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                                       1

                                  UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                    FORM 10-K

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

                     For the fiscal year ended June 30, 1997

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

                         Commission File Number 0-19343

                              Valley Systems, Inc.
             (Exact name of registrant as specified in its charter)

                                    Delaware
         (State or other jurisdiction of incorporation or organization)

                                   34-1493345
                      (IRS Employer Identification Number)

               11580 Lafayette Drive NW, Canal Fulton, Ohio 44614
                    (Address of principal executive offices)

       Registrant's telephone number, including area code: (330) 854-4526

        Securities registered pursuant to Section 12(b) of the Act: None

           Securities registered pursuant to Section 12(g) of the Act:
                          Common Stock, $.01 par value
                                (Title of Class)

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

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

         As of September 2, 1997: (a) 7,906,617 shares of Common Stock, $.01 par
value, of the registrant were outstanding;  (b) 2,082,872 shares of Common Stock
were held by  non-affiliates;  and (c) the aggregate  market value of the Common
Stock held by non-affiliates was $3,124,308,  based on the closing sale price of
$1.50 per share on September 2, 1997.
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                                       2

                       DOCUMENTS INCORPORATED BY REFERENCE


Part I:       None

Part II:      None

Part III:     All items - see  registrant's  definitive  proxy  statement  which
              involves the election  of directors  and which will  be filed with
              the Commission within 120 days after the close of the fiscal year.

                Item 10:  Directors and Executive Officers of the Registrant

                Item 11:  Executive Compensation

                Item 12:  Security  Ownership of Certain  Beneficial  Owners and
                          Management

                Item 13:  Certain Relationships and Related Transactions

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                                       3


                                     PART I
ITEM 1.  BUSINESS:

General:

         The  Company  is  engaged  in the  business  of  providing  specialized
industrial  cleaning and other  services to divisions and  facilities of Fortune
500 companies and other substantial  businesses engaged in heavy industry.  Such
services  generally involve the removal of industrial grime,  deposits,  wastes,
encrustations or coatings from equipment and facilities. The Company's principal
customers are in the chemical,  plastics,  power generation,  petroleum refining
and  primary  metals  businesses.  The  Company's  industrial  cleaning  methods
include,  in addition  to the use of  waterblasting,  vacuuming,  and other more
conventional   procedures,   the  application  of  ultra-high  pressure  ("UHP")
waterjetting and cutting methods.

Industrial Cleaning Services:

         Until  1984 the only  technologies  used by the  Company  in  providing
commercial  and  industrial  cleaning  services  were  vacuum  (wet and dry) and
conventional  water blast cleaning  techniques.  These  conventional  methods of
service  are still  provided by the  Company.  The market  applications  for the
Company's  conventional  method  services in  industrial  cleaning  are many and
varied,  and include  removing  materials  and deposits  from items such as heat
exchangers,  boilers, condensers,  building surfaces, vats, slabs and molds. The
Company also provides sewer cleaning, pipe inspection and other services for its
customers. See "Item 1 - Business-Company  Operations".  Such other services are
essentially  incidental to the Company's business and are not deemed material to
its future operations. See Item 1-Business-Company Operations-Revenue by Service
Line".

         Industrial vacuuming removes industrial waste and debris, and retrieves
salvageable materials, using truck mounted equipment to vacuum up the designated
waste. Most of the Company's vacuum equipment can be used in either a wet or dry
medium, but the Company also uses equipment that only has a wet application. The
Company uses both commercially  available  equipment and internally designed and
fabricated   equipment  in  the   performance  of  industrial   vacuum  cleaning
activities.  The Company's  vacuum  equipment  can be used to clean  underground
lines,  pipes,  storm drains and sewers, as well as to meet the demands of other
cleaning applications.  In performing its conventional vacuum cleaning services,
the vacuumed material is either  transported by the Company for disposal on-site
at the  customer's  location,  or is  transferred  by the Company  on-site  into
barrels, bins or other storage vessels supplied by the customer, for disposal by
the customer.

         In 1984, to overcome the limitations of conventional technologies,  the
Company began providing UHP waterjetting  services.  Although  pressurized water
cleaning  equipment for use in  industrial  cleaning,  construction,  mining and
other  applications  is  commercially  available,  the UHP equipment used by the
Company is designed and fabricated by the Company.  The Company has been able to
enhance and modify its UHP equipment since its first introduction.  In 1991, the
Company purchased certain patents and know-how related to equipment designs, UHP
waterjet  guns  and  other   technologies.   See  "Item   1-Business-Proprietary
Technology, Patents Trademarks and Equipment".

         Benefits from the application of UHP technology  include (1) the use of
a very low  volume of water,  (2) the  uniform  cleaning  of a  material  from a
surface, (3) the minimization of surface damage or degradation, (4) the decrease
of environmental and  health/safety  impacts through the reduction or absence of
dust,  fumes,  sand,  solvents  or  chemicals  and other  by-products  requiring
disposal,  (5) the reduced volume of residue or waste product  (including water)
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                                       4

clean-up,   (6)  the   elimination  of  many  safety  hazards   associated  with
conventional methods and the need for "hot work" permits (i.e., UHP waterjetting
is a  non-spark  generating  activity),  and (7)  the  elimination  of  airborne
contaminants,  reducing preparatory  activities (covering surrounding areas) and
clean-up times, which yields increased productivity.

         With the addition of an abrasive  material into the water  stream,  the
Company's UHP equipment can also cut virtually any material.  This  technique is
used where heat or open flames would  damage the material  being cut or create a
safety hazard.  Most of the UHP cutting services involve gas pipelines,  storage
tanks and regenerator heads in the refining industry.

         Advantages of UHP technology could become more pronounced in the future
as the result of certain  actions  taken by  environmental  regulatory  agencies
which are  expected to restrict the use of  conventional  cleaning  methods.  In
1989, the Occupational  Safety and Health  Administration  ("OSHA")  promulgated
regulations which significantly  reduce allowable exposure levels to crystalline
silica for  employees  of United  States  companies,  which  inhibits the use of
sandblasting  in industrial  cleaning and facilities  maintenance  applications.
Sandblasting  is not favored by many of the Company's  customers  because of the
dispersion of particulates  into the air, its effect on machinery and equipment,
and the necessity of  transporting  and disposing of the sand waste  thereafter.
Additionally,   the   institution  of   increasingly   stringent   environmental
regulations  governing  the  generation  and disposal of all forms of industrial
waste,  both hazardous and  non-hazardous,  will impose  significant  additional
costs on most  conventional  industrial  cleaning  services.  The inherent  cost
advantages  afforded by the absence of particulate and other residue by-products
should  enhance the future market demand for UHP services such as those provided
by the Company.  See "Item  1-Business-Environmental  Standards  and  Government
Regulations".

Service Procedures:

         Generally,  the Company  performs its  services at customer  facilities
using  truck-mounted  equipment.  Teams  of  two or  more  persons  operate  the
Company's equipment. The Company's employees extend pipe and/or hose, as well as
additional equipment, from the truck into the customer's tank, container,  paint
stack, boiler or other area to be cleaned.

         The Company has also installed stationary, electrically powered UHP and
conventional  waterblast  units at some  customer  facilities.  These  permanent
installations,  utilized where repetitive day-to-day cleaning is required,  have
enhanced the Company's  service  capabilities  while reducing customer down time
and overall cleaning cost.

         In  connection  with  the  use  of  vacuuming  and  other  conventional
technologies,  the waste material is conveyed into the  equipment's  own holding
tank, or a Company or  customer-owned  and controlled  roll-off  container,  for
transportation  by  the  customer  to  a  proper  customer-designated   disposal
location, generally on-site at the customer's facility.

         In providing UHP waterjetting  services,  the Company's cleaning system
either (1)  captures  all  water,  waste and  residue  produced,  which  permits
pre-treating  of such materials in accordance with local  requirements  prior to
discharge into the available sewer system,  or (2) allows direct untreated sewer
discharge of such resultant waste  material.  Whether or not such waste material
is  pre-treated  depends  upon the nature of the  materials to be removed in the
cleaning  process (as disclosed to the Company by the  customer),  the nature of
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                                       5

any cleaning additives and other materials used by the Company itself, and local
regulations.

Company Operations:

         The Company's  sales from its primary  service lines in dollar  amounts
and by percentage were as follows:

                                              Year ended June 30
                                          1997       1996       1995        
                                        --------   --------   --------        
          Dollars (in thousands):          
               UHP                      $ 11,629   $  9,882   $  9,329
               Vacuum                      5,947      6,788      8,450
               Waterblasting               4,135      3,958      4,763
               Other                       1,377      1,247      1,689
                                        --------   --------   --------
                    Total               $ 23,088   $ 21,875   $ 24,231
                                        ========   ========   ========
          Percentage:
               UHP                         50.4%      45.2%      38.5%
               Vacuum                      25.8%      31.0%      34.9%
               Waterblasting               17.9%      18.1%      19.6%
               Other                        5.9%       5.7%       7.0%
                                        --------   --------   --------
                    Total                 100.0%     100.0%     100.0%
                                        ========   ========   ========

         The  Company  does not depend  upon any one  customer  for sales of its
services.  During the fiscal year ended June 30, 1997,  the Company had sales to
approximately 400 different customers. Various plants of E.I. DuPont (which make
independent  purchasing  decisions)  made up 13% of Fiscal 1997 net sales.  Four
other customers each accounted for 6% of Fiscal 1997 net sales.

         The Company does not depend upon a limited  number of suppliers for the
conduct of its business.  The loss of any one of its suppliers  would not have a
material adverse effect on the Company's business.

         The  Company  currently  services  clients  through  a number of branch
offices and customer site  facilities  located  throughout the United States and
Puerto Rico.  The branch office  locations  are  facilities at which the Company
houses  equipment  and  maintains  an  administrative  staff.  Each  location is
equipped to perform  minor  equipment  maintenance.  The Company has  mechanics,
machinists  and  facilities  to  perform  major  equipment  maintenance  at  its
headquarters facility.  The customer-site  facilities are trailers and equipment
at customer  locations  used by the  Company to service  that  customer  and the
surrounding area.

         While the Company has some long-term commitments from customers for the
provision of  services,  most  frequently  orders for services are received on a
job-by-job basis. In certain  instances the Company  maintains  equipment at the
locations of customers which have issued "blanket orders" to the Company for the
provision  of  services  over an extended  period.  Such  blanket  orders do not
obligate the customer to purchase a specified dollar amount of services. Blanket
orders permit the Company to be contacted to perform services when needed.  Such
blanket  orders,  in combination  with the location of the Company's  equipment,
allows the Company to expedite its response to a particular customer's needs and
to obtain a potential competitive  advantage.  The Company provides its services
primarily  at  prescribed  rates or based upon  competitive  bidding and in some
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                                       6

cases through  direct  negotiation  with the customer.  Due to the nature of its
business,  there are relatively few  pre-scheduled or contracted  service calls.
Most  services are  performed on an emergency  basis or upon less than two weeks
advance notice.  Accordingly,  the Company does not have any significant backlog
of service orders.  Management of the Company does not consider  backlog size to
be an important indicator of future performance.

         The Company's  management knows of no significant  seasonal  influences
related to the provision of its services.

         The  Company  does not  provide a  separate  guaranty  or  warranty  to
customers  for the services it  provides.  Due to the size and type of customers
serviced,  the Company does not generally experience significant delays or other
problems in collecting its accounts  receivable.  Standard payment terms average
60 days. The Company's average days sales outstanding in Fiscal 1997 were 77.

Insurance:

         Much of the work performed by the Company is pursuant to contracts that
require the Company to indemnify the customer for injury or damage  occurring on
the work site. The terms of such indemnity  agreements  vary, but generally they
provide  that the Company is  required  to  indemnify  the  customer  for losses
resulting from or incurred in connection with  performance by the Company of its
services  whether or not the  Company  has been  negligent.  Liability  for such
indemnification claims is generally covered by the Company's insurance policies.

         Although the Company believes that its insurance  coverage is generally
consistent  with  industry  practice,  there are  exclusions  from the Company's
insurance  coverage for matters of  environmental  pollution  and other types of
environmental  damage  claims.  An  uninsured  or partially  insured  claim,  if
successful and of sufficient magnitude,  could have a material adverse effect on
the Company or its financial condition.

Competition:

         The market for industrial  cleaning  services is fragmented.  There are
many  competitors,  no one of which is  believed  to hold a  substantial  market
share. The Company  competes with a number of companies in substantially  all of
the regions in which it operates. Many of these competitors are local operations
servicing a limited  geographic area. There are,  however,  a few large national
and regional  competitors  that have  significantly  greater  resources than the
Company.  In recent  years there has been a trend  toward  consolidation  in the
industrial  cleaning  industry.  In 1997  Allwaste  Inc.,  one of the  Company's
national  competitors,  was acquired by Phillips  Environmental  Ltd, a Canadian
service  company.  Other  significant  national  competitors  include C.H. Heist
Corp.,  Hydro-Chem Industrial Services, and Rust International,  an engineering,
construction and environmental cleanup firm controlled by WMX Technologies, Inc.

         The Company's principal  competitive  advantages are the quality of the
equipment  that it uses, its ability to provide quick response times to customer
needs,  its  safety  record,  its  reputation  for  competent  and  professional
performance,  and the  training  and  mobility  of its  service  force.  Another
important competitive advantage is the Company's UHP proprietary  technology and
equipment. See "Item 1 - Business - Proprietary Technology,  Patents, Trademarks
and Equipment".
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                                       7

         The  Company  relies  heavily  on repeat  customers,  and uses both the
written and verbal  referrals of its  satisfied  customers to help  generate new
customers.  Many of the  Company's  customers or  prospective  customers  have a
qualification procedure for becoming an approved bidder or vendor based upon the
satisfaction of particular performance and safety standards set by the customer.
Such customers often maintain a list of vendors meeting such standards and award
contracts for  individual  jobs only to such vendors.  The Company  continuously
monitors and  attempts to improve the quality of service it  provides,  and this
process is intended to help the Company maintain  standards of performance which
are acceptable to its customers. The headquarters and Canton, Ohio facilities of
the Company received  certification to the International Standard of ISO 9002 in
July  1997.  The  Company  is among the first  within  its  industry  to receive
registration to ISO 9002. The Company believes that its  relationships  with its
customers have been good.

Proprietary Technology, Patents, Trademarks and Equipment:

         The Company holds four patents  expiring in 2004,  2005,  and 2013 with
respect to tooling and equipment used in connection with its  pressurized  water
technology.  The Company also is the licensee under an exclusive patent license,
granted by the  University of Missouri,  involving a certain  waterjet  cleaning
tool and  deposit  removal  process.  The patent  being  licensed to the Company
terminates in 2000. In June 1991,  the Company  purchased two of these  patents,
the patent license,  certain UHP tools, equipment,  know-how, and technology and
documentation  related to those tools and  equipment,  a trademark  for the term
"Water  Laser",  and all new related  inventions  hereinafter  developed  by the
sellers of the  technology.  The patents,  license,  and know-how  relate to UHP
technology  applicable  to industrial  cleaning.  The  acquisition  provides the
Company with the potential power to foreclose third parties from the use of such
patent technology. In connection with the purchase of the above technologies and
patents,  the Company also  received from the sellers an agreement not to engage
in any business involving the development,  testing, manufacturing or use of any
technology, tools, equipment, designs or patents which use water or UHP water as
any part of its operation.

         The Company has developed a great deal of  proprietary  technology  and
know-how which it uses in connection  with its provision of industrial  cleaning
services to  customers.  The Company  continues  to develop new and  proprietary
technology related to its UHP technology and other services,  and has additional
patents pending.

         Most of the technology and the equipment used in providing conventional
vacuum and waterblasting services are readily available in the industry. The UHP
waterjetting  services  provided  by  the  Company  result  from  the  Company's
proprietary   technologies,   as  well  as  its  self-designed  and  constructed
equipment,  tools  and  accessories.  These  technologies  include  not only the
techniques used by its service personnel in physically  providing services,  but
also the design of the component  parts of the equipment  used by the Company in
providing the services.  Although  certain basic pieces of equipment are readily
available (e.g.,  diesel and electrical motors,  vehicular  chassis,  etc.), the
design  of other  components  assembled  into  the  Company's  UHP  waterjetting
equipment is proprietary to the Company.  Such  components are fabricated in the
Company's  machine shops and assembled into finished  pieces of equipment at the
Company's headquarters facility.

         All of the Company's  employees sign  confidentiality  agreements which
obligate them to protect the Company's proprietary  technology and know-how from
unauthorized  use and  disclosure,  and otherwise to treat such  information  as
confidential. Management of the Company believes that with respect to certain of
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                                       8

its know-how and design  improvements,  even if such  processes or products were
patentable,  any  patent  protection  which  could be  obtained  would not be as
beneficial  to the  Company as the  continued  maintenance  of such  proprietary
information as confidential material whenever possible.

         The Company's name and logos have been registered as service marks with
the United States Patent and Trademark Office.

         The Company does not operate under any licenses or  franchises  granted
by third parties,  other than the  University of Missouri  patent  license.  The
Company has not granted  any right to others in  connection  with sale or use of
its own technology.

Environmental Standards and Government Regulations:

         The Company's operations are subject to numerous rules and  regulations
at the federal, state  and  local levels.  The  Company  believes  that it is in
substantial  compliance with the various rules and regulations.  The Company has
not experienced any significant regulatory problems.

         All of the Company's  operations are subject to  regulations  issued by
the United States  Department of Labor under the Occupational  Safety and Health
Act ("OSHA").  Additionally, some of the Company's operations are subject to the
provisions of the Federal Mine Safety and Health Act of 1977. These  regulations
have strict  requirements for protecting  employees  involved with any materials
that are classified as hazardous. Violations of these rules can result in fines.

         The Company does not believe that its current activities are subject to
the  duties  pertaining  to  hazardous  waste  treatment,  storage  or  disposal
facilities,  nor those  duties  pertaining  to  hazardous  waste  generators  or
transporters.

         In the event the Company  performs a cleaning  operation  involving the
disposal of a waste that would be defined as hazardous  under RCRA,  the Company
could also be  classified  as a "generator"  of hazardous  waste,  and therefore
responsible  for  manifesting  and  transporting  all such  waste  to  permitted
treatment,  storage  or  disposal  facilities  in  accordance  with  RCRA.  As a
generator,  the Company  could be  potentially  liable  under the  Comprehensive
Environmental Response,  Compensation and Liability Act of 1980 ("CERCLA"), also
known as the  Superfund  Act. To the Company's  knowledge,  none of the sites at
which the Company  performs  services have been  designated as Superfund  sites.
Moreover,  to the Company's knowledge,  it has not sent any hazardous substances
or wastes to any site that has been  designated as a Superfund site. Many states
have implemented environmental guidelines similar in nature to RCRA and CERCLA.

         On  the  local  level,  rules  and  regulations  exist  and  are  being
promulgated  to govern the discharge of  wastewater  into sewer  systems.  These
rules can vary widely by locale.  The Company has developed  systems that permit
it to comply with these  regulations,  when  applicable.  Future changes in such
rules and  regulations  could have a  significant  impact on the Company in that
additional capital expenditures might be required. However, the more intensified
regulation  also serves to foreclose  potential  new entrants  with little or no
experience in industrial  cleaning  services,  as well as those lacking adequate
capital.

         The Company  believes  that it has  obtained  the permits and  licenses
required  to  perform  its  business  and  believes  that  it is in  substantial
compliance with all federal,  state and local laws and regulations governing its
business.  To date, the Company has not been subject to any  significant  fines,
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                                       9

penalties or other  liabilities  under such laws and  regulations.  However,  no
assurance  can be given that future  changes in such law,  and  regulations,  or
interpretations  thereof,  will  not have an  adverse  impact  on the  Company's
operations.

         The  Company's  general  liability  insurance is subject to a pollution
exclusion  endorsement.  Such  exclusion is  generally  found in the majority of
general  liability  policies.   The  Company  does  not  maintain  environmental
impairment  liability  insurance.  Thus a claim for damages  against the Company
that  involves  pollution  or  environmental  impairment  will not be covered by
insurance,  and, depending on the size of the claim, may have a material adverse
effect  upon  the  business  and  operations  of  the  Company.  See  "Item  1 -
Business-Insurance".

Employees:

         As of September 1, 1997, the Company  employed 350 full time employees.
Due to the nature of the  services  provided  (i.e.,  primarily  on a job-by-job
basis), the number of Company employees is subject to fluctuation.  No employees
are currently covered by collective bargaining agreements.  The Company believes
that its relations with its employees are good.

ITEM 2.  PROPERTIES:

         The Company's  headquarters facility in Canal Fulton, Ohio is comprised
of two buildings:  a 15,962 square foot office,  equipment warehouse and machine
shop facility  which is leased from a former  Chairman and CEO and his wife, and
an 8,750 square foot office,  machine shop, and service dispatch  facility which
is owned by the Company.

         The  headquarters  facility  lease is for a term  ending on October 31,
1997, and is renewable for one three-year term at the Company's  option (subject
to  negotiation  of the monthly  lease  payments).  The Company has an option to
purchase this facility for a fixed amount anytime during the lease term.

         The Company  leases the other  facilities  used in its  business  under
short-term leases,  generally one to three years. Management does not anticipate
any material problems in negotiating  extensions of these existing arrangements.
If  necessary,  management  believes  that it would be able to  obtain  adequate
alternate facilities on terms acceptable to the Company.

ITEM 3.  LEGAL PROCEEDINGS:

         As  previously  reported,  the  Company  initiated  litigation  in 1993
against  certain  former  officers and directors in the United  States  District
Court for the Northern District of Ohio,  Eastern Division.  This litigation was
resolved on terms favorable to the Company in December 1996, after the trial had
commenced.  All claims between the Company and the former officers and directors
have now been resolved.

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

         No matters  were  submitted  to a vote of security  holders  during the
fourth quarter of the year ended June 30, 1997.

<PAGE>
                                       10


                                     PART II

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

         The Company's Common Stock trades on the Nasdaq National Market tier of
the Nasdaq Stock Market under the symbol:  VALE. The following  table sets forth
the high and low sale prices for the periods indicated.
                                                      High          Low
                                                      ----          ---
           Fiscal 1996:
             July 1, 1995 - September 30, 1995       3 5/8          15/16
             October 1, 1995 - December 31, 1995     2 3/8        1
             January 1, 1996 - March 31, 1996        1 5/16       1
             April 1, 1996 - June 30, 1996           1 9/16          7/8
           Fiscal 1997:
             July 1, 1996 - September 30, 1996       1 3/16         11/16
             October 1, 1996 - December 31, 1996     1 7/16         15/16
             January 1, 1997 - March 31, 1997        1 9/16         15/16
             April 1, 1997 - June 30, 1997           1 11/16          7/8

         No dividends have been declared on the Common Stock since the inception
of the Company,  and the Company does not anticipate paying any cash dividend in
the  foreseeable  future.  In addition,  the Company is  restricted  from paying
dividends  on its Common  Stock  under its credit  agreement  with its  majority
stockholder.

         Based on  information  furnished  by certain  brokerage  firms that are
record holders of the Company's  Common Stock,  the Company has in excess of 800
beneficial owners of its Common Stock.

ITEM 6.  SELECTED FINANCIAL DATA:

Dollars in thousands, except per share data:
                                  1997      1996      1995      1994     1993(1)
                                --------  --------  --------  --------  --------
Sales                           $23,088   $21,875   $24,231   $27,494   $29,098
Gross profit                      8,559     6,853     8,562     6,291     4,093
Selling, general and
 administrative expenses          7,268     7,254     7,155     8,830    10,708
Litigation settlements and
 related fees                      (752)                        1,351     3,803
Restructuring charges                                           3,548     2,999
Interest expense                    592       572       895     1,506     1,118
Net income (loss)                 1,451      (973)      512    (8,539)  (14,535)
Income (loss) per common
 share (2)                          .13      (.16)      .02     (1.31)    (2.91)
Total assets                     14,568    15,123    15,704    19,740    27,323
Total long-term debt              7,235     7,021     5,858    10,194     9,596
Total stockholders' equity        4,437     4,031     5,412      (251)    4,260

(1)  The year ended June 30,  1993 has been  restated  to reflect  the  combined
     operations with BMW Industrial Services, Inc., which was acquired in Fiscal
     1993 and has been accounted for as a pooling of interests.

(2)  Income  (loss) per common  share in 1996 and 1995 have been  restated  from
     amounts  previously  reported to include the effects of the preferred stock
     dividend requirements.

<PAGE>
                                       11

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

         The  following  discussion  should  be read  in  conjunction  with  the
Consolidated  Financial Statements and Notes thereto appearing elsewhere in this
Report.

Results of Operations - 1997 compared to 1996:

         Sales  increased 5.5% in the fiscal year ended June 30, 1997 from 1996.
A shift in sales from vacuum  services to UHP  waterjetting  services  continued
from the prior year. UHP sales  increased 18% in 1997 from 1996, and represented
50% of total sales. In 1996, UHP services  represented 45% of total sales. Sales
of vacuum services  decreased by 12% and went from 31% of total sales in 1996 to
26% in 1997. Sales of waterblasting  services, the Company's other major service
line,  increased 5% in 1997 from 1996 and represented 18% of total sales in both
years.

         The shift in sales from vacuum  services to UHP  waterjetting  services
was expected.  Competition in the vacuum services area has increased steadily in
recent years. There has been consolidation in the industry and some competitors,
including some larger than the Company, have lowered rates to gain market share.
The Company has generally  chosen not to compete on price and has emphasized its
UHP  waterjetting  service  line,  where  management  believes  it  has a  clear
technological advantage.

         Sales  of UHP  waterjetting  services  were  also  aided in 1997 by new
applications for the Company's  technology in the hazardous  materials abatement
industry.  The Company had sales of $1.2 million in this area in 1997,  compared
to less than $400,000 in 1996.  The Company  expects  sales of UHP  waterjetting
services to this industry to continue to increase in Fiscal 1998.

         The Company's gross margin in 1997 increased to 37% of sales,  from 31%
in the prior year.  Increased sales of the UHP waterjetting  service line caused
part of this improvement.  Lower equipment repair costs resulting from increased
emphasis  on  preventive   maintenance   also   contributed.   Lower   equipment
depreciation costs spread over higher revenues also helped to increase the gross
margin percentage.

         Selling,  general and administrative  expenses increased by .2% in 1997
over  the  prior  year,  and  represented  31% of sales in 1997 and 33% in 1996.
Interest expense  increased 4% in 1997 from 1996, and represented 3% of sales in
both years.

         Net income in 1997 was increased by a one-time  gain on  settlement  of
litigation of $752,000, or $.09 per common share.

Results of Operations - 1996 compared to 1995:

         The Company's  sales  decreased by 10% in 1996 from the prior year. The
decrease was primarily in sales of vacuum and waterblasting services.  Together,
these services  decreased by 19% in 1996, and represented 49% of total sales. In
1995 these  service  lines  accounted  for 55% of total sales.  The Company also
exited several minor service lines during the year.

         Competition in vacuum and waterblasting services is increasing. Several
competitors,  which are larger and have greater resources than the Company, have
recently  reduced rates in an attempt to gain market share,  particularly in the
Gulf Coast region.  The Company has generally chosen not to compete on price and
has emphasized its UHP waterjetting  service line, where management  believes it
<PAGE>
                                       12

has a clear technological advantage. Sales of the UHP waterjetting service line,
which is the  Company's  most  profitable,  increased 6% in 1996 from 1995,  and
represented 45% of total sales compared to 38% in the prior year.

         The Company plans to continue  emphasizing UHP  waterjetting  services,
and is continually  developing new applications and tooling for this technology.
One area that  seems  very  promising  is  removal  of some  types of  hazardous
coatings  containing  asbestos and lead. UHP waterjetting is a new technology to
the abatement industry, and the Company anticipates  significant future revenues
from it. The Company does not plan to become an abatement  contractor.  Instead,
it will supply  equipment  and  expertise to abatement  contractors  to increase
their productivity.

         The Company's  gross margin dropped to 31% of sales in 1996 from 35% in
1995. The drop was primarily  caused by changes in the estimated useful lives of
certain equipment,  which had the net effect of increasing  depreciation expense
in 1996 by $525,000,  or 2.4 % of sales.  The drop in sales also  contributed to
the decreased gross margin percentage due to the effect of spreading fixed costs
(primarily depreciation) over a smaller revenue base.

         Selling,  general and administrative expenses increased by 1.4% in 1996
from the prior year. Due to lower  revenues,  these expenses  amounted to 33% of
sales in 1996,  compared to 29% in 1995.  Interest  expense  decreased by 36% in
1996 from 1995, due to refinancing  under more  favorable  terms,  conversion of
debt to equity,  and positive cash flows from  operations  that were used to pay
down debt.

Quarterly Operating Results (unaudited):

         The following table presents certain unaudited  consolidated  quarterly
operating  information for the Company and includes all  adjustments  considered
necessary for a fair presentation of such information for the interim periods.

                                     Three Months Ended
                            (In thousands, except per share data)
               9/30/95 12/31/95 3/31/96 6/30/96 9/30/96 12/31/96 3/31/97 6/30/97
               ------- -------- ------- ------- ------- -------- ------- -------
Sales          $5,888   $5,611  $4,590  $5,786  $6,275   $5,133  $5,321  $6,359
Gross profit    2,046    1,934     963   1,910   2,367    1,727   2,138   2,327
Net income 
  (loss)          131       41  (1,123)    (22)    250      437     305     459
Income (loss)
  per common
  share        $  .00   $ (.01) $ (.14) $ (.01) $  .02   $  .04  $  .03  $  .04

         A  significant  drop in revenues  for the quarter  ended March 31, 1996
caused the net loss in that period.  Gross  profit as a percentage  of sales for
that quarter also dropped  significantly  because fixed costs, such as equipment
depreciation, were spread over a lower revenue base.

         Net income in the  quarter  ended  December 31, 1996  was  increased by
$752,000,  or  $.09  per  common  share,  by  a  one-time  gain on settlement of
litigation.

         Quarterly  income (loss) per common share above have been restated from
amounts  previously  reported to include the effects of preferred stock dividend
requirements.

Liquidity and Capital Resources:

         Working  capital  increased  from $1.3 million at June 30, 1996 to $3.6
million at June 30, 1997.  Most of the 1997  increase was due to cash  generated
<PAGE>
                                       13

from  operations.  Cash generated from operations  totaled $2.6 million in 1997,
compared  to $600,000  in 1996.  The  improvement  in the  Company's  results of
operations, going from a loss of $973,000 in 1996 to net income of $1,451,000 in
1997, accounted for most of the improvement in cash generated from operations.

         Additions to property and equipment were $1.7 million in 1997, compared
to $2.5 million in 1996.  Additions to property and  equipment in 1995 were $1.3
million.  All  1997 and 1996  additions  were  financed  through  operations  or
borrowings  from the Company's  revolving line of credit,  which expires in July
2000.  The Company  anticipates  spending  more on  additions  to  property  and
equipment  in Fiscal 1998 than in 1997,  but  expects  that total  additions  to
property and  equipment in 1998 should not exceed  depreciation  expense in that
year.

         Financing  activities  used $1 million of cash in 1997,  compared  with
providing  $1.7 million in 1996.  The Company  purchased  500,000  shares of its
common  stock  in  Fiscal  1997  in  accordance  with a share  purchase  program
announced in August 1996, for a total cost of $564,000. This expenditure,  along
with payment of preferred  stock  dividends of $385,000,  accounted for the 1997
use of cash. The Company does not expect to purchase additional common shares in
Fiscal 1998.

         During 1997 the Company negotiated an extension of its credit agreement
with  its  majority  stockholder  and its bank  line of  revolving  credit.  The
existing  arrangements were extended two years, to July 2000. The Company had $1
million of credit available under these agreements on June 30, 1997. The Company
expects to have adequate cash flows from  operations to meet all  obligations in
Fiscal 1998, as well as to provide for all necessary capital expenditures.

Accounting Standards:

         During 1997, the Financial  Accounting Standards Board issued Statement
of Financial Accounting Standards No. 128, "Earnings Per Share"("SFAS No. 128").
SFAS No. 128  modifies  the manner in which  an  entity  computes,  presents and
discloses  its  earnings  per  share.   The  Company  is  required  to adopt the
provisions  of  SFAS No. 128 beginning in the quarter  ended  December 31, 1997.
The  adoption of SFAS No. 128 is not  expected to have a  significant  impact on
the Company's computation and presentation of earnings per share.

         During 1997, the Financial  Accounting Standards Board issued Statement
of  Financial  Accounting  Standards No. 130, "Reporting  Comprehensive  Income"
("SFAS No. 130"). SFAS No. 130 established  standards for  reporting and display
of  comprehensive  income and  its  components.  SFAS No. 130  is  effective for
fiscal  years  beginning after December 15, 1997  and is not  expected to have a
significant impact on the consolidated financial statements of the Company.
 
         During 1997, the Financial  Accounting Standards Board issued Statement
of Financial  Accounting Standards No. 129,  "Disclosure  of  Information  about
Capital  Structure"  ("SFAS  No. 129")  and  Statement of  Financial  Accounting
Standards  No. 131,  "Disclosures  about  Segments of an  Enterprise and Related
Information"  ("SFAS No. 131"). SFAS No. 129 will  be  effective  for the Fiscal
year ending June 30, 1998 and SFAS No. 131 will be effective for the fiscal year
ending June 30,  1999.  As the adoption of SFAS No. 129 and SFAS No. 131 require
only   additional  disclosures,  there  will  be  no  effect  on  the  Company's
consolidated financial position or results of operations or cash flows.
<PAGE>
                                       14

Forward looking statements:

         Forward-looking  statements  in this Form 10-K are made pursuant to the
safe harbor provisions of the Private Securities  Litigation Reform Act of 1995.
Such  forward-looking  statements are subject to certain risks and uncertainties
that could  cause  actual  results to differ  materially  form those  projected.
Readers  are  cautioned  not to place undue  reliance  on these  forward-looking
statements,  which  speak  only  as of the  date  hereof.  Potential  risks  and
uncertainties  include,  but are not limited to,  general  business and economic
conditions; the financial strength of the various industries the Company serves,
the competitive pricing environment of the industrial cleaning service industry,
the cost and  effectiveness of planned marketing  campaigns,  and the success of
the  Company to  continue  to  develop  new  applications  and  markets  for its
technology.

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA:

         The  required  financial  statements  of the  Registrant  are set forth
immediately  following the signature page to this  registration  statement.  See
"Item 14 - Exhibits,  Financial Statements,  Schedules and Reports on Form 8-K",
for index to the financial statements.

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

         None.


                                    PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT:

         The  information  required by this item is set forth under the captions
"Election  of  Directors"  and  "Executive  Compensation"  of  the  registrant's
definitive proxy statement, and incorporated herein by reference.

ITEM 11. EXECUTIVE COMPENSATION:

         The  information  required  by this item is set forth under the caption
"Executive  Compensation"  of the registrant's  definitive proxy statement,  and
incorporated herein by reference.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT:

         The  information  required  by this item is set forth under the caption
"Beneficial Ownership of Voting Securities" of the registrant's definitive proxy
statement, and incorporated herein by reference.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS:

         The  information  required  by this item is set forth under the caption
"Executive  Compensation"  of the registrant's  definitive proxy statement,  and
incorporated herein by reference.
<PAGE>
                                       15

                                    PART IV

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

A. (1)   Financial Statements Filed:

         Valley Systems, Inc. and Subsidiaries:

           Report of Independent Accountants.

           Consolidated Balance Sheets at June 30, 1997 and 1996.

           Consolidated Statements of Income for years ended June 30, 1997, 1996
              and 1995.

           Consolidated  Statements of  Stockholders' Equity for the years ended
              June 30, 1997, 1996 and 1995.

           Consolidated  Statements of Cash  Flows for  the years ended June 30,
              1997, 1996 and 1995.

           Notes to Consolidated Financial Statements.

   (2)    Exhibits:

No.        Description of Exhibit
---        ----------------------
3.1    Restated Certificate of Incorporation of Registrant. (1)
3.2    Certificate of Amendment of Certificate of  Incorporation  of Registrant.
       (16)
3.3    By-laws of Registrant (as amended). (16)
4.1    Form of Designation of Rights and  Preferences  of the Series A Preferred
       Stock. (1)
4.2    Form of Designation of Rights and  Preferences  of the Series B Preferred
       Stock. (1)
4.3    Certificate  of  Designation  of  Rights  and  Preferences  of  Series  C
       Preferred Stock. (15)
4.4    Specimen Certificate of Common Stock. (1)
4.5    Form of Underwriter's Warrant Agreement. (1)
4.6    1991 Stock Option Plan, and Form of Agreement. (1)(13)
4.7    Warrant Grant Agreement  dated June 2, 1994  between the  Registrant  and
       Rollins Investment Fund. (14)
10.1   Employment  Agreement, dated as of March 13, 1991, between the Registrant
       and Eugene R. Valentine. (1)
10.2   Business  Development  Contract  between  the  Registrant and the Aberlyn
       Group, Inc. dated as of October 1, 1990. (1)
10.3   Agreement  and  Undertaking  dated  April  29,  1991  by  and  among  the
       Registrant,  Eugene  R. Valentine,  Aberlyn Group, Inc., Lawrence Hoffman
       and Robert M. Rubin. (1) 
10.4   Form of  Voting  Trust  Agreement  between  Eugene R. Valentine  and  the
       Aberlyn Group, Inc. (1)
10.5   Letter dated March 15, 1991, to Aberlyn  Group, Inc., respecting  sale of
       Common Stock to Consultant in certain events. (1)
10.6   Lease  between the Registrant  and  Eugene R.  Valentine  and  Cynthia J.
       Valentine dated as of November 1, 1988 as amended in March 1991. (1)
<PAGE>
                                       16

10.7   Securities  urchase  Agreement  dated  December 16, 1991  between Rollins
       Investment Fund ("RIF") and the Registrant. (2)
10.8   Stock Purchase Agreement, dated June 12, 1992, among Eugene R. Valentine,
       Nicholas J. Pace and Rollins Investment Fund. (3)
10.9   Reorganization  Agreement dated July 31, 1992 between  Registrant and the
       stockholders of BMW Industrial Services, Inc., and exhibits thereto. (4)
10.10  Agreement  dated  July  31,  1992  between  Registrant  and   Power  City
       Industrial Services, Inc. (4)
10.11  Loan  Agreement from Rollins  Investment  Fund to Eugene R. Valentine and
       Cynthia J. Valentine, dated October 14, 1992. (5)
10.12  Loan Agreement from Eugene R. Valentine to Registrant,  dated October 16,
       1992. (5)
10.13  Standby and Subordination Agreement  from Eugene R. Valentine and Cynthia
       J. Valentine to Fifth Third Bank. (5)
10.14  Credit and Security  Agreement  dated  December 30, 1991 by and among the
       Fifth  Third  Bank,  the  Registrant,  Valley  Systems  of Ohio, Inc. and
       Diversified Specialty Enterprises, Inc. (6)
10.15  Lease  agreements  between  Munco  Development Company and the Registrant
       with  respect to  leases of office space  at  Crescent  Pointe  Building,
       Canton, Ohio. (6)
10.16  Amendment No.1, dated as of November 16, 1992, to the Credit and Security
       Agreement,  dated as of December 31, 1991,  by and between Registrant and
       the Fifth Third Bank. (7)
10.17  Amendment  No. 2, dated  as of July 20, 1993, to the Credit and  Security
       Agreement, dated as of  December 30, 1991, by and betwee  the  Registrant
       and the Fifth Third Bank. (8)
10.18  Equipment Lease Agreement and  Riders  No. 1 & No. 2 by and  between  the
       Registrant and Ally Capital Corporation dated December 18, 1992. (9)
10.19  Letter   Agreement   dated   September  9,  1993  between   Ally  Capital
       Corporation   and   the   Registrant   and  Subordination   and  Security
       Agreement made as of September 9,  1993 between Ally  Capital Corporation
       and Rollins Investment Fund. (9)
10.20  Loan  and  Security  Agreement,  dated as of June 29, 1994 by and between
       Registrant and Rollins Investment Fund. (15)
10.21  Term Note dated June 29, 1994 from Registrant to Rollins Investment Fund.
       (15)
10.22  First  Amendment  to  Term  Note dated September 2, 1994  by  and between
       Registrant and Rollins Investment Fund. (15)
10.23  First  Amendment to Loan and Security  Agreement  dated March 28, 1995 by
       and between Registrant and Rollins Investment Fund. (16)
10.24  Second  Amendment  to Loan and Security  Agreement dated November 5, 1996
       by and between Registrant and Rollins Investment Fund. (18)
16.1   Letter dated July 8, 1993 from Valley Systems,  Inc. to Feldman,  Radin &
       Co., P.C. terminating the auditor's services. (10)

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

(1)  Hereby  incorporated  by  reference  to  the  filing  of  the  Registrant's
     Registration  Statement on Form S-1  declared  effective by the SEC on June
     11, 1991.
<PAGE>
                                       17

(2)  Hereby  incorporated  by  reference  to the filing of the  Schedule  13D of
     Rollins Investment Fund, dated December 20, 1991.
(3)  Hereby  incorporated  by  reference  to the filing of the  Schedule  13D of
     Rollins Investment Fund, dated June 18, 1992.
(4)  Hereby incorporated by reference to the filing of the Registrant's Form 8-K
     dated August 10, 1992.
(5)  Hereby incorporated by reference to the filing of the Registrant's Form 8-K
     dated October 30, 1992.
(6)  Hereby  incorporated  by reference to the filing of the  Registrant's  Form
     10-K dated November 6, 1992.
(7)  Hereby incorporated by reference to the filing of the Registrant's Form 8-K
     dated December 21, 1992.
(8)  Hereby incorporated by reference to the filing of the Registrant's Form 8-K
     dated July 30, 1993.
(9)  Hereby  incorporated  by reference to the filing of the  Registrant's  Form
     10-K dated September 24, 1993.
(10) Hereby incorporated by reference to the filing of the Registrant's Form 8-K
     dated July 9, 1993.
(11) Hereby  incorporated  by reference to the filing of the  Registrant's  Form
     10-Q dated February 11, 1994.
(12) Hereby incorporated by reference to the filing of the Registrant's Form 8-K
     dated June 29, 1994.
(13) This is a compensatory plan or arrangement.
(14) Hereby incorporated by reference to the filing of the Registrant's Form 8-K
     dated September 2, 1994.
(15) Hereby  incorporated  by reference to the filing of the  Registrant's  Form
     10-K dated September 26, 1994.
(16) Hereby  incorporated  by reference to the filing of the  Registrant's  Form
     10-K dated September 25, 1995.
(17) Hereby  incorporated  by reference to the filing of the  Registrant's  Form
     10-K dated September 24, 1996.
(18) Included as an exhibit in this Form 10-K.


Reports on Form 8-K filed during the three months ended June 30, 1997:

         None.
<PAGE>
                                       18

                                   SIGNATURES

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


                                   VALLEY SYSTEMS, INC.


                                   By: \s\ Ed Strickland
                                           President and
                                           Chief Executive Officer


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



     Signature                         Title                        Date
     ---------                         -----                        ----
\s\  Ed Strickland          President and Chief
                            Executive Officer                 September 22, 1997

\s\  Dennis D. Sheets       Vice President, Chief Financial
                            Officer, Treasurer and Secretary  September 22, 1997
                      
\s\  Allen O. Kinzer        Director                          September 22, 1997

\s\  Joe M. Young           Director                          September 22, 1997

<PAGE>
                                       19

                      VALLEY SYSTEMS, INC. AND SUBSIDIARIES
                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS


                                                                         Page
                                                                        Number

REPORT OF INDEPENDENT ACCOUNTANTS                                         20

CONSOLIDATED BALANCE SHEETS - June 30, 1997 and 1996                      21

CONSOLIDATED STATEMENTS OF INCOME - Years ended June
    30, 1997, 1996 and 1995                                               22

CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY - Years
    ended June 30, 1997, 1996 and 1995                                    23

CONSOLIDATED STATEMENTS OF CASH FLOWS - Years ended
    June 30, 1997, 1996 and 1995                                          24

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS                             25-32

     All  schedules  are  omitted  because  they  are  not  required  under  the
instructions,  are inapplicable, or the information is included elsewhere in the
financial statements.
<PAGE>
                                       20

Report of Independent Accountants

To the Stockholders of
 Valley Systems, Inc.:

We have audited the accompanying  consolidated balance sheets of Valley Systems,
Inc. and  Subsidiaries  (the  "Company")  as of June 30, 1997 and 1996,  and the
related consolidated  statements of income,  stockholders' equity and cash flows
for  each  of  the  three  years  in the  period  ended  June  30,  1997.  These
consolidated  financial  statements  are  the  responsibility  of the  Company's
management.  Our  responsibility is to express an opinion on these  consolidated
financial statements based on our audits.

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

In our opinion, the consolidated  financial statements referred to above present
fairly, in all material respects,  the consolidated financial position of Valley
Systems, Inc. and Subsidiaries as of June 30, 1997 and 1996 and the consolidated
results of their  operations and their cash flows for each of the three years in
the period ended June 30, 1997, in conformity with generally accepted accounting
principles.

Coopers & Lybrand L.L.P.

Akron, Ohio
August 22, 1997

<PAGE>
                                       21

                     Valley Systems, Inc. and Subsidiaries
                          Consolidated Balance Sheets
                             June 30, 1997 and 1996

                                                         1997          1996
                                                   -------------  -------------
                             ASSETS
Current assets:
     Cash                                           $    200,093   $     86,099
     Accounts receivable                               5,638,350      4,684,719
     Prepaid supplies                                    469,839        443,446
     Prepaid expenses                                    160,772        193,587
                                                   -------------  -------------
        Total current assets                           6,469,054      5,407,851
Property and equipment                                 7,551,004      9,029,694
Intangible assets                                        548,000        685,000
                                                   -------------  -------------
                                                                 
               Total assets                         $ 14,568,058   $ 15,122,545
                                                   =============  =============

              LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
     Accounts payable                               $    971,611   $    756,672
     Accrued expenses                                  1,428,834      2,583,966
     Current portion of long-term debt                   495,929        729,506
                                                   -------------  -------------
        Total current liabilities                      2,896,374      4,070,144
Long-term debt                                         7,235,120      7,021,200
Commitments and contingencies
Stockholders' Equity:
     Preferred stock, $.10 par value; authorized
        2,000,000 shares, issued and outstanding
        55,000                                             5,500          5,500
     Common stock, $.01 par value; authorized
        12,000,000 shares, issued and outstanding
        8,512,073                                         85,121         85,121
     Paid-in capital                                  26,786,040     26,786,040
     Accumulated deficit                             (21,757,089)   (22,726,822)
     Treasury stock, at cost, 605,456 shares at
      June 30, 1997 and 105,456 at June 30, 1996        (683,008)      (118,638)
                                                   -------------  -------------
                                                       4,436,564      4,031,201
                                                   -------------  -------------
             Total liabilities and
               stockholders' equity                 $ 14,568,058   $ 15,122,545
                                                   =============  =============

   The accompanying notes are an integral part of these financial statements.
<PAGE>
                                       22

                     Valley Systems, Inc. and Subsidiaries
                        Consolidated Statements of Income
                For the years ended June 30, 1997, 1996 and 1995

                                            1997          1996          1995
                                       ------------  ------------  ------------
Sales                                  $ 23,088,298  $ 21,874,776  $ 24,230,858
Cost of sales                            14,529,554    15,021,953    15,668,561
                                       ------------  ------------  ------------
     Gross profit                         8,558,744     6,852,823     8,562,297
Selling, general and
  administrative expenses                 7,267,973     7,254,467     7,155,585
Interest expense                            592,024       571,700       894,583
Gain on settlement of litigation           (752,236)            -             -
                                       ------------  ------------  ------------
Income (loss) from operations
  before income taxes                     1,450,983      (973,344)      512,129
Income taxes                                      -             -             -
                                       ------------  ------------  ------------
     Net income (loss)                 $  1,450,983  $   (973,344) $    512,129
                                       ============  ============  ============
                                             
Net income (loss) per common share     $        .13  $       (.16) $        .02
                                       ============  ============  ============
Weighted average shares used
  in computation                          8,203,069     8,490,111     8,532,073
                                       ============  ============  ============

   The accompanying notes are an integral part of these financial statements.
<PAGE>
                                       23

                      Valley Systems, Inc. and Subsidiaries
                 Consolidated Statements of Stockholders' Equity
                For the years ended June 30, 1997, 1996 and 1995


              Preferred  Common   Paid-In    Accumulated   Treasury
               Stock(1) Stock(2)  Capital      Deficit       Stock      Total
               -------- ------- ----------- ------------- ---------- ---------- 
Balance, June
 30, 1994        $2,000 $85,121 $21,319,084 $(21,657,517) $       -  $ (251,312)
Conversion of
 debt to equity   3,000           2,997,000                           3,000,000
Sale of 
 preferred
 stock            2,500           2,467,956                           2,470,456
Net income                                       512,129                512,129
Series C 
 preferred
 dividends                                      (319,341)              (319,341)
                 ------ ------- ----------- ------------- ---------- ----------
Balance, June
 30, 1995         7,500  85,121  26,784,040  (21,464,729)         -   5,411,932
Purchase of 
 treasury stock                                            (118,638)   (118,638)
Retirement of
 Series B
 preferred stock (2,000)              2,000                                   -
Net loss                                        (973,344)              (973,344)
Series C
 preferred
 dividends                                      (288,749)              (288,749)
                 ------ ------- ----------- ------------- ---------- ----------
Balance, June
 30, 1996         5,500  85,121  26,786,040  (22,726,822)  (118,638)  4,031,201

Purchase of
 treasury
 stock                                                     (564,370)   (564,370)
Net income                                     1,450,983              1,450,983
Series C
 preferred
 dividends                                      (481,250)              (481,250)
                 ------ ------- ----------- ------------- ---------- ----------
Balance, June
 30, 1997        $5,500 $85,121 $26,786,040 $(21,757,089) $(683,008) $4,436,564
                 ====== ======= =========== ============= ========== ==========

    (1)  Share amounts are equivalent to ten times dollar amounts.
    (2)  Share amounts are equivalent to one hundred times dollar amounts.

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

<PAGE>
                                       24

                      Valley Systems, Inc. and Subsidiaries
                      Consolidated Statements of Cash Flows
                For the years ended June 30, 1997, 1996 and 1995

                                              1997          1996        1995
                                          ------------ ------------ ------------
Cash flows from operating activities:
  Net income (loss)                       $ 1,450,983  $  (973,344) $   512,129
  Adjustments to reconcile net income
   (loss) to cash provided by operating
   activities:
     Depreciation and amortization          3,138,326    3,516,986    3,229,816
     (Gain) loss on disposition of 
       property and equipment                  (5,784)      (6,865)       1,854
     (Increase) decrease in assets:
        Accounts receivable                  (953,631)    (658,313)     232,073
        Prepaid supplies                      (26,393)      16,143      (50,641)
        Prepaid expenses                       32,815       18,922        7,073
     Increase (decrease) in liabilities:
        Accounts payable                      214,939      218,840     (323,516)
        Accrued expenses                   (1,251,382)  (1,531,797)    (855,037)
                                          ------------ ------------ ------------
   Cash provided by operating activities    2,599,873      600,572    2,753,751
                                          ------------ ------------ ------------
Cash flows from investing activities:
  Additions to property and equipment      (1,665,092)  (2,547,375)  (1,289,083)
  Proceeds from dispositions of
    property and equipment                    148,240       99,541      684,238
                                          ------------ ------------ ------------
   Cash used by investing activities       (1,516,852)  (2,447,834)    (604,845)
                                          ------------ ------------ ------------
Cash flows from financing activities:
  Net borrowings from revolving line
    of credit                                 583,403    2,911,279    3,714,981
  Payments of other long-term debt           (603,060)    (702,810)  (9,331,833)
  Proceeds from sale of stock                       -            -    2,470,456
  Payments of preferred stock dividends      (385,000)    (385,000)    (223,091)
  Purchase of treasury stock                 (564,370)    (118,638)           -
                                          ------------ ------------ ------------
   Cash (used) provided by financing 
     activities                              (969,027)   1,704,831   (3,369,487)
                                          ------------ ------------ ------------
Increase (decrease) in cash                   113,994     (142,431)  (1,220,581)
Cash at beginning of year                      86,099      228,530    1,449,111
                                          ------------ ------------ ------------
Cash at end of year                       $   200,093  $    86,099  $   228,530
                                          ============ ============ ============
Cash paid for:
   Interest                               $   592,024  $   571,700  $   834,443
Non-cash financing activities:
   Notes payable converted to preferred
     stock                                                            3,000,000
   Reclassification of payments from
     former directors and officers                       1,017,000
   Preferred stock dividends accrued           96,250                    96,250

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

<PAGE>
                                       25

                     Valley Systems, Inc. and Subsidiaries
                        Notes to Consolidated Statements

  1.   Description of Business:

       The  Company  is  engaged  in  the  business  of  providing   specialized
       industrial  cleaning and other  services to divisions  and  facilities of
       Fortune 500 companies and other substantial  businesses  engaged in heavy
       industry.  Such  services  generally  involve the  removal of  industrial
       grime,  deposits,  wastes,  encrustations and coatings from equipment and
       facilities.  The  Company's  principal  customers  are in  the  chemical,
       plastics,  power  generation,   petroleum  refining  and  primary  metals
       businesses.   The  Company's  industrial  cleaning  methods  include,  in
       addition  to  the  use  of   waterblasting,   vacuuming  and  other  more
       conventional  procedures,  the application of ultra-high pressure ("UHP")
       waterjetting methods.

  2.   Summary of Significant Accounting Policies:

       Principles  of  Consolidation:   The  consolidated  financial  statements
       include the  accounts of the Company and its  wholly-owned  subsidiaries.
       All  material  intercompany  transactions  have  been  eliminated  in the
       accompanying consolidated financial statements.

       Revenue  Recognition:  Sales and the related  cost of sales for  services
       provided are recorded as the services are performed.

       Accounts  Receivable:  The  Company's  customers  are  located  primarily
       throughout  the United  States.  The Company  monitors  potential  credit
       losses  and such  losses  have  been  within  management's  expectations.
       Accounts  receivable which become  uncollectible  are written off against
       operations  at the time  they  are  deemed  to be  worthless.  The  total
       uncollectible accounts charged to operations for the years ended June 30,
       1997, 1996 and 1995 were $51,000, $6,000, and $89,000,  respectively. The
       allowance for doubtful accounts was $125,000 at June 30, 1997 and 1996.

       Prepaid  Supplies:  Prepaid  supplies  consist  of items  to  be  used in
       operations, and  are stated at the lower of cost (first in, first out) or
       market.

       Property and  Equipment:  Property and equipment are stated at cost.  The
       Company  uses the  straight-line  method of  depreciation  for  financial
       reporting purposes. For income tax purposes,  depreciation is computed by
       either the accelerated or modified cost recovery  methods.  The estimated
       useful lives for financial reporting purposes are as follows:

                   Building and leasehold improvements     3 to 15 years
                   Automobiles and trucks                  3 to 7 years
                   Equipment                               3 to 7 years

       The cost and related accumulated  depreciation of assets retired, sold or
       otherwise  disposed of are removed from the accounts and any gain or loss
       is reflected in the current years' results of operations.

       Effective July 1, 1995,  the Company  revised its estimates of the useful
       lives of certain  machinery and equipment.  This change was brought about
       by a review of machinery  and  equipment by branch  management  to better
       reflect the  estimated  periods  during  which such assets will remain in
       service. The change had the effect of increasing depreciation expense and
       decreasing net income by approximately  $525,000 ($.06 per share) for the
       year ended June 30, 1996.
<PAGE>
                                       26

       Income Taxes:  Deferred  income  taxes  are  provided  to reflect the tax
       effects  of  temporary  differences  between financial and tax reporting,
       principally related to depreciation.

       Intangible Assets: Intangible assets include the cost of certain patents,
       technology,  trademarks,  and a  non-compete  agreement.  These items are
       being amortized to operations on a straight-line basis over 10 years, the
       period in which the  economic  benefits  are  estimated  to be  realized.
       Accumulated amortization amounted to $822,000 and $685,000 as of June 30,
       1997 and 1996, respectively.

       Income (Loss) Per Common  Share:  Income (loss) per common share is based
       on the  weighted  average  number  of  common  shares  and  common  share
       equivalents  outstanding  during the period  after  consideration  of the
       preferred  stock dividend  requirements  of $385,000 in 1997 and 1996 and
       $319,341 in 1995. Common share equivalents include dilutive stock options
       and warrants using the Treasury  Stock method.  These items have not been
       included in computing  income (loss) per common share for the three years
       in the period  ended June 30, 1997 since such  inclusion  would be either
       anti-dilutive  or immaterial.  Income (loss) per common share in 1996 and
       1995 have been restated from amounts  previously  reported to include the
       effects of the preferred stock dividend requirements.

       Use of Estimates:  The preparation of financial  statements in conformity
       with generally accepted accounting principles requires management to make
       estimates  and  assumptions   that  affect  the  amounts  of  assets  and
       liabilities  and disclosure of contingent  assets and  liabilities at the
       dates of the financial  statements  and the reported  amounts of revenues
       and expenses during the reporting periods. Actual results may differ from
       those estimates.

       Fair Value of  Financial  Instruments:  The  carrying  values of accounts
       receivable and short-term  borrowings  represent  reasonable estimates of
       the fair values of these instruments due to their short  maturities.  The
       fair value of long-term debt is estimated by discounting  the future cash
       flows  using  rates  currently  available  to the  Company  for debt with
       similar terms and remaining maturities.  The estimated fair values of the
       long-term debt at June 30, 1997 approximated its carrying values.

       New  Accounting  Pronouncements:  During 1997,  the Financial  Accounting
       Standards Board issued Statement of Financial  Accounting  Standards  No.
       128, "Earnings  Per Share"  ("SFAS No.  128").  SFAS No. 128 modifies the
       manner in which an entity  computes,  presents and discloses its earnings
       per share.  The Company is required to adopt the  provisions  of SFAS No.
       128  beginning in the quarter  ended  December 31, 1997.  The adoption of
       SFAS No.128 is not expected to have a significant impact on the Company's
       computation and presentation of earnings per share.

       During 1997, the Financial Accounting Standards Board issued Statement of
       Financial Accounting Standards No. 130, "Reporting Comprehensive  Income"
       ("SFAS No. 130").  SFAS No. 130 established  standards  for reporting and
       display  of  comprehensive  income and  its  components.  SFAS No. 130 is
       effective  for fiscal years  beginning after December 15, 1997 and is not
       expected  to  have  a  significant  impact on the consolidated  financial
       statements of the Company.
<PAGE>
                                       27

       During 1997, the Financial  Accounting  Standards Board issued  Statement
       of  Financial  Accounting  Standards No. 129,  "Disclosure of Information
       about  Capital  Structure"  ("SFAS No. 129")  and  Statement of Financial
       Accounting Standards No.131, "Disclosures about Segments of an Enterprise
       and Related Information" ("SFAS No. 131"). SFAS No. 129 will be effective
       for  the  fiscal  year  ending  June 30,  1998  and  SFAS No. 131 will be
       effective  for  the fiscal year ending  June 30,  1999.  As the  adoption
       of  SFAS No. 129 and SFAS No. 131 require  only  additional  disclosures,
       there will be no effect on the Company's  consolidated financial position
       or results of operations or cash flows.

       Reclassifications:  Certain  amounts in the 1996  consolidated  financial
       statements have been reclassified to conform to the 1997 presentation.

  3.   Property and Equipment:

       Property and equipment consist of the following:
                                                         1997           1996
                                                     -----------    -----------
          Land                                       $   184,759    $   182,907
          Building and leasehold improvements            580,000        580,000
          Automobiles and trucks                       9,753,233     11,071,390
          Equipment                                    7,470,264      7,029,931
          Equipment in progress and parts                339,293        221,016
                                                     -----------    -----------
                                                      18,327,549     19,085,244
          Less accumulated depreciation
            and amortization                          10,776,545     10,055,550
                                                     -----------    -----------
                                                     $ 7,551,004    $ 9,029,694
                                                     ===========    ===========

       Included in property and  equipment  are assets under  capital  leases of
       $2,151,000  and  $3,277,000  with  related  accumulated  depreciation  of
       $1,481,000 and $1,743,000 as of June 30, 1997 and 1996, respectively.

       The Company  incurred  repairs  and  maintenance  costs on  property  and
       equipment of approximately $1,450,000,  $1,850,000 and $2,150,000 for the
       years ended June 30, 1997, 1996 and 1995, respectively.

  4.   Accrued Expenses:

       Accrued expenses consist of the following:
                                                         1997           1996
                                                     -----------    -----------
          Accrued salaries and bonus                 $   819,000    $   706,000
          Accrued payroll taxes, workers
           compensation insurance and other
           employee benefits                             172,000        357,000
          Accrued professional fees                       41,000        161,000
          Accrued preferred stock dividends               96,250              -
          Reserve for disputed amounts
            receivable (see Note 8)                            -      1,113,000
          Other accrued liabilities                      300,584        246,966
                                                     -----------    -----------
                                                     $ 1,428,834    $ 2,583,966
                                                     ===========    ===========
<PAGE>
                                       28
                                                    
  5.   Long-Term Debt:

       Long-term debt is comprised of the following:
                                                         1997           1996
                                                     -----------    -----------
          Capitalized leases (A)                     $   521,151    $ 1,124,211
          Revolving loan - bank (C)                    7,209,898      6,626,495
                                                     -----------    -----------
                                                       7,731,049      7,750,706
          Less: current portion of long-term debt        495,929        729,506
                                                     -----------    -----------
                                                     $ 7,235,120    $ 7,021,200
                                                     ===========    ===========

       A.  Capitalized  leases  are  due  in  monthly  installments ranging from
           $2,000 to $26,000 and bear interest of 16.4%.

       B.  The Company has a loan agreement with its majority stockholder, which
           expires in 2000 and  provides  a total credit facility to the Company
           Company as follows:

               Through July 1999:                 $9,000,000
               August 1999 through July 2000:     $8,000,000

           This  facility  may  be  utilized by borrowings at .5% over the prime
           rate (payable quarterly) or, at the Company's  option,  by having the
           stockholder  provide  bank  letters  of  credit which the Company can
           utilize as collateral for other obligations.   The Company reimburses
           the  stockholder for the actual cost of the letters of credit.   This
           loan  agreement  is  collateralized  by essentially all assets of the
           Company.  At June 30, 1997, there are no loans outstanding under this
           facility,  and  the stockholder has issued $8,280,000 in bank letters
           of credit, leaving $720,000 of the facility available to the Company.

      C.   This obligation represents  borrowings  under a $7,500,000  revolving
           loan agreement with a bank. The loan bears interest at 1.7% below the
           prime  rate  (6.80%  at  June  30, 1997),  payable  monthly,  and  is
           collateralized  by  a bank letter of credit provided by the Company's
           majority shareholder under the loan agreement described  in B. above.
           This  revolving  loan  agreement decreases to $6,500,000 in July 1999
           and expires July 2000.

           The aggregate maturities on the aforementioned debt are as follows:

               Year Ended June 30
                     1998                           $   495,930
                     1999                                25,222
                     2000                               709,897
                     2001                             6,500,000
<PAGE>
                                       29

  6.   Income Taxes:

       The income  tax  provision  for the three  years  ended June 30,  1997 is
       comprised of the following amounts:
                                                            1997   1996   1995
                                                            -----  -----  -----
          Current:
            Federal                                         $  -   $  -   $  -
                                                            =====  =====  =====

          Statutory rate                                     34 %  (34)%   34 %
          Operating loss utilized                           (34)          (34)
          Operating loss not utilizable                             34
                                                            -----  -----  -----
          Effective rate                                      - %    - %    - %
                                                            =====  =====  =====
 
       Deferred federal income taxes reflect the impact for financial  statement
       reporting  purposes  of  temporary   differences  between  the  financial
       statement and tax basis of assets and  liabilities.  At June 30, 1997 and
       1996, the components of the net deferred tax assets and liabilities  were
       as follows:
                                                         1997           1996
                                                     -----------    -----------
          Deferred tax assets:
           Allowance for doubtful accounts           $    50,000    $    50,000
           Vacation accrual                              140,000        132,000
           Litigation reserve                                  -         50,000
           Sales tax reserve                                   -         55,000
           Net operating loss carryforwards            8,026,232      9,919,383
           Other                                         123,253         70,395
                                                     -----------    -----------
                                                       8,339,485     10,276,788
          Deferred tax liabilities:
           Basis difference in fixed assets             (549,523)      (792,832)
                                                     -----------    ----------- 
          Net deferred tax assets                      7,789,962      9,483,946
          Valuation allowance                         (7,789,962)    (9,483,946)
                                                     -----------    ----------- 
               Net deferred taxes recognized         $         -    $         -
                                                     ===========    =========== 

       The  Company  has   approximately   $20,100,000  of  net  operating  loss
       carryforwards  for future  years,  which cannot be utilized to create tax
       refunds. Such amounts begin to expire in the year 2005.

  7.   Commitments:

       The  Company  has  various  capital  and  operating  leases in effect for
       equipment,  vehicles and  facilities  with initial terms ranging from one
       month to five years  with  renewal  options  generally  being  available.
       Minimum  commitments  under all capital and operating  leases at June 30,
       1997 are as follows:
<PAGE>
                                       30

                                                        Capital      Operating
                                                     -----------    -----------
         1998                                        $   538,969    $   103,100
         1999                                             25,542         39,600
         2000                                                  -         39,600
         2001                                                  -         23,100
                                                     -----------    -----------
         Total minimum lease payments                    564,511        205,400
                                                                    ===========
         Less amount representing interest                43,360
                                                     -----------
         Total present value of capital
           obligation                                    521,151
         Less current portion                            495,929
                                                     -----------
             Long-term obligation under 
              capital leases                         $    25,222
                                                     ===========

       Operating lease expense  amounted to $441,000,  $364,000 and $546,000 for
       the years ended June 30, 1997, 1996 and 1995, respectively.

  8.   Litigation:

       In addition to the matters  discussed  below,  the Company is involved in
       various litigation arising in the ordinary course of business. Management
       believes that the ultimate  resolution of such litigation will not have a
       material effect on the Company's operations or financial position.

       A.    The Company  filed a lawsuit in September  1993 against  certain of
             its former directors and officers,  as well as other parties.  This
             lawsuit was settled in December 1996.

       B.    During the fiscal year ended June 30, 1996, the Company  determined
             that amounts contributed to it by two former officers and directors
             that  were  previously  classified as loans to the Company were not
             loans. Instead, such contributions were determined to be repayments
             by  the  former  officers  and  directors  of amounts owed by those
             officers and directors to the Company at the time the contributions
             were  made.  Because  the former  officers  and  directors  in  the
             lawsuit  described  above  contested this determination,  an  equal
             amount was reserved. As a result of the settlement of this lawsuit,
             the  reserve  was  eliminated  in the quarter  ended  December  31,
             1996, resulting in a gain of $752,000 after related expenses of the
             litigation.

  9.  Major Customers:

      The  following  table  shows the  percentage  of total sales made to major
      customers for each fiscal year:
                                                           1997    1996    1995
                                                           ----    ----    ----
             Customer A                                     13%     14%     10%
             Customer B                                      6%     10%      9%
             Customer C                                      6%      5%      6%
             Customer D                                      6%      5%      5%
             Customer E                                      6%       *       *
             Customer F                                       *      5%      7%
             Customer G                                       *      5%      6%

               * Customer was less than 5% of total sales for the fiscal year.
<PAGE>
                                       31

 10.  Stockholders' Equity:

      A.    At June 30,  1995,  there  were 20,000  shares of Series B Preferred
            Stock  outstanding.  These shares were transferred to the Company in
            1996 as part of a settlement of litigation, and were then retired.

      B.    In  September  1994,  the Company  issued  55,000 shares of Series C
            Preferred  Stock to its majority stockholder, which then transferred
            them to an affiliate.  Each share of the Series C Preferred Stock is
            entitled  to  a  cumulative  annual   dividend  of  $7.00,   payable
            quarterly.  The  proceeds  from  the  sale of the  preferred  shares
            totaled $5.5  million;  $3.0 million in  the  conversion of debt for
            equity  and $2.5  million  of  cash.  The  cash  proceeds  from  the
            transaction  were used  to  retire  additional  debt and to  provide
            working capital.

 11.  Stock Options and Warrants:

       A.   In 1991,  the  Company  adopted a stock option  plan.  Up to 400,000
            shares of common  stock  may be issued  under the plan.  Outstanding
            options on June 30, 1997 were as follows:

                                     Shares
                             -----------------------
               Option Price    Total     Exercisable   Expiration Date
               ------------  --------    -----------   ---------------
                 $3.00         10,000       10,000           2001
                 $1.50         22,080       23,700           2001
                 $1.50         46,000       46,000           2002
                 $1.50        218,200       87,280           2004
                 $1.50         62,700            -           2006
                 $1.50         35,000            -           2007
                             --------     --------                     
                              393,980      166,980
                             ========     ========

       B.    In October 1994,  the Company issued stock options to its directors
             to purchase a total of 50,000  shares of its common  stock at $1.50
             per share. These options can be exercised up to 10,000 shares on or
             after  each of the first  five  anniversary  dates,  and  expire in
             October  2004.  These options are not part of the stock option plan
             above.  The Company also issued  options  under the plan to certain
             employees to purchase a total of 246,200  shares of common stock at
             $1.50 per share.  These  options can be  exercised up to 20% of the
             shares on or after  each of the first  five  anniversary  dates and
             expire in 2004.

       C.    On July 5, 1996, the Company modified options issued under the plan
             to purchase  34,780 shares of common stock at an original  exercise
             price of $3.00  per share by  repricing  the  options  to $1.50 per
             share. There was no compensation expense recognized related to this
             modification.  The Company  also issued  options  under the plan to
             certain  employees  to purchase a total of 64,700  shares of common
             stock at $1.50 per share.  These options can be exercised up to 20%
             of the shares on or after each of the first five anniversary  dates
             and expire in 2006.

       D.    In 1997 the  Company  issued  options  under  the  plan to  certain
             employees  to purchase a total of 35,000  shares of common stock at
             $1.50 per share.  These  options can be  exercised up to 20% of the
             shares on or after  each of the first  five  anniversary  dates and
             expire in 2007.
<PAGE>
                                       32

       E.    In 1997, 1996 and 1995,  respectively,  options to purchase 24,000,
             18,300 and 28,000 shares of common stock were forfeited.

       F.    The Company has elected to adopt the  "disclosure-only"  provisions
             of Statement of Financial Accounting Standards No. 123, "Accounting
             for  Stock  Based   Compensation"   ("SFAS  No.   123"),   with  no
             compensation cost recognized for options granted at or above market
             value.  For SFAS No. 123, the fair value of each option granted was
             estimated  on the  date of grant  using  the  Black-Scholes  option
             pricing  model  with  the  following   assumptions  for  1997:  (a)
             risk-free  interest rates of 6.40% to 7.04%;  (b) no dividend yield
             in either year; (c) expected  terms of 8 years;  and (d) volatility
             of 95%.

             If the Company had elected to recognize  the  compensation  cost of
             its stock  option plan based on the fair value of the awards  under
             that plan in  accordance  with SFAS No. 123,  net income would have
             been  reduced to  $1,306,346  ($.11 per common  share) for the year
             ended June 30, 1997.


       G.    At  June  30, 1997,  warrants  to  purchase shares of the Company's
             common stock were outstanding as follows:

                  Warrant
                   Price       Shares       Expiration Date
                 --------    ----------     ---------------
                  $ 3.25         10,000      June 1998
                  $ 3.09      2,314,000      May 2000
                  $15.00        100,000      September 2001

 12.   Employee Benefit Plan:

       In 1991, the Company adopted a 401(k) plan that covers  substantially all
       employees.  The plan is a  discretionary  plan in that the Company may or
       may not make contributions to the plan. The Company did not contribute to
       the plan during the three years ended June 30, 1997.