SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                   FORM 10-KSB

              [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF
                       THE SECURITIES EXCHANGE ACT OF 1934
                   For the Fiscal Year Ended December 31, 1996

               [ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF
                       THE SECURITIES EXCHANGE ACT OF 1934
                        For the transition period from to

                         Commission File Number: 0-20307
                         AVALON COMMUNITY SERVICES, INC.
                 (Name of small business issuer in its charter)

Nevada                                                  13-3592263
(State of Incorporation)                        (I.R.S. Employer I.D. Number)

               13401 Railway Drive, Oklahoma City, Oklahoma 73114
               (Address of Principal executive offices) (Zip Code)

                    Issuer's telephone number (405) 752-8802

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

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

                 Shares of Class A Common Stock, par value $.001
                                (Title of class)

     The issuer has (1) filed all reports  required to be filed by Section 13 or
15 (d) of the Exchange Act during the past 12 months (or such shorter  period as
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 ___

     Disclosure of delinquent  filers in response to Item 405 of Regulation  S-B
is not contained in this form, and no disclosure will be contained,  to the best
of  Registrant's  knowledge,  in  definitive  proxy  or  information  statements
incorporated  by reference  in Part III of this Form 10-KSB or any  amendment to
this form 10-KSB. [ X ]

     Revenues for  continuing  operations  for the year ended  December 31, 1996
were $3,312,687 .

     The aggregate  market value of voting  common stock held by non  affiliates
was $8,780,320 on January 31, 1997, based on the average bid and asked prices of
such  stock as  reported  by the  National  Association  of  Securities  Dealers
Automated  Quotations  Systems  ("NASDAQ") on that day. As of February 28, 1997,
2,927,135 shares of the issuer's common stock, par value $.001,  were issued and
outstanding.
                      DOCUMENTS INCORPORATED BY REFERENCE:

     Portions  of  the  Proxy   Statements   for  the  1997  Annual  Meeting  of
Shareholders are incorporated by reference in Part III.6

            Transitional Small Business Disclosure Format: Yes No X .


                                TABLE OF CONTENTS
                            FORM 10-KSB ANNUAL REPORT
                      FOR THE YEAR ENDED DECEMBER 31, 1996

                                     Item

                                     PART I

1.                         Description of Business

2.                         Description of Property

3.                         Legal Proceedings

4.                         Submission of Matters to a Vote of Security Holders

                                     PART II

5.                         Market for Common Equity and Related
                                   Stockholders Matters

6.                         Management's Discussion and Analysis
                                    Or Plan of Operation

7.                         Financial Statements

8.                         Changes in and Disagreements With Accountants
                                    On Accounting and Financial Disclosure

                                    PART III

9.                         Directors, Executive Officers, Promoters and Control
                                    Persons of the Registrant

10.                        Executive Compensation

11.                        Security Ownership of Certain Beneficial Owners

12.                        Certain Relationships and Related Transactions

13.                        Exhibits and Reports on Form 8-K

                           Signatures


                AVALON COMMUNITY SERVICES, INC. AND SUBSIDIARIES


                                     PART I
ITEM 1. DESCRIPTION OF BUSINESS.

The Company -

     Avalon Community Services, Inc. ("Avalon" or the "Company"), is an Oklahoma
based corporation owning and operating private correctional  facilities.  Avalon
specializes  in  privatized  community  correctional  facilities  and  intensive
correctional   programming.   Avalon  currently  operates  in  Oklahoma,  Texas,
Missouri, and Nebraska with plans to significantly expand into additional states
throughout the  Southwest.  Avalon's  business  strategy is designed to escalate
Avalon into a dominant role as a provider of community  correctional services on
a regional  basis,  by expanding its operations  through new state contracts and
selective acquisitions, in order to capitalize on current rapid growth trends in
the privatized corrections industry.

     The privatized  community  correctional  services  industry has experienced
significant  growth in recent years. In 1994 there were 3.6 million  individuals
on probation or parole;  this  population is expected to double by the year 2005
to  7.2  million.   Community  based  alternatives  to  incarceration   includes
individuals  that have been granted  parole or sentenced  to  probation.  In the
period  from 1980 to 1994,  the  parolee  population  increased  by 213% and the
number of  individuals on probation  increased by 165%.  These  individuals  are
typically placed in pre-release  (community  corrections)  settings for the last
3-6 months on their  sentence and prepared for re-entry into the  community.  Of
the 5.1 million  individuals in the adult correctional  system in 1994, over 3.6
million or 69% were either on probation (55%) or parole (14%).  Avalon contracts
with various State agencies to provide community  corrections  services.  Avalon
believes,  with its  management's  background  and  abilities to own and operate
community correctional facilities and programing, it is fast becoming a dominant
player in the corrections industry.

     Avalon currently owns and operates 649 private community  corrections beds.
Avalon owns and  manages two (2)  minimum-security  correctional  facilities  in
Oklahoma.  Avalon  believes it is the largest  provider in Oklahoma of community
correctional   services   (505   beds).   Avalon   owns  and   manages  one  (1)
medium-security correctional facility in El Paso, Texas, used as an intermediate
sanction facility (144 beds). These facilities include many residential programs
for state offenders typically serving the last six months of their sentence.  In
addition to providing  governmental  agencies the basic services relating to the
security,  detention and care of inmates,  Avalon has developed a broad range of
rehabilitative   programs  to  reduce  recidivism,   including  substance  abuse
treatment and counseling,  vocational  training,  work release  programs,  basic
educational programs, job and life skill training, and reintegration services.

     Avalon provides  nonresidential  services for inmates in addition to owning
and operating  residential  correctional  facilities.  Avalon provides substance
abuse  treatment  services for  incarcerated  inmates in seven (7)  correctional
facilities in Nebraska,  and recently  received  contracts to provide  substance
abuse  treatment  services  in two  (2)  correctional  facilities  in  Missouri.
Intensive  programming  is an  essential  part of community  based  corrections.
Avalon has provided  substance abuse programs in facilities for over twelve (12)
years.

     Avalon's  management has been engaged in the business of providing  private
correctional  services since 1985. Avalon Enterprises,  Inc. was incorporated in
Nevada in September 1990 and acquired Southern Correction Systems,  Inc. in June
1992. Avalon Enterprises, Inc. subsequently changed its name to Avalon Community
Services,  Inc. Avalon acquired two entities in December 1993 in the business of
providing residential care services.

     Avalon  has  divested  itself  of  its  residential   care  facilities  and
outpatient mental health management,  and is currently planning on divesting its
assisted  living centers  interests to allow  management to focus on the private
community based corrections industry. Avalon is aggressively pursuing privatized
correctional  projects  both  at  the  request  for  proposal  stage  and at the
development stage.


     Avalon's  corporate  office is located at 13401  Railway  Drive in Oklahoma
City,  Oklahoma.  Avalon's  common stock is traded on the NASDAQ SmallCap Market
with the symbol "CITY".


Facilities -

     The  following  table  summarizes  certain   information  with  respect  to
facilities and programs managed by Avalon at March 21, 1997.
<TABLE>
<S>                                 <C>                           <C>                    <C>
Facility Name
And Location                        Company Role                  Capacity               Facility / Program Type
------------                        ------------                  --------               -----------------------

Carver Center,                      Complete Facility             250 Beds               Minimum Security
    Oklahoma City, OK               Management                                           Corrections

Avalon Correctional Center,         Complete Facility             255 Beds               Minimum Security
     Tulsa, OK                      Management                                           Corrections

El Paso Intermediate                Complete Facility             144 Beds               Intermediate Sanction
    Sanction Facility,              Management                                           Correctional Facility
    El Paso, TX
Nebraska State Penitentiary,        Program Management            30 Clients             Substance Abuse
     Lincoln, NE                                                                         Treatment Services

The Lincoln Correctional            Program Management            50 Clients             Substance Abuse
     Center, Lincoln, NE                                                                 Treatment Services

The Omaha Correctional              Program Management            25 Clients             Substance Abuse
     Center, Omaha, NE                                                                   Treatment Services

The Nebraska Diagnostic             Program Management            30 Clients             Substance Abuse
    And Evaluation Center,                                                               Treatment Services
     Lincoln, NE

The Nebraska Community              Program Management            30 Clients             Substance Abuse
    Corrections Center,                                                                  Treatment Services
     Lincoln,  NE

Community Correctional              Program Management            45 Clients             Substance Abuse
    Center, Lincoln, NE                                                                  Treatment Services

Community Correctional              Program Management            30 Clients             Substance Abuse
    Center, Omaha, NE                                                                    Treatment Services

Ozark Correctional Center,          Program Management            650 Clients            Substance Abuse
      Jefferson City, MO                                                                 Treatment Services

Tipton Correctional Center,         Program Management            1,088 Clients          Substance Abuse
     Tipton, MO                                                                          Treatment Services

Emerald Square,                     Complete Facility             60 Beds                Assisted Living
     Oklahoma City, OK              Management                                           For Elderly

Avalon Corporate Office,            Corporate Headquarters        N/A                    Administrative
      Oklahoma City, OK
</TABLE>

Correctional Services -

     Avalon owns and operates three correctional centers,  Carver Center, Avalon
Correctional Center and El Paso Intermediate Sanction Facility. The correctional
centers  provide  complete  correctional  administration,  correctional  officer
staffing,   room  and  board,   vocational   assistance,   transportation,   and
rehabilitation services.

     Oklahoma.  Avalon's  contracts with the Oklahoma  Department of Corrections
are one year in duration and extend  through  June 30, 1997,  with the option to
renew for two (2)  additional one year periods.  Avalon has contracted  with the
State of  Oklahoma  pursuant  to  similar  contracts  since  1985.  The State of
Oklahoma's performance under the contracts is subject to annual appropriation by
the legislature.

     Carver Center is a 250-bed minimum security  correctional  facility located
in Oklahoma  City,  Oklahoma.  Carver  Center has been expanded from its initial
capacity of 25 beds in 1985, to its current  capacity of 250 beds to accommodate
the increasing needs of the Oklahoma Department of Corrections.  During December
1996,  the average  number of inmates  residing at Carver  Center was 143 and on
March 16,  1997 the  census  was 156.  Avalon  Correctional  Center is a 255-bed
minimum security  correctional facility located in Tulsa,  Oklahoma.  The Avalon
Correctional  Center opened its 36,000 square foot facility in July,  1995.  The
average  number of inmates  residing at Avalon  Correctional  Center  during the
month of December, 1996 was 103, and on March 16, 1997 the census was 133.

     Carver Center and Avalon Correctional Center are accredited by the American
Correctional Association ("ACA") as Adult Community Correctional Facilities. ACA
accreditation  or candidacy  is required to contract  with the State of Oklahoma
for correctional services. The ACA, a private not-for-profit  organization,  was
established to develop uniformity and industry standards for inmate care.

     Texas.  Avalon purchased the El Paso  Intermediate  Sanction Facility in El
Paso, Texas in August 1996. The prison is being managed by Southern  Corrections
Systems,  Inc. a wholly owned subsidiary of Avalon.  The prison is 36,000 square
foot with a capacity  of 144 beds.  Avalon  signed a fifteen  year  contract  to
provide  services in the facility for the West Texas  Community  Supervision and
Corrections  Department in July, 1996.  Avalon also signed a three year contract
with the Texas  Department  of Criminal  Justice in November,  1996,  to provide
complete services for up to 50 male parole and mandatory supervision releases in
the facility.  This new contract brought the prison to 100% of its capacity. The
average number of inmates at the El Paso  Intermediate  Sanction Facility during
December, 1996 was 113, and the census was 127 on March 16, 1997.

     Nebraska.  Avalon was awarded a contract in February,  1996, with the State
of Nebraska  Department  of  Correctional  Services to provide  substance  abuse
treatment services. The Nebraska contract has a fifteen-month term with two (2),
two year renewal options.  The contract is to provide  substance abuse treatment
services  in  seven  prisons:  the  Nebraska  State  Penitentiary,  the  Lincoln
Correctional  Center, The Omaha Correctional Center, the Nebraska Diagnostic and
Evaluation  Center, the Nebraska  Community  Corrections Center at Lincoln,  the
Community  Correctional Center in Lincoln, and the Community Correctional Center
in Omaha. Avalon began providing the contract services in March, 1996.

     Missouri.  Avalon was awarded a four year contract in March,  1997 with the
Missouri  Department of Corrections.  The contract is to provide substance abuse
services in the Ozark  Correctional  Center, a 650 bed medium security prison in
Fordland, Missouri. Avalon is scheduled to begin providing services in the Ozark
Correctional Center on May 1, 1997.

     Avalon  was  awarded a four year  contract  in  March,  1997 with  Missouri
Department  of  Corrections.   The  contract  is  to  provide   substance  abuse
intervention  services for the Tipton  Correctional  Center,  a 1,088-bed medium
security  prison in Tipton,  Missouri.  Avalon is scheduled  to begin  providing
services in the Tipton Correctional Center in June, 1997.

     Avalon  is  evaluating   additional   correctional  projects  in  Oklahoma,
Nebraska, Colorado, Texas, Missouri, Florida, and other states.

Assisted Living -

     Assisted  living centers are designed for ambulatory,  elderly  individuals
requiring assistance with daily living services, but not requiring the intensive
medical services  provided by a nursing home. The Centers provide complete daily
living  services  including  housing,  food services,  24 hour per day staffing,
medication  monitoring,  housekeeping,  laundry  services,  transportation,  and
activities for the residents.  Avalon is divesting itself of its assisted living
center  interests  to focus on the  private  corrections  industry.  A letter of
intent for the sale of one assisted living center was signed March 20, 1997.

     Avalon entered into an agreement in 1996 to develop and operate an assisted
living center for the elderly in Oklahoma City, Oklahoma. The Center is owned by
Avalon  Retirement  Centers,  LLC, an affiliate.  Emerald Square Assisted Living
Center began operations in the fourth quarter of 1996.

     Avalon entered into an agreement in 1996 with Avalon Retirement  Centers of
Colorado,  LLC, an affiliate,  to develop and operate an assisted  living center
for the elderly in Fort Collins,  Colorado. Diamond Crest Assisted Living Center
began  operations in the fourth quarter 1996. A letter of intent to sell Diamond
Crest was signed March 20, 1997.

Residential Care -

     Avalon owned two residential care facilities in 1996 and provided  contract
management  services  for  a  third  residential  care  operation  owned  by  an
affiliate.  Residential  care facilities  provide a structured  environment with
daily activities, room and board, monitoring of medications, transportation, and
daily living  skills  classes for  residents  requiring  supportive  assistance.
During the fourth  quarter 1996, the management of Avalon decided to discontinue
the residential care segment of Avalon.

     Avalon's wholly owned  subsidiary,  Elk City  Properties,  Inc.,  owned and
operated  Connections  Supportive  Living  Center  ("Connections"),  located  in
Norman, Oklahoma, and Westcare Supportive Living Center ("Westcare"), located in
Elk City, Oklahoma.  Connections was a 60-bed facility and Westcare was a 76-bed
facility  with  eight  assisted  living  apartments.  Connections  and  Westcare
operations were closed in the fourth quarter 1996, due to financial losses.

     Avalon also provided contract  management services during 1996 for Pathways
Supportive  Living Center  ("Pathways"),  an 88-bed facility located in Oklahoma
City,  Oklahoma.  Pathways  is owned by  Southern  Community  Services,  Inc. an
affiliated  entity. The building,  utilized by Pathways,  is owned by Avalon and
was leased to Southern Community Services,  Inc. The residential care operations
were  discontinued in the fourth quarter of 1996. The building has proper zoning
for use as a  correctional  facility for female  inmates.  The building is being
renovated for use as a correctional facility for female inmates.

Competition -

     Corrections.  The  trend  in the  United  States  toward  privatization  of
government  services  and  functions  has  increased as  governments  have faced
continuing  pressure  to control  costs and  improve  the  quality of  services.
Governmental  agencies responsible for the operation of detention facilities are
privatizing  facilities and contracting with private contractors for services in
an attempt  to address  these  pressures.  Fiscal  pressures  have  forced  some
government  agencies to limit public  services  and to seek more  cost-effective
means   of   providing   the   remaining   services.   Many  do  not   have  the
readily-available  resources to make the changes to meet such  mandates and must
seek private providers.

     A  combination  of  factors  in many  states  (i.e.,  decreasing  revenues,
increasing  prison  population,  legal battles arising from  substandard  prison
conditions,  and  overcrowding)  has  led to a  revamping  of  the  corrections'
processes and a reallocation of limited prison resources.  Private  correctional
services  provide  a  substantial  economic  savings  to the  state,  allow  the
contracting governmental agency to comply with legislative and judicial pressure
to improve prison conditions. Private operated correctional management companies
are able to provide high quality services at a lower cost. Private  correctional
facilities operating as contractors for government  agencies,  pursuant to court
order or otherwise,  exist in virtually  every state.  The private  correctional
services industry has experienced rapid growth in recent years. According to the
Private Adult  Correctional  Facility  Census,  Ninth  Edition,  prepared by the
Private Corrections project, Center for Studies in Criminology & Law, University
of Florida, dated March 15, 1996, the rated capacity of international privatized
secure adult correctional facilities grew from 2,620 beds in 1986 to 63,595 beds
at year-end  1995 and, in a June 16, 1996 forecast  prepared by the Project,  is
projected to grow to 197,503 beds by year-end 2000.

     The area of  community  corrections,  like  that of all  other  corrections
sectors, has experienced substantial growth over the past decade. Often referred
to as  "community-based  alternatives to incarceration",  community  corrections
includes  individuals  that have been granted  parole or sentenced to probation.
Probation  occurs  when  an  individual  is  sentenced  for an  offense  without
incarceration;  however,  the sentence is contingent upon good behavior.  Parole
occurs when an inmate is released prior to the  completion of his/her  sentence.
These  individuals are typically placed in pre-release  (community  corrections)
settings for the last 3-6 months of their sentence and are prepared for re-entry
into the community. Over the past decade, the number of individuals on probation
and parole has  increased  dramatically.  In the period  from 1980 to 1994,  the
parolee population grew from 220,438 to 690,159, an increase of 213%. During the
same period,  the number of individuals on probation  increased from 1.1 million
to  approximately  3.0 million,  an increase of 165%.  Historical  annual growth
rates for  parole and  probation  populations  are 7.2% and 8.5%,  respectively.
Based on historical  annual growth rates,  it is projected by industry  analysts
that the parole population will increase to over 5.6 million by 2005.

     Contracts for correctional  services are awarded by government agencies and
are generally based upon competitive  bidding and quality of services  provided.
Management   believes  that  Avalon  has  several   competitive   advantages  in
contracting for correctional  services  including:  a) a twelve-year  history of
providing  quality  services to the Oklahoma  Department  of  Corrections;  b) a
geographic  location  allowing for lower  administrative  overhead  charges when
bidding against competitors for regional contracts; c) accreditation  maintained
by the American Correctional  Association since 1990 and certification as a drug
and alcohol  provider  since  1985;  and d) a high  quality  and  cost-effective
corporate  infrastructure  for  management,   marketing,  financial  management,
financial  reporting,  quality  assurance,  and  providing  support  services at
minimal costs.  Utilizing the shared costs of these  resources  allows Avalon to
develop and maintain the necessary  resources to provide quality  services while
minimizing  operating  costs by  allocating  overhead  costs among all  operated
facilities.  Access to these  services  allows Avalon to be more  competitive in
bidding contracts.

     Avalon  has  developed  a  broad  range  of  programs  intended  to  reduce
recidivism,  including  substance  abuse  treatment and  counseling,  vocational
training,  work release programs, GED classes, job and life skills training, and
reintegration services in addition to providing fundamental residential services
for adult inmates.  The management services offered by Avalon range from project
consulting to the design and development of new correctional facilities, and the
redesign,  renovations and management of older  facilities.  Avalon believes its
success  in  owning  and  operating   community   correctional   facilities  and
programming, will be the basis for becoming a dominant operator in the community
corrections industry

     Avalon  contracts with the State of Oklahoma to provide  services in Carver
Center  and  Avalon  Correctional  Center.  Avalon  contracts  with  West  Texas
Community Supervision and Correctional  Department and with the Texas Department
of  Criminal  Justice  Parole  Department  to  provide  services  in the El Paso
Intermediate  Sanction  Facility.  Revenues generated from such contracts during
1996 comprised  approximately  88% of total revenues,  of which 66% are with the
Oklahoma Department of Corrections.


     Assisted  Living.  Avalon  management  expects that as the assisted  living
centers  receives  increased  attention,  competition  will grow from new market
entrants  focusing on assisted  living  centers.  Although  Avalon  believes the
opportunities  in the assisted living  industry to be expanding,  management has
decided to divest  itself of its assisted  living  center  interest and focus on
opportunities in the private corrections industry.

Insurance -

     Avalon maintains  insurance  coverage for general  liability,  property and
contents, automobile physical damage and liability,  workers' compensation,  and
directors and officers.  Avalon  believes its existing  insurance  coverages are
adequate.

Regulations -

     Avalon's correctional facilities in Oklahoma are accredited by the American
Correctional  Association  ("ACA"),  an  independent  organization  comprised of
professionals  in the corrections  industry,  and uses compliance audit teams to
rigorously examine all aspects of the Company's  facilities and operations.  The
Company  recognizes the importance of  maintaining  high quality  management and
operations  at  its  facilities.   Accreditation  is  generally  granted  for  a
three-year period. Carver Center has been accredited since 1990 and is currently
accredited through 1999. Avalon  Correctional  Center was accredited in 1996 and
is accredited through 1999.

     The  corrections   industries  is  subject  to  federal,  state  and  local
regulations   administered   by  a  variety  of  regulatory   authorities.   The
correctional  services  offered  by Avalon in  various  states  are  subject  to
regulations  and oversight by the various state  agencies.  Management  believes
that its  operations are currently in compliance  with all  applicable  laws and
regulations affecting Avalon's business.

Employees -

     At March 18,  1997,  Avalon  had  approximately  149  full-time  employees,
including,  directors, and officers. Avalon has not experienced a work stoppage,
and management considers its employee relations to be good.

ITEM 2. DESCRIPTION OF PROPERTIES.

     Carver Center is a 250-bed minimum security  correctional  facility located
in Oklahoma City, Oklahoma. The facility is located on a five-acre tract of land
and  includes  five  buildings.  Avalon  constructed  a new 16,000  square  foot
dormitory  at  Carver  Center  in the  second  quarter  of 1995,  for a total of
approximately 35,000 square feet.

     Avalon  Correctional  Center is a  255-bed  minimum  security  correctional
facility  located in Tulsa,  Oklahoma.  The  construction  of the  approximately
36,000 square foot facility was completed in July, 1995. The Avalon Correctional
Center opened in July, 1995.

     El  Paso  Intermediate  Sanction  Facility  is a  144-bed  medium  security
correctional  facility  located in El Paso,  Texas  utilized as an  intermediate
sanction  facility.  The 36,000  square  foot  facility is a seven acre tract of
land, purchased in 1996.

     Avalon owns a remodeled  60,000 square foot  building  located in Elk City,
Oklahoma. The building is zoned for the operation of a residential care facility
or an assisted living center. This building is currently held for sale.

     Avalon owns a 32,000 square foot building in Oklahoma City,  Oklahoma.  The
building  was leased  through  December,  1996.  The  building  is zoned for the
operation  of a  residential  care  facility or a community  based  correctional
center for female  inmates.  The building is  currently  being  renovated  for a
correctional center for female inmates.

     Avalon  Corporate  Office is  located  in  Oklahoma  City,  Oklahoma,  in a
commercial building at 13401 Railway Drive, Oklahoma City, Oklahoma 73114.

     Substantially  all  property  owned by Avalon is pledged as  collateral  on
Company debt. See Note 4 to the Consolidated Financial Statements.


ITEM 3. LEGAL PROCEEDINGS.

     Avalon is a party to  litigation  arising in the normal course of business.
Management  believes that the ultimate  outcome of these matters will not have a
material effect on Avalon's financial condition or results of operations.


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

     No matters  were  submitted to a vote of Avalon's  stockholders  during the
quarter ended December 31, 1996.


                                     PART II


ITEM 5. MARKET FOR COMMON EQUITY AND RELATED SHAREHOLDER MATTERS

     Avalon's  common stock trades on the NASDAQ SmallCap Market with the symbol
"CITY".  The following  table reflects the range of high and low bid prices,  as
reported by the National  Quotation Bureau for each quarterly period during 1995
and 1996. The prices represent inter-dealer prices, without retail mark up, mark
down,  or  commission  and may not  represent  actual  transactions.  Trading in
Avalon's  common stock is limited and may not be an  indication  of the value of
the common stock.

     Quarterly Period Ended        High                Low
     -----------------------------------------------------
     March 31, 1995              $ 2 1/8             $ 1
     June 30, 1995                 2 11/16             1
     September 30, 1995            3 1/8               1
     December 31, 1995             3 3/8               2 1/4
     March 31, 1996                2 1/2               2
     June 30, 1996                 7 5/8               2 1/2
     September 30, 1996            5 7/8               4 1/8
     December 31,1996              4 3/4               3 7/8

     Avalon had  approximately  790 holders of record of its common  stock as of
March 15, 1997. No dividends were declared during 1995 and 1996.  Avalon's Board
of Directors  presently intends to retain any earnings in the foreseeable future
for use in  Avalon's  business.  Payment of  dividends  on the  Common  Stock is
restricted by terms of Avalon's revolving credit facility.

     The average of the bid and asked prices for the Common  Stock,  as reported
on the NASDAQ SmallCap Market System was $4.69 per share on February 28, 1997.


ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.

Liquidity and Capital Resources -

     The  Company's  business  strategy  is to  focus on the  private  community
corrections industry, expanding its operations into additional states within the
Southwest  region through new state  contracts and selective  acquisitions.  The
strategy includes the necessity to divest itself of it's interest in residential
care management and assisted living centers,  to allow management to concentrate
on the private corrections  industry.  The Company's strategy was implemented in
the fourth quarter 1996. All residential care facilities were discontinued.  The
losses associated with the discontinuation of the residential care facilities in
the  fourth  quarter  1996  are  reflected  on the  Consolidated  Statements  of
Operations.  A letter of intent to sell Avalon's  interest in an assisted living
center in Colorado was signed  March 20, 1997.  The  remaining  assisted  living
center will be divested during 1997.

     Working  capital at December 31, 1996 was  $179,000 for a current  ratio of
1.18. Warrants were exercised in 1996, for a net funding of $1.183 million, used
primarily  for  the  purchase  of El Paso  Intermediate  Sanction  Facility  and
operating needs.  Capital  expenditures  were $2.6 million in 1995,  compared to
$171,300 in 1996. The  significant  expenditures  during 1995 were the remaining
$381,000 for the  expansion  of Carver  Center to a 250-bed  facility,  and $1.9
million to complete the construction of the Avalon Correctional Center, Proceeds
from asset dispositions, primarily the sale of vehicles, was $45,700 in 1996 and
were utilized to retire related debt.

     The Company acquired the El Paso Intermediate Sanction Facility in El Paso,
Texas in August,  1996.  The purchase  price was  approximately  $3.681  million
including the  assumption of $2.974  million  related debt,  $200,000  cash, and
approximately  $307,000  assumption  of certain  liabilities.  The Company  also
issued 50,000 shares of common stock and 200,000 stock purchase warrants, having
a value of $200,000, relating to the acquisition.

     Avalon's  revolving  bank line of credit  provides  for  aggregate  maximum
borrowing of $500,000. Long-term debt borrowed during 1996 totaled $3.63 million
primarily  consisting of the  assumption  of the $2.974  million debt for the El
Paso Intermediate Sanction Facility, partially offset by repayments of long-term
debt.

     Avalon  believes it has  sufficient  cash reserves and ample cash flow from
operations to meet its current cash  requirements.  Based on current  contracts,
Avalon expects to generate sufficient income to realize the deferred tax assets.
Additional sources of funding may be required for future expansion.  Avalon will
explore other sources of funding such as additional bank borrowing's or the sale
of  equity  securities  for  future  expansion.  Additional  funds  may  also be
available through the exercise of Avalon's outstanding stock purchase warrants.

Results of Operations -

Year Ended December 31, 1996 Compared to the Year Ended December 31, 1995-

     Avalon had a net loss in 1995 of $84,800 or $.03 per share,  as compared to
a net loss in 1996 of $1,033,700 or $.38 per share.  The majority of the loss in
1996 was due to a loss of $976,000  on or $.36 per share loss from  discontinued
residential care operations.  The majority of loss in 1995,  $81,400 or $.03 per
share,  was due to  discontinued  park  property  management  in 1995.  The 1995
Consolidated Statement of Operations was restated to reflect the discontinuation
of residential care operations in 1996.

     Total  revenues  for  continuing  operations  increased  by 56% from $2.119
million  in 1995 to $3.313  million in 1996,  primarily  due to an  increase  in
revenue from the addition of a  correctional  facility in El Paso,  Texas and to
increased census at the Avalon Correction Center in Tulsa, Oklahoma.

     Corrections.  Operating  income,  before interest,  depreciation and income
taxes,  was $705,500  for 1996 as compared to $452,600 for 1995,  an increase of
approximately  56%.  Revenues  increased  from $2.119  million in 1995 to $3.313
million  in 1996  directly  as a result  of the  increase  in  census  at Avalon
Correctional  Center  and  the  acquisition  of El  Paso  Intermediate  Sanction
Facility.  The average daily inmate census  increased from 198 in 1995 to 332 in
1996.

     Direct operating expenses increased by 84% from 1995 to 1996,  primarily as
a result of the  increase  in  expenses  at Avalon  Correctional  Center  due to
additional census and the acquisition of El Paso Intermediate Sanction Facility.
The profit  margin at Avalon  Correctional  Center and the El Paso  Intermediate
Sanction Facility was low due to low census, thereby reducing the overall profit
margin from 50% in 1995 to 41% in 1996. The census was increased in 1997 at both
facilities,  improving the profit margin in 1997. El Paso Intermediate  Sanction
Facility was awarded a second  contract in November,  1996 bringing the facility
to its full capacity,  and Avalon Correctional Center received an increase of 30
additional  inmates  during the first quarter 1997,  and is expected to increase
census  again  during  1997.  The profit  margin for  Nebraska  Substance  Abuse
Programs was a contributing  factor to lower profit  margins in 1996.  Substance
abuse programs  profit margin is typically lower than  residential  correctional
facilities, primarily due to lower overhead costs.

     Residential  Care. The operations were  discontinued in the fourth quarter,
1996,  primarily due to financial losses, and to the Company's strategy to focus
on the corrections industry.  Net discontinued  operating loss for 1995 and 1996
was $28,500 and $649,247, respectively, net of income tax allocations.  Revenues
in 1995 and 1996 were  $936,900  and  $409,300,  respectively.  The  decrease in
revenues  of 56% in 1996 was  primarily a result of a decrease in census and the
closing of the  facilities in the fourth  quarter 1996. The loss on the disposal
of assets related to the discontinuation is estimated to be $325,000,  primarily
due to a write down of $318,000 on assets.  The Company  also paid  $87,000 in a
litigation settlement associated with the residential care operations.

     Park Management . Avalon ceased operations and canceled its park management
contract in June 1995. The loss on the disposal of operations, net of income tax
benefit of $27,400, was $34,100. Loss from operations in 1995 was $18,800.

     Corporate. General and administrative expenses increased in 1996 by 7% from
$603,300  to  $645,700.  The  increase  was a  result  of  additional  staffing,
increased  legal  expenses,  and an  increase  in  advertising,  marketing,  and
promotional  costs.  The  increase in 1996 of  $200,700 in interest  expense was
primarily due to interest on the funds  borrowed for the  acquisition  of the El
Paso Intermediate  Sanction Facility,  $129,300,  and the construction of Avalon
Correctional Center, $96,000. Depreciation and amortization expense increased by
$69,000 primarily as a result of the acquisition of the El Paso facility and one
full year of depreciation of the Avalon Correctional Center in 1996.


 MANAGEMENT -

  Name                       Age      Position(s) with the Company
  ----                       ---      ----------------------------
  Donald E. Smith ............44       Chief Executive Officer, Director
  Jerry M. Sunderland ........60       President, Director
  Kathryn A. Avery ...........44       Chief Financial Officer, Vice President
  Walter L. DeBoe ............49       Vice President of Operations
  Robert O. McDonald .........58       Director


Directors and Officers of the Company -

     The following is a brief description of the business  experience during the
past five years of each of the above-name persons:

     Donald E. Smith has served as Chief Executive Officer of Avalon since June,
1992 , and has held the same  position with  Avalon's  subsidiaries  since their
inception.  Mr.  Smith has  owned,  managed  and  developed  a number of private
corporations since 1985 to provide private corrections, residential care, mental
health  care,  and other  related  services.  Mr.  Smith  received a Bachelor of
Science degree in 1974 from Northwestern State College.

     Jerry M. Sunderland has served as President of Avalon since June, 1995. Mr.
Sunderland  served as Correctional  Services  Administrator  for one of Avalon's
subsidiaries  from 1990 to 1993 and for an affiliate  of Avalon since 1988.  Mr.
Sunderland  also serves as a Director of Avalon's  subsidiaries  and for certain
affiliated  private  corporations.  Mr.  Sunderland was employed by the Oklahoma
Department or Corrections for sixteen years and twelve years as an agent for the
Oklahoma State Department of Investigation.

     Kathryn A. Avery was appointed Chief  Financial  Officer and Vice President
in June,  1995. Ms. Avery was employed by Red Eagle  Corporation for five years,
serving for three years as acting  Controller and Chief Financial  Officer.  Ms.
Avery  received  a degree in  Business  Administration  from the  University  of
Oklahoma in 1982, is a certified public  accountant and a member of the Oklahoma
Society of CPAs.

     Walter L. DeBoe serves as the Vice President and Regional Administrator for
Avalon since 1996. Mr. DeBoe served as the Administrator of Carver Center, since
January,  1992. Mr. DeBoe is responsible for Avalon's  correctional  operations,
including  recruitment and training of personnel,  maintaining  accreditation by
the  American   Correctional   Association,   and  compliance  with  contractual
requirements.  Mr. DeBoe's experience includes over eighteen years experience in
the correctional field.

     Robert O.  McDonald was  appointed as Director of Avalon in October,  1994.
Mr.  McDonald is Chairman of the Board of Directors  of Capital West  Securities
and its parent holding company,  Affinity Holding Corp. Mr. McDonald started his
investment  career  in 1961  with  Allen  and  Company  and left in 1967 to form
McDonald  Bennahum and Co., which later joined with Langenburg  Thalmann and Co.
where Mr. McDonald was a Senior Partner.  Mr. McDonald joined Planet Oil Mineral
Corporation  in 1971 and became  president  in 1973.  From 1975 until 1993,  Mr.
McDonald was affiliated  with Stifel Nicolaus & Company and headed its municipal
syndicated effort. Mr. McDonald received a Bachelor's Degree in Finance from the
University  of  Oklahoma  in 1960.  He also  served as an  Officer in the United
States Army and Army Reserve.


Item 7. Financial Statements.

         Index to Financial Statements:


         Reports of Independent Accountants

         Consolidated Balance Sheets

         Consolidated Statements of Operations

         Consolidated Statements of Stockholders' Equity

         Consolidated Statements of Cash Flows

         Notes to Consolidated Financial Statements


                        REPORT OF INDEPENDENT ACCOUNTANTS


To the Board of Directors of
Avalon Community Services, Inc.

We have audited the accompanying  consolidated balance sheet of Avalon Community
Services, Inc. and subsidiaries (the "Company") as of December 31, 1995, and the
related consolidated  statements of operations,  stockholders'  equity, and cash
flows for the year then ended. These consolidated  financial  statements are the
responsibility  of  Avalon's  management.  Our  responsibility  is to express an
opinion on these consolidated financial statements based on our audit.

We conducted our audit 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 audit provides a reasonable basis for our opinion.

In our opinion, the consolidated  financial statements referred to above present
fairly, in all material  respects,  the consolidated  financial  position of the
Company  as of  December  31,  1995,  and  the  consolidated  results  of  their
operations  and their  cash  flows for the year then  ended in  conformity  with
generally accepted accounting principles.


                                                        COOPERS & LYBRAND L.L.P.

Oklahoma City, Oklahoma
March 21, 1996


               REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS


Board of Directors
Avalon Community Services, Inc.

We have audited the accompanying  consolidated balance sheet of Avalon Community
Services,  Inc.  and  subsidiaries  as of  December  31,  1996,  and the related
consolidated statements of operations,  stockholders' equity, and cash flows for
the year then ended.  These financial  statements are the  responsibility of the
Company's  management.  Our  responsibility  is to  express  an opinion on these
financial statements based on our audit.

We conducted our audit 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 audit provides a reasonable basis for our opinion.

In our opinion, the consolidated  financial statements referred to above present
fairly, in all material respects,  the consolidated financial position of Avalon
Community  Services,  Inc. and  subsidiaries  as of December  31, 1996,  and the
consolidated  results of their operations and their  consolidated cash flows for
the year then ended in conformity with generally accepted accounting principles.


                                                              Grant Thornton LLP

Oklahoma City, Oklahoma
March 14 , 1997


                AVALON COMMUNITY SERVICES, INC. AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEETS

                                                           December 31,
                                                       1995            1996
                                                   ----------------------------
ASSETS
Current assets:
   Cash and cash equivalents .................     $   121,176      $   313,558
   Accounts receivable,
      net of allowance for
      doubtful accounts of
      $5,079 and $0, respectively ............         283,116          400,643
   Due from affiliates .......................          52,966          119,588
   Prepaid expenses and other ................         236,382          311,351
-------------------------------------------------------------------------------
        Total current assets .................         693,640        1,145,140
-------------------------------------------------------------------------------
Property and equipment, net ..................       5,525,311        8,312,385
Due from affiliates ..........................         231,248             --
Other assets .................................            --             66,000
-------------------------------------------------------------------------------
         Total assets ........................     $ 6,450,199      $ 9,523,525
===============================================================================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
   Accounts payable, accrued
      liabilities and other ..................     $   183,233      $   447,668
   Due to affiliates .........................         175,028             --
   Current maturities of
      long-term debt .........................         278,837          518,866
-------------------------------------------------------------------------------
         Total current liabilities ...........         637,098          966,534
-------------------------------------------------------------------------------
Long-term debt, less current maturities ......       3,449,275        5,861,514
Deferred income taxes ........................          23,000             --

Commitments and contingencies ................            --               --
Stockholders' equity:
   Common stock:
      Class A - par value $.001;
          20,000,000 shares authorized;
          2,496,905 and 2,927,135 shares
          issued and outstanding in 1995
          and 1996, respectively .............           2,497            2,927
      Class B - no par 4,000,000 shares
          authorized; 1,210,000 and
          3,410,000 shares issued and
          outstanding in 1995 and 1996,
          respectively .......................            --               --
   Preferred stock; par value $.001;
      1,000,000 shares authorized;
      none issued ............................            --               --
   Paid-In capital ...........................       2,678,214        4,066,128
   Accumulated deficit .......................        (339,885)      (1,373,578)
 -------------------------------------------------------------------------------
         Total stockholders' equity ..........       2,340,826        2,695,477
-------------------------------------------------------------------------------
         Total liabilities and
            stockholders' equity .............     $ 6,450,199      $ 9,523,525
===============================================================================

These accompanying  notes are an integral part of these  consolidated  financial
statements.


                AVALON COMMUNITY SERVICES, INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF OPERATIONS

                                                      Year Ended December 31,
                                                       1995            1996
                                                    ---------------------------

Revenues .......................................    $ 2,119,123     $ 3,312,687
Costs and expenses
   Direct operating ............................      1,063,286       1,961,567
   General and administrative ..................        603,264         645,660
     Depreciation and
        amortization expense ...................        237,702         306,865
     Interest expense ..........................        218,331         419,012
-------------------------------------------------------------------------------
Loss from continuing operations
     before income tax expense .................         (3,460)        (20,417)
   Income tax expense ..........................           --            39,370
-------------------------------------------------------------------------------
Loss from continuing operations ................         (3,460)        (59,787)
-------------------------------------------------------------------------------
Discontinued operations:
   Loss on operations, net of
      income tax benefit of
      $36,400 in 1995 and $0 in 1996 ...........        (47,299)       (649,247)
   Loss on disposal, net of income
      tax benefit of $27,400 in 1995
      and $120,000 in 1996 .....................        (34,081)       (324,659)
-------------------------------------------------------------------------------
         Loss from discontinued operations .....        (81,380)       (973,906)
-------------------------------------------------------------------------------

Net loss .......................................    $   (84,840)    $(1,033,693)
===============================================================================

Net loss per share:
   Continuing operations .......................    $     (0.00)    $     (0.02)
   Discontinued operations .....................          (0.03)          (0.36)
-------------------------------------------------------------------------------
        Net loss per share: ...................    $     (0.03)    $      (0.38)
===============================================================================

Weighted average number of common

   and common equivalent shares outstanding ....      2,496,905       2,745,879
===============================================================================

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

                AVALON COMMUNITY SERVICES, INC. AND SUBSIDIARIES
                 CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
                                                              Common Stock                                                Total
                                                 ---------------------------------------
                                                   Class A      Class A        Class B       Paid-In     Accumulated   Stockholders'
                                                   Shares        Amount        Shares        Capital       Deficit         Equity
                                                 ----------------------------------------------------------------------------------
<S>                                              <C>           <C>             <C>         <C>           <C>            <C>
Balance, January 1, 1995 .....................     2,496,905   $     2,497     1,210,000   $ 2,678,214      (255,045)   $ 2,425,666
Net Loss .....................................          --            --            --            --         (84,840)       (84,840)
                                                 ----------------------------------------------------------------------------------
Balance, December 31, 1995 ...................     2,496,905   $     2,497     1,210,000   $ 2,678,214      (339,885)   $ 2,340,826
Net loss .....................................          --            --            --            --      (1,033,693)    (1,033,693)
Stock options exercised ......................         3,230             3          --           5,235          --            5,238
Class B shares issued ........................          --            --       2,200,000          --            --             --
Stock issued for purchase of
     El Paso Facility ........................        50,000            50          --         199,950          --          200,000
Warrants exercised, net of
    issuance costs ...........................       377,000           377          --       1,182,729          --        1,183,106
                                                 ----------------------------------------------------------------------------------
Balance, December 31, 1996 ...................     2,927,135   $     2,927     3,410,000   $ 4,066,128   $(1,373,578)   $ 2,695,477
                                                 ==================================================================================


The  accompanying  notes are an integral  part of these  consolidated  financial statements.
</TABLE>
                AVALON COMMUNITY SERVICES, INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOW

                                                      Year ended December 31,

                                                        1995           1996
                                                     --------------------------

OPERATING ACTIVITIES:
   Net loss ......................................   $   (84,840)   $(1,033,693)

   Adjustments to reconcile net loss to
      net cash provided by (used for)
      operating activities
        Depreciation and amortization ............       310,602        381,913
        Deferred income taxes ....................       (31,800)       (89,000)
        Loss  on sale of property ................        36,740         14,266
        Write down of property ...................          --          317,689
        Changes in operating assets
           and liabilities:
        Decrease (increase) in -
          Accounts receivable ....................        54,370       (117,527)
          Due to / from  affiliates ..............          --          (10,402)
          Prepaid expenses and other assets ......      (133,119)      (129,320)
          Accounts payable, accrued
             liabilities and other ...............       (96,370)       (27,372)
-------------------------------------------------------------------------------
        Net cash provided by
          (used in) operations ...................        55,583       (693,446)
-------------------------------------------------------------------------------

INVESTING ACTIVITIES:
   Capital expenditures ..........................    (2,600,022)      (171,347)
   Payment for purchase of business ..............          --         (200,000)
   Proceeds from disposition of property .........        24,655         45,688
   Proceeds from disposition of
      discontinued operations ....................        46,509           --
-------------------------------------------------------------------------------
        Net cash used in investing activities ....    (2,528,858)      (325,659)
-------------------------------------------------------------------------------

FINANCING ACTIVITIES:
   Net cash advances from affiliates .............       183,126           --
   Proceeds from borrowing .......................     4,447,444      3,444,704
   Repayment of borrowing ........................    (2,684,878)    (3,451,496)
   Proceeds from warrant and option exercise .....          --        1,324,361
   Payments of warrant issue costs ...............          --         (106,082)
-------------------------------------------------------------------------------
     Net cash provided by  financing activities ..     1,945,692      1,211,487
-------------------------------------------------------------------------------

Net Increase (Decrease) in Cash
     And Cash Equivalents ........................   $  (527,583)   $   192,382
-------------------------------------------------------------------------------
 Cash and Cash Equivalents,
     Beginning of Period .........................   $   648,759    $   121,176
-------------------------------------------------------------------------------
 Cash and Cash Equivalents,
      End of Period ..............................   $   121,176    $   313,558
===============================================================================

SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid during the year for:
         Interest ................................   $   312,179    $   482,034
         Income Taxes ............................        19,500          4,253


     In  conjunction  with the  acquisition  of a business in August,  1996, the
Company  acquired  property  and  equipment  of  $3,681,407,   assumed  debt  of
$2,974,403  and  liabilities  of  $307,004,  and issued  common  stock and stock
purchase warrants with a fair value of $200,000.

     During 1996, the Company applied $29,485 of deferred  warrant costs against
the proceeds received upon the exercise of certain stock purchase warrants.


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

                AVALON COMMUNITY SERVICES, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                        FOR THE YEARS ENDED 1995 AND 1996


NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Nature of Business -

     Avalon Community Services,  Inc. ("the Company" or "Avalon") is an Oklahoma
based  corporation  owning and operating private  correctional  facilities . The
Company  specializes  in  privatized  community   correctional   facilities  and
intensive correctional programming.  The Company currently operates in Oklahoma,
Texas, Missouri, and Nebraska with plans to significantly expand into additional
states  throughout  the  Southwest.  The  Company  owns and  operates  three (3)
community correctional  facilities and provides substance abuse services in nine
(9) correctional facilities for the various states.

Principles of Consolidation -

     The consolidated  financial  statements include the accounts of the Company
and its wholly-owned subsidiaries after elimination of all material intercompany
balances and transactions.

Use of Estimates -

     The preparation of the consolidated  financial  statements requires the use
of management's  estimates and assumptions in determining the carrying values of
certain  assets  and  liabilities  and  disclosures  of  contingent  assets  and
liabilities  at the  date  of the  consolidated  financial  statements  and  the
reported amounts for certain revenues and expenses during the reporting  period.
Actual results could differ from those estimated.

Cash and Cash Equivalents -

     The  Company   considers  all  highly  liquid   investments  with  original
maturities of three months or less when purchased to be cash equivalents.

Concentrations of Credit Risk -

     Financial instruments  potentially subjecting the Company to concentrations
of credit risk consist  principally of temporary cash  investments  and accounts
receivable.  The Company places its temporary cash  investments with high credit
quality  financial  institutions and limits the amount of credit exposure to any
one  institution.  Concentrations  of  credit  risk  with  respect  to  accounts
receivable  are  limited  due to the  fact  that a  significant  portion  of the
Company's  receivables  are from state  governments.  The Company  maintains  an
allowance for doubtful  accounts for potential  credit  losses.  Actual bad debt
expenses have not been material.

Property and Equipment -

     Property  and  equipment  are  recorded  at cost.  Expenditures  for  major
additions  and   improvements  are   capitalized,   while  minor   replacements,
maintenance  and repairs are charged to expense as incurred.  When  property and
equipment is retired or otherwise disposed of, the cost and related  accumulated
depreciation  are removed from the accounts  and any  resulting  gain or loss is
reflected   in  current   operations.   Depreciation   is  provided   using  the
straight-line method over the following estimated useful lives:

       Buildings and Improvements                     40 Years
       Furniture and Equipment                    5 to 7 Years
       Transportation Equipment                   3 to 6 Years


     Impairment  losses are recorded on  long-lived  assets when  indicators  of
impairment are present and the undiscounted cash flows estimated to be generated
by those  assets are less than the  assets'  carrying  amounts.  When  required,
impairment  losses are  recognized  based upon the  estimated  fair value of the
asset

     The Company's policy is to capitalize  interest on debt incurred during the
construction of major  projects.  During the year ended 1995, the total interest
capitalized  was  $60,200.   Total  interest  costs,   including   interest  for
discontinued  operations and capitalized interest,  was $318,400,  and $ 482,034
for 1995 and 1996, respectively.

Income Taxes -

     Deferred  income taxes are  recognized for the tax  consequences  in future
years of differences  between the tax bases of assets and  liabilities and their
financial  reporting  amounts at each  year-end  based on  enacted  tax laws and
statutory  tax rates  applicable  to the  period in which  the  differences  are
expected to affect taxable income.  Valuation  allowances are  established  when
necessary to reduce  deferred tax assets to the amount  expected to be realized.
Income tax expense is the tax  payable for the period and the change  during the
period in deferred tax assets and liabilities.

Revenue Recognition -

     The Company recognizes revenues as the related services are provided.

Deferred Development Costs -

     Deferred development costs consist of costs that can be directly associated
with an anticipated  contract and, if the  recoverability  from that contract is
probable,  they are deferred until the anticipated contract has been awarded. At
the commencement of operations of the facility or contract period,  the deferred
development costs are amortized over the life of the contract  (including option
periods).  Costs of unsuccessful  or abandoned  contracts are charged to expense
when their  recovery is not  considered  probable.  Facility  costs are incurred
(after a contract is awarded) in connection  with the opening of new  facilities
under the contract.  These costs, which are required under the contract,  to the
extent recoverable, are capitalized from the date of award until commencement of
operations,  at which time they are amortized on a straight-line  basis over the
term  (including  option  periods)  ranging from one to five year periods of the
government contracts.

Net Loss Per Common Share -

     Net loss per  common  share is  calculated  based on the  weighted  average
number of common, and when dilutive,  common equivalent shares outstanding using
the  treasury  stock  method,  excluding  Class B common  shares  which  have no
dividend or liquidation  rights.  There were no differences  between primary and
fully diluted earnings per share for the periods presented.

Reclassifications -

     Certain  1995  amounts  have  been  reclassified  to  conform  to the  1996
presentation, specifically discontinued operations.


NOTE 2. PROPERTY AND EQUIPMENT

     The elements of property and equipment and related accumulated depreciation
as of December 31, 1995 and 1996 are as follows:

                                                                    Accumulated

                                                        Cost        Depreciation
                                                     ---------------------------
December 31, 1995:
     Land ....................................       $  545,552      $     --
     Buildings and Improvements ..............        4,590,350         327,208
     Furniture and Equipment .................          875,921         314,345
     Transportation Equipment ................          243,678          88,637
                                                     ----------      ----------
                                                     $6,255,501      $  730,190
                                                     ==========      ==========

December 31, 1996:
     Land ....................................       $  618,552      $     --
     Buildings and Improvements ..............        7,591,268         384,115
     Furniture and Equipment .................          717,547         320,107
     Transportation Equipment ................          155,813          66,573
                                                     ----------      ----------
                                                     $9,083,180      $  770,795
                                                     ==========      ==========

     The Company  changed its'  estimate of the useful  lives of  buildings  and
improvements  from 25 to 40 years during 1996. The change resulted in a decrease
in net loss,  net of income tax  expense of  $28,000,  at  December  31, 1996 of
approximately $55,000 or $.02 per share.


NOTE 3. STATE CONTRACTS

     The  Company  contracts  with  various  states  to  provide  services.  The
contracts  generally  provide for  compensation on a per person,  per day basis.
Revenues  generated from such  contracts  during 1995 and 1996 comprised 71% and
88%, respectively,  of total Company revenues, of which 68% and 66% are with the
Oklahoma Department of Corrections, in 1995 and 1996, respectively.

     The  Company has a fifteen  (15) year  contract  with West Texas  Community
Supervision and  Corrections  Department and a four year contract with the Texas
Department  of  Criminal  Justice  Parole  Department  to  provide  correctional
services in El Paso,  Texas. The Company's  current  contracts with the Oklahoma
Department  of  Corrections  extend  through June 30, 1997 with an option by the
state to renew  for two  additional  one year  periods  with the same  terms and
conditions.  The Company has a fifteen month contract with the state of Nebraska
Department  of  Correctional  Services  for which the state has two (2) two year
renewal options.


NOTE 4. NOTES PAYABLE AND LONG-TERM DEBT

     Notes payable and long-term debt consists of the following:
                                                               December 31,
                                                            1995          1996
                                                        ------------------------
Revolving bank line of credit subsequently
     refinanced ....................................    $  263,434    $   37,504

Notes payable to banks, collateralized by
     equipment due in installments through
     May 1998 with interest from 7.99% to 11% ......       173,992       137,059

Notes payable to banks, collateralized
     by transportation equipment, due in
     installments through November 1997
     with interest ranging from 6.25% to 9.99%  ....       141,586        71,483

Notes payable to banks, collateralized
     by land, buildings and improvements
     due in installments through August 2004
     with interest ranging from 8.5% to 12% ........     3,149,100     5,584,334

Note payable to corporation collateralized by
     buildings, with interest at 8.5%
     with principal due in full January 1998 .......          --         550,000
                                                        ----------    ----------
                                                         3,728,112     6,380,380
Less - current maturities ..........................       278,837       518,866
                                                        ----------    ----------
                                                        $3,449,275    $5,861,514
                                                        ==========    ==========

     The aggregate  maturities of long-term debt for each of the next five years
are  as  follows:  1997:  $519,000;  1998:  $1,451,000;  1999:  $835,000;  2000:
$1,951,000;  2001: $ 391,000;  thereafter:  $1,233,000.  Substantially all notes
payable and long-term debt has been personally guaranteed by the Company's CEO.

     The revolving bank line of credit provides for aggregate maximum borrowings
of $500,000 and bears interest at 1% over national  prime,  (effective  rates of
9.5% and 9.2%, at December 31, 1995 and 1996,  respectively)  The line of credit
is collateralized by the Company's state contract revenues. Payment of dividends
is restricted by terms of the Company's revolving credit facility. Subsequent to
year end, the Company  extended the due date of the line of credit from February
1997 to April 1998, and accordingly,  the outstanding draws under this agreement
have been classified as long-term debt at December 31, 1996.


NOTE 5. STOCKHOLDERS' EQUITY

     Stock purchase warrants were issued in connection with a public offering of
Avalon  common  stock in 1991.  The  Class A  warrants  which  provided  for the
purchase of the Company's  Class A common stock  expired in March 1996,  and the
Class B warrants  will expire in March 26,  1999.  The  Company has  outstanding
275,100  Class B stock  purchase  warrants  providing  for the  purchase  of the
Company's  Class A common stock at a price of $6.00 per share.  The warrants may
be  exercised  at any time.  The  warrants may be redeemed by the Company at any
time for $.01 per share,  with the  exception  of certain  warrants  relating to
1,600 shares of common stock.

     The Company completed a private placement of 1,000,000 shares of its common
stock and 1,000,000  stock  purchase  warrants in August 1994. The Class C stock
purchase warrants provide for the purchase of the Company's Class A common stock
at a price of $3.50 per share  through  December  20,1999.  The  warrants may be
redeemed by the Company upon certain events,  for $.01 per share. In the private
placement  there are 100,000  shares of common  stock and 100,000  Class C stock
purchase warrants reserved for underwriters.

     The Company  issued Class D Warrants in August,  1996, to purchase  200,000
shares  of  Common  Stock  in  connection  with the  acquisition  of the El Paso
Intermediate Sanction Facility.  The Class D stock purchase warrants provide for
the  purchase  of the  Company's  Class A common  stock at a price of $5.125 per
share through  August 2, 2001.  The warrants may be redeemed by the Company upon
certain events for $.01 per share.

     The  Company  issued  2,200,000  shares  of  Class B  common  stock  to the
Company's  CEO during 1996 in  connection  with his  personal  guarantee of debt
associated with the construction  cost of Carver Center and Avalon  Correctional
Center.  Class B shares are voting rights only, are non-transferable and have no
liquidation or dividend rights.

NOTE 6. STOCK OPTION PLAN

     The Company  adopted a stock  option plan (the  "Plan")  providing  for the
issuance of 250,000  shares of Class A common stock  pursuant to both  incentive
stock  options,  intended to qualify under  Section 422 of the Internal  Revenue
Code,   and  options   that  do  not   qualify  as   incentive   stock   options
("non-statutory").  The  Option  Plan was  registered  with the  Securities  and
Exchange  Commission  in  November  1995.  The purpose of the Plan is to provide
continuing incentives to the Company's officers,  key employees,  members of the
Board of Directors and  consultants.  The options  generally vest over a four or
five-year  period with a ten year  expiration  period.  On December 1, 1996, the
Company amended its stock option plan, increasing the number of shares available
under the Plan to 600,000. Non-statutory options have been granted providing for
the  issuance  of  469,770  shares of Class A common  stock at  exercise  prices
ranging  from $1.50 to $4.00 per share.  Options  providing  for the issuance of
57,005 shares were exercisable at December 31, 1996.

     The Company uses the intrinsic value method to account for its stock option
plan in which compensation is recognized only when the fair value of each option
exceeds its exercise price at the date of grant.  Accordingly,  no  compensation
cost has been  recognized for the options  issued.  Had  compensation  cost been
determined  based on the fair  value of the  options  at the  grant  dates,  the
Company's net loss and loss per share would have been increased to the pro forma
amounts indicated below.

                                              1995                  1996
                                       -----------------------------------------
Net loss
      As reported ..................   $         (84,840)     $      (1,033,693)

      Pro forma ....................            (188,596)            (1,375,159)
Loss per share
     As reported ...................   $           (0.03)     $           (0.38)
     Pro forma .....................               (0.08)                 (0.50)

     These pro forma  amounts may not be  representative  of future  disclosures
because they do not take into effect pro forma  compensation  expense related to
grants made before  1995.  The fair value of each grant is estimated on the date
of grant  using  the  Black-Scholes  options-pricing  model  with the  following
weighted-average assumptions used for grants in 1995 and 1996, respectively:  no
expected dividends; expected volatility of 105% and 96%; risk-free interest rate
of 6.1% and 5.7%; and expected lives of ten years.

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

     A summary of the status of the  Company's  stock option plan as of December
31,  1995 and  1996,  and  changes  during  the years  ending on those  dates is
presented below.
<TABLE>
<CAPTION>
                                                                 1995                      1996
                                                         ---------------------     --------------------
                                                                      Weighted                 Weighted
                                                                       average                  average
                                                                      exercise                 exercise
                                                          Shares        price       Shares       price
                                                         ---------------------     --------------------
<S>                                                       <C>         <C>          <C>         <C>
Outstanding at beginning of year .....................    175,800     $   1.50     229,900     $   1.71
   Granted ...........................................    157,200         1.80     259,600         3.93
   Exercised .........................................      --             --       (3,230)        1.62
   Forfeited .........................................   (103,100)        1.50     (16,500)        1.78
                                                          --------------------     --------------------
Outstanding at end of year ...........................    229,900         1.71     469,770         2.93
Options exercisable at year end ......................     14,740         1.50      57,005         1.63
Weighted average fair value of
    options granted during the year ..................                $   2.52                 $   3.70
                                                                      ========                 ========
</TABLE>
     The following table summarizes  information about fixed-price stock options
outstanding at December 31, 1996:
<TABLE>
<CAPTION>
                                             Options outstanding                         Options exercisable
                                ---------------------------------------------      ------------------------------
                                                  Weighted           Weighted                        Weighted
                                Number            average            average        Number           average
                                outstanding at    remaining          exercise       exercisable      exercise
                                12/31/196         contractual life   price          at 12/31/96      price
                                ---------------------------------------------      -----------------------------
<S>                             <C>                   <C>             <C>            <C>             <C>
Range of exercise prices
   $1.50 to $2.25                210,170              8.21            $ 1.70          57,005         $ 1.63
   $3.26 to $4.00                259,600              9.87              3.93            ---             ---
                                ---------------------------------------------      -----------------------------
   $1.50 to $4.00                469,770                                              57,005
                                ==========                                         ===========
</TABLE>

NOTE 7. ACQUISITION

     The Company acquired the El Paso Intermediate Sanction Facility in El Paso,
Texas from Secure Corrections, Inc. in August, 1996. The facility is a four year
old,  144-bed,  36,000  square foot  medium  security  correctional  facility on
approximately  seven acres of real estate.  The purchase price was approximately
$3,681,400  including  $2,974,400  for the  outstanding  debt  on the  building,
$200,000 of cash,  and  approximately  $300,000  for the  assumption  of certain
operating liabilities. The Company also issued 50,000 shares of common stock and
200,000  stock  purchase  warrants at a value of $200,000.  Pro forma  financial
information for the acquisition is not presented because  financial  information
of Secure  Correction  Systems,  Inc.  is not  available.  A  subsidiary  of the
Company,  Southern Corrections  Systems,  Inc., entered into a fifteen (15) year
contract  to provide  services  in the  facility  for the West  Texas  Community
Supervision  and  Corrections  Department  to begin  August  1,  1996.  Southern
Corrections Systems, Inc. also entered into a contract effective November, 1996,
to provide services in the facility for the Texas Department of Criminal Justice
and Parole Division. The facility is now at full capacity.

NOTE 8. DISCONTINUED OPERATIONS

     The Company  terminated the contract to manage the recreational  activities
at Lake Stanley  Draper Park in June 1995.  This  contract  comprised all of the
operations  of  the  Company's  park  management  segment.  The  Company  ceased
operations  and  vacated the park  premises  in June 1995.  The Company has been
released from all contract provisions. Net assets of the park management segment
totaled approximately $107,900,  consisting primarily of recreational equipment.
All  assets  were  disposed  of by June 30,  1995.  Revenues  for the year ended
December 31, 1995,  were $10,900.  The loss from  operations,  net of income tax
benefit,  was $18,800 for the year ended 1995. The loss on the disposal,  net of
income tax benefit of $27,400,  was $34,100.  Proceeds  from the  disposal  were
$46,500.


     The Company  discontinued the residential care and management of outpatient
mental  health  operations in the fourth  quarter  1996.  Revenues for the years
ended 1995 and 1996 were $936,909 and  $492,835,  with a net  discontinued  loss
from  operations,  net of income tax benefit,  of $28,500 and $649,247.  The net
discontinued  loss from  operations  at  December  31,  1996  includes a loss of
approximately  $405,000  resulting  from the write off of affiliate  receivables
related to this segment.  Loss from the disposition of assets was  approximately
$325,000, including a $318,000 write down of assets.


     The net assets and liabilities of the discontinued  operations  included as
accounts payable, accrued liabilities and other in the accompanying consolidated
balance sheet, as of December 31, 1996 are as follows:

Assets
   Property and equipment, net                     $      328,475
Liabilities
   Accounts payable and accrued liabilities               (25,039)
   Note payable                                          (315,346)
                                                   -----------------
Net liabilities of discontinued operations           $    (11,910)
                                                   =================

     As a result  of the sale and  discontinuation  of the park  management  and
residential   care  segments,   the  Company   operates  in  only  one  segment,
correctional services.


NOTE 9. FAIR VALUE OF FINANCIAL INSTRUMENTS

     The carrying values of cash, cash  equivalents,  and financial  instruments
included in other assets  approximate their fair values  principally  because of
the short-term maturities of these instruments. The fair values of the Company's
debt maturing within one year, the revolving credit facility and other long-term
debt  approximate  the  carrying  values  due to the  nature of the  instruments
involved.

     In the  normal  course of  business,  the  Company  has  letters of credit,
performance   bonds,  and  other  guarantees  that  are  not  reflected  in  the
accompanying  consolidated  balance sheets.  In the past, no significant  claims
have been made against these financial instruments. Management believes that the
likelihood  of  performance  under these  financial  instruments  is minimal and
expects  no  material  losses  to  occur  in  connection  with  these  financial
instruments.


NOTE 10. INCOME TAX

     The  components of the  provision  for (benefit  from) income taxes for the
years  ended  December  31,  1995 and 1996 from  continuing  operations  were as
follows:

                                         Federal          State           Total
                                         -------         -------         -------
1995 -
   Current .....................         $  --           $  --           $  --

                                                                         -------
   Deferred ....................            --              --              --
                                         -------         -------         -------
                                         $  --           $  --           $  --
                                         =======         =======         =======
1996 -
   Current .....................         $ 7,100         $ 1,270         $ 8,370
   Deferred ....................          26,300           4,700          31,000
                                         -------         -------         -------
                                         $33,400         $ 5,970         $39,370
                                         =======         =======         =======


     The difference  between the tax basis of assets and  liabilities  and their
financial  reporting amounts that give rise to significant  portions of deferred
income  tax  assets and  liabilities  are:  assets - excess tax basis in certain
contributed  property;  liabilities - accelerated tax depreciation.  At December
31, 1996,  the Company had  approximately  $786,000 of net operating  loss carry
forwards which expire in 2011.

     The  following is a  reconciliation  of the  provision  for (benefit  from)
income  taxes from  continuing  operations  computed  by  applying  the  Federal
statutory  rate of 34% and the  effective  income  tax rate for the years  ended
December 31, 1995 and 1996:
                                                            December 31,
                                                        1995            1996
                                                      ---------       ---------
Provision for (benefit from)
   income taxes
   at statutory rate ...........................      $    --         $  (6,900)

Nondeductible expenses .........................           --             2,900

State income taxes .............................           --             5,970

Change in valuation allowance ..................           --            13,400

Tax-exempt income ..............................           --              --

Additional prior year taxes paid................           --            24,000

Other, net .....................................           --              --
                                                      ---------       ---------
    Total provision for (benefit from)
       income taxes ............................      $    --         $  39,370
                                                      =========       =========

         Deferred tax assets and
            liabilities are as follows:


Deferred tax assets:

   Net operating loss carry forward ............      $  31,800       $ 314,300

   Property & equipment ........................           --           120,000

   Shareholder contributed property ............         46,000          46,000

   Vacation Accrual ............................          8,900           9,400

   Other .......................................          2,100             300
                                                      ---------       ---------
                                                         88,800         490,000
   Less: Valuation allowance ...................        (40,800)       (353,000)
                                                      ---------       ---------
        Deferred tax assets ....................         48,000         137,000
                                                      ---------       ---------
Deferred tax liabilities:
   Property and equipment ......................        (71,000)        (71,000)

                                                      ---------       ---------
        Deferred tax liabilities ...............        (71,000)        (71,000)
                                                      ---------       ---------
        Net deferred tax
           (liability) asset ...................      $ (23,000)      $  66,000
                                                      =========       =========

     The valuation allowance on tax assets increased $2,900 in 1995 and $312,200
in 1996, of which $13,400 relates to continuing operations.


NOTE 11. RELATED PARTY TRANSACTIONS

     The  Company's  initial   operations  were  formed  by  acquiring  existing
operations  from the Company's  CEO in 1992 and 1993.  In connection  with those
acquisitions, certain agreements related to providing management, administrative
and  accounting  services and leases of buildings were  continued,  resulting in
related party transactions.

     During 1995 and 1996,  $187,000  and $397,500  were  charged to  affiliated
entities by the Company for management, administrative, and accounting services.
Such  amounts have been  reflected as a reduction of general and  administrative
expenses in the Consolidated Statement of Operations.

     The balance due from  affiliates  resulted from charges for  administrative
and accounting  services,  as well as net cash advances  made.  The  outstanding
balance  related to residential  care  operations  was included in  discontinued
operations in 1995 and 1996.

     The Company  managed the  operations  of a residential  care  operation and
leased a building to an  affiliated  entity in 1995 and 1996.  The Company  also
leased a building and equipment from an affiliated  entity in 1995 and 1996. The
leases  resulted  in net lease  expense  of $2,000  and $4,400 in 1995 and 1996,
respecctively.

     The  Company  entered  into an  agreement  effective  in May 1994  with the
Company's  CEO to issue  certain  securities  in exchange  for his  guarantee of
certain  Company  indebtedness.  The agreement  provides for the issuance of one
share of Class B common  stock  (voting  only) for each  dollar of Company  debt
guaranteed.  The Company issued 1,210,000 shares of Class B common stock in 1994
and 2,200,000 shares of Class B common stock in 1996 pursuant to this agreement.
The agreement  also provides for the issuance of 750,000  common stock  purchase
warrants  providing for the purchase of Class A common stock at a price of $1.50
per share for each dollar of Company debt  guaranteed.  The warrants will have a
five  year  term  from  the  date of  issuance.  Pursuant  to the  terms of this
agreement the warrants were issuable in 1995. Management believes these warrants
have no  economic  value and  accordingly,  no amount has been  assigned to such
warrants in the financial statements.

     The Company entered into  agreements  with affiliated  entities in 1995 and
1996 to develop and manage assisted  living centers in Oklahoma Citiy,  Oklahoma
and Fort Collins,  Colorado.  The Company received a 15% equity interest in each
assisted living center and funded start up costs of  approximately  $357,000 for
these centers in 1996. The Company plans to divest these operations in 1997.


NOTE 12. COMMITMENTS AND CONTINGENCIES

     Total lease  expense was  $101,000 and $118,000 for 1995 and 1996 under all
operating  leases.  The future  minimum  lease  payments are as follows:  1997 -
$46,000, 1998 - $33,000, 1999 - $7,000 , 2000 - $2,000, and 2001 - $1,000.

     The Company  executed a five-year  employment  agreement with the Company's
CEO in 1992.  The  agreement  provides for  compensation  to be determined on an
annual basis by the Board of Directors.  The agreement also contains  provisions
for severance pay and disability  payments,  as well as a non-compete  agreement
preventing  him  from  engaging  in a  business  deemed  similar  to that of the
Company.

     During 1996, the Company guaranteed the debt of affiliates for an amount of
$3,110,000.


NOTE 13. LITIGATION

     The  Company  is a party to  litigation  arising  in the  normal  course of
business.  Management  believes that the ultimate  outcome of these matters will
not have a material  effect on the Company's  financial  condition or results of
operations.

NOTE 14. SUBSEQUENT EVENTS

     The Company was awarded a four year  service  contract in March,  1997 with
the Missouri  Department of  Corrections.  The contract is to provide  substance
abuse  treatment  services in the Ozark  Correctional  Center,  a 650 bed medium
security  prison  located  in  Fordland,  Missouri.  The  contract  is expect to
generate annual revenues of  approximately  $800,000 for the Company.  Avalon is
scheduled to begin providing services in the Ozark Correctional Center on May 1,
1997.

     The  Company  was  awarded a four  year  contract  in March,  1997 with the
Missouri  Department of Corrections.  The contract is to provide substance abuse
services in the Tipton  Correctional  Center, a 1,088 bed medium security prison
in Tipton,  Missouri.  The contract is expected to generate  annual  revenues of
approximately  $300,000 for the Company.  Avalon is schedule to begin  providing
services in the Tipton Correctional Center in June, 1997.


Item 8. Change In and Disagreements with Accountants on Accounting and Financial
Disclosure.

     On February 25, 1997, the Company dismissed  Coopers & Lybrand L.L.P.,  the
Registrant's  independent  auditors,  and appointed the accounting firm of Grant
Thornton,  LLP as  independents  accountants  for fiscal  year  ended  1996.Such
dismissal and appointment was approved by the Board of Directors of the Company.
During the two most recent fiscal years and the three interim periods subsequent
to December  31,  1995,  and through the date of  dismissal,  there have been no
disagreements  with  Coopers  &  Lybrand  L.L.P.  on any  matter  of  accounting
principles or practices,  financial  statement  disclosure or auditing  scope or
procedure  or any  reportable  event.  In addition,  no report on the  financial
statements  of the Company  rendered by Coopers & Lybrand  L.L.P.  contained  an
adverse  opinion or  disclaimer  of opinion or was  qualified  or modified as to
uncertainty, the scope of audit performed, or accounting principles. The Company
had not  consulted  with Grant  Thornton,  LLP prior to their  appointment  with
respect  to  any  matters  of  accounting  principles  or  practices,  financial
statement  disclosure,  auditing scope or procedure or any disagreement with the
Company.



PART III

Items 9, 10, 11 and 12.

     The information  required by these Items has been incorporated by Reference
from the  Company's  definitive  proxy  statement  which  will be filed with the
Commission not later than 120 days after December 31, 1996.


Item 13. Exhibit and Reports on Form 8-K.

   (a) Exhibits:

    3.   i   Articles of Incorporation (1)
         ii  Bylaws (1)
         iii Articles of Amendment to Registrant's Articles of Incorporation (2)
         iv  Amendment to Registrant's Articles of Incorporation dated December
                  31, 1995
         v   Unanimous Consent of Board of Directors authorizing extension of
                  expiration dates of  Class "B" Redeemable Warrants (3)
         vi  Certificate of Corporate Resolutions, dated December 13, 1993,
                  regarding authorization of Class B Common Stock and Amendment
                  to Articles (5)

    4.   i   Form of Stock Certificate (1)
         ii  Form of Class "B" Redeemable Warrant (1)
         iii Form of Class "B" Warrant Agreement (1)
         iv  Form of Class "C" Redeemable Warrant (6)
         v   Form of Class "C" Warrant Agreement (6)
         vi  Form of Class "D" Redeemable Warrant (7)
         vii Form of Class "D" Warrant Agreement (7)

    10.  i   Contract between Southern Correction Systems, Inc. and the Oklahoma
                  Department of Corrections for halfway house services for the
                  year ended June 30, 1997 (6)
         ii  Contract between Southern Correction Systems, Inc. and the Oklahoma
                  Department of Corrections for public works inmates for the
                  year ended June 30, 1997 (6)
         iii Employment Agreement with Donald E. Smith (2)
         vi  Stock Option Plan adopted by Board of Directors on August 16,
                  1994 (6)
         vii Debt Guaranty Agreement dated May 16, 1994, between Registrant
                  and Donald E. Smith (6)
         ix  Placement Agent Agreement dated May 15, 1994, between Registrant
                  and Westminster Securities Corporation (6)
         x   Acquisition Agreement dated August 2, 1996 between Registrant,
                  Kensington Capital Plc, and RECOR, Inc. (7)

    16.  i   Letter re: Change in Certified Accountant (8)

    21.  i   Subsidiaries of Registrant (5)


     (b)  Reports  on Form 8-K.  No  reports  were  filed on Form 8-K during the
                  quarter ended December 31, 1996.

Footnotes:
       1)  Incorporated herein by reference to the Registrant's Registration
                  Statement on Form S-18 dated March 26, 1991.
       2)  Incorporated herein by reference to the Registrant's Post-Effective
                  Amendment No. 1 to Registration Statement on Form S-18 dated
                  August 3, 1992.
       3)  Incorporated herein by reference to the Registrant's Post-Effective
                  Amendment No. 2 to Registration Statement on Form S-18 dated
                  October 26, 1992.
       4)  Incorporated herein by reference to the Registrant's Form 8-K dated
                  January 13, 1994.
       5)  Incorporated herein by reference to the Registrant's Form 10-KSB for
                  the fiscal year ended December 31, 1993 and dated March 24,
                  1994.
       6)  Incorporated herein by reference to the Registrant's Registration
                  Statement on Form SB-2 dated December 30, 1994.
       7)  Incorporated herein by reference to the Registrant's Registration
                  Statement on Form S-2 Amendment No. 1, dated  September 30,
                  1996.
       8)   Incorporated herein by reference to the Registrant's Form 8-K dated
                  March 4, 1997.


                                   SIGNATURES

     In accordance  with 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.

                                       AVALON COMMUNITY SERVICES, INC.


                                       By: Donald E. Smith
                                       Donald E. Smith
                                       Chief Executive Officer and Director

                                       Dated: March 29, 1997


In accordance  with 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.


By: Donald E. Smith
Donald E. Smith
Chief Executive Officer and Director                       Dated: March 29, 1997



By: Jerry M. Sunderland
Jerry M. Sunderland
President and Director                                     Dated: March 29, 1997



By: Robert O. McDonald
Robert O. McDonald
Director                                                    Dated: March 29,1997


By: Kathryn A. Avery
Kathryn A. Avery
Chief Financial Officer                                    Dated: March 29, 1997