee  the Company will be
able to  obtain  favorable  contract  tariffs,  although  the  Company  has been
successful in the past in obtaining such contract tariffs.

         On October 1996, the Company  subscribed to a new AT&T contract tariff,
which was further  revised in December  1996 and permits the Company to continue
to resell AT&T long  distance  services,  including  AT&T-SDN  service,  through
mid-1998.  The new AT&T contract  tariff also includes other AT&T services (such
as international long

                                       14
<PAGE>
distance,  inbound and outbound services) that will be used in the Company's new
nationwide  telecommunications network, OBN. The rates that the Company will pay
under the new AT&T contract  tariff are more favorable to the Company than under
previous tariffs.  During its term, the new AT&T contract tariff will enable the
Company to minimize possible attrition that might result from moving exiting end
users from the AT&T network to OBN. The new AT&T contract  tariff also permits a
more gradual  introduction  of OBN, which should reduce the expense of providing
the capacity  required in a more rapid  phase-in of OBN and lessen the impact of
any  technical  difficulties  during  the  phase-in  of OBN.  The  more  gradual
introduction  of OBN,  however,  will postpone the Company's  realization of the
anticipated  benefit of the more favorable margins for OBN service,  and the new
AT&T contract  tariff requires the Company to commit to purchase $300 million of
service from AT&T over the next 4 years, including at least $1 million per month
of international service. If minimum usage requirements are not met, the Company
is  obligated  to pay  shortfall  fees  to AT&T  based  on a  percentage  of the
difference  between the minimum  requirement  and the actual  billed  usage.  In
addition,  if the contract  tariffs with AT&T are terminated prior to the end of
the contract tariff term, either by the Company or by AT&T for non-payment,  the
Company may be liable for "termination with liability" or "termination  charges"
and subject to material monetary  penalties.  This commitment is larger than any
previous  commitment that the Company has made, but the Company believes that it
can be met based on its current  purchases  of long  distance  service from AT&T
which are in execess of $10 million per month. Further the Company can terminate
the new contract tariff without liability to AT&T at the end of 18 months if the
Company has generated at least $120 million in usage charges, including at least
$15 million in international usage charges. The Company also may discontinue the
new contract tariff without liability prior to the 18th month if the Company and
AT&T  enter  into a new  contract  tariff  or  another  contract  with a revenue
commitment  of at least  $7.5  million  per  month  and a term of at  least  the
difference  between  18  months  and the  number  of  months  that  the  Company
subscribed  to the contract  tariff,  provided that the Company must purchase or
pay for AT&T  services  under the  contract  tariff of at least $6.7 million per
month for the months prior to such  termination,  including $1 million per month
of international usage.

COMPETITION

         The long distance telecommunications industry is highly competitive and
affected by the  introduction of new services by, and the market  activities of,
major industry participants.  Competition in the long distance business is based
upon pricing,  customer  service,  billing services and perceived  quality.  The
Company competes  against various  national and regional long distance  carriers
composed of both  facilities-based  providers and switchless  resellers offering
essentially the same services as the Company.

                                       15
<PAGE>
Several of the Company's  competitors are substantially  larger and have greater
financial,  technical and marketing resources.  Although the Company believes it
has the  human and  technical  resources  to pursue  its  strategy  and  compete
effectively in this  competitive  environment,  its success will depend upon its
continued  ability to provide  profitably  high quality,  high value services at
prices  generally  competitive  with,  or  lower  than,  those  charged  by  its
competitors.

         End users are not  obligated to purchase  any minimum  usage amount and
can discontinue service, without penalty, at any time. There can be no assurance
that end users  will  continue  to buy their  long  distance  telephone  service
through  the  Company or  through  partitions  that  purchase  service  from the
Company.  In the event that a  significant  portion of the  Company's  end users
decides to purchase  long distance  service from another long  distance  service
provider, there can be no assurance that the Company will be able to replace its
end user base from other sources.

         A high level of  attrition is inherent in the long  distance  industry,
and the  Company's  revenues  are  affected  by  such  attrition.  Attrition  is
attributable to a variety of factors,  including termination of customers by the
Company for  non-payment  and the initiatives of existing and new competitors as
they  engage  in,   among  other   things,   national   advertising   campaigns,
telemarketing programs and cash payments and other incentives.

           Although the basic rates of the three largest long distance  carriers
-- AT&T, MCI  Communications  Corp. and Sprint  Corporation -- have consistently
increased over the past three years and remained generally unchanged through the
third quarter of 1996,  AT&T and other  carriers have  announced new price plans
aimed at residential  customers (the Company's  primary target audience under he
AOL Contract) with significantly simplified rate structures,  which may have the
impact of lowering overall long distance prices.  There can be no assurance that
AT&T or other carriers will not make similar offerings available to the small to
medium-sized  businesses that the Company serves. Although OBN makes the Company
more price  competitive,  a reduction in long  distance  prices still may have a
material adverse impact on the Company's profitability.

          AT&T has split itself into three separate and  independently-owned and
operated  companies ("AT&T breakup").  One company,  which retains the AT&T name
provides,   among   other   services,   long   distance,   wireless   and  other
telecommunications   services.   Another,   Lucent,   manufactures   and   sells
communications  equipment. A third, NCR, includes AT&T's computer operations and
will focus on the  financial,  retail and  communications  industries.  AT&T has
stated that the breakup will allow it to compete more effectively with providers
of telecommunications services.

                                       16
<PAGE>
         The  Company  will  link  its  switching  equipment  with  transmission
facilities  and  services  purchased  or leased  from AT&T and will  continue to
resell  services  obtained  from AT&T,  which will  remain a  competitor  of the
Company for the  provision  of  telecommunications  services.  The Company  also
utilizes AT&T and ACUS to provide  billing  services.  There can be no assurance
that either AT&T or ACUS will continue to offer billing  services to the Company
at competitive rates or attractive terms.

         In  October,   1995,  the  FCC  reclassified   AT&T  as  a  nondominant
interexchange carrier. The FCC stated that AT&T would have greater incentives to
cut its prices and offer innovative new services.  Nondominant  carriers are not
subject to price cap  regulation  and could file  tariffs  (and tariff  changes)
under  streamlined  procedures that will be presumed lawful on one day's notice.
The Company will  therefore no longer be able to file  Petitions to Reject or to
Suspend  and  Investigate  AT&T  tariff  proposals  with  the FCC  before  those
offerings  take  effect.  The FCC's  reclassification  of AT&T as a  nondominant
carrier eliminated certain pricing restrictions and regulatory oversight and may
allow AT&T to compete more aggressively with the Company.

         As a nondominant carrier,  AT&T will be subject to the same regulations
as other long distance  service  providers.  AT&T remains subject to Title II of
the Communications Act (47 U.S.C. Section 151, et seq.) and is required to offer
service under rates,  terms and  conditions  that are just,  reasonable  and not
unreasonably discriminatory. AT&T is also subject to the FCC's complaint process
and was  required to file  tariffs,  though  under  streamlined  procedures.  In
addition,  AT&T  is also  required  to give  notice  to the FCC and to  affected
customers prior to discontinuing, reducing, or impairing any services.

         In seeking FCC approval of its motion, AT&T made a series of "voluntary
commitments" to the FCC as a transitional  mechanism to govern its conduct. With
respect to business term plans and long-term contracts with customers, including
resellers,  AT&T agreed for a 12 month period to provide  advance  notice to the
customer of proposed  changes  that might  affect a  customer's  reliance on its
contract with AT&T and to file any such changes with advance notice and time for
action by the FCC.  AT&T also stated that it was willing to enter into  mutually
agreeable private party arbitration  agreements with its reseller  customers and
was   willing  to  develop  a  model   agreement   in   negotiations   with  the
Telecommunications  Resellers  Association Executive Board. The FCC accepted all
of the "voluntary  commitments"  offered by AT&T and ordered  AT&T's  compliance
with those commitments.

         The  Telecommunications  Act of 1996 was  intended  to  introduce  more
competition to U.S.  telecommunications markets. The legislation opens the local
services  market by requiring LECs to permit  interconnection  to their networks
and  establishing,  among other 

                                       17
<PAGE>

things,  LEC obligations  with respect to access,  resale,  number  portability,
dialing  parity,   access  to  rights-of-way,   and  mutual  compensation.   The
legislation   also  codifies  the  LECs'  equal  access  and   nondiscrimination
obligations and preempts most  inconsistent  state  regulation.  The legislation
also  contains  special  provisions  that  eliminate  restrictions  on the RBOCs
providing  long  distance  services,  which  means  that the  Company  will face
competition  for  providing  long  distance   services  from   well-capitalized,
well-known  companies that prior to this time could not compete in long distance
service.

         The RBOCs have been prohibited from providing  interLATA  interexchange
telecommunications   services   under  the  terms  of  the  AT&T   decree.   The
Telecommunications  Act  authorizes  the  RBOCs  to  provide  certain  interLATA
interexchange  telecommunications  services  immediately  and  others  upon  the
satisfaction of certain conditions. Such legislation includes certain safeguards
against  anticompetitive  conduct  by the RBOCs in the  provision  of  interLATA
service. Anticompetitive conduct could result, among other things, from a RBOC's
access to all  subscribers  on its existing  network as well as its  potentially
lower costs  related to the  termination  and  origination  of calls  within its
territory.  It is impossible to predict whether such safeguards will be adequate
to protect against  anticompetitive conduct by the RBOCs and the impact that any
anticompetitive  conduct  would have on the  Company's  business and  prospects.
Because of the name  recognition  that the RBOCs have in their existing  markets
and the  established  relationships  that they have with  their  existing  local
service customers,  and their ability to take advantage of those  relationships,
as   well   as   the   possibility   of   favorable   interpretations   of   the
Telecommunications  Act  by  the  RBOCs,  it may be  more  difficult  for  other
providers of long distance services,  such as the Company, to compete to provide
long distance  services to RBOC customers.  At the same time, as a result of the
Telecommunications  Act, RBOCs have become potential customers for the Company's
long distance services.

         Consolidation  and alliances  across  geographic  regions  (e.g.,  Bell
Atlantic/Nynex  and SBC Communications  Inc./Pacific  Telesis Group domestically
and BT/MCI  and  France  Telecom/Deutsche  Telekom/Sprint  internationally)  and
across  industry   segments  (e.g.,   WorldCom/MFS/UUNet)   may  also  intensify
competition  in  the   telecommunications   market  from  significantly  larger,
well-capitalized  carriers and materially  adversely  affect the position of the
Company.

INDUSTRY BACKGROUND

         The $72.5  billion  U.S.  long  distance  industry is  dominated by the
nation's  three largest long distance  providers,  AT&T,  MCI and Sprint,  which
together  generated  approximately  80.9% of the aggregate  revenues of all U.S.
long distance  interexchange  carriers in 1995.  Other long distance  companies,
some with  national  capabilities,  accounted  for the  remainder of the market.
Based on published

                                       18
<PAGE>
Federal  Communications  Commission ("FCC") estimates,  toll service revenues of
U.S. long distance  interexchange carriers have grown from $38.8 billion in 1984
to $72.5  billion  in 1995.  The  aggregate  market  share of all  interexchange
carriers  other than AT&T,  MCI and Sprint has grown from 2.6% in 1984 to 17.13%
in 1995. During the same period, the market share of AT&T declined from 90.1% to
53%.

         Prior   to   the    Telecommunications    Act,   the   long    distance
telecommunications  industry  had  been  principally  shaped  by a court  decree
between  AT&T  and  the  United  States  Department  of  Justice,  known  as the
Modification of Final Judgment (the "Consent  Decree") that in 1984 required the
divestiture by AT&T of its 22 Bell  operating  companies and divided the country
into some 200 Local  Access and  Transport  Areas  ("LATAs").  The 22  operating
companies,  which were combined into the RBOCs,  were given the right to provide
local  telephone  service,  local access  service to long distance  carriers and
intraLATA  toll  service  (service  within  LATAs),  but  were  prohibited  from
providing  interLATA  service  (service  between  LATAs).  The right to  provide
interLATA service was maintained by AT&T and other carriers.

         To  encourage  the  development  of  competition  in the long  distance
market, the Consent Decree and the FCC require most LECs to provide all carriers
with  access to local  exchange  services  that is "equal in type,  quality  and
price" to that  provided  to AT&T and with the  opportunity  to be  selected  by
customers as their  preferred  long distance  carrier.  These  so-called  "equal
access" and related provisions are intended to prevent preferential treatment of
AT&T.

         Regulatory,  judicial and  technological  factors have helped to create
the foundation for smaller  companies to emerge as competitive  alternatives  to
AT&T,  MCI, and Sprint for long  distance  telecommunication  services.  The FCC
requires  that AT&T not  restrict  the resale of its  services,  and the Consent
Decree and regulatory  proceedings  have ensured that access to LEC networks is,
in most cases, available to all long distance carriers.

         Long distance companies that have their own transmission facilities and
switches,   such  as  AT&T,  are  referred  to  as  facilities-based   carriers.
Facilities-based  carriers are switch-based carriers,  meaning that they have at
least one switch to direct  their  long  distance  traffic.  Nonfacilities-based
carriers  either (i) depend upon  facilities-based  carriers for  switching  and
transmission  facilities  ("switchless  resellers")  or (ii) install and operate
their own switches  but depend on  facilities-based  carriers  for  transmission
facilities ("switch-based resellers").

         The relationship between resellers and the major long distance carriers
is  predicated  primarily  upon the fact that the  pricing  strategies  and cost
structures of the major long distance  carriers  have resulted  historically  in
their charging higher rates to the

                                       19
<PAGE>

small to medium business customer.  Small to medium business customers typically
are not able to make the volume commitments necessary to negotiate reduced rates
under individualized  contracts.  By committing to large volumes of traffic, the
reseller  is  guaranteeing  traffic to the major long  distance  carrier but the
major  long  distance  carrier  is  relieved  of the  administrative  burden  of
qualifying  and  servicing  large  numbers  of  medium  to small  accounts.  The
successful  reseller has lower overhead costs and is able to market  efficiently
the long distance  product,  process orders,  verify credit and provide customer
service to large numbers of accounts.

         With its own switches, the Company will be significantly less dependent
on AT&T for  switching  services,  although it will  continue to be dependent on
AT&T for transmission  services.  In recent years, national and regional network
providers have substantially upgraded the quality and capacity of their domestic
long distance networks,  resulting in significant excess  transmission  capacity
for voice and data communications. Due to anticipated advances in the technology
involved in digital fiber optic  transmission,  excess  capacity is  expected to
persist and  may result in decreasing prices for use of transmission facilities.
By deploying  its own  switches,  the Company  expects to be able to continue to
provide long distance services using the quality of AT&T transmission facilities
but at lower rates than it has historically charged, with the Company in control
of establishing service or activating new end user accounts ("provisioning") and
maintaining confidential end user lists

REGULATION

         The  Company's  provision  of  communications  services  is  subject to
government  regulation.  Federal  law  regulates  interstate  and  international
telecommunications,  while states have jurisdiction over telecommunications that
originate and terminate within the same state.  Changes in existing  policies or
regulations  in any state or by the FCC could  materially  adversely  affect the
Company's  financial  condition or results of operations,  particularly if those
policies make it more  difficult for the Company to obtain  service from AT&T or
other long distance  companies at competitive  rates, or otherwise  increase the
cost and regulatory burdens of marketing and providing service.  There can be no
assurance that the regulatory  authorities in one or more states or the FCC will
not take action having an adverse effect on the business or financial  condition
or results of  operations  of the Company.  Regulatory  action by the FCC or the
states also could  adversely  affect the partitions,  or otherwise  increase the
partitions' cost and regulatory burdens of marketing and providing long distance
services.

         The Company is classified by the FCC as a  nondominant  carrier.  After
the recent reclassification of AT&T as nondominant, only the LECs are classified
as  dominant  carriers  among  domestic  carriers.  As a  consequence,  the  FCC
regulates many of the rates, charges, and

                                       20
<PAGE>

services of the LECs to a greater degree than the Company's.  Because AT&T is no
longer  classified as a dominant  carrier,  certain  pricing  restrictions  that
formerly  applied to AT&T have been  eliminated,  which could make it easier for
AT&T to compete with the Company for low volume long distance subscribers.

         The FCC generally does not exercise  direct  oversight over charges for
service of nondominant  carriers,  although it has the statutory power to do so.
Nondominant  carriers are required by statute to offer interstate services under
rates,  terms,  and conditions  that are just,  reasonable and not  unreasonably
discriminatory.  The FCC has the  jurisdiction to act upon  complaints  filed by
third parties,  or brought on the FCC's own motion,  against any common carrier,
including  nondominant  carriers,  for  failure  to  comply  with its  statutory
obligations. Nondominant carriers have been required to file tariffs listing the
rates, terms and conditions of service, which were filed pursuant to streamlined
tariffing  procedures.  The FCC also has the authority to impose more  stringent
regulatory requirements on the Company and change its regulatory  classification
from nondominant to dominant. In the current regulatory atmosphere,  the Company
believes, however, that the FCC is unlikely to do so.

         The FCC imposes only minimal  reporting,  accounting and record-keeping
obligations.  International  nondominant  carriers,  including the Company, must
maintain international tariffs on file with the FCC. The FCC has issued an order
requiring  non-dominant  carriers to withdraw their domestic tariffs,  but as of
the date hereof, a court has stayed the FCC's order.  The Company  currently has
two tariffs on file with the FCC. Although the tariffs of nondominant  carriers,
and the rates and charges  they  specify,  are  subject to FCC review,  they are
presumed to be lawful and are seldom contested. The Company is permitted to make
tariff  filings on a single  day's  notice and without  cost  support to justify
specific rates. IXCs are also subject to a variety of miscellaneous  regulations
that, for instance,  govern the  documentation  and  verifications  necessary to
change a subscriber's  long distance  carrier,  limit the use of 800 numbers for
pay-per-call  services,  require  disclosure of certain  information if operator
assisted services are provided and govern interlocking directors and management.
The  Telecommunications  Act grants  explicit  authority to the FCC to "forbear"
from  regulating  any  telecommunications  services  provider  in  response to a
petition and if the agency  determines  that  enforcement is unnecessary and the
public interest will be served.

         At present,  the FCC  exercises its  regulatory  authority to set rates
primarily  with  respect  to  the  rates  of  dominant  carriers,   and  it  has
increasingly  relaxed its control in this area. Even when AT&T was classified as
a dominant carrier,  the FCC most recently employed a "price cap" system,  which
essentially  exempted most of AT&T's  services,  including  virtually all of its
commercial and 800 services,  from traditional rate of return regulation because
the FCC believes

                                       21
<PAGE>

that these services were subject to adequate competition.  Similarly, the FCC is
in the process of changing  the  regulation  and pricing of the local  transport
component  of  access  charges  (i.e.,  the fee for use of the LEC  transmission
facilities connecting the LEC's central offices and the IXC's access points). In
addition, the LECs have been afforded a degree of pricing flexibility in setting
interstate access charges where adequate  competition exists. The impact of such
repricing  and  pricing  flexibility  on IXCs,  such as the  Company,  cannot be
determined at this time.

         The Company is subject to varying levels of regulation in the states in
which  it is  currently  authorized  to  provide  intrastate  telecommunications
services.  The vast  majority  of the states  require  the  Company to apply for
certification to provide intrastate  telecommunications services, or at least to
register or to be found exempt from  regulation,  before  commencing  intrastate
service.  The vast  majority  of states  also  require  the  Company to file and
maintain detailed tariffs listing its rates for intrastate service.  Many states
also impose  various  reporting  requirements  and/or require prior approval for
transfers  of  control  of  certified   carriers,   corporate   reorganizations,
acquisitions of  telecommunications  operations,  assignments of carrier assets,
including  subscriber bases,  carrier stock offerings and incurrence by carriers
of  significant  debt  obligations.  Certificates  of authority can generally be
conditioned,  modified,  canceled,  terminated  or revoked  by state  regulatory
authorities for failure to comply with state law and the rules,  regulations and
policies  of the  state  regulatory  authorities.  Fines  and  other  penalties,
including  the  return  of all  monies  received  for  intrastate  traffic  from
residents of a state,  may be imposed for such  violations.  In certain  states,
prior regulatory approval may be required for acquisitions of telecommunications
operations.  Currently,  the  Company is  certificated  and  tariffed to provide
intrastate   interLATA   service  in   substantially   all  states   where  such
authorization can be obtained.

         The  Company's  expansion of its direct  marketing  efforts,  makes the
Company  subject to and  requires  compliance  with  relevant  federal and state
regulations that govern direct sales of telecommunications  services.  FCC rules
prohibit  switching a customer from one long distance carrier to another without
the customer's consent and specify how that consent can be obtained. Most states
have consumer protection laws that further define the framework within which the
Company's marketing activities must be conducted. The constraints of federal and
state  restrictions  could impact the success of the Company's  direct marketing
efforts.

         To the extent  that the  Company  makes  additional  telecommunications
service offerings, the Company may encounter additional regulatory constraints.

                                       22
<PAGE>
EMPLOYEES

         As of December 31, 1996, the Company employed 313 persons,  of whom 260
were engaged in marketing  and sales,  26 were engaged in partition and end user
support, and 27 were engaged in systems development, finance, administration and
management.  None of the Company's employees is covered by collective bargaining
agreements. The Company considers relations with its employees to be good.

PRINCIPAL STOCKHOLDER

         Daniel Borislow,  the Company's  Chairman and Chief Executive  Officer,
owns beneficially approximately 38.4% of the Company's outstanding Common Stock,
as of the date hereof. Accordingly,  Mr. Borislow effectively has the ability to
control the election of all of the members of the  Company's  Board of Directors
and the outcome of corporate actions requiring majority stockholder approval.
 Even as to corporate actions for which super-majority approval may be required,
such as certain fundamental  corporate  transactions,  Mr. Borislow  effectively
will control the outcome.

         Future sales of  substantial  amounts of the Company's  Common Stock by
Mr.  Borislow or others  could  adversely  affect the market price of the Common
Stock. Of the Company's 62,887,998 shares of Common Stock, 35,737,998 shares are
freely  tradeable by persons  other than  "affiliates"  of the  Company.  Of the
remaining 27,150,000 shares of Common Stock, none are eligible for public resale
until after the expiration of the holding period  pursuant to Rule 144 under the
Securities Act.

         On March 10, 1997, Mr.  Borislow sold 3,911,000  shares of Common Stock
in a private  sale (the  "Private  Sale"),  and placed an  additional  1,546,400
shares in escrow to be held for the  benefit of the  purchasers  in the  Private
Sale and for  distribution  thereto (in part or in full), if the average current
market price of the Common Stock in the 20 days prior to the fifth  business day
after the date on which the  Company  announces  its  financial  results for the
third quarter of 1997 shall be lower than $16.50 per share.  In connection  with
the Private Sale. Mr. Borislow  agreed that,  except for a contribution of up to
2,000,000 shares of Common Stock to a charitable  foundation,  he will not sell,
assign, transfer or otherwise dispose of any shares of Common Stock for a period
of 12 months from March 10, 1997 (the "Lock-up Period"); provided, however, that
if the current  market  price of the Common  Stock  shall  increase by an amount
greater  than 20% from $16.50 per share for a period of 20  consecutive  trading
days,  the Lock-up  Period shall be reduced to 90 days.  Also on March 10, 1997,
Mr.  Borislow  donated  1,200,000  shares of Common Stock to the Daniel Borislow
Charitable Foundation.

                                       23
<PAGE>
GLOSSARY


         ACUS:  AT&T College and University  Systems,  a wholly owned  strategic
         business unit of AT&T.

         AIN: Advanced Intelligent Network.

         AOL: America Online, Inc.

         AT&T: AT&T Corp.

         BMS:  The  Company's  database,  which  it  provides  to  each  of  its
         partitions.

         Consent Decree:  A 1984 U.S.  Department of Justice decree that,  among
         other  things,  ordered  AT&T to divest  its  wholly-owned  local  Bell
         operating subsidiaries.

         End Users: Customers that utilize long distance telephone services.

         Equal Access:  Connection provided by a LEC permitting a customer to be
         automatically  connected to the IXC of the  customer's  choice when the
         customer dials "1."

         Facilities-based  provider:  Long  distance  service  providers who own
         transmission facilities.

         5ESS-2000:  The switching  equipment  manufactured  by AT&T,  which the
         Company acquired from AT&T.

         5E10  Software:   AT&T  software  that  enables   switches  to  combine
         simultaneously  wireline and wireless,  local,  long  distance,  voice,
         video and data services.

         FCC: Federal Communications Commission.

         Inbound "800"  Service:  A service that bills long  distance  telephone
         charges to the called party.

         IXC:  Interexchange carrier, a long distance carrier providing services
         between local exchanges.

         LATA:  Local  Access  and  Transport  Areas,  the   approximately   200
         geographic  areas defined  pursuant to the AT&T Consent  Decree between
         which the RBOCs are generally  prohibited  from providing long distance
         service.

         LEC:  Local  Exchange  Carrier,  a company  providing  local  telephone
         services.

                                       24
<PAGE>


         MEGACOM:  An  outbound  long  distance  service  offering  by AT&T that
         requires dedicated access.

         MEGACOM  800:  An inbound 800  service  offering  provided by AT&T that
         requires dedicated access.

         MCI: MCI Communications Corporation.

         MLCP:  AT&T's  multi-location  calling plan (a discounted long distance
         program).

         Network:  An  integrated  system  composed of switching  equipment  and
         transmission   facilities   designed  to  provide  for  the  direction,
         transport and recording of telecommunications traffic.

         NMS: The Company's computerized internal management information system.

         Nonfacilities-based  provider:  Long distance service providers that do
         not own transmission facilities.

         OBN: One Better Net, the Company's nationwide long distance network.

         Partition:  An  independent  long distance and  marketing  company that
         contracts  with the  Company to purchase  or  otherwise  provide to end
         users the long distance services provided by the Company.

         Private Line: A full-time leased line directly connecting two points.

         Provisioning:  The process of initiating a carrier's  service to an end
         user.

         PUC: A state  regulatory  body empowered to establish and enforce rules
         and regulations  governing public utility companies and others, such as
         the Company in many of its state jurisdictions.

         RBOC:  Regional Bell  Operating  Company -- Any of seven  regional Bell
         holding  companies  that the  Consent  Decree  established  to serve as
         parent companies for the Bell operating companies.

         Readyline:  An Inbound 800 service offering provided by AT&T.

         SDN: The AT&T Software Defined Network.

         Sprint:  Sprint Corporation.

                                       25
<PAGE>
         Switching Equipment: A computer that directs  telecommunication traffic
         in accordance with programmed instructions.

         Tariff:  The schedule of rates and  regulations  set by  communications
         common  carriers  and  filed  with the  appropriate  Federal  and state
         regulatory agencies;  the published official list of charges, terms and
         conditions governing provision of a specific  communication  service or
         facility,  which  functions in lieu of a contract  between the user and
         the supplier or carrier.

                                       26
<PAGE>
ITEM 2. PROPERTIES

         The  Company  owns  the  24,000  square  foot  facility  in  New  Hope,
Pennsylvania  which serves as the  Company's  headquarters.  The Company  leases
properties in the cities in which OBN switches have been installed.

         With respect to the  Company's  retail  telemarketing  operations,  the
Company owns the 32,000 square foot facility located  in Clearwater, Florida and
leases the 11,725 square foot facility in Kingston, Pennsylvania.

ITEM 3. LEGAL PROCEEDINGS

         The Company is a party to certain legal actions arising in the ordinary
course of business.  The Company  believes  that the  ultimate  outcome of these
actions  will not result in any  liability  that  would have a material  adverse
effect on the Company's financial condition or results of operations.

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

         No matters  were  submitted  to a vote of security  holders  during the
fourth quarter of the year ended December 31, 1996.

                                       27
<PAGE>
                        EXECUTIVE OFFICERS OF THE COMPANY

         The executive officers of the Company are as follows:

         NAME                AGE                             POSITION
         ----                ---                             --------

Daniel Borislow              35          Chairman of the Board, Chief Executive
                                          Officer and Director

Gary W. McCulla              37          President and  Director of  Sales  and
                                          Marketing and Director

Emanuel J. DeMaio            38          Chief Operations Officer and  Director

Joseph A. Schenk             38          Chief Financial Officer, Treasurer and 
                                          Director   of   Investor    Relations 
                                          and Director

Edward B. Meyercord, III     31          Executive  Vice  President,  Marketing
                                          and Corporate Development

Mary Kennon                  38          Director  of  Customer Care  and Human
                                          Resources

Aloysius T. Lawn, IV         38          General Counsel and Secretary

Kevin R. Kelly               32          Controller

         Daniel  Borislow.  Mr. Borislow founded the Company and has served as a
director and as Chief  Executive  Officer of the Company  since its inception in
1989.  Prior to founding the Company,  Mr.  Borislow  formed and managed a cable
construction company.

         Gary W. McCulla. Mr. McCulla currently serves as President and Director
of Sales and Marketing.  In 1991, Mr. McCulla founded GNC and was its President.
Until March 1994, GNC was a privately-held independent marketing company and one
of the Company's  partitions.  At that time, the Company acquired certain assets
of GNC.  

         Emanuel J. DeMaio.  Mr.  DeMaio joined the Company in February 1992 and
currently serves as Chief Operations Officer. Prior to joining the Company, from
1981 through 1992, Mr. DeMaio held various  technical and  managerial  positions
with AT&T.

         Joseph A.  Schenk.  Mr.  Schenk  joined the Company in January 1996 and
currently  serves as Chief  Financial  Officer and Treasurer.  He is a certified
public  accountant.  From  September  1993 to January 1996,  Mr. Schenk was Vice
President,  Capital Markets Group, with Jefferies & Co.  Previously,  Mr. Schenk
was Vice  President of Transcap  Associates,  a venture  capital firm,  and held
various roles with Price Waterhouse and Deloitte & Touche.

         Edward B. Meyercord, III. Mr. Meyercord joined the Company in September
1996 and currently  serves as Executive Vice President,  Marketing and Corporate
Development.  From 1993 until joining the Company,  Mr.  Meyercord worked in the
corporate  finance  department  of  Salomon  Brothers,  where  he  held  various
positions, the most recent of which was Vice President. Prior to joining Salomon
Brothers,  Mr.  Meyercord  worked in the corporate  finance  department at Paine
Webber Incorporated.

         Mary  Kennon.  Ms.  Kennon  joined  the  Company  in  October  1994 and
currently  serves as  Director of Customer  Care and Human  Resources.  Prior to
joining the Company,  from 1984 through 1994, Ms. Kennon held various managerial
positions with AT&T.

         Aloysius T. Lawn,  IV. Mr. Lawn joined the Company in January  1996 and
currently  serves as General  Counsel and  Secretary  of the  Company.  Prior to
joining the Company, from 1985 through 1995, Mr. Lawn was an attorney in private
practice.

         Kevin R.  Kelly.  Mr.  Kelly  joined  the  Company  in  April  1994 and
currently  serves as  Controller.  From 1987 to 1994,  Mr.  Kelly  held  various
managerial  positions  with a major  public  accounting  firm.  Mr.  Kelly  is a
certified public accountant.

                                       28
<PAGE>




                                     PART II


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

         The Company's common stock,  $.01 par value per share ("Common Stock"),
is traded on the Nasdaq  National  Market,  and high and low  quotations  listed
below are actual sales prices as quoted in the Nasdaq  National Market under the
symbol "TALK." All of the following quotations have been adjusted to reflect the
two-for-one stock split of the Common Stock in the form of a 100% stock dividend
that occurred on January 31, 1997.

                                                  PRICE  RANGE  OF COMMON  STOCK
                                                  ------------------------------
                                                    HIGH                    LOW
                                                    ----                    ---
    1995
    ----
    Fourth Quarter (from September 20, 1995)      $   5 1/2          $  4

    1996
    ----
    First Quarter                                     8 1/2             4
    Second Quarter                                   12                 8 1/4
    Third Quarter                                    15 1/16            8 1/8
    Fourth Quarter                                   14 3/4            10 1/8

    1997
    ----
    First Quarter through (March 13, 1997)           21 1/2            12 1/4

         As of March 6, 1997,  there  were  approximately  57 record  holders of
Common Stock.

         The Company  currently intends to retain all future earnings for use in
the operation of its business and,  therefore,  does not  anticipate  paying any
cash dividends in the  foreseeable  future.  The  declaration and payment in the
future of any cash dividends  will be at the election of the Company's  Board of
Directors  and will depend  upon,  among other  things,  the  earnings,  capital
requirements and financial position of the Company,  existing and/or future loan
covenants and general economic conditions.

                                       29
<PAGE>



ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA

         The selected consolidated  financial data should be read in conjunction
with,  and are  qualified in their  entirety by,  "Management's  Discussion  and
Analysis of Financial  Condition  and Results of  Operations"  and the Company's
Consolidated Financial Statements included elsewhere in this Form 10-K.
<TABLE>
<CAPTION>

                                                                                Year ended December 31,
                                                     ------------------------------------------------------------------------------
                                                          1996           1995           1994           1993           1992      
                                                       -----------    ------------   -------------  ------------   ------------ 
                                                                        (In thousands, except per share amounts)                
<S>                                                      <C>             <C>             <C>            <C>            <C>      
Consolidated Statements of Income Data:                                                                                         
Sales                                                    $232,424       $180,102       $ 82,835       $ 31,940       $ 17,668
Cost of sales                                             200,597        156,121         70,104         26,715         14,803
                                                         --------       --------       --------       --------       --------
Gross profit                                               31,827         23,981         12,731          5,225          2,865
Selling, general and administrative expenses               10,039          6,280          3,442          2,060          1,476
                                                         --------       --------       --------       --------       --------
Operating income                                           21,788         17,701          9,289          3,165          1,389
Investment and other income, net                           10,585            331             66            108             32
                                                         --------       --------       --------       --------       --------
Income before income taxes                                 32,373         18,032          9,355          3,273          1,421
Provision for income taxes(1)                              12,205          7,213          3,742          1,309            568
                                                         --------       --------       --------       --------       --------
Net income(1)                                            $ 20,168       $ 10,819       $  5,613       $  1,964       $    853
                                                         ========       ========       ========       ========       ========
Net income per share - Primary (1)                       $   0.35       $   0.32       $   0.18       $   0.07       $   0.03
                                                         ========       ========       ========       ========       ========
Weighted average common and common
equivalent shares outstanding - Primary                    57,002         33,605         30,663         29,452         28,750
                                                         ========       ========       ========       ========       ========
Net income per share - Fully Diluted(1)                  $   0.35       $   0.32       $   0.18       $   0.07       $   0.03
                                                         ========       ========       ========       ========       ========
Weighted average common and common
equivalent shares outstanding - Fully Diluted              58,027         33,605         30,663         29,452         28,750
                                                         ========       ========       ========       ========       ========
</TABLE>
<TABLE>
<CAPTION>

                                                                                     At December 31,
                                                      -----------------------------------------------------------------------------
                                                           1996             1995            1994           1993          1992      
                                                       ------------    ------------     -------------  ------------   -----------  
                                                                                      (In thousands)                             
<S>                                                       <C>               <C>             <C>             <C>           <C>     
Consolidated Balance Sheets Data:                                                                                                
Working capital                                           $175,597          $38,171         $12,265         $4,502        $1,312  
Total assets                                               257,008           71,388          21,435          6,694         2,178  
Long-term debt                                                  --               --              --             --            --  
Total stockholders' equity                                 230,720           41,314          14,042          4,687         1,414  
</TABLE>

----------

   (1)   For the years and  period  ended  December  31,  1992,  1993,  1994 and
         September 19, 1995, the Predecessor Corporation elected to report as an
         S corporation  for federal and state income tax purposes.  Accordingly,
         the Predecessor  Corporation's  stockholders  included their respective
         shares of the Company's  taxable income in their individual  income tax
         returns.  The pro forma income taxes  reflect the taxes that would have
         been  accrued if the Company had elected to report as a C  corporation.
         See Note 10 to the Consolidated Financial Statements.

                                       30

<PAGE>



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


         The  following  discussion  should  be read  in  conjunction  with  the
Consolidated Financial Statements included elsewhere in this Form 10-K.

INTRODUCTION

         The Company was founded in 1989 as a  switchless  reseller of AT&T long
distance  services to small and medium sized  businesses  and currently has over
500,000 end users.  The Company is  currently in the process of  completing  the
deployment of its own nationwide  telecommunications  network, OBN consisting of
five Company-owned,  AT&T (now Lucent) manufactured 5ESS-2000 switches connected
by AT&T  transmission  facilities.  As more fully described  below,  the Company
believes that gross  margins for OBN long  distance  service will be higher than
those for AT&T long distance  service.  The majority of the Company's new orders
are now being placed on OBN which now has over 50,000 end users.

         Historically,  the Company has  marketed  the  majority of its services
through  independent  carriers and marketing  companies  known as  "partitions",
which allowed the Company to minimize  overhead  expenses.  The Company expanded
its business by adding partitions and providing existing and new partitions with
operational, financing, marketing and management support. Beginning in 1996, the
Company  initiated and subsequently  expanded through an acquisition in December
1996, a direct marketing effort.  Direct marketing requires the Company to incur
costs of  marketing,  including  personnel,  occupancy,  marketing  support  and
additional customer service - costs which were historically borne by partitions.
Currently,  a large majority of the Company's new sales are generated via direct
marketing.

         The Company  believes that gross margins for OBN long distance  service
will be higher than those for AT&T long  distance  service.  AT&T long  distance
service is "bundled," which means that the Company pays a single,  all-inclusive
price to AT&T for  switching,  transmission,  and LEC access.  OBN long distance
service is "unbundled," which means that the Company provides its own switching,
pays  AT&T for  transmission,  and  pays  access  fees  directly  to  LECs.  The
"unbundled"  charges per call on OBN are expected to be less than the  "bundled"
charge paid to AT&T.


         In February  1997 the Company  announced a  multi-year  agreement  with
America  Online,  Inc.  ("AOL")  under which the Company  will be the  exclusive
provider  of  long  distance  services  to be  marketed  by  AOL  to  all of its
approximate 8 million  online  subscribers  (the "AOL  Agreement").  See "RECENT
DEVELOPMENTS."


                                      -31-

<PAGE>





                  The following  table presents the Company's  sales,  operating
income and net income by quarter since the first quarter of 1994.


                                              Operating          Net
Quarter Ended                 Sales            Income          Income
-------------                -------        -------------    ----------
                                          (In thousands)
1996:
March 31                     $ 51,065        $  4,546        $  3,377
June 30                        57,015           4,882           4,058
September 30                   60,079           5,871           7,032
December 31                    64,265           6,489           5,701
                             --------        --------        ---------
   Total                     $232,424        $ 21,788        $ 20,168
                             ========        ========        ========

1995:
March 31 (A)                 $ 36,617        $  4,213        $  2,555
June 30 (A)                    44,728           4,855           2,897
September 30 (A)               48,366           4,008           2,519
December 31                    50,391           4,625           2,848
                             --------        --------        ---------
   Total (A)                 $180,102        $ 17,701        $ 10,819
                             ========        ========        ========

1994:
March 31 (A)                 $ 14,413        $  1,806        $  1,092
June 30 (A)                    14,705           1,846           1,102
September 30 (A)               22,521           2,608           1,573
December 31 (A)                31,196           3,029           1,846
                             --------        --------        ---------
   Total (A)                 $ 82,835        $  9,289        $  5,613
                             ========        ========        ========

                                                                      
(A)  Pro forma tax provisions have been  calculated as if the Company's  results
     of operations  were taxable as a C corporation  (the Company's  current tax
     status) for this period.  Prior to September 20, 1995, the Company was an S
     Corporation with all earnings taxed directly to its shareholders.

                                      -32-

<PAGE>



RESULTS OF OPERATIONS

   The following table sets forth for the periods  indicated  certain  financial
data as a percentage of sales:
<TABLE>
<CAPTION>

                                                                Percentage of Sales, Year Ended December 31,
                                                                ---------------------------------------------
                                                                    1996           1995             1994
                                                                 -----------    -----------     -----------

<S>                                                                  <C>            <C>             <C>   
     Sales                                                            100.0%         100.0%          100.0%
     Cost of sales                                                     86.3           86.7            84.6
                                                                 -----------    -----------     -----------
     Gross profits                                                     13.7           13.3            15.4
     Selling, general and administrative expenses                       4.3            3.5             4.2
                                                                 -----------    -----------     -----------
     Operating income                                                   9.4            9.8            11.2
     Investment and other income, net                                   4.5            0.2             0.1
                                                                 -----------    -----------     -----------
     Income before income taxes                                        13.9           10.0            11.3
     Provision for income taxes                                         5.2            4.0(A)          4.5(A)
                                                                 -----------    -----------     -----------
     Net income                                                         8.7%           6.0%            6.8%
                                                                 ===========    ===========     ===========

</TABLE>



(A) Pro forma tax provisions have been calculated as if the Company's results of
operations  were taxable as a C corporation  (the Company's  current tax status)
for the years ended December 31, 1995 and 1994. Prior to September 20, 1995, the
Company  was  an  S  Corporation   with  all  earnings  taxed  directly  to  its
shareholders.

                                      -33-

<PAGE>

YEAR ENDED DECEMBER 31, 1996 COMPARED TO YEAR ENDED DECEMBER 31, 1995

         Sales.  Sales  increased by 29.1% to $232.4 million in 1996 from $180.1
million in 1995.  The  increase  in sales  related  primarily  to the  continued
expansion  of the  Company's  distribution  network  of  partitions,  as well as
increases  in  the  number  of  orders  submitted  by  the  Company's   existing
partitions. One partition, The Furst Group, Inc. accounted for approximately 11%
of the  Company's  sales in 1996 versus zero in 1995.  In addition,  significant
partition  marketing efforts focused on inbound 800 service resulted in sales of
$75.3 million for the year ended  December 31, 1996 versus $55.6 million for the
year ended December 31, 1995.

         Although the Company  expects  sales to increase  through the Company's
direct marketing efforts, the AOL Agreement, the addition of new partitions, the
growth of end user business  through  existing  partitions  and possible  future
acquisitions,  there can be no  assurance  that the  Company  will  continue  to
increase sales on a quarter-to-quarter or year-to-year basis.

         Cost of Sales.  The  Company's  cost of sales, consisting  primarily of
network usage charges   for AT&T long distance  services,  increased by 28.5% to
$200.6  million in 1996 from $156.1  million in 1995 and is directly  related to
the 29.1% increase in sales.

         As a switchless reseller of AT&T long distance services and in order to
provide its OBN  services,  the Company  subscribes  to  contract  tariffs.  The
ability of the Company to negotiate  competitive terms of these tariffs has been
an important  reason for the Company's  success.  In October  1996,  the Company
subscribed to a new AT&T contract tariff,  which was further revised in December
1996 and permits the Company to continue to resell AT&T long distance  services,
including AT&T-SDN service, through mid-1998.  The new AT&T contract tariff also
includes other AT&T services (such as international  long distance,  inbound and
outbound   services)   that   will   be  used   in  the   Company's   nationwide
telecommunications  network,  OBN. The rates that the Company will pay under the
new AT&T contract  tariff are more  favorable to the Company than under previous
tariffs.  During its term, the new AT&T contract  tariff will enable the Company
to minimize possible  attrition that might result from moving existing end users
from the AT&T network to OBN.  The new AT&T  contact  tariff also permits a more
gradual  introduction  of OBN,  which should reduce the expense of providing the
capacity  required in a more rapid  phase-in of OBN and lessen the impact of any
technical difficulties during the phase-in of OBN. The more gradual introduction
of OBN,  however,  will postpone the Company's  realization  of the  anticipated
benefit of the more favorable margins for OBN service, and the new AT&T contract
tariff  requires the Company to commit to purchase  $300 million of service from
A&T  over  the  next 4  years,  including  at  least  $1  million  per  month of
international  service.  This commitment is larger than any previous  commitment
that the Company has made, but the Company  believes that it can be met based on
its current  purchases of long distance service from AT&T which are in excess of
$10 million per month.  Further,  the Company  can  terminate  the new  contract
tariff  without  liability  to AT&T at the end of 18 months if the  Company  has
generated at least $120 million in usage charges, including at least $15 million
in  international  usage  charges.  The  Company  also may  discontinue  the new
contract  tariff  without  liability  prior to the 18th month if the Company and
AT&T  enter  into a new  contract  tariff  or  another  contract  with a revenue
commitment  of at least  $7.5  million  per  month  and a term of at  least  the
difference  between  18  months  and the  number  of  months  that  the  Company
subscribed  to the contract  tariff,  provided that the Company must purchase or
pay for AT&T  services  under the  contract  tariff of at least $6.7 million per
month for the months prior to such  termination,  including $1 million per month
of international usage.

         OBN and the  operation of the  Company's  own switches and network will
require  the Company to incur  systems and  equipment  maintenance,  lease,  and
network  personnel  expenses   significantly   above  the  levels   historically
experienced by the Company as a switchless  reseller of AT&T services.  However,
these per call costs, in combination with  "unbundled"  charges paid to LECs and
AT&T, are expected to be less than the per call cost  currently  incurred by the
Company as a switchless reseller paying "bundled" charges to AT&T.

         In December  1996,  the Company,  in connection  with the settlement of
certain  disagreements  among  the  Company,  America  Business  Alliance,  Inc.
("ABA"),   an  independent  long  distance  and  marketing   company,   and  the
shareholders of ABA, acquired substantially all of the assets of ABA. Operations
of its own direct  marketing will require the Company to incur  additional costs
including   personnel,   occupancy,   and  marketing   support,   which  may  be
significantly above levels historically experienced by the Company. There can be
no assurance that any cost savings will be realized  utilizing  direct marketing
when compared to the costs  historically  incurred by the Company  utilizing its
partitions.

                                      -34-
<PAGE>
         The AOL  Agreement  will  initially  require  the  Company  to  provide
competitively  priced  residential  long  distance  service  along with  various
on-line  capabilities  including  on-line  sign-up,  call detail and reports and
credit card payment. The Company may incur significant expenses for the start-up
and  development  of the services  contemplated  in the  agreement  particularly
during the second and third  quarters of 1997.  These costs may result in higher
costs of sales in 1997 than historically experienced by the Company.

         Gross Margin.  Gross margin, the gross profit as a percentage of sales,
increased to 13.7% for the year ended  December 31, 1996 from 13.3% for the year
ended  December  31,  1995.  The  increase  in gross  margin  was due to greater
discounts  obtained  from  AT&T on  network  usage  partially  offset  by direct
marketing expenses and higher volume discounts granted to certain partitions. To
the extent that the  Company may incur  additional  costs  associated  with OBN,
direct  marketing and the AOL  Agreement  (see Cost of Sales above) gross margin
may decline in 1997.

         The Company  believes that gross margins for OBN long distance  service
will be higher than those for AT&T long  distance  service.  AT&T long  distance
service is "bundled," which means that the Company pays a single,  all-inclusive
price to AT&T for  switching,  transmission,  and LEC access.  OBN long distance
service is "unbundled," which means that the Company provides its own switching,
pays  AT&T for  transmission,  and  pays  access  fees  directly  to  LECs.  The
"unbundled"  charges per call on OBN are expected to be less than the  "bundled"
charge paid to AT&T .

         Although the basic rates of the three largest long  distance  carriers-
AT&T, MCI and Sprint-have consistently increased over the past three years, AT&T
and other carriers have announced new price plans and  significantly  simplified
rate structures  aimed at residential  customers,  the Company's  primary target
audience under the AOL Agreement,  which may have the impact of lowering overall
long distance prices. There can be no assurance that AT&T or other carriers will
not make similar  offerings  available  to the small to medium sized  businesses
that the Company currently serves.  Although OBN is expected to make the Company
more price  competitive,  further  reductions in long distance prices charged by
competitors  still may have a material  adverse  impact on the  Company's  gross
margin in future periods.

         Selling,  General and  Administrative  Expenses.  Selling,  general and
administrative  expenses  increased by 59.9% to $10.0  million in 1996 from $6.3
million in 1995. The increase in selling,  general and  administrative  expenses
was due  primarily to the costs  associated  with hiring  additional  management
personnel to support the  Company's  continuing  growth and  increased  fees for
professional services.

         The Company expects  selling,  general and  administrative  expenses to
increase as it  implements,  operates and  maintains  OBN, its direct  marketing
efforts and the rollout of the AOL service offering.  These efforts will require
additional personnel, equipment and support. The additional selling, general and
administrative  expenses may be offset by the increased  sales and profit gained
as a result of the  implementation of the components of the Company's  strategic
plan, but increased costs may have an adverse impact on results of operations.

         Investment  and Other  Income.  Investment  and other  income was $10.6
million in 1996 versus  $331,000 in 1995.  Investment  and other  income for the
year ended  December 31, 1996 includes two  nonrecurring  gains : a $1.4 million
gain on the sale of  securities  of another  long  distance  company  and a $1.5
million gain on the sale of short term U.S. Treasury  securities.  The remainder
of investment and other income  consists  primarily of interest income earned on
the Company's cash balances  resulting  primarily from the unapplied proceeds of
the  Company's  public  offering  in April  and May 1996 and  excess  cash  from
operations.

         As a result of the Company's  purchase of ABA for  approximately  $21.4
million in total  consideration  and the $100  million  initial  payment to AOL,
interest  income for future  periods is expected to be  significantly  less than
amounts realized in 1996.

         Provision for income taxes.  The Company's  effective tax rate declined
to 37.7% in 1996 from the pro forma  effective  tax rate of 40.0% in 1995 due to
the lower effective state tax rate in 1996.

                                      -35-

<PAGE>


YEAR ENDED DECEMBER 31, 1995 COMPARED TO YEAR ENDED DECEMBER 31, 1994

         Sales.  Sales  increased by 117.4% to $180.1 million in 1995 from $82.8
million in 1994.  The  increase  in sales  related  primarily  to the  continued
expansion  of the  Company's  distribution  network  of  partitions,  as well as
increases  in the  number  of end  users  obtained  by  the  Company's  existing
partitions.  As a result of the favorable  contract  tariffs obtained from AT&T,
which took  effect in July 1994,  revenue  from  marketing  inbound  800 service
increased  significantly  in 1995,  totaling  $55.6  million  for the year ended
December 31, 1995 and accounting for approximately  30.9% of 1995 sales compared
to $7.9 million,  or 9.5% of sales,  for the year ended  December 31, 1994.  The
Company's revenues for private line services represented  approximately 10.2% of
1995 sales compared to an insignificant amount from such services in 1994.

         Cost of  Sales.  The  Company's  cost of sales  increased  by 122.7% to
$156.1 million in 1995 from $70.1 million in 1994,  primarily as a result of the
increase in sales by 117.4%. Cost of sales as a percentage of revenues increased
at a higher rate than sales because the Company offered higher volume  discounts
to certain partitions.

         Gross  Margin.  Gross  margin  decreased  to 13.3%  for the year  ended
December 31, 1995 from 15.4% for the year ended  December 31, 1994. The decrease
in gross margin was attributable primarily to the addition of new partitions who
received higher volume discounts.  Billing costs remained relatively constant as
a percentage of sales during both of these periods.

         Selling,  General and  Administrative  Expenses.  Selling,  general and
administrative  expenses  increased by 82.5%,  to $6.3 million in 1995 from $3.4
million  in 1994,  but  decreased  as a  percentage  of sales to 3.5% from 4.2%.
Selling,  general and administrative expenses decreased as a percentage of sales
due to the Company's ability to spread its overhead expenses over a larger sales
base.  The  increase in selling,  general and  administrative  expenses  was due
primarily to the increase in personnel  from 27 to 37 employees,  resulting from
the increased  administrative  and  management  demands on the Company as it has
grown, and an increase in fees for professional services.

         Pro Forma Income Taxes. On June 1, 1991, the Company,  with the consent
of its stockholders, elected to be taxed as an S Corporation. As a result of the
election, all earnings of the Predecessor Corporation were taxed directly to the
stockholders. Accordingly, the statements of income, prior to the termination of
the S Corporation  status on September 19, 1995, did not include  provisions for
income taxes.  Pro forma income tax  provisions  have been  calculated as if the
Company's  results  of  operations  were  taxable as a C  Corporation  under the
Internal  Revenue Code for all periods  presented.  See Note 10 to  Consolidated
Financial Statements.

LIQUIDITY AND CAPITAL RESOURCES

         The Company  consummated  its  initial  public  offering of  10,350,000
shares of Common Stock in September  and October of 1995.  The Company  received
net proceeds from such offering of $42.8 million, of which $4.5 million was used
to pay the minority  stockholder.  The Company  consummated a public offering of
17,068,000  shares of Common Stock in April and May, 1996. The Company  received
net proceeds from such offering of  approximately  $139.1 million.  In addition,
during 1996,  certain  options and warrants to purchase  shares of the Company's
Common  Stock  were   exercised  and  the  Company   received  net  proceeds  of
approximately  $4.9  million  and $7.4  million,  respectively.  The tax benefit
realized  from the  exercise of options and  warrants  was  approximately  $21.3
million and is reflected as an  adjustment  to  additional  paid-in  capital and
taxes payable.  At December 31, 1996, the Company had cash, cash equivalents and
marketable securities of approximately $157.3 million.

                                      -36-

<PAGE>
         Since its inception,  the Company has funded its  operations  primarily
from cash  generated  by  operations  and,  to a lesser  extent,  advances  from
stockholders  and bank  borrowings.  The  Company's  net cash flow  provided  by
operations was $10.7 million, $24.5 million and $1.6 million for the years ended
December 31, 1996, 1995 and 1994, respectively. Cash provided was $43.9 million,
$10.5 million and $10.2 million for the years ended December 31, 1996,  1995 and
1994,  respectively,  resulting  from net income  plus  reconciling  items.  The
primary  reconciling  item  for the year  ended  December  31,  1996 was the tax
benefit  associated  with the exercise of stock options and  warrants.  Cash was
used for  accounts  receivable,  advances  to  partitions  and note  receivables
increases.  Increases in advances to partitions and note  receivables are due to
the Company's  increased  assistance  to new and existing  partitions to support
their marketing efforts.

         The Company's  working  capital was $175.6 million and $38.2 million at
December 31, 1996 and 1995,  respectively.  The significant  increase in working
capital is primarily a result of the completion of the Company's public offering
in April and May, 1996.

         The Company invested $27.7 million in capital equipment during the year
ended December 31, 1996, of which $22.7 million was used for the  acquisition of
capital  equipment and installation  costs relating to the deployment of OBN. To
date,  through December 31, 1996, the Company has invested $24.9 million for the
acquisition  of  capital  equipment  and  installation  costs  relating  to  the
deployment  of OBN . In June 1996,  the  Company  purchased  a new  headquarters
building in New Hope, Pennsylvania for approximately $1.5 million. In July 1996,
the Company also purchased a building in  Clearwater,  Florida which is used for
direct marketing and customer service for approximately $900,000.

         In March 1996, the Company  negotiated an unsecured,  committed line of
credit with PNC Bank, N.A.  ("Credit  Facility") under which borrowings of up to
$50.0 million are available.  The Company is required to pay an availability fee
of $62,500 per annum, or 0.125% of the total available  borrowings.  Interest on
borrowings  is payable  monthly at PNC Bank's prime rate less 0.5% or LIBOR plus
0.875%, at the Company's  option.  Principal is payable upon demand by PNC Bank.
Under the terms of the  Credit  Facility,  the  Company  must  maintain  certain
financial  covenants and adhere to certain  restrictions.  At December 31, 1996,
the Company had no  borrowings  outstanding  under the Credit  Facility.  During
February  1997, the bank provided a temporary  increase in the amount  available
under the agreement to $60.0 million under similar terms to the existing  credit
facility.  See "RECENT DEVELOPMENTS".

         The  Company  has used a portion  of the  proceeds  from its 1996 stock
offering  for:  (i)  advances to new and existing  partitions  to support  their
marketing efforts, (ii) procurement of additional hardware and software for OBN,
(iii) direct  marketing  efforts,  including the ABA  transaction,  and a direct
marketing  center  in  Clearwater,  Florida,  and  (iv)  the  purchase  of a new
headquarters building in New Hope,  Pennsylvania.  In February 1997, the Company
made an initial  payment  of $100  million  to AOL in  conjunction  with the AOL
Agreement more fully  described in Recent  Developments.  The Company intends to
use the  remaining  proceeds:  (i) to further fund new and existing  partitions,
(ii) to expand direct marketing  efforts,  and (iii) to take advantage of growth
opportunities,  including but not limited to, possible acquisitions. At December
31, 1996, excess cash was invested primarily in a U.S. Treasury Bill. Generally,
excess cash is invested  primarily in short term government  securities and cash
equivalents  consisting  of  money  market  accounts  with  major  international
brokerage  firms.  The Company has had to spend less of the proceeds of the 1996
stock offering to start up OBN than  originally  planned because of the new AT&T
contract tariff,  which allows the Company to avoid some of the costs associated
with  moving  existing  end users to OBN and permits the Company to phase in OBN
more cost  effectively  by not leasing  transmission  facilities  before traffic
levels are sufficient to fill them.

         The Company does not have a  significant  concentration  of credit risk
with respect to accounts  receivable  due to the large number of partitions  and
end users  comprising the Company's  customer base and their  dispersion  across
different  geographic  regions.  The Company  maintains  reserves for  potential
credit  losses  and,  to date,  such  losses  have  been  within  the  Company's
expectations.

         The  Company  believes  that  its  current  cash  position,  marketable
securities,  the Credit Facility and the cash flow expected to be generated from
operations, will be sufficient to fund its capital expenditures, working capital
and other cash requirements for at least the next twelve months.

RECENT DEVELOPMENTS

         On February 25, 1997, the Company  announced that it had entered into a
Telecommunications  Marketing  Agreement  (the  "AOL  Agreement"),  dated  as of
February 22, 1997 and  effective as of February 25, 1997,  with America  Online,
Inc.  ("AOL"),  under  which  the  Company  will be the  exclusive  provider  of
long-distance  telecommunications  services  to be marketed by AOL to all of the
subscribers  to AOL's online  network under a distinctive  brand name to be used
exclusively for the Company's services.  The services will include provision for
online sign-up,  call detail and reports and credit card payment.  Under the AOL
Agreement,  AOL will  provide  millions  of  dollars of online  advertising  and
promotion of the services  and provide 

                                      -37-
<PAGE>

all of its  subscribers  with access to a dedicated  service area online for the
Company. AOL subscribers who sign-up for the telecommunications services will be
customers of the Company,  as the carrier  providing such services.  The Company
also has  certain  rights  under the AOL  Agreement  to offer,  on a  comparably
exclusive basis, local and wireless telecommunications services when available.

         It is anticipated  that the services will be tested in the early summer
and offered  generally to AOL subscribers in the fall of 1997. The AOL Agreement
has an initial term of three years and can be extended by AOL on an annual basis
thereafter.

         Under the AOL  Agreement,  the Company made an initial  payment of $100
million to AOL at signing and agreed to provide marketing  payments to AOL based
on a percentage of the Company's profits from the services (between 50% and 70%,
depending  on the number of  subscribers  to the  services).  The AOL  Agreement
provides that $43 million of the initial  payment will be offset and recoverable
by the Company through reduction of such profit-based  marketing payments during
the initial term of the AOL Agreement or, subject to certain monthly  reductions
by  offset  of  the  amount  thereof,  directly  by  AOL  upon  certain  earlier
terminations  of the AOL  Agreement.  The $57  million  balance  of the  initial
payment  will  be  offset  and is  recoverable  through  a  percentage  of  such
profit-based  marketing  payments  made  after the first  five  years of the AOL
Agreement  (when  extended  beyond  the  initial  term) and by offset  against a
percentage of AOL's share of the profits from the services after  termination or
expiration of the AOL  Agreement.  Any portion of the $43 million not previously
recovered  or reduced in amount  would be added to the $57  million and would be
recoverable similarly.

         Also under the AOL Agreement,  the Company issued to AOL at signing two
warrants to purchase shares of the Company's  common stock at a premium over the
market  value of such stock on the issuance  date.  One warrant is for 5 million
shares, at an exercise price of $15.50 per share,  one-half of which shares will
vest at the time the  service is first made  generally  available  to AOL online
network   subscribers  in  accordance  with  the  AOL  Agreement  or  the  first
anniversary of the warrant  issuance,  whichever is earlier,  and the balance of
which will vest on the first  anniversary  of issuance if the AOL  Agreement has
not terminated.  The other warrant is for up to 7 million shares, at an exercise
price of $14.00 per share, which will vest,  commencing December 31, 1997, based
on the number of  subscribers  to the services and would vest fully if there are
at least 3.5 million such  subscribers  at any one time. The Company also agreed
to issue to AOL an additional warrant to purchase 1 million shares of its common
stock,  at  market  value at the time of  issuance,  upon  each of the first two
annual  extensions by AOL of the term of the AOL Agreement,  which warrants also
will vest based on the number of subscribers to the services.

         In connection with the AOL Agreement,  the Company and AOL will jointly
develop the online marketing and advertising for the services.  The Company will
provide online customer  service as well as inbound calling  customer service to
the AOL subscribers in connection  with the services.  While the Company expects
to utilize its Clearwater,  Florida facility to provide customer service support
to AOL  subscribers,  the  Company may need to increase  staffing  and  purchase
equipment to support this activity.  The Company  anticipates that it will incur
expenses for the start-up and  development of the services  contemplated  in the
AOL  Agreement  during  1997,  including  expenses  for  the  expansion  of  the
Clearwater  operation,  for software  programming  and for software and hardware
additions to the Company's network, OBN, to expand its capacity for the traffic.
The Company believes that the increased  revenues to the Company  resulting from
the AOL Agreement and the services  offered  pursuant thereto will be limited in
1997, but could be significant in 1998,  although there can be no assurance that
these results can be achieved in light of a number of  uncertainties,  including
the following: the Company's ability to timely develop the online ordering, call
detail,  billing  and  customer  services  for the AOL  subscribers,  which will
require,  among  other  things,  being able to  identify  and employ  sufficient
personnel  qualified to provide necessary  programming;  the Company's and AOL's
ability to work  effectively  together to jointly  develop the online  marketing
contemplated  by the AOL  Agreement;  the response rate to online  promotions of
AOL's online  subscribers,  most of whom are expected to be  residential  rather
than businesses,  which have historically been the Company's  customer base; the
Company's  ability to expand OBN to accommodate  increased  traffic levels;  and
AOL's  ability to  successfully  execute its publicly  stated  business plan and
implement  its announced  network  changes to improve  subscriber  access to its
online service.

         The Company  funded the $100 million  initial  payment by borrowing $50
million under its Credit Facility under a temporary  increase in the facility to
$60 million,  and an additional  $50 million as a margin advance from one of its
brokers.  Currently, the Company holds a U.S. Treasury Bill with a face value of
$150 million, which matures in November 1997, as security for the advance.

                                      -38-

<PAGE>


ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES

                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

Report of Independent Certified Public Accountants                           40
Consolidated balance sheets as of December 31, 1996 and 1995                 41
Consolidated statements of income for the years ended
 December 31, 1996, 1995, and 1994                                           42
Consolidated statements of stockholders' equity for the years
 ended December 31, 1996, 1995 and 1994                                      43
Consolidated statements of cash flows for the years ended
 December 31, 1996, 1995 and 1994                                            44
Notes to consolidated financial statements                                   45

    
                                  -39-

<PAGE>

               REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS

To the Board of Directors
and Stockholders of Tel-Save Holdings, Inc.

         We  have  audited  the  accompanying  consolidated  balance  sheets  of
Tel-Save  Holdings,  Inc. and subsidiaries as of December 31, 1996 and 1995, and
the related  consolidated  statements of income,  stockholders'  equity and cash
flows for each of the three years in the period ended  December 31, 1996.  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 consolidated financial statements referred to above
present fairly,  in all material  respects,  the financial  position of Tel-Save
Holdings,  Inc.  and  subsidiaries  as of December  31,  1996 and 1995,  and the
results of their  operations and their cash flows for each of the three years in
the period  ended  December  31,  1996 in  conformity  with  generally  accepted
accounting principles.


/s/ BDO Seidman, LLP
BDO Seidman, LLP

New York, New York
January 29, 1997



                                      -40-

<PAGE>
                                      TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES
                                            CONSOLIDATED BALANCE SHEETS
                                        (In thousands, except for share data)
<TABLE>
<CAPTION>
                                                                                                            December 31,
                                                                                         ---------------------------------------
                                                                                                          1996          1995
            ---------------------------------------------------------------------------- --------------------- -----------------
<S>                                                                                                <C>                  <C>    
            ASSETS
            CURRENT:
               Cash and cash equivalents                                                           $    8,023           $41,211
               Marketable securities                                                                  149,237                 -
               Accounts receivable, trade net of allowance for                                         19,971            19,088
                uncollectible accounts of $987 and $804, respectively
               Advances to partitions and note receivables                                             13,410             3,563
               Due from broker                                                                            867             1,100
               Prepaid  expenses and other current assets                                              10,377               194
            ---------------------------------------------------------------------------- --------------------- -----------------
                    TOTAL CURRENT ASSETS                                                              201,885            65,156
            Property and equipment, net                                                                30,097             2,667
            Intangibles, net                                                                           21,102             1,490
            Note receivable from stockholder                                                                -             2,075
            Other assets                                                                                3,924                 -
            ---------------------------------------------------------------------------- --------------------- -----------------
                    TOTAL ASSETS                                                                     $257,008           $71,388
            ---------------------------------------------------------------------------- --------------------- -----------------
            LIABILITIES AND STOCKHOLDERS' EQUITY
            CURRENT:
            Accounts payable and accrued expenses:
               Trade and other                                                                      $  17,812           $12,622
               Partitions                                                                               4,398             3,047
               Sales and excise taxes payable                                                           1,592             1,406
               Other                                                                                    1,619               514
            Securities sold short, at cost to purchase                                                    867             1,100
            Income taxes payable                                                                            -             2,375
            Note payable to stockholder                                                                     -             5,921
            ---------------------------------------------------------------------------- --------------------- -----------------
                    TOTAL CURRENT LIABILITIES                                                          26,288            26,985
            Deferred credits                                                                                -               280
            Deferred income taxes payable                                                                   -             2,809
            ---------------------------------------------------------------------------- --------------------- -----------------
                    TOTAL LIABILITIES                                                                  26,288            30,074
            ---------------------------------------------------------------------------- --------------------- -----------------
            COMMITMENTS AND CONTINGENCIES
            STOCKHOLDERS' EQUITY

               Preferred stock, $.01 par value, 5,000,000 shares                                            -                 -
                 authorized; no shares outstanding

               Common stock - $.01 par value,  100,000,000 shares                                         622               195
                 authorized; 62,237,998 and 19,500,000 issued and
                 outstanding, respectively

               Additional paid-in capital                                                             210,616            37,245

               Retained earnings                                                                       24,042             3,874

               Treasury stock                                                                          (4,560)                -
            ---------------------------------------------------------------------------- --------------------- -----------------
                    TOTAL STOCKHOLDERS' EQUITY                                                        230,720            41,314
            ---------------------------------------------------------------------------- --------------------- -----------------
                    TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY                                       $257,008           $71,388
            ---------------------------------------------------------------------------- --------------------- -----------------

                                                                    See accompanying notes to consolidated financial statements.
</TABLE>

                                      -41-

<PAGE>
                   TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES
                        CONSOLIDATED STATEMENTS OF INCOME
                    (In thousands, except for per share data)
<TABLE>
<CAPTION>
                                                                    Year Ended December 31,
                                                                    -----------------------
                                                          1996                 1995                  1994
                                                          ----                 ----                  ----

<S>                                                   <C>                  <C>                   <C>     
Sales                                                 $232,424             $180,102              $ 82,835

Cost of sales                                          200,597              156,121                70,104
-------------------------------------------- ------------------ --------------------     -----------------
Gross profit                                            31,827               23,981                12,731

Selling, general and administrative                     
  expenses                                              10,039                6,280                 3,442
-------------------------------------------- ------------------ --------------------     -----------------
Operating income                                        21,788               17,701                 9,289

Investment and other income, net                        10,585                  331                    66
-------------------------------------------- ------------------ --------------------     -----------------
Income before provision for income taxes                32,373               18,032                 9,355

Provision for income taxes                              12,205                8,997                     -
-------------------------------------------- ------------------ --------------------     -----------------
Net income                                           $  20,168            $   9,035             $   9,355
============================================ ================== ====================     ==================
Pro forma:

  Income before provision for income taxes                                $  18,032             $   9,355

  Pro forma provision for income taxes                                        7,213                 3,742
-------------------------------------------- ------------------ --------------------     -----------------
Pro forma net income                                                      $  10,819             $   5,613
-------------------------------------------- ------------------ --------------------     -----------------
Net income per share - Primary                       $     .35            $     .32             $     .18
-------------------------------------------- ------------------ --------------------     -----------------
Weighted average common and common                      
  equivalent
  shares outstanding - Primary                          57,002               33,605                30,663
-------------------------------------------- ------------------ --------------------     -----------------
Net income per share - Fully Diluted                 $     .35          $       .32            $      .18
-------------------------------------------- ------------------ --------------------     -----------------
Weighted average common and                             
common equivalent
   shares outstanding - Fully Diluted                   58,027               33, 605               30,663
-------------------------------------------- ------------------ --------------------     -----------------


                                              See accompanying notes to consolidated financial statements.

</TABLE>
                                      -42-

<PAGE>
                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES
                 CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
                                 (In thousands)


<TABLE>
<CAPTION>
                                                   Common Stock        Additional
                                               ---------------------    Paid-in       Retained   Treasury         
                                                Shares        Amount    Capital       Earnings    Stock           Total
--------------------------------------------------------------------------------------------------------------------------
<S>                                             <C>        <C>       <C>            <C>          <C>          <C>      
Balance, January 1, 1994                          9,550     $    95   $      --      $   4,592    $    --      $   4,687
                                                           
   Net income                                      --            --          --          9,355         --          9,355
                                                -------    --------     --------      --------    --------      --------- 
                                                           
 Balance, December 31, 1994                       9,550          95          --         13,947         --         14,042
                                                           
   Net income                                      --            --          --          9,035         --          9,035
                                                           
   Cash distributions                              --            --          --        (13,200)        --        (13,200)
                                                           
   Stock redemption                                --            --          --        (11,400)        --        (11,400)
                                                           
   Reclassification of S Corporation deficit       --            --      (5,492)         5,492         --             --
                                                           
   Sale of common stock                           3,450          35      42,802             --         --         42,837
                                                           
   Three-for-two stock split                      6,500          65         (65)            --         --             --
                                                -------    --------     --------      --------    --------      --------- 
                                                           
Balance, December 31, 1995                       19,500         195      37,245          3,874         --         41,314
                                                           
   Net income                                      --            --          --         20,168         --         20,168
   Issuance of warrants to partitions              --            --       1,077             --         --          1,077
   Sale of common stock                           8,534          85     138,984             --         --        139,069
   Exercise of common stock options               1,079          11       4,927             --         --          4,938
                                                           
   Exercise of warrants                           2,006          20       7,383             --         --          7,403
   Income tax benefit related to                              
      exercise of common stock  options             
      and warrants                                   --          --      21,311             --         --         21,311
   Acquisition of treasury stock                     --          --          --             --     (4,560)        (4,560)
                                                           
   Two-for-one stock split                       31,119         311        (311)            --         --             --
                                                -------    --------     --------      --------    --------      --------- 
                                                           
Balance, December 31, 1996                       62,238     $   622   $ 210,616      $  24,042    $(4,560)     $ 230,720
--------------------------------------------------------------------------------------------------------------------------
                                                              See accompanying notes to consolidated financial statements.
</TABLE>

                                      -43-

<PAGE>
                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (In thousands)
<TABLE>
<CAPTION>
                                                                                       
                                                                                               Year Ended December 31,
                                                                                    -----------------------------------------------
                                                                                        1996           1995            1994
------------------------------------------------------------------------------------------------------------------------------------
<S>                                                                                     <C>              <C>             <C>       
Cash flows from operating activities:
      Net income                                                                        $  20,168        $   9,035       $    9,355
      Adjustment to reconcile net income to net
       cash provided by operating
       activities:
      Unrealized loss on securities                                                           179              234               --
      Provision for bad debts                                                                  38              (28)              52
      Depreciation and amortization                                                         2,462            1,287              477
      Deferred credits                                                                       (280)              --              280
      Income tax benefit related to exercise of options and warrants                       21,311               --               --
      (Increase) decrease in:
        Accounts receivable, trade                                                         (1,065)          (2,996)         (10,899)
        Advances to partitions and note receivables                                       (20,797)          (1,700)          (1,862)
        Prepaid expenses and other current assets                                         (10,183)           1,400             (804)
        Other assets                                                                       (3,924)              --               --
      Increase (decrease) in:
        Accounts and partition payables and accrued expenses                                7,978           12,047            5,023
        Income taxes payable                                                               (5,184)           5,184               --
------------------------------------------------------------------------------------------------------------------------------------
        Net cash provided by operating activities                                          10,703           24,463            1,622
------------------------------------------------------------------------------------------------------------------------------------

Cash flows from investing activities:
      Acquisition of intangibles                                                           (9,800)          (1,057)          (2,007)
      Capital expenditures, net                                                           (27,679)          (2,330)            (343)
      Securities sold short                                                                  (411)             866               --
      Due from broker                                                                         233           (1,100)              --
      Loans to stockholder                                                                 (3,034)          (2,075)              --
      Repayments of stockholder loan                                                        5,109               --               --
      Purchase of marketable securities                                                  (149,238)              --               --
------------------------------------------------------------------------------------------------------------------------------------
        Net cash used in investing activities                                            (184,820)          (5,696)          (2,350)
------------------------------------------------------------------------------------------------------------------------------------

Cash flows from financing activities:
      Proceeds from related party transactions                                                 --               --            7,767
      Payments to related parties                                                              --           (1,725)          (7,038)
      Payment of note payable to stockholder                                               (5,921)            (979)              --
      Proceeds from sale of common stock                                                  139,069           42,837               --
      Proceeds from exercise of options and warrants                                       12,341               --               --
      Acquisition of treasury stock                                                        (4,560)              --               --
      Distributions to stockholders                                                            --          (13,200)              --
      Stock redemption                                                                         --           (4,500)              --
------------------------------------------------------------------------------------------------------------------------------------
        Net cash provided by financing activities                                         140,929           22,433              729
------------------------------------------------------------------------------------------------------------------------------------
Net (decrease) increase in cash and cash equivalents                                      (33,188)          41,200                1
Cash and cash equivalents, at beginning of period                                          41,211               11               10
------------------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents, at end of period                                             $   8,023        $  41,211        $      11
------------------------------------------------------------------------------------------------------------------------------------


                                                                        See accompanying notes to consolidated financial statements.

</TABLE>
                                      -44-

<PAGE>
                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


NOTE 1 -- SUMMARY OF ACCOUNTING POLICIES

         (a) Business

         Tel-Save  Holdings,  Inc. (the  "Company"),  which is  incorporated  in
Delaware,  provides long distance services to small and medium-sized  businesses
located  throughout  the United  States.  The Company's  long  distance  service
offerings include outbound service,  inbound toll-free 800 service and dedicated
private line services for data. The Company  markets these  services  nationally
primarily  through direct marketing and an established  distribution  network of
independent long distance and marketing companies known as "partitions".

         (b) Reorganization

         On  September  21, 1995,  the Company  consummated  its initial  public
offering  ("IPO")  (Note  8(b)).  The shares of Tel-Save,  Inc., a  Pennsylvania
corporation  (the  "Predecessor   Corporation"),   owned  by  the  two  founding
stockholders  were  contributed  to the  Company as of the date of the IPO.  The
majority stockholder exchanged all of his shares of the Predecessor  Corporation
for  21,060,000  shares of the common  stock of the Company  plus loans of up to
$5,000,000.  The  majority  stockholder  repaid  his  outstanding  indebtedness,
including  interest,  using a portion of his proceeds from the sale of 1,500,000
shares of common stock in connection with the Company's public offering in April
1996 (Note 8(a)).

         The minority  stockholder  exchanged all his shares of the  Predecessor
Corporation for 7,590,000 shares of the common stock of the Company,  $4,500,000
in cash plus a note (the "Cash Flow Note") in the original  principal  amount of
$6,900,000  bearing  interest  at 10% per  annum  which  was  guaranteed  by the
majority stockholder.  The payment and the issuance of the Cash Flow Note to the
minority  stockholder are accounted for as a distribution of capital. In January
1996,  the Company paid the remaining  balance of $5,921,000  due under the Cash
Flow Note. The transactions  described above are collectively referred to as the
"Reorganization."

         (c) Basis of financial statements presentation

         The consolidated  financial statements include the accounts of Tel-Save
Holdings,  Inc. and its two wholly-owned  subsidiaries and have been prepared as
if the  entities  had  operated  as a  single  consolidated  group  since  their
respective dates of  incorporation.  All intercompany  balances and transactions
have been eliminated.

         In preparing financial statements in conformity with generally accepted
accounting principles,  management is required to make estimates and assumptions
that affect the reported amounts of assets and liabilities and the disclosure of
contingent  assets and  liabilities at the date of the financial  statements and
revenues and expenses during the reporting  period.  Actual results could differ
from those estimates.

         (d) Recognition of revenue

         The Company  recognizes  revenue upon  completion of telephone calls by
end users. Allowances are provided for estimated uncollectible usage.

         (e) Cash and cash equivalents

         The Company  considers all temporary cash investments  purchased with a
maturity of three months or less to be cash equivalents.

                                      -45-

<PAGE>
                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

         (f) Marketable securities

         The Company buys and holds  securities  principally  for the purpose of
selling  them in the near term and  therefore,  they are  classified  as trading
securities  and  carried  at  market.   Unrealized   holding  gains  and  losses
(determined by specific  identification)  on  investments  classified as trading
securities are included in earnings.

         (g) Prepaid marketing costs

         Certain  costs  associated  with  direct  marketing  to end  users  are
amortized over a six month period.

         (h) Property and equipment and depreciation

         Property  and  equipment  are  recorded  at  cost.   Depreciation   and
amortization  is calculated  using the  straight-line  method over the estimated
useful lives of the assets, which range from three to thirty-nine years.

         (i) Intangibles and amortization

         Intangibles  include  the costs to acquire  billing  bases of  customer
accounts, long-distance service contract pricing plans and goodwill arising from
business  acquisitions.  Amortization is computed on a straight-line  basis over
the estimated useful lives of the intangibles which range from 1 to 40 years.

         (j) Long-lived assets

         The Company  adopted SFAS No. 121,  "Accounting  For the  Impairment of
Long-Lived  Assets and for Long-Lived Assets to be Disposed of" as of January 1,
1996 and its  implementation  did not have a material effect on the consolidated
financial statements.

         (k) Income taxes

         Deferred tax assets and  liabilities  are  recorded  for the  estimated
future tax effects  attributable to temporary  differences  between the basis of
assets and liabilities  recorded for financial and tax reporting  purposes (Note
10).

          (l) Net income per share

         The  computation  of net  income  per  share is  based on the  weighted
average number of common shares outstanding during the period plus the effect of
common  shares  issuable  upon  exercise of stock  options and  warrants.  Fully
diluted  earnings per share also reflect  additional  dilution  related to stock
options and warrants due to the use of the market price at the end of the period
when this price is higher than the average price for the period.  Net income per
share for the years ended  December  31, 1995 and 1994 is based on pro forma net
income.

         All references in the consolidated  financial statements with regard to
average  number  of  common  stock  and  related  per  share  amounts  have been
calculated  giving   retroactive  effect  to  the  exchange  of  shares  in  the
Reorganization and the stock splits.


                                      -46-

<PAGE>
                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

         (m) Financial instruments and risk concentration

         Financial   instruments  which  potentially   subject  the  Company  to
concentrations of credit risk are cash investments and marketable securities. At
December  31, 1996,  a large  majority of the  Company's  cash  investments  and
marketable  securities  were invested in U.S.  government  securities  and money
market funds.  The carrying amount of these cash  investments  approximates  the
fair value due to their  short  maturity.  The Company  believes no  significant
concentration  of credit risk exists with respect to these cash  investments and
marketable securities.

         (n) Securities sold short/financial  investments with off-balance sheet
             risk

         At December  31,  1996,  securities  sold short by the  Company,  which
consist of equity  securities  valued at market,  resulted in an  obligation  to
purchase  such  securities  at a future date.  The short  position was closed in
March 1997 and the Company recorded a loss of $54,000.

NOTE 2 -- MAJOR PARTITIONS

         Partitions  who  provided  end user  accounts,  which in the  aggregate
account for more than 10% of sales, are as follows:

                                             Number Of          Total Percentage
                                             Partitions              Of Sales
                                            -----------         --------------- 

Year ended December 31, 1996                    1                      11%

Year ended December 31, 1995                   --                      --

Year ended December 31, 1994                    1                      13%

NOTE 3 -- PROPERTY AND EQUIPMENT

                                                             December 31,
                                                      -------------------------
                                                        1996             1995
                                                        ----             ----
                                                           (In thousands)

Land                                                   $    220        $   --

Buildings and building improvements                       3,398            --

Switching equipment under construction                   24,861           2,126
Equipment, vehicles and other                             2,117             791
                                                       --------        --------

                                                         30,596           2,917
Less: Accumulated depreciation                             (499)           (250)
                                                       --------        --------
                                                       $ 30,097        $  2,667
                                                       ========        ========

         Switching equipment under construction  represents the costs associated
with the purchase of AT&T switching equipment and the related installation costs
incurred  through  December  31,  1996  for  the  deployment  of  the  Company's
telecommunications network -- One Better Net ("OBN").

                                      -47-

<PAGE>
                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 4 - INTANGIBLES

                                                      Year ended December 31,
                                                     --------------------------
                                                        1996             1995
                                                        ----             ----
                                                           (In thousands)

Goodwill                                              $18,356           $    -
Other                                                   6,533            3,064
                                                      -------            -----
                                                       24,889            3,064
Less:  Accumulated amortization                         3,787            1,574
                                                      -------            -----
                                                      $21,102           $1,490
                                                      =======           ======

         Amortization  expense was  $2,213,000,  $1,157,000 and $417,000 for the
years ended December 31, 1996, 1995 and 1994.

NOTE 5 - ACQUISITION

         On December 13, 1996,  in  connection  with the  settlement  of certain
disagreements  among the Company,  American Business Alliance,  Inc. ("ABA") and
the shareholders of ABA, the Company acquired substantially all of the assets of
ABA, an independent  long distance and marketing  company which was previously a
partition of the Company,  for a total purchase price of $21,369,000,  comprised
of: (1) cash payment of  $9,450,000,  (2)  assumption of $970,000 of liabilities
and  (3)  the  release  of  ABA's  outstanding  obligations  to the  Company  of
$10,949,000.

         This  transaction  was  accounted for as a purchase with the results of
ABA included in the consolidated financial statements from the acquisition date.
The cost in excess  of the net  assets  acquired  (goodwill)  was  approximately
$18,356,000  and is being  amortized  over forty years  using the  straight-line
method.

         The following pro forma  consolidated  financial  information  has been
prepared  to  reflect  the  acquisition  of the  assets  of ABA.  The pro  forma
financial  information  is based on the historical  financial  statements of the
Company and ABA. The pro forma  financial  information  is unaudited  and is not
necessarily  indicative of what the actual  results of operations of the Company
would have been  assuming the  transaction  had been  completed as of January 1,
1995 and neither is it  necessarily  indicative of the results of operations for
future periods.

                                                        Year ended December 31,
                                                    ----------------------------
                                                       1996            1995
                                                    ------------    -----------
                                                     (unaudited)     (unaudited)
                                                              (In thousands)

Net sales                                            $233,067           $181,220

Net income                                             13,778             10,269

Net income per share                                      .24                .31

         The above pro forma operating results include each company's results of
operations for the indicated years and have been adjusted to adopt the Company's
accounting  policy for ABA's  marketing  costs  (amortization  of certain direct
marketing  costs  over a six month  period),  reflect  the  amortization  of the
goodwill, as generated by the acquisition, over a 40 year period, elimination of
the  interest  income on the  $9,450,000  cash  payment in  connection  with the
acquisition  and  reduction of provision  for income  taxes  resulting  from the
utilization of ABA's net operating losses. 

                                      -48-

<PAGE>
                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



NOTE 6 -- REVOLVING LOAN AGREEMENT

         In March 1996, the Company entered into a revolving loan agreement with
an unsecured, committed line of credit with a bank under which borrowings of $50
million are available  through March 18, 1997. The Company is required to pay an
availability  fee  per  annum  of  0.125%  of the  total  available  borrowings.
Principal is payable upon demand by the bank. Interest is payable monthly at the
bank's prime rate less 0.5% or LIBOR plus 0.875%, at the Company's option. Under
the  terms  of the  agreement,  the  Company  must  maintain  certain  financial
covenants and adhere to certain restrictions.  At December 31, 1996, the Company
had no borrowings  outstanding  under the agreement.  During  February 1997, the
bank provided a temporary  increase in the amount  available under the agreement
to $60 million.

NOTE 7 -- RELATED PARTY TRANSACTIONS

         In connection  with the  Reorganization  (Note 1(b)),  the Company made
distributions of the Company's 1995 taxable income through September 19, 1995 of
approximately $13,200,000 in 1995 to its two founding stockholders.

NOTE 8 -- STOCKHOLDERS' EQUITY

         (a)  1996 Public Offering

         The Company  consummated  a public  offering  (the "1996  Offering") of
18,568,000  shares of common  stock  (adjusted  to reflect the most recent stock
split,  Note 8(c)),  including the underwriter's  over-allotment,  at a price of
$8.75  per share in April  and May,  1996.  Of the  18,568,000  shares  offered,
17,068,000  were sold by the Company  and  1,500,000  were sold by the  majority
stockholder.  Proceeds of the 1996  Offering to the Company,  less  underwriting
discounts of approximately $9,302,000, were approximately $140,043,000. Expenses
for the 1996 Offering were  approximately  $974,000 resulting in net proceeds to
the Company of  approximately  $139,069,000.  The  majority  stockholder  used a
portion  of his  proceeds  to  repay  his  outstanding  indebtedness,  including
interest, to the Company.

         (b) Initial Public Offering

         In September  and October,  1995,  the Company  consummated  its IPO of
10,350,000 shares of common stock (adjusted to reflect stock splits, Note 8(c)),
including the underwriter's overallotment option, at a price of $4.59 per share.
Proceeds of the offering less underwriting discounts of approximately $3,151,000
were  $44,287,000.  Expenses  for  the  IPO  totaled  approximately  $1,450,000,
resulting in net proceeds to the Company of approximately $42,837,000.

         In  connection  with the IPO, the Company  issued  warrants to purchase
900,000  shares of common stock to the  underwriter.  The exercise  price of the
warrants  is $5.73  per  share of  common  stock  and such  warrants  expire  on
September 21, 2000.

         (c) Stock Splits

         On  January  3,  1997,  the  Company's  Board of  Directors  approved a
two-for-one split of the common stock in the form of a 100% stock dividend.  The
additional shares resulting from the stock split were distributed on January 31,
1997 to all stockholders of record at the close of business on January 17, 1997.
The  consolidated  balance  sheet as of December  31, 1996 and the  consolidated
statement of  stockholders'  equity for the year ended December 31, 1996 reflect
the recording of the stock split as if it had occurred on December 31, 1996.

                                      -49-

<PAGE>
                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

         On February  16, 1996,  the  Company's  Board of  Directors  approved a
three-for-two split of the common stock in the form of a 50% stock dividend. The
additional  shares  resulting from the stock split were distributed on March 15,
1996,  to all  stockholders  of record at the close of business on February  29,
1996.  The  consolidated   balance  sheet  as  of  December  31,  1995  and  the
consolidated  statement of stockholders'  equity for the year ended December 31,
1995 reflect the  recording of the stock split as if it had occurred on December
31, 1995.

         Further,  all references in the  consolidated  financial  statements to
average  number of shares  outstanding  and related  prices,  per share amounts,
warrant and stock option data have been  restated for all periods to reflect the
stock splits.

         (d) Authorized Shares

         During  1996,  the Board of  Directors  and  stockholders  approved the
increase in the number of  authorized  shares of the  Company's  $0.01 par value
common stock to 100,000,000 shares.

NOTE 9 - STOCK OPTIONS AND WARRANTS

         (a) Stock Options

         At December 31, 1996,  the Company had option  agreements  with most of
its key employees  and had one stock option plan.  The  agreements  and plan are
more fully described  below.  The Company applies  Accounting  Principles  Board
Opinion ("APB") No. 25,  "Accounting for Stock Issued to Employees," and related
Interpretations  in accounting for the agreement and the plan. Under APB No. 25,
when the exercise  price of the  Company's  employee  stock  options  equals the
market price of the underlying  stock on the date of the grant,  no compensation
cost is recognized.  The following is a summary of the agreements and the option
plan:

         Prior to the Company's Initial Public Offering in September,  1995, the
Company  granted ten key employees  options to purchase  shares of the Company's
common stock.  The options,  which were valued based on the fair market value of
the Company at the date of grant,  vest 22 months from the date of issuance  and
expire five years from the date of grant. All options were vested as of December
31, 1996.

         In  September  1995 and March  1996,  the  Company  granted  options to
purchase a total of 70,000 shares of common stock to each of the two nonemployee
directors of the Company.

         In September  1995, the Company's  Board of Directors and  stockholders
adopted the Company's  1995 Employee Stock Option Plan (the "Option Plan") which
provided for the granting of up to 1,950,00 shares of common stock. An amendment
to the Option Plan was approved by the Board of Directors  and  stockholders  in
April 1996  increasing  the  authorized  number of options  which can be granted
under the Option Plan to 5,000,000  shares of common  stock.  As of December 31,
1996, 4,985,000 options had been granted under the Option Plan.

         In 1996 the Company granted certain employees  3,561,000  non-qualified
options to purchase shares of the Company's common stock.

         The exercise  price of all stock options  granted under the  agreements
and Option Plan is at least equal to the fair market value of such shares on the
date of the grant.  Options become  exercisable from one to three years from the
date of the grant.

                                      -50-

<PAGE>
                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

         SFAS No. 123, "Accounting for Stock-Based  Compensation,"  requires the
Company to provide pro forma  information  regarding net income and earnings per
share  as if  compensation  cost  for  the  Company's  stock  options  had  been
determined in accordance with the fair value-based method prescribed in SFAS No.
123. The Company estimates the fair value of each stock option at the grant date
by  using   the   Black-Scholes   option-pricing   model   with  the   following
weighted-average assumptions used for grants in 1995 and 1996, respectively:  no
dividends paid for all years; expected volatility of 40.4% for all years (due to
the Company's  limited trading  history,  average  volatility of several similar
telecommunication companies was used); weighted average risk-free interest rates
of 5.8% and 5.7%, respectively; and expected lives of 1 to 4 years.

         Under the  accounting  provisions  of SFAS No. 123, the  Company's  net
income and earnings  per share would have been reduced to the pro forma  amounts
indicated below.


                                                       1996               1995
                                                       ----               ----
Net income (in thousands)

     As reported                                     $   20,168       $   10,819

     Pro forma                                       $   16,521       $   10,436

Primary earnings

     As reported                                     $      .35       $      .32

     Pro forma                                       $      .29       $      .31

Fully diluted earnings per share

     As reported                                     $      .35       $      .32

     Pro forma                                       $      .28       $      .31


                                      -51-

<PAGE>
                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

         The following tables contain information on stock options for the three
year period ended December 31, 1996:
<TABLE>
<CAPTION>
                                                                           Exercise             Weighted
                                                                         price range            average
                                                   Option Shares          per share          exercise price
-------------------------------------------------------------------------------------------------------------
<S>                  <C>                                <C>                       <C>                   <C> 
Outstanding, January 1, 1994                            1,515,600                 $.32                  $.32
Granted                                                   940,200           $.59-$1.57                  $.75
-------------------------------------------------------------------------------------------------------------
Outstanding, December 31, 1994                          2,455,800           $.32-$1.57                  $.48
Granted                                                 1,950,000                $4.58                 $4.58
-------------------------------------------------------------------------------------------------------------
Outstanding, December 31, 1995                          4,405,800           $.32-$4.58                 $2.30
Granted                                                 6,736,000         $4.09-$12.00                 $7.96
Exercised                                              (2,158,000)          $.32-$5.67                 $2.28
-------------------------------------------------------------------------------------------------------------
Outstanding, December 31, 1996                          8,983,800          $.32-$12.00                 $6.54
-------------------------------------------------------------------------------------------------------------
<CAPTION>
                                                                           Exercise             Weighted
                                                                         price range            average
Exercisable at year-end                            Option Shares          per share          exercise price
-------------------------------------------------------------------------------------------------------------
         1994                                                   -                    -                     -
         1995                                           1,515,600                 $.32                  $.32
         1996                                           2,649,800           $.32-$4.58                 $2.82
-------------------------------------------------------------------------------------------------------------
<CAPTION>

Options granted in                                                   Weighted-average fair value
-------------------------------------------------------------------------------------------------------------
         1995                                                                    $1.14
         1996                                                                    $2.39
-------------------------------------------------------------------------------------------------------------
</TABLE>

         The  following  table  summarizes   information   about  stock  options
outstanding at December 31, 1996:
<TABLE>
<CAPTION>


                                                                       Range of exercise prices
-------------------------------------------------------------------------------------------------------------
<S>                             <C>               <C>             <C>               <C>                <C>        
                                $.32-$1.57        $4.09-$5.92     $8.25-$9.63       $10.50-$12.00      $.32-$12.00
                              --------------    --------------   -------------     ---------------    -------------

Outstanding Options
Number outstanding
at December 31, 1996              1,114,800        4,308,000          505,000          3,056,000         8,983,800

Weighted-average
remaining contractual
life (years)                           1.64             2.07             2.42               2.59              2.21
Weighted-average
exercise price                         $.38            $4.74            $8.68             $10.98             $6.54

Exercisable options
Number outstanding
at December 31, 1996              1,114,800        1,535,000                -                  -         2,649,800

Weighted-average
exercise price                         $.38            $4.58                -                  -             $2.82
</TABLE>


                                      -52-

<PAGE>
                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

         (b)  Warrants

         At December 31, 1996, the Company had warrant  agreements  with certain
         partitions and the  underwriter  for its IPO (Note 8(b)).  All warrants
         were issued with exercise  prices equal to or above the market price of
         the  underlying  stock at the date of the  grant.  These  warrants  are
         accounted  for  based  on their  fair  value.  At  December  31,  1996,
         1,900,000  warrants were  outstanding with exercise prices ranging from
         $4.67 to $5.73  and an  average  weighted  exercise  price of $5.00 and
         600,000 which were currently  exercisable at a weighted  exercise price
         of $5.73. The remaining warrants are exercisable over a one to two year
         period  beginning in January  1997.  Further,  at December 31, 1996, an
         additional  1,812,000  warrants were  outstanding  although the Company
         currently  does not believe that the  performance  criteria  associated
         with these warrants will be satisfied.  In January 1997, 800,000 of the
         warrants  were  purchased by the Company and recorded as a reduction in
         additional paid-in capital. See also Note 13.

NOTE 10 -- INCOME TAXES

         On June 1, 1991,  the  Company,  with the consent of its  stockholders,
elected  to be  taxed as an S  Corporation.  As a result  of the  election,  all
earnings of the Predecessor Corporation were taxed directly to the stockholders.
Accordingly,  the  statements  of income  prior to  September  20,  1995 did not
include  provisions for income taxes.  In connection  with the Company's IPO, as
described in Note 8(b),  on September  19, 1995,  the Company  terminated  its S
Corporation  status.  Pro forma tax  provisions  have been  calculated as if the
Company's  results  of  operations  were  taxable as a C  Corporation  under the
Internal Revenue Code for the years ended December 31, 1995 and 1994.

         The following summarizes the provision for pro forma income taxes:


                                                Year ended December 31,
                                                -----------------------
                                                 1995              1994
                                                 ----              ----
                                                     (In thousands)

Current:
 Federal                                         $5,574          $2,892
 State and local                                  1,639             850
                                                  -----             ---
Pro forma provision for income  taxes            $7,213          $3,742
                                                 ======          ======

         The provision for pro forma income taxes on adjusted  historical income
for the two years in the period  December  31,  1995  differs  from the  amounts
computed  by  applying  the  applicable  Federal  statutory  rates  due  to  the
following:
<TABLE>
<CAPTION>
                                                                                 Year ended December 31,
                                                                               -------------------------
                                                                                1995                1994
                                                                                ----                ----
                                                                                     (In thousands)
<S>                                                                              <C>              <C>   
Provision for Federal income taxes at the statutory  rate                        $6,311           $3,274
State and local income taxes, net of Federal benefit                              1,082              561
Other                                                                              (180)             (93)
                                                                               --------        ---------
Pro forma provision for income taxes                                             $7,213           $3,742
                                                                               ========        =========
</TABLE>

                                      -53-

<PAGE>
                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


         As a result of the termination, the Company was required to provide for
taxes on income for the period  subsequent  to  September  19,  1995 and for the
previously  earned and  untaxed S  Corporation  income  which has been  deferred
primarily  as a result of reporting on a cash basis.  The  provision  for income
taxes for the years ended December 31, 1996 and 1995 consisted of the following:

                                         Year ended December 31,
                                     -------------------------------
                                         1996               1995
                                         ----               ----
                                               (In thousands)
Current:
 Federal                               $10,995              $4,379
 State and local                         1,817               1,809
                                       ---------            -------
  Total  current                        12,812               6,188
Deferred:
 Federal                                  (607)              2,201
 State and  local                            -                 608
                                       ---------            -------
  Total  deferred                         (607)              2,809
                                       ---------            ------
                                       $12,205              $8,997
                                       =========            =======

         A  reconciliation  of the Federal  statutory  rate to the provision for
income taxes is as follows:
<TABLE>
<CAPTION>

                                                                        Year ended December 31,
                                                 --------------------------------------------------------------------
                                                                   1996                              1995
                                                 --------------------------------    --------------------------------
                                                  (In thousands)                     (In thousands)
<S>                                                    <C>                 <C>             <C>                <C>  
Federal income taxes computed at the
statutory rate                                         $11,331              35.0%          $6,311              35.0%
Increase (decrease):
Federal income taxes at the statutory rate
from  January 1, 1995 to September 19, 1995                  -                 -           (4,086)            (22.7)
Federal and state taxes resulting from cash to
   accrual basis for tax reporting                           -                 -            6,399              35.5
State income taxes less Federal benefit                  1,199               3.7              373               2.1
Other                                                     (325)             (1.0)               -                 -
                                                  -------------    --------------    -------------    ---------------
Total provision for income taxes                       $12,205              37.7%          $8,997              49.9%
                                                  =============    ==============    =============    ==============
</TABLE>

         Deferred  tax  (assets)  liabilities  at December 31, 1996 and 1995 are
comprised of the following elements:
<TABLE>
<CAPTION>
                                                                                     Year ended December 31,
                                                                             ----------------------------------- 
                                                                                    1996                  1995
                                                                             -------------        -------------- 
                                                                                        (In thousands)
<S>                                                                               <C>                <C>       
Taxable loss carryforwards                                                        $(3,705)              $    -
Federal and state taxes resulting from cash
     to accrual basis for tax reporting                                             2,342                3,130
Amortization of certain intangibles                                                   (85)                (227)
Other                                                                                 (55)                 (94)
                                                                             --------------       -------------- 
Deferred tax (assets) liabilities (included in other assets for 1996)             $(1,503)              $2,809
                                                                             ==============       ==============
</TABLE>


                                      -54-

<PAGE>
                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



NOTE 11 -- STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>

                                                               Year ended December 31,
                                                        ----------------------------------
                                                         1996          1995          1994
                                                         ----          ----          ----
                                                                  (In thousands)
<S>                                                     <C>           <C>          <C>  
Supplemental disclosure of cash flow information: 
 Cash paid for:
 Interest                                                 $   47        $   24     $  55
                                                        ========      ========     =====
 Income taxes                                             $1,090        $3,813     $  --
                                                        ========      ========     =====
</TABLE>

          In connection  with the  acquisition of the assets of ABA, the Company
released ABA of its outstanding  obligations to the Company of $10,949,000 (Note
5). During 1996, the Company  recorded an intangible of $1,077,000 in connection
with the issuance of warrants to certain partitions (Note 9(b)).

         During  1995,  the  Company  issued the Cash Flow Note in the amount of
$6,900,000  to the  minority  stockholder  of  the  Predecessor  Corporation  in
connection with the IPO and Reorganization (Note 1(b)).

NOTE 12 -- QUARTERLY FINANCIAL DATA (UNAUDITED)
<TABLE>
<CAPTION>

                                                      First         Second               Third               Fourth
                                                      Quarter       Quarter              Quarter             Quarter
                                                      -------       -------              -------             -------
                                                                (In thousands, except for share data)
<S>                                                     <C>          <C>                <C>                 <C>    
1996
   Sales                                                $51,065      $57,015            $60,079             $64,265
   Gross profit                                           6,832        7,387              8,323               9,285
   Operating income                                       4,546        4,882              5,871               6,489
   Net income                                             3,377        4,058              7,032               5,701
   Net income per share - Primary                          0.08         0.07               0.11                0.09
   Net income per share - Fully Diluted                    0.07         0.07               0.11                0.09

1995
   Sales                                                $36,617      $44,728            $48,366             $50,391
   Gross profit                                           5,374        6,113              5,670               6,824
   Operating income                                       4,213        4,855              4,008               4,625
   Net income                                             2,555        2,897              2,519               2,848
   Net income per share - Primary                          0.08         0.09               0.08                0.07
   Net income per share-Fully Diluted                      0.08         0.09               0.08                0.07
</TABLE>


                                      -55-

<PAGE>
                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 13 - SUBSEQUENT EVENT

         On February 25, 1997, the Company  announced that it had entered into a
Telecommunications  Marketing  Agreement  (the  "AOL  Agreement"),  dated  as of
February 22, 1997 and  effective as of February 25, 1997,  with America  Online,
Inc.  ("AOL"),  under  which  the  Company  will be the  exclusive  provider  of
long-distance  telecommunications  services  to be marketed by AOL to all of the
subscribers  to AOL's online  network under a distinctive  brand name to be used
exclusively for the Company's services.  The services will include provision for
online sign-up,  call detail and reports and credit card payment.  Under the AOL
Agreement,  AOL will  provide  millions  of  dollars of online  advertising  and
promotion of the services  and provide all of its  subscribers  with access to a
dedicated  service area online for the Company.  AOL subscribers who sign-up for
the telecommunications services will be customers of the Company, as the carrier
providing  such  services.  The Company  also has certain  rights  under the AOL
Agreement  to  offer,  on a  comparably  exclusive  basis,  local  and  wireless
telecommunications services when available.

         It is anticipated  that the services will be tested in the early summer
and offered  generally to AOL subscribers in the fall of 1997. The AOL Agreement
has an initial term of three years and can be extended by AOL on an annual basis
thereafter.

         Under  the AOL  Agreement,  the  Company  made an  initial  payment  of
$100,000,000 to AOL at signing and agreed to provide  marketing  payments to AOL
based on a percentage  of the Company's  profits from the services  (between 50%
and 70%,  depending  on the  number of  subscribers  to the  services).  The AOL
Agreement  provides  that $43 million of the initial  payment will be offset and
recoverable  by the Company  through  reduction of such  profit-based  marketing
payments  during the initial term of the AOL  Agreement  or,  subject to certain
monthly reductions by offset of the amount thereof, directly by AOL upon certain
earlier  terminations  of the AOL  Agreement.  The $57  million  balance  of the
initial  payment will be offset and is recoverable  through a percentage of such
profit-based  marketing  payments  made  after the first  five  years of the AOL
Agreement  (when  extended  beyond  the  initial  term) and by offset  against a
percentage of AOL's share of the profits from the services after  termination or
expiration of the AOL  Agreement.  Any portion of the $43 million not previously
recovered  or reduced in amount  would be added to the $57  million and would be
recoverable similarly.

         Also under the AOL Agreement,  the Company issued to AOL at signing two
warrants to purchase shares of the Company's  common stock at a premium over the
market  value of such stock on the issuance  date.  One warrant is for 5 million
shares, at an exercise price of $15.50 per share,  one-half of which shares will
vest at the time the  service is first made  generally  available  to AOL online
network   subscribers  in  accordance  with  the  AOL  Agreement  or  the  first
anniversary of the warrant  issuance,  whichever is earlier,  and the balance of
which will vest on the first  anniversary  of issuance if the AOL  Agreement has
not terminated.  The other warrant is for up to 7 million shares, at an exercise
price of $14.00 per share, which will vest,  commencing December 31, 1997, based
on the number of  subscribers  to the services and would vest fully if there are
at least 3.5 million such  subscribers  at any one time. The Company also agreed
to issue to AOL an additional warrant to purchase 1 million shares of its common
stock,  at  market  value at the time of  issuance,  upon  each of the first two
annual  extensions by AOL of the term of the AOL Agreement,  which warrants also
will vest based on the number of subscribers to the services.

         The Company  funded the $100 million  initial  payment by borrowing $50
million under its revolving  loan  agreement  under a temporary  increase in the
agreement to  $60 million  (Note 6), and an  additional  $50 million as a margin
advance from one of its brokers.  Currently,  the Company holds a U.S.  Treasury
Bill with a face  value of $150  million,  which  matures  in  November 1997, as
security for the advance.


                                      -56-

<PAGE>

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

   Not applicable.



                                    PART III

ITEMS 10 THROUGH 13.

         Information  required  by Part III (Items 10  through  13) of this Form
10-K is  incorporated by reference to the Company's  definitive  proxy statement
for the Annual Meeting of Stockholders to be held in April or May of 1997, which
will be filed with the  Securities  and Exchange  Commission  not later than 120
days after the end of the fiscal year to which this Form 10-K relates.



                                      -57-

<PAGE>

                                     PART IV


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

         (a) The following  documents are filed as part of this annual Report on
Form 10-K.

         1. Consolidated Financial Statements:

         The Consolidated  Financial  Statements filed as part of this Form 10-K
are listed in the "Index to Consolidated Financial Statements" in Item 8.

         2. Consolidated Financial Statement Schedule:

         The  Consolidated  Financial  Statement  Schedule filed as part of this
report is listed in the "Index to S-X Schedule."

         Schedules  other than  those  listed in the  accompanying  Index to S-X
Schedule  are  omitted  for the reason  that they are either not  required,  not
applicable,  or  the  required  information  is  included  in  the  Consolidated
Financial Statements or notes thereto.



                                      -58-

<PAGE>




                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES
                              INDEX TO S-X SCHEDULE




                                                                           PAGE
                                                                           ----



Report of Independent Certified Public Accountants                          60
Schedule II -- Valuation & Qualifying Accounts                              61




                                      -59-

<PAGE>




               REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS

To the Board of Directors
and Stockholders of Tel-Save Holdings, Inc.

         The audits referred to in our report dated January 29, 1997 relating to
the  consolidated   financial   statements  of  Tel-Save   Holdings,   Inc.  and
subsidiaries,  which is  contained  in Item 8 of this Form  10-K,  included  the
audits of the financial  statement schedule listed in the accompanying index for
each of the three years in the period ended  December 31, 1996.  This  financial
statement schedule is the responsibility of management. Our responsibility is to
express an opinion on this schedule based on our audits.

         In our opinion,  the financial  statement  Schedule II -- Valuation and
Qualifying Accounts,  presents fairly, in all material respects, the information
set forth therein.




/s/ BDO Seidman, LLP
BDO Seidman, LLP

New York, New York
January 29, 1997



                                      -60-

<PAGE>





                    TEL-SAVE HOLDINGS, INC. AND SUBSIDIARIES
                SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
                                 (IN THOUSANDS)
<TABLE>
<CAPTION>
                                                                  Charged
                                                  Balance at      to Costs
                                               Beginning of          and             Other                       Balance at
Description                                         Period        Expenses          Changes     Deductions     End of Period
-----------                                         ------        --------          -------     ----------     -------------
Year ended December 31, 1996:
<S>                                                     <C>              <C>       <C>               <C>               <C> 
   Reserves and allowances deducted from asset accounts:
   Allowance for uncollectible
       accounts                                         $804             $38       $145(a)           $ --              $987
                                                        ====             ===       =======           ====              ====

Year ended December 31, 1995:

   Reserves and allowances deducted
         from asset accounts:
   Allowance for uncollectible
      accounts                                          $987           $(13)     $(170)(a)         $   --              $804
                                                        ====           =====     =========         ======              ====

Year ended December 31, 1994:

 Reserves and allowances deducted from asset accounts:
 Allowance for uncollectible
   accounts                                             $287             $53       $647(a)        $    --              $987
                                                        ====             ===       =======        =======              ====

   (a)  Amount  represents  portion  of change in  allowance  for  uncollectible
accounts applied against Accounts Payable - Partitions.

</TABLE>


                                      -61-

<PAGE>




         (3) Exhibits:
<TABLE>
<CAPTION>
EXHIBIT NO.          DESCRIPTION
----------           ----------------------------------------------------------------------------------------------
<S>                  <C>                                                                                                   
2.1                  Plan of  Reorganization  Between and among Tel-Save  Holdings,  Inc., a Delaware  Corporation,
                     Tel-Save, Inc., a Pennsylvania  Corporation,  Daniel Borislow and Paul Rosenberg, and Exhibits
                     Thereto  (Incorporated  by reference to Exhibit 2.1 to the  Company's  registration  statement
                     on Form S-1 (File No. 33-94940)).

3.1                  Amended and Restated  Certificate of  Incorporation of the Company,  as amended  (incorporated
                     by  reference  to Exhibit 3.1 to the  Company's  registration  statement on Form S-1 (File No.
                     33-94940)).

3.2                  Bylaws  of  the  Company   (incorporated   by  reference  to  Exhibit  3.2  to  the  Company's
                     registration statement on Form S-1 (File No. 33-94940)).

9.1                  Voting  Trust  Agreement  between  Daniel  Borislow  and Paul  Rosenberg  (included as part of
                     Exhibit 2.1).

10.1*                Employment   Agreement   between  the  Company  and  Daniel  Borislow  and  related  Agreement
                     (incorporated  by reference to Exhibit 10.1 to the  Company's  registration  statement on Form
                     S-1 (File No. 33-94940)).

10.2*                Employment  Agreement between the Company and Emanuel J. DeMaio  (incorporated by reference to
                     Exhibit 10.2 to the Company's registration statement on Form S-1 (File No. 33-94940)).

10.3*                Employment  Agreement  between the Company and Gary W. McCulla  (incorporated  by reference to
                     Exhibit 10.3 to the Company's registration statement on Form S-1 (File No. 33-94940)).

10.4*                Employment  Agreement  between the Company and Joseph A. Schenk  (incorporated by reference to
                     Exhibit 10.4 to the Company's registration statement on Form S-1 (File No. 333-2738)).

10.5*                Employment  Agreement between the Company and Aloysius T. Lawn,  IV(incorporated  by reference
                     to Exhibit 10.5 to the Company's registration statement on Form S-1 (File No. 333-2738)).

10.6*                Employment Agreement between the Company and Edward B. Meyercord, III.
 
10.7                 Indemnification  Agreement between the Company and Daniel Borislow  (incorporated by reference
                     to Exhibit 10.4 to the Company's registration statement on Form S-1 (File No. 33-94940)).

10.8                 Indemnification  Agreement  between  the  Company  and  Emanuel  J.  DeMaio  (incorporated  by
                     reference  to  Exhibit  10.5 to the  Company's  registration  statement  on Form S-1 (File No.
                     33-94940)).

10.9                 Indemnification  Agreement between the Company and Gary W. McCulla  (incorporated by reference
                     to Exhibit 10.6 to the Company's registration statement on Form S-1 (File No. 33-94940)).


                                      -62-

<PAGE>



10.10                Indemnification   Agreement  between  the  Company  and  Joseph  M.  Morena  (incorporated  by
                     reference  to  Exhibit  10.7 to the  Company's  registration  statement  on Form S-1 (File No.
                     33-94940)).

10.11                Indemnification  Agreement  between  the  Company  and  Peter  K.  Morrison  (incorporated  by
                     reference  to  Exhibit  10.8 to the  Company's  registration  statement  on Form S-1 (File No.
                     33-94940)).

10.12                Indemnification  Agreement  between the Company and Kevin R. Kelly  (incorporated by reference
                     to Exhibit 10.9 to the Company's registration statement on Form S-1 (File No. 33-94940)).

10.13                Indemnification  Agreement  between the Company and  Aloysius  T. Lawn,  IV  (incorporated  by
                     reference to Exhibit 10.12 to the Company's  Form 10-K for the Fiscal year ended  December 31,
                     1995).

10.14                Indemnification Agreement between the Company and Edward B. Meyercord, III.

10.15                Agreement  dated as of March 15, 1994  between the Company and Global  Network  Communications
                     (incorporated  by reference to Exhibit 10.10 to the Company's  registration  statement on Form
                     S-1 (File No. 33-94940)).

10.16                AT&T  Contract  Tariff No. 516  (incorporated  by reference to Exhibit  10.11 to the Company's
                     registration statement on Form S-1 (File No. 33-94940)).

10.17                AT&T  Contract  Tariff No. 1715  (incorporated  by reference to Exhibit 10.15 to the Company's
                     registration statement on Form S-1 (File No. 333-2738)).

10.18                AT&T  Contract  Tariff No. 2039  (incorporated  by reference to Exhibit 10.16 to the Company's
                     registration statement on Form S-1 (File No. 333-2738)).

10.19                AT&T  Contract  Tariff No. 2432  (incorporated  by reference to Exhibit 10.17 to the Company's
                     registration statement on Form S-1 (File No. 333-2738)).

10.20                AT&T  Contract  Tariff No. 3628  (incorporated  by reference to Exhibit 10.18 to the Company's
                     registration statement on Form S-1 (File No. 333-2738)).

10.21                AT&T  Contract  Tariff No. 5776.

10.22                $50,000,000  line of credit  from PNC  Bank,  N.A.,  dated  March 22,  1996  (incorporated  by
                     reference  to Exhibit  10.19 to the  Company's  registration  statement  on Form S-1 (File No.
                     333-2738)).

10.23                Modification Agreement between the Company and PNC Bank, N.A. dated February 24, 1997.

10.24+               General Agreement between Tel-Save,  Inc. and AT&T Corp. dated June 26, 1995  (incorporated by
                     reference  to Exhibit  10.14 to the  Company's  registration  statement  on Form S-1 (File No.
                     33-94940)).

10.25*               Tel-Save  Holdings,  Inc.  1995  Employee  Stock  Option Plan  (incorporated  by  reference to
                     Exhibit 10.15 to the Company's registration statement on Form S-1 (File No. 33-94940)).


                                      -63-

<PAGE>



10.26*               Tel-Save  Holdings,  Inc.  Employee  Bonus Plan  (incorporated  by reference to page 13 of the
                     Company's Proxy  Statement for the Company's 1996 Annual Meeting of  Stockholders  dated April
                     3, 1996).

10.27*               Non-Qualified  Stock Option  Agreement  between the Company and Daniel Borislow  (incorporated
                     by reference to Exhibit  10.17 to the Company's  registration  statement on Form S-1 (File No.
                     33-94940)).

10.28*               Non-Qualified  Stock Option Agreement between the Company and Emanuel J. DeMaio  (incorporated
                     by reference to Exhibit  10.18 to the Company's  registration  statement on Form S-1 (File No.
                     33-94940)).

10.29*               Non-Qualified  Stock Option  Agreement  between the Company and Mary Kennon  (incorporated  by
                     reference  to Exhibit  10.19 to the  Company's  registration  statement  on Form S-1 (File No.
                     33-94940)).

10.30*               Non-Qualified  Stock Option  Agreement  between the Company and Gary W. McCulla  (incorporated
                     by reference to Exhibit  10.20 to the Company's  registration  statement on Form S-1 (File No.
                     33-94940)).


10.31*               Non-Qualified  Stock Option Agreement between the Company and Peter K. Morrison  (incorporated
                     by reference to Exhibit  10.22 to the Company's  registration  statement on Form S-1 (File No.
                     33-94940)).

10.32++              Telecommunications  Marketing  Agreement by and among the Company,  Tel-Save,  Inc. and America
                     Online, Inc., dated February 22, 1997.

11.1                 Net Income Per Share  Calculation.

21.1                 Subsidiaries  of the Company.

23.1                 Consent of BDO Seidman, LLP.

27                   Financial Data Schedule.

----------
   * Management contract or compensatory plan or arrangement.

   + Confidential treatment previously has been granted for a portion of this exhibit.

   ++ Confidential treatment has been requested for a portion of this exhibit.

   (b) Reports on Form 8-K.

   The following  Current  Reports on Form 8-K were filed by the Company  during
the three months ended December 31, 1996:

   1.   Current Report on Form 8-K dated December 30, 1996.

   2.    Current Report on Form 8-K dated November 18, 1996.

</TABLE>


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<PAGE>



                                   SIGNATURES

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

Dated:                                          TEL-SAVE HOLDINGS, INC.
March 18, 1997

                                                By: /s/ Daniel Borislow
                                                    ----------------------------
                                                      Daniel Borislow
                                                      Chairman of the Board,
                                                      Chief Executive Officer
                                                      and Director

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

March 18, 1997                                By: /s/ Daniel Borislow
                                                  -------------------
                                                     Daniel Borislow
                                                     Chairman of the Board,
                                                      Chief Executive
                                                      Officer and Director

                                              By: 
                                                  -------------------
                                                    Gary W. McCulla
                                                    President, Director of Sales
                                                     and Marketing and Director

March 18, 1997                                By: /s/ Emanuel J. DeMaio
                                                  ---------------------
                                                     Emanuel J. DeMaio
                                                     Chief Operations
                                                      Officer and Director

March 18, 1997                                By: /s/ Joseph A. Schenk
                                                  --------------------
                                                     Joseph A. Schenk
                                                     Chief Financial Officer, 
                                                      Treasurer and Director

March 18, 1997                                By: /s/ Kevin R. Kelly
                                                  ------------------
                                                     Kevin R. Kelly
                                                     Controller

March 18, 1997                                By:  /s/ George Farley
                                                   -----------------
                                                     George Farley
                                                     Director

March 18, 1997                                By: /s/ Harold First
                                                  ----------------
                                                     Harold First
                                                     Director

March 18, 1997                                By: /s/ Ronald R. Thoma
                                                  -------------------
                                                     Ronald R. Thoma
                                                     Director



                                      -65-