<PAGE>
 
    
 AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON DECEMBER 9, 1998     
                                                   
                                                REGISTRATION NO. 333-64233     
-------------------------------------------------------------------------------
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                      SECURITIES AND EXCHANGE COMMISSION
                            WASHINGTON, D.C. 20549
 
                               ----------------
                                
                             AMENDMENT NO. 1     
                                       
                                    TO     
                                   FORM S-1
            REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933
 
                               ----------------
 
                      PRODIGY COMMUNICATIONS CORPORATION
            (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
 
        DELAWARE                     7370                    04-3323363
     (STATE OR OTHER           (PRIMARY STANDARD          (I.R.S. EMPLOYER
     JURISDICTION OF              INDUSTRIAL           IDENTIFICATION NUMBER)
    INCORPORATION OR          CLASSIFICATION CODE
      ORGANIZATION)                 NUMBER)

                               44 SOUTH BROADWAY
                         WHITE PLAINS, NEW YORK 10601
                                (914) 448-8000
   (ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE,
                 OF REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
 
                               ----------------
 
                               SAMER F. SALAMEH
               
            CHAIRMAN OF THE BOARD AND CHIEF EXECUTIVE OFFICER     
                      PRODIGY COMMUNICATIONS CORPORATION
                               44 SOUTH BROADWAY
                         WHITE PLAINS, NEW YORK 10601
                                (914) 448-8000
               (NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE
              NUMBER, INCLUDING AREA CODE, OF AGENT FOR SERVICE)
 
                                  COPIES TO:
 
      DAVID A. WESTENBERG, ESQ.                   JAMES M. LURIE, ESQ.
          HALE AND DORR LLP                 O'SULLIVAN GRAEV & KARABELL, LLP
           60 STATE STREET                        30 ROCKEFELLER PLAZA
     BOSTON, MASSACHUSETTS 02109                NEW YORK, NEW YORK 10112
      TELEPHONE: (617) 526-6000                 TELEPHONE: (212) 408-2400
      TELECOPY: (617) 526-5000                  TELECOPY: (212) 408-2420
 
                               ----------------
 
  APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as
practicable after the effective date hereof.
 
  If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act,
check the following box. [_]
 
  If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering. [_]
 
  If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [_]
 
  If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [_]
 
  If delivery of the prospectus is expected to be made pursuant to Rule 434,
check the following box. [_]
 
                        CALCULATION OF REGISTRATION FEE
<TABLE>   
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------------------------------------------------------------------------------
<CAPTION>
                                                       PROPOSED
                                          PROPOSED      MAXIMUM
 TITLE OF EACH CLASS OF     AMOUNT        MAXIMUM      AGGREGATE   AMOUNT OF
    SECURITIES TO BE         TO BE     OFFERING PRICE  OFFERING   REGISTRATION
       REGISTERED        REGISTERED(1)  PER SHARE(2)   PRICE(2)      FEE(3)
------------------------------------------------------------------------------
<S>                      <C>           <C>            <C>         <C>
Common Stock, $.01 par
 value per share........      shares        $         $86,250,000  $25,443.75
------------------------------------------------------------------------------
------------------------------------------------------------------------------
</TABLE>    
 
(1) Includes     shares which the Underwriters have the option to purchase to
    cover over-allotments, if any. See "Underwriting".
   
(2) Estimated solely for the purpose of calculating the amount of the
    registration fee pursuant to Rule 457(o) under the Securities Act of 1933,
    as amended.     
   
(3) Previously paid.     
 
                               ----------------
 
  THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT
SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS
REGISTRATION STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH
SECTION 8(A) OF THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT
SHALL BECOME EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID
SECTION 8(A), MAY DETERMINE.
 
-------------------------------------------------------------------------------
-------------------------------------------------------------------------------
<PAGE>
 
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
+INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A         +
+REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE   +
+SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY  +
+OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT        +
+BECOMES EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR   +
+THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE      +
+SECURITIES IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE    +
+UNLAWFUL PRIOR TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF  +
+ANY SUCH STATE.                                                               +
++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++
                             SUBJECT TO COMPLETION
                  
PROSPECTUS     PRELIMINARY PROSPECTUS DATED DECEMBER 9, 1998     
 
                                       SHARES
 
                                 [PRODIGY LOGO]
 
                                  COMMON STOCK
 
                                  -----------
   
  All of the     shares of common stock, par value $.01 per share (the "Common
Stock"), offered hereby (the "Offering") are being sold by Prodigy
Communications Corporation ("Prodigy" or the "Company"). Prior to the Offering,
there has been no public market for the Common Stock of the Company. It is
currently estimated that the initial public offering price will be between $
and $   per share. See "Underwriting" for a discussion of the factors
considered in determining the initial public offering price of the Common
Stock. Application has been made for quotation of the Common Stock on the
Nasdaq National Market under the symbol "PRGY".     
 
                                  -----------
   
  SEE "RISK FACTORS" BEGINNING ON PAGE 10 FOR A DISCUSSION OF CERTAIN FACTORS
THAT SHOULD BE CONSIDERED BY PROSPECTIVE PURCHASERS OF THE COMMON STOCK.     
 
THESE SECURITIES  HAVE NOT BEEN APPROVED  OR DISAPPROVED BY  THE SECURITIES AND
EXCHANGE COMMISSION  OR ANY STATE SECURITIES COMMISSION NOR HAS  THE SECURITIES
 AND EXCHANGE COMMISSION  OR ANY  STATE SECURITIES COMMISSION  PASSED UPON THE
 ACCURACY OR  ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION  TO THE CONTRARY
  IS A CRIMINAL OFFENSE.
 
<TABLE>
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
<CAPTION>
                                                       UNDERWRITING
                                             PRICE TO DISCOUNTS AND  PROCEEDS TO
                                              PUBLIC  COMMISSIONS(1) COMPANY(2)
--------------------------------------------------------------------------------
<S>                                          <C>      <C>            <C>
Per Share..................................    $           $             $
--------------------------------------------------------------------------------
Total(3)...................................   $           $             $
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
</TABLE>
(1) The Company has agreed to indemnify the Underwriters against certain
    liabilities, including certain liabilities under the Securities Act of
    1933, as amended (the "Securities Act"). See "Underwriting".
 
(2) Before deducting expenses payable by the Company, estimated at $   .
 
(3) The Company has granted the Underwriters a 30-day option to purchase up to
        additional shares of Common Stock on the same terms and conditions as
    set forth above solely to cover over-allotments, if any. If this option is
    exercised in full, the Price to Public, Underwriting Discounts and
    Commissions and Proceeds to Company will be $   , $    and $   ,
    respectively. See "Underwriting".
 
                                  -----------
   
  The shares of Common Stock are offered, subject to prior sale, when, as and
if delivered to and accepted by the Underwriters, subject to certain conditions
including the approval of certain legal matters by counsel for the
Underwriters. The Underwriters reserve the right to withdraw, cancel or modify
such offer and to reject orders in whole or in part. It is expected that
delivery of the shares of Common Stock will be made against payment therefor on
or about      , 1999 at the office of Bear, Stearns & Co. Inc., 245 Park
Avenue, New York, New York 10167.     
 
                                  -----------
 
BEAR, STEARNS & CO. INC.                           BANCBOSTON ROBERTSON STEPHENS
 
                                  -----------
 
ING BARING FURMAN SELZ LLC                          VOLPE BROWN WHELAN & COMPANY
 
                                                         WIT CAPITAL CORPORATION
                                                    
                                                 AS E-MANAGER     
 
                                  -----------
 
                  The date of this Prospectus is      , 1998.
<PAGE>
 
          
Description of graphic material on inside front and back cover pages of
Prospectus:     
   
Inside front cover (first page of a three page fold-out):     
   
  The page depicts the four principal components of Prodigy's outsourcing
arrangements, with the names and logos of Prodigy's outsourced providers
identified next to the applicable function:     
   
  National Network: Splitrock     
   
  Customer Acquisition: IBM, Packard Bell, Best Buy, NEC, Microsoft, CompUSA,
Hewlett Packard, Toshiba and Blockbuster     
   
  Home Page: Excite and Lycos     
   
  Customer Service: Ron Weber and Associates, EnvisioNet, Softbank Services
Group, SPS Payment Systems and Stream     
   
The text in the upper right hand corner of the page is:     
   
  Prodigy follows a "best of breed" outsourcing philosophy in order to enhance
service quality, control costs and enable Prodigy to focus on core strengths.
       
  The page also includes Prodigy's logo and complete corporate name, Prodigy
Communications Corporation.     
   
Inside two pages of fold-out:     
   
  The page depicts a map of the United States (including Alaska and Hawaii),
with major cities identified and each POP used to provide Prodigy's services
represented by a dot.     
   
The caption on the top of the page is Nationwide Network Access, and the text
in the lower left hand corner of the page is:     
   
  Prodigy utilizes a nationwide network covering over 600 cities in all 50
states, allowing approximately 83% of the United States population to access
Prodigy's services with a local telephone call. The network used by Prodigy
includes approximately 650 local points of presence ("POPs"), of which over
550 POPS currently provide 56 kbps access to Prodigy Internet subscribers
having modems of that speed. The map above depicts the location of the POPs
used to provide Prodigy's services. The network used to provide these services
is owned and operated by Splitrock Services, Inc. See "Business--Network and
Related Infrastructure" and "--Principal Outsourcing Arrangements".     
   
  The page also includes Prodigy's logo and complete corporate name, Prodigy
Communications Corporation.     
   
Inside back cover:     
   
  The page depicts a representative Prodigy Internet personalized home page,
with selected modules highlighted by pointers to text in balloons.     
   
The caption on the top of the page is:     
   
  Prodigy Internet It's a tool for living.     
   
The caption on the bottom of the page is:     
   
  The image above is representative of a Prodigy Internet Home Page created
through the use of personalization tools.     
 
                               ----------------
 
  Prodigy(R), Prodigy Internet(TM), It's a Tool for Living(TM), Prodigy
Classic(TM) and the Prodigy(R) logo are trademarks of the Company. All other
trademarks or trade names referred to in this Prospectus are the property of
their respective owners.
 
                               ----------------
 
  CERTAIN PERSONS PARTICIPATING IN THE OFFERING MAY ENGAGE IN TRANSACTIONS
THAT STABILIZE, MAINTAIN OR OTHERWISE AFFECT THE PRICE OF THE COMMON STOCK,
INCLUDING OVER-ALLOTMENT, STABILIZING AND SHORT-COVERING TRANSACTIONS AND THE
IMPOSITION OF PENALTY BIDS. SEE "UNDERWRITING".
<PAGE>
 
 
                               PROSPECTUS SUMMARY
 
  The following summary is qualified in its entirety by, and should be read in
conjunction with, the more detailed information and the Consolidated Financial
Statements and Notes thereto appearing elsewhere in this Prospectus. Unless
otherwise indicated, the information contained in this Prospectus (i) has not
been adjusted to reflect the   -for-   reverse split of the Common Stock to be
effected prior to the closing of the Offering and (ii) assumes no exercise of
the Underwriters' over-allotment option. This Prospectus contains forward-
looking statements which involve risks and uncertainties. The Company's actual
results could differ materially from those anticipated or suggested in such
forward-looking statements as a result of certain factors, including those set
forth under "Risk Factors" and elsewhere in this Prospectus.
 
                                  THE COMPANY
   
  Prodigy Communications Corporation ("Prodigy" or the "Company") is a leading
nationwide Internet service provider ("ISP") that provides fast and reliable
Internet access and related value-added services. Prodigy has nationwide brand
recognition and customer acquisition channels not available to regional and
local ISPs, and utilizes a nationwide network covering over 600 cities in all
50 states allowing approximately 83% of the United States population to access
Prodigy's services with a local telephone call. Combining these strengths with
Prodigy's scalable technology has enabled the Prodigy Internet service to
achieve one of the fastest subscriber growth rates among U.S. ISPs, with the
number of billable subscribers to Prodigy Internet (including migration from
Prodigy's original online service, now called Prodigy Classic) increasing from
221,000 at December 31, 1997 to 433,000 at September 30, 1998. Prodigy Internet
enables the Internet to be used as a productivity tool by allowing subscribers
to obtain and communicate desired information quickly and efficiently in an
easy and personalized manner. Prodigy Internet users receive fast and reliable
access to the Internet, Prodigy-branded content powered by Excite and other
Prodigy member services. In October 1998, J.D. Power and Associates, an
independent market research firm, announced that Prodigy Internet had been
ranked third in overall customer satisfaction based on a nationwide survey of
users of the five largest national ISPs, representing approximately 52% of the
U.S. Internet/online access market. Prodigy is in the process of expanding its
Web hosting and electronic commerce activities for business customers, and
believes that its extensive experience in operating a large data center with
electronic commerce applications positions it well for growth in these areas.
Prodigy is also in the process of evaluating and introducing other consumer
value-added services, such as the co-branded marketing of paging, long-distance
and cellular telephone services, Internet-based telephony and fax services and
online bill presentment.     
   
  Prodigy has been an online pioneer since its inception in 1984. Prodigy's
original online service was launched as the world's first consumer-focused
online service in 1988 and achieved national distribution in 1990. Prodigy
Classic featured custom content, e-mail and chat capabilities and was based on
proprietary technologies. In October 1996, the Company launched Prodigy
Internet, an open standards-based Internet access service. Since the autumn of
1997, the Company has focused on expanding Prodigy Internet's subscriber base
and introducing additional value-added services. The Company has also made
strategic decisions to outsource its network, discontinue its development of
custom content and use multiple vendors for outsourced customer service
functions. As a result of these initiatives, the Company has substantially
reduced its fixed operating costs and headcount and now has a business and
operating model that it believes can accommodate sustained subscriber growth on
a cost-effective basis without significant capital expenditures. However, the
Company has incurred significant losses since inception, and there can be no
assurance that the Company will be able to achieve or sustain profitability.
During the years ended December 31, 1996 and 1997 and the nine months ended
September 30, 1998, the Company incurred net losses of $114.1 million, $129.3
million and $47.6 million, respectively, on revenues of $98.9 million, $134.2
million and $101.8 million, respectively. See "Risk Factors--History of
Losses".     
 
 
                                       3
<PAGE>
 
   
  The Internet has grown rapidly in recent years both in terms of the number of
Web users and the number of Web sites. International Data Corporation ("IDC")
estimates that at the end of 1997 there were over 38 million Web users in the
United States and over 68 million worldwide, and projects that by the end of
2002 the number of Web users will increase to over 135 million in the United
States and over 319 million worldwide. The Internet has become an important
global medium enabling millions of people to obtain and share information and
conduct business electronically, and a critical tool for information and
communications for many users. The rapid development and growth of the Internet
has resulted in a highly fragmented industry, consisting of more than 5,000
ISPs in the United States that provide access and related services to both
consumers and businesses.     
 
  The principal market for ISPs currently consists of consumers who are
generally focused on speed and reliability of access, ease of use, customer
service and price as they evaluate an ISP. A growing number of business
customers are beginning to focus on the Internet to extend communications and
to reach large numbers of geographically dispersed organizations and consumers
quickly and cost-effectively. While some ISPs already offer high-speed
connections and hosting for intranets and extranets, an increasing number of
businesses are beginning to rely on ISPs for commercial services that
facilitate electronic commerce, such as Web hosting, bill presentment, co-
location and other value-added services. Forrester Research, Inc. ("Forrester")
projects that revenues from Internet access services in the United States will
grow from $5.8 billion in 1997 to $38.1 billion in 2002, and that Internet
hosting revenues will increase from approximately $400 million in 1997 to $10.5
billion in 2002. In addition to services that enable electronic commerce, a few
larger and more sophisticated ISPs are beginning to market other value-added
services, such as paging, long-distance and cellular telephone services, to
both consumers and business customers nationwide.
 
  Prodigy's objectives are to strengthen its position as a leading nationwide
ISP and to expand the range of services it offers and markets it serves. Key
elements to the Company's business strategy include: leveraging the nationwide
strength of the Prodigy brand name and the nationwide access offered by Prodigy
Internet; introducing new services, including additional value-added services;
entering new markets, including small and medium sized businesses and the
Spanish-speaking and Hispanic market in the United States; and evaluating
opportunities for strategic acquisitions.
 
  The Company has in place a variety of nationwide customer acquisition
channels, including: PC bundling; the Microsoft relationship described below;
Web-based marketing; retail channels; direct mail and telemarketing; and
migration of subscribers from Prodigy Classic to Prodigy Internet. Many of
Prodigy's customer acquisition channels are not available to regional and local
ISPs who lack the required nationwide presence. The Prodigy Internet software
is included in the online services folder of every copy of the Windows 98 and
Windows 95 (OSR 2.5 release) operating systems shipped by Microsoft for sale in
retail channels or for loading on new PCs.
   
  Carso Global Telecom, S.A. de C.V. ("Carso Global Telecom") is the Company's
principal stockholder. Carso Global Telecom is a Mexican holding company with
ownership interests in telecommunications companies, including a controlling
interest in Telefonos de Mexico, S.A. de C.V. ("Telmex"). Telmex is the leading
provider of local and long-distance telephone services and the largest ISP in
Mexico, and currently has approximately 105,000 billable subscribers to its
Internet Directo Personal ("IDP") online service. IDP subscribers currently
generate average monthly revenue of approximately $20 per subscriber (based on
the current peso/dollar exchange rate). In November 1998, Prodigy and Telmex
agreed in principle that (i) Prodigy will acquire Telmex's IDP subscribers,
(ii) Prodigy and Telmex will develop a migration plan for the integration of
the Prodigy Internet and IDP services, (iii) Prodigy will contract with Telmex
to carry the integrated IDP/Prodigy Internet service on Telmex's existing
network in Mexico and to provide certain other functions associated with the
service, (iv) Prodigy will contract with selected third parties to provide
certain functions associated with the service, (v) Telmex will ensure, through
Prodigy's pricing arrangements with Telmex and third-party providers, that
Prodigy will receive an operating profit margin of 15% on the first 200,000 IDP
subscribers and 10% thereafter, (vi) Prodigy will issue approximately
26,500,000 shares of Common Stock to     
 
                                       4
<PAGE>
 
   
Telmex (based on present assumptions) and (vii) Telmex will guarantee that a
minimum of 300,000 additional billable IDP subscribers will be obtained over a
three-year period. Consummation of Prodigy's proposed acquisition of Telmex's
IDP subscribers will be subject to a number of significant conditions. Prodigy
currently anticipates that this transaction will be consummated in the first
half of 1999. However, there can be no assurance that this transaction will be
consummated on the terms summarized above, if at all. If this transaction is
consummated, the financial and operating implications, including the associated
accounting treatment, for Prodigy cannot be predicted at this time. See
"Business--Products and Services--Spanish-Speaking and Hispanic Market". The
Offering is not conditioned on completion of Prodigy's proposed acquisition of
Telmex's IDP subscribers, and completion of Prodigy's proposed acquisition of
Telmex's IDP subscribers is not conditioned on the Offering. Upon consummation
of the Offering (and assuming an initial public offering price of $   per
share), Carso Global Telecom will own  % of the Company's outstanding Common
Stock and Telmex will own  % of the Company's outstanding Common Stock ( % if
the Company issues 26,500,000 shares of Common Stock to Telmex upon
consummation of the Company's proposed acquisition of Telmex's IDP
subscribers). See "Principal Stockholders".     
 
  The Company was incorporated in Delaware in June 1996 under the name Prodigy,
Inc. and changed its name to Prodigy Communications Corporation in August 1998.
As used in this Prospectus, unless the context otherwise requires, the terms
"Prodigy" or the "Company" refer to Prodigy Communications Corporation and its
predecessors, in each case together with their subsidiaries. See "Corporate
History and Certain Transactions". The Company's principal executive offices
are located at 44 South Broadway, White Plains, New York 10601 and its
telephone number is (914) 448-8000.
 
                                       5
<PAGE>
 
                                  THE OFFERING
 
<TABLE>   
<S>                            <C>
Common Stock outstanding
 before the Offering.........  180,229,666 shares(1)
Common Stock offered hereby..        shares
Common Stock to be
 outstanding after the
 Offering....................        shares(1)(2)
Use of proceeds..............  To expand Prodigy's consumer business, introduce
                               new business services, enter new markets and for
                               general corporate purposes
Proposed Nasdaq National
 Market symbol...............  PRGY
</TABLE>    
----------
   
(1) Based on the number of shares outstanding as of September 30, 1998 and
    excluding shares of Common Stock (a) reserved for issuance pursuant to the
    Company's stock-based compensation plans and (b) issuable pursuant to
    outstanding options and warrants granted by the Company. As of September
    30, 1998, (a) the Company's 1996 Stock Option Plan covered 12,500,000
    shares of Common Stock, of which an aggregate of 8,708,769 shares of Common
    Stock were subject to outstanding options at a weighted-average exercise
    price of $1.41 per share, 3,785,142 shares were reserved for future option
    grants and 6,089 shares had been issued upon exercises, and (b) there were
    outstanding warrants to purchase an aggregate of 437,389 shares of Common
    Stock at a weighted-average exercise price of $2.75 per share. Also
    excludes 26,500,000 shares which the Company may issue to Telmex in
    connection with the Company's proposed acquisition of Telmex's IDP
    subscribers. See "Business--Products and Services--Spanish-Speaking and
    Hispanic Market". In addition, (a) upon the closing of the Offering (at an
    assumed initial public offering price of $   per share), International
    Business Machines Corporation ("IBM") and Sears, Roebuck and Co. ("Sears")
    will each hold a Contingent Stock Purchase Warrant (collectively, the
    "Contingent Warrants") to purchase    shares of Common Stock (     shares
    if the Underwriters' over-allotment option is exercised in full) at an
    exercise price of $   per share (subject to customary anti-dilution
    adjustments) at any time prior to the third anniversary of the Offering,
    and (b) the Company has reserved an aggregate of 2,000,000 shares of Common
    Stock under its 1998 Employee Stock Purchase Plan. Subsequent to September
    30, 1998, the Company granted warrants to purchase an aggregate of 52,220
    shares at a weighted-average exercise price of $2.92 per share and options
    to purchase an aggregate of 515,000 shares under its 1996 Stock Option Plan
    at an exercise price of $2.00 per share. See "Corporate History and Certain
    Transactions--Acquisition of Prodigy Services Company", "Management--Stock
    Plans" and Notes 1, 4 and 9 to the Company's Consolidated Financial
    Statements.     
(2) Includes an aggregate of     shares to be issued to IBM and Sears upon the
    closing of the Offering (at an assumed initial public offering price of $
    per share) pursuant to the conversion of certain 8% Contingent Convertible
    Promissory Notes (the "Contingent Notes") held by them. See "Corporate
    History and Certain Transactions--Acquisition of Prodigy Services Company"
    and Notes 1, 4 and 9 to the Company's Consolidated Financial Statements.
 
                                       6
<PAGE>
 
                 SUMMARY CONSOLIDATED FINANCIAL AND OTHER DATA
   
  Prior to June 17, 1996, the Company was a start-up company engaged in the
evaluation and development of cellular telephone systems and Internet access
and online services in Africa. On June 17, 1996, the Company consummated its
acquisition (the "Prodigy Acquisition") of Prodigy Services Company ("PSC").
The Prodigy Acquisition was accounted for under the purchase method of
accounting. The aggregate purchase price for the Prodigy Acquisition of $78.1
million consisted of a cash payment of $40.8 million, the issuance of
Contingent Notes valued at $30.5 million and direct acquisition related
expenses of $6.8 million. See "Corporate History and Certain Transactions--
Acquisition of Prodigy Services Company" and "--Prior Corporate History".
Subsequently, the Company determined to sell and wind-down its international
operations in Africa and China. Since the autumn of 1997, the Company has
focused on expanding Prodigy Internet's subscriber base and introducing
additional value-added services. The Company also made strategic decisions to
outsource its network, discontinue its development of custom content and use
multiple vendors for outsourced customer service functions. As a result of the
significant changes that occurred in the Company's business and operations as a
result of the Prodigy Acquisition, the subsequent sale and wind-down of the
Company's former international operations and other changes in the Company's
business since the Prodigy Acquisition, the historical financial statements of
the Company are not directly comparable. The pro forma data set forth below
assumes that the Prodigy Acquisition occurred as of January 1, 1995 and,
although not required by generally accepted accounting principles ("GAAP"), is
presented herein because the Company believes this information presents the
most meaningful basis of comparison of the Company's results of operations in
view of the significant change in its business resulting from the Prodigy
Acquisition. The pro forma data is presented for illustrative purposes only and
is not necessarily indicative of the results of operations that would have
occurred had the Prodigy Acquisition actually been consummated as of January 1,
1995, nor is it intended to indicate the Company's financial position or
results of operations for any future date or period. For further information
regarding the pro forma data, see "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Pro Forma Results of
Operations". The pro forma adjustments are described in the Notes to the table
below. No adjustments have been made to the pro forma data for the wind-down
and subsequent sale of the Company's former international operations.     
   
  The following tables set forth selected consolidated financial and other data
for the Company and PSC for the periods indicated. The results of operations
for the nine months ended September 30, 1998 are not necessarily indicative of
the results for the entire year or for any future period. The following
information should be read in conjunction with the Consolidated Financial
Statements and Notes thereto of the Company and PSC appearing elsewhere in this
Prospectus, "Selected Consolidated Financial Information and Other Data" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations".     
 
                                       7
<PAGE>
 
 
                       PRODIGY COMMUNICATIONS CORPORATION
 
<TABLE>   
<CAPTION>
                                                                              NINE MONTHS ENDED
                                      YEAR ENDED DECEMBER 31,                   SEPTEMBER 30,
                          --------------------------------------------------  ------------------
                           1995       1995      1996        1996      1997      1997      1998
                          ------  ------------ -------  ------------ -------  --------  --------
                          ACTUAL  PRO FORMA(1) ACTUAL   PRO FORMA(1) ACTUAL    ACTUAL    ACTUAL
                              (IN MILLIONS, EXCEPT PER SHARE AND SUBSCRIBER INFORMATION)
<S>                       <C>     <C>          <C>      <C>          <C>      <C>       <C>
CONSOLIDATED STATEMENT
 OF OPERATIONS DATA:
Prodigy Internet
 revenue................    --           --    $    .1    $    .1    $  29.6  $   18.4  $   55.9
Prodigy Classic
 revenue................    --     $   230.6      90.6      188.8       98.7      79.2      39.3
Other...................    --          12.8       8.2       17.1        5.9       4.3       6.6
                          -----    ---------   -------    -------    -------  --------  --------
Total revenues..........    --         243.4      98.9      206.0      134.2     101.9     101.8
                          -----    ---------   -------    -------    -------  --------  --------
Costs of revenue........  $  .1        114.3      69.4      134.1       98.8      73.2      76.1
Total operating costs
 and expenses(2)(3).....    3.1        274.9     201.2      321.4      250.3     172.2     149.3
Net loss(2)(3)(4)(5)....  $(3.1)   $   (34.8)  $(114.1)   $(129.2)   $(129.3) $  (78.3) $  (47.6)
                          =====    =========   =======    =======    =======  ========  ========
NET LOSS PER COMMON
 SHARE(6):
Basic and diluted.......  $(.09)   $   (1.04)  $ (2.75)   $ (3.12)   $ (1.86) $  (1.30) $   (.32)
                          =====    =========   =======    =======    =======  ========  ========
WEIGHTED AVERAGE NUMBER
 OF COMMON AND COMMON
 EQUIVALENT SHARES
 OUTSTANDING:
Basic and diluted.......   33.5         33.5      41.4       41.4       69.4      60.1     150.0
                          =====    =========   =======    =======    =======  ========  ========
OTHER DATA:
Prodigy Internet
 billable subscribers at
 period end.............    --           --      7,000      7,000    221,000   193,000   433,000
Prodigy Classic billable
 subscribers at period
 end....................    --     1,133,000   807,000    807,000    394,000   459,000   208,000
                          -----    ---------   -------    -------    -------  --------  --------
Total billable
 subscribers at
 period end.............    --     1,133,000   814,000    814,000    615,000   652,000   641,000
                          =====    =========   =======    =======    =======  ========  ========
EBITDA(7)...............  $(3.1)   $    (4.3)  $(101.6)   $ (96.6)   $(110.0) $  (65.0) $  (38.2)
OTHER CASH FLOW DATA:
Net cash used in
 operating activities...  $(2.4)         N/A   $ (35.3)       N/A    $(114.0) $  (72.4) $  (49.2)
Net cash used in
 investing activities...  $(1.4)         N/A   $ (47.9)       N/A    $ (15.3) $  (11.6) $    (.4)
Net cash provided by
 financing activities...  $ 4.0          N/A   $ 104.1        N/A    $ 120.4  $   77.0  $   66.3
</TABLE>    
 
<TABLE>   
<CAPTION>
                                                         SEPTEMBER 30,
                                                 -----------------------------
                                                    1998           1998
                                                 ---------- ------------------
                                                 ACTUAL (8) AS ADJUSTED (8)(9)
                                                         (IN MILLIONS)
<S>                                              <C>        <C>
CONSOLIDATED BALANCE SHEET DATA:
Working capital.................................   $(21.6)
Total assets....................................     79.1
Long-term debt..................................      --           --
Contingent convertible notes (included in
 stockholders' equity)..........................     30.5          --
Stockholders' equity............................   $ 26.6
</TABLE>    
----------
(1) Pro forma results assume the Prodigy Acquisition occurred as of January 1,
    1995. The pro forma data includes adjustments to: (i) eliminate the non-
    recurring charge for acquired incomplete technology relating to the
    acquisition; (ii) reflect the amortization over ten years of intangible
    assets acquired as a result of the Prodigy Acquisition to reflect a full
    year's charge in both years presented; (iii) reflect interest expense on
    additional borrowings to finance the acquisition, at an assumed interest
    rate of 8.75% per annum; (iv) reflect the amortization of unfavorable lease
    agreements recognized as a result of the Prodigy Acquisition over the lease
    term to reflect a full year's credit in both years presented; and (v)
    reduce the depreciation charge for property and equipment as a result of
    the fair valuation of these assets at the time of the Prodigy Acquisition.
    See "Corporate History and Certain Transactions--Acquisition of Prodigy
    Services Company" and "Management's Discussion and Analysis of Financial
    Condition and Results of Operations--Pro Forma Results of Operations".
 
                                       8
<PAGE>
 
(2) Operating costs and expenses and net loss for the year ended December 31,
    1996 includes the acquisition of incomplete technology of $46.1 million
    ($1.11 per share). See Note 4 to the Company's Consolidated Financial
    Statements.
(3) Operating costs and expenses and net loss for the years ended December 31,
    1996 and 1997 include restructuring and other special costs of $3.1 million
    ($.08 per share) and $9.9 million ($.14 per share), respectively, on an
    actual basis, and $17.6 million ($.42 per share) on a pro forma basis for
    the year ended December 31, 1996. These costs relate to the restructuring
    of business operations, the termination of certain operating agreements and
    the closure of the Company's former headquarters. See Note 3 to the
    Company's Consolidated Financial Statements.
(4) Net loss for the year ended December 31, 1997 includes a loss of $12.1
    million ($.17 per share) relating to the write-down of Company's equity
    investment in a joint venture. See Note 5 to the Company's Consolidated
    Financial Statements.
(5) Net loss for the year ended December 31, 1996, on an actual and pro forma
    basis, includes a charge for the write-down of an equity investment in
    Global Enterprise Services, Inc. of $9.1 million ($.22 per share). See Note
    4 to the Company's Consolidated Financial Statements.
(6) See Note 2 to the Company's Consolidated Financial Statements for an
    explanation of the basis used to calculate net loss per share.
   
(7) Earnings before interest, taxes, depreciation and amortization ("EBITDA")
    is a commonly used measure for the operating performance of ISPs, and also
    provides additional information to assist investors in evaluating the
    Company's liquidity. EBITDA is not an accounting measure under GAAP, is not
    necessarily indicative of operating income or cash flows from operations as
    determined under GAAP and may not be comparable to similarly titled
    measures reported by other companies.     
   
(8) Reflects the conversion upon the closing of the Offering (at an assumed
    initial public offering price of $   per share) of the Contingent Notes
    held by IBM and Sears into an aggregate of     shares of Common Stock. See
    "Corporate History and Certain Transactions--Acquisition of Prodigy
    Services Company" and Note 9 to the Company's Consolidated Financial
    Statements.     
(9) Adjusted to give effect to the sale by the Company of     shares of Common
    Stock offered hereby at an assumed public offering price of $   per share
    and after deducting the estimated underwriting discounts and commissions
    and offering expenses payable by the Company. See "Use of Proceeds".
                            
                         PRODIGY SERVICES COMPANY     
 
<TABLE>   
<CAPTION>
                                           YEAR ENDED
                                          DECEMBER 31,          PERIOD FROM
                                      ----------------------  JANUARY 1, 1996
                                       1993    1994    1995   TO JUNE 16, 1996
                                      ------  ------  ------  ----------------
                                                  (IN MILLIONS)
<S>                                   <C>     <C>     <C>     <C>
CONSOLIDATED STATEMENT OF OPERATIONS
 DATA:
  Total revenues..................... $195.2  $211.0  $243.4       $107.1
  Net loss........................... $(60.0) $(52.0) $(34.6)      $(62.9)
</TABLE>    
   
  SEE "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS--PRO FORMA RESULTS OF OPERATIONS" FOR A PRESENTATION OF THE
UNAUDITED PRO FORMA RESULTS OF OPERATIONS AS IF THE PRODIGY ACQUISITION HAD
OCCURRED AS OF JANUARY 1, 1995. THE COMPANY BELIEVES THIS INFORMATION IS
IMPORTANT IN EVALUATING ITS RESULTS OF OPERATIONS.     
 
                                       9
<PAGE>
 
                                  
                               RISK FACTORS     
 
  An investment in the shares of Common Stock offered hereby involves a high
degree of risk. In addition to the other information contained in this
Prospectus, prospective investors should consider the following factors
carefully in evaluating an investment in the Common Stock offered hereby. This
Prospectus contains "forward-looking statements" relating to, without
limitation, future economic performance, plans and objectives of the Company
for future operations and projections of revenue and other financial items,
that are based on the beliefs of, assumptions made by and information
currently available to the Company. The words "expect", "estimate",
"anticipate", "believe", "intend", "plan" and similar expressions and
variations thereof are intended to identify forward-looking statements. The
cautionary statements set forth in this "Risk Factors" section and elsewhere
in this Prospectus identify important factors with respect to such forward-
looking statements, including certain risks and uncertainties, that could
cause actual results to differ materially from those expressed in or implied
by such forward-looking statements.
 
HISTORY OF LOSSES
   
  Since inception, the Company has incurred significant losses. During the
nine months ended September 30, 1997 and 1998, the Company incurred net losses
of $78.3 million and $47.6 million, respectively, on revenues of $101.9
million and $101.8 million, respectively. At September 30, 1998, the Company
had an accumulated deficit of $295.1 million, a working capital deficit of
$21.6 million, current liabilities of $52.5 million and current assets of
$30.9 million. During the years ended December 31, 1996 and 1997, the Company
incurred net losses of $114.1 million and $129.3 million, respectively, on
revenues of $98.9 million and $134.2 million, respectively. Since formation,
the Company has not generated cash flow from operations and has relied on
private sales of equity securities and borrowings to fund its operations. For
the years ended December 31, 1996 and 1997 and the nine months ended September
30, 1997 and 1998, respectively, the Company incurred negative cash flow from
operations of $35.3 million, $114.0 million, $72.4 million and $49.2 million.
Prior to its acquisition by the Company on June 17, 1996, PSC incurred net
losses of $60.0 million, $52.0 million, $34.6 million and $62.9 million in the
years ended December 31, 1993, 1994 and 1995 and the five and one-half months
ended June 16, 1996, respectively, and sustained negative cash flow from
operations which required continued funding by PSC's former owners, IBM and
Sears, aggregating $1.3 billion as of June 16, 1996. There can be no assurance
that the Company will be able to achieve or sustain profitability. See
"Selected Consolidated Financial Information and Other Data", "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
the Consolidated Financial Statements and Notes thereto contained herein.     
 
INTENSE COMPETITION
 
  The industry in which the Company competes is intensely competitive and
includes a number of significant participants, including ISPs, proprietary
online service providers and major international telecommunications companies,
as well as Internet-search services and various other telecommunications
companies. Moreover, the Company faces competition from companies that provide
broadband connections to households, including local and long-distance
telephone companies, cable television companies and electric utility
companies. Broadband technologies offer significantly faster Internet access
than conventional modems, and such companies could include Internet access in
their basic service packages, could offer access for a nominal additional
charge or could prevent the Company from delivering Internet access through
the cable or wire connections that such companies own. The Telecommunications
Act of 1996 (the "Telecommunications Act") contains certain provisions that
remove, or establish procedures for removing, restrictions on the regional
Bell operating companies and others that may permit them to engage directly in
the Internet access business. The Telecommunications Act also makes it easier
for national long-distance carriers, such as AT&T, to offer local telephone
service, which would permit such carriers to offer direct local Internet
access. Competition from these companies could have a material adverse effect
on the Company. The Company cannot predict the extent to which the
Telecommunications Act, or strategic alliances or consolidation among ISPs,
may result in additional competitive pressures on the Company.
 
 
                                      10
<PAGE>
 
   
  Among the larger providers of ISP services are EarthLink Network, Inc.
(which has a strategic relationship with Sprint Corporation), MindSpring
Enterprises, Inc., Microsoft Network, AT&T WorldNet, MCI Internet, IBM
Internet Connection, PSINet Inc., GTE Internetworking (which includes the
former ISP business of BBN Corporation), Netcom On-Line Communications
Services, Inc. (owned by ICG Communications, Inc.) and Concentric Network
Corporation. In December 1998, AT&T announced that it had agreed to acquire
IBM's data networking business, including its ISP business. Microsoft's
ownership of the dominant PC operating system and the Microsoft Internet
Explorer browser may give Microsoft Network certain competitive advantages,
including distribution and marketing synergies. Prodigy also competes with
America Online, which offers the America Online and CompuServe proprietary
online services over closed networks, as well as Internet access. In November
1998, America Online announced that it had agreed to acquire Netscape
Communications Corporation, owner of the Netscape Navigator browser and other
Internet software applications. In November 1998, America Online also
announced that it had entered into strategic development and marketing
agreements with Sun Microsystems, Inc. to develop electronic commerce and
next-generation Internet devices.     
   
  The market for Internet and online services is presently characterized by
low operating margins and minimal profitability, and the Company historically
has experienced low operating margins and incurred operating losses. See "--
History of Losses". The introduction of unlimited usage plans and the
elimination of most hourly access charges throughout the industry has placed
further pressure on the Company's revenues and profit margins. Many of the
Company's current and future competitors have substantially greater financial,
marketing and technical resources than the Company. The Company believes that
competition will increase and that increased competition could lead to lower
pricing to customers and greater spending on marketing. Increased competition
could also adversely affect the Company's ability to develop new service
offerings and interfere with the Company's efforts to maintain or grow its
subscriber base. Any of the foregoing factors could have a material adverse
effect on the Company. There can be no assurance the Company will be able to
compete effectively or that price competition will not have a material adverse
effect on the Company's business, financial condition, results of operations
or prospects. See "Business--Competition".     
 
SUBSCRIBER TURNOVER
   
  The results of operations of ISPs, including the Company, are materially
adversely affected by subscriber cancellations. Customer acquisition expenses
and the administrative expenses of enrolling and assisting new subscribers are
substantial. The failure to attract and retain subscribers to the Company's
services, or an increase in, or a failure to slow, the rate of subscriber
cancellations, would have a material adverse effect on the Company. Since
launch in October 1996, the Prodigy Internet service has grown to 433,000
billable subscribers at September 30, 1998, including migration from Prodigy
Classic. The total number of billable subscribers (including billable
subscribers to Prodigy Internet and Prodigy Classic) declined from 1,133,000
at December 31, 1995 to 814,000 at December 31, 1996 and to 615,000 at
December 31, 1997, but increased to 641,000 at September 30, 1998. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations", "Business" and the Consolidated Financial Statements and Notes
thereto contained herein.     
 
NETWORK RISKS
   
  Effective July 1, 1997, Prodigy conveyed its network assets to Splitrock
Services, Inc. ("Splitrock") in exchange for Splitrock's agreement to build
and operate a network to carry Prodigy's traffic between subscribers and
Prodigy's data hosting center. Splitrock is required to meet specified service
level objectives relating to grade of service, site and overall system
availability and average transit delays, and to comply with certain financial
covenants. In certain circumstances, Prodigy has the right to assume
responsibility for operating the network at Splitrock's expense. Although the
Company believes these network arrangements present a number of significant
advantages to Prodigy, there are associated risks. Splitrock was formed in
1997 and has a limited operating history, and Prodigy currently is its only
significant customer. See "Risk Factors--Potential Conflicts of Interest". The
failure by Splitrock for any reason to provide network services as required,
or any significant disruption in such services, whether for technical,
operational or financial reasons, would have a material adverse effect on the
Company. The Splitrock arrangements cover only the United States, and the
Company will need to make other network arrangements in order to offer
services in foreign countries. See "--Rapidly Changing Markets and Technology"
and "Business--Principal Outsourcing Arrangements". If the Company's proposed
    
                                      11
<PAGE>
 
   
acquisition of Telmex's IDP subscribers is consummated, the Company expects
that the integrated IDP/Prodigy Internet service will be carried on Telmex's
existing network in Mexico. See "Business--Products and Services--Spanish-
Speaking and Hispanic Market".     
 
  Security problems represent an ongoing threat to public and private data
networks and related telecommunications infrastructures. Splitrock's network
and the Company's data hosting center are potentially vulnerable to computer
viruses, break-ins and similar disruptions caused by others which could lead
to service interruptions to the Company's customers. Inappropriate use of the
Internet by third parties could potentially jeopardize the confidentiality of
information stored or transmitted by the Company's customers. The security
measures employed by Splitrock and the Company cannot assure complete
protection from computer viruses, break-ins and other disruptions. The
occurrence of such problems may result in claims against or liability on the
part of the Company and could adversely affect the Company or its ability to
attract and retain customers.
 
  The Company's operations are also dependent on the protection of Splitrock's
network and the Company's data hosting center against damage from fire, power
loss, telecommunications failures and similar events. The Company's host
configuration for Prodigy Classic and Prodigy Internet is unique and, for cost
reasons, has not been replicated off site. The occurrence of a natural
disaster, other catastrophe or other unanticipated problems in Splitrock's
network or the Company's data hosting center, or the failure of
telecommunications providers to provide required data communications capacity
as a result of a natural disaster, operational disruption or for any other
reason, could cause interruptions in the services provided by the Company, and
such service interruptions could have a material adverse effect on the
Company.
 
  In addition to technical problems and network failures that occur from time
to time in the ordinary course of operating a telecommunications network, in
connection with the migration of the Company's subscribers to the Splitrock
network, Prodigy experienced significant service interruptions and failures,
the most prolonged and serious of which occurred in February, March and April
of 1998. The Company believes Splitrock and Splitrock's modem vendor have
addressed the causes of these service interruptions and failures, but there
can be no assurance these or similar problems will not recur in the future.
See "Business--Network and Related Infrastructure".
 
RELIANCE ON THIRD-PARTY PROVIDERS
 
  In addition to its network arrangements with Splitrock, the Company has
outsourced its content and aspects of its customer service and billing
functions. Although the Company believes its outsourcing strategy permits it
to control costs, enhance service quality and focus on its core strengths,
outsourcing also makes the Company reliant on third-party providers for
certain critical functions. The failure of these providers to provide services
as required, or any significant disruption of or deterioration in services,
would have a material adverse effect on the Company. The Company also relies
on local telephone companies and other companies to provide data
communications capacity via local telecommunications lines and leased long-
distance lines. The Telecommunications Act generally is expected to lead to
increased competition in the provision of local and other telephone service,
but the Company cannot predict the timing or extent of any such developments
or the effect thereof on pricing or supply. The Company's suppliers and
telecommunications carriers also sell or lease products and services to the
Company's competitors and may be, or in the future may become, competitors of
the Company. There can be no assurance that the Company's suppliers and
telecommunications carriers will not enter into exclusive arrangements with
the Company's competitors or stop selling or leasing their products or
services to the Company at commercially reasonable prices or at all. See
"Business--Products and Services", "Business--Customer Service" and
"Business--Principal Outsourcing Arrangements".
 
CONTROL OF THE COMPANY AND POTENTIAL CONFLICTS OF INTEREST
   
  As of September 30, 1998, Carso Global Telecom, the Company's principal
stockholder, owned 117,587,644 shares of Common Stock, representing 65.2% of
the outstanding Common Stock, and Telmex owned 37,650,000 shares of Common
Stock, representing 20.9% of the outstanding Common Stock. Mr. Carlos Slim
Helu, a Mexican citizen, and certain members of his immediate family,
beneficially own a majority of the outstanding voting equity securities of
Carso Global Telecom. Carso Global Telecom may be deemed to control Telmex
through the regular-voting shares of Telmex that it owns directly and its
interest in a trust which owns a     
 
                                      12
<PAGE>
 
   
majority of Telmex's outstanding regular-voting shares. Thus, Mr. Slim and
members of his immediate family may be deemed to control Carso Global Telecom,
Telmex and the Company. Mr. Slim is Chairman of the Board of Carso Global
Telecom and Telmex. After giving effect to the Offering and the conversion of
the Contingent Notes held by IBM and Sears into an aggregate of    shares of
Common Stock upon the closing of the Offering (at an assumed initial public
offering price of $   per share), Carso Global Telecom will beneficially own
(directly and through its control of Telmex) % of the Company's outstanding
Common Stock ( % if the Company issues 26,500,000 shares of Common Stock to
Telmex in connection with the Company's proposed acquisition of Telmex's IDP
subscribers). See "Business--Products and Services--Spanish-Speaking and
Hispanic Market". In addition, IBM and Sears have agreed to vote their shares
of Common Stock received upon conversion of the Contingent Notes or exercise
of the Contingent Warrants held by them in accordance with the voting
recommendations of the Company's Board of Directors. As a result, Carso Global
Telecom is now and upon consummation of the Offering will continue to be able
to determine the outcome of all matters submitted to a vote of the
stockholders, including the election of all members of the Company's Board of
Directors, and control the management and affairs of the Company.
Circumstances may arise in which the interests of Carso Global Telecom and/or
Telmex, as stockholders of the Company, could conflict with the interests of
the other stockholders of the Company. The voting control of Carso Global
Telecom could be used as a means or have the effect of delaying or preventing
a change in control or acquisition of the Company.     
   
  Carso Global Telecom and its affiliates have engaged in numerous
transactions with the Company in the past, which transations were not
necessarily a result of arms'-length negotiations. For example, Carso Global
Telecom currently provides the Company with a $35.6 million revolving line of
credit. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Liquidity and Capital Resources". The Company has
outsourced its network operations to Splitrock, an affiliate that is 30.2%
owned by Carso Global Telecom. See "Business--Network and Related
Infrastructure". Carso Global Telecom and its affiliates may engage in
additional related-party transactions with the Company in the future, and
there can be no assurance such transactions will be on arms'-length terms.
Samer F. Salameh, the Company's Chairman of the Board and Chief Executive
Officer, serves on Splitrock's Board of Directors and holds stock options to
purchase 80,000 shares of Splitrock's common stock (approximately 0.1% of the
outstanding shares) at $1.10 per share vesting over four years. Mr. Salameh
also serves as an Advisor to the Chief Executive Officer of Telmex. In
addition, four of the Company's current seven directors are affiliated with
Carso Global Telecom or Telmex. Mr. Salameh is married to Mr. Slim's niece and
Arturo Elias, a director of the Company, is married to Mr. Slim's daughter.
Any decision made by the Company's directors is required by law to be made in
accordance with their fiduciary duties and in the best interests of the
Company and its stockholders. Messrs. Salameh, Elias, Nakfoor and Sanchez,
directors of the Company, owe similar duties to the other companies for which
they serve as directors or officers or with which they are otherwise
affiliated. Due to the nature of the potential conflicts of interest presented
on an ongoing basis by these arrangements, and potential future arrangements,
there can be no assurance that the directors involved have acted or will act
in the best interests of the Company and its stockholders. See "Management",
"Corporate History and Certain Transactions" and "Principal Stockholders".
    
NEED FOR ADDITIONAL FINANCING
   
  At September 30, 1998, the Company had cash of $33.2 million (of which $4.1
million secured a letter of credit and was thus unavailable). Since formation,
the Company has sustained negative cash flow from operations, and the
Company's available cash at September 30, 1998 was attributable to the
proceeds of the sales of equity securities in July and August 1998. See"--
History of Losses" and "Management's Discussion and Analysis of Financial
Condition and Results of Operations--Liquidity and Capital Resources". The
Company is currently experiencing substantial negative cash flow each month
and expects to continue to experience negative cash flow through at least the
end of 1999. The Company's future financing requirements will depend on a
number of factors, including the Company's operating performance and increases
in operating expenses associated with growth in the Company's business. Based
on its current operating plan, the Company believes that the net proceeds from
the Offering, together with its existing cash and available financing under
its revolving credit facility with Carso Global Telecom, will be sufficient to
meet its anticipated cash requirements for at least the next twelve months.
The Company has made no arrangements to obtain additional financing, other
than     
 
                                      13
<PAGE>
 
pursuant to the Carso Global Telecom credit facility, and there can be no
assurance that adequate additional financing on acceptable terms will be
available when needed, if at all. The unavailability of sufficient financing
when needed would have a material adverse effect on the Company. Any
additional equity financing may cause investors to experience dilution and any
additional debt financing may result in restrictions on Prodigy's operations
or its ability to pay dividends in the future. See "Dividend Policy",
"Management's Discussion and Analysis of Financial Condition and Results of
Operations", "Business" and the Consolidated Financial Statements and Notes
thereto contained herein.
 
DEPENDENCE ON PC BUNDLING AND MICROSOFT RELATIONSHIP
          
  A majority of the Company's Prodigy Internet enrollments arise from its
bundling arrangements with PC manufacturers and its relationship with
Microsoft. During the year ended December 31, 1997 and the nine months ended
September 30, 1998, approximately 48% and 45%, respectively, of total Prodigy
Internet enrollments resulted from PC bundling. Prodigy's bundling
relationship with Packard Bell/NEC accounted for approximately 36% and 33%,
respectively, of total Prodigy Internet enrollments during such periods.
During the year ended December 31, 1997 and the nine months ended September
30, 1998, approximately 10% and 17%, respectively, of total Prodigy Internet
enrollments resulted from Prodigy's relationship with Microsoft. The loss of
the Company's relationships with Packard Bell/NEC or Microsoft or any
significant reduction in enrollments from these channels would have a material
adverse effect on the Company. The Company's bundling agreement with Packard
Bell/NEC automatically renews from year to year but is terminable by either
party upon 30 days' written notice. The Company's agreements with Microsoft
for inclusion of Prodigy Internet in the online services folder of Microsoft's
Windows 98 and Windows 95 (OSR 2.5 release) operating systems expire in June
1999. In addition, Microsoft offers a service, Microsoft Network, which
competes with the Company's Prodigy Internet and Prodigy Classic services,
which could affect the willingness of Microsoft to extend its agreements with
the Company upon expiration or the terms on which extensions could be
obtained. See "Business--Customer Acquisition and Marketing" and "--
Competition".     
   
  Several recent developments are likely to have an adverse effect on future
enrollments to Prodigy Internet from the Packard Bell/NEC bundling
arrangement. The Company is in the process of requiring new enrollees through
Packard Bell/NEC to supply credit card information for billing rather than
relying on subsequent paper billing. The Company believes this change may
result in a lower level of new subscriber enrollments through the Packard
Bell/NEC channel but that the resultant enrollees will be less likely to
terminate service upon completion of the applicable trial period. In October
1998, Packard Bell/NEC and EarthLink Network, Inc. ("EarthLink") agreed that,
between October 15, 1998 and January 15, 1999, EarthLink's icon will be
featured on the desktop of certain Packard Bell/NEC computer models and
rebates will be paid to consumers who purchase eligible Packard Bell/NEC
computers and subscribe to EarthLink's services. The Prodigy Internet software
continues to be pre-loaded on the hard drives of selected PC models shipped by
Packard Bell/NEC but, as a result of the arrangements between Packard Bell/NEC
and EarthLink described above, Prodigy Internet is no longer automatically
selected as the customer's Internet service if no other selection is made. The
Company believes that the arrangements between Packard Bell/NEC and EarthLink
will result in reduced enrollments to Prodigy Internet from Packard Bell/NEC
bundling so long as such arrangements remain in effect but will not, in the
near term, materially adversely affect the Company's operating results. The
Company is unable to predict the terms or nature of its future bundling
arrangements with Packard Bell/NEC or the level of future Prodigy Internet
enrollments from Packard Bell/NEC.     
 
MIGRATION FROM PRODIGY CLASSIC SERVICE
   
  Prodigy Classic has been a significant source of the Company's revenues and
subscribers to Prodigy Internet. During the years ended December 31, 1996 and
1997 and the nine months ended September 30, 1998, approximately 92%, 73% and
39%, respectively, of the Company's total revenues were attributable to
Prodigy Classic. Because the Company has shifted its business focus to
Internet-based products and services, the     
 
                                      14
<PAGE>
 
   
Company intends to continue to migrate users of Prodigy Classic to Prodigy
Internet. As a result, the Company expects revenues from Prodigy Classic to
continue to decline over the next 12 months. As of September 30, 1998, 145,000
of the Prodigy Internet billable subscribers had migrated from Prodigy Classic
(most of whom are enrolled in a Prodigy Internet/Prodigy Classic combination
plan), and there were 208,000 remaining billable subscribers to Prodigy
Classic. Although the Company plans to continue to encourage Prodigy Classic
subscribers to migrate to the Prodigy Internet service, the Company has
experienced difficulty in generating migration from Prodigy Classic to Prodigy
Internet, and a substantial portion of the remaining Prodigy Classic
subscribers lack the minimum hardware requirements for the Prodigy Internet
service. For example, in the three months ended September 30, 1998, there was
a net reduction of 44,000 billable subscribers to Prodigy Classic but a net
increase of only 2,000 in the number of billable subscribers who had migrated
from Prodigy Classic to Prodigy Internet. No assurance can be given as to the
number of remaining Prodigy Classic subscribers who will migrate to Prodigy
Internet. In addition, a majority of the billable subscribers enrolled in a
Prodigy Internet/Prodigy Classic combination plan (62,000 of 118,000 at
September 30, 1998) use both services and some combination plan subscribers
(14,000 of 118,000 at September 30, 1998) do not use Prodigy Internet at all.
Accordingly, some combination plan subscribers may be unwilling or unable to
migrate to Prodigy Internet. The foregoing factors could adversely affect the
Company's business, financial condition, results of operations or prospects.
See "Management's Discussion and Analysis of Financial Condition and Results
of Operations", "Business" and the Consolidated Financial Statements and Notes
thereto contained herein.     
 
DEPENDENCE ON THE INTERNET
   
  Substantially all of the Company's revenues are dependent on the continued
use and expansion of the Internet. Only recently has the commercial sector
begun significant use of the Internet and, more recently still, have consumers
begun using the Internet. Use of the Internet has grown dramatically, but no
assurance can be given of the continued use and expansion of the Internet as a
medium of communications and commerce. A decrease in the demand for Internet
services or a reduction in the currently anticipated growth for such services
could have a material adverse effect on the Company's business, financial
condition, results of operations or prospects. This Prospectus contains
various data and projections related to the number of Internet users, revenues
from Internet access services, Internet hosting revenues and the size of
Internet commerce. These data and projections have been included in studies
prepared by IDC and Forrester, independent market research firms, and the
projections are based on a number of significant assumptions. If the
assumptions turn out to be incorrect, the projections may be materially
different than actual results or circumstances, which could have a material
adverse effect on the Company's business, financial condition, results of
operations or prospects. Although the Company believes that such data and
projections are generally indicative of the matters reflected therein, such
data and projections are inherently imprecise and investors are cautioned not
to place undue reliance on them. See "Business--Industry Background".     
 
UNCERTAIN LEGAL STANDARDS
 
  The law relating to the liability of ISPs and online services companies for
information available through their services is uncertain. As the law and
judicial decisions in this area develop, the potential imposition of liability
upon the Company for information available through its services could require
the Company to implement measures to reduce its exposure to such liability.
The implementation of such measures could require the expenditure of
substantial resources or the discontinuation of certain service offerings. Any
costs that are incurred as a result of such expenditures, contesting any such
asserted claims or the imposition of liability could have a material adverse
effect on the Company's business, financial condition, results of operations
or prospects. In addition, due to the increasing use of the Internet, it is
possible that additional laws and regulations may be adopted with respect to
the Internet covering issues such as content, user privacy, pricing, libel,
intellectual property protection and infringement and technology export and
other controls. Changes in the regulatory environment relating to the Internet
services industry, including regulatory changes that directly or indirectly
affect telecommunication costs or increase the likelihood or scope of
competition, could have a material adverse effect on the Company. "Business--
Government Regulation".
 
                                      15
<PAGE>
 
RAPIDLY CHANGING MARKETS AND TECHNOLOGY
   
  The industry in which the Company competes is characterized by rapid
technological change resulting in dynamic customer demands and frequent new
product and service introductions. As a result, the Company's markets can
change rapidly and the Company's future results will depend in part on its
ability to make timely and cost-effective enhancements and additions to its
services and introduce new services that meet customer demands. For example,
certain ISPs have introduced, or announced plans to introduce, high-speed
Internet access utilizing broadband applications such as cable modems, ISDN
(Integrated Services Digital Network) telephone service and xDSL (Digital
Subscriber Line) telephone service. The Company does not currently provide any
residential or business broadband access services. The Company is in
discussions with Splitrock and others to support various broadband
applications, but there can be no assurance the Company and Splitrock or any
other party will reach agreement. See "Business--Products and Services--
Business Services". There also can be no assurance that the Company will have
sufficient resources to introduce new services that meet customer demands on a
timely basis or that its new service introductions will achieve acceptance in
the marketplace. The Company believes that its ability to compete successfully
is also dependent upon the continued compatibility and interoperability of its
services with products and architectures offered by various vendors. Although
the Company intends to support emerging standards in the market for Internet
access, there can be no assurance that the Company will be able to conform to
new standards in a timely fashion and maintain a competitive position in its
markets. In addition, there can be no assurance that services or technologies
developed by others will not render the Company's services or technology
uncompetitive or obsolete. See "Business".     
 
RISKS OF NEW SERVICES AND MARKETS; FAILURE TO IMPLEMENT BUSINESS STRATEGY
   
  The Company's business strategy includes the introduction of numerous new
services and entry into various new markets. For example, the Company is
expanding its Web hosting activities and other value-added services, plans to
expand beyond its existing consumer market to include small and medium sized
businesses, and plans to provide Internet services to Spanish-speaking and
Hispanic customers in the United States. See "Use of Proceeds", "Business--
Business Strategy" and "Business--Products and Services". The Company
historically has focused on the consumer market and has relatively little
experience in developing and marketing services to business customers. In
addition, the Company has not previously focused on Spanish-speaking or
Hispanic customers, and the Company's success in penetrating this market will
depend in large part on the Company's ability to establish a strategic
partnership with a company with experience in selling products or services to
this market. Furthermore, to the extent the Company elects to introduce
services in international markets, foreign operations present certain risks
and uncertainties not generally encountered in the United States, such as
compliance with regulatory requirements, export and trade controls,
difficulties in staffing and managing international operations, longer payment
cycles, problems in collecting accounts receivable, foreign exchange
fluctuations and controls, potentially adverse tax consequences and inadequate
protection of intellectual property rights. In addition, the Splitrock
arrangements cover only the United States, and the Company would need to make
other network arrangements in order to offer services in foreign countries.
See " -- Network Risks". There can be no assurance that the Company will be
successful in offering new services and entering new markets as planned or
that any such services, if introduced, will achieve acceptance in the
marketplace.     
 
  The Company may decide to alter or discontinue certain aspects of its
business strategy described herein and may adopt alternative or additional
strategies. The Company's ability to successfully implement its business
strategy, and the expected benefits to be obtained from the Company's
strategy, may be adversely impacted by factors not currently foreseen, such as
unforeseen costs and expenses, or events beyond its control, such as
technological change or an economic downturn. In addition, competitive factors
may require the Company to alter or reduce its business strategies or reduce
the expected benefits to be obtained therefrom.
 
QUARTERLY FLUCTUATIONS IN OPERATING RESULTS
 
  The Company experiences quarterly fluctuations in its operating results due
to a number of factors, including the seasonality of its business, changes in
the level of consumer spending during business cycles, the
 
                                      16
<PAGE>
 
   
timing of introduction of new and enhanced services by the Company, pricing
changes and competitive factors. The Company historically has experienced
seasonality in its business, with higher expenses during the last and first
fiscal quarters, corresponding to the Christmas and post-Christmas selling
season, and lower timed usage revenues (revenues from hourly usage charges)
typically occurring during its second and third fiscal quarters resulting from
reduced usage of its services during the summer months. The Company believes
that the seasonal reductions in timed usage revenues historically experienced
by the Company will be mitigated by the movement from timed usage plans to
unlimited usage plans as well as growth in the Company's subscriber base,
although the Company expects to continue to have higher expenses during the
first and fourth quarters. Accordingly, the Company believes that quarter-to-
quarter comparisons of the Company's operating results may not be meaningful
or indicative of future results. Although the Company's outsourcing strategy
enables it to tie many variable costs to variable revenue sources, the
Company's fixed expenses are based, in part, on its expectations as to future
revenues. To the extent that revenues are below expectations and the Company
is unable to reduce fixed costs proportionately, the Company's operating
results would be adversely affected. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations", "Business" and the
Consolidated Financial Statements and Notes thereto contained herein.     
 
PROTECTION OF PROPRIETARY TECHNOLOGY
 
  The Company protects its proprietary technology through copyright and trade
secrets laws, employee and third-party confidentiality agreements and other
methods. Customers are granted a license to use Prodigy's services under
agreements that contain terms and conditions prohibiting unauthorized
reproduction. Despite these precautions, unauthorized third parties may be
able to copy certain portions of Prodigy's services or reverse engineer or
obtain and use information Prodigy regards as proprietary. Although the
Company does not believe that its products infringe the proprietary rights of
any third parties, there can be no assurance that third parties will not
assert infringement claims against the Company or that such claims will not be
successful. The Company could incur substantial costs and diversion of
management resources with respect to any claims relating to proprietary
rights, whether or not successful, which could materially adversely affect the
Company's business, financial condition, results of operations or prospects.
See "Business--Technology" and "--Proprietary Rights".
 
MANAGEMENT OF GROWTH AND DEPENDENCE ON KEY PERSONNEL
   
  The Company's ability to exploit the market for its products and services
and increase its subscriber base requires an effective planning and management
process. The Company's ability to plan and manage effectively will require it
to continue to implement and improve its operational, financial and management
information systems and to attract and retain skilled managers and other
personnel, including its current executive officers. Competition for such
personnel is intense, and there can be no assurance that the Company will be
successful in attracting and retaining necessary personnel. The Company does
not maintain insurance on the lives of any of its officers or directors.
Although the Company has entered into non-competition agreements with certain
executive officers, no assurance can be given that such agreements are or will
be enforceable by the Company. Most of the Company's executive officers have
joined the Company since the autumn of 1997, including Samer F. Salameh,
Chairman of the Board and Chief Executive Officer, David C. Trachtenberg,
President and Chief Operating Officer, David R. Henkel, Executive Vice
President, Finance and Chief Financial Officer, James P. Dougherty, Executive
Vice President, Business Services and Andrea S. Hirsch, Executive Vice
President, Business Development and General Counsel. See "Management".     
 
GOVERNMENT REGULATION
 
  Internet access and online services are not subject to direct regulation in
the United States, but changes in the regulatory environment relating to the
telecommunications and media industry could have an effect on Prodigy's
business, financial condition, results of operations or prospects. For
example, Federal Communications Commission regulatory review and rulemaking
could result in regulation of the Internet and online services industry which
could result in increased telecommunications costs for participants in the
Internet industry, including Prodigy. The Company cannot predict whether, or
to what extent, any such new rulemaking will occur, or what effect any such
rulemaking would have on Prodigy. There can be no assurance the Company will
not be adversely affected by any such matters. See "Business--Government
Regulation".
 
                                      17
<PAGE>
 
IMPACT OF THE YEAR 2000 ISSUE
 
  The Year 2000 issue is the result of computer programs being written using
two digits (rather than four) to define the applicable year. Computer programs
that have time-sensitive software may recognize a date using "00" as the year
1900 rather than the year 2000. This could result in a system failure or
miscalculations causing disruptions of operations, including among other
things, a temporary inability to process transactions, send invoices or engage
in other normal business activities. The Company maintains various internal
computer systems and equipment and contracts with third-party vendors for the
provision of computerized customer billing, network operation, Prodigy
Internet service content and certain other information technology and other
services.
 
  The Company is currently incurring costs to resolve the potential impact of
the year 2000 on the processing of date-sensitive information by the Company's
internal computer systems and equipment and the computer systems and equipment
of the third-party vendors on which the Company's business relies. The Company
has established a Year 2000 project office staffed by Company personnel and
assisted by a consulting firm.
   
  The Company has completed an inventory of substantially all of its internal
systems and programs related to both the delivery of the Prodigy Internet
service and the daily operations of the business. Based on its preliminary
analysis, the Company estimates that it will spend approximately $9.5 million
through the end of 1999 to remediate potential Year 2000 problems with its
internal systems and to purchase and implement a new member management system
with enhanced customer care, data mining and marketing program management
capabilities that will replace a system that is not Year 2000 compliant. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources".     
   
  The Company is developing contingency plans in the event that any critical
service component or business process fails due to a Year 2000 problem. The
Company expects to complete contingency planning by mid-1999. With respect to
critical third-party vendor systems, (i) Splitrock has publicly reported that
substantially all of its information and non-information technology systems
are Year 2000 compliant (and that upgrades are available for those systems
that are not Year 2000 compliant that will enable Splitrock to be Year 2000
compliant by mid-1999), (ii) Excite has publicly reported that it believes
there are no significant Year 2000 issues within its proprietary systems or
services (although Excite has not yet fully evaluated the Year 2000 compliance
status of the third-party equipment and software it utilizes, or of its
vendors, joint venture partners and content partners), and (iii) Prodigy's
billing provider has committed to making its billing system Year 2000
compliant. There can be no assurance that the Company will be able to address,
in a timely fashion, all potential Year 2000 problems, or that the systems of
the third-party vendors upon which the Company's business relies (and the
maintenance and operation of which are not within the control of the Company)
will be Year 2000 compliant or will become Year 2000 compliant in a timely
manner. Any Year 2000 problems could impact the provision of products or
services to the Company's customers and could subject the Company to the risk
of litigation, lost revenues and loss of current or future customers.     
 
POSSIBLE ACQUISITIONS
   
  The Internet services industry is highly fragmented, consisting of more than
5,000 ISPs in the United States, and is expected to undergo substantial
consolidation over the next few years. The Company evaluates acquisition
opportunities on an ongoing basis and at any given time may be, and at the
present time is, engaged in discussions with respect to possible acquisitions
or other business combinations. The Company may seek strategic acquisitions
that can complement the Company's current or planned business activities,
particularly the expansion of value-added services such as Web hosting. The
Company may also seek to acquire other ISPs as an additional means of customer
acquisition or entry into new markets. Such acquisitions may not be available
at the times or on terms acceptable to the Company, or may not be available at
all. In addition, any acquisitions that the Company makes may involve risks,
including the successful integration and management of acquired operations and
personnel. The integration of acquired businesses may also lead to the
diversion of management attention from other business matters. No assurance
can be given that suitable acquisitions can be identified, financed and
completed on acceptable terms or that any acquisitions by the Company will be
successful. See "Business--Business Strategy".     
 
                                      18
<PAGE>
 
MANAGEMENT DISCRETION REGARDING USE OF PROCEEDS
 
  The Company intends to use a significant portion of the net proceeds from
the Offering for working capital and other general corporate purposes. In
addition, the Company is not required to allocate the net proceeds of the
Offering in the manner described herein and, in light of future developments
and circumstances, may allocate the proceeds to other uses or in a different
manner. Accordingly, the Company's management will have significant discretion
in how the net proceeds of the Offering are utilized in the Company's
business. See "Use of Proceeds".
 
LEGAL PROCEEDINGS
 
  On November 27, 1996, Malcolm Haynes and Lightwave, Ltd., a Cayman Islands
corporation ("Lightwave"), filed a lawsuit in the District Court of Clark
County, Nevada, against the Company, International Wireless Incorporated (the
Company's predecessor) ("IW"), Comstar Cellular Network, Inc. ("Comstar"),
Greg C. Carr, Terrance P. Dillon, Duncan E. Wine and Blaize Kaduru. Mr. Carr
is the former Chairman of the Board of the Company and a former principal
stockholder of the Company, and was a director and principal stockholder of
IW. Mr. Dillon was a director and principal stockholder of the Company, was a
director, officer and principal stockholder of IW and was a director and
technical advisor to Comstar. Mr. Wine is a former principal stockholder of
the Company and IW. Mr. Kaduru is a former principal stockholder of the
Company and IW, was an officer of IW and was a director and officer of
Comstar. Mr. Haynes was co-founder, President and a director of Comstar and
claims that he and Mr. Wine each hold a 30% interest in Lightwave. The lawsuit
arose from IW's acquisition of the assets and liabilities of Comstar in August
1994. See "Corporate History and Certain Transactions--Prior Corporate
History". In connection with the Comstar acquisition, IW issued to Comstar all
then outstanding common stock of IW, which Comstar then distributed as a
liquidating dividend to the holders of certificates for common stock of
Comstar. Each holder of a certificate for common stock of Comstar was required
to acknowledge and accept the terms of the Comstar acquisition and release
Comstar and IW from all claims which such holder may have had against either
Comstar or IW. Pursuant to the foregoing, Comstar offered 4,800,000 shares of
IW's common stock to Mr. Haynes, but Mr. Haynes refused to participate and
therefore received no shares. The lawsuit filed by Mr. Haynes and Lightwave
alleges, among other things, that Messrs. Dillon, Wine and Kaduru breached
their fiduciary duties to the plaintiffs, that Mr. Wine defrauded or made
misrepresentations to the plaintiffs, that Mr. Wine misappropriated a
corporate opportunity belonging to Lightwave, that all defendants are liable
for conversion of plaintiffs' shares of common stock, and that IW and Mr. Carr
aided and abetted the wrongful conduct of Messrs. Dillon, Wine and Kaduru. The
lawsuit seeks to compel the defendants to provide to the plaintiffs 18,000,000
shares of Common Stock of the Company or the fair market value thereof, to
impose a constructive trust on the shares of Common Stock received by Messrs.
Dillon, Wine and Kaduru in the Comstar acquisition, and other monetary damages
and declaratory and equitable relief. On February 25, 1998, the Court granted
the motion of the Company and Mr. Carr to dismiss the lawsuit against them for
lack of personal jurisdiction in Nevada, and the lawsuit is continuing against
the other defendants. Unless this decision is overturned on appeal, the
plaintiffs cannot pursue this lawsuit against the Company and Mr. Carr in
Nevada, although the plaintiffs could pursue these claims in a new lawsuit
filed in any state or states where personal jurisdiction over the Company and
Mr. Carr could be established and where the applicable statute of limitations
has not expired. If a new lawsuit is filed, the Company intends to defend it
vigorously, but there can be no assurance that its outcome would not have a
material adverse effect on the Company's business, financial condition,
results of operations or prospects or result in substantial dilution to the
Company's stockholders. See "Business--Legal Proceedings".
 
NO PUBLIC MARKET; POSSIBLE VOLATILITY OF STOCK PRICE
 
  Prior to the Offering, there has been no public market for the Common Stock,
and there can be no assurance that an active trading market will develop or be
sustained after the Offering or that the market price of the Common Stock will
not decline below the initial public offering price. The initial public
offering price will be determined by negotiations among the Company and the
representatives of the Underwriters (the "Representatives"). See
"Underwriting" for information relating to the factors to be considered in
determining
 
                                      19
<PAGE>
 
the initial public offering price of the Common Stock. Investors should be
aware that market prices for securities of ISPs and other participants in the
Internet industry have been and may continue to be highly volatile. Such
volatility may be caused by factors outside of the Company's control and may
be unrelated or disproportionate to the Company's operating results.
 
SHARES ELIGIBLE FOR FUTURE SALE; REGISTRATION RIGHTS
   
  Sales of substantial amounts of shares of Common Stock in the public market
following the Offering could adversely affect the market price of the Common
Stock. The following information does not reflect the possible issuance of
26,500,000 shares of Common Stock to Telmex in connection with the Company's
proposed acquisition of Telmex's IDP subscribers. See "Business--Products and
Services--Spanish-Speaking and Hispanic Market". Upon completion of the
Offering (at an assumed initial public offering price of $   per share), the
Company will have outstanding shares of Common Stock. In addition to the
shares offered hereby, approximately    shares of Common Stock, which are not
subject to 180-day lock-up agreements (the "Lock-up Agreements") with the
Representatives, will be eligible for immediate sale in the public market
pursuant to Rule 144(k) under the Securities Act of 1933, as amended (the
"Securities Act"). Approximately    additional shares of Common Stock, which
are not subject to the Lock-up Agreements, will be eligible for sale in the
public market in accordance with Rule 144 or Rule 701 under the Securities Act
beginning 90 days after the date of this Prospectus. Upon expiration of the
Lock-up Agreements 180 days after the date of this Prospectus, approximately
   additional shares of Common Stock will be available for sale in the public
market, subject to the provisions of Rule 144 under the Securities Act.
Promptly following the consummation of the Offering, the Company intends to
register an aggregate of    shares of Common Stock issuable under its 1996
Stock Option Plan and 1998 Employee Stock Purchase Plan. The Company and
certain stockholders of the Company (including Carso Global Telecom, Telmex,
IBM, Sears and all directors and executive officers of the Company) who will
hold, upon consummation of the Offering at an assumed initial public offering
price of $   per share, an aggregate of approximately    shares of Common
Stock, have agreed, pursuant to the Lock-up Agreements, not to offer, sell,
contract to sell or otherwise dispose of any Common Stock, or any options,
warrants or other securities convertible into or exercisable for Common Stock,
for 180 days after the date of this Prospectus. The Company is unable to
predict the effect that sales made under Rule 144, Rule 701 or otherwise may
have on the then prevailing market price of the Common Stock. Upon the closing
of the Offering (at an assumed initial public offering price of $   per
share), IBM and Sears will be entitled to certain piggyback and demand
registration rights with respect to an aggregate of (i)    shares of Common
Stock issued upon the conversion of the Contingent Notes held by them and (ii)
   shares of Common Stock issuable upon the exercise of the Contingent
Warrants held by them. In addition, Greg C. Carr has piggyback registration
rights with respect to    shares held by him. Exercise of the foregoing
registration rights could cause a large number of shares to be registered and
sold in the public market. Sales pursuant to Rule 144, Rule 701 or other
exemptions from registration, or pursuant to registration rights, may have an
adverse effect on the market price for the Common Stock and could impair the
Company's ability to raise capital through offerings of its equity securities.
See "Description of Capital Stock", "Shares Eligible for Future Sale",
"Underwriting" and "Corporate History and Certain Transactions".     
 
IMMEDIATE AND SUBSTANTIAL DILUTION
   
  The purchase price of the Common Stock will be significantly greater than
the net tangible book value per share after giving effect to the Offering.
Investors in the Offering will incur an immediate and substantial dilution of
their investment of approximately $   in net tangible book value per share of
Common Stock (assuming an initial public offering price of $    per share).
See "Dilution" and the Company's Consolidated Financial Statements and Notes
thereto contained herein.     
 
NO DIVIDENDS
 
  The Company has never declared or paid cash dividends on its capital stock
and does not anticipate paying any cash dividends in the foreseeable future.
The Company's current policy is to retain earnings, if any, to provide funds
for the operation and expansion of its business. See "Dividend Policy".
 
                                      20
<PAGE>
 
                                USE OF PROCEEDS
 
  The net proceeds to the Company from the sale of shares of Common Stock
offered hereby are estimated to be $    million after deducting the estimated
underwriting discounts and commissions and offering expenses payable by the
Company and assuming an initial public offering price of $   per share.
 
  The Company intends to use the net proceeds of the Offering to expand its
consumer business, including selling, advertising and headcount expenses,
introduce new business services, such as Internet access, hosting services,
value-added services and broadband services, and enter new markets, including
Spanish-speaking and Hispanic customers in the United States. See "Risk
Factors--Risks of New Services and Markets; Failure to Implement Business
Strategy". Any remaining net proceeds from the Offering will be used for
general corporate purposes, including working capital. The amount actually
expended by the Company for the foregoing purposes will depend upon a number
of factors, and the Company reserves the right, in light of future
developments and circumstances, to allocate the proceeds to other uses or in a
different manner. See "Risk Factors--Management Discretion Regarding Use of
Proceeds". Pending the application of the net proceeds from the Offering, the
Company intends to invest such net proceeds in short-term, investment grade,
interest-bearing instruments.
 
                                DIVIDEND POLICY
 
  The Company has never declared or paid any cash dividends on its capital
stock and does not anticipate paying any cash dividends in the foreseeable
future. The Company's current policy is to retain earnings, if any, to provide
funds for the operation and expansion of its business. Payment of future
dividends, if any, will be at the discretion of the Company's Board of
Directors after taking into account various factors, including the Company's
financial condition, operating results, current and anticipated cash needs and
growth plans. See "Risk Factors--No Dividends" and "Management's Discussion
and Analysis of Financial Condition and Results of Operations--Liquidity and
Capital Resources".
 
                                      21
<PAGE>
 
                                CAPITALIZATION
   
  The following table sets forth the capitalization of the Company (i) as of
September 30, 1998 and (ii) as adjusted to give effect to (a) the conversion
of the Contingent Notes held by IBM and Sears into an aggregate of    shares
of Common Stock upon the closing of the Offering (at an assumed initial
offering price of $   per share) and (b) the issuance of the Common Stock
offered hereby, after deducting the estimated underwriting discounts and
commissions and offering expenses payable by the Company.     
 
<TABLE>   
<CAPTION>
                                                           SEPTEMBER 30, 1998
                                                           --------------------
                                                           ACTUAL   AS ADJUSTED
                                                           -------  -----------
                                                              (IN MILLIONS)
<S>                                                        <C>      <C>
Long-term debt............................................ $   --       --
Stockholders' equity:
  Preferred stock, $.01 par value; 10,000,000 shares
   authorized, no shares issued or outstanding (actual and
   as adjusted)...........................................     --       --
  Contingent Convertible Notes............................    30.5      --
  Common stock, $.01 par value; 280,000,000 shares
   authorized (actual and as adjusted); 180,229,666 shares
   issued and outstanding (actual);   shares issued and
   outstanding (as adjusted)(1)...........................     1.8     $
  Additional paid-in capital..............................   292.3
  Accumulated deficit.....................................  (295.1)
  Accumulated foreign currency translation
   adjustments(2).........................................      .1
  Note receivable from Carso Global Telecom(3)............    (3.0)
                                                           -------     ----
    Total stockholders' equity............................    26.6
                                                           -------
      Total capitalization................................ $  26.6     $
                                                           =======     ====
</TABLE>    
----------
   
(1) Excludes shares of Common Stock (i) reserved for issuance pursuant to the
    Company's stock-based compensation plans and (ii) issuable pursuant to
    outstanding options and warrants granted by the Company. As of September
    30, 1998, (a) the Company's 1996 Stock Option Plan covered 12,500,000
    shares of Common Stock, of which an aggregate of 8,708,769 shares of
    Common Stock were subject to outstanding options at a weighted-average
    exercise price of $1.41 per share, 3,785,142 shares were reserved for
    future option grants and 6,089 shares had been issued upon exercises, and
    (b) there were outstanding warrants to purchase an aggregate of 437,389
    shares of Common Stock at a weighted-average exercise price of $2.75 per
    share. Subsequent to September 30, 1998, the Company granted warrants to
    purchase an aggregate of 52,220 shares at a weighted-average exercise
    price of $2.92 per share and options to purchase an aggregate of 515,000
    shares under its 1996 Stock Option Plan at an exercise price of $2.00 per
    share. Upon the closing of the Offering (at an assumed initial public
    offering price of $   per share), IBM and Sears will each hold a
    Contingent Warrant to purchase shares of Common Stock (     shares if the
    Underwriters' over-allotment option is exercised in full) at an exercise
    price of $   per share (subject to customary anti-dilution adjustments) at
    any time prior to the third anniversary of the Offering. In addition, the
    Company has reserved an aggregate of 2,000,000 shares of Common Stock
    under its 1998 Employee Stock Purchase Plan. See "Corporate History and
    Certain Transactions--Acquisition of Prodigy Services Company",
    "Management--Stock Plans" and Notes 1, 4 and 9 to the Company's
    Consolidated Financial Statements.     
(2) Represents the cumulative effect of foreign currency translation
    adjustments. See Note 2 to the Company's Consolidated Financial
    Statements.
(3) Represents the remaining balance of a letter of credit established by
    Carso Global Telecom in October 1997 to secure payment obligations of the
    Company under contracts for which IBM and Sears, PSC's former owners,
    remain liable. See "Corporate History and Certain Transactions--Prior
    Equity Financings" and Note 9 to the Company's Consolidated Financial
    Statements.
 
                                      22
<PAGE>
 
                                   DILUTION
   
  After giving effect to the conversion of the Contingent Notes into an
aggregate of    shares of Common Stock upon the closing of the Offering (at an
assumed initial public offering price of $   per share), the net tangible book
value of the Company as of September 30, 1998 would have been $  , or $   per
share of Common Stock. Net tangible book value per share is determined by
dividing the Company's tangible net worth (tangible assets less liabilities)
by the number of shares of Common Stock outstanding. After giving effect to
the sale of the shares of Common Stock offered hereby at an assumed initial
public offering price of $   per share and after deducting the estimated
underwriting discounts and commissions and offering expenses payable by the
Company, the pro forma net tangible book value of the Company as of September
30, 1998 would have been $   per share. This represents an immediate increase
in such net tangible book value of $   per share to existing stockholders and
an immediate dilution of $   per share to new investors purchasing shares in
the Offering. If the initial public offering price is higher or lower, the
dilution to the new investors will be greater or less, respectively. The
following table illustrates the per share dilution:     
 
<TABLE>   
<S>                                                                    <C>  <C>
Assumed initial public offering price per share.......................      $
  Net tangible book value per share as of September 30, 1998 (adjusted
   as described above)................................................ $
  Increase per share attributable to the Offering.....................
                                                                       ----
Pro forma net tangible book value per share after the Offering(1).....
                                                                            ----
Dilution per share to new investors(1)................................      $
                                                                            ====
</TABLE>    
----------
   
(1) If the Underwriters' over-allotment option is exercised in full, the pro
    forma net tangible book value per share after the Offering would be $  ,
    resulting in an immediate dilution of $   per share to investors
    purchasing shares in the Offering. See "Underwriting".     
   
  The following table summarizes, as of September 30, 1998, the total number
of outstanding shares of Common Stock purchased from the Company, the total
consideration paid and the average consideration paid per share by (i) Carso
Global Telecom, (ii) Telmex, (iii) other existing stockholders and (iv) the
new investors based on an assumed initial public offering price of $   share
(before deducting the estimated underwriting discounts and commissions and
offering expenses payable by the Company):     
 
<TABLE>
<CAPTION>
                             SHARES PURCHASED   TOTAL CONSIDERATION   AVERAGE
                            ------------------- -------------------- PRICE PER
                              NUMBER    PERCENT    AMOUNT    PERCENT   SHARE
                            ----------- ------- ------------ ------- ---------
<S>                         <C>         <C>     <C>          <C>     <C>
Carso Global Telecom(1).... 113,556,644       % $200,822,289       %   $1.77
Telmex(2)..................  24,500,000           49,000,000            2.00
Other existing
 stockholders(3)...........
New investors..............
                            -----------  -----  ------------  -----
  Total....................              100.0% $             100.0%
                            ===========  =====  ============  =====
</TABLE>
----------
   
(1) Excludes an aggregate of 4,031,000 shares purchased from other
    stockholders of the Company between February 1996 and September 1996 at a
    weighted-average purchase price of $2.99 per share.     
   
(2) Excludes an aggregate of 13,150,000 shares purchased from other
    stockholders of the Company in August 1998 at a purchase price of $2.00
    per share. Excludes 26,500,000 shares which the Company may issue to
    Telmex in connection with the Company's proposed acquisition of Telmex's
    IDP subscribers. See "Business--Products and Services--Spanish-Speaking
    and Hispanic Market".     
   
(3) Gives effect to the conversion of the Contingent Notes held by IBM and
    Sears into an aggregate of    shares of Common Stock upon the closing of
    the Offering (at an assumed initial public offering price of $   per
    share). See "Corporate History and Certain Transactions--Acquisition of
    Prodigy Services Company". Also includes the shares of Common Stock sold
    to Carso Global Telecom and Telmex by other stockholders of the Company as
    described in Notes (1) and (2) above.     
 
                                      23
<PAGE>
 
   
  The foregoing table excludes shares of Common Stock issuable upon the
exercise of stock options and warrants granted by the Company. As of September
30, 1998, (a) the Company's 1996 Stock Option Plan covered 12,500,000 shares
of Common Stock, of which an aggregate of 8,708,769 shares of Common Stock
were subject to outstanding options at a weighted-average exercise price of
$1.41 per share, 3,785,142 shares were reserved for future option grants and
6,089 shares had been issued upon exercises, and (b) there were outstanding
warrants to purchase an aggregate of 437,389 shares of Common Stock at a
weighted-average exercise price of $2.75 per share. Subsequent to September
30, 1998, the Company granted warrants to purchase an aggregate of 52,220
shares at a weighted-average exercise price of $2.92 per share and options to
purchase an aggregate of 515,000 shares under its 1996 Stock Option Plan at an
exercise price of $2.00 per share. In addition, upon the closing of the
Offering, (i) at an assumed initial public offering price of $   per share,
IBM and Sears will each hold a Contingent Warrant to purchase shares of Common
Stock (    shares if the Underwriters' over-allotment option is exercised in
full) at an exercise price of $   per share (subject to customary anti-
dilution adjustments) and (ii) 2,000,000 shares will be available for issuance
under the Company's Employee Stock Purchase Plan. See "Corporate History and
Certain Transactions--Acquisition of Prodigy Services Company", "Management--
Stock Plans" and Notes 1, 4 and 9 to the Company's Consolidated Financial
Statements.     
 
                                      24
<PAGE>
 
          SELECTED CONSOLIDATED FINANCIAL INFORMATION AND OTHER DATA
   
  The following tables set forth selected consolidated financial information
and other data for the Company and PSC. The selected consolidated financial
data for the Company for the period from May 23, 1994 (date of inception) to
December 31, 1994 and for the year ended December 31, 1995 has been derived
from the Company's unaudited Consolidated Financial Statements for the year
ended December 31, 1995 appearing elsewhere in this Prospectus. Although
required by Regulation S-X under the Securities Exchange Act of 1934 (the
"Exchange Act"), the Company's audited financial statements for the year ended
December 31, 1995 have not been presented in this Prospectus. The Company does
not believe such financial statements are meaningful because the Company's
results of operations and assets for the year ended December 31, 1995 were
minimal prior to the Company's acquisition of PSC on June 17, 1996, and the
Company's operations as they existed in the year ended December 31, 1995 have
since been disposed of (see Note 1 to the Consolidated Financial Statements of
International Wireless Incorporated and Note 5 to the Consolidated Financial
Statements of the Company). The selected consolidated financial data for the
Company for the years ended December 31, 1996 and 1997 and for PSC for the
year ended December 31, 1995, and for the period from January 1, 1996 to June
16, 1996 has been derived from the Company's Consolidated Financial Statements
that appear elsewhere in this Prospectus, which have been audited by
PricewaterhouseCoopers LLP, independent public accountants. The selected
consolidated financial and other data for the nine month periods ended
September 30, 1997 and 1998 is unaudited; however, in the opinion of the
Company's management such unaudited data includes all adjustments (consisting
of normal recurring adjustments) necessary for a fair representation of the
information included therein. The results of operations for the nine months
ended September 30, 1998 are not necessarily indicative of the results for the
entire year or any other future period.     
 
  The selected consolidated financial data should be read in conjunction with
the Consolidated Financial Statements, and the notes thereto, of the Company
and PSC appearing elsewhere in this Prospectus and "Management's Discussion
and Analysis of Financial Condition and Results of Operations".
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
<TABLE>   
<CAPTION>
                           PERIOD FROM
                          MAY 23, 1994                                    NINE MONTHS
                            (DATE OF            YEAR ENDED                   ENDED
                          INCEPTION) TO        DECEMBER 31,              SEPTEMBER 30,
                          DECEMBER 31,  ----------------------------  --------------------
                             1994(1)    1995(1)   1996       1997       1997       1998
                          ------------- ------- ---------  ---------  ---------  ---------
                                     (IN MILLIONS, EXCEPT NUMBER OF BILLABLE
                                     SUBSCRIBERS AND PER SHARE INFORMATION)
<S>                       <C>           <C>     <C>        <C>        <C>        <C>
CONSOLIDATED STATEMENT
 OF OPERATIONS DATA:
Revenues:
 Internet and online
  service revenues......        --         --   $    90.7  $   128.3  $    97.6  $    95.2
 Other..................        --         --         8.2        5.9        4.3        6.6
                              -----      -----  ---------  ---------  ---------  ---------
 Total revenues.........        --         --        98.9      134.2      101.9      101.8
                              -----      -----  ---------  ---------  ---------  ---------
Operating costs and
 expenses:
 Costs of revenue.......        --       $  .1       69.4       98.8       73.2       76.1
 Marketing..............        --         --        21.3       60.5       29.7       26.3
 Product development....        --         --         9.0       16.8       15.7        9.3
 General and
  administrative........      $ 1.0        3.0       52.3       61.1       46.3       37.6
 Acquired incomplete
  technology............        --         --        46.1        --         --         --
 Restructuring and other
  special costs.........        --         --         3.1        9.9        7.3        --
 Write-down of assets
  held for sale.........        --         --         --         2.4        --         --
 Loss on sale of
  cellular assets.......        --         --         --          .8        --         --
                              -----      -----  ---------  ---------  ---------  ---------
 Total operating costs
  and expenses..........        1.0        3.1      201.2      250.3      172.2      149.3
                              -----      -----  ---------  ---------  ---------  ---------
  Operating loss........       (1.0)      (3.1)    (102.3)    (116.1)     (70.3)     (47.5)
Loss on equity
 investment in joint
 venture................        --         --          .5       12.1        7.0        --
(Gain) on sale of
 asset..................        --         --         --         --         --         (.4)
Write-down (recovery) of
 equity investments.....        --         --         9.1        (.3)       --         --
Interest expense, net...        --         --         2.2        1.4        1.0         .5
                              -----      -----  ---------  ---------  ---------  ---------
  Net loss..............      $(1.0)     $(3.1) $  (114.1) $  (129.3) $   (78.3) $   (47.6)
                              =====      =====  =========  =========  =========  =========
Net loss per common
 share:
 Basic and diluted......      $(.04)     $(.09) $   (2.75) $   (1.86) $   (1.30) $    (.32)
                              =====      =====  =========  =========  =========  =========
Weighted average number
 of common and common
 equivalent shares
 outstanding:
 Basic and diluted......       24.9       33.5       41.4       69.4       60.1      150.0
                              =====      =====  =========  =========  =========  =========
</TABLE>    
 
                                      25
<PAGE>
 
<TABLE>   
<CAPTION>
                           PERIOD FROM
                          MAY 23, 1994                                 NINE MONTHS
                            (DATE OF           YEAR ENDED                 ENDED
                          INCEPTION) TO       DECEMBER 31,            SEPTEMBER 30,
                          DECEMBER 31,  --------------------------  ------------------
                             1994(1)    1995(1)   1996      1997      1997      1998
                          ------------- ------- --------  --------  --------  --------
                                   (IN MILLIONS, EXCEPT NUMBER OF BILLABLE
                                   SUBSCRIBERS AND PER SHARE INFORMATION)
<S>                       <C>           <C>     <C>       <C>       <C>       <C>
OTHER DATA:
Prodigy Internet
 billable subscribers at
 period end.............        --         --      7,000   221,000   193,000   433,000
Prodigy Classic billable
 subscribers at period
 end....................        --         --    807,000   394,000   459,000   208,000
                              -----      -----  --------  --------  --------  --------
Total billable
 subscribers at period
 end....................        --         --    814,000   615,000   652,000   641,000
                              =====      =====  ========  ========  ========  ========
Prodigy Internet
 revenue................        --         --   $     .1  $   29.6  $   18.4  $   55.9
Prodigy Classic
 revenue................        --         --   $   90.6  $   98.7  $   79.2  $   39.3
EBITDA (2)..............      $(1.0)     $(3.1) $ (101.6) $ (110.0) $  (65.0) $  (38.2)
OTHER CASH FLOW DATA:
Net cash used in
 operating activities...      $(1.0)     $(2.4) $  (35.3) $ (114.0) $  (72.4) $  (49.2)
Net cash used in
 investing activities...      $ (.1)     $(1.4) $  (47.9) $  (15.3) $  (11.6) $    (.4)
Net cash provided by
 financing activities...      $ 1.4      $ 4.0  $  104.1  $  120.4  $   77.0  $   66.3
</TABLE>    
 
<TABLE>   
<CAPTION>
                                 DECEMBER 31,                  SEPTEMBER 30,
                         ------------------------------  --------------------------
                         1994(1) 1995(1)  1996    1997    1998          1998
                         ------- ------- ------  ------  ------  ------------------
                                                         ACTUAL  AS ADJUSTED (3)(4)
                                              (IN MILLIONS)
<S>                      <C>     <C>     <C>     <C>     <C>     <C>
CONSOLIDATED BALANCE
 SHEET DATA:
Working capital
 (deficit)..............   $.1    $(.3)  $(54.7) $(48.4) $(21.6)
Total assets............    .4     2.5    103.3    73.7    79.1
Long-term debt..........    .4     1.6     56.0    10.0     --
Contingent convertible
 notes (included in
 stockholders' equity
 (deficit)).............   --      --      30.5    30.5    30.5          --
 Stockholders' equity
  (deficit).............   (.2)    --     (34.8)   (2.1)   26.6
                           ===    ====   ======  ======  ======         ====
</TABLE>    
----------
   
(1) International Wireless Incorporated ("IW") was incorporated in May 1994 to
    evaluate and develop cellular telephone systems and Internet access and
    online services in Africa. See "Corporate History and Certain
    Transactions--Prior Corporate History". In June 1996, the Company was
    formed under the name Prodigy, Inc. as a new holding company to acquire
    PSC and to hold IW and the other communications interests of IW. On June
    17, 1996, the Company consummated the acquisition of PSC. The acquisition
    was accounted for under the purchase method of accounting. Accordingly,
    the results of operations of PSC are included in the Company's
    consolidated results of operations from the date of acquisition. See Notes
    1 and 4 to the Company's Consolidated Financial Statements. In January
    1997, the Company sold its cellular telephone assets and operations.
    Subsequently, the Company decided to sell and wind-down its remaining
    international operations in Africa and China. See "Corporate History and
    Certain Transactions" and Note 5 to the Company's Consolidated Financial
    Statements.     
   
(2) EBITDA is a commonly used measure for operating performance of ISPs, and
    also provides additional information to assist investors in determining
    the Company's liquidity. EBITDA is not an accounting measure under GAAP,
    is not necessarily indicative of operating income or cash flows from
    operations as determined under GAAP and may not be comparable to similarly
    titled measures reported by other companies.     
   
(3) Reflects the conversion upon the closing of the Offering (at an assumed
    initial public offering price of $   per share) of the Contingent Notes
    held by IBM and Sears into an aggregate of    shares of Common Stock. See
    "Corporate History and Certain Transactions--Acquisition of Prodigy
    Services Company" and "--Prior Equity Financing" and Note 9 to the
    Company's Consolidated Financial Statements.     
(4) Adjusted to give effect to the sale by the Company of    shares of Common
    Stock offered hereby at an assumed public offering price of $   per share
    and after deducting the estimated underwriting discounts and offering
    expenses payable by the Company. See "Use of Proceeds".
 
                                      26
<PAGE>
 
   
  SEE "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS--PRO FORMA RESULTS OF OPERATIONS" FOR A PRESENTATION OF THE
UNAUDITED PRO FORMA RESULTS OF OPERATIONS AS IF THE PRODIGY ACQUISITION HAD
OCCURRED AS OF JANUARY 1, 1995. THE COMPANY BELIEVES THIS INFORMATION IS
IMPORTANT IN EVALUATING ITS RESULTS OF OPERATIONS.     
                            
                         PRODIGY SERVICES COMPANY     
 
<TABLE>   
<CAPTION>
                                                                 PERIOD FROM
                                    YEAR ENDED DECEMBER 31,    JANUARY 1, 1996
                                    -------------------------    TO JUNE 16,
                                     1993     1994     1995         1996
                                    -------  -------  -------  ---------------
                                         (IN MILLIONS)
<S>                                 <C>      <C>      <C>      <C>
CONSOLIDATED STATEMENT OF
 OPERATIONS DATA:
 Online service revenues........... $ 154.9  $ 179.6  $ 230.6      $ 98.2
 Other.............................    40.3     31.4     12.8         8.9
                                    -------  -------  -------      ------
 Total revenues....................   195.2    211.0    243.4       107.1
                                    -------  -------  -------      ------
 Net loss.......................... $ (60.0) $ (52.0) $ (34.6)     $(62.9)
                                    =======  =======  =======      ======
<CAPTION>
                                         DECEMBER 31,
                                    -------------------------
                                     1993     1994     1995
                                    -------  -------  -------
                                         (IN MILLIONS)
<S>                                 <C>      <C>      <C>      <C>
CONSOLIDATED BALANCE SHEET DATA:
 Working capital (deficit)......... $ (42.4) $ (38.9) $ (36.4)
 Total assets......................    83.4     80.1     84.7
 Long-term debt....................    12.9     18.4     16.4
 Partners' capital (deficit).......      .5     (4.3)     9.8
</TABLE>    
 
                                      27
<PAGE>
 
          MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
                           AND RESULTS OF OPERATIONS
 
  The following discussion should be read in conjunction with "Risk Factors",
"Selected Consolidated Financial Information and Other Data" and the
Consolidated Financial Statements and Notes thereto contained herein.
 
OVERVIEW
 
  The Company is a leading national ISP. In October 1996, the Company launched
Prodigy Internet, an open standards-based Internet access service. Since the
autumn of 1997, the Company has focused on expanding the Prodigy Internet
subscriber base and introducing additional value-added services. The Company
has also made strategic decisions to outsource its network, discontinue its
development of custom content and use multiple vendors for outsourced customer
service functions. As a result of these initiatives, the Company has
substantially reduced its fixed operating costs and headcount.
 
  In conjunction with the launch of Prodigy Internet in October 1996, the
Company began offering a plan allowing subscribers unlimited usage of Prodigy
Internet for a flat monthly fee without hourly usage charges. In December
1996, the Company introduced a similar plan for Prodigy Classic. Since the
introduction of the Company's unlimited usage plans, the portion of revenues
generated from hourly usage charges has decreased substantially.
 
  The results of operations of ISPs, including those of the Company, are
significantly affected by subscriber cancellations. Subscriber acquisition
expenses and the administrative expenses of enrolling and assisting new
subscribers are substantial, and in the past the Company typically offered
free service for one or two months to new subscribers. In many distribution
channels, the Company is replacing free trial programs with money-back
guarantees in order to attract enrollees who are less likely to terminate
service. The failure to attract and retain subscribers to the Company's
services, or an increase in the rate of subscriber cancellations, would have a
material adverse effect on the Company. See "Risk Factors--Subscriber
Turnover". The Company historically has experienced better retention for
subscribers under prepaid term plans than subscribers under month-to-month
plans. Under prepaid term plans, subscribers choose to prepay for longer terms
at reduced monthly rates. The Company ceased offering prepaid term plans in
1995 but reinstated such term plans in January 1997.
   
  The Company historically has experienced seasonality in its business, with
higher expenses during the last and first fiscal quarters, corresponding to
the Christmas and post-Christmas selling season, and lower timed usage
revenues (revenues from hourly usage charges) during its second and third
fiscal quarters resulting from reduced usage of its services during the summer
months. The Company believes that the seasonal reductions in timed usage
revenues historically experienced by the Company will be mitigated by the
movement from timed usage plans to unlimited usage plans as well as growth in
the Company's subscriber base, although the Company expects to continue to
have higher expenses during its first and fourth quarters. As a result of the
seasonality of its business, as well as other factors, the Company experiences
quarterly fluctuations in its operating results. See "Risk Factors--Quarterly
Fluctuations in Operating Results".     
 
  On June 17, 1996, the Company acquired PSC from IBM and Sears for an
aggregate purchase price of $78.1 million, consisting of a cash payment of
$40.8 million, the issuance of the Contingent Notes valued by an independent
appraiser at $30.5 million and direct acquisition related expenses of $6.8
million. See "Corporate History and Certain Transactions--Acquisition of
Prodigy Services Company". The Prodigy Acquisition was accounted for as a
purchase. Accordingly, the assets purchased and liabilities assumed and
related results of operations of PSC are included in the consolidated
financial statements of the Company from the date of acquisition. The purchase
price was allocated among tangible and intangible assets acquired based on
their respective fair market values. As part of this process, the acquired
technology was extensively evaluated, including the state of the technology
and needed developments, the inherent difficulties and uncertainties in
completing the development and thereby achieving technological feasibility,
and the risks related to the viability
 
                                      28
<PAGE>
 
and potential changes to target markets. Because the Internet technology
acquired in the Prodigy Acquisition was incomplete and substantial additional
development effort by the Company was required before a viable consumer
product could be launched, the Company recognized a charge for the purchase of
incomplete technology in June 1996 in the amount of $46.1 million. See "--
Incomplete Technology" and Note 4 to the Company's Consolidated Financial
Statements.
 
HISTORICAL RESULTS OF OPERATIONS
   
 Nine Months Ended September 30, 1998 Compared to Nine Months Ended September
30, 1997     
   
  The Company's total revenues have two components: Internet revenues,
consisting of subscription revenues from subscribers to Prodigy Internet and
Prodigy Classic, and other revenues, consisting primarily of advertising and
transaction fees and revenues from the Company's former international
operations. Subscription revenues include revenues from hourly usage charges
("timed usage revenues"). The Company defines "billable" subscribers as
subscribers who remain enrolled beyond completion of the applicable trial or
money-back guarantee period.     
   
  Subscription revenues from Prodigy Internet increased $37.5 million, or
204%, from $18.4 million in the nine months ended September 30, 1997 to $55.9
million in the nine months ended September 30, 1998. The number of Prodigy
Internet billable subscribers increased from 193,000 at September 30, 1997 to
433,000 at September 30, 1998, representing 30% and 68% of total billable
subscribers at September 30, 1997 and September 30, 1998, respectively.
Prodigy Internet subscribers accounted for 38% and 77%, respectively, of total
network usage during the nine months ended September 30, 1997 and 1998.
Subscription revenues from Prodigy Classic decreased $39.9 million, or 50%,
from $79.2 million in the nine months ended September 30, 1997 to $39.3
million in the nine months ended September 30, 1998 as the number of Prodigy
Classic billable subscribers decreased from 459,000 at September 30, 1997 to
208,000 at September 30, 1998. See "Risk Factors--Migration from Prodigy
Classic Service". Total billable subscribers decreased by 11,000, or 2%, from
652,000 at September 30, 1997 to 641,000 at September 30, 1998. Timed usage
revenues decreased $6.5 million, or 66%, from $9.9 million in the nine months
ended September 30, 1997 to $3.4 million in the nine months ended September
30, 1998. The decrease in Internet revenues attributable to decreases in the
total number of billable subscribers and in timed usage revenues associated
with Prodigy Classic was offset, in part, by an increase in average revenue
per billable subscriber primarily due to the higher-priced plans for unlimited
usage associated with Prodigy Internet. Other revenues increased by $2.3
million, or 53%, from $4.3 million in the nine months ended September 30, 1997
to $6.6 million in the nine months ended September 30, 1998. As a result of
the foregoing factors, total revenues decreased by $.1 million, from $101.9
million in the nine months ended September 30, 1997 to $101.8 million in the
nine months ended September 30, 1998.     
   
  Cost of revenues includes network and content expenses. Content expenses
consist of the costs of developing, or obtaining from third parties, content
for inclusion in the Company's service offerings. Cost of revenues increased
from $73.2 million in the nine months ended September 30, 1997 to $76.1
million in the nine months ended September 30, 1998, an increase of $2.9
million, or 4%. This increase was primarily attributable to increased network
charges incurred by the Company in the nine months ended September 30, 1998.
Network usage increased 73% from the nine months ended September 30, 1997 to
the nine months ended September 30, 1998, primarily due to the shift of the
subscriber base from timed usage to unlimited usage plans, but network charges
increased only 30% because of a monthly "cap" (based on average hourly usage
by subscribers) contained in the network agreement between the Company and
Splitrock. The increase in network charges in the nine months ended September
30, 1998 was offset, in part, by a decrease in content expense. Content
expense decreased as a result of the renegotiation and/or termination of
numerous content contracts associated with Prodigy Classic and due to the
Company's content outsourcing agreement with Excite which substantially
eliminated content expense associated with Prodigy Internet beginning in April
1998. See "Business--Principal Outsourcing Arrangements".     
 
                                      29
<PAGE>
 
   
  Marketing expense includes the costs to acquire and retain subscribers,
advertising and other general sales and marketing costs. Marketing expense
decreased from $29.7 million in the nine months ended September 30, 1997 to
$26.3 million in the nine months ended September 30, 1998, a decrease of $3.4
million, or 11%. The 1997 period reflected spending related to the launch of
Prodigy Internet in October 1996, which continued through the post-Christmas
selling season. In addition, in early 1998, the Company temporarily deferred
certain of its sales and marketing programs in response to network performance
issues encountered during the transition period accompanying the initial roll-
out of the new Splitrock network. The Company expects that its marketing
expenses will increase during the balance of 1998 and 1999. See "Use of
Proceeds".     
   
  Product development expense includes research and development costs and
other product development costs. Product development expense decreased from
$15.7 million in the nine months ended September 30, 1997 to $9.3 million in
the nine months ended September 30, 1998, a decrease of $6.4 million, or 41%.
In the nine months ended September 30, 1997, product development activities
were primarily focused on the stabilization and enhancement of the Prodigy
Internet platform and on migration of Prodigy Classic content to the Prodigy
Internet platform. As a result of the completion of these activities in 1997,
product development activities and spending were subsequently reduced. In the
nine months ended September 30, 1998, product development activities centered
on integration and stabilization of the Splitrock network, transition to the
co-branded Prodigy/Excite content platform for Prodigy Internet and
development of certain commercial applications and value-added services.     
   
  General and administrative expense decreased from $46.3 million in the nine
months ended September 30, 1997 to $37.6 million in the nine months ended
September 30, 1998, a decrease of $8.7 million, or 19%. The decrease in
general and administrative expense was attributable to significantly lower
personnel costs resulting from a decrease in average headcount and lower
incentive compensation expense, combined with lower occupancy expense due to
the relocation to a new headquarters facility in White Plains, New York as of
January 1, 1998. See "Business--Facilities".     
   
  Interest expense, net, decreased from $1.0 million in the nine months ended
September 30, 1997 to $.5 million in the nine months ended September 30, 1998,
due to higher cash balances and reduced levels of borrowing.     
   
  In the nine months ended September 30, 1997, the Company recorded a loss of
$7.0 million on an equity investment in a joint venture and a restructuring
charge of $7.3 million in connection with the sale of its network and a
workforce reduction. See "--Restructuring Charges" and "--Former International
Operations".     
   
  As a result of the foregoing factors, the Company's operating loss decreased
by $22.8 million, or 32%, from $70.3 million in the nine months ended
September 30, 1997 to $47.5 million in the nine months ended September 30,
1998, and its net loss decreased by $30.7 million, or 39%, from $78.3 million
in the nine months ended September 30, 1997 to $47.6 million in the nine
months ended September 30, 1998.     
   
 Year Ended December 31, 1997 Compared to Year Ended December 31, 1996     
   
  Prior to the Prodigy Acquisition on June 17, 1996, the Company was a start-
up company engaged in the evaluation and development of cellular telephone
systems and Internet access and online services in Africa. Due to the
significant changes that occurred in the Company's business and operations as
a result of the Prodigy Acquisition, the subsequent sale and wind-down of the
Company's former international operations and other changes in the Company's
business since the Prodigy Acquisition, the Company believes that its
historical financial statements for the years ended December 31, 1996 and 1997
are not directly comparable. See "--Pro Forma Results of Operations". When
reading the following comparison of the years ended December 31, 1996 and
1997, potential investors are cautioned that the operating results of PSC's
business are included only for six and one-half months of 1996 but are
included for all of 1997.     
       
       
                                      30
<PAGE>
 
   
  Total revenues increased from $98.9 million in 1996 to $134.2 million in
1997, primarily due to the Prodigy Acquisition on June 17, 1996 and the
inclusion of the operating results of PSC's business for only six and one-half
months in 1996 but all of 1997. The Prodigy Internet service was launched in
October 1996 but did not generate any significant revenues during 1996. During
1997, Prodigy Internet grew from 7,000 billable subscribers at December 31,
1996 to 221,000 billable subscribers at December 31, 1997, and generated
revenues of $29.6 million. Prodigy Classic revenues increased from $90.6
million in 1996 to $98.7 million in 1997. The number of Prodigy Classic
billable subscribers decreased from 807,000 at December 31, 1996 to 394,000 at
December 31, 1997, but Prodigy Classic revenues increased by $8.1 million from
1996 to 1997 because the operating results of PSC's business were included for
only six and one-half months in 1996 but all of 1997. In conjunction with the
launch of Prodigy Internet in October 1996, there commenced a shift in
subscriber composition from timed usage plans to higher-priced unlimited usage
plans. Timed usage revenues decreased from $19.9 million in 1996 to $12.0
million in 1997, and other revenues decreased from $8.2 million in 1996 to
$5.9 million in 1997.     
   
  Cost of revenue increased from $69.4 million in 1996 to $98.8 million in
1997, primarily due to the Prodigy Acquisition on June 17, 1996 and the
inclusion of the operating results of PSC's business for only six and one-half
months in 1996 but all of 1997. The effects of the Prodigy Acquisition on the
Company's cost of revenue in 1997 were offset, in part, by network rate
reductions resulting from the Company's network arrangements with Splitrock
which commenced in July 1997, lower subscriber levels, headcount reductions
throughout the Company, reductions in royalty-based content in 1997 and the
renegotiation and/or termination of certain Prodigy Classic content contracts
in 1997.     
   
  Marketing expense increased from $21.3 million in 1996 to $60.5 million in
1997, primarily due to the Prodigy Acquisition on June 17, 1996 and the
inclusion of the operating results of PSC's business for only six and one-half
months in 1996 but all of 1997. In 1996, marketing expense reflected
advertising campaigns instituted in late 1996 to support the launch of Prodigy
Internet. Prodigy Internet launch advertising continued into 1997.     
   
  Product development expense increased from $9.0 million in 1996 to $16.8
million in 1997, primarily due to the Prodigy Acquisition on June 17, 1996 and
the inclusion of the operating results of PSC's business for only six and one-
half months in 1996 but all of 1997. The Company's product development efforts
during 1996 were focused on the design and development of Prodigy Internet,
which was essentially completed by the end of 1996. During 1997, product
development efforts primarily related to the stabilization and enhancement of
Prodigy Internet, and integration and stabilization of the Splitrock network.
       
  General and administrative expense increased from $52.3 million in 1996 to
$61.1 million in 1997, primarily due to the Prodigy Acquisition on June 17,
1996 and the inclusion of the operating results of PSC's business for only six
and one-half months in 1996 but all of 1997. The effects of the Prodigy
Acquisition on the Company's general and administrative expense in 1997 were
offset, in part, by lower personnel costs resulting from decreased headcount
and incentive compensation expense, a reduction in occupancy expense and a
cost containment program initiated in the customer service area.     
   
  Interest expense, net decreased from $2.2 million in 1996 to $1.4 million in
1997. This decrease resulted from reduced levels of borrowing.     
   
  In 1996, the Company recorded a charge of $46.1 million relating to the
purchase of incomplete technology acquired in the Prodigy Acquisition, a $9.1
million write-down of its investment in Global Enterprise Services, Inc.
("GES") to an estimated net realizable value of zero, restructuring and other
special costs of $3.1 million and a loss of $.5 million on an equity
investment in a joint venture. In 1997, the Company recorded a loss of $12.1
million on an equity investment in a joint venture, restructuring and other
special costs of $9.9 million, a $2.4 million write-down of its investment in
its African Internet operations to the estimated net realizable value and a
$.8 million loss on the sale of its African cellular telephone operations. See
"--Restructuring Charges", "--Incomplete Technology" and "--Dispositions of
Former International Operations".     
   
  As a result of the foregoing factors, the Company's operating loss increased
from $102.3 million in 1996 to $116.1 million in 1997, and its net loss
increased from $114.1 million in 1996 to $129.3 million in 1997.     
 
                                      31
<PAGE>
 
   
 Year Ended December 31, 1996 Compared to Year Ended December 31, 1995     
   
  Prior to the Prodigy Acquisition on June 17, 1996, the Company was a start-
up company engaged in the evaluation and development of cellular telephone
systems and Internet access and online services in Africa. Due to the
significant changes that occurred in the Company's business and operations as
a result of the Prodigy Acquisition, the subsequent sale and wind-down of the
Company's former international operations and other changes in the Company's
business model since the Prodigy Acquisition, the Company believes that its
historical financial statements for the years ended December 31, 1995 and 1996
are not directly comparable. See "--Pro Forma Results of Operations". When
reading the following comparison of the years ended December 31, 1995 and
1996, potential investors are cautioned that the operating results of PSC's
business are included for six and one-half months of 1996 but are not included
for any of 1995.     
   
  Total revenues increased from $12.2 thousand in 1995 to $98.9 million in
1996, due to the Prodigy Acquisition on June 17, 1996 and the inclusion of the
operating results of PSC's business for six and one-half months in 1996. In
1996, revenues from Prodigy Classic were $90.6 million (of which $19.9 million
was from timed usage), and the Company had other revenue of $8.2 million.
There were 807,000 Prodigy Classic billable subscribers at December 31, 1996.
       
  Cost of revenue increased from $82.0 thousand in 1995 to $69.4 million in
1996, due to the Prodigy Acquisition on June 17, 1996 and the inclusion of the
operating results of PSC's business for six and one-half months in 1996.     
   
  Marketing expense increased from zero in 1995 to $21.3 million in 1996, due
to the Prodigy Acquisition on June 17, 1996 and the inclusion of the operating
results of PSC's business for six and one-half months in 1996. In 1996,
marketing expense reflected advertising campaigns instituted in late 1996 to
support the launch of Prodigy Internet.     
   
  Product development expense increased from zero in 1995 to $9.0 million in
1996, due to the Prodigy Acquisition on June 17, 1996 and the inclusion of the
operating results of PSC's business for six and one-half months in 1996. The
Company's product development efforts during 1996 were focused on the design
and development of Prodigy Internet, which was essentially completed by the
end of 1996.     
   
  General and administrative expense increased from $3.0 million in 1995 to
$52.3 million in 1996, primarily due to the Prodigy Acquisition on June 17,
1996 and the inclusion of the operating results of PSC's business for six and
one-half months in 1996.     
   
  Interest expense, net increased from $10.7 thousand in 1995 to $2.2 million
in 1996. This increase resulted from increased levels of borrowing to support
the substantial increase in the scope of the Company's operations attributable
to the Prodigy Acquisition.     
   
  In 1996, the Company recorded a charge of $46.1 million relating to the
purchase of incomplete technology acquired in the Prodigy Acquisition, a $9.1
million write-down of its investment in GES to an estimated net realizable
value of zero, restructuring and other special costs of $3.1 million and a
loss of $.5 million on an equity investment in a joint venture. See "--
Restructuring Charges", "--Incomplete Technology" and "--Dispositions of
Former International Operations". The Company did not incur any similar
charges or write-downs in 1995.     
   
  As a result of the foregoing factors, the Company's operating loss increased
from $3.1 million in 1995 to $102.3 million in 1996, and its net loss
increased from $3.1 million in 1995 to $114.1 million in 1996.     
 
PRO FORMA RESULTS OF OPERATIONS
 
  IW was incorporated in May 1994 to evaluate and develop cellular telephone
systems in Africa. In June 1996, the Company was formed as a new holding
company to acquire PSC and to hold IW and the other
 
                                      32
<PAGE>
 
   
communications interests of IW. All outstanding common stock of IW was
converted into Common Stock of the Company on a one-for-one basis and the
assets and liabilities of IW were carried over to the Company at historical
cost. On June 17, 1996, the Company consummated the Prodigy Acquisition. The
aggregate purchase price of $78.1 million consisted of a cash payment of $40.8
million, the issuance of the Contingent Notes valued at $30.5 million and
acquisition related expenses of $6.8 million. Such purchase price was
allocated to the assets acquired and liabilities assumed based on their
respective fair market values as of the date of acquisition. A significant
portion of the purchase price was allocated to intangible assets, including
approximately $46.1 million to acquired incomplete technology which was
immediately expensed. See Note 4 to the Company's Consolidated Financial
Statements. The Prodigy Acquisition was accounted for under the purchase
method of accounting. Accordingly, the results of operations of PSC since the
date of acquisition are included in the Company's results of operations.
Subsequently, the Company determined to sell and wind-down its international
operations in Africa and China. See "--Dispositions of Former International
Operations", "Corporate History and Certain Transactions--Prior Corporate
History" and Notes 1, 4 and 5 to the Company's Consolidated Financial
Statements. Since the autumn of 1997, the Company has focused on expanding
Prodigy Internet's subscriber base and introducing additional value-added
services. The Company also made strategic decisions to outsource its network,
discontinue its development of custom content and use multiple vendors for
outsourced customer service functions. As a result of these initiatives, the
Company has substantially reduced its fixed operating costs and headcount.
       
  As a result of the significant changes that occurred in the Company's
business and operations as a result of the Prodigy Acquisition, the subsequent
sale and wind-down of the Company's former international operations and other
changes in the Company's business since the Prodigy Acquisition, the
historical financial statements of the Company are not directly comparable.
The following table presents the Company's pro forma results of operations for
the years ended December 31, 1995 and 1996 as if the Prodigy Acquisition had
occurred on January 1, 1995. Although such pro forma presentation is not
required by generally accepted accounting principles, the pro forma data is
presented herein because the Company believes this information presents the
most meaningful basis for comparing the Company's result of operations in view
of the significant change in its business resulting from the Prodigy
Acquisition. The accompanying pro forma information is presented for
illustrative purposes only and is not necessarily indicative of the results of
operations that would have occurred if the Prodigy Acquisition had been
consummated as of January 1, 1995, nor is it intended to indicate the
Company's financial condition or results of operations for any future date or
period. The pro forma adjustments are described in the Notes to the table
below. No adjustments have been made to the pro forma data for the subsequent
sale and wind-down of the Company's former international operations.     
 
                                      33
<PAGE>
 
<TABLE>   
<CAPTION>
                                          YEAR ENDED DECEMBER 31,
                               ------------------------------------------------
                                    1995             1996            1997
                               ---------------  ---------------  --------------
                                  PRO FORMA        PRO FORMA        ACTUAL
                               ---------------  ---------------  --------------
                                (IN MILLIONS, EXCEPT PER SHARE INFORMATION)
<S>                            <C>              <C>              <C>
CONSOLIDATED STATEMENT OF
 OPERATIONS DATA:
Revenues:
 Internet and on-line service
  revenues....................  $       230.6    $        188.9  $        128.3
 Other........................           12.8              17.1             5.9
                                -------------    --------------  --------------
  Total revenues..............          243.4             206.0           134.2
                                -------------    --------------  --------------
Operating costs and expenses:
 Costs of revenue(1)..........          114.3             134.1            98.8
 Marketing....................           67.4              64.8            60.5
 Product development..........           22.6              20.3            16.8
 General and
  administrative(1)(2)(3).....           70.6              84.6            61.1
 Acquired incomplete
  technology(4)...............            --                --              --
 Restructuring and other
  special costs...............            --               17.6             9.9
 Write-down of assets held for
  sale........................            --                --              2.4
 Loss on sale of cellular
  assets......................            --                --               .8
                                -------------    --------------  --------------
  Total operating costs and
   expenses...................          274.9             321.4           250.3
                                -------------    --------------  --------------
    Operating loss............          (31.5)           (115.4)         (116.1)
 Loss on equity investment in
  joint venture...............            --                 .5            12.1
 Write-down (recovery) of
  equity investments..........            --                9.1             (.3)
 Interest expense, net(5).....            3.3               4.2             1.4
                                -------------    --------------  --------------
    Net loss..................  $       (34.8)   $       (129.2) $       (129.3)
                                =============    ==============  ==============
Net loss per common share:
    Basic and diluted.........  $       (1.04)   $        (3.12) $        (1.86)
                                =============    ==============  ==============
Weighted average number of
 common and common equivalent
 shares outstanding:
    Basic and diluted.........           33.5              41.4            69.4
                                =============    ==============  ==============
</TABLE>    
 
  The following pro forma adjustments have been made:
 
(1) Reduced depreciation expense of $8.3 million and $4.2 million in 1995 and
    1996, respectively, as a result of the fair valuation of the assets
    acquired in the Prodigy Acquisition. Such depreciation expense reduction
    is reflected in costs of revenue ($6.2 million and $3.1 million,
    respectively) and general and administrative expenses ($2.1 million and
    $1.1 million, respectively).
(2) Additional amortization expense of $3.0 million and $1.4 million in 1995
    and 1996, respectively, on intangible assets acquired in the Prodigy
    Acquisition amortized over the estimated life of 10 years. Such
    amortization expense is reflected in general and administrative expenses.
(3) Reduced amortization expense of $2.0 million and $.9 in 1995 and 1996,
    respectively, relating to unfavorable lease agreements recognized at the
    time of the acquisition, over the lease term to reflect a full year's
    credit. Such amortization expense reduction is reflected in general and
    administrative expenses.
(4) The elimination of non-recurring acquired incomplete technology of $46.1
    million in 1996.
(5) Increased interest expense of $4.4 million and $2.0 million in 1995 and
    1996, respectively, on additional borrowings to finance the acquisition,
    at an assumed interest rate of 8.75% per annum.
 
 
                                      34
<PAGE>
 
 Year Ended December 31, 1997 Compared to Pro Forma Year Ended December 31,
1996
 
  The Prodigy Internet service was launched in October 1996 but did not
generate any significant revenues during 1996. During 1997, Prodigy Internet
grew from 7,000 billable subscribers at December 31, 1996 to 221,000 billable
subscribers at December 31, 1997, and generated revenues of $29.6 million.
Total revenues decreased by $71.8 million, or 35%, from $206.0 million in 1996
to $134.2 million in 1997, primarily due to a decrease in Prodigy Classic
billable subscribers from 807,000 at December 31, 1996 to 394,000 at December
31, 1997. Prodigy Classic revenues declined from $188.8 million in 1996 to
$98.7 million in 1997, representing 92% and 74%, respectively, of total
revenues. In conjunction with the launch of Prodigy Internet in October 1996,
there commenced a shift in subscriber composition from timed usage plans to
higher-priced unlimited usage plans. As a result, timed usage revenues
decreased from $40.2 million in 1996 to $12.0 million in 1997, a decrease of
$28.2 million, or 70%. Other revenues decreased from $17.1 million in 1996 to
$5.9 million in 1997, a decrease of $11.2 million, or 65%, primarily
attributable to decreases in subscribers and advertisers and reduced
advertising display fees from Prodigy Classic.
 
  Cost of revenues decreased from $134.1 million in 1996 to $98.8 million in
1997, a decrease of $35.3 million, or 26%, primarily due to network rate
reductions resulting from the Company's network arrangements with Splitrock
which commenced in July 1997, lower subscriber levels, headcount reductions in
the content area, reductions in royalty-based content in 1997, the
renegotiation and/or termination of certain Prodigy Classic content contracts
and the elimination of certain proprietary Internet content early in 1997.
 
  Marketing expense decreased from $64.8 million in 1996 to $60.5 million in
1997, a decrease of $4.3 million, or 7%. In 1996, marketing expense reflected,
in part, a special marketing program which the Company implemented during the
1995-1996 selling season and additional advertising campaigns instituted in
late 1996 to support the launch of Prodigy Internet. Prodigy Internet launch
advertising continued into 1997.
 
  Product development expense decreased from $20.3 million in 1996 to $16.8
million in 1997, a decrease of $3.5 million, or 17%. The Company's product
development efforts during 1996 were focused on the design and development of
Prodigy Internet, which was essentially completed by the end of 1996. During
1997, product development efforts primarily related to the stabilization and
enhancement of Prodigy Internet, which required fewer resources than in the
prior year, and integration and stabilization of the Splitrock network.
 
  General and administrative expense decreased from $84.6 million in 1996 to
$61.1 million in 1997, a decrease of $23.5 million, or 28%. The decrease in
general and administrative expense was primarily due to lower personnel costs
resulting from decreased headcount and incentive compensation expense, a
reduction in occupancy expense and a cost containment program initiated in the
customer service area.
 
  Interest expense, net decreased from $4.2 million in 1996 to $1.4 million in
1997, a decrease of $2.8 million, or 67%. This decrease resulted from reduced
levels of borrowing.
 
  In 1996, the Company recorded a $9.1 million write-down of its investment in
GES to an estimated net realizable value of zero, restructuring and other
special costs of $17.6 million and a loss of $.5 million on an equity
investment in a joint venture. In 1997, the Company recorded a loss of $12.1
million on an equity investment in a joint venture, restructuring and other
special costs of $9.9 million, a $2.4 million write-down of its investment in
its African Internet operations to the estimated net realizable value, a $.8
million loss on the sale of its African cellular telephone operations and a
recovery on equity investment of $.3 million on the sale of its interest in
GES. See "--Restructuring Charges" and "--Former International Operations".
   
  As a result of the foregoing factors, the Company's operating loss increased
from $115.4 million in 1996 to $116.1 million in 1997, and its net loss
increased from $129.2 million in 1996 to $129.3 million in 1997.     
 
 
                                      35
<PAGE>
 
 Pro Forma Year Ended December 31, 1996 Compared to Pro Forma Year Ended
December 31, 1995
 
  Total revenues decreased from $243.4 million in 1995 to $206.0 million in
1996, a decrease of $37.4 million, or 15%. Internet and online service
revenues declined from $230.6 million in 1995 to $188.9 million in 1996, a
decrease of $41.7 million, or 18%, primarily due to a decrease in total
billable subscribers from 1,133,000 at December 31, 1995 to 814,000 at
December 31, 1996. Timed usage revenues decreased from $42.8 million in 1995
to $40.2 million in 1996, a decrease of $2.6 million, or 6%. All Internet and
online service revenues in 1995 and substantially all Internet and online
service revenues in 1996 were attributable to Prodigy Classic. Other revenues
increased from $12.8 million in 1995 to $17.1 million in 1996, an increase of
$4.3 million, or 34%, primarily due to revenues from the Company's
international operations.
 
  Cost of revenues increased from $114.3 million in 1995 to $134.1 million in
1996, an increase of $19.8 million, or 17%, primarily due to increases in
personnel and content expense as well as increased costs of the Company's
international operations.
 
  Marketing expense decreased from $67.4 million in 1995 to $64.8 million in
1996, a decrease of $2.6 million, or 4%. Marketing expense increased as a
percentage of revenues from 28% to 31%, primarily due to marketing campaigns
in support of the launch of Prodigy Internet in October 1996.
 
  Product development expense decreased from $22.6 million in 1995 to $20.3
million in 1996, a decrease of $2.3 million, or 10%. In 1996, the Company
incurred product development costs for the design and development of the
Prodigy Internet platform, which were more than offset by the reduction in
development costs for Prodigy Classic.
 
  General and administrative expense increased from $70.6 million in 1995 to
$84.6 million in 1996, an increase of $14.0 million, or 20%, primarily due to
costs incurred in connection with a new subscriber management system,
increased occupancy expense and increased costs of the Company's international
operations.
 
  Interest expense, net increased from $3.3 million in 1995 to $4.2 million in
1996, an increase of $.9 million, or 27%, primarily due to lower cash balances
and higher borrowings.
 
  In 1996, the Company recorded a $9.1 million write-down of its investment in
GES to an estimated net realizable value of zero, restructuring and other
special costs of $17.6 million and a loss of $.5 million on an equity
investment in a joint venture. See "--Restructuring Charges" and "--Former
International Operations".
   
  As a result of the foregoing factors, the Company's operating loss increased
from $31.5 million in 1995 to $115.4 million in 1996, and its net loss
increased from $34.8 million in 1995 to $129.2 million in 1996.     
 
                                      36
<PAGE>
 
RESTRUCTURING CHARGES
   
  In response to changes in its business environment and to decrease cash
outflows and more efficiently manage its business, the Company has incurred
restructuring and other special costs. The table below presents restructuring
and other special costs incurred and/or expended by the Company from June 17,
1996 through September 30, 1998:     
 
<TABLE>   
<CAPTION>
                                                              NINE MONTHS
                                            YEAR ENDED           ENDED
                                           DECEMBER 31,      SEPTEMBER 30,
                                           ----------------  ---------------
                                            1996      1997    1997     1998
                                           ------    ------  -------  ------
                                                  (IN MILLIONS)
<S>                                        <C>       <C>     <C>      <C>
BALANCE AT BEGINNING OF PERIOD:........... $ 10.7(1) $ 11.5  $  11.5  $  7.9
Network termination costs(2)..............    --        4.7      4.7     --
Reductions-in-force(3)....................     .7       2.9      2.6     --
Content production(4).....................    --         .6      --      --
Facility closing(5).......................    --        1.6      --      --
Headquarters lease termination(1).........    --        --       --      --
Idle leased space at former headquarters'
 location(6)..............................    2.5       --       --      --
                                           ------    ------  -------  ------
Subtotal, period accruals.................    3.2       9.8      7.3     --
                                           ------    ------  -------  ------
RESTRUCTURING EXPENDITURES:
Network termination costs.................    --        --       --      (.2)
Reductions-in-force.......................   (1.6)     (3.1)    (3.0)   (1.6)
Content production........................    --        --       --      (.5)
Facility closing..........................    --        --       --      (.6)
Headquarters lease termination............    (.8)     (7.8)    (3.4)    --
Idle leased space at former headquarters'
 location.................................    --       (2.5)    (1.9)    --
                                           ------    ------  -------  ------
Subtotal, period expenditures.............   (2.4)    (13.4)    (8.3)   (2.9)
                                           ------    ------  -------  ------
ACCRUED RESTRUCTURING COSTS AT PERIOD
 END...................................... $ 11.5    $  7.9  $  10.5  $  5.0
                                           ======    ======  =======  ======
</TABLE>    
----------
(1) Opening balance represents the remaining balance of prior restructuring
    charges recorded by PSC and assumed by the Company at the time of the
    Prodigy Acquisition. Restructuring charges of $14.6 million were recorded
    by PSC in 1996 prior to the time of the Prodigy Acquisition. These
    restructuring charges included lease termination penalties and write-down
    of leasehold improvements at PSC's former headquarters' location as well
    as severance pay, early retirements and outplacement services in a
    reduction- in-force which affected 120 employees.
(2) In connection with the sale of its network, the Company incurred
    liabilities related primarily to early termination payments and other
    contractual obligations for certain non-cancelable network related
    agreements.
(3) The Company implemented restructuring plans in 1996 and 1997 intended to
    reduce costs through a reduction-in-force. Approximately 120 employees and
    80 employees throughout the Company were terminated, respectively, in 1996
    and 1997.
(4) The Company decided to discontinue the production of its own content and
    as a result recorded a charge of $.6 million to account for the employee
    termination costs and the costs to settle content related contractual
    obligations. Approximately 25 employees were terminated.
(5) The Company's offices in Massachusetts were closed and a charge of $1.6
    million was recorded to account for the costs of employee terminations and
    lease cancellation. The terminated employees were involved with the
    Company's international operations and/or former headquarters management.
    Approximately 20 employees were terminated.
(6) Beginning in late 1996, the Company vacated 29% of its leased space at its
    former headquarters location. The cost of the lease attributed to the idle
    leased facility amounted to $2.5 million. The Company terminated its lease
    at this location and moved to a new facility effective January 1, 1998.
 
 
                                      37
<PAGE>
 
INCOMPLETE TECHNOLOGY
   
  The Prodigy Acquisition was accounted for as a purchase. Accordingly, the
purchase price was allocated among tangible and intangible assets based on
their respective fair market values. The fair value of intangible assets was
determined using a risk adjusted discounted cash flow approach. Specifically,
the Internet technology acquired was evaluated through extensive interviews
and analysis of data concerning the state of the technology and required
development work. The evaluation assumed an average growth in the Company's
Internet revenues of 49% per year, based on industry expectations at that
time, a gross margin on Internet services ranging from 8% to 49% and sales and
general and administrative expenses ranging from 10% to 27% of revenues. The
assumptions used for purposes of the evaluation should not be construed as
forecasts of the Company's future operating results. A discount rate of 35%
was used in the evaluation, reflecting the difficulties and uncertainties in
completing the development effort, the risks related to the viability and
potential changes to target markets and the inherent uncertainty of predicting
cash flows in the Internet industry. Actual operating expenses incurred
subsequent to the acquisition, including costs of development, were lower than
expected, although these cost savings were more than offset by lower than
anticipated revenue from the Prodigy Internet service. The net result of these
variances has had an adverse impact on the expected return on investment. The
technology had no alternative future use to the Company, inasmuch as the
Company could not commercialize the technology in its existing form. The
Company also had no other product, line of business or research and
development in which the technology could be utilized. Therefore, the Company
recognized a $46.1 million charge in 1996 for the purchase of incomplete
technology.     
   
  The purchased technology was incomplete because the majority of the coding,
integration and testing of the product was incomplete. At the date of the
Prodigy Acquisition (June 17, 1996), there were over 50 components that needed
further development and integration before the Prodigy Internet service could
reach technological feasibility. These components included applications for
parental access control, browsing, searching, e-mail, the message board,
menus, the navigational bar, the tool bar, code update mechanisms,
authentication, registration, service access control and subscriber billing.
The ability of the Company's Prodigy Internet development team to integrate
these components into the Prodigy Internet platform was a crucial factor in
reaching technological feasibility, and the ability to complete this
integration had not been established as of the acquisition date. The Company
has now successfully completed the further development necessary to complete
and integrate the acquired technology. The cost of completing the development
effort was approximately $6.8 million and involved approximately 470 person-
months of work. The Internet technology is now being used within the Prodigy
Internet service, which was launched in October 1996.     
 
FORMER INTERNATIONAL OPERATIONS
   
  The historical and pro forma results discussed above include the operating
results of the Company's Africa and China operations, which began in late-1995
and mid-1996, respectively. The revenue and net loss from the Company's Africa
and China operations were $7.0 thousand and $89.0 thousand, respectively, for
the year ended December 31, 1995, $1.0 million and $2.7 million, respectively,
for the year ended December 31, 1996, $3.2 million and $8.5 million,
respectively, for the year ended December 31, 1997, $2.8 million and $4.0
million, respectively, for the six months ended June 30, 1997 and $2.8 million
and $1.7 million, respectively, for six months ended June 30, 1998. The
Company sold its African cellular telephone operations in January 1997,
determined to terminate its Chinese operations in December 1997, terminated
its Chinese operations in March 1998 and sold its African Internet operations
in October 1998. In 1997, the Company recorded a $.8 million loss on the sale
of its African cellular telephone operations and a $2.4 million write-down of
its investment in its African Internet operations to the estimated net
realizable value. See "Corporate History and Certain Transactions--Prior
Corporate History--Dispositions of Former International Operations".     
 
LIQUIDITY AND CAPITAL RESOURCES
   
  Since formation, the Company has relied on private sales of equity
securities (totaling $294.1 million through September 30, 1998) and borrowings
to fund its operations. See "Corporate History and Certain     
 
                                      38
<PAGE>
 
   
Transactions--Prior Equity Financings". The Company has incurred significant
losses since inception and, at September 30, 1998, had an accumulated deficit
of $295.1 million, a working capital deficit of $21.6 million, current
liabilities of $52.5 million and current assets of $30.1 million. For the
years ended December 31, 1995, 1996 and 1997 and the nine months ended
September 30, 1997 and 1998, respectively, the Company incurred negative cash
flow from operations of $2.4 million, $35.3 million, $114.0 million, $72.4
million and $49.2 million. Prior to its acquisition by the Company, PSC
sustained losses and negative cash flow from operations which required
continued funding by PSC's former owners, IBM and Sears, aggregating $1.3
billion as of June 16, 1996 (the day before the Prodigy Acquisition). See
"Risk Factors--History of Losses".     
   
  To fund operations, the Company borrowed $16.4 million from Banco Inbursa,
S.A. ("Banco Inbursa"), an affiliate of Carso Global Telecom, in February 1998
and $5.7 million from Banco Inbursa in July 1998. The Banco Inbursa loans bore
9% interest and were due December 31, 1999. In July 1998, the Company borrowed
$30.0 million from Bank of America National Trust and Savings Association
("Bank of America") and used the proceeds to repay $30.0 million of the $32.1
million then owed to Banco Inbursa. The Bank of America loan bore 6.5%
interest, was collateralized by the funds of Carso Global Telecom held by Bank
of America and was due August 14, 1998. The Bank of America loan was repaid
with interest with a portion of the proceeds from the sales of Common Stock
described in the following paragraph.     
   
  In August 1998, Telmex purchased 24,500,000 shares of Common Stock from the
Company for gross proceeds of $49.0 million, and in July 1998 Carso Global
Telecom purchased 5,500,000 shares of Common Stock from the Company for gross
proceeds of $11.0 million. The Company used a portion of the proceeds to repay
amounts owed to Banco Inbursa and Bank of America in the aggregate amount of
$32.1 million. See "Corporate History and Certain Transactions" and "Principal
Stockholders".     
   
  In August 1998, Carso Global Telecom agreed to provide the Company with a
$35.6 million committed revolving line of credit entitling the Company to
borrow, repay and reborrow amounts in minimum increments of $1.0 million prior
to maturity on December 31, 1999. Advances are due 90 days after borrowing,
but the Company is permitted to roll over advances into new advances at its
election. Advances are unsecured and bear interest at the LIBOR rate plus
between one and five percentage points (as negotiated on a case-by-case
basis). As of September 30, 1998, no amounts were outstanding under the
revolving line of credit. Carso Global Telecom is the Company's principal
stockholder. See "Principal Stockholders".     
   
  As a result of the Company's outsourcing arrangements, the Company has
significantly reduced the level of capital expenditures needed in its
operations. The Company's July 1997 network agreement with Splitrock
eliminated the need for the Company to maintain and upgrade its own network.
The Company's portal content agreement with Excite eliminated the need,
beginning in April 1998, for internal development of content and Prodigy
Internet customization and other programming projects. See "Business--
Principal Outsourcing Arrangements". The Company's capital expenditures for
the nine months ended September 30, 1998 were $.4 million, primarily for the
purchase of data processing equipment, compared to $1.4 million, $8.8 million
and $8.6 million, respectively, for the years ended December 31, 1995, 1996
and 1997. The Company currently anticipates that its capital expenditures for
the period October 1, 1998 through December 31, 1999 will be approximately
$15.0 million, principally for the purchase and implementation of a new member
management system with enhanced customer care, data mining and marketing
program management capabilities, the purchase and implementation of a new
accounting and financial reporting system and the purchase of new equipment
for Prodigy Internet.     
   
  At September 30, 1998, the Company had cash of $33.2 million, of which $4.1
million secured a letter of credit and was thus unavailable. The Company is
currently experiencing substantial negative cash flow each month and expects
to continue to experience negative cash flow through at least the end of 1999.
The Company's future financing requirements will depend on a number of
factors, including the Company's operating performance and increases in
operating expenses associated with growth in the Company's business. Based on
its current operating plan, the Company believes that the net proceeds from
the Offering, together with its existing cash and available financing under
its revolving credit facility with Carso Global Telecom, will be     
 
                                      39
<PAGE>
 
sufficient to meet its anticipated cash requirements for at least the next
twelve months. The Company has made no arrangements to obtain additional
financing, other than pursuant to the Carso Global Telecom credit facility,
and there can be no assurance that adequate additional financing on acceptable
terms will be available when needed, if at all. The unavailability of
sufficient financing when needed would have a material adverse effect on the
Company. See "Risk Factors--Need for Additional Financing".
       
YEAR 2000 COMPLIANCE
 
  The Year 2000 issue is the result of computer programs being written using
two digits (rather than four) to define the applicable year. Computer programs
that have time-sensitive software may recognize a date using "00" as the year
1900 rather than the year 2000. This could result in a system failure or
miscalculations causing disruptions of operations, including among other
things, a temporary inability to process transactions, send invoices or engage
in other normal business activities. The Company maintains various internal
computer systems and equipment and contracts with third-party vendors for the
provision of computerized customer billing, network operation, Prodigy
Internet service content and certain other information technology and other
services.
 
  The Company is currently incurring costs to resolve the potential impact of
the year 2000 on the processing of date-sensitive information by the Company's
internal computer systems and equipment and the computer systems and equipment
of the third-party vendors on which the Company's business relies. The Company
has established a Year 2000 project office staffed by Company personnel and
assisted by a consulting firm.
   
  The Company has completed an inventory of substantially all of its internal
systems and programs related to both the delivery of the Prodigy Internet
service and the daily operations of the business. Based on its preliminary
analysis, the Company estimates that it will spend approximately $9.5 million
through the end of 1999 to remediate potential Year 2000 problems with its
internal systems and to purchase and implement a new member management system
with enhanced customer care, data mining and marketing program management
capabilities that will replace a system that is not Year 2000 compliant.     
   
  The Company is developing contingency plans in the event that any critical
service component or business process fails due to a Year 2000 problem. The
Company expects to complete contingency planning by mid-1999. With respect to
critical third-party vendor systems, (i) Splitrock has publicly reported that
substantially all of its information and non-information technology systems
are Year 2000 compliant (and that upgrades are available for those systems
that are not Year 2000 compliant that will enable Splitrock to be Year 2000
compliant by mid-1999), (ii) Excite has publicly reported that it believes
there are no significant Year 2000 issues within its proprietary systems or
services (although Excite has not yet fully evaluated the Year 2000 compliance
status of the third-party equipment and software it utilizes, or of its
vendors, joint venture partners and content partners), and (iii) Prodigy's
billing provider has committed to making its billing system Year 2000
compliant. There can be no assurance that the Company will be able to address,
in a timely fashion, all potential Year 2000 problems, or that the systems of
the third-party vendors upon which the Company's business relies (and the
maintenance and operation of which are not within the control of the Company)
will be Year 2000 compliant or will become Year 2000 compliant in a timely
manner. Any Year 2000 problems could impact the provision of products or
services to the Company's customers and could subject the Company to the risk
of litigation, lost revenues and loss of current or future customers.     
 
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
 
  In June 1997, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 131, "Disclosures about Segments of an Enterprise and Related Information"
("SFAS 131"), effective for years beginning after December 15, 1997. SFAS 131
requires that a company report financial and descriptive information about its
reportable operating segments pursuant to criteria that differ from current
accounting practice. Operating segments, as defined, are components of an
enterprise about which separate financial information is available that is
evaluated regularly by the chief operating decision maker in deciding how to
allocate resources and in assessing performance. The financial information to
be reported includes segment profit or loss, certain revenue
 
                                      40
<PAGE>
 
and expense items and segment assets and reconciliations to corresponding
amounts in the general purpose financial statements. SFAS 131 also requires
revenues from products or services, countries where the company has operations
or assets and major customers to be reported. The Company does not believe
implementation of SFAS 131 will have a material impact on its consolidated
financial statements.
 
  In March 1998, the Accounting Standards Executive Committee ("AcSEC") issued
Statement of Position No. 98-1, "Accounting for the Cost of Computer Software
Developed or Obtained for Internal Use" ("SOP 98-1"), which provides guidance
on applying generally accepted accounting principles in addressing whether and
under what condition the costs of internal-use software should be capitalized.
SOP 98-1 is effective for transactions entered into in fiscal years beginning
after December 15, 1998, but earlier adoption is encouraged. The Company
adopted the guidelines of SOP 98-1 as of January 1, 1998. Adoption of SOP 98-1
did not have a material impact on the Company's consolidated financial
statements.
 
  In April 1998, the AcSEC issued Statement of Position No. 98-5, "Reporting
on the Costs of Start-Up Activities" ("SOP 98-5"), effective for fiscal years
beginning after December 15, 1998. SOP 98-5 provides guidance on the financial
reporting of start-up costs and organization costs. SOP 98-5 requires that
costs of start-up activities and organization costs be expensed as incurred.
Initial application of SOP 98-5 should be reported as the cumulative effect of
a change in accounting principles, as described in Accounting Principles Board
(APB) Opinion No. 20, "Accounting Changes". When adopting SOP 98-5, entities
are not required to report the pro forma effects of retroactive application.
The Company does not believe implementation of SOP 98-5 will have a material
impact on its consolidated financial statements.
 
                                      41
<PAGE>
 
                                   BUSINESS
   
  Prodigy is a leading nationwide ISP that provides fast and reliable Internet
access and related value-added services. Prodigy has nationwide brand
recognition and customer acquisition channels not available to regional and
local ISPs, and utilizes a nationwide network covering over 600 cities in all
50 states allowing approximately 83% of the United States population to access
Prodigy's services with a local telephone call. Combining these strengths with
Prodigy's scalable technology has enabled the Prodigy Internet service to
achieve one of the fastest subscriber growth rates among U.S. ISPs, with the
number of billable subscribers to Prodigy Internet (including migration from
Prodigy Classic) increasing from 221,000 at December 31, 1997 to 433,000 at
September 30, 1998. Prodigy Internet enables the Internet to be used as a
productivity tool by allowing subscribers to obtain and communicate desired
information quickly and efficiently in an easy and personalized manner.
Prodigy Internet users receive fast and reliable access to the Internet,
Prodigy-branded content powered by Excite and other Prodigy member services.
Prodigy is in the process of expanding its Web hosting and electronic commerce
activities for business customers, and believes that its extensive experience
in operating a large data center with electronic commerce applications
positions it well for growth in these areas. Prodigy is also in the process of
evaluating and introducing other consumer value-added services, such as the
co-branded marketing of paging, long-distance and cellular telephone services,
Internet-based telephony and fax services and online bill presentment.     
 
  Prodigy has been an online pioneer since its inception in 1984. Prodigy's
original online service, now called Prodigy Classic, was launched as the
world's first consumer-focused online service in 1988 and achieved national
distribution in 1990. Prodigy Classic featured custom content, e-mail and chat
capabilities and was based on proprietary technologies. In October 1996, the
Company launched Prodigy Internet, an open standards-based Internet access
service. Since the autumn of 1997, the Company has focused on expanding
Prodigy Internet's subscriber base and introducing additional value-added
services. The Company has also made strategic decisions to outsource its
network, discontinue its development of custom content and use multiple
vendors for outsourced customer service functions. As a result of these
initiatives, the Company has substantially reduced its fixed operating costs
and headcount and now has a business and operating model that it believes can
accommodate sustained subscriber growth on a cost-effective basis without
significant capital expenditures.
 
INDUSTRY BACKGROUND
 
 Growth of the Internet and Electronic Commerce
 
  The Internet is a collection of computer networks that links millions of
public and private computers to form the largest computer network in the
world. It has become an important global medium enabling millions of people to
obtain and share information and conduct business electronically, and a
critical tool for information and communications for many users. The Internet
has grown rapidly in recent years both in terms of the number of Web users and
the number of Web sites. IDC estimates that at the end of 1997 there were over
38 million Web users in the United States and over 68 million worldwide, and
projects that by the end of 2002 the number of Web users will increase to over
135 million in the United States and over 319 million worldwide. The growth in
the number of Web users and the number of Web sites is being driven by a
number of factors, including the large and growing installed base of personal
computers, advances in the performance and speed of personal computers and
modems, improvements in network infrastructure, easier access to the Internet
and the increasing importance of the Internet as a communications medium, an
information resource and a sales and distribution channel.
 
  For many businesses, the Internet has created a new communications and sales
channel enabling large numbers of geographically dispersed organizations and
consumers to be reached quickly and cost-effectively. IDC estimates that the
number of consumers buying goods and services on the Internet will grow from
17.6 million in 1997 to 128.4 million in 2002, and that the total value of
goods and services purchased over the Internet will increase from
approximately $12 billion in 1997 to approximately $426 billion by 2002.
 
 
                                      42
<PAGE>
 
   
 EVOLUTION OF THE INTERNET SERVICES MARKET     
   
  Today, the Internet services market consists primarily of Internet access.
Access services include dial-up access for individuals and small businesses
and high-speed dedicated access primarily for larger organizations. Forrester
projects that revenues from Internet access services in the United States will
grow from $5.8 billion in 1997 to $38.1 billion in 2002. The rapid development
and growth of the Internet has resulted in a highly fragmented industry,
consisting of more than 5,000 ISPs in the United States, most of which operate
as small, local businesses. The Internet services industry is expected to
undergo substantial consolidation, especially among mid-sized ISPs, over the
next few years. ISPs vary widely in geographic coverage, customer focus and
the nature and quality of services provided to subscribers. Relatively few
ISPs offer nationwide coverage, have a brand name with nationwide recognition
or have the ability to grow significantly without additional investment in
infrastructure. ISPs may concentrate on specific types of customers that
differ from the target markets of other ISPs. Services offered by ISPs can
range from simple dial-up access to highly organized, personalized access
coupled with value-added services. The Company believes that consumers are
generally focused on speed and reliability of access, ease of use, customer
service and price as they evaluate an ISP. In addition to speed and
reliability of access, the Company believes many business customers want all
their Internet-based requirements, such as access, Web hosting and electronic
commerce applications, met by a single provider.     
 
  Internet operations, including Web hosting and electronic commerce, are
increasingly becoming mission-critical to an enterprise's commercial and
communications operations. However, many businesses lack the resources and
expertise to develop, maintain and enhance, on a cost-effective basis, the
facilities and network systems necessary for successful Internet operations.
As a result, businesses increasingly seek outsourcing arrangements to enhance
Web site reliability and performance, provide continuous operation of their
Internet solutions and reduce related operating expenses. By outsourcing these
services, companies can focus on their core competencies rather than utilizing
their resources to support Internet operations. Forrester projects that
Internet hosting revenues will increase from approximately $400 million in
1997 to $10.5 billion in 2002.
   
  As a result, there is increasing demand for ISPs to offer "turnkey"
electronic commerce services. An increasing number of ISPs are beginning to
supplement their basic Internet access services with a variety of commercial
services that facilitate electronic commerce, such as Web hosting, bill
presentment, co-location and other value-added services. Such services expand
an ISP's potential revenue streams from basic monthly access fees to other
fees such as set-up and maintenance charges. In addition to services that
enable electronic commerce, some larger and more sophisticated ISPs are
beginning to market other value-added services, such as paging, long-distance
and cellular telephone services, to both consumers and business customers
nationwide.     
 
THE PRODIGY SOLUTION
 
  The Company currently provides fast and reliable Internet access and certain
value-added services. The Company intends to meet the rapidly changing needs
of its customers by offering new products and additional value-added services
as demand arises. The Company believes the following competitive strengths
will position Prodigy to meet this goal:
 
  Nationwide Brand Name Recognition. Since the introduction of its original
service in 1988, Prodigy has established substantial nationwide brand
recognition that the Company believes offers a significant competitive
advantage in attracting new subscribers to its services. The Company uses a
variety of advertising, promotional and distribution channels to leverage the
equity of its brand name, one of the oldest and best-known in the Internet
industry. The Company launched the Prodigy Internet service in October 1996 as
a productivity tool dedicated to the Internet and designed to make a user's
experience simpler and more rewarding. The Company believes the strength of
the Prodigy brand has enhanced the market positioning of Prodigy Internet and
facilitated the rapid growth in the number of Prodigy Internet subscribers.
 
  Nationwide Customer Acquisition Channels. The Company has in place a variety
of nationwide customer acquisition channels, including: bundling with PCs
shipped by leading PC manufacturers; the Microsoft
 
                                      43
<PAGE>
 
relationship described below; Web-based marketing; retail channels; direct
mail and telemarketing; and migration of subscribers from Prodigy Classic to
Prodigy Internet. Many of Prodigy's customer acquisition channels are not
available to regional and local ISPs who lack the required nationwide
presence. The Prodigy Internet software is pre-loaded on the hard drives of
selected PC models shipped by many leading PC manufacturers and is included in
the online services folder of every copy of the Windows 98 and Windows 95 (OSR
2.5 release) operating systems shipped by Microsoft for sale in retail
channels or for loading on new PCs. See "--Customer Acquisition and
Marketing".
 
  Scalable Business Model. Over the past 12 months, Prodigy has created a
business and operating model that it believes can accommodate sustained
subscriber growth on a cost-effective basis without significant capital
expenditures. Prodigy has outsourced the major capital and labor intensive
functions to organizations that can provide scalable and dependable network
coverage, customer service and organized content. Prodigy's outsourcing
arrangements enable it to rely on the resources of other organizations while
drawing on its own past experience to manage these services. As a result, the
principal costs of servicing new subscribers, network usage and telephone
customer service, are variable and generally increase only as the subscriber
base increases. In addition, Prodigy's e-mail and customer authentication
systems have been developed in-house to support a large number of customers,
and Prodigy's existing data hosting facilities have the capacity to support
millions of additional subscribers. See "Business".
   
  Fast and Reliable Service. The Prodigy Internet service offers fast and
reliable Internet connections. Prodigy Internet subscribers have direct
Internet access at speeds of up to 56 kbps (kilobits per second). Inverse
Network Technology Inc. ("Inverse") is an independent Internet testing group
that measures and reports eight parameters of ISP network performance. Since
completion of the network used by the Company in May 1998, Inverse has given
Prodigy Internet ratings of A+ or A for 24-hour call failure rate for each of
the months of May through October 1998, which ratings in each case exceeded or
equalled the comparable overall industry rating given by Inverse based on 13
major providers of Internet access services. The Company believes call failure
rate is the most important network measure in terms of customer satisfaction.
Overall, Prodigy Internet exceeded or equalled the comparable industry rating
given by Inverse in at least six of the eight parameters for each of the
months of May through October 1998. For a fuller discussion of network
performance and the Inverse reports, see "--Network and Related
Infrastructure--Reliability and Availability". In October 1998, J.D. Power and
Associates, an independent market research firm, announced that Prodigy
Internet had been ranked third in overall customer satisfaction based on a
nationwide survey of users of the five largest national ISPs, representing
approximately 52% of the U.S. Internet/online access market.     
   
  Nationwide Network Coverage. The network used to offer the Prodigy Internet
service covers over 600 cities in all 50 states. The network is able to
provide dial-up access, with a local telephone call, to approximately 83% of
the households in the United States. Prodigy also offers network access via an
800 telephone number for $.10 per minute without an additional enrollment
charge. See "--Network and Related Infrastructure".     
 
  Superior Customer Experience. In addition to offering an easy-to-use
interface and extensive personalization, the Company believes Prodigy Internet
offers a productive and rewarding customer experience. The Company's customer
services include toll-free telephone support, various online support options
and an online "members helping members" program. The Company distributes its
customer service calls over multiple outsourcing partners to reduce call
waiting times. The Company has developed proprietary filters to limit
unsolicited commercial e-mail, or "spam", sent by or received by subscribers.
The Company accepts banner advertisements and sponsorships but limits pop-up
advertisements and intercept screens so that the revenue opportunity from
advertising is balanced against an enhanced customer experience. The Company
also offers the Prodigy Value Center, which rewards subscribers for their
loyalty. See "--Products and Services".
 
BUSINESS STRATEGY
 
  Prodigy's objectives are to strengthen its position as a leading nationwide
ISP and to expand the range of services it offers and markets it serves. See
"Risk Factors--Risks of New Services and Markets; Failure to Implement
Business Strategy". Key elements to the Company's business strategy include:
 
 
                                      44
<PAGE>
 
  Leverage Strong Brand Name. The Company intends to increase its brand equity
by promoting the recognition and positive perceptions of the Prodigy brand,
partly through increased marketing and advertising activities. See "Use of
Proceeds". The Company is leveraging the Prodigy brand name to encourage
Prodigy Classic subscribers to migrate to Prodigy Internet, expand its other
customer acquisition activities, offer new services and enter new markets.
   
  Introduce New Services. The Company is seeking to expand its Web hosting
business and introduce additional value-added services. The Company's strategy
is to introduce value-added services for business customers that will also be
attractive to consumers. For example, in September 1998 the Company launched
co-branded paging services in partnership with SkyTel Communications, Inc.
("SkyTel"). The Company is also pursuing a variety of other value-added
services, such as the co-branded marketing of long-distance and cellular
telephone services, Internet-based telephony and fax services and online bill
presentment. In November 1998, the Company entered into an agreement with JFAX
Communications, Inc. ("JFAX") to provide Prodigy subscribers with integrated
fax, voice mail and e-mail messaging solutions. The Company is enhancing its
data mining capabilities to enable targeted sales and marketing of value-added
services to existing subscribers. In addition, the Company plans to expand its
electronic commerce activities and introduce broadband services. Prodigy
already provides the fundamental elements of electronic commerce, and
Prodigy's strategy is to provide turnkey solutions for electronic commerce.
Prodigy's broadband strategy is designed to provide business customers with a
suite of Internet access and value-added services. See "--Products and
Services".     
   
  Enter New Markets. The Company intends to leverage its brand recognition to
expand beyond its existing consumer market to include small and medium sized
businesses. The first services offered in this area will be targeted to small-
office/home-office ("SOHO") customers and will include dial-up Internet
access, Web hosting, communications provisioning and related services. See
"Business--Business Services". In November 1998, Prodigy and Telmex executed a
non-binding Term Sheet which contemplates that Prodigy will acquire Telmex's
IDP subscribers. See "Business--Products and Services--Spanish-Speaking and
Hispanic Market". Telmex, which made a significant equity investment in the
Company in August 1998, is the leading provider of local and long-distance
telephone services in Mexico and the largest ISP in Mexico. See "Principal
Stockholders". The Company is also seeking a partner with whom to offer a
Spanish language portal to the Internet, which the Company believes will be
attractive to Spanish- speaking and Hispanic Internet users. See "--Products
and Services--Spanish-Speaking and Hispanic Market".     
   
  Evaluate Acquisition Opportunities. The Company evaluates acquisition
opportunities on an ongoing basis and at any given time may be, and at the
present time is, engaged in discussions with respect to possible acquisitions
or other business combinations. The Company may seek strategic acquisitions
that can complement the Company's current or planned business activities,
particularly the expansion of value-added services such as Web hosting. The
Internet services industry is expected to undergo substantial consolidation
over the next few years, and the Company may also seek to acquire other ISPs
as an additional means of customer acquisition or entry into new markets.     
 
PRODUCTS AND SERVICES
 
 Prodigy Internet
 
  Prodigy Internet is an open standards-based Internet access service. The
Prodigy Internet service combines the depth and breadth of the Internet with
the ease of use and organization of a traditional online service. Prodigy
Internet users receive fast and reliable access to the Internet, Prodigy-
branded content powered by Excite and other Prodigy member services. See "--
Principal Outsourcing Arrangements--Excite".
   
  As of September 30, 1998, there were 433,000 billable subscribers to the
Prodigy Internet service. The Company includes as Prodigy Internet subscribers
all subscribers who are enrolled in a Prodigy Internet/Prodigy     
 
                                      45
<PAGE>
 
   
Classic combination plan (118,000 at September 30, 1998). See "Risk Factors--
Migration from Prodigy Classic Service".     
 
  The Prodigy Internet service provides subscribers with direct, high-speed
Internet access, an electronic mailbox enabling subscribers to send and
receive an unlimited number of text, graphics and multimedia messages, and
disk space on Prodigy's servers to host a personal Web page. Prodigy Internet
also offers: (i) Prodigy-branded Web content, as selected, organized and
edited by Excite into a series of 13 "channels" covering topics such as Autos,
Business & Investing, Travel and Shopping; (ii) a personalized home page for
each subscriber which includes personalized news services, stock portfolios,
weather, local TV listings and sports scores; (iii) customer service and
online member support, including help files, tutorials and other online
educational tools; (iv) content generated by community members using
communication tools such as chat, message newsgroups and Web pages; and (v)
access to online transactions on the Web.
 
  The Prodigy Internet service is compatible with Internet standards and
protocols. Standardization of both Prodigy Internet's content and network
permits use of industry-standard client/server software. Unlike some online
services that use proprietary protocols, Prodigy Internet merges seamlessly
with Web content and can be regularly updated to incorporate advances in
Internet technologies, such as new browsers, RealAudio and security devices
for electronic commerce. Prodigy Internet is compatible with Microsoft
Internet Explorer and Netscape Navigator on the Windows 98, Windows 95 and
Windows 3.1 operating systems and on Macintosh computers. Microsoft Internet
Explorer is the primary browser shipped on disks that contain the Prodigy
Internet software.
 
  The price plans for the Prodigy Internet service vary among acquisition
channels and target market segments and are subject to change. Prodigy
Internet's principal price plans currently are (i) $19.95 per month for
unlimited usage with a 30-day money back guarantee, (ii) a discounted prepaid
annual plan of $189 for one year of unlimited usage (equivalent to $15.75 per
month), (iii) $9.95 per month for three months of unlimited usage, then $19.95
per month thereafter, and (iv) a free trial (for 30 to 60 days) with unlimited
usage and $19.95 per month thereafter. In many distribution channels, Prodigy
is replacing free trial programs with money-back guarantees in order to
attract enrollees who are less likely to terminate service.
 
 Prodigy Classic
   
  The Prodigy Classic service, launched in 1988 as the world's first consumer-
focused online service, is based on a proprietary architecture and
technologies. Prodigy Classic offers most basic Internet capabilities,
including e-mail exchange, newsgroup support and Web browsing, as well as
proprietary content developed by or with third-party content providers such as
Dow Jones and Associated Press. Prodigy Classic's implementations of these
Internet functions predate current Internet standards and are not readily
upgradable. Prodigy Classic is no longer marketed actively, although new
enrollments continue to occur as a result of residual marketing efforts. The
Company encourages migration with targeted pricing offers, special hardware
upgrade promotions and the introduction of features and functions that have
contributed to the retention of Prodigy Classic subscribers. The Company
anticipates that revenues from Prodigy Classic will continue to decline over
the next 12 months as the Company continues to focus on Internet-based
products and services. See "--Customer Acquisition and Marketing--Migration
from Prodigy Classic". As of September 30, 1998, there were 208,000 billable
subscribers to the Prodigy Classic service.     
 
  Prodigy Classic's principal price plans currently are $19.95 per month for
unlimited usage or $9.95 per month for five hours of usage with additional
time billed at $2.95 per hour. In order to encourage existing Prodigy Classic
subscribers to trial and convert to the Prodigy Internet service, Prodigy also
offers a plan that provides unlimited usage of both Prodigy Classic and
Prodigy Internet for a monthly fee of $19.95 or under a discounted prepaid
annual plan of $189 for one year of unlimited usage.
 
 Consumer Value-Added Services
 
  The Prodigy Shopping Mall currently provides links to over 270 Web-based
stores and retailers, including Amazon.com, JCPenney, PC Flowers and Gifts,
Godiva Chocolate, CD Now, FAO Schwartz and Omaha Steaks.
 
                                      46
<PAGE>
 
   
In September 1998, the Company launched co-branded paging services in
partnership with SkyTel. Over the next six to nine months, the Company plans
to roll out additional consumer value-added services, such as the co-branded
marketing of long-distance and cellular telephone services, Internet-based
faxing, online billing services, the online procurement of additional goods
and services and premium services such as multiple mailboxes. In November
1998, the Company entered into an agreement with JFAX to provide Prodigy
subscribers with integrated fax, voice mail and e-mail messaging solutions. To
enable targeted sales and marketing of value-added services to existing
subscribers, the Company is enhancing its data mining capabilities. There can
be no assurance Prodigy will be successful in offering additional consumer
value-added services. See "Risk Factors--Risks of New Services and Markets;
Failure to Implement Business Strategy".     
 
 Business Services
   
  Prodigy has formed a business services division, called Prodigy Business
Solutions, to develop and market Internet-based services to commercial and
business entities. These services are planned to include Internet access,
basic and enhanced hosting services and broadband services. The Company also
plans to extend its Web hosting activities to include hosting of intranets and
extranets for businesses and electronic commerce sites. Prodigy initially
plans to target its business services to the SOHO market in specific regions
of the United States. Although Prodigy does not currently provide any business
services, other than Web hosting to a limited number of customers, the Company
has recently entered into several agreements to enable Prodigy to begin to
offer additional business services. In November 1998, the Company entered into
an agreement permitting the Company to resell co-branded intranet services
provided by Hotoffice. In addition, the Company has appointed various Web site
design and development companies as authorized resellers of Prodigy's Web
hosting services. There can be no assurance Prodigy will be successful in
offering business services. See "Risk Factors--Risks of New Services and
Markets; Failure to Implement Business Strategy".     
   
  Prodigy was a pioneer in electronic commerce through its establishment of
standards and creation of applications that facilitated online shopping and
transacting, such as online banking and securities trading. Prodigy currently
has the capability to provide the fundamental elements of electronic
commerce--Web hosting, hosting of intranets/extranets and high-speed dial
access. Prodigy's strategy is to provide turnkey solutions for electronic
commerce. Electronic commerce applications that Prodigy plans to roll out
during 1999 include electronic "shopping carts", order processing and
tracking, online bill presentation and payment processing, co-location hosting
and, in conjunction with partners, consulting and integration services for
complex and large electronic commerce sites.     
   
  Prodigy's broadband strategy is designed to provide business customers with
a suite of Internet access and value-added services in conjunction with
selected technology and marketing partners. In the first quarter of 1999, the
Company plans to introduce fractional T1, T1, DS-3 frame relay and ATM
(Asynchronous Transfer Mode) services. Commencing in 1999, Prodigy also plans
to market VPN (Virtual Private Networks) capability and Internet-based voice
and fax services for businesses. Splitrock does not currently support the
broadband applications the Company plans to offer. The Company is in
discussions with Splitrock and others to support various broadband
applications, but there can be no assurance the Company will reach agreement
with Splitrock or any other party regarding additional broadband services. See
"--Network and Related Infrastructure".     
 
 Spanish-Speaking and Hispanic Market
   
  Prodigy plans to market Internet services to Spanish-speaking and Hispanic
customers in the United States. According to United States census data, there
are approximately 17 million persons in the United States age 5 or older who
speak Spanish at home, and a total of approximately 28 million U.S. residents
are identified as Hispanic. Prodigy believes this market is not currently
being targeted by any other nationwide ISP. In addition, the Company is
seeking a partner with whom to offer a Spanish language portal to the
Internet. Although the Company has not yet identified or reached agreement
with a partner, the Company believes that a Spanish language portal, once
offered, will be attractive to Spanish-speaking and Hispanic Internet users.
    
       
                                      47
<PAGE>
 
          
  Telmex is the largest ISP in Mexico and currently has approximately 105,000
billable IDP subscribers. IDP subscribers currently generate average monthly
revenue of approximately $20 per subscriber (based on the current peso/dollar
exchange rate). In November 1998, Prodigy and Telmex agreed in principle that
(i) Prodigy will acquire Telmex's IDP subscribers, (ii) Prodigy and Telmex
will develop a migration plan for the integration of the Prodigy Internet and
IDP services, (iii) Prodigy will contract with Telmex to carry the integrated
IDP/Prodigy Internet service on Telmex's existing network in Mexico and to
provide certain other functions associated with the service, (iv) Prodigy will
contract with selected third parties to provide certain functions associated
with the service, (v) Telmex will ensure, through Prodigy's pricing
arrangements with Telmex and third-party providers, that Prodigy will receive
an operating profit margin of 15% on the first 200,000 IDP subscribers and 10%
thereafter, (vi) Prodigy will issue approximately 26,500,000 shares of Common
Stock to Telmex (based on present assumptions) and (vii) Telmex will guarantee
that a minimum of 300,000 additional billable IDP subscribers will be obtained
over a three-year period.     
   
  Consummation of Prodigy's proposed acquisition of Telmex's IDP subscribers
will be subject to a number of significant conditions, including (i)
negotiation and execution of definitive documentation, (ii) receipt of all
necessary governmental approvals, including expiration of the waiting period
under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended
(the "HSR Act"), (iii) approval by Prodigy's Board of Directors and, if
required, stockholders and (iv) receipt by Prodigy's Board of Directors of a
written opinion, from an investment banking firm of its selection, to the
effect that the terms of the proposed transaction are fair, from a financial
point of view, to Prodigy. Prodigy currently anticipates that this transaction
will be consummated in the first half of 1999. However, there can be no
assurance that this transaction will be consummated on the terms summarized
above, if at all. If this transaction is consummated, the financial and
operating implications, including the associated accounting treatment, for
Prodigy cannot be predicted at this time. The Offering is not conditioned on
completion of Prodigy's proposed acquisition of Telmex's IDP subscribers, and
completion of Prodigy's proposed acquisition of Telmex's IDP subscribers is
not conditioned on the Offering.     
          
  Telmex is the leading provider of local and long-distance telephone services
in Mexico and is the principal full-service telecommunications provider in
Mexico. Telmex owns the nationwide network of local telephone lines and the
principal public long-distance telephone transmission facilities in Mexico,
and has built a nationwide data transmission network. Based on total assets at
December 31, 1997, Telmex was the second-largest company in Mexico and the
largest company listed on the Mexican Stock Exchange. Telmex was the state-
owned monopoly telephone company in Mexico until 1990, when it was privatized
and sold to an investor group led by Grupo Carso, S.A. de C.V. (which
subsequently spun-off its interest to Carso Global Telecom), Southwestern Bell
Corporation (currently known as SBC Communications Inc.) and France Telecom,
the French state-owned telecommunications company. Telmex is currently
controlled by Carso Global Telecom, the Company's principal stockholder. Upon
completion of the Offering and assuming an initial public offering price of
$   per share, Carso Global Telecom and Telmex will collectively own  % of the
Company's outstanding Common Stock ( % if the Company issues 26,500,000 shares
of Common Stock to Telmex upon consummation of the Company's proposed
acquisition of Telmex's IDP subscribers). See "Principal Stockholders".     
 
CUSTOMER ACQUISITION AND MARKETING
 
  Prodigy utilizes a variety of customer acquisition channels and focuses on
the lowest-cost and most efficient channels, such as PC bundling. The Company
believes that the strong brand recognition of the Prodigy name among consumers
and the nationwide reach of the network utilized by the Company provide the
Company with access to customer acquisition channels not available to local
and regional ISPs.
 
  The Prodigy Internet service is marketed through a variety of media
vehicles, including television and radio advertising. See "Use of Proceeds".
Prodigy Internet's target audiences are: (i) purchasers of new desktop
consumer PCs, (ii) existing subscribers to online services who may be
interested in moving to an ISP and (iii) existing ISP subscribers who are
dissatisfied with their current service or attracted to the performance and
features of Prodigy Internet. The Company believes that the first target
segment listed gives Prodigy effective access to both first-time Internet
users, who may be attracted by Prodigy Internet's ease-of-use, customer
service
 
                                      48
<PAGE>
 
and online assistance, and existing Internet access subscribers who, in
conjunction with the purchase of a new PC, may be willing to switch to Prodigy
Internet. The Company believes that consumers in the second and third target
segments listed above are less likely to switch back from Prodigy Internet to
another ISP, are less price sensitive and are more receptive to value-added
services.
 
  Prodigy's marketing efforts position the Prodigy Internet service as a
productivity tool to help users obtain and communicate desired information
quickly and efficiently. Marketing themes emphasize that the Prodigy Internet
service is superior in terms of connectivity (availability and reliability),
speed (up to 56 kbps), technology (digital switched ATM in most major markets)
and navigation and personalization (via the co-branded Prodigy/Excite content
services). See "--Products and Services" and "--Network and Related
Infrastructure".
   
  PC Bundling. The Prodigy Internet service is bundled with PCs under
arrangements where the Company pays a negotiated fee to the PC manufacturer
only if a subscriber enrolls from the PC distributed by the manufacturer. PC
bundling is an attractive acquisition channel because the supplier bears the
distribution cost and it reaches many more potential subscribers than could be
reached through most other acquisition channels. The Prodigy Internet software
is pre-loaded on the hard drives of selected PC models shipped by Packard
Bell/NEC, Hewlett-Packard, IBM, Gateway 2000, Toshiba, Sony, Acer, Fountain
Technology and Proteva. See "Risk Factors--Dependence on PC Bundling and
Microsoft Relationship".     
 
  Microsoft Relationship. Microsoft includes the Prodigy Internet service in
the online services folder of every copy of the Windows 98 and Windows 95 (OSR
2.5 release) operating systems shipped by Microsoft for sale in retail
channels or for loading on new PCs. Prodigy Internet, Microsoft Network,
America Online, CompuServe and AT&T WorldNet are the only services in the
online services folders of Windows 98 and Windows 95 (OSR 2.5 release). The
Prodigy Internet service is also included in Microsoft's ISP Internet Referral
Service Program. The Company believes that these arrangements enhance
Prodigy's nationwide brand presence. See "Risk Factors--Dependence on PC
Bundling and Microsoft Relationship".
 
  Web-Based. Prodigy maintains a Web site (www.prodigy.com) that provides
Internet users with the opportunity to learn about and enroll in the Prodigy
Internet service. Prodigy also has performance-based arrangements with several
leading Internet advertising companies, including Cyber Gold, DoubleClick
Direct, Net Creations and News America Digital Corporation. In addition, as
part of its Excite arrangements, approximately nine million Prodigy banner ad
impressions appear each month throughout Excite's Web site to promote Prodigy
Internet to non-subscribers. The Company believes these banner advertising and
other programs help target the "switcher" audience.
   
  Retail. Prodigy has relationships with major retailers in the computer,
software and consumer electronics areas, including Best Buy, Blockbuster
Video, Circuit City, CompUSA, Electronics Boutique, Micro Center, Office Depot
and Staples. The Prodigy Internet software is expected to be available at
approximately 7,000 retail outlets nationwide by the end of 1998. These
relationships typically entitle Prodigy to establish displays containing
software, along with incentive applications such as free games and shareware,
in prime locations next to cash registers. Prodigy supports these
relationships through the use of bounty programs, cooperative advertising and
joint promotional events. Prodigy also maintains a Prodigy Pro Program that
provides information, incentives and access to the Prodigy Internet service to
over 4,000 retail sales people in partner stores. Prodigy is currently
exploring expanded distribution through additional retailers, including music
stores, video rental chains and book stores. Lycos provides the search engine
and portal for subscribers to Prodigy Internet who enroll through Blockbuster
Video as the result of a pre-existing agreement between Blockbuster Video and
Lycos.     
 
  Direct. Prodigy pursues highly targeted and prequalified audiences in its
direct mailing and telemarketing efforts. Prodigy's direct mail is targeted to
highly-qualified prospects, such as known Internet users and new PC
purchasers. Prodigy's inbound telemarketing program fulfills customer orders,
24 hours a day, 7 days a week, 365 days a year, via a toll-free telephone
number (1-800-PRODIGY) which is widely promoted. Prodigy's
 
                                      49
<PAGE>
 
outbound telemarketing programs focus on the reacquisition of recently
disconnected members. Prodigy's telemarketing services, inbound and outbound,
are outsourced. Prodigy maintains an online, member-assisted referral program
in which existing subscribers receive account credits for signing up new
members.
   
  Migration from Prodigy Classic. Prodigy acquires additional subscribers to
the Prodigy Internet service who migrate from Prodigy Classic. Prodigy
encourages migration with targeted pricing offers, special hardware upgrade
promotions and the introduction of features and functions that have
contributed to the retention of Prodigy Classic subscribers, while emphasizing
that the Prodigy Internet service provides direct and reliable Internet
access. Because a substantial portion of the remaining Prodigy Classic
subscribers lack the minimum hardware requirements for the Prodigy Internet
service, in the fourth quarter of 1997 Prodigy initiated special hardware
discounts in conjunction with PC and modem suppliers to encourage migration to
the Prodigy Internet service. As of September 30, 1998, 145,000 of the Prodigy
Internet billable subscribers had migrated from Prodigy Classic (most of whom
are enrolled in a Prodigy Internet/Prodigy Classic combination plan), and
there were 208,000 remaining billable subscribers to Prodigy Classic. See
"Risk Factors--Migration from Prodigy Classic Service".     
 
  Retention Programs. Prodigy also develops programs to encourage conversion
from trial to paying status and improve customer retention. Typical conversion
promotions are designed to induce usage because usage is a primary determinant
of conversion. For example, in February 1998, Prodigy launched an e-mail
promotion that featured prizes such as Palm Pilots and software titles. The
promotion was entered by approximately 10,000 trialers whose average usage
doubled during their trial period. In June 1998, Prodigy introduced the
Personal Value Center, a member loyalty program designed to increase knowledge
and usage of the Web for transactions and other services. Through the Personal
Value Center, Prodigy members can earn "points" based on usage and redeem such
points for gift certificates at selected retail stores. Prodigy plans to
extend the Personal Value Center to travel services and other merchandise. The
Company also uses incentives to retain subscribers who might otherwise
terminate service.
 
CUSTOMER SERVICE
 
  Prodigy's customer service programs are designed to contribute to member
satisfaction and retention, while controlling costs, by combining selective
outsourcing with in-house services. Prodigy believes that its customer service
programs, coupled with new release management which is both member-sensitive
and market responsive, have positioned Prodigy to provide customer support
services that are efficient and scalable for future growth.
   
  Telephone Support. Prodigy outsources its first contact, toll-free telephone
support to various vendors that provide support 365 days per year, 20 hours
per day (support is not available from 3:00 a.m. to 7:00 a.m., Eastern time).
Customers are assisted with Prodigy software installation, enrollment
questions, account management concerns, service access problems and disconnect
requests. By using multiple vendors, Prodigy is able to direct customer
traffic flow volumes on short notice, which Prodigy believes creates a
competitive environment and results in enhanced quality, performance and
pricing. Geographic distribution of call centers allows for uninterrupted
service to Prodigy's member base in the event of regional disasters. The
Company currently outsources its telephone support services to Ron Weber and
Associates, EnvisioNet, Softbank Services Group, SPS Payment Systems and
Stream.     
 
  In-House Customer Support and Systems. Prodigy maintains an online member
services content area that provides a variety of support options to all
members, including real-time chat, instant messaging, newsgroups, message
boards, e-mail, and fax back. Prodigy has integrated comprehensive help,
tutorials, advisories, frequently asked questions and tips online. Prodigy
also has an online "members helping members" program, in which selected
subscribers receive nominal monthly compensation in exchange for providing
personalized responses to members posting inquiries on newsgroups and message
boards. Prodigy's customer service organization monitors customer service
vendor performance with quantitative metrics (including average wait time,
first call resolution rate and abandon rate) and qualitative controls
(including call monitoring). Prodigy also has technically-trained customer
service representatives to call subscribers with unresolved problems.
 
                                      50
<PAGE>
 
  Prodigy maintains detailed customer records and documents each customer
request in a problem tracking system. This system allows recurring problems to
be identified and communicated to the appropriate internal Prodigy function
for resolution. Prodigy maintains a Web-based database that is accessible by
all vendor and employee customer service representatives on a real-time basis
to help ensure delivery of customer service in a consistent manner regardless
of where the contact is handled.
 
  Billing. Prodigy's customer billing system and services are outsourced to
CSG Systems, Inc. ("CSG"). CSG's billing system is highly customized and
flexible and supports prompt pricing changes. CSG provides credit card and
paper billing, transaction processing and check handling. A substantial
majority of Prodigy's current subscribers are billed through pre-authorized
credit card charges, while the remainder are issued invoices. See "--Principal
Outsourcing Arrangements--CSG".
 
TECHNOLOGY
 
  Prodigy has been a technology pioneer in the online industry since its
formation in 1984 and introduced many concepts that would later be adopted for
the Web. Continuing this pioneering heritage in the Internet industry, the
Prodigy Internet service utilizes a standards-based, proprietary service
provider platform and mail server developed by the Company.
 
  Service Provider Platform. The service provider platform is a suite of
functions which creates the infrastructure of a large-scale ISP. Capabilities
include customer profile management, access control, authentication, billing
and customer care interfaces and other functions necessary to offer large-
scale Internet services. The service provider platform is highly scalable (up
to millions of subscribers) and is compatible with industry standard products,
such as Netscape Web servers, Oracle databases, Net.Commerce (IBM's electronic
commerce solution) and Lotus Domino (an interface between Lotus Notes and the
Web). The service provider platform also interfaces effectively with Prodigy's
mail server, and is built to open standards to enable the utilization of
applications from other suppliers.
 
  Mail Server. The Prodigy Internet service uses a scalable, reliable Internet
mail server. The mail server draws on the fault-tolerance and scalability
provided by the underlying Oracle database to offer flexibility, ease of
operation and scalability. Prodigy's mail server supports standard Internet
protocols, such as SMTP (Simple Mail Transfer Protocol), POP3 (Post Office
Protocol) and MIME (Multi-Purpose Internet Mail Extensions). The mail system
also provides:
 
    Tools for Administrators. Welcome messages, bulk mailers, quota controls
  (by realm, domain, household, small business or individual account), tools
  to manage spam and operational scripts and tools.
 
    Tools for Users. User configured filters for prioritization and spam
  removal, and tools to enable the head of household or small business to
  administer a group of accounts. Messages can contain any number of MIME
  attachments (up to a size limitation of 10 megabytes per mailbox) and are
  delivered without any promotional tag lines.
     
    Features for Business Customers. Support for multiple domains which
  enable Prodigy Internet to operate multiple Internet services under
  different brands on the same system base, and which enable an off-site
  administrator to control enterprise mailboxes.     
 
    Configuration and Provisioning Interfaces. The system supports a standard
  administrative interface that provides configuration and control of the
  mail system from external systems or via an HTML (Hypertext Markup
  Language) screen. Standard APIs (Application Programming Interfaces)
  interface the system to external databases for user authentication and
  mailbox provisioning.
 
    Scaling Ability. The system is designed to scale to millions of mailboxes
  with an architecture that supports hardware and data redundancy.
 
                                      51
<PAGE>
 
NETWORK AND RELATED INFRASTRUCTURE
 
  Subscribers access Prodigy's services by connecting to a network with their
PCs using local, toll-free or long distance telephone service. The network
connects subscribers' PCs to the Internet as well as to Prodigy's hosting
servers, which store some of the data accessed during subscriber sessions.
Network connections are made through communications hardware, such as
telephone lines, routers, switches and modems, which serve to direct data and
enable communication among a variety of computer operating systems. The
network used for the Prodigy Internet service is built to Internet standards,
including TCP/IP (Transmission Control Protocol/Internet Protocol)
transmission and PPP (Point-to-Point Protocol) access. The Prodigy Classic
service operates on certain proprietary standards which are used only for
Prodigy Classic. The Company outsources its network functions to Splitrock.
See "--Principal Outsourcing Arrangements--Splitrock".
   
 Network Architecture     
 
  The network infrastructure utilized by Prodigy Internet consists of three
primary tiers: local points of presence ("POPs"); a middle tier, which
connects the POPs to regional hubs; and a backbone tier, which connects the
regional hubs to the Internet or Prodigy's data hosting center. The network
currently includes approximately 650 POPs nationwide and has the capability to
provide dial-up access, with a local telephone call, to approximately 83% of
the households in the United States. Prodigy also offers access to the
Splitrock network via an 800 telephone number for $.10 per minute without an
additional enrollment charge.
 
  Over 550 POPs currently provide 56 kbps access to Prodigy Internet
subscribers having modems of that speed. Approximately 25% of all Prodigy
Internet usage is currently at 56 kbps. The backbone implemented by Splitrock
utilizes the WorldCom network. Twenty-one fully-meshed core nodes in major
cities are connected via high-speed links using digital ATM technology in all
major metropolitan markets. To optimize data transmission and facilitate the
addition of POPs as necessary, Splitrock employs an "ATM-to-the-edge"
architecture, placing ATM switches in all physical sites rather than only at
major transmission nodes on the backbone. Eight connections from the backbone
to the Internet provide data transmission to and from servers on the Internet,
and Splitrock is building additional connections to other major networks with
which it has peering arrangements.
   
 Data Hosting Center     
   
  Prodigy's data hosting center, located in Yorktown Heights, New York, houses
approximately 400 high-capacity servers to store content and other data. The
data center contains a mainframe complex which supports business support
systems such as subscriber session accounting and reporting, customer service
support systems and business accounting. Prodigy's data center hosts a variety
of applications that are scalable to millions of users. The use of standard
interfaces allows integration of products offered by a broad spectrum of
vendors, including IBM, Microsoft and Netscape. Supported operating system
platforms include UNIX/AIX, NT, OS/390 and TPF, and installed database
products include Oracle and DB2.     
 
  Prodigy's data hosting center is equipped with triple redundant power
systems and is housed in a climate and humidity controlled environment. Both
battery and diesel power backup systems are installed to preclude outages that
might otherwise result from interruption of utility power to the building. All
production host systems have backup processors and peripherals, and all
critical data is backed up to tape daily. Facilities and data are physically
secured by incrementally restrictive card key locks, and logical data security
is provided by built-in operating system security features. Firewall
technology is implemented to protect critical systems, and servers that are
open directly to the Internet are installed on a network separate from those
that are not. In addition, anti-hacking measures are in place.
   
 Reliability and Availability     
 
  Reliability and availability are key objectives of Prodigy's network and
hosting configurations. Splitrock has designed and is rolling out its network
to meet specified service level objectives, including the P.01 grade of
service (no more than one busy signal in 100 dial-up attempts during the
busiest hour of the day on the busiest
 
                                      52
<PAGE>
 
day of the week), and specified objectives for site and overall system
availability and backbone transit delay. Splitrock accumulates and analyzes
statistics on each access line, and lines exhibiting quality problems are
removed from service and referred for repair. In addition, Prodigy has
integrated Inverse's Access Ramp product into the Prodigy Internet software to
gather data on the actual connection experiences of subscribers who have
agreed to have their connection experiences measured. Prodigy reports problem
sites to Splitrock for action.
 
  At Prodigy's data hosting center, Prodigy operates a 24x7 operations control
center and Splitrock operates a 24x7 network operations center. Circular
hunting is employed on local access telephone lines to ensure that a problem
with a single line does not disable the entire access site. Where feasible,
the access lines are distributed among multiple modem subsystems and access
servers to provide diversity. The hosting center is connected to the backbone
via redundant DS3 lines. Splitrock's fully-meshed core node architecture
provides multiple transmission routes across the backbone for optimal speed
and reliability.
   
  Inverse measures and reports eight parameters of ISP network performance
(24-hour call failure rate, evening-hour call failure rate, business-hour call
failure rate, initial modem connect speed, average time to login, average DNS
(Domain Name System) lookup time, average Web throughput and average total Web
failures/timeouts). Since completion of Splitrock's network in May 1998,
Inverse has given Prodigy Internet ratings of A+ or A for 24-hour call failure
rate for each of the months of May through October 1998, which ratings in each
case exceeded or equalled the comparable overall industry rating given by
Inverse based on 13 major providers of Internet access services. The Company
believes call failure rate is the most important network measure in terms of
customer satisfaction. Overall, Prodigy Internet exceeded or equalled the
comparable industry rating given by Inverse in at least six of the eight
parameters for each of the months of May through October 1998. Investors
should not place undue reliance on Inverse's reports as a measure of network
performance because such reports do not measure and report on all factors that
may affect the quality of the Company's services. For example, Inverse's
reports are based on tests conducted on selected days at a random sampling of
only 42 of Splitrock's POPs, and Inverse's reports cited above cover only a
four month period. There can be no assurance Splitrock's network will be able
to sustain the level of performance indicated by Inverse's reports. See "Risk
Factors--Network Risks".     
 
PRINCIPAL OUTSOURCING ARRANGEMENTS
   
  The Company follows a "best of breed" outsourcing philosophy in which it
selects from among competing suppliers in order to enhance service quality,
control costs and enable the Company to focus on its core strengths.     
   
 Splitrock     
 
  Prodigy owned and operated its own network in the United States until July
1, 1997. Effective July 1, 1997, Prodigy conveyed its network assets to
Splitrock in exchange for Splitrock's agreement to build and operate the
Splitrock network described above, hire all Prodigy employees engaged in
Prodigy's network operations and assume certain POPs leases and other
liabilities. The Company believes its Splitrock network arrangements present a
number of significant advantages to Prodigy. In addition to shifting to
Splitrock the capital costs of network expansion and enhancement as well as
network operating and personnel expenses, the Company believes these
arrangements have reduced Prodigy's network costs and made such costs more
predictable. Prodigy also believes the variety and sophistication of data
services available to it will increase due to anticipated network enhancements
and upgrades. See "Risk Factors--Network Risks". The Splitrock network
arrangements cover only the United States, and Prodigy would need to make
other network arrangements in order to offer services in foreign countries.
   
  Splitrock is required to provide dial-up network access in all locations in
which Prodigy provided dial-up service as of June 30, 1997. Prodigy may
require additional sites to be added if certain coverage and usage parameters
are met. Splitrock may also provide access to the network to other customers.
Splitrock is requited to provide a backbone network based on ATM technology
and is required to support transmission via SLIP (Serial Line Internet
Protocol), PPP and TCP/IP. Splitrock is also required to support the
proprietary standard utilized by Prodigy Classic through December 31, 1999.
See "Risk Factors--Migration from Prodigy Classic Service".     
 
                                      53
<PAGE>
 
  Splitrock is required to meet specified service level objectives, including
the P.01 grade of service and specified objectives for site and overall system
availability and backbone transit delay. Splitrock's failure to meet the
specified service level objectives will result in financial penalties. If
Splitrock fails to meet specified service level objectives for an extended
period of time, Prodigy may terminate the agreement. In addition, if there is
a system-wide failure, or Splitrock breaches specified financial covenants,
Prodigy will have the right to terminate the agreement or assume
responsibility for operating the network at Splitrock's expense.
   
  Splitrock charges Prodigy a monthly fee per subscriber for usage by
Prodigy's subscribers. If the average hourly usage by Prodigy's subscribers in
any month exceeds a specified threshold, Prodigy must pay Splitrock an
additional amount per hour in excess of such threshold for such month. The
agreement includes minimum monthly charges and is terminable by Prodigy upon
payment of a specified early termination charge. During the year ended
December 31, 1997 and the nine months ended September 30, 1998, the Company
incurred network charges to Splitrock of $22.7 million and $48.1 million,
respectively. See "Risk Factors--Control of the Company and Potential
Conflicts of Interest".     
 
  The agreement has an initial term of four years through June 30, 2001 and is
subject to automatic renewal for successive one-year terms unless terminated
by either party upon 12 months' notice. Until termination of the agreement,
Prodigy has agreed that Splitrock will be Prodigy's primary provider of
network services. During this period, Prodigy must give Splitrock advance
notice of, and the opportunity to discuss with Prodigy, any forms of service
access (other than network access) that Prodigy wishes to pursue in the United
States.
   
 Excite     
 
  In January 1998, Prodigy entered into an agreement with Excite, Inc.
("Excite") under which Excite, commencing in April 1998, provides subscribers
to the Prodigy Internet service with Prodigy-branded Excite content using
Excite's "My Channel" technology. This arrangement enables Prodigy to offer
Excite's extensive editorialized content and content personalization and
communication features under the Prodigy brand without incurring the time or
expense to develop similar capabilities internally.
 
  Prodigy's agreement with Excite (i) has an initial term of three years and
automatically renews for successive one-year terms unless Excite elects not to
renew it, (ii) is terminable by Prodigy upon 60 days' notice, (iii) makes
Excite Search the exclusive search engine, Excite NewsTracker the exclusive
personalized Internet news clipping service and Excite Shopping Search the
exclusive Internet shopping search tool on Web pages provided to subscribers
to the Prodigy Internet service, (iv) does not prohibit Prodigy from entering
into similar agreements with other content providers (except as provided in
the preceding clause (iii)) or prohibit Excite from entering into similar
agreements with other ISPs, (v) provides for a sharing of all revenue derived
from the advertising banners on the co-branded Prodigy/Excite Internet
service, and (vi) gives Prodigy free advertising banner impressions throughout
Excite's Web site to promote the Prodigy Internet service.
   
 CSG     
   
  Prodigy outsources its customer billing to CSG. CSG is a leading provider of
customer care and billing solutions for various telecommunications providers,
including many of the largest cable television and direct broadcast satellite
providers. Prodigy and CSG have agreed that CSG is Prodigy's exclusive
provider of billing services for the Prodigy Internet and Prodigy Classic
services but not for premium services or other billing services. CSG charges
Prodigy a monthly fee based on the number of subscribers, subject to a
specified minimum charge, as well as a monthly minimum fee for ongoing
development and support. The agreement between Prodigy and CSG expires June
30, 2001.     
 
COMPETITION
 
  The industry in which the Company competes is intensely competitive and
includes a number of significant participants, including ISPs, proprietary
online service providers and major international telecommunications
 
                                      54
<PAGE>
 
   
companies, as well as Internet-search services and various other
telecommunications companies. There are more than 5,000 ISPs in the United
States, most of which operate small, local businesses. Additional regional
telephone operating companies, long-distance carriers and cable companies may
also elect to compete with Prodigy. Various partnering arrangements have
recently been established between Internet-search service companies and major
telecommunications companies, which could result in increased competition for
Prodigy. Moreover, the Company faces competition from companies that provide
broadband connections to households, including local and long-distance
telephone companies, cable television companies and electric utility
companies. Broadband technologies offer significantly faster Internet access
than conventional modems, and such companies could include Internet access in
their basic service packages, could offer access for a nominal additional
charge or could prevent the Company from delivering Internet access through
the cable or wire connections that such companies own. See "Risk Factors--
Intense Competition".     
   
  Among the larger providers of ISP services are EarthLink Network, Inc.
(which has a strategic relationship with Sprint Corporation), MindSpring
Enterprises, Inc., Microsoft Network, AT&T WorldNet, MCI Internet, IBM
Internet Connection, PSINet Inc., GTE Internetworking (which includes the
former ISP business of BBN Corporation), Netcom On-Line Communications
Services, Inc. (owned by ICG Communications, Inc.) and Concentric Network
Corporation. In December 1998, AT&T announced that it had agreed to acquire
IBM's data networking business, including its ISP business. Microsoft's
ownership of the dominant PC operating system and the Microsoft Internet
Explorer browser may give Microsoft Network certain competitive advantages,
including distribution and marketing synergies. Prodigy also competes with
America Online, which offers the America Online and CompuServe proprietary
online services over closed networks, as well as Internet access. In November
1998, America Online announced that it had agreed to acquire Netscape
Communications Corporation, owner of the Netscape Navigator browser and other
Internet software applications. In November 1998, America Online also
announced that it had entered into strategic development and marketing
agreements with Sun Microsystems, Inc. to develop electronic commerce and
next-generation Internet devices.     
 
  Prodigy believes that the principal competitive factors in the ISP industry
are speed and reliability of access, ease of use, brand name recognition,
network coverage, customer service and price. Prodigy believes that its
services compete effectively on the basis of all of these factors.
 
GOVERNMENT REGULATION
 
  Internet access and online services are not subject to direct regulation in
the United States, but changes in the regulatory environment relating to the
telecommunications and media industry could have an effect on Prodigy's
business. For example, Federal Communications Commission regulatory review and
rulemaking could result in regulation of the Internet and online services
industry which could result in increased telecommunications costs for
participants in the Internet industry, including Prodigy. The Company cannot
predict whether, or to what extent, any such new rulemaking will occur, or
what effect any such rulemaking would have on Prodigy.
   
  The Communications Decency Act of 1996, which was held unconstitutional by
the United States Supreme Court in June 1997, had generally made it illegal,
subject to certain defenses, for persons to knowingly use an interactive
computer service to send or display "indecent" communications to minors. The
federal Children's Online Protection Act, enacted in October 1998, creates
criminal penalties for content on the Internet which may be deemed "harmful to
minors" (as defined in various court decisions). The Company has not changed
any of its plans or policies as a result of the enactment of this statute, and
does not believe its current plans or policies violate this statute. The
Company cannot predict whether additional federal or similar state legislation
will be enacted in the future, whether any such future legislation would be
upheld, how courts would interpret any such future legislation or what effect,
if any, such legislation would have on the Company. There also are laws that
make it illegal to traffic in obscene or child pornographic materials,
including by a computer, and accordingly Prodigy's servers do not host certain
newsgroups which it believes traffic in child pornography. While the Company
does not believe that its activities will violate any of these laws, it cannot
predict how a court would interpret these laws in the Internet context or
whether a court would hold that Prodigy Internet has a duty to monitor
material being transmitted or, if notified that illegal material is being
transmitted, to attempt to stop or restrict such transmissions. See "Risk
Factors--Government Regulation".     
 
                                      55
<PAGE>
 
  In addition, the applicability to Prodigy of existing laws governing issues
such as intellectual property ownership, defamation and personal privacy is
uncertain. Courts have indicated that, under certain circumstances, online
service providers and ISPs could be held responsible for the publication of
defamatory material or for failure to prevent the distribution of material
that infringes copyrights owned by others. The Company does not edit or
otherwise monitor the content accessed by subscribers to Prodigy Internet,
although the Company does filter certain words on Prodigy Classic. Future
interpretations by the courts of online defamation, privacy, copyright
infringement and other legal issues is also uncertain.
 
  In March 1997, Prodigy entered into a Consent Order with the Federal Trade
Commission (which became effective in March 1998) regarding use of the word
"free" and similar words in advertising, disclosure of the financial terms and
conditions of services, practices with respect to electronic funds transfers
and certain related matters. The Consent Order has a duration of twenty years
and imposes various recordkeeping requirements. The Company believes that it
is in compliance with the Consent Order and that its continuing compliance
with the Consent Order will not have a material adverse affect on Prodigy's
business. America Online is subject to a similar Consent Order which governs
its marketing of services under both the American Online and CompuServe
brands.
   
  In September 1998, the Company received a letter from the Office of the
Attorney General of New York notifying the Company that the "advertising and
certain other practices" of Prodigy and other unnamed ISPs were being
investigated by the Attorneys General of New York and 19 other states. The
letter stated that the inquiry was a follow-up to the settlement between
America Online and many states in May 1998 concerning the following issues:
disclosures for free offers, representations concerning pricing, disclosures
concerning premium areas, disclosures for communications charges, advertising
to minors, cancellation procedures, unauthorized charges to credit cards or
bank accounts and changes to the service agreement. The letter requested that
the Company voluntarily supply various documents and other information
relating to the marketing and provision of its services. The Company is
cooperating with the inquiry and believes that its outcome will not have a
material adverse effect on the Company.     
 
PROPRIETARY RIGHTS
 
  The Company owns a variety of trademarks, including "Prodigy(R)", "Prodigy
Internet", "It's a Tool for Living", "Prodigy Classic", the Prodigy logo and
others, many of which are the subject of existing or pending registrations in
the United States and various foreign countries. The Company also owns other
intellectual property rights, including proprietary software used in its
business. See "Technology". The Company protects its proprietary technology
through copyright and trade secrets laws, employee and third-party
confidentiality agreements and other methods. See "Risk Factors--Protection of
Proprietary Technology".
 
  Prodigy and IBM have entered into patent cross-license agreements for their
entire patent portfolios existing as of June 17, 1996 and all additional
patents issued with respect to patent applications filed prior to June 1,
1999. Until June 17, 2001, the Company is required to grant IBM "most favored
nation" status with respect to Prodigy's software that it makes generally
available to the public. See "Corporate History and Certain Transactions--
Acquisition of Prodigy Services Company".
 
EMPLOYEES
   
  At September 30, 1998, the Company had 300 full-time employees, of whom 43
were in sales and marketing, 105 were in technology and product development,
26 were in customer service, 77 were in technical services and 49 were in
management, finance and administration. As necessary, the Company supplements
its regular employees with temporary and contract personnel, which totalled 57
persons at September 30, 1998.     
 
  None of the Company's employees is represented by a labor union. The Company
believes that its employee relations are good.
 
FACILITIES
 
  Prodigy leases 97,000 square feet of office space in White Plains, New York.
The lease expires December 31, 2004 and Prodigy has a right of first offer
upon expiration. The current annual base rent is
 
                                      56
<PAGE>
 
$2,275,000 and Prodigy is required to pay an allocated portion of taxes and
operating expenses. Prodigy has established a letter of credit in the initial
amount of $3,930,000 (declining ratably over the lease term) to secure the
rent payments.
 
  Prodigy also leases 80,000 square feet in Yorktown Heights. The lease
expires February 28, 2001 with two five-year renewal options in Prodigy's
favor. The current annual base rent is $687,000 and Prodigy is required to pay
associated taxes and operating expenses. Prodigy uses approximately 57,500
square feet of its Yorktown Heights facility for its data hosting center and
subleases the balance to Splitrock. See "--Network and Related
Infrastructure--Data Hosting Center".
 
  The Company leases approximately 16,000 square feet of office space in
Medford, Massachusetts under a lease expiring on August 1, 2001. Prodigy
vacated this facility, which formerly housed the headquarters for Prodigy's
international operations, in June 1998 and is seeking to sublease it.
 
  For additional information regarding the Company's leased facilities and its
aggregate rental expenses, see Note 12 to the Company's Consolidated Financial
Statements.
 
  The Company believes that its existing facilities are adequate for its
current needs and that suitable additional space will be available as needed.
 
LEGAL PROCEEDINGS
   
  On November 27, 1996, Malcolm Haynes and Lightwave, Ltd., a Cayman Islands
corporation, filed a lawsuit in the District Court of Clark County, Nevada,
against the Company, IW, Comstar Cellular Network, Inc., Greg C. Carr,
Terrance P. Dillon, Duncan E. Wine and Blaize Kaduru. Mr. Carr is the former
Chairman of the Board of the Company and a former principal stockholder of the
Company, and was a director and principal stockholder of IW. Mr. Dillon was a
director and principal stockholder of the Company, was a director, officer and
principal stockholder of IW and was a director and technical advisor to
Comstar. Mr. Wine is a former principal stockholder of the Company and IW. Mr.
Kaduru is a former principal stockholder of the Company and IW, was an officer
of IW and was a director and officer of Comstar. Mr. Haynes was co-founder,
President and a director of Comstar and claims that he and Mr. Wine each hold
a 30% interest in Lightwave. In connection with IW's acquisition of the assets
and liabilities of Comstar in August 1994, IW issued to Comstar all then
outstanding common stock of IW, which Comstar then distributed as a
liquidating dividend to the holders of certificates for common stock of
Comstar. Each holder of a certificate for common stock of Comstar was required
to acknowledge and accept the terms of the Comstar acquisition and release
Comstar and IW from all claims which such holder may have had against either
Comstar or IW. See "Corporate History and Certain Transactions--Prior
Corporate History". Pursuant to the foregoing, Comstar offered 4,800,000
shares of IW's common stock to Mr. Haynes, but Mr. Haynes refused to
participate and therefore received no shares. The lawsuit filed by Mr. Haynes
and Lightwave alleges, among other things, that Messrs. Dillon, Wine and
Kaduru breached their fiduciary duties to the plaintiffs, that Mr. Wine
defrauded or made misrepresentations to the plaintiffs, that Mr. Wine
misappropriated a corporate opportunity belonging to Lightwave, that all
defendants are liable for conversion of plaintiffs' shares of common stock,
and that IW and Mr. Carr aided and abetted the wrongful conduct of Messrs.
Dillon, Wine and Kaduru. The lawsuit seeks to compel the defendants to provide
to the plaintiffs 18,000,000 shares of Common Stock of the Company or the fair
market value thereof, to impose a constructive trust on the shares of Common
Stock received by Messrs. Dillon, Wine and Kaduru in the Comstar acquisition,
and other monetary damages and declaratory and equitable relief. The Company
is defending and indemnifying Mr. Carr in this lawsuit. On February 25, 1998,
the Court granted the motion of the Company and Mr. Carr to dismiss the
lawsuit against them for lack of personal jurisdiction in Nevada, and the
lawsuit is continuing against the other defendants. Unless this decision is
overturned on appeal, the plaintiffs cannot pursue this lawsuit against the
Company and Mr. Carr in Nevada, although the plaintiffs could pursue these
claims in a new lawsuit filed in any state or states where personal
jurisdiction over the Company and Mr. Carr could be established and where the
applicable statute of limitations has not expired. If a new lawsuit is filed,
the Company intends to defend it vigorously, but there can be no assurance
that its outcome would not have a material adverse effect on the Company's
business, financial condition, results of operations or prospects or result in
substantial dilution to the Company's stockholders.     
 
                                      57
<PAGE>
 
  On June 11, 1998, Lycos, Inc. ("Lycos") filed a complaint and motion for
preliminary injunction in the Superior Court of Middlesex County,
Massachusetts against the Company. The lawsuit alleges, among other things,
that the Company breached a license agreement with Lycos by entering into its
portal outsourcing agreement with Excite in January 1998 and by terminating
the license agreement between Lycos and the Company. See "--Principal
Outsourcing Arrangements--Excite". The lawsuit seeks specific performance of
the license agreement between Lycos and the Company, a preliminary and
permanent injunction enjoining the Company from terminating the license
agreement between Lycos and the Company and from performing under its
agreement with Excite, money damages and attorneys' fees. A hearing on Lycos'
motion for preliminary injunction has been adjourned because the parties are
in negotiations to settle the lawsuit. However, there can be no assurance the
lawsuit will be settled. If the lawsuit is not settled, the Company intends to
defend it vigorously, but there can be no assurance that its outcome will not
have a material adverse effect on the Company's business, financial condition,
results of operations or prospects.
 
                                      58
<PAGE>
 
                                  MANAGEMENT
 
EXECUTIVE OFFICERS AND DIRECTORS
 
  The executive officers and directors of the Company, their respective ages
and their positions with the Company are as follows:
 
<TABLE>   
<CAPTION>
      NAME               AGE                                POSITION
      ----               ---                                --------
<S>                      <C> <C>
Samer F. Salameh........  34 Chairman of the Board and Chief Executive Officer
Alfredo Sanchez.........  43 Vice Chairman of the Board
David C. Trachtenberg...  36 President, Chief Operating Officer and Director
David R. Henkel.........  47 Executive Vice President, Finance, Chief Financial Officer and Director
James P. Dougherty......  41 Executive Vice President, Business Services
Andrea S. Hirsch........  40 Executive Vice President, Business Development and General Counsel
James L'Heureux.........  46 Executive Vice President, Consumer Services
Carena M. Pooth.........  45 Executive Vice President, Technology
Arturo Elias(1).........  32 Director
James M. Nakfoor(1).....  35 Director
Russell I. Pillar.......  33 Director
</TABLE>    
       
----------
(1) Member of the Compensation Committee
   
  Mr. Salameh has served as Chief Executive Officer and a director of the
Company since September 1997, as Chairman of the Board since August 1998, and
served as President from September 1997 to December 1998. From July 1994 until
joining the Company, Mr. Salameh served as Director, Long Distance Division of
SBC Communications (formerly Southwestern Bell), responsible for marketing,
strategy, positioning, product management and product development with respect
to Telmex. Mr. Salameh was employed by MCI Telecommunications as a Product
Manager in 1994 and as a Strategic Marketing Manager from 1991 to 1993. During
1993, Mr. Salameh was employed as Vice President of Finance by Merl
Industries, a start-up management consulting firm. Mr. Salameh holds a
Master's degree from the Fletcher School of Law and Diplomacy, a B.S. degree
in Management and Technology Transfer from Polytechnic University of New York
and a Baccalaureate degree with a concentration in Math and Physics from Lycee
Fenelon in Paris. He is also a director of Splitrock and serves as an Advisor
to the Chief Executive Officer of Telmex. See "Risk Factors--Control of the
Company and Potential Conflicts of Interest" and "Business--Principal
Outsourcing Arrangements".     
          
  Mr. Sanchez joined the Company's Board of Directors in June 1996 and became
Vice Chairman in August 1998. Mr. Sanchez has served as President of Uninet,
S.A de C.V., a wholly-owned subsidiary of Telmex through which Telmex provides
data transmission services and Internet access to customers, since January
1996. He has also served as President of Consorcio Red Uno, S.A. de C.V., a
network company founded by Mr. Sanchez and now owned by Telmex, since March
1991. See "Risk Factors--Control of the Company and Potential Conflicts of
Interest". From 1985 to March 1991, he was President of Onyx Systems, a Unix
microcomputer manufacturer with operations in the United States, Europe and
Mexico. Mr. Sanchez previously held various communications and transportation
positions in the Mexican government. Mr. Sanchez holds a degree in Electronics
Engineering from the Metropolitan Autonomous University of Mexico.     
   
  Mr. Trachtenberg joined the Company as President, Chief Operating Officer
and a director in December 1998. Prior to joining the Company, Mr.
Trachtenberg held a variety of positions with MCI Communications Corporation
and then MCI WorldCom, Inc. From        to       , Mr. Trachtenberg was
Executive Director of Online Marketing, responsible for residential and small
business Internet operations; from     
 
                                      59
<PAGE>
 
   
       to       , he served as Executive Director of Brand Marketing,
responsible for the MCI One brand portfolio, including domestic and
international long distance products, calling card services and advanced
services for the consumer and small business segments; from        to       ,
he was director of Customer Marketing; and from        to       , he was
director of International Marketing. Prior to joining MCI, Mr. Trachtenberg
was employed by Bain & Company, an international consulting firm, from
to       . Mr. Trachtenberg received a B.A. degree, summa cum laude, from
Tufts University, and received an MBA degree from the Wharton School of
Business at the University of Pennsylvania, where he also received a Masters
in International Affairs and was a Fellow at the Lauder Institute.     
   
  Mr. Henkel joined Prodigy in August 1998 as Executive Vice President,
Finance, Chief Financial Officer and a director. In 1997, Mr. Henkel founded
AFX TraTech, Inc., a wireless data company, and served as its Chief Financial
Officer until joining Prodigy. From 1993 to 1997, Mr. Henkel served in a
number of positions with 7th Level, Inc., a developer of interactive games and
educational products, including Chief Operating Officer from 1995 to 1997 and
Chief Financial Officer from 1994 to 1995. In 1993, Mr. Henkel served as Chief
Financial Officer of Value Added Communications Corporation, a
telecommunications reseller, from 1991 to 1993 he served as Chief Financial
Officer and a director of Micrografx, Inc., a software company, and from 1987
to 1991 he was a partner with Arthur Andersen LLP. Mr. Henkel holds a B.A.
degree from Rice University and an M.B.A. degree from Harvard Business School.
    
  Mr. Dougherty joined Prodigy's former software development division as
Senior Vice President of Marketing and Sales in November 1997, became its
Chief Operating Officer in April 1998 and became its Chief Executive Officer
in May 1998. He became the Company's Executive Vice President, Business
Services in August 1998. From May 1996 through September 1997, Mr. Dougherty
worked for and consulted with a number of Internet startup companies. From
November 1987 through May 1996, Mr. Dougherty held various executive positions
at Lotus Development Corporation, including general manager of the Electronic
Applications division, which built and marketed Internet applications to
global businesses, and director in the technology consulting practice. Mr.
Dougherty holds a B.A. degree from Framingham State College, a graduate degree
(Certificate of Special Studies) from Harvard University in finance and
administration and a Master's degree from Columbia University in international
economics.
 
  Ms. Hirsch joined Prodigy in September 1998 as Executive Vice President,
Business Development and General Counsel. Prior to joining the Company, Ms.
Hirsch served as Vice President, Corporate Development Counsel for Simon &
Schuster, Inc., a publishing company, from March 1994 to September 1998, and
as Assistant General Counsel for Macmillan, Inc., a publishing company, from
June 1991 to January 1994. Ms. Hirsch holds a B.A. degree from Queens College
and a J.D. degree from Washington College of Law at American University.
 
  Mr. L'Heureux joined Prodigy as Senior Vice President of Marketing in July
1997 and became Executive Vice President, Consumer Services in August 1998.
Prior to joining Prodigy, Mr. L'Heureux served as Vice President and General
Manager, Software Publishing, for Scholastic, Inc. from March 1996 to July
1997, as Senior Director of Marketing, Autodesk Multimedia, for Autodesk,
Inc., a design tool company, from January 1995 to February 1996, as a senior
manager for Apple Computer, Inc. from February 1992 to January 1995, and as
Director of Business Development for Lucasfilm, Ltd. & LucasArts Entertainment
from 1989 to 1992. Previously, Mr. L'Heureux held consulting and management
positions with Arthur D. Little, Inc., PepsiCo, Inc. and the McCaffrey &
McCall advertising agency. Mr. L'Heureux holds a B.S. degree from the
University of Notre Dame and an M.B.A. degree from the University of Virginia.
 
  Ms. Pooth has been employed by Prodigy for 13 years in a variety of
positions, including Executive Vice President, Technology since August 1998,
Senior Vice President of Technical Services from July 1997 to July 1998, Vice
President of Systems Development from November 1996 to June 1997, Senior
Director of Systems Development from February 1996 to October 1996 and
Director of Systems Programming/Development from November 1990 to February
1996, and various other technical management positions. Prior to joining
Prodigy,
 
                                      60
<PAGE>
 
   
Ms. Pooth worked as a Systems Programmer for IBM for three years. She holds a
B.A. degree from Vassar College and an M.S. degree from State University of
New York.     
   
  Mr. Elias joined the Company's Board of Directors in September 1997. He
served as Consulting Advisor to the President of Telmex from September 1996 to
May 1998 and has since served as Head of Commercial New Technologies and
Regulation for Telmex. Mr. Elias is also a director of Carso Global Telecom,
Telmex, Sears Roebuck de Mexico and several privately-held companies. See
"Risk Factors-- Control of the Company and Potential Conflicts of Interest".
Mr. Elias studied Business Administration at Anahuac University and received a
Master in Business Management degree from the Instituto Panamericano de Alta
Direccion de Empresa (IPADE).     
   
  Mr. Nakfoor joined the Company's Board of Directors in September 1997. Since
1991, Mr. Nakfoor has served as Vice President of Securities Trading for
Inversora Bursatil, S.A. de C.V., a wholly-owned subsidiary of Grupo
Financiero Inbursa, S.A. de C.V. ("Grupo Financiero"), which is engaged in the
securities brokerage, investment banking and money management businesses in
Mexico. Grupo Financiero, which is affiliated with Carso Global Telecom, is a
Mexican financial group whose businesses include banking, brokerage,
insurance, leasing, factoring and other financial services. See "Risk
Factors--Control of the Company and Potential Conflicts of Interest". Mr.
Nakfoor holds a B.A. degree in Economics and an M.B.A. degree from the
University of Texas at Austin.     
   
  Mr. Pillar joined the Company's Board of Directors in October 1996 and
served as President and Chief Executive Officer of the Company's Prodigy
Internet division from September 1997 until August 1998. In November 1998, Mr.
Pillar was appointed President and Chief Executive Officer of Virgin
Entertainment Group, a subsidiary of Britain's Virgin Group that operates the
Virgin Megastores chain of retail music stores throughout North America and is
in the process of expanding into additional entertainment-related business.
Since October 1991, he also has served as Managing Partner of Critical Mass, a
company that creates new software solution-based businesses seeking to
capitalize on the migration of communications traffic from circuit-switched to
packet-switched networks. From December 1993 through October 1996, he served
as President, Chief Executive Officer and a director of Precision Systems,
Inc., a publicly traded international telecommunications software provider.
Mr. Pillar is also a director of Telescan, Inc., which develops, markets and
operates online networks and Internet sites. He graduated Phi Beta Kappa, cum
laude, with an A.B. degree in East Asian Studies from Brown University.     
   
  The Company intends to have two independent directors prior to or within 90
days after the closing of the Offering.     
   
  Mr. Carlos Slim Helu, a Mexican citizen, and certain members of his
immediate family, beneficially own a majority of the outstanding voting equity
securities of Carso Global Telecom. Carso Global Telecom may be deemed to
control Telmex through the regular-voting shares of Telmex that it owns
directly and its interest in a trust which owns a majority of Telmex's
outstanding regular-voting shares. Thus, Mr. Slim and members of his immediate
family may be deemed to control Carso Global Telecom, Telmex and the Company.
Mr. Salameh is married to Mr. Slim's niece and Mr. Elias is married to Mr.
Slim's daughter. There are no other family relationships among the Company's
directors, executive officers and principal stockholders and their affiliates.
See "Risk Factors--Control of the Company and Potential Conflicts of Interest"
and "Principal Stockholders".     
   
  In connection with the Company's acquisition of PSC, IBM and Sears agreed to
vote their shares of Common Stock received upon conversion of the Contingent
Notes or exercise of the Contingent Warrants held by them in accordance with
the voting recommendations of Prodigy's Board of Directors. See "Corporate
History and Certain Transactions--Acquisition of Prodigy Services Company".
       
  Officers of the Company serve at the discretion of the Board of Directors
and hold office until their successors are duly elected and qualified or until
their earlier resignation or removal.     
   
  The Company has an Executive Council consisting of Messrs. Trachtenberg,
Henkel, Dougherty, Hirsch, L'Heureux and Pooth. The Executive Council advises
the Company's Chief Executive Officer and performs certain delegated duties.
    
                                      61
<PAGE>
 
COMMITTEES OF THE BOARD OF DIRECTORS
 
  The Board of Directors has an Audit Committee and a Compensation Committee.
There is no standing nominating committee of the Board of Directors. The Audit
Committee (which is expected to be composed of the two new independent
directors) (i) reviews the annual financial statements of the Company prior to
their submission to the Board, (ii) consults with the Company's independent
accountants to review financial results, internal financial controls and
procedures, audit plans and recommendations and (iii) recommends to the Board
the selection, retention or termination of independent accountants and approve
services provided by independent accountants. The Compensation Committee
(composed of Messrs. Elias and Nakfoor) makes recommendations to the Board
regarding the compensation of executive officers, key managers and directors
and administers the Company's stock plans.
 
DIRECTOR COMPENSATION
 
  All directors are reimbursed for their expenses in attending Board and
Committee meetings in accordance with the Company's expense reimbursement
policies. Directors who are also employees of the Company do not receive
additional compensation for serving as directors.
   
  The Company entered into a one-year Consulting Agreement with Mr. Pillar on
July 31, 1998, which automatically renews for additional one-year periods
unless terminated by either party. Mr. Pillar receives an annual base fee of
$250,000 and is eligible to receive either (i) a performance bonus of $125,000
in the event that the Company closes an initial public offering or (ii) a
discretionary performance bonus payable in February 1999. The Company is
required to pay all reasonable relocation expenses incurred by Mr. Pillar in
the event that Mr. Pillar chooses to relocate out of the New York City area
during the term of the Consulting Agreement. Mr. Pillar is also entitled to
certain accelerated vesting of stock options in the event the Company closes
an initial public offering on or prior to August 1, 1999 or upon a change in
control of the Company. Mr. Pillar's consulting services are provided on a
part-time basis and Mr. Pillar is permitted to accept other employment
(including full-time employment) during the term of the Consulting Agreement.
See "--Executive Officers and Directors". From November 1, 1996 through June
30, 1997, the Company also had retained Mr. Pillar as a consultant and paid
him a consulting fee of $50,700.     
 
                                      62
<PAGE>
 
EXECUTIVE COMPENSATION
 
 Summary Compensation
   
  The following table sets forth the total compensation earned in the year
ended December 31, 1997 for the Company's Chief Executive Officer, its former
Chief Executive Officer, its four other most highly compensated executive
officers in 1997 who were serving as executive officers on December 31, 1997,
one former executive officer who was not serving as an executive officer on
December 31, 1997 and the Company's other current executive officers. Such
current and former executive officers are hereinafter referred to as the
"Named Executive Officers". For additional information concerning the terms of
employment of the Named Executive Officers, see "--Employment Agreements".
    
                          SUMMARY COMPENSATION TABLE
 
<TABLE>   
<CAPTION>
                                                          LONG-TERM
                              ANNUAL COMPENSATION        COMPENSATION
                         ------------------------------  ------------
                                                            AWARDS    PAYOUTS
                                                         ------------ --------
                                                          SECURITIES    LTIP    ALL OTHER
NAME AND                                   OTHER ANNUAL   UNDERLYING  PAYOUTS  COMPENSATION
PRINCIPAL POSITION        SALARY   BONUS   COMPENSATION   OPTIONS(1)    (2)        (3)
------------------       -------- -------- ------------  ------------ -------- ------------
<S>                      <C>      <C>      <C>           <C>          <C>      <C>
Current Executive
 Officers:
Samer F. Salameh(4)....  $ 43,205 $105,000   $16,200(5)    625,000         --     $1,000
 Chairman and Chief
 Executive Officer
David C.                      --       --        --            --          --        --
 Trachtenberg(6).......
 President and Chief
 Operating Officer
David R. Henkel(7).....       --       --        --            --          --        --
 Executive Vice
 President, Finance and
 Chief Financial
 Officer
James P. Dougherty(8)..  $ 15,385 $ 20,000       --        375,000         --     $  462
 Executive Vice
 President, Business
 Services
Andrea S. Hirsch(9)....       --       --        --            --          --        --
 Executive Vice
 President, Business
 Development and
 General Counsel
James L'Heureux(10)....  $ 78,558 $ 51,756       --        200,000         --        --
 Executive Vice
 President, Consumer
 Services
Carena M. Pooth........  $161,458 $ 26,250       --         71,000         --     $4,800
 Executive Vice
 President, Technology
Former Executive
 Officers:
Paul W. DeLacey(11)...-  $182,083 $ 30,400       --            --          --     $4,750
 Former President and
 Chief Executive
 Officer
Ernest L.                $160,000 $ 19,200       --         55,000         --     $4,800
 Godshalk(11)..........
 Former Vice President,
  Finance and Chief
 Financial Officer
Inder S. Gopal(11).....  $205,858 $ 88,870       --         70,000         --     $5,759
 Former President and
  General Manager of
 Prodigy software
  development division
Gerard P. Mueller(12)..  $255,335 $ 37,800       --            --     $153,479    $4,688
 Former President and
 General Manager,
 Network
Seth D. Radwell(11)....  $192,292 $ 24,000       --         55,000         --     $4,769
 Former Senior Vice
  President, Content
</TABLE>    
----------
 (1) Represents the number of shares covered by options to purchase shares of
     the Company's Common Stock granted during the year ended December 31,
     1997. The Company has never granted any stock appreciation rights.
 (2) Represents final payments due under PSC's 1994 and 1995 Long-Term
     Incentive Plan.
 
                                      63
<PAGE>
 
 (3) Represents Company matching contributions under its 401(k) plan.
 (4) Commenced employment with the Company in September 1997.
 (5) Represents monthly housing and car allowances.
   
 (6) Commenced employment with the Company in December 1998.     
   
 (7) Commenced employment with the Company in August 1998.     
   
 (8) Commenced employment with the Company in November 1997.     
   
 (9) Commenced employment with the Company in September 1998.     
   
(10) Commenced employment with the Company in July 1997.     
   
(11) Ceased employment with the Company during 1998.     
   
(12) Ceased employment with the Company during 1997.     
 
OPTION GRANTS DURING 1997
 
  The following table sets forth grants of stock options to each of the Named
Executive Officers during the year ended December 31, 1997.
                          
                       OPTION GRANTS IN FISCAL YEAR     
 
<TABLE>   
<CAPTION>
                                                                         POTENTIAL REALIZABLE
                                                                           VALUE AS ASSUMED
                                                                         ANNUAL RATES OF STOCK
                                                                        PRICE APPRECIATION FOR
                                       INDIVIDUAL GRANTS                    OPTION TERM(2)
                         ---------------------------------------------- -----------------------
                                      PERCENT OF
                         NUMBER OF      TOTAL
                         SECURITIES    OPTIONS
                         UNDERLYING   GRANTED TO   EXERCISE
                          OPTIONS     EMPLOYEES    PRICE PER EXPIRATION
          NAME            GRANTED   IN FISCAL YEAR SHARE(1)     DATE        5%          10%
          ----           ---------- -------------- --------- ---------- ----------- -----------
<S>                      <C>        <C>            <C>       <C>        <C>         <C>
Current Executive Officers:
Samer F. Salameh........   625,000       18.9%       $1.00     9/29/07  $   393,059 $   996,089
David C. Trachtenberg...       --         --           --          --           --          --
David R. Henkel.........       --         --           --          --           --          --
James P. Dougherty......   375,000       11.3%       $1.00    11/24/07  $   235,835 $   597,653
Andrea S. Hirsch........       --         --           --          --           --          --
James L'Heureux.........   200,000        6.0%       $1.00     7/18/07  $   125,779 $   318,748
Carena M. Pooth.........    71,000        2.1%       $1.00      8/1/07  $    44,652 $   113,156
Former Executive
 Officers:
Paul W. DeLacey.........       --         --           --          --           --          --
Ernest L. Godshalk......  55,000(3)       1.7%       $3.00      8/1/07  $   103,768 $   262,968
Inder S. Gopal..........  70,000(4)       2.1%       $1.00      8/1/07  $    44,023 $   111,562
Gerard P. Mueller.......       --         --           --          --           --          --
Seth D. Radwell.........  55,000(5)       1.7%       $3.00      8/1/07  $   103,768 $   262,968
</TABLE>    
----------
(1) Reflects a repricing in May 1998 of the options held by Messrs. Salameh,
    Dougherty, L'Heureux and Gopal and Ms. Pooth from $2.00, $2.00, $3.00,
    $3.00 and $3.00 per share, respectively, to $1.00 per share. See "--Stock
    Plans--1996 Stock Option Plan".
(2) Amounts reported in these columns represent amounts that may be realized
    upon exercise of the options immediately prior to the expiration of their
    term assuming the specified compound rates of appreciation (5% and 10%) on
    the market value of the Common Stock on the date of option grant over the
    term of the options. These numbers are calculated based on rules
    promulgated by the Securities and Exchange Commission and do not reflect
    the Company's estimate of future stock price growth. Actual gains, if any,
    on stock option exercises and Common Stock holdings are dependent on the
    timing of such exercise and the future performance of the Common Stock.
    There can be no assurance that the rates of appreciation assumed in this
    table can be achieved or that the amounts reflected will be received by
    the individuals.
(3) Upon termination of Mr. Godshalk's employment with the Company, 44,000 of
    these options were cancelled. The remainder of these options will be
    cancelled on September 30, 1999 unless exercised.
(4) Upon termination of Mr. Gopal's employment with the Company, all of these
    options were cancelled.
(5) Upon termination of Mr. Radwell's employment with the Company, all of
    these options were cancelled.
 
                                      64
<PAGE>
 
YEAR-END OPTION VALUES
 
  The following table sets forth certain information concerning the number and
value of unexercised options held by each of the Named Executive Officers on
December 31, 1997. No Named Executive Officer exercised a stock option during
1997.
 
              AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND
                        FISCAL YEAR-END OPTIONS VALUES
 
<TABLE>   
<CAPTION>
                            NUMBER OF SECURITIES               VALUE OF UNEXERCISED
                           UNDERLYING UNEXERCISED              IN-THE-MONEY OPTIONS
                         OPTIONS AT FISCAL YEAR END            AT FISCAL YEAR END(1)
                         ------------------------------      -------------------------
          NAME           EXERCISABLE     UNEXERCISABLE       EXERCISABLE UNEXERCISABLE
          ----           -------------   --------------      ----------- -------------
<S>                      <C>             <C>                 <C>         <C>
Current Executive
 Officers:
Samer F. Salameh........         100,000          525,000(2)     --           --
David C. Trachtenberg...             --               --         --           --
David R. Henkel.........             --               --         --           --
James P. Dougherty......          75,000          300,000        --           --
Andrea S. Hirsch........             --               --         --           --
James L'Heureux.........             --           200,000        --           --
Carena M. Pooth.........          22,200           77,800        --           --
Former Executive
 Officers:
Paul W. DeLacey.........         633,333          641,667        --           --
Ernest L. Godshalk......          55,000          275,000        --           --
Inder S. Gopal..........          70,000          175,000        --           --
Gerard P. Mueller.......         100,000           70,000        --           --
Seth D. Radwell.........          11,250           88,750        --           --
</TABLE>    
----------
(1) Represents the difference between the fair market value of the Common
    Stock at fiscal year end as determined by the Board of Directors of the
    Company ($1.00 per share) and the option exercise price, after giving pro
    forma effect to the subsequent repricing of certain options to $1.00 per
    share. See "--Stock Plans--1996 Stock Option Plan".
(2) 75,000 of Mr. Salameh's options will become exercisable upon the closing
    of the Offering.
 
EMPLOYMENT AGREEMENTS
 
 Current Executive Officers
   
  Mr. Salameh is employed under an Employment Agreement that expires on
December 31, 2000 under which he currently receives an annual base salary of
$200,000. Mr. Salameh received a sign-on bonus of $90,000 and is eligible to
receive an annual performance bonus of up to 50% of his base salary,
contingent upon the successful completion of personal and corporate goals as
mutually established. Mr. Salameh is also eligible to participate in all of
the Company's fringe benefit programs. The Company has agreed to provide Mr.
Salameh with a monthly housing allowance of $4,000 (after tax), a monthly car
allowance of $1,050 (after tax) and monthly roundtrip airfare between New York
and Mexico City. Mr. Salameh is also entitled to certain accelerated vesting
of stock options in the event the Company closes an initial public offering
prior to August 1, 1999 or upon a change in control of the Company. In the
event the Company terminates Mr. Salameh's employment other than for cause, or
does not offer by November 1, 2000 to renew his Employment Agreement for at
least one year, Mr. Salameh will (with certain exceptions) continue to receive
his base salary and fringe benefits for a period of 12 months and will receive
a severance payment equal to one week's base salary for each six months of
completed service with the Company. If Mr. Salameh is terminated for any
reason, the Company is required to pay up to $40,000 of Mr. Salameh's expenses
to relocate out of the New York City area.     
   
  Mr. Trachtenberg is employed under a three-year Employment Agreement under
which he currently receives an annual base salary of $224,000. Mr.
Trachtenberg will receive a sign-on bonus of $74,000 and is eligible to     
 
                                      65
<PAGE>
 
   
receive an annual performance bonus of up to 50% of his base salary,
contingent upon the successful completion of personal and corporate goals as
mutually established. Mr. Trachtenberg is also eligible to participate in all
of the Company's fringe benefit programs. The Company has agreed to provide
Mr. Trachtenberg with a monthly car allowance of $2,166 and up to $5,000 to
terminate his current car lease. For the first six months of employment, the
Company has agreed to reimburse his reasonable temporary housing expenses and
weekly commuting expenses between New York and Washington, D.C., and
thereafter the Company will reimburse his relocation expenses and provide a
monthly housing allowance of $3,500. The Company has also agreed to reimburse
Mr. Trachtenberg's reasonable legal fees for review of his Employment
Agreement. The Company has agreed to grant Mr. Trachtenberg options to
purchase 375,000 shares at $1.00 per share and 125,000 shares at $2.15 per
share, with certain accelerated vesting upon a change in control of the
Company. In the event the Company terminates Mr. Trachtenberg's employment
other than for cause, he will continue to receive his base salary for a length
of time based on his length of service and will receive certain accelerated
vesting of options.     
   
  Mr. Henkel is employed pursuant to an Employment Agreement under which he
currently receives an annual base salary of $190,000. Mr. Henkel is eligible
to receive an annual performance bonus of up to 50% of his base salary,
contingent upon the successful completion of personal and corporate goals as
mutually established. The Company has agreed to provide Mr. Henkel with a
monthly housing allowance of $3,000, certain allowances for airfare between
New York City and Dallas for Mr. Henkel and members of his family for up to
one year, and relocation expenses of up to $3,000. Mr. Henkel is also eligible
to participate in all of the Company's fringe benefit programs. In the event
the Company terminates Mr. Henkel's employment other than for cause after his
third month of service with the Company, he will continue to receive his base
salary for a length of time based on his length of service. Mr. Henkel is also
entitled to certain accelerated vesting of stock options upon a change in
control of the Company.     
   
  Mr. Dougherty is employed under an Employment Agreement that expires on
November 24, 2001 and under which he currently receives an annual base salary
of $190,000. Mr. Dougherty received a sign-on bonus of $20,000 and is eligible
to receive an annual performance bonus of up to 50% of his base salary,
contingent upon the successful completion of personal and corporate goals as
mutually established. Mr. Dougherty is also eligible to participate in all of
the Company's fringe benefit programs. In the event the Company terminates Mr.
Dougherty's employment other than for cause, Mr. Dougherty will continue to
receive his base salary and fringe benefits for nine months if termination
occurs prior to November 24, 1999 (six months if termination occurs on or
after November 24, 1999).     
   
  Ms. Hirsch is employed under an Employment Agreement that expires on
September 13, 2001 and under which she currently receives an annual base
salary of $190,000. Prodigy paid Ms. Hirsch a sign-on bonus of $180,000. Ms.
Hirsch is eligible to receive an annual performance bonus of up to 50% of her
base salary, contingent upon the successful completion of personal and
corporate goals as mutually established. Ms. Hirsch is also eligible to
participate in all of the Company's fringe benefit programs. In the event the
Company terminates Ms. Hirsch's employment other than for cause after Ms.
Hirsch's third month of service with the Company, Ms. Hirsch will continue to
receive her base salary and fringe benefits for six months and will be
entitled to certain accelerated vesting of stock options. In the event that
Prodigy has not offered to renew her Employment Agreement prior to its
expiration, Ms. Hirsch will continue to receive her base salary and fringe
benefits for six months and will be entitled to receive a performance bonus
for such six-month period.     
 
  Mr. L'Heureux is employed under an Employment Agreement that expires on May
31, 2000 and under which he currently receives an annual base salary of
$190,000. Mr. L'Heureux received a sign-on bonus of $40,000 and is eligible to
receive an annual performance bonus of up to 50% of his base salary,
contingent upon the successful completion of personal and corporate goals as
mutually established. Mr. L'Heureux is eligible to participate in all of the
Company's fringe benefit programs. Mr. L'Heureux is also entitled to certain
accelerated vesting of stock options upon a change in control of the Company.
In the event the Company terminates the employment of Mr. L'Heureux other than
for cause, Mr. L'Heureux will continue to receive his base salary and fringe
benefits for nine months, a performance bonus for such nine-month period and a
severance payment based
 
                                      66
<PAGE>
 
on his length of service. In the event the Company has not offered to renew
his Employment Agreement prior to its expiration, Mr. L'Heureux will continue
to receive his base salary and fringe benefits for nine months plus a
severance payment based on his length of service.
   
  Ms. Pooth is employed under an Employment Agreement that expires on May 31,
2000 and under which she currently receives an annual base salary of $190,000.
Ms. Pooth is eligible to receive an annual performance bonus of up to 50% of
her base salary, contingent upon the successful completion of personal and
corporate goals as mutually established. Ms. Pooth is eligible to participate
in all of the Company's fringe benefit programs, and is entitled to certain
accelerated vesting of stock options upon a change in control of the Company.
In the event the Company terminates Ms. Pooth's employment other than for
cause, Ms. Pooth will continue to receive her base salary and fringe benefits
for nine months, a performance bonus for such nine-month period and a
severance payment based on her length of service. In the event the Company has
not offered to renew her Employment Agreement prior to its expiration, Ms.
Pooth will continue to receive her base salary and fringe benefits for nine
months plus a severance payment based on her length of service.     
 
 Former Executive Officers
 
  Mr. DeLacey was employed under an Employment Agreement scheduled to expire
on August 31, 1999 providing for an initial annual base salary of $150,000
subject to annual review and increase, an annual performance bonus of up to
40% of his base salary, customary fringe benefits and other customary
provisions. Effective September 29, 1997, Mr. DeLacey resigned as President
and Chief Executive Officer and agreed to serve through December 31, 1998 as
Strategic Advisor to the Chairman on a part-time basis with his then base
salary ($190,000) proportionately reduced based on the proportion of time
worked. The Company and Mr. DeLacey also agreed that Mr. DeLacey's options
would continue to vest through December 31, 1998, at which time he would hold
vested options to purchase 954,167 shares, and the balance of his options
would then terminate. Effective June 30, 1998, Mr. DeLacey resigned as
Strategic Advisor to the Chairman, received a lump sum payment of $53,200
representing foregone salary for the balance of 1998, and surrendered all of
his options except for options to purchase 100,000 shares (which will remain
exercisable through December 31, 1999). Effective July 24, 1998, Mr. DeLacey
resigned as a director of the Company. See "Corporate History and Certain
Transactions--Certain Transactions Involving Carso Global Telecom, Telmex and
Greg C. Carr--Certain Stock Purchases by Telmex".
 
  Mr. Godshalk was employed under an Employment Agreement scheduled to expire
on February 5, 2001 providing for an initial annual base salary of $125,000
subject to annual review and increase, a sign-on bonus of $10,000, an annual
performance bonus of up to 25% of his base salary (with a guaranteed bonus of
$31,250 for 1996), customary fringe benefits and other customary provisions.
Effective September 29, 1997, Mr. Godshalk resigned but continued to serve as
Acting Vice President of Finance and Chief Financial Officer until January
1998 at his then base salary ($160,000), and the Company agreed to pay him
severance consisting of continued salary and fringe benefits through September
30, 1998. The Company and Mr. Godshalk also agreed that Mr. Godshalk's options
would continue to vest through February 5, 1998, at which time he would hold
vested options to purchase 121,000 shares, and the balance of his options
would then terminate.
 
  Mr. Gopal was employed under an Employment Agreement scheduled to expire on
September 1, 2000 providing for an initial annual base salary of $210,000
subject to annual review and increase, a sign-on bonus of $90,000, an annual
performance bonus of up to 30% of his base salary (with a guaranteed bonus of
$46,000 for 1996), customary fringe benefits and other customary provisions.
Effective May 15, 1998, Mr. Gopal resigned, and the Company agreed to pay him
severance consisting of continued salary and fringe benefits through May 15,
1999, which Mr. Gopal agreed to take in a lump sum payment on May 30, 1998.
The Company also agreed that 70,000 of Mr. Gopal's options would vest upon
termination of employment.
 
  Mr. Mueller was employed under an Employment Agreement scheduled to expire
on August 1, 1998 providing for an initial annual base salary of $250,000, a
sign-on bonus of $250,000 (payable in lieu of certain other prior bonus
commitments made to Mr. Mueller), an annual performance bonus of up to 20% of
his base
 
                                      67
<PAGE>
 
salary, additional bonuses payable in February 1997 and February 1998 of
$28,000 and $122,500, respectively, customary fringe benefits and other
customary provisions. Effective August 15, 1997, Mr. Mueller resigned, and
pursuant to the terms of the Employment Agreement the Company made a lump sum
payment to Mr. Mueller of $275,000 representing all salary and bonuses payable
through the balance of the term of the Employment Agreement.
 
  Mr. Radwell was employed pursuant to a letter agreement scheduled to expire
on September 29, 2000 providing for an initial annual base salary of $170,000
subject to annual review and increase, a sign-on bonus of $10,000, an annual
performance bonus of up to 20% of his base salary, customary fringe benefits
and other customary provisions. Mr. Radwell resigned effective March 13, 1998
and did not receive any severance payments.
 
STOCK PLANS
 
 1996 Stock Option Plan
 
  The Company's 1996 Stock Option Plan (the "Option Plan") permits the
issuance of up to 12,500,000 shares of Common Stock upon the exercise of
options granted under the Option Plan. The Option Plan is currently
administered by the Compensation Committee of the Board of Directors. Under
the Option Plan, the Board or Compensation Committee may grant incentive stock
options within the meaning of Section 422 of the Internal Revenue Code of 1986
("incentive stock options") and stock options not intended to qualify as
incentive stock options ("non-statutory stock options"). Stock options may be
granted under the Option Plan to employees, directors, consultants and
advisors of the Company. Only employees of the Company and its subsidiaries
are eligible to receive incentive stock options. The Option Plan expires in
June 2006.
 
  Subject to the provisions of the Option Plan, the Board and Compensation
Committee have the authority to determine: (i) to whom options will be
granted; (ii) the time when options may be granted; (iii) the number of shares
to be covered by each option; (iv) when the option becomes exercisable; and
(v) the exercise price of the option (which price, in the case of incentive
stock options, may not be less than the fair market value of the Common Stock
on the date of grant, or in the case of incentive stock options granted to
employees who own, directly or indirectly, more than 10% of the total combined
voting power of all classes of stock of the Company, 110% of the fair market
value of the Common Stock on the date of grant). The Company's Chief Executive
Officer has authority, without prior Board or Compensation Committee approval,
to grant options under the Option Plan and to determine the terms of such
options, provided that no grants may be made to executive officers and options
may not exceed 100,000 shares per employee per year.
 
  The Company's philosophy is to utilize equity incentives to motivate and
retain management and employees. In June 1997, the exercise price of all
outstanding options held by active employees with exercise prices in excess of
$3.00 per share was reduced to $3.00 per share, representing the then-current
fair market value as determined by the Board of Directors. In this repricing,
options to purchase an aggregate of 1,533,549 shares with exercise prices
ranging from $5.00 to $7.00 per share were repriced to $3.00 per share,
including an option to purchase 29,000 shares held by Ms. Pooth. In May 1998,
the exercise price of all outstanding options held by active employees with
exercise prices in excess of $1.00 per share was reduced to $1.00 per share,
representing the then current fair market value as determined by the Board of
Directors. In this repricing, options to purchase an aggregate of 5,828,515
shares with exercise prices ranging from $2.00 to $3.00 per share were
repriced to $1.00 per share, including options to purchase 625,000, 375,000,
200,000, 70,000 and 71,000 shares held by Messrs. Salameh, Dougherty,
L'Heureux and Gopal and Ms. Pooth, respectively. The purpose of these
repricings was to restore the performance incentives intended to be provided
by options.
   
  As of September 30, 1998, (i) there were outstanding options under the
Option Plan to purchase an aggregate of 8,708,769 shares of Common Stock at a
weighted-average exercise price of $1.41 per share, (ii) an aggregate of 6,089
shares of Common Stock had been issued upon exercises and (iii) 3,785,142
additional shares of Common Stock were reserved for future option grants.
Subsequent to September 30, 1998, the Board of Directors granted options to
purchase an aggregate of 515,000 shares under the Option Plan at an exercise
price     
 
                                      68
<PAGE>
 
   
of $2.00 per share. As of September 30, 1998, Messrs. Salameh, Dougherty,
L'Heureux and Pooth held options to purchase 625,000, 375,000, 375,000 and
375,000 shares, respectively, at an exercise price of $1.00 per share, and Mr.
Henkel held an option to purchase 750,000 shares at $2.00 per share. In
November 1998, the Board of Directors granted Ms. Hirsch an option to purchase
375,000 shares at $2.00 per share in accordance with the terms of her
Employment Agreement. In December 1998, the Company agreed to grant Mr.
Trachtenberg options to purchase 375,000 shares at $1.00 per share and 125,000
shares at $2.15 per share, with certain accelerated vesting upon a change in
control of the Company. As a result of the grant of Mr. Trachtenberg's option
to purchase 375,000 shares at $1.00 per share, the Company will record a
compensation charge to earnings of approximately $431,000 over the three-year
period of vesting.     
 
 1998 Employee Stock Purchase Plan
 
  In September 1998, the Company adopted the 1998 Employee Stock Purchase Plan
(the "Purchase Plan") which becomes effective upon the closing of the
Offering. The Purchase Plan authorizes the issuance of up to 2,000,000 shares
of Common Stock ("Shares") to eligible employees of the Company and its
subsidiaries. Employees are eligible to join the Purchase Plan if their
customary employment is more than 20 hours per week and for more than five
months in any calendar year. Employees who own (directly or indirectly, taking
into account the Shares subject to purchase under the Purchase Plan) 5% or
more of the total combined voting power or value of all classes of stock of
the Company are not eligible to participate.
   
  The Purchase Plan permits shares to be purchased at the end of "Purchase
Periods" occurring during each "Offering Periods". Unless otherwise provided
by the Board prior to commencement, an Offering Period will begin on each May
16 and November 16, and continue for a period of 24 months. A Purchase Period
will begin on each May 16 and November 16, and will continue for a period of
six months, ending on the following November 15 or May 15, respectively. The
first Offering Period and the first Purchase Period will commence upon the
closing of the Offering. The last day of each Purchase Period (i.e., May 15 or
November 15) is the date on which Shares are actually purchased (a "Purchase
Date").     
 
  Each eligible employee may enroll in an Offering Period by filing an
election by the first payroll date occurring during the Offering Period (or up
to 45 days after the start of the Offering Period if approved in advance by
the Board), provided such eligible employee is not already participating in an
Offering Period which began earlier. When enrolling in an Offering Period, the
employee must specify the amount to be withheld from pay on each payroll date
occurring during the Offering Period, which cannot exceed 10% of the
employee's basic rate of pay (determined at the beginning of the Offering
Period).
 
  The amount withheld from a participating employee's pay is credited to his
or her account under the Purchase Plan. Unless the electing employee withdraws
from participation (in which case the employee will be refunded the amount in
his account, without interest), the funds in his or her account will be used
on each Purchase Date to purchase that number of Shares which can be purchased
at a price equal to the lower of 85% of the fair market value of the Shares on
the first day of the Offering Period and 85% of the fair market value of the
Shares on the Purchase Date. "Fair market value" is defined as the last sale
price of the Common Stock on the Nasdaq National Market on the applicable day.
 
  The number of Shares otherwise subject to purchase by an employee on a
Purchase Date will be reduced proportionately (as described in the Purchase
Plan) if the number of Shares available under the Purchase Plan, or available
with respect to the Offering Period, is not sufficient to satisfy the purchase
rights of all employees on such Purchase Date. In addition, the number of
Shares otherwise subject to purchase on a Purchase Date will be reduced to the
extent necessary to insure that the employee's right to acquire Shares under
the Purchase Plan does not accrue at a rate which exceeds $25,000 in fair
market value (as determined on the first day of the Offering Period of
reference) for each calendar year during which the employee was an active
participant in the Purchase Plan.
 
  If an employee terminates employment for any reason (including death or
disability), or withdraws from an Offering Period, such employee will not be
entitled to acquire Shares on any succeeding Purchase Date occurring with
respect to such Offering Period, and the amount in his or her account will be
refunded without interest. An
 
                                      69
<PAGE>
 
employee withdrawing from an Offering Period will not be entitled to rejoin
the Purchase Plan with respect to such Offering Period but may, if such
employee otherwise qualifies, rejoin the Purchase Plan with respect to any
subsequent Offering Period.
 
  The Purchase Plan will be administered by the Compensation Committee of the
Board. The amounts paid to the Company with respect to the purchase of Shares
may be used for any corporate purpose. The employees participating in the
Purchase Plan will have no interest, voting rights or other privileges with
respect to the Shares until they receive a certificate representing such
Shares.
 
  Because participation in the Purchase Plan is voluntary, the Company cannot
now determine the number of Shares to be purchased by any particular current
executive officer, by all Named Executive Officers as a group or by non-
executive employees as a group.
 
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
 
  The current members of the Compensation Committee of the Board of Directors
are Messrs. Elias and Nakfoor. No executive officer of the Company has served
as a director or member of the compensation committee (or other committee
serving an equivalent function) of any other entity, whose executive officers
served as a director of or member of the Compensation Committee of the Board
of Directors.
 
                                      70
<PAGE>
 
                  CORPORATE HISTORY AND CERTAIN TRANSACTIONS
 
ACQUISITION OF PRODIGY SERVICES COMPANY
 
 Acquisition Terms
 
  On June 17, 1996, the Company acquired PSC from its owners, IBM and Sears,
for $46,950,000 in cash (including $6,150,000 paid to financial advisors) plus
the issuance of 8% Contingent Convertible Promissory Notes (the "Contingent
Notes") valued at $30,500,000 by an independent appraiser. The Contingent
Notes entitled IBM and Sears to receive in the aggregate (i) in the event of a
qualifying initial public offering, 15% of the Company's Common Stock on a
fully-diluted basis, or (ii) in the event the Company is acquired, 15% of the
consideration received, provided that the value of the consideration payable
to IBM and Sears in either case was limited to $200,000,000 plus accrued
interest. IBM and Sears assumed PSC's four existing retirement plans and all
obligations thereunder. Effective as of the closing, IBM received sole
ownership of six patents jointly-owned with PSC, the Company received sole
ownership of two other jointly-owned patents, and IBM and the Company entered
into the patent cross-license agreements described under "Business--
Proprietary Rights". The Company is obligated to indemnify IBM and Sears for
claims and liabilities arising out of PSC's business, whether arising before
or after the closing of the Prodigy Acquisition, except with respect to the
retirement plans assumed by IBM and Sears.
   
  In November 1997, IBM and Sears (i) agreed that the consideration receivable
upon conversion of the Contingent Notes would be based on the valuation of the
Company in excess of $250,000,000 (with the aggregate consideration payable to
IBM and Sears still limited to $200,000,000 plus interest from June 17, 1996)
and (ii) were granted Contingent Stock Purchase Warrants (the "Contingent
Warrants") to purchase shares of Common Stock of the Company at 130% of the
fair market value thereof at the time of conversion of the Contingent Notes.
The aggregate number of shares of Common Stock issuable to IBM and Sears upon
conversion of the Contingent Notes and exercise of the Contingent Warrants can
not exceed 15% of the number of shares outstanding upon completion of the
Offering. As a condition to these arrangements, Carso Global Telecom prepaid
(on behalf of and as an advance to the Company) the balance due on the
Company's former White Plains lease ($5,831,000) and established a $4,000,000
letter of credit, declining quarterly over three years, to secure certain
payment obligations of the Company under PSC contracts for which IBM and Sears
remain liable. See Notes 1, 4 and 9 to the Company's Consolidated Financial
Statements.     
          
  Upon the closing of the Offering (at an assumed initial public offering
price of $   per share), IBM and Sears will each (i) receive    shares of
Common Stock pursuant to the conversion of its Contingent Note and (ii) hold a
Contingent Warrant to purchase    shares of Common Stock (   shares if the
Underwriters' over-allotment option is exercised in full) at an exercise price
of $   per share (subject to customary anti-dilution adjustments) at any time
prior to the third anniversary of the Offering. IBM and Sears have customary
piggyback and demand registration rights, at the Company's expense, with
respect to the Common Stock issuable upon conversion of the Contingent Notes
or exercise of the Contingent Warrants, including customary indemnification
and other provisions. After conversion of the Contingent Notes or exercise of
the Contingent Warrants, IBM and Sears have agreed to vote their shares of
Common Stock in accordance with the voting recommendations of the Company's
Board of Directors.     
   
 Reorganization     
   
  In connection with the Prodigy Acquisition, the Company was formed to
acquire PSC and to hold all of the outstanding stock of IW, and IW retained
its existing cellular telephone assets and conveyed its other assets to other
subsidiaries of the Company. The new holding-company structure was created to
effect the Prodigy Acquisition and to consolidate the Company's cellular
telephone assets within IW in order to position IW for separate sale or
financing. As a result of this reorganization, all outstanding Common Stock of
IW was automatically converted into Common Stock of the Company on a one-for-
one basis. See "--Prior Corporate History".     
 
 
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<PAGE>
 
OTHER ARRANGEMENTS WITH IBM AND SEARS
   
  In October 1998, the Company sold to IBM a version of Prodigy's service
provider platform software enabling an ISP to manage subscriber data. IBM paid
the Company $2,000,000, and the Company retained a perpetual, royalty-free
license to use and upgrade the software for its own use. The Company does not
use such software to manage its own subscriber data. See "Business--
Technology".     
 
  Between the closing of the Prodigy Acquisition and October 1997, IBM and
Sears paid the State of New York $3.4 million for sales and use taxes assessed
against PSC for certain periods ended prior to the Prodigy Acquisition. In
October 1997, the Company, IBM and Sears agreed that each of them would be
liable for one-third of all sales and use taxes assessed against PSC for
periods ended prior to the Prodigy Acquisition, and Carso Global Telecom paid
(as an advance to the Company) $567,000 to each of IBM and Sears in light of
prior payments of such taxes by IBM and Sears.
   
  Prior to outsourcing its network to Splitrock, Prodigy utilized a network
backbone and certain POPs provided by Advantis (a joint venture of IBM and
Sears) and subsequently by IBM Global Services after IBM acquired Sears'
interest in Advantis during 1997. Splitrock continues to use certain POPs
provided by IBM Global Services. The Company also purchases computer equipment
from IBM on normal commercial terms. During the period June 17, 1996 through
December 31, 1996, the year ended December 31, 1997 and the nine months ended
September 30, 1998, respectively, the Company paid IBM/Advantis an aggregate
of $17,116,000, $37,995,000 and $24,480,000 for network services and equipment
purchases.     
   
  At the time of outsourcing its network to Splitrock, Prodigy had certain
non-cancellable commitments to purchase network services from Advantis/IBM
Global Services. In November 1998, in settlement of such commitments, the
Company agreed to purchase from IBM, on normal commercial terms, certain
maintenance and voice-related network services in the aggregate amount of
$7,500,000 prior to December 31, 2000.     
 
  Prior to the Prodigy Acquisition, PSC utilized a network backbone and
certain POPs provided by Advantis and purchased computer equipment from IBM.
During the year ended December 31, 1995 and the period January 1, 1996 through
June 16, 1996, PSC paid Advantis $3,347,000 and $4,355,000, respectively, for
network services and paid IBM $13,686,000 and $4,893,000, respectively, for
computer equipment. See Note 4 to the Consolidated Financial Statements of
Prodigy Services Company for a description of certain other transactions among
PSC, IBM and Sears.
 
CERTAIN TRANSACTIONS INVOLVING CARSO GLOBAL TELECOM, TELMEX AND GREG C. CARR
 
 Funding Agreement
   
  Set forth below is a summary of the Funding Agreement entered into by the
Company, Carso Global Telecom and Greg C. Carr on May 12, 1996 in connection
with the Prodigy Acquisition (the "Funding Agreement"). All obligations under
the Funding Agreement have been performed and the Funding Agreement has no
further effect.     
   
  Pursuant to the Funding Agreement, Carso Global Telecom and Mr. Carr granted
the Company stock puts giving the Company the right to require Carso Global
Telecom and Mr. Carr to purchase shares of Common Stock with an aggregate
purchase price of up to $125,000,000 and $12,500,000, respectively, subject to
reduction in certain circumstances. The stock puts originally were exercisable
at a price of $6.00 per share until the earlier of November 12, 1997 or the
closing of the Company's initial public offering with gross proceeds of at
least $25,000,000. The Funding Agreement also contained a commitment from
Carso Global Telecom and Mr. Carr to invest $5,000,000 and $2,000,000,
respectively, in the Company's next private placement. The Company also
granted Carso Global Telecom an option, which was not exercised, to purchase
the Company's cellular telephone licenses and assets in the Ivory Coast and
Guinea for $69,000,000 prior to July 26, 1996. On October 31, 1996, the
Funding Agreement was amended to reduce the exercise price of the stock puts
to $3.00 per share and the investment commitments of Carso Global Telecom and
Mr. Carr in the Company's next private placement were     
 
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<PAGE>
 
changed to $3,500,000 each. On March 18, 1997, the Funding Agreement was
further amended as follows: (i) the amount of Carso Global Telecom's stock put
was reduced by $8,444,762, (ii) the amount of Mr. Carr's stock put was
increased by $8,500,000, (iii) Carso Global Telecom and Mr. Carr agreed to the
exercise of $65,000,000 and $15,000,000 of the stock puts, respectively, and
(iv) the expiration of the remaining stock puts was extended to May 12, 1998.
The proceeds of the foregoing $65,000,000 and $15,000,000 of stock puts,
together with the proceeds of their additional financing commitments of
$3,500,000 each, were paid to the Company in connection with the October 1996
Placement described below under "--Prior Equity Financings". The final amount
of the stock puts, after giving effect to certain reductions contained in the
Funding Agreement and the changes made by the March 18, 1997 amendment to the
Funding Agreement, was $103,938,467 for Carso Global Telecom and $20,990,533
for Mr. Carr. By October 1, 1997, the stock puts had been fully exercised for
34,646,155 shares and 6,996,844 shares, respectively.
   
  Pending expiration of the waiting period under the HSR Act applicable to
certain of the stock put exercises, (i) Carso Global Telecom loaned
$71,500,000 to the Company on an interest-free basis (subsequently converted
into 28,833,333 shares), (ii) Carso Global Telecom caused Banco Inbursa, an
affiliate of Carso Global Telecom, to loan $13,650,000 to the Company at 9%
interest (subsequently repaid in full), (iii) Mr. Carr loaned $16,000,000 to
the Company on an interest-free basis (subsequently converted into 5,333,333
shares) and (iv) Mr. Carr loaned $1,500,000 to the Company at 9% interest
(subsequently converted into 500,000 shares). All such loans were unsecured,
and the proceeds were used to finance the Company's operations, except that
$40,000,000 of the proceeds was used to repay indebtedness owed to Banco
Inbursa under its prior revolving line of credit. See "--Loans from Banco
Inbursa".     
 
 Warrants
   
  Set forth below is a summary of certain stock purchase warrants previously
granted by the Company to Carso Global Telecom and Mr. Carr. All such warrants
have been exercised or cancelled.     
 
  In consideration of their commitments under the Funding Agreement, the
Company granted Carso Global Telecom and Mr. Carr (i) warrants to purchase
2,700,000 shares and 270,000 shares, respectively, of Common Stock for $3.00
per share (the "Initial Warrants"), exercisable until December 31, 1996, and
(ii) warrants to purchase 2,000,000 shares and 1,000,000 shares, respectively,
of Common Stock for $9.00 per share (the "Additional Warrants"), exercisable
until the earlier of (a) the closing of the Company's initial public offering
or (b) November 12, 1997. On October 2, 1996, Mr. Carr exercised his Initial
Warrant at the Company's request for $2.93 per share, reflecting a discount
(based on the interest rate paid under the Company's bank debt) from the
original exercise price in order to induce early exercise. On December 27,
1996, Carso Global Telecom exercised its Initial Warrant for $3.00 per share.
In connection with the October 31, 1996 amendment of the Funding Agreement,
Mr. Carr's Additional Warrant was cancelled and the number of shares subject
to Carso Global Telecom's Additional Warrant was reduced from 2,000,000 to
1,000,000 and its exercise price was reduced to $7.00 per share. In
consideration of the increased financing commitments under the March 18, 1997
amendment to the Funding Agreement, the Company granted Carso Global Telecom
and Mr. Carr warrants (the "March 1997 Warrants") to purchase 13,000,000
shares and 2,000,000 shares, respectively, of Common Stock for $3.00 per
share, exercisable prior to the expiration of the stock puts, and Carso Global
Telecom's Additional Warrant was cancelled. In consideration of certain
interim financing commitments made by Carso Global Telecom and Mr. Carr in
October 1997, the exercise price of the March 1997 Warrants was reduced from
$3.00 per share to $1.00 per share. Carso Global Telecom exercised its March
1997 Warrant in April 1998. Mr. Carr subsequently transferred his March 1997
Warrant to a third party, who exercised such March 1997 Warrant in May 1998.
 
 Board Arrangements
 
  Mr. Carr was Chairman of the Board and a director of the Company from its
formation in June 1996 until his resignation in July 1998 and was also a
director of IW from March 1995 until January 1997. The Company paid Mr. Carr
an annual fee of $135,000 from May 1996 until his resignation in recognition
of the fact that
 
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<PAGE>
 
Mr. Carr's duties as Chairman of the Board were significantly greater than the
duties ordinarily assumed by a Chairman of the Board.
 
  In connection with the March 18, 1997 amendment of the Funding Agreement,
Carso Global Telecom and Mr. Carr agreed that, until the earlier of March 18,
2007 or one year after the Company's initial public offering with gross
proceeds of at least $25,000,000, (i) Carso Global Telecom would have the
right to designate 60% of the Company's directors, (ii) Mr. Carr would have
the right to designate 40% of the Company's directors, (iii) Mr. Carr would
vote all shares over which he (or any affiliate of Mr. Carr) exercised voting
control in favor of the election of the directors designated by Carso Global
Telecom and (iv) Carso Global Telecom would vote all shares over which it (or
any affiliate of Carso Global Telecom) exercised voting control in favor of
the election of the directors designated by Mr. Carr. In connection with
Telmex's purchase of 13,000,000 shares from Mr. Carr in August 1998, Carso
Global Telecom and Mr. Carr agreed to terminate the foregoing voting
agreement, and Carso Global Telecom agreed to continue, until the earlier of
July 24, 1999 or Mr. Carr's resignation as a director, to vote all shares over
which it (or any of its affiliates) exercised voting control in favor of the
election of Mr. Carr as a director. On July 24, 1998, Mr. Carr resigned as
Chairman of the Board and, on July 31, 1998, Mr. Carr resigned as a director
of the Company. See "--Certain Stock Purchases by Telmex".
 
 Certain Stock Purchases by Telmex
 
  In August 1998, Telmex purchased 13,000,000 shares of Common Stock from Mr.
Carr for $2.00 per share for an aggregate purchase price of $26,000,000. If
Telmex, Carso Global Telecom, Prodigy or any of their affiliates purchases or
sells any Common Stock for more than $2.00 per share in a transaction
aggregating at least $500,000 on or before January 20, 1999 (a "Qualifying
Transaction"), Telmex will be required to pay to Mr. Carr an amount equal to
(i) 13,000,000 multiplied by (ii) the difference between $2.00 and the price
per share in the Qualifying Transaction, subject to a maximum additional
payment of $.40 per share. The Offering will be a Qualifying Transaction. Upon
the closing of the Offering (at an assumed initial public offering price of
$   per share), Telmex will be obligated to pay Mr. Carr $   pursuant to this
arrangement. Mr. Carr concurrently purchased 1,154,625 shares at the same
price from family members and certain other stockholders. Pending the
termination of the waiting period under the HSR Act applicable to Telmex's
purchase from Mr. Carr, Telmex loaned $26,000,000 to Mr. Carr. Such loan did
not bear interest and was secured by Mr. Carr's pledge to Telmex of 13,000,000
shares. In connection with this transaction, the Company granted Mr. Carr
piggyback registration rights entitling Mr. Carr to participate in any
registered public offering in which Carso Global Telecom and/or Telmex
proposes to sell shares. The registration rights agreement contains customary
underwriter cutback, indemnification and other provisions. Telmex and Carso
Global Telecom also granted Mr. Carr certain co-sale rights to participate in
subsequent sales by Telmex or Carso Global Telecom, which rights will expire
upon the closing of the Offering.
   
  In August 1998, Telmex purchased 150,000 shares of Common Stock from Paul W.
DeLacey for $2.00 per share for an aggregate purchase price of $300,000. Mr.
DeLacey served as President and Chief Executive Officer of the Company from
June 1996 until September 1997 and as a director of the Company from June 1996
until July 1998. Mr. DeLacey concurrently purchased 25,000 shares at the same
price from family members. Pending the termination of the waiting period under
the HSR Act applicable to Telmex's purchase from Mr. DeLacey, Telmex loaned
$300,000 to Mr. DeLacey. Such loan did not bear interest and was secured by
Mr. DeLacey's pledge to Telmex of 150,000 shares. In connection with this
transaction, Mr. DeLacey resigned as a director of the Company on July 24,
1998.     
   
  As a result of Telmex's purchases of an aggregate of 13,150,000 shares from
Messrs. Carr and DeLacey as described above, and its purchase of 24,500,000
shares from the Company as described below under "--Prior Equity Financings",
Telmex currently owns 20.9% of the Company's outstanding Common Stock. See
"Principal Stockholders". If the Company issues 26,500,000 shares of Common
Stock to Telmex to acquire Telmex's IDP subscribers, Telmex will own  % of the
Company's outstanding Common Stock upon the closing of the Offering (at an
assumed initial public offering price of $   per share). See "Business--
Products and Services--Spanish-Speaking and Hispanic Market".     
 
 
                                      74
<PAGE>
 
 Loans from Banco Inbursa
   
  Set forth below is a summary of certain loans previously made to the Company
by Banco Inbursa. All such loans have been repaid (with interest as
applicable) in cash or through conversion into Common Stock of the Company.
       
  In June 1996, Banco Inbursa agreed to provide the Company with a $50,000,000
revolving line of credit with an original maturity of June 13, 1997. In June
1996, the Company borrowed $48,000,000 in order to pay the cash portion of the
purchase price for the Prodigy Acquisition and related expenses and
subsequently borrowed the remaining $2,000,000. In March 1997, the Company
repaid $40,000,000 to Banco Inbursa. See "--Funding Agreement". In June 1997,
Banco Inbursa agreed to extend the line of credit for $10,000,000 until
January 31, 1998. Advances under the line of credit bore interest at the prime
rate plus one-half percentage point. Between February 1998 and July 1998,
Banco Inbursa made additional advances to the Company in the aggregate amount
of $22,100,000 to fund operations; such loans bore 9% interest and were due
December 31, 1999. In late July 1998, the Company repaid all $32,100,000 then
owed to Banco Inbursa. Banco Inbursa also made interim loans to the Company
pending the closing of certain equity financings, all of which loans have been
repaid. See "--Prior Equity Financings".     
 
  In June 1996, Carso Global Telecom and Mr. Carr pledged 7,000,000 shares and
10,000,000 shares of Common Stock, respectively, owned by them to secure
amounts outstanding under the Banco Inbursa line of credit. In connection with
the October 31, 1996 amendment of the Funding Agreement, Mr. Carr agreed to
continue his stock pledge until June 13, 1998 to secure a new line of credit
from a United States bank or other debt financing to replace the Banco Inbursa
line of credit. In October 1997, Mr. Carr agreed to pledge 7,500,000 shares of
Common Stock to secure advances of $3,750,000 from Banco Inbursa to the
Company until the closing of the Company's rights offering in December 1997.
All stock pledges of Carso Global Telecom and Mr. Carr were released in July
1998.
 
 Loans from Greg C. Carr
   
  Set forth below is a summary of certain loans previously made to the Company
by Mr. Carr. All such loans have been repaid (with interest as applicable) in
cash or through conversion into Common Stock of the Company.     
 
  In November and December 1996, Mr. Carr loaned $6,000,000 to the Company.
Such loans bore interest at the prime rate plus 1 1/4 percentage points and
were repaid with interest on January 2, 1997.
 
  From March 31, 1995 to May 15, 1995, Mr. Carr provided a revolving line of
credit of $1,250,000 to the Company. See "--Prior Corporate History--ACI
Merger". As of May 15, 1995, Mr. Carr converted the advances and accrued
interest then outstanding ($730,000 in total) into Common Stock at $2.50 per
share. From November 15, 1995 to June 12, 1996, Mr. Carr provided a revolving
line of credit of $4,500,000 to the Company. Effective as of March 31, 1996,
Mr. Carr converted $3,000,000 in advances into 1,000,000 shares of Common
Stock at $3.00 per share in connection with the November 1995 Placement
described below under "--Prior Equity Financings". Effective as of June 12,
1996, Mr. Carr converted the remaining $1,500,000 in advances into 500,000
shares of Common Stock at $3.00 per share. Advances under both facilities were
secured by all of the Company's assets, bore interest at a floating interest
rate based on the prime rate and were used to finance the Company's
operations. Upon establishment of the $4,500,000 facility, the Company paid
Mr. Carr a commitment fee equal to 1% of the total facility ($45,000) through
the issuance of 15,000 shares of Common Stock valued at $3.00 per share.
 
PRIOR EQUITY FINANCINGS
 
  In August 1998, Telmex purchased 24,500,000 shares of Common Stock from the
Company for $2.00 per share for aggregate gross proceeds of $49,000,000, and
in July 1998 Carso Global Telecom purchased 5,500,000 shares of Common Stock
from the Company for $2.00 per share for aggregate gross proceeds of
$11,000,000. Pending the termination of the applicable waiting period under
the HSR Act, Telmex's investment in the Company was represented by an
unsecured, interest-free loan to the Company.
 
                                      75
<PAGE>
 
   
  In November 1997, the Company made a rights offering in which each
stockholder of the Company was entitled to purchase one share of Common Stock
at a price of $1.00 per share for each one share held as of October 10, 1997.
The offering price was determined by the Company's Board of Directors to equal
the fair market value of the Common Stock at that time upon consideration of
certain analyses undertaken by a financial advisor as to the range within
which the purchase price would be fair to the Company from a financial point
of view and after consideration of other factors. On December 19, 1997, the
Company closed the rights offering by issuing an aggregate of 50,561,915
shares to 36 stockholders of the Company, including 49,543,822 shares to Carso
Global Telecom and 500,000 shares to Mr. Carr. Mr. Carr paid the purchase
price for his shares through the conversion of $500,000 of prior advances to
the Company without interest. In payment for its 49,543,822 shares, Carso
Global Telecom (i) was credited with $4,000,000 by reason of the issuance of
the IBM/Sears LC, (ii) paid $13,750,000 directly to Banco Inbursa on the
Company's behalf in repayment of $13,750,000 of indebtedness owed by the
Company to Banco Inbursa (see "--Loans from Banco Inbursa") and (iii) paid the
remaining $31,793,822 to the Company. Each calendar quarter, Carso Global
Telecom is required to pay the Company an amount equal to $333,333 less any
draws on the IBM/Sears LC during such quarter until the entire $4,000,000 has
been paid to the Company or drawn under the IBM/Sears LC. As of September 30,
1998, Carso Global Telecom had paid $1,000,000 pursuant to such commitment and
the IBM/Sears LC had been reduced to $3,000,000.     
   
  Between October 1996 and May 1997, the Company received aggregate gross
proceeds of $88,843,235 from the private placement (the "October 1996
Placement") of 29,614,412 shares of Common Stock for $3.00 per share. In the
October 1996 Placement, Carso Global Telecom and Mr. Carr invested $68,500,000
and $18,500,000, respectively, through exercises of the stock puts and the
financing commitments contained in the Funding Agreement, and Mr. Pillar
invested $30,000. See "--Funding Agreement". The Company granted a warrant to
purchase 68,056 shares of Common Stock for $3.00 per share, exercisable at any
time prior to December 13, 2001, to a placement agent in the October 1996
Placement, and paid a financial advisor cash fees totalling $150,000.     
 
  Pursuant to an agreement dated April 11, 1996, Carso Global Telecom
purchased 7,000,000 shares of Common Stock from the Company for $3.00 per
share (for aggregate gross proceeds of $21,000,000) on various dates between
March 1996 and September 1996.
   
  Between November 1995 and March 1996, the Company received aggregate gross
proceeds of $7,376,508 from the private placement (the "November 1995
Placement") of 2,458,836 shares of Common Stock for $3.00 per share. Mr. Carr
purchased 1,000,000 shares in the November 1995 Placement for $3,000,000 upon
the conversion of advances made by him to the Company under a line of credit.
See "--Loans from Greg C. Carr". The Company paid a placement agent in the
November 1995 Placement a cash fee of $50,000 and granted other placement
agents (i) a warrant to purchase 133,333 shares of Common Stock for $3.00 per
share, exercisable at any time prior to August 15, 2005, and (ii) a warrant to
purchase 44,380 shares of Common Stock for $3.00 per share, exercisable at any
time prior to March 1, 2001. The foregoing warrants are currently outstanding.
       
  Between May 1995 and November 1995, the Company received aggregate gross
proceeds of $3,081,250 from the private placement (the "May 1995 Placement")
of 1,232,500 shares of Common Stock for $2.50 per share. Mr. Carr purchased
400,000 shares in the May 1995 Placement for $1,000,000. The Company paid a
placement agent in the May 1995 Placement a cash fee of $77,438 and granted
other placement agents (i) a warrant to purchase 16,000 shares of Common Stock
for $2.50 per share, exercisable at any time prior to August 15, 2005, and
(ii) a warrant to purchase 7,840 shares of Common Stock for $2.50 per share,
exercisable at any time prior to March 1, 2001. The foregoing warrants are
currently outstanding.     
 
  Between October 1994 and February 1995, the Company received aggregate gross
proceeds of $907,456 from the private placement (the "October 1994 Placement")
of 453,728 shares of Series A Convertible Preferred Stock ("Series A Stock")
for $2.00 per share. On March 31, 1995, each share of Series A Stock was
reclassified and changed into 1.25 shares of Common Stock (for an aggregate of
567,160 shares of Common Stock), resulting
 
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<PAGE>
 
in an effective purchase price for the investors in the October 1994 Placement
of $1.60 per share of Common Stock. The rate at which Series A Stock was
exchanged for Common Stock was intended to compensate the holders of Series A
Stock for the value of the liquidation preference they relinquished upon the
reclassification of their shares into Common Stock.
   
  As a result of their purchases from the Company as described above, and
certain purchases from other stockholders of the Company, Carso Global Telecom
and Telmex currently own 65.2% and 20.9%, respectively, of the Company's
outstanding Common Stock. Upon the closing of the Offering (at an assumed
initial public offering price of $   per share), Carso Global Telecom will own
 % of the Company's outstanding Common Stock and Telmex will own  % of the
Company's outstanding Common Stock ( % if the Company issues 38,902,500 shares
of Common Stock to Telmex to acquire Telmex's IDP subscribers). See
"Dilution", "Business--Products and Services--Spanish-Speaking and Hispanic
Market" and "Principal Stockholders". As a result of certain sales to other
stockholders of the Company, including his sale of 13,000,000 shares to Telmex
in August 1998, Mr. Carr currently owns less than 5% of the Company's
outstanding Common Stock. See "--Certain Stock Purchases by Telmex".     
 
PRIOR CORPORATE HISTORY
 
 Comstar Transaction
 
  The Company's predecessor, IW, was formed in Delaware in May 1994 to develop
and operate cellular telephone systems in Africa. On August 10, 1994, IW
acquired all of the assets of Comstar Cellular Network, Inc. and assumed
Comstar's outstanding accounts payable. At the time of the acquisition,
Comstar's corporate records were incomplete and there had been an overissuance
of Comstar's common stock. Comstar also required an immediate cash infusion in
order to complete the activities required to convert the two provisional
communications licenses it held in Africa into definitive licenses. In
exchange for Comstar's assets, IW issued to Comstar all then outstanding
common stock of IW, which Comstar then distributed as a liquidating dividend
to the holders of certificates for common stock of Comstar. Each holder of a
certificate for common stock of Comstar was required to acknowledge and accept
the terms of the Comstar acquisition and release Comstar and IW from all
claims which such holder may have had against either Comstar or IW. The terms
of the Comstar acquisition were accepted by the holders of 98% of the
certificates for common stock of Comstar (representing 78% of the number of
shares covered by outstanding certificates for common stock of Comstar), and
an aggregate of 21,636,850 shares of IW common stock were issued to the former
holders of Comstar certificates. Three persons chose not to participate in the
Comstar acquisition and received no IW shares. See "Business--Legal
Proceedings". In March 1995, Comstar was dissolved under Nevada law. The
Company believes that the Comstar acquisition provided the holders of
certificates for common stock of Comstar with the opportunity to acquire
equity participation, without further investment, in a properly constituted
corporation without the corporate irregularities or claims of creditors faced
by Comstar and in substantially the same proportions as they would have had in
Comstar had their certificates been validly issued.
 
 ACI Merger
 
  On March 31, 1995, African Communications Incorporated ("ACI") was merged
with and into IW (the "ACI Merger"). Prior to the ACI Merger, IW and ACI had
jointly evaluated certain African markets and established IW's initial foreign
subsidiaries. ACI had no material assets or liabilities other than its equity
interests in the initial foreign subsidiaries and loans of approximately
$450,000 to IW and certain of its foreign subsidiaries. Immediately prior to
the ACI Merger, ACI assigned these loans to Mr. Carr (who was then ACI's sole
stockholder), and Mr. Carr agreed to make approximately $800,000 in additional
loans available to IW. See "--Loans from Greg C. Carr". In the ACI Merger, Mr.
Carr received 11,162,255 shares of common stock of IW, representing 33.8% of
the outstanding common stock immediately after the ACI Merger and 32.3% of the
then outstanding common stock on a fully-diluted basis. The terms of the ACI
Merger were negotiated to reflect the fact that the initial foreign
subsidiaries were owned by IW and ACI in a two-to-one ratio.
 
                                      77
<PAGE>
 
 Dispositions of Former International Operations
   
  On January 27, 1997, the Company sold IW to an acquisition corporation (the
"Cellular Buyer") formed by Terrance P. Dillon, a former director and
principal stockholder of the Company and IW. At the time of the sale, IW's
assets consisted of cellular communications licenses and license applications
in certain African countries and the associated rights and assets used in the
Company's cellular telephone operations. The original purchase price consisted
of (i) the surrender of 5,571,429 shares of Common Stock of the Company
(valued by the parties at $6.75 per share), (ii) a Promissory Note (the
"Cellular Note") in the original principal amount of $21,500,000 (including
$1,500,000 in reimbursement of capital expenditures made by the Company for
the benefit of IW) and (iii) the cancellation of options to purchase 500,000
shares of Common Stock of the Company. In October 1997, the Cellular Buyer
surrendered an additional 2,294,321 shares of Common Stock of the Company held
by the Cellular Buyer (valued by the parties at $3.00 per share) to reduce its
unpaid obligations under the Cellular Note and to satisfy unpaid
indemnification obligations owed to the Company. As of September 30, 1998,
$17,332,000 in principal amount and accrued interest was outstanding under the
Cellular Note. Due to uncertainties associated with the efforts of the
Cellular Buyer to obtain financing, the Cellular Note has been recorded in the
Company's accounts at a book value of zero.     
   
  On October 1, 1998, the Company sold Africa Online, Inc. ("AFOL"), an ISP
operating in various African countries, for $2,815,000 in cash, of which
$750,000 was placed in escrow for six months to secure the Company's
indemnification obligations to the buyer. In connection with the sale of AFOL,
96,920 shares of Common Stock of the Company were surrendered to the Company
(of which 68,720 shares were surrendered by a former employee and 28,200 were
returned to the Company out of the escrow established when the Company
acquired AFOL in November 1995).     
 
  The Company formerly participated in several joint ventures which offered
Internet, online, voice messaging and fax messaging services in China. In
March 1998, the Company terminated its Chinese joint ventures and operations.
See Note 5 to the Company's Consolidated Financial Statements.
 
                                      78
<PAGE>
 
                            PRINCIPAL STOCKHOLDERS
   
  The following table sets forth certain information regarding the beneficial
ownership of the Common Stock of the Company as of September 30, 1998 and as
adjusted to give effect to the Offering by (i) each person or entity known to
the Company to own beneficially more than 5% of the Company's Common Stock,
(ii) each of the directors of the Company, (iii) each of the Named Executive
Officers and (iv) all current executive officers and directors as a group. The
following table does not reflect the possible issuance of 26,500,000 shares of
Common Stock to Telmex in connection with the Company's proposed acquisition
of Telmex's IDP subscribers. See "Business -- Products and Services --
 Spanish-Speaking and Hispanic Market".     
 
<TABLE>   
<CAPTION>
                                                              SHARES TO BE
                                   SHARES BENEFICIALLY     BENEFICIALLY OWNED
                                    OWNED PRIOR TO THE         AFTER THE
                                       OFFERING(1)           OFFERING(1)(2)
                                  ---------------------- ----------------------
    NAME OF BENEFICIAL OWNER        NUMBER    PERCENTAGE   NUMBER    PERCENTAGE
    ------------------------      ----------- ---------- ----------- ----------
<S>                               <C>         <C>        <C>         <C>
Current Directors, Executive
 Officers and 5% Stockholders:
  Carso Global Telecom(3)........ 117,587,644    65.2%   117,587,644       %
  Telmex(4)......................  37,650,000    20.9     37,650,000
  Samer F. Salameh(5)(6).........     275,000       *        350,000      *
  Alfredo Sanchez(6).............         --        *            --       *
  Arturo Elias(6)................         --        *            --       *
  James M. Nakfoor(6)............      37,500       *         37,500      *
  Russell I. Pillar(7)...........     485,000       *        560,000      *
  David C. Trachtenberg..........         --        *            --       *
  David R. Henkel................         --        *            --       *
  James P. Dougherty(8)..........     175,000       *         75,000      *
  Andrea S. Hirsch...............         --        *            --       *
  James L'Heureux(9).............      50,000       *         50,000      *
  Carena M. Pooth(10)............      44,400       *         44,400      *
  All current executive officers
   and directors as a group (11
   persons)(6)(11)...............     966,900       *      1,116,900      *
Other 5% Stockholders:
  IBM(12)........................         --        *
  Sears(13)......................         --        *
Former Executive Officers:
  Paul W. DeLacey(14)............     100,000       *        100,000      *
  Inder S. Gopal(15).............      70,000       *         70,000      *
  Seth D. Radwell................         --        *            --       *
  Ernest L. Godshalk(16).........     161,000       *        161,000      *
  Gerard P. Mueller(17)..........     100,000       *        100,000      *
</TABLE>    
----------
*   Denotes ownership of less than 1%
   
 (1) Beneficial ownership is determined in accordance with the rules of the
     Securities and Exchange Commission, and is not necessarily indicative of
     beneficial ownership for any other purpose. Under such rules, beneficial
     ownership includes any shares as to which the individual or entity has
     sole or shared voting power or investment power and any shares as to
     which the individual or entity has the right to acquire within 60 days
     after September 30, 1998 through the exercise of any stock option,
     warrant or other right (but such shares are not deemed outstanding for
     purposes of calculating the percentage ownership of any other person).
     The inclusion herein of any such shares, however, does not constitute an
     admission that the named stockholder is a direct or indirect beneficial
     owner of such shares. Unless otherwise indicated, each person or entity
     named in the table has sole voting power and investment power (or, in the
     case of individuals, shares such power with his or her spouse) with
     respect to all shares of capital stock listed as owned by such person or
     entity.     
 (2) Shares to be beneficially owned after the Offering give pro forma effect
     to the Offering and the issuance to IBM and Sears of an aggregate of
     shares upon the closing of the Offering (at an assumed initial
 
                                      79
<PAGE>
 
    public offering price of $   per share) pursuant to the conversion of the
    Contingent Notes held by them. See "Corporate History and Certain
    Transactions--Acquisition of Prodigy Services Company" and Notes 1, 4 and
    9 to the Company's Consolidated Financial Statements.
   
 (3) Excludes the listed shares held by Telmex. Carso Global Telecom may be
     deemed to control Telmex though the regular-voting shares of Telmex that
     it owns directly and its interest in a trust which owns a majority of
     Telmex's outstanding regular-voting shares. In June 1996, Carso Global
     Telecom was spun-off from Grupo Carso, S.A. de C.V. ("Grupo Carso"), a
     Mexican holding company with interests in the tobacco, mining,
     metallurgical and paper industries, in the operation of restaurants and
     department stores and in the production of copper, copper alloys, copper
     cable, aluminum wire and tires. Mr. Carlos Slim Helu, a Mexican citizen,
     and certain members of his immediate family, beneficially own a majority
     of the outstanding voting equity securities of Carso Global Telecom.
     Thus, Mr. Slim and members of his immediate family may be deemed to
     control Carso Global Telecom, Telmex and the Company. See "Risk Factors--
     Control of the Company and Potential Conflicts of Interest". As used
     herein with respect to the Company, all references to Carso Global
     Telecom mean and include Grupo Carso prior to the date Carso Global
     Telecom was spun-off from Grupo Carso. The business address of Carso
     Global Telecom and Mr. Slim is Paseo de las Palmas, #736, Col. Lomas de
     Chapultepec, Mexico City, Mexico 11000.     
   
 (4) The listed shares are held by Sercotel, S.A. de C.V., a wholly-owned
     subsidiary of Telmex. Telmex's business address is Parque Via 190,
     Oficina 1016, Colonia Cuauhtemoc, Mexico City, Mexico 06599. See footnote
     (3). If the Company issues 26,500,000 shares of Common Stock to Telmex to
     acquire Telmex's IDP subscribers, Telmex will own  % of the Company's
     outstanding Common Stock upon the closing of the Offering (at an assumed
     initial public offering price of $   per share). See "Business --
      Products and Services -- Spanish-Speaking and Hispanic Market".     
   
 (5) Consists of 275,000 shares of Common Stock subject to outstanding stock
     options that are exercisable within 60 days after September 30, 1998 and,
     upon closing of the Offering, 75,000 additional shares of Common Stock
     subject to stock options that will become exercisable upon the closing of
     the Offering.     
   
 (6) Excludes the listed shares held by Carso Global Telecom and Telmex. See
     "Management".     
   
 (7) Pre-Offering figures include 275,000 shares of Common Stock subject to
     outstanding stock options that are exercisable within 60 days after
     September 30, 1998. Post-Offering figures include 75,000 additional
     shares of Common Stock subject to stock options that will become
     exercisable upon the closing of the Offering.     
   
 (8) Consists of 175,000 shares of Common Stock subject to outstanding stock
     options that are exercisable within 60 days after September 30, 1998.
            
 (9) Consists of 50,000 shares of Common Stock subject to outstanding stock
     options that are exercisable within 60 days after September 30, 1998.
            
(10) Consists of 44,400 shares of Common Stock subject to outstanding stock
     options that are exercisable within 60 days after September 30, 1998.
            
(11) Pre-Offering figures include an aggregate of 500,000 shares of Common
     Stock subject to outstanding stock options that are exercisable within 60
     days after September 30, 1998. Post-Offering figures include 150,000
     additional shares of Common Stock subject to stock options that will
     become exercisable upon the closing of the Offering.     
   
(12) Upon the closing of the Offering (at an assumed initial public offering
     price of $   per share), consists of (i)   shares issued to IBM pursuant
     to the conversion of the Contingent Note held by IBM and (ii) shares of
     Common Stock (   shares if the Underwriters' over-allotment option is
     exercised in full) issuable to IBM upon exercise of the Contingent
     Warrant held by it. See "Corporate History and Certain Transaction--
     Acquisition of Prodigy Services Company". IBM's business address is New
     Orchard Road, Armonk, New York 10504.     
   
(13) Upon the closing of the Offering (at an assumed initial public offering
     price of $   per share), consists of (i)   shares issued to Sears
     pursuant to the conversion of the Contingent Note held by Sears and (ii)
     shares of Common Stock (   shares if the Underwriters' over-allotment
     option is exercised in full) issuable to Sears upon exercise of the
     Contingent Warrant held by it. See "Corporate History and Certain
     Transaction--Acquisition of Prodigy Services Company". Sears' business
     address is 3333 Beverly Road, Hoffman Estates, Illinois 60179.     
   
(14) Consists of 100,000 shares of Common Stock subject to outstanding stock
     options that are exercisable within 60 days after September 30, 1998.
            
(15) Consists of 70,000 shares of Common Stock subject to outstanding stock
     options that are exercisable within 60 days after September 30, 1998.
            
(16) Includes 121,000 shares of Common Stock subject to outstanding stock
     options that are exercisable within 60 days after September 30, 1998.
            
(17) Consists of 100,000 shares of Common Stock subject to outstanding stock
     options that are exercisable within 60 days after September 30, 1998.
         
                                      80
<PAGE>
 
                         DESCRIPTION OF CAPITAL STOCK
   
  Upon the closing of the Offering, the authorized capital stock of the
Company will consist of    shares of Common Stock, $.01 par value per share,
and     shares of Preferred Stock, $.01 par value per share. As of September
30, 1998, there were outstanding (i) 180,229,666 shares of Common Stock held
by 395 stockholders of record, (ii) options to purchase an aggregate of
8,708,769 shares of Common Stock at a weighted-average exercise price of $1.41
per share, (iii) warrants to purchase an aggregate of 437,389 shares of Common
Stock at a weighted-average exercise price of $2.75 per share and (iv) the
Contingent Notes and Contingent Warrants held by IBM and Sears. Subsequent to
September 30, 1998, the Company granted warrants to purchase an aggregate of
52,220 shares at a weighted-average exercise price of $2.92 per share and
options to purchase an aggregate of 515,000 shares at an exercise price of
$2.00 per share. Upon the closing of the Offering (at an assumed initial
public offering price of $   per share), (i) there will be outstanding
shares of Common Stock, after giving effect to the conversion of the
Contingent Notes held by IBM and Sears into an aggregate of     shares of
Common Stock, and (ii) the Contingent Warrants will be exercisable for an
aggregate of    shares of Common Stock (  shares if the Underwriters' over-
allotment option is exercised in full) at an exercise price of $   per share
(subject to customary anti-dilution adjustments) at any time prior to the
third anniversary of the Closing. See "Management--Stock Plans" and "Corporate
History and Certain Transactions--Acquisition of Prodigy Services Company".
    
  The following summary of certain provisions of the Company's Common Stock,
Preferred Stock, Certificate of Incorporation and By-laws, as in effect upon
the closing of the Offering, is not intended to be complete and is qualified
by reference to the provisions of applicable law and to the Company's
Certificate of Incorporation and By-laws included as exhibits to the
Registration Statement of which this Prospectus is a part. See "Additional
Information".
 
COMMON STOCK
 
  Holders of Common Stock are entitled to one vote for each share held on all
matters submitted to a vote of stockholders and do not have cumulative voting
rights. Accordingly, holders of a majority of the shares of Common Stock
entitled to vote in any election of directors may elect all of the directors
standing for election. Holders of Common Stock are entitled to receive ratably
such dividends, if any, as may be declared by the Board of Directors out of
funds legally available therefor, subject to any preferential dividend rights
of outstanding Preferred Stock. Upon the liquidation, dissolution or winding
up of the Company, the holders of Common Stock are entitled to receive ratably
the net assets of the Company available after the payment of all debts and
other liabilities and subject to the prior rights of any outstanding Preferred
Stock. Holders of Common Stock have no preemptive, subscription, redemption or
conversion rights. The outstanding shares of Common Stock are, and the shares
offered in the Offering will be, when issued and paid for, fully paid and
nonassessable. The rights, preferences and privileges of holders of Common
Stock are subject to, and may be adversely affected by, the rights of the
holders of shares of any series of Preferred Stock which the Company may
designate and issue in the future. Upon the closing of the Offering, certain
holders of Common Stock have the right to require the Company to effect the
registration of their shares of Common Stock in certain circumstances. See
"Shares Eligible for Future Sale--Registration Rights".
 
PREFERRED STOCK
 
  The Board of Directors is authorized, without any further action by the
Company's stockholders, to designate and issue shares of Preferred Stock in
one or more series and to fix the rights and preferences thereof, including
the voting, dividend, conversion, redemption and liquidation rights and
preferences. The issuance of Preferred Stock, while providing desirable
flexibility in connection with possible financings, acquisitions and other
corporate purposes, could adversely affect the rights of the holders of Common
Stock and, under certain circumstances, be used as a means of discouraging,
delaying or preventing a change of control or acquisition of the Company. The
Company has no present plans to issue any Preferred Stock.
 
                                      81
<PAGE>
 
DELAWARE ANTI-TAKEOVER STATUTE
 
  Section 203 of the Delaware General Corporation Law ("DGCL") is applicable
to publicly-held corporations organized under the laws of Delaware, including
the Company. Subject to certain exceptions set forth therein, Section 203 of
the DGCL provides that a corporation shall not engage in any business
combination with any "interested stockholder" for a three-year period
following the date that such stockholder becomes an interested stockholder
unless (a) prior to such date, the board of directors of the corporation
approved either the business combination or the transaction which resulted in
the stockholder becoming an interested stockholder, (b) upon consummation of
the transaction which resulted in the stockholder becoming an interested
stockholder, the interested stockholder owned at least 85% of the voting stock
of the corporation outstanding at the time the transaction commenced
(excluding certain shares) or (c) on or subsequent to such date, the business
combination is approved by the board of directors of the corporation and by
the affirmative vote of at least two-thirds of the outstanding voting stock
which is not owned by the interested stockholder. Except as specified therein,
an interested stockholder is defined to mean any person that (i) is the owner
of 15% or more of the outstanding voting stock of the corporation, or (ii) is
an affiliate or associate of the corporation and was the owner of 15% or more
of the outstanding voting stock of the corporation at anytime within three
years immediately prior to the relevant date and the affiliates and associates
of such person referred to in (i) or (ii) of this sentence. Under certain
circumstances, Section 203 of the DGCL makes it more difficult for an
interested stockholder to effect various business combinations with a
corporation for a three-year period, although the stockholders may, by
adopting an amendment to the corporation's certificate of incorporation or by-
laws, elect not to be governed by this section, effective twelve months after
adoption. The Company's Certificate of Incorporation and By-laws do not
exclude the Company from the restrictions imposed under Section 203 of the
DGCL.
 
LIMITATION ON LIABILITY AND INDEMNIFICATION OF DIRECTORS
 
  The Certificate of Incorporation contains certain provisions permitted under
the DGCL relating to the liability of directors. The provisions eliminate a
director's liability for monetary damages for a breach of fiduciary duty,
except in certain circumstances involving wrongful acts, such as the breach of
a director's duty of loyalty or acts or omissions which involve intentional
misconduct or a knowing violation of law. Further, the Certificate of
Incorporation contains provisions to indemnify the Company's directors and
officers to the fullest extent permitted by the DGCL. The Company believes
that these provisions will assist the Company in attracting and retaining
qualified individuals to serve as directors.
 
TRANSFER AGENT AND REGISTRAR
 
  The transfer agent and registrar for the Common Stock is American Stock
Transfer & Trust Company.
 
                                      82
<PAGE>
 
                        SHARES ELIGIBLE FOR FUTURE SALE
   
  Prior to the Offering, there has been no public market for the securities of
the Company. Upon completion of the Offering, based upon the number of shares
outstanding on the date of this Prospectus and after giving pro forma effect
to the conversion upon the closing of the Offering (at an assumed initial
public offering price of $   per share) of the Contingent Notes held by IBM
and Sears into an aggregate of    shares of Common Stock, there will be
shares of Common Stock of the Company outstanding (assuming no exercise of the
Underwriters' over-allotment option or outstanding warrants or options of the
Company). Of these shares, the    shares sold in the Offering will be freely
tradeable without restriction or further registration under the Securities
Act, except that any shares purchased by "affiliates" of the Company, as that
term is defined in Rule 144 ("Rule 144") under the Securities Act
("Affiliates"), may generally only be sold in compliance with the limitations
of Rule 144 described below.     
 
SALES OF RESTRICTED SHARES
   
  The remaining    shares of Common Stock are deemed "restricted securities"
under Rule 144. Of the restricted securities, approximately    shares of
Common Stock, which are not subject to the 180-day lock-up agreements (the
"Lock-up Agreements") with the Representatives of the Underwriters, will be
eligible for immediate sale in the public market pursuant to Rule 144(k) under
the Securities Act. Approximately    additional shares of Common Stock, which
are not subject to Lock-up Agreements, will be eligible for sale in the public
market in accordance with Rule 144 or Rule 701 under the Securities Act
beginning 90 days after the date of this Prospectus. Upon expiration of the
Lock-up Agreements 180 days after the date of this Prospectus, approximately
   additional shares of Common Stock will be available for sale in the public
market, subject to the provisions of Rule 144 under the Securities Act.     
   
  The Company and certain stockholders of the Company (including Carso Global
Telecom, Telmex, IBM, Sears and all directors and executive officers of the
Company) who will hold, upon consummation of the Offering at an assumed
initial public offering price of $   per share, an aggregate of approximately
   shares of Common Stock, have agreed, pursuant to the Lock-up Agreements,
not to sell, offer or agree to sell, grant any option for the sale of, pledge,
make any short sale, establish an open "put equivalent position" or otherwise
dispose of or enter into any transaction or arrangement that transfers the
economic consequences of ownership of Common Stock, for 180 days after the
date of this Prospectus without the prior written consent of Bear, Stearns &
Co. Inc. except, in the case of the Company, for the shares of Common Stock to
be issued in connection with the Offering or pursuant to employee benefit
plans existing on the date of this Prospectus and, in the case of the
executive officers, directors and existing stockholders, certain permitted
transfers to related parties that agree to be bound by the foregoing
restrictions and certain permitted sales of shares acquired in the open market
following the completion of the Offering.     
 
  In general, under Rule 144 as currently in effect, beginning 90 days after
the effective date of the Registration Statement of which this Prospectus is a
part, a stockholder, including an Affiliate, who has beneficially owned his or
her restricted securities (as that term is defined in Rule 144) for at least
one year from the later of the date such securities were acquired from the
Company or (if applicable) the date they were acquired from an Affiliate is
entitled to sell, within any three-month period, a number of such shares that
does not exceed the greater of 1% of the then outstanding shares of Common
Stock (approximately     shares immediately after the Offering) or the average
weekly trading volume in the Common Stock during the four calendar weeks
preceding the date on which notice of such sale was filed under Rule 144,
provided certain requirements concerning availability of public information,
manner of sale and notice of sale are satisfied. In addition, under Rule
144(k), if a period of at least two years has elapsed between the later of the
date restricted securities were acquired from the Company or (if applicable)
the date they were acquired from an Affiliate of the Company, a stockholder
who is not an Affiliate of the Company at the time of sale and has not been an
Affiliate of the Company for at least three months prior to the sale is
entitled to sell the shares immediately without compliance with the foregoing
requirements under Rule 144.
 
 
                                      83
<PAGE>
 
  Securities issued in reliance on Rule 701 (such as shares of Common Stock
acquired pursuant to the exercise of certain options granted under the
Company's stock plans) are also restricted securities and, beginning 90 days
after the effective date of the Registration Statement of which this
Prospectus is a part, may be sold by stockholders other than Affiliates of the
Company subject only to the manner of sale provisions of Rule 144 and by
Affiliates under Rule 144 without compliance with its one-year holding period
requirement.
 
OPTIONS
 
  The Company intends to file registration statements on Form S-8 under the
Securities Act to register all shares of Common Stock issuable under the
Option Plan and the Purchase Plan. The Company intends to file registration
statements on Form S-8 with respect to the shares of Common Stock issuable
under the Option Plan and the Purchase Plan as early as the day of the
consummation of the Offering. Shares issued upon the exercise of stock options
after the effective date of the Form S-8 registration statements will be
eligible for resale in the public market without restriction, subject to Rule
144 limitations applicable to Affiliates and the Lock-Up Agreements noted
above, if applicable.
 
REGISTRATION RIGHTS
   
  In connection with the Company's acquisition of PSC from IBM and Sears in
June 1996, the Company issued to IBM and Sears the Contingent Notes and
Contingent Warrants. IBM and Sears hold customary piggyback and demand
registration rights, at Prodigy's expense, with respect to the Common Stock
issuable upon conversion of the Contingent Notes and exercise of the
Contingent Warrants. See "Corporate History and Certain Transactions--
Acquisition of Prodigy Services Company". Upon the closing of the Offering (at
an assumed initial public offering price of $   per share), IBM and Sears will
each (i) receive    shares of Common Stock pursuant to the conversion of its
Contingent Note and (ii) hold a Contingent Warrant to purchase shares (
shares if the Underwriters' over-allotment option is exercised in full) of
Common Stock for $   per share (subject to customary anti-dilution
adjustments) at any time prior to the third anniversary of the Offering. In
addition, Greg C. Carr holds piggyback registration rights with respect to
shares of Common Stock held by him. See "Corporate History and Certain
Transactions--Certain Transactions Involving Carso Global Telecom, Telmex and
Greg C. Carr--Certain Stock Purchases by Telmex".     
 
EFFECT OF SALES OF SHARES
 
  Prior to the Offering, there has been no public market for the Common Stock,
and no prediction can be made as to the effect, if any, that market sales of
shares of Common Stock or the availability of shares for sale will have on the
market price of the Common Stock prevailing from time to time. Nevertheless,
sales of significant numbers of shares of the Common Stock in the public
market could adversely affect the market price of the Common Stock and could
impair the Company's future ability to raise capital through an offering of
its equity securities.
 
                                      84
<PAGE>
 
                                 UNDERWRITING
 
  Subject to the terms and conditions of the Underwriting Agreement, the
underwriters named below (the "Underwriters"), for whom Bear, Stearns & Co.
Inc., BancBoston Robertson Stephens Inc., ING Baring Furman Selz LLC and Volpe
Brown Whelan & Company, LLC are acting as representatives (the
"Representatives") and Wit Capital Corporation is facilitating online
distribution ("e-Manager"), have severally agreed to purchase from the Company
the following respective number of shares of Common Stock at the initial
public offering price less underwriting discounts and commissions set forth on
the cover page of this Prospectus:
 
<TABLE>
<CAPTION>
                                                                       NUMBER
           UNDERWRITER                                                OF SHARES
           -----------                                                ---------
<S>                                                                   <C>
Bear, Stearns & Co. Inc. ............................................
BancBoston Robertson Stephens Inc. ..................................
ING Baring Furman Selz LLC...........................................
Volpe Brown Whelan & Company, LLC....................................
                                                                        ----
</TABLE>
 
<TABLE>
<S>                                                                         <C>
    Total..................................................................
                                                                            ====
</TABLE>
 
  The Underwriting Agreement provides that the obligations of the Underwriters
are subject to certain conditions precedent and that the Underwriters will
purchase all of the shares of Common Stock offered hereby if any of such
shares are purchased.
 
  The Company has been advised by the Representatives that the Underwriters
propose to offer the shares of Common Stock to the public at the initial
public offering price set forth on the cover page of this Prospectus and to
certain dealers at such price less a concession not in excess of $   per
share. The Underwriters may allow, and such dealers may re-allow, a concession
to certain other dealers not in excess of $   per share. After commencement of
the initial public offering, the offering price and other selling terms may be
changed by the Representatives.
 
  The Company has granted the Underwriters an option, exercisable not later
than 30 days after the date of this Prospectus, to purchase up to
additional shares of Common Stock at the initial public offering price less
the underwriting discounts and commissions set forth on the cover page of this
Prospectus. To the extent that the Underwriters exercise this option, each
Underwriter will have a firm commitment, subject to certain conditions, to
purchase approximately the same percentage thereof which the number of shares
of Common Stock to be purchased by it in the above table bears to the
shares of Common Stock initially offered hereby and the Company will be
obligated, pursuant to the option, to sell such shares to the Underwriters.
The Underwriters may exercise such option only to cover over-allotments made
in connection with the sale of the Common Stock offered hereby. If purchased,
the Underwriters will offer such additional shares on the same terms as those
on which the    shares are being offered.
 
  The Underwriting Agreement contains covenants of indemnity and contribution
between the Underwriters and the Company regarding certain liabilities,
including liabilities under the Securities Act.
 
  To facilitate the Offering of the Common Stock, the Underwriters may engage
in transactions that stabilize, maintain or otherwise affect the market price
of the Common Stock. Specifically, the Underwriters may over-allot shares of
the Common Stock in connection with this Offering, thereby creating a short
position in the Underwriters' syndicate account. Additionally, to cover such
over-allotments or to stabilize the market price of the Common Stock, the
Underwriters may bid for, and purchase, shares of the Common Stock in the open
 
                                      85
<PAGE>
 
market. Any of these activities may maintain the market price of the Common
Stock at a level above that which might otherwise prevail in the open market.
The Underwriters are not required to engage in these activities, and, if
commenced, any such activities may be discontinued at any time. The
Representatives, on behalf of the Underwriters, also may reclaim selling
concessions allowed to an Underwriter or dealer, if the syndicate repurchases
shares distributed by that Underwriter or dealer.
 
  The Underwriters have reserved for sale at the initial public offering price
up to    shares of Common Stock for sale to certain directors, officers and
employees, friends and family of the Company who have expressed an interest in
purchasing such shares of Common Stock in the Offering. Such persons are
expected to purchase, in the aggregate, not more than  % of the Common Stock
offered in the Offering. The number of shares available for sale to the
general public in the Offering will be reduced to the extent such persons
purchase such reserved shares. Any reserved shares not so purchased will be
offered to the general public on the same basis as other shares offered
hereby.
       
  The Underwriters have informed the Company that they do not expect to
confirm sales to any accounts over which they exercise discretionary
authority.
   
  The Company and certain stockholders of the Company (including Carso Global
Telecom, Telmex, IBM, Sears and all directors and executive officers of the
Company) who will hold, upon consummation of the Offering at an assumed
initial public offering price of $   per share, an aggregate of approximately
   shares of Common Stock, have agreed, pursuant to the Lock-up Agreements,
not to sell, offer or agree to sell, grant any option for the sale of, pledge,
make any short sale, establish an open "put equivalent position" or otherwise
dispose of or enter into any transaction or arrangement that transfers the
economic consequences of ownership of Common Stock, for 180 days after the
date of this Prospectus without the prior written consent of Bear, Stearns &
Co. Inc. except, in the case of the Company, for the shares of Common Stock to
be issued in connection with the Offering or pursuant to employee benefit
plans existing on the date of this Prospectus and, in the case of the
executive officers, directors and existing stockholders, for the shares of
Common Stock sold in connection with the Offering (if any), sales or
dispositions to the Company, certain permitted transfers to related parties
that agree to be bound by the foregoing restrictions and certain permitted
sales of shares acquired in the open market following the completion of the
Offering.     
 
  ING Baring Furman Selz LLC acted as the Company's financial advisor in the
Prodigy Acquisition and was paid a fee of $750,000. The Company also agreed
that if it undertook an initial public offering prior to June 17, 1998, ING
Baring Furman Selz LLC would be permitted to act as a co-manager of such
offering and receive per-share compensation no less favorable than the per-
share compensation paid to other underwriters of the offering. The selection
of ING Baring Furman Selz LLC as one of the Representatives in the Offering
was not made pursuant to these arrangements. See "Corporate History and
Certain Transactions--Acquisition of Prodigy Services Company".
 
  Wit Capital Corporation acted as financial advisor in connection with the
Company's issuance of 5,500,000 shares of Common Stock to Carso Global Telecom
in July 1998 and 24,500,000 shares of Common Stock to Telmex in August 1998
and was paid a fee of $50,000. See "Corporate History and Certain
Transactions--Prior Equity Financings".
 
  Prior to this Offering, there was no public market for the Common Stock.
Consequently, the initial public offering price for the Common Stock was
determined by negotiations between the Company and the Representatives. Among
the factors considered in such negotiations were the history of, and the
prospects for, the Company's business and the industry in which it competes,
an assessment of the Company's management, the Company's past and present
operations and financial results, the prospects for earnings of the Company,
the present state of the Company's development, the general condition of the
securities markets at the time of the Offering and the price-earnings ratios
and market prices of securities of comparable companies at the time of the
Offering. There can be no assurance that an active trading market will develop
for the Common Stock or that the Common Stock will trade in the public market
subsequent to the Offering at or above the initial public offering price.
 
                                      86
<PAGE>
 
                                 LEGAL MATTERS
 
  The validity of the shares of Common Stock offered hereby will be passed
upon for the Company by Hale and Dorr LLP, Boston, Massachusetts. A partner of
Hale and Dorr LLP owns 30,000 shares of the Company's Common Stock. Certain
legal matters relating to the Offering will be passed upon for the
Underwriters by O'Sullivan Graev & Karabell, LLP, New York, New York.
 
                                    EXPERTS
 
  The consolidated financial statements of Prodigy Services Company for the
year ended December 31, 1995 and the five and one-half month period ended June
16, 1996 and the consolidated financial statements of Prodigy Communications
Corporation as of December 31, 1996 and 1997 and for each of the two years in
the period ended December 31, 1997, included in this Prospectus, have been so
included in reliance of the report of PricewaterhouseCoopers LLP, independent
accountants, given on the authority of said firm as experts in auditing and
accounting.
   
  On August 29, 1996, the Company appointed Coopers & Lybrand L.L.P. (a
predecessor to PricewaterhouseCoopers LLP) as independent auditors commencing
with the fiscal year ending December 31, 1996. The decision to appoint Coopers
& Lybrand L.L.P. as independent auditors for the Company was approved by the
Company's Board of Directors. Coopers & Lybrand L.L.P. had been the
independent auditors of Prodigy Services Company prior to the Prodigy
Acquisition. As a result of the Prodigy Acquisition, the former assets and
operations of Prodigy Services Company constituted the overwhelming majority
of the Company's assets and operations, and Coopers & Lybrand L.L.P. was
selected as the Company's independent auditors because of the familiarity of
Coopers & Lybrand L.L.P. with the financial statements and history of Prodigy
Services Company.     
   
  Coopers & Lybrand L.L.P. replaced the firm of Deloitte & Touche LLP, whose
engagement was terminated effective August 29, 1996. The report of Deloitte &
Touche LLP dated June 17, 1996 on the consolidated financial statements of
International Wireless Incorporated as of and for the periods ended December
31, 1994 and December 31, 1995 (the "Deloitte Report") did not contain an
adverse opinion or a disclaimer of opinion, nor was the Deloitte Report
qualified or modified as to uncertainty, audit scope or accounting principles.
During the period from inception of the Company's predecessor, International
Wireless Incorporated, in May 1994 through August 29, 1996, (i) there were no
disagreements with Deloitte & Touche LLP on any matter of accounting
principles or practices, financial statement disclosure or auditing scope or
procedure, which disagreements, if not resolved to the satisfaction of
Deloitte & Touche LLP, would have caused it to make a reference to the subject
matter of the disagreement in connection with the Deloitte Report, and (ii)
the Company did not consult Coopers & Lybrand L.L.P. regarding (a) the
application of accounting principles to a specified transaction, either
completed or proposed, (b) the type of audit opinion that might be rendered on
the Company's financial statements or (c) items which concerned the subject
matter of any disagreement with Deloitte & Touche LLP or reportable events as
described in subparagraph (a)(1)(v) of Item 304 of Regulation S-K under the
Exchange Act.     
   
  As a result of the audit work in relation to the Deloitte Report, Deloitte &
Touche LLP communicated certain matters and recommendations to the management
of International Wireless Incorporated concerning implementation of internal
financial controls, including the need to further develop and document formal
policies and procedures and develop integrated financial reporting systems.
These matters were discussed with the Board of Directors of International
Wireless Incorporated. The Company believes that the plans of its management
satisfactorily address the recommendations of Deloitte & Touche LLP.     
 
                                      87
<PAGE>
 
                            ADDITIONAL INFORMATION
   
  The Company has filed with the Securities and Exchange Commission (the
"Commission") a Registration Statement (which term shall include all
amendments, exhibits, schedules and supplements thereto) on Form S-1 under the
Securities Act with respect to the shares of Common Stock offered hereby. This
Prospectus, which constitutes a part of the Registration Statement, does not
contain all of the information set forth in the Registration Statement,
certain parts of which are omitted in accordance with the rules and
regulations of the Commission, to which Registration Statement reference is
hereby made. Statements made in this Prospectus as to the contents of any
contract, agreement or other document referred to are not necessarily
complete. With respect to each such contract, agreement or other document
filed as an exhibit to the Registration Statement, reference is made to the
exhibit for a more complete description of the matter involved, and each such
statement shall be deemed qualified in its entirety by such reference. The
Registration Statement and the exhibits thereto may be inspected and copied at
prescribed rates at the public reference facilities maintained by the
Commission at the Public Reference Room, Judiciary Plaza, 450 Fifth Street,
N.W., Washington, D.C. 20549. The public may obtain information on the
operation of the Public Reference Room by calling the Commission at 1-800-SEC-
0330. In addition, the Company is required to file electronic versions to
these documents with the Commission through the Commission's Electronic Data
Gathering, Analysis, and Retrieval (EDGAR) system. The Commission maintains a
Web site at http://www.sec.gov that contains reports, proxy and information
statements and other information regarding registrants that file
electronically with the Commission.     
 
  The Company intends to distribute to its stockholders annual reports
containing audited consolidated financial statements. The Company also intends
to make available to its stockholders, within 45 days after the end of each
fiscal quarter, reports for the first three quarters of each fiscal year
containing interim unaudited financial information.
 
                                      88
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
                  INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
 
<TABLE>   
<CAPTION>
                                                                            PAGE
                                                                            ----
<S>                                                                         <C>
PRODIGY COMMUNICATIONS CORPORATION
Report of Independent Accountants.........................................   F-2
Consolidated Balance Sheets as of December 31, 1996 and 1997
 and September 30, 1998 (unaudited).......................................   F-3
Consolidated Statements of Operations for the years ended December 31,
 1996
 and 1997 and for the nine months ended September 30, 1997 and 1998
 (unaudited)..............................................................   F-4
Consolidated Statements of Stockholders' Equity (Deficit) for the
 years ended December 31, 1996 and 1997 and for the nine months ended
 September 30, 1998 (unaudited)...........................................   F-5
Consolidated Statements of Cash Flows for the years ended December 31,
 1996
 and 1997 and for the nine months ended September 30, 1997 and 1998
 (unaudited)..............................................................   F-6
Notes to Consolidated Financial Statements................................   F-7
PRODIGY SERVICES COMPANY
Report of Independent Accountants.........................................  F-24
Consolidated Statements of Operations for the year ended December 31, 1995
 and the five and one-half month period ended June 16, 1996...............  F-25
Consolidated Statements of Cash Flows for the year ended December 31, 1995
 and the five and one-half month period ended June 16, 1996...............  F-26
Notes to Consolidated Financial Statements................................  F-27
 
  Although required by Regulation S-X under the Exchange Act, audited
financial statements for International Wireless Incorporated have not been
presented in this Prospectus. The Company does not believe that the
consolidated financial statements of International Wireless Incorporated are
meaningful, as the results of operations and assets of the entities were
minimal for all periods prior to the acquisition of Prodigy Services Company
(see Note 1 of Notes to Consolidated Financial Statements of International
Wireless Incorporated), and the related operations have been disposed of.
However, unaudited financial statements have been included as additional
disclosure.
 
  Audited financial statements for Prodigy Services Company have been
presented in this Prospectus, as Prodigy Services Company is considered to be
the predecessor business to Prodigy Communications Corporation.
 
INTERNATIONAL WIRELESS INCORPORATED AND SUBSIDIARIES
Unaudited Consolidated Balance Sheets as of December 31, 1994 and 1995....  F-32
Unaudited Consolidated Statements of Operations for the period from May
 23, 1994
 (Date of Inception) to December 31, 1994 and the year ended December 31,
 1995.....................................................................  F-33
Unaudited Consolidated Statements of Stockholders' Equity (Deficiency) for
 the period from
 May 23, 1994 (Date of Inception) to December 31, 1994 and the year ended
 December 31, 1995........................................................  F-34
Unaudited Consolidated Statements of Cash Flows for the period from May
 23, 1994
 (Date of Inception) to December 31, 1994 and the year ended December 31,
 1995.....................................................................  F-35
Unaudited Notes to Consolidated Financial Statements......................  F-36
</TABLE>    
 
                                      F-1
<PAGE>
 
                       REPORT OF INDEPENDENT ACCOUNTANTS
 
To the Board of Directors and Shareholders of
Prodigy Communications Corporation:
 
  In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations and stockholders' equity (deficit) and
of cash flows present fairly, in all material respects, the financial position
of Prodigy Communications Corporation (formerly Prodigy, Inc.) and its
subsidiaries at December 31, 1996 and 1997, and the results of their
operations and their cash flows for each of the two years in the period ended
December 31, 1997, in conformity with generally accepted accounting
principles. These financial statements are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits of these statements in
accordance with generally accepted auditing standards which require that we
plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements, assessing the accounting principles used and
significant estimates made by management, and evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for the opinion expressed above.
 
/s/ PricewaterhouseCoopers LLP
       
Boston, Massachusetts
April 30, 1998, except as to
the information presented under
Additional Financing in Notes 8 and 11
for which the date is September 21, 1998
 
                                      F-2
<PAGE>
 
                       PRODIGY COMMUNICATIONS CORPORATION
 
                          CONSOLIDATED BALANCE SHEETS
 
<TABLE>   
<CAPTION>
                                                DECEMBER 31,      SEPTEMBER 30,
                                              ------------------  -------------
                                                1996      1997        1998
                                              --------  --------  -------------
                                                                   (UNAUDITED)
                                                (IN THOUSANDS, EXCEPT SHARE
                                                       INFORMATION)
<S>                                           <C>       <C>       <C>
ASSETS
 Current assets:
  Cash and cash equivalents.................. $ 21,275  $ 12,363    $ 29,014
  Trade accounts receivable, net of
   allowances for doubtful accounts of $930,
   $685 and $652 at December 31, 1996, 1997
   and September 30, 1998, respectively......    2,795     1,740         357
  Other receivable...........................      --        674         --
  Prepaid expenses...........................    2,744     1,379         869
  Other current assets.......................      546     1,251         665
                                              --------  --------    --------
  Total current assets.......................   27,360    17,407      30,905
 Restricted cash.............................      --      4,148       4,148
 Property and equipment, net.................   27,775    16,261      11,538
 Deferred software development costs, net....    3,105       --          --
 Tradename, net..............................   28,422    25,525      23,545
 Deferred network costs, net.................      --      8,167       6,417
 Investment in joint venture.................    5,160       --          --
 Assets held for sale........................   11,263     1,650       2,020
 Other assets................................      176       510         495
                                              --------  --------    --------
   Total assets.............................. $103,261  $ 73,668    $ 79,068
                                              ========  ========    ========
LIABILITIES AND STOCKHOLDERS' (DEFICIT) EQ-
 UITY
 Current liabilities:
  Note payable...............................    2,000     2,000       2,000
  Accounts payable...........................   26,615    15,650       6,037
  Accrued compensation.......................    3,438     2,348       3,354
  Accrued restructuring and other special
   costs.....................................   11,468     7,875       4,960
  Other accrued expenses.....................   35,141    33,344      25,584
  Unearned revenue...........................    3,359     4,552      10,527
                                              --------  --------    --------
  Total current liabilities..................   82,021    65,769      52,462
 Notes payable--related parties..............   56,000    10,000         --
                                              --------  --------    --------
   Total liabilities.........................  138,021    75,769      52,462
                                              --------  --------    --------
Commitments and contingencies (Note 12)
 Stockholders' (deficit) equity:
  Preferred stock, $.01 par value; 10,000,000
   shares authorized; none issued or
   outstanding...............................
  Contingent convertible notes...............   30,500    30,500      30,500
  Common stock, $.01 par value; 140,000,000,
   280,000,000 and 280,000,000 shares
   authorized; 49,241,702, 135,215,577 and
   180,229,666 shares issued and outstanding
   at December 31, 1996, 1997 and September
   30, 1998, respectively....................      492     1,353       1,802
 Additional paid-in capital..................   52,514   217,721     292,297
 Accumulated deficit......................... (118,236) (247,486)   (295,050)
 Accumulated other comprehensive (loss)
  profit.....................................      (30)     (189)         57
 Note receivable from stockholder............      --     (4,000)     (3,000)
                                              --------  --------    --------
 Total stockholders' (deficit) equity........  (34,760)   (2,101)     26,606
                                              --------  --------    --------
   Total liabilities and stockholders'
    (deficit) equity......................... $103,261  $ 73,668    $ 79,068
                                              ========  ========    ========
</TABLE>    
 
   The accompanying notes are an integral part of the consolidated financial
                                  statements.
 
                                      F-3
<PAGE>
 
                       PRODIGY COMMUNICATIONS CORPORATION
 
                     CONSOLIDATED STATEMENTS OF OPERATIONS
 
<TABLE>   
<CAPTION>
                                                            NINE-MONTHS ENDED
                                YEARS ENDED DECEMBER 31,      SEPTEMBER 30,
                                --------------------------  ------------------
                                    1996          1997        1997      1998
                                ------------  ------------  --------  --------
                                                               (UNAUDITED)
                                              (IN THOUSANDS)
<S>                             <C>           <C>           <C>       <C>
Revenues:
  Internet and on-line service
   revenues...................  $     90,713  $    128,252  $ 97,638  $ 95,231
  Other.......................         8,201         5,940     4,248     6,612
                                ------------  ------------  --------  --------
    Total revenues............        98,914       134,192   101,886   101,843
                                ------------  ------------  --------  --------
Operating costs and expenses:
  Costs of revenue............        69,437        98,758    73,179    76,131
  Marketing...................        21,253        60,461    29,712    26,335
  Product development.........         8,921        16,822    15,644     9,277
  General and administrative..        52,332        61,161    46,291    37,611
  Acquired incomplete technol-
   ogy........................        46,090           --        --        --
  Restructuring and other spe-
   cial costs.................         3,147         9,854     7,330       --
  Write-down of assets held
   for sale...................           --          2,400       --        --
  Loss on sale of cellular as-
   sets.......................           --            848       --        --
                                ------------  ------------  --------  --------
  Total operating costs and
   expenses...................       201,180       250,304   172,156   149,354
                                ------------  ------------  --------  --------
    Operating loss............      (102,266)     (116,112)  (70,270)  (47,511)
  (Gain) on sale of asset.....           --            --        --      (410)
  Loss on equity investment in
   joint venture..............           539        12,101     7,042       --
  Write-down (recovery) of eq-
   uity investments...........         9,053          (250)      --        --
  Interest income.............          (392)         (272)     (236)     (821)
  Interest expense............         2,643         1,559     1,178     1,284
                                ------------  ------------  --------  --------
    Net loss..................  $   (114,109) $   (129,250) $(78,254) $(47,564)
                                ------------  ------------  --------  --------
Net loss per common share--ba-
 sic..........................  $      (2.75) $      (1.86) $  (1.30) $   (.32)
                                ============  ============  ========  ========
Net loss per common share--di-
 luted........................  $      (2.75) $      (1.86) $  (1.30) $   (.32)
                                ============  ============  ========  ========
Weighted average number of
 common shares outstanding--
 basic........................        41,447        69,350    60,074   149,959
                                ============  ============  ========  ========
Weighted average number of
 common shares outstanding--
 diluted......................        41,447        69,350    60,074   149,959
                                ============  ============  ========  ========
</TABLE>    
 
 
   The accompanying notes are an integral part of the consolidated financial
                                  statements.
 
                                      F-4
<PAGE>
 
                       PRODIGY COMMUNICATIONS CORPORATION
            
         CONSOLIDATED STATEMENTS OF STOCKHOLDERS' (DEFICIT) EQUITY     
                                 (IN THOUSANDS)
 
<TABLE>   
<CAPTION>
                            CONTINGENT   COMMON STOCK    ADDITIONAL
                            CONVERTIBLE ---------------   PAID-IN   ACCUMULATED
                               NOTES    SHARES   AMOUNT   CAPITAL     DEFICIT
                            ----------- -------  ------  ---------- -----------
<S>                         <C>         <C>      <C>     <C>        <C>
Balance at December 31,
 1995.....................               34,528  $  345   $  3,825      (4,127)
Issuance of common stock
 for cash.................               12,834     129     43,067
Issuance of common stock
 for services.............                   30                 90
Issuance of common stock
 to purchase minority
 interest in subsidiary...                  350       3      1,047
Conversion of credit
 facility.................                1,500      15      4,485
Issuance of contingent
 convertible notes........    $30,500
Comprehensive loss:
 Net loss.................                                            (114,109)
 Other comprehensive
  losses:
 Translation adjustment...
 Comprehensive loss.......
                              -------   -------  ------   --------   ---------
Balance at December 31,
 1996.....................     30,500    49,242     492     52,514    (118,236)
                              -------   -------  ------   --------   ---------
Issuance of common stock
 for cash.................               59,653     598     71,441
Issuance of common stock
 on conversion of advances
 from stockholders........               34,187     342    102,309
Acquisition and retirement
 of treasury shares.......               (7,866)    (79)    (8,543)
Comprehensive loss:
 Net loss.................                                            (129,250)
 Other comprehensive
  losses:
 Translation adjustment...
 Comprehensive loss.......
                              -------   -------  ------   --------   ---------
Balance at December 31,
 1997.....................     30,500   135,216   1,353    217,721    (247,486)
                              -------   -------  ------   --------   ---------
Issuance of common stock
 for cash.................               45,014     449     74,576
Comprehensive loss:
 Net loss.................                                             (47,564)
 Other comprehensive
  income:
 Translation adjustment...
 Comprehensive loss.......
                              -------   -------  ------   --------   ---------
Balance at September 30,
 1998 (unaudited).........    $30,500   180,230  $1,802   $292,297   $(295,050)
                              =======   =======  ======   ========   =========
</TABLE>    
 
<TABLE>   
<CAPTION>
                          ACCUMULATED OTHER NOTE RECEIVABLE
                            COMPREHENSIVE        FROM       COMPREHENSIVE
                            (LOSS) PROFIT     STOCKHOLDER       LOSS        TOTAL
                          ----------------- --------------- ------------- ---------
<S>                       <C>               <C>             <C>           <C>
Balance at December 31,
 1995...................        $  (4)                                    $      39
Issuance of common stock
 for cash...............                                                     43,196
Issuance of common stock
 for services...........                                                         90
Issuance of common stock
 to purchase minority
 interest in
 subsidiary.............                                                      1,050
Conversion of credit
 facility...............                                                      4,500
Issuance of contingent
 convertible notes......                                                     30,500
Comprehensive loss:
 Net loss...............                                      $(114,109)   (114,109)
 Other comprehensive
  losses:
 Translation
  adjustment............          (26)                              (26)        (26)
                                                              ---------
 Comprehensive loss.....                                      $(114,135)
                                -----           -------       =========   ---------
Balance at December 31,
 1996...................          (30)                                      (34,760)
                                -----           -------                   ---------
Issuance of common stock
 for cash...............                        $(4,000)                     68,039
Issuance of common stock
 on conversion of
 advances from
 stockholders...........                                                    102,651
Acquisition and
 retirement of treasury
 shares.................                                                     (8,622)
Comprehensive loss:
 Net loss...............                                       (129,250)   (129,250)
 Other comprehensive
  losses:
 Translation
  adjustment............         (159)                             (159)       (159)
                                                              ---------
 Comprehensive loss.....                                      $(129,409)
                                -----           -------       =========   ---------
Balance at December 31,
 1997...................         (189)           (4,000)                     (2,101)
                                -----           -------                   ---------
Issuance of common stock
 for cash...............                          1,000                      76,025
Comprehensive loss:
 Net loss...............                                        (47,564)    (47,564)
 Other comprehensive
  income:
 Translation
  adjustment............          246                               246         246
                                                              ---------
 Comprehensive loss.....                                      $ (47,318)
                                -----           -------       =========   ---------
Balance at September 30,
 1998 (unaudited).......        $  57           $(3,000)                  $  26,606
                                =====           =======                   =========
</TABLE>    
 
   The accompanying notes are an integral part of the consolidated financial
                                  statements.
 
                                      F-5
<PAGE>
 
                       PRODIGY COMMUNICATIONS CORPORATION
 
                     CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (IN THOUSANDS)
 
<TABLE>   
<CAPTION>
                                           YEARS ENDED       NINE MONTHS ENDED
                                          DECEMBER 31,         SEPTEMBER 30,
                                       --------------------  ------------------
                                         1996       1997       1997      1998
                                       ---------  ---------  --------  --------
                                                                (UNAUDITED)
<S>                                    <C>        <C>        <C>       <C>
Cash flows from operating activities:
 Net loss............................  $(114,109) $(129,250) $(78,254) $(47,564)
 Adjustments to reconcile net loss to
  net cash used in operating
  activities:
 Loss on equity investment in joint
  venture............................        539     12,101     7,042       --
 Write-down (recovery) of equity
  investments........................      9,053       (250)      --        --
 Acquired incomplete technology......     46,090        --        --        --
 Services settled by issuance of
  common stock.......................         90        --        --        --
 Loss on sale of cellular assets.....        --         848       --        --
 Depreciation and amortization of
  property and equipment.............      6,341     10,581     7,910     5,138
 Amortization of tradename...........      1,613      2,897     2,431     1,980
 Amortization of deferred network
  costs..............................        --       1,335       594     1,750
 Write-down of assets held for sale..        --       2,400       --        --
 Amortization of deferred software
  development costs..................      1,047      1,159     1,340       --
 Write-down of deferred software
  development costs to net realizable
  value..............................      1,399      1,946       --        --
 Provision for doubtful accounts.....        930       (245)      --        --
 Change in operating assets and
  liabilities, net of effects of
  acquisitions and disposals
 Trade accounts receivable...........        690      1,838       511     1,383
 Other receivable....................        --        (674)   (2,115)      674
 Prepaid expenses....................        436      1,340       868       510
 Other current assets................       (257)    (1,016)     (680)      601
 Assets held for sale................    (10,334)    (5,325)      --       (370)
 Accounts payable....................     21,279     (9,314)   (5,288)   (9,613)
 Accrued compensation................      3,438     (1,089)      199     1,005
 Accrued restructuring and other
  special costs......................        730     (2,178)      897    (2,915)
 Other accrued expenses..............        --      (2,336)   (8,975)   (7,760)
 Unearned revenue....................     (4,269)     1,193     1,079     5,975
                                       ---------  ---------  --------  --------
  Net cash used in operating
   activities........................    (35,294)  (114,039)  (72,441)  (49,206)
                                       ---------  ---------  --------  --------
Cash flows from investing activities:
 Cash paid for Prodigy Services
  Company, net of cash acquired......    (21,088)       --        --        --
 Equity investments..................     (9,053)       --        --        --
 Acquisition of property and
  equipment..........................     (8,820)    (8,556)   (6,949)     (415)
 Deferred software development
  costs..............................     (3,575)       --        --        --
 Investment in joint venture.........     (5,700)    (7,006)   (4,632)      --
 Increase in other assets............        323        308       --        --
                                       ---------  ---------  --------  --------
  Net cash used in investing
   activities........................    (47,913)   (15,254)  (11,581)     (415)
                                       ---------  ---------  --------  --------
Cash flows from financing activities:
 Proceeds from issuance of common
  stock..............................     43,196     68,039    20,347    75,025
 Repayment of notes payable to
  related parties....................        --     (46,000)  (46,000)  (10,000)
 Proceeds from notes payable to
  related parties....................     58,900        --        --        --
 Proceeds from borrowings............      2,000    102,651   102,651       --
 Repayment of note receivable from
  stockholder........................        --         --        --      1,000
 Increase in restricted cash.........        --      (4,148)      --        --
 Other...............................        (26)      (161)       10       247
                                       ---------  ---------  --------  --------
  Net cash provided by financing
   activities........................    104,070    120,381    77,008    66,272
                                       ---------  ---------  --------  --------
Net increase in cash and cash
 equivalents.........................     20,863     (8,912)   (7,014)   16,651
                                       ---------  ---------  --------  --------
Cash and cash equivalents, beginning
 of period...........................        412     21,275    21,275    12,363
                                       ---------  ---------  --------  --------
Cash and cash equivalents, end of
 period..............................  $  21,275  $  12,363  $ 14,261  $ 29,014
                                       =========  =========  ========  ========
</TABLE>    
 
   The accompanying notes are an integral part of the consolidated financial
                                  statements.
 
                                      F-6
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
 
1. BASIS OF PRESENTATION
 
  Prodigy Communications Corporation (the "Company") is a leading nationwide
Internet Service Provider ("ISP"). The Company is controlled by Carso Global
Telecom, S.A. de C.V. ("Carso Global Telecom") through a majority voting
equity interest in the Company's common stock. The Company was formed in June
1996, under the name Prodigy, Inc., to acquire Prodigy Services Company
("PSC") and to hold International Wireless Incorporated ("IW") and other
communications interests. All outstanding common stock of IW was converted
into common stock of the Company on a one-for-one basis in June 1996. The
assets and liabilities of IW were carried over to the Company at historical
cost as the respective shareholders maintained their relative ownership
percentages existing immediately prior to the conversion. Accordingly, the
financial statements prior to the acquisition of Prodigy Services on June 17,
1996, consist solely of IW. IW was incorporated on May 23, 1994, to develop
and operate cellular telephone systems in Africa. IW's other communications
interests consisted of Africa Online, Inc. (see Note 5--Dispositions), a
wholly-owned subsidiary engaged in interest access and online services in
Africa, an equity investment in Global Enterprise Services, Inc. (see Note 4--
Acquisitions) and an equity investment in a start-up joint venture in China
(see Note 5--Dispositions).
 
  Since the acquisition of PSC, the Company has been in the midst of a major
transformation, both domestically and internationally. In the United States,
the Company launched its open standards based Internet access service
("Prodigy Internet") in October 1996. The Company's cellular telephone assets
and operations were sold in January 1997. In 1997, the Company determined that
its primary focus will be as an ISP and decided to discontinue the production
of its own content for Prodigy Internet. The Company plans to sell its African
operations and has negotiated a settlement of its liabilities in connection
with the closing of its Asian operations (see Note 5--Dispositions).
 
  The acquisition of PSC was accounted for as a purchase. Accordingly, the
results of operations of PSC since the date of acquisition, June 17, 1996, are
included in the accompanying consolidated statements of operations for the
year ended December 31, 1996. The consolidated statements of operations and
cash flows of PSC for the year ended December 31, 1995 and for the five and
one-half month period ended June 16, 1996 are included elsewhere in the
Prospectus. The Company's accounts as of the date of the acquisition reflect
the fair value of the assets acquired and liabilities assumed (see Note 4--
Acquisitions).
 
2. SIGNIFICANT ACCOUNTING POLICIES
 
 Principles of Consolidation
 
  The accompanying consolidated financial statements include the accounts of
the Company and its subsidiaries. All significant intercompany accounts and
transactions have been eliminated.
 
 Estimates and Assumptions
 
  The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expenses during the
reporting periods. Actual results could differ from those estimates.
 
 Interim Financial Information
 
  The consolidated financial statements of the Company for the six months
ended June 30, 1998 are unaudited. All adjustments (consisting only of normal
recurring adjustments) have been made, which, in the opinion of management,
are necessary for a fair presentation. Results of operations for the six
months ended
 
                                      F-7
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
June 30, 1998 are not necessarily indicative of the results that may be
expected for the year ending December 31, 1998, or for any other future
period.
 
 Foreign Currency Translation
 
  The functional currencies of the Company's foreign subsidiaries are the
local currencies. Accordingly, assets and liabilities of foreign subsidiaries
are translated to U.S. dollars at period-end exchange rates and revenues and
expenses are translated using the average rates during the period. The effects
of foreign currency translation adjustments have been accumulated and are
included as a separate component of stockholders' equity (deficit). Foreign
currency transaction gains and losses, arising from exchange rate fluctuations
on transactions denominated in currencies other than the functional
currencies, were immaterial for all periods presented.
 
 Revenue Recognition
 
  Internet and on-line service revenues encompass subscription and usage fees
and are earned over the period services are provided. Other revenues,
consisting principally of marketing services and transaction fees from the
sale of merchandise, are recognized as services are provided or fees are
earned. Unearned revenue consists primarily of monthly subscription fees
billed in advance.
 
 Subscriber Acquisition Costs
 
  Direct response advertising costs which result in subscriber registrations
without further effort required by the Company are capitalized and amortized
over their estimated useful life subject to recoverability limitations. No
such subscriber acquisition costs have been capitalized due to the uncertainty
of recovery. General marketing costs, as well as all other costs related to
the acquisition of subscribers, are expensed as incurred.
 
 Advertising Costs
 
  Advertising costs are included in marketing expenses and are expensed as
incurred.
 
 Cash and Cash Equivalents
 
  The Company considers all highly liquid investments with original maturities
at date of purchase of three months or less to be cash equivalents. Cash and
cash equivalents are stated at cost, which approximates fair value because of
the short maturity of these instruments.
 
 Restricted Cash
 
  Restricted cash represents collateral for outstanding letters of credit.
 
 Property and Equipment
 
  Property and equipment is recorded at cost and depreciated using the
straight-line method over the estimated useful lives of the assets.
Expenditures for major renewals and betterments that extend the useful lives
of property and equipment are capitalized. Expenditures for maintenance and
repairs are charged to expense as incurred. When assets are sold or otherwise
disposed of, the cost and related accumulated depreciation are relieved and
any resulting gain or loss is recognized.
 
 Product Development Costs
 
  Software development costs are expensed as incurred until technological
feasibility has been established. The Company determines technological
feasibility upon the completion of a working model. Once technological
 
                                      F-8
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
   
feasibility has been established, such costs are capitalized until the
software is available for general release to customers. Amortization is
calculated on a product-by-product basis, using the greater of the straight-
line basis over the estimated economic lives of the related products, two
years, or the ratio of current gross revenue to total current and expected
future gross revenue of the related products. The straight-line basis has
produced a greater charge and, accordingly, has been used exclusively to date.
The amortization and write-down of deferred software development costs is
included in "Costs of Revenue."     
   
  Amortization of deferred software development costs totaled $1,047 and
$1,159 in 1996 and 1997, respectively.     
 
 Research and Development
 
  Research and development costs are expensed as incurred.
 
 Investment in Joint Venture
 
  The Company had an investment in a foreign joint venture operating in China
which was accounted for under the equity method of accounting, as the Company
did not have a controlling interest. As of December 31, 1997, the Company's
investment was written down to its net realizable value of zero (see Note 5--
Dispositions).
 
  The assets and revenues of the joint venture were immaterial for all periods
presented.
 
 Tradename
 
  The "Prodigy" tradename was recorded at fair value as of June 17, 1996, upon
the acquisition of PSC. The tradename is amortized on a straight-line basis
over 10 years.
 
 Long-Lived Assets
 
  The Company periodically evaluates the net realizable value of long-lived
assets, including the Prodigy tradename and property and equipment, relying on
a number of factors including operating results, business plans, economic
projections and anticipated future cash flows. An impairment in the carrying
value of an asset is recognized when the expected future operating cash flows
derived from the asset are less than its carrying value. In addition, the
Company's evaluation considers nonfinancial data such as market trends,
product and development cycles, and changes in management's market emphasis.
 
 Income Taxes
 
  Deferred tax liabilities and assets are recognized based on temporary
differences between the financial statement and tax bases of assets and
liabilities using current statutory rates. A valuation allowance is applied
against net deferred tax assets if, based on the weighted available evidence,
it is more likely than not that some or all of the deferred tax assets will
not be realized.
 
 Contingent Convertible Notes
 
  The contingent convertible notes issued in connection with the acquisition
of PSC are classified in Stockholders' Equity (Deficit). In 1997, the Company
exchanged the contingent convertible notes for contingent convertible notes
and contingent warrants (see Note 9--Contingent Convertible Notes and
Warrants).
 
                                      F-9
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
 
 Accounting for Stock-Based Compensation
 
  The Company adopted Statement of Financial Accounting Standards No. 123
(SFAS No. 123), "Accounting for Stock-Based Compensation," in 1996. As
permitted by SFAS No. 123, the Company has elected to continue to apply the
intrinsic value methodology provisions of Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees," for the grants or awards
of equity instruments to employees. As required by SFAS No. 123, the Company
has disclosed the pro forma effect on net loss of using a fair value approach
to measure compensation for grants or awards of equity instruments in 1996 and
1997 (see Note 11--Stockholders' Equity (Deficit)).
 
 Net Loss Per Share
 
  The Company computes basic and diluted earnings per share in accordance with
Statement of Financial Accounting Standards No. 128 ("SFAS 128"), "Earnings
per Share." SFAS 128 requires the Company to report both basic earnings per
share, which is based on the weighted average number of common shares
outstanding, and diluted earnings per share, which is based on the weighted
average number of common shares outstanding and all dilutive potential common
shares outstanding. As the Company incurred losses for all periods presented,
there is no difference between basic and diluted earnings per share.
 
 Concentrations of Credit Risk
 
  Financial instruments which potentially subject the Company to
concentrations of credit risk consist principally of cash and trade
receivables. Concentration of credit risk with respect to cash is limited as
the Company invests its cash in deposits with several financial institutions.
Concentration of credit risk with respect to trade receivables is limited as
the outstanding total represents a large number of customers with individually
small balances. The Company does not require collateral or other security
against trade receivable balances; however, it does maintain reserves for
potential credit losses and such losses have been within management's
expectations.
 
 Reclassifications
 
  Certain amounts from the prior year have been reclassified to conform with
the current year presentation.
 
3. RESTRUCTURING AND OTHER SPECIAL COSTS
   
 Fiscal Year 1996 Restructurings and Other Special Costs     
   
  The components of the Company's restructuring provision at December 31, 1996
are detailed below:     
 
<TABLE>   
       <S>                                                              <C>
       (A) Prodigy Services............................................ $ 8,321
       (B) Cost reduction plan.........................................   3,147
                                                                        -------
                                                                        $11,468
                                                                        =======
</TABLE>    
     
    (A) In connection with the acquisition of PSC as of June 17, 1996, the
  Company assumed non-recurring liabilities classified as "Accrued
  Restructuring and Other Special Costs" of $10,738, of which $8,321 remained
  outstanding as of December 31, 1996, and payable in 1997. These non-
  recurring liabilities related to restructuring plans which occurred prior
  to the acquisition date in connection with (i) a lease cancellation penalty
  for PSC's lease of its White Plains, NY facilities, of which $7,826 was
  outstanding as of December 31, 1996, and (ii) salary continuance and
  related liabilities resulting from job eliminations and early retirements
  of certain executives, of which $495 was outstanding as of December 31,
  1996.     
 
                                     F-10
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
 
    (B) In 1996, subsequent to the PSC acquisition, the Company approved
  another restructuring plan to reduce costs through additional job
  eliminations and a reduction in the use of leased office space, and as a
  result, recorded a restructuring charge of $3,147. Approximately 20
  employees were terminated in January 1997 and the related severance cost of
  $659 was included in "Accrued Restructuring and Other Special Costs" at
  December 31, 1996. Beginning in November 1996, the Company vacated 29% of
  its leased space in White Plains, NY. The cost of the lease attributed to
  the idle leased facility amounted to $2,488 and was included in "Accrued
  Restructuring and Other Special Costs" as of December 31, 1996.
 
    During 1997, the Company paid the balance of the 1996 accrued
  restructuring and other special costs.
 
 Fiscal Year 1997 Restructurings and Other Special Costs
 
   In an effort to decrease cash outflows and more efficiently manage its
business, the Company decided to restructure its operations and outsource its
network and content production functions. The Company's provisions,
expenditures and remaining balances to be paid are detailed below:
 
<TABLE>
<CAPTION>
                                                                     ACCRUED
                                                                     COSTS AT
                                                1997      1997     DECEMBER 31,
                                               COSTS  EXPENDITURES     1997
                                               ------ ------------ ------------
<S>                                            <C>    <C>          <C>
(A) Network termination costs................. $4,740                 $4,740
(B) Employee severance........................  2,900    $1,979          921
(C) Discontinuance of content production......    585                    585
(D) Medford, MA Facility Closing..............  1,629                  1,629
                                               ------    ------       ------
                                               $9,854    $1,979       $7,875
                                               ======    ======       ======
</TABLE>
 
    (A) In connection with the sale of its network (see Note 5--Dispositions,
  Sale of Network), the Company incurred liabilities related primarily to
  early termination payments and other contractual obligations for certain
  non-cancelable network related agreements.
 
    (B) The Company implemented a restructuring plan to reduce costs through
  job elimination, and as a result, recorded a charge of $2,900.
  Approximately 80 employees throughout the Company were terminated.
 
    (C) The Company decided to discontinue the production of its own content,
  and as a result, recorded a charge of $585 to account for the employee
  termination costs and the costs to settle content related contractual
  obligations. Approximately 25 employees were terminated.
 
    (D) The Company's Medford, Massachusetts location has been closed and a
  charge of $1,629 was recorded to account for the costs of employee
  terminations and lease cancellation.
 
    The terminated employees were involved with the Company's international
  operations and/or former headquarters management. Approximately 20
  employees were terminated.
 
4. ACQUISITIONS
 
 Acquisition of Minority Interest in Subsidiary
 
  In January 1996, the Company purchased 90 shares of common stock of Comstar
Cellular S.A. Cote d'Ivoire ("Comstar Cote d'Ivoire") from a minority
shareholder and employee in exchange for $300 in cash and 350,000 shares of
common stock of the Company with a value of $3 per share. As a result of this
transaction, the Company's equity interest in Comstar Cote d'Ivoire increased
from 91% to 100%.
 
                                     F-11
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
 
  The acquisition was accounted for as a purchase and the excess of the
purchase price over the fair value of the assets acquired and liabilities
assumed, representing goodwill, amounted to $1,350 and was included with
assets held for sale in connection with the sale of International Wireless,
which included the cellular operations of Comstar Cote d'Ivoire.
 
 Investment in Global Enterprise Services, Inc. ("GES")
 
  During the period from January 1996 to March 1996, the Company acquired a
48% voting interest in GES, represented by 4,800,000 shares of convertible
preferred stock, for $9,000. The preferred stock has voting rights and is
convertible into common stock. In 1996, the Company recorded a charge of
$9,053 to reduce the carrying value of its investment in GES to an estimated
net realizable value of zero.
 
  In January 1997, pursuant to a redemption agreement, the Company disposed of
its 48% interest in GES for $250.
 
 Acquisition of Prodigy Services
 
  On June 17, 1996, the Company acquired all of the partnership interests of
International Business Machines Corporation ("IBM") and Sears Roebuck and Co.
("Sears") in PSC. The Company acquired the assets and assumed the liabilities
of PSC, with the exception of certain patents and all obligations and
liabilities related to employee retirement and other postretirement benefit
plans. The assets purchased and liabilities assumed, and related results of
operations, are included in the consolidated financial statements of the
Company from the date of acquisition. The aggregate purchase price of $78,116
consisted of a cash payment of $40,800, the issuance of Contingent Convertible
Notes (see Note 9--Contingent Convertible Notes and Warrants) valued at
$30,500, and direct acquisition related expenses of $6,816.
   
  The acquisition was accounted for as a purchase. The purchase price,
including direct costs of $6,816, was allocated based on fair values, as
follows:     
 
<TABLE>   
   <S>                                                                 <C>
   Purchase price..................................................... $ 78,116
   Add: fair value of net current assets and liabilities acquired.....   23,009
                                                                       --------
   Excess to allocate.................................................  101,125
   Less: excess allocated to
     Tradename........................................................   30,035
     Property and equipment...........................................   23,100
     Completed technology--Prodigy Classic............................    1,900
     Incomplete technology--Prodigy Internet..........................   46,090
                                                                       ========
</TABLE>    
   
  The fair value of intangible assets was determined using a risk adjusted
discounted cash flows approach. Specifically, the Prodigy Internet technology
acquired was evaluated through extensive interviews and analysis of data
concerning the state of the technology and needed developments. The evaluation
of the underlying technology acquired considered the inherent difficulties and
uncertainties in completing the development, and thereby achieving
technological feasibility, and the risks related to the viability and
potential changes to target markets. Incomplete technology had no alternative
future use. Therefore, the Company recognized a charge of $46,090 for the
purchase of incomplete technology in 1996.     
       
  In connection with the acquisition, the Company entered into a Funding
Agreement (the "Funding Agreement"), as described in Note 8--Notes Payable,
with Carso Global Telecom and another stockholder of the Company (the
"Stockholder"). The Funding Agreement was amended in October 1996 and March
1997.
 
                                     F-12
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
 
5. DISPOSITIONS
 
 Sale of International Wireless
 
  Effective January 1997, the Company sold all issued outstanding capital
stock of IW to a company (the "Buyer") formed by a former executive and
shareholder of the Company (the "Executive"). The assets of IW at the time of
the sale consisted of cellular communications licenses and license
applications in certain African countries, and the associated rights and
assets used in the Company's cellular telephone activities. Africa Online,
Inc., formerly a wholly-owned subsidiary of IW, had been transferred to
another subsidiary of the Company (see Exit of International Operations,
below). The Company also retained the joint venture investment in China
previously held by IW (see Exit of International Operations, below). The
selling price consisted of (i) the surrender of 5,571,429 shares of common
stock of the Company, (ii) a Promissory Note (the "Note") in the amount of
$21,500 due in full on July 27, 1997, including $1,500 in reimbursement of
capital expenditures made by the Company for the benefit of IW, secured by a
pledge of 67% of the shares of IW purchased from the Company, and bearing
interest at 9% until April 27, 1997 and 12% thereafter, and (iii) the
termination of the Executive's fully vested options to purchase 500,000 shares
of common stock for $0.25 per share and 500,000 shares of common stock for
$2.00 per share.
 
  In October 1997, the Company and the Buyer modified the Note as follows: (i)
the due date was extended to January 31, 1999, (ii) the Note is unsecured,
(iii) the interest rate was reduced to 8%, (iv) the Note is subject to
mandatory repayment out of the net proceeds from an acquisition of IW, (v) the
Note is also subject to mandatory repayment to the extent of 10% of the first
$5,000 in net financing proceeds received by IW (with certain exceptions), 20%
of the next $5,000 in proceeds and 40% of all proceeds in excess of $10,000,
and (vi) the Company is allowed to convert the Note upon maturity into equity
securities of IW at a 20% discount from the price at which IW has sold equity
securities to investors. The Buyer also surrendered an additional 2,294,321
shares of common stock of the Company in exchange for a reduction in IW's
unpaid obligations at October 31, 1997 to $16,148.
 
  As a result of the restructuring of the Note and the revaluation of the
Company's stock from $3 to $1 per share, a loss on the sale of IW of $848 was
recorded in 1997. The Note has been valued at zero. Any future cash collected
against the Note will be accounted for as a gain in "Other Income." As of
December 31, 1996, the Company reclassified certain assets of $11,263 as
"Assets Held for Sale" in connection with the sale of IW.
 
 Sale of Network
 
  Prodigy owned and operated its own network in the United States until July
1, 1997. Effective July 1, 1997, the Company sold to Splitrock Services, Inc.
("Splitrock") certain of its network assets. Splitrock agreed to: (i) assume
all equipment leases, maintenance and license liabilities related to network
assets, and (ii) enter into a Full Service Agreement whereby Splitrock will
provide certain network services to the Company including commitments to meet
certain capacity and performance requirements. Carso Global Telecom owns a
minority interest in Splitrock.
 
  The Company also entered into a Sublease Agreement pursuant to which
Splitrock subleases a portion of the Company's leased space in Yorktown
Heights, New York, effective July 1, 1997 through February 28, 2001.
 
  Pursuant to the Full Service Agreement, effective July 1, 1997, Splitrock
provides to the Company network services consisting primarily of end-to-end
connection services from subscriber dial-up lines to the Company's data
center. Splitrock charges Prodigy at a fixed rate per subscriber, subject to a
monthly maximum usage limit, after which an incremental hourly rate is
charged, and certain minimum charges (see Note 12--Commitments and
Contingencies).
 
                                     F-13
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
   
  Under a transition services agreement, Prodigy agreed to pay for certain of
Splitrock's operating expenses and to provide temporary network-related
services to Splitrock, including accounting, human resources and purchasing
functions. Splitrock agreed to reimburse Prodigy for expenses incurred and the
cost of providing these support services (excluding termination penalties
under existing network contracts). The total of the reimbursed expenses and
service costs in 1997 was $27,532. The reimbursed amounts have been offset
against the corresponding expenses and costs in the statements of operations.
The transition services agreement terminated on December 31, 1997, although
the Company continued to provide certain incidental services and make payments
on behalf of Splitrock through June 30, 1998. The net amount due from
Splitrock under the Full Service Agreement and the transition services
agreement as of December 31, 1997 was $674. This amount is recorded under the
heading "Other Receivable" on the balance sheet. Splitrock has notified
Prodigy of the Prodigy Local Site ("PLS") leases, which it wishes to assume,
and Prodigy remains liable for all PLS leases not assumed by Splitrock.
Prodigy also remains liable for all obligations and termination penalties
under its existing agreements with IBM Global Network Services and other
third-party providers of Points of Presence ("POPs"). The costs associated
with the PLS leases retained by the Company and the termination penalties have
been accrued as part of network termination costs as of December 31, 1997 (see
Note 3--Restructuring and Other Special Costs).     
 
  Upon termination of the transition services agreement, a Full Services
Agreement became effective, and Splitrock hired all Prodigy employees engaged
in Prodigy's network operations. Splitrock is required to provide dial-up
network access in all locations in which Prodigy provided dial-up services as
of July 1, 1997. Commencing December 31, 1999, Splitrock will not be required
to support the proprietary standards on which the Prodigy Classic service
operates.
 
  Under the Full Service Agreement, Splitrock is required to meet specified
service level objectives. Splitrock's failure to meet the service level
objectives results in financial penalties. If Splitrock fails to meet the
service level objectives for an extended period of time, Prodigy may terminate
the Full Service Agreement. In addition, if there is a system-wide failure, or
Splitrock breaches specified financial covenants, Prodigy has the right to
terminate the Full Service Agreement or assume responsibility for operating
the network at Splitrock's expense.
 
  As a result of the sale of the network effective July 1, 1997, the Company
sold property and equipment with a net book value of approximately $9,400 and
did not record any gain or loss upon the sale of these assets. The net book
value of the equipment was removed from property and equipment on the balance
sheet and classified in "Other Intangible Assets, Net" and is being amortized
over the four year term of the Splitrock contract on a straight-line basis.
 
 Exit of International Operations
 
  In December 1997, management decided to exit its international operations in
order to focus on its domestic internet service business. During 1996 and
1997, the Company's incurred losses of $539 and $12,101, respectively, in
relation to its joint venture operation in China.
   
  The assets of Africa Online, Inc., a wholly-owned subsidiary, are carried as
assets held for sale at their estimated fair value of $1,650, as of December
31, 1997. Africa Online, Inc. was originally part of IW. The Company recorded
a charge of $2,400 in 1997 to reduce the carrying value of Africa Online, Inc.
long lived assets, including goodwill, to their estimated net realizable
value.     
   
  On October 1, 1998, Africa Online, Inc. was sold for gross cash proceeds of
$2,815, of which $750 was placed in escrow to secure certain indemnification
obligations of the Company for a six month period. The sale resulted in an
estimated gain to the Company of $2,900, subject to full release of the
escrowed funds.     
 
                                     F-14
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
 
6. PROPERTY AND EQUIPMENT
 
  Property and equipment consisted of the following at December 31:
 
<TABLE>
<CAPTION>
                                                   USEFUL LIFE  1996    1997
                                                   ----------- ------- -------
   <S>                                             <C>         <C>     <C>
   Computer equipment.............................  3-5 years  $28,943 $21,204
   Leasehold improvements.........................  3-5 years    3,752   4,177
   Furniture and equipment........................  5-8 years    1,221   1,008
   Buildings......................................   40 years       33     --
                                                               ------- -------
                                                                33,949  26,389
   Less accumulated depreciation and amortiza-
    tion..........................................               6,174  10,128
                                                               ------- -------
                                                               $27,775 $16,261
                                                               ======= =======
</TABLE>
   
7. TRADENAME AND DEFERRED NETWORK COSTS     
     
  The cost and accumulated amortization of the Tradename and Deferred network
  costs was as follows at December 31:     
 
<TABLE>   
<CAPTION>
                                                                 1996    1997
                                                                ------- -------
   <S>                                                          <C>     <C>
   Tradename:
     Cost...................................................... $30,035 $30,035
     Less accumulated amortization.............................   1,613   4,510
                                                                ------- -------
                                                                $28,422 $25,525
                                                                ======= =======
   Deferred network costs:
     Cost......................................................     --    9,502
     Less accumulated amortization.............................     --    1,335
                                                                ------- -------
                                                                $   --  $ 8,167
                                                                ======= =======
</TABLE>    
 
8. NOTES PAYABLE
 
  Notes payable consisted of the following at December 31:
 
<TABLE>
<CAPTION>
                                                                 1996    1997
                                                                ------- -------
   <S>                                                          <C>     <C>
   Loan from Banco Inbursa..................................... $50,000 $10,000
   Loan from stockholder.......................................   6,000     --
                                                                ------- -------
   Notes payable--related parties.............................. $56,000 $10,000
                                                                ======= =======
   Loan from corporate lender.................................. $ 2,000 $ 2,000
                                                                ======= =======
</TABLE>
 
  In June 1996, the Company entered into a loan agreement with Banco Inbursa
("Inbursa"), an affiliate of Carso Global Telecom, whereby Inbursa agreed to
provide a credit facility to the Company of up to $50,000 with an original
maturity date in June 1997, at an interest rate of prime plus 1/2%. Borrowings
under this credit facility are collateralized by a pledge of 17,000,000 shares
of the Company's common stock of which 7,000,000 shares were pledged by Carso
Global Telecom and 10,000,000 shares are pledged by the stockholder. As a
result of an extension of the credit facility from Inbursa, the maturity date
for outstanding borrowings of $10,000 was extended from June 17, 1997 to
December 31, 1999. The Stockholder had agreed to continue to make available
for pledge, until June 13, 1998, 10,000,000 shares of common stock to secure a
new line of credit from a U.S.
 
                                     F-15
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
bank or other debt financing to replace or extend the line of credit from
Inbursa. Subsequent to December 31, 1997, all loans were repaid and stock
pledges terminated.
 
  Pursuant to an amendment to the Company's original Funding Agreement
effective March 18, 1997, the Company exercised a Put option to issue common
stock to the Stockholder for $15,000 and to Carso Global Telecom for $65,000,
of which $40,000 was used to partially repay the $50,000 loan from Inbursa.
The remaining Put of $45,000 was allocated $39,000 to Carso Global Telecom and
$6,000 to the Stockholder. The aggregate proceeds of $80,000 from the exercise
of the Put, as well as proceeds from subsequent Put exercises of $9,000, were
raised through the issuance of 29,666,667 shares of common stock at $3 per
share. All amounts available under the Put have been exercised.
 
  In October 1997, Carso Global Telecom and the Stockholder arranged interim
financing for the Company. Carso Global Telecom agreed to (i) establish a
$4,000 letter of credit required as part of the revised Contingent Convertible
Notes and Warrants (see Note 9--Contingent Convertible Notes and Warrants),
(ii) arrange for Inbursa to lend $13,750 to the Company, of which $3,750 is
secured by the Stockholder's pledge of 7,500,000 shares of common stock, and
(iii) indicate its intention to purchase, under a rights offering, its maximum
allocation of 49,543,822 shares of common stock. In payment for its 49,543,822
shares, Carso Global Telecom will (i) be credited with $4,000 for the issuance
of the $4,000 letter of credit, (ii) pay $13,750 directly to Inbursa on the
Company's behalf, and (iii) pay to the Company the remainder of the purchase
price of $31,794 less any other funds advanced to the Company prior to the
closing of the rights offering. Subsequent to the issuance of the $4,000
letter of credit, on a quarterly basis, Carso Global Telecom will contribute
$333, less any draws on the letter of credit, until the $4,000 has been paid
to the Company. The Stockholder agreed to (i) lend the Company up to $2,250
without interest, (ii) pledge 7,500,000 shares of common stock to secure
advances of $3,750 from Inbursa until the earlier of the closing of the rights
offering (see Note 11--Stockholders' Equity (Deficit)) or December 15, 1997,
and (iii) convert its advances to the Company into common stock upon the
closing of the rights offering. As of December 31, 1997, interim financing of
$27,100 had been re-paid in connection with the rights offering.
 
  In March 1996, the Company borrowed $2,000 from a network company (the
"Corporate Lender") pursuant to an 8 1/4% convertible note. Principal and
interest were due on March 31, 1997. The note has not been formally extended.
The Corporate Lender had the right within 30 days after the completion of a
private placement and prior to March 31, 1997 to convert the principal and
interest into common stock at the price per share at which the Company's
common stock is issued in the private placement.
 
ADDITIONAL FINANCING
   
  In February 1998, the Company entered into an additional loan agreement with
Inbursa in the amount of $16,400, payable December 31, 1999 at an interest
rate of 9%. In July 1998, a further $5,700 was borrowed from Inbursa, payable
December 31, 1999 at an interest rate of 9%. Also in July 1998, the Company
borrowed $30,000 from Bank of America National Trust and Savings Association
("Bank of America"), payable on August 14, 1998 at an interest rate of 6.5%.
This loan was collateralized by the funds of Carso Global Telecom held with
Bank of America. The proceeds from this loan were used to pay down the Inbursa
notes payable. Subsequent to December 31, 1997, the Bank of America loan was
repaid in full.     
 
  In August 1998, the Company secured a $35,600 line of credit commitment from
Carso Global Telecom. This credit facility expires on December 31, 1999 and
bears interest at the LIBOR rate plus between one and five percentage points
(as negotiated on a case-by-case basis).
 
                                     F-16
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
 
9. CONTINGENT CONVERTIBLE NOTES AND WARRANTS
 
  The Contingent Convertible Notes ("Contingent Notes") issued in connection
with the acquisition of PSC (see Note 4--Acquisitions), would have accrued
interest at a rate of 8% annually commencing on December 17, 1997.
   
  The Contingent Notes were automatically convertible into shares constituting
15% of the Company's then outstanding common stock on a fully diluted basis,
limited to the number of shares equal to a value of $200,000 plus contingent
interest, upon the earlier of (i) an initial public offering by the Company
resulting in gross proceeds of at least $25,000, (ii) an acquisition of the
Company, (iii) following an initial public offering with gross proceeds of
less than $25,000, the first date on which the Company's market value exceeds
$200,000, or (iv) June 17, 2006. In lieu of conversion upon an initial public
offering or June 17, 2006, the Company had the option, but under no
circumstances the obligation, to redeem the Contingent Notes.     
   
  In November 1997, IBM and Sears exchanged the Contingent Notes for (i)
contingent notes in the face amount of $200,000 and (ii) contingent warrants
to acquire up to 15% of the Company. Subject to a maximum aggregate value of
$200,000, plus contingent interest, the contingent notes are automatically
convertible into shares constituting 15% of the value of the Company's common
stock in excess of a market value of $250,000, upon the earlier of (i) an
initial public offering by the Company resulting in gross proceeds of at least
$25,000, (ii) an acquisition of the Company, (iii) following an initial public
offering with gross proceeds of less than $25,000, the first date on which the
Company's market value exceeds $200,000, or (iv) June 17, 2006. In lieu of
conversion upon an initial public offering or June 17, 2006, the Company had
the option, but under no circumstances the obligation, to redeem the
Contingent Notes. The warrants allow IBM and Sears to purchase up to 15% of
the Company at 130% of the fair market value at the date of conversion of the
contingent notes. The warrants are exercisable at any time prior to the third
anniversary of the conversion of the contingent notes. As a condition to these
arrangements, Carso Global Telecom prepaid (as an advance to the Company) the
balance due on the White Plains lease of $5,831. Carso Global Telecom also
established a $4,000 letter of credit, declining quarterly over three years,
to secure other payment obligations of the Company under contracts for which
IBM and Sears retained liability. After conversion of the contingent notes or
exercise of the contingent warrants, IBM and Sears have agreed to vote their
shares of common stock in accordance with the voting recommendations of the
Company's Board of Directors.     
 
10. INCOME TAXES
 
  The Company had no income tax expense for the years ended December 31, 1996
and 1997 as a result of net losses. As of December 31, 1996 and 1997, the
Company's deferred tax assets (liabilities) were as follows:
 
<TABLE>
<CAPTION>
                                                               1996      1997
                                                             --------  --------
   <S>                                                       <C>       <C>
   Domestic net operating loss carryforwards................ $ 21,602  $ 46,000
   Foreign net operating loss carryforwards.................    3,350     8,840
   Intangible assets........................................    5,236     4,698
   Equity investments.......................................    3,621       --
   Restructuring and other nonrecurring reserves............    1,259     5,357
   Other....................................................   (1,359)    4,045
   Valuation allowance......................................  (33,709)  (68,940)
                                                             --------  --------
   Net deferred tax asset................................... $    --   $    --
                                                             ========  ========
</TABLE>
 
  At December 31, 1997, the Company had net operating loss carryforwards for
federal income tax purposes of approximately $115,000 which may be used to
offset future taxable income, beginning to expire in 2009. The
 
                                     F-17
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
utilization of the federal income tax loss carryforwards is subject to
limitation as a result of a change of ownership. The Company also has
operating loss carryforwards in various foreign subsidiaries of approximately
$22,100 which began to expire in 1998 and may be used to offset future taxable
income in those countries.
 
  Management of the Company has evaluated the positive and negative evidence
bearing upon the realizability of its deferred tax assets, which are comprised
principally of net operating loss carryforwards. Under the applicable
accounting standards, management has considered the Company's history of
losses and concluded that it is more likely than not that the Company will not
realize these favorable tax attributes. Accordingly, the deferred tax assets
have been fully reserved. Management revaluates the positive and negative
evidence periodically.
 
11. STOCKHOLDERS' EQUITY (DEFICIT)
 
 Authorized Shares of Common Stock
 
  In 1996, the Board of Directors and the stockholders approved an increase in
the authorized shares of common stock to 140,000,000 shares.
 
  In 1997, the Board of Directors and the stockholders approved a further
increase in the authorized shares of common stock to 280,000,000 shares.
 
 Private Placement
 
  In October 1996, the Company offered up to 8,000,000 shares of its common
stock in a private placement, resulting in net proceeds to the Company from
investors (other than Carso Global Telecom and the Stockholder) of
approximately $1,843. In February 1997, the Company increased the size of the
offering from 8,000,000 shares to 16,000,000 shares of common stock and
reduced the offering price to $3.00 per share from $7.00 per share. As a
result of the reduction in the offering price, the Company offered to each
investor the choice of either (i) receiving additional shares to reduce their
average purchase price to $3.00 or (ii) rescinding their subscriptions and
receiving refunds without interest upon the closing. The Company received
aggregate gross proceeds of $88,843 and issued 29,614,412 shares of common
stock.
 
  In November 1997, the Company made a Rights Offering whereby each eligible
stockholder was entitled to purchase at a price of $1.00 per share, one share
of the Company's common stock for each share held. The Company issued
50,561,915 additional shares and received $46,554 in cash and a $4,000 note
receivable from Carso Global Telecom for the issuance of the IBM/Sears letter
of credit (see Note 9--Contingent Convertible Notes and Warrants). On a
quarterly basis, Carso Global Telecom will contribute $333 less any draws on
the letter of credit until the $4,000 has been paid to the Company.
 
 Additional Financing
 
  In August 1998, the Company sold 24,500,000 shares of common stock at a
price of $2.00 per share to Telefonos de Mexico, S.A. de C.V. ("Telmex"), an
affiliate of Carso Global Telecom, resulting in proceeds of $49,000 to the
Company. At the same time Carso Global Telecom purchased an additional
5,500,000 shares of common stock at a price of $2.00 per share, resulting in
proceeds of $11,000 to the Company. These proceeds were used to repay the
$30,000 note payable to Bank of America and a remaining $2,100 in notes
payable to Inbursa, with the balance to be used for general corporate
purposes.
 
 Stock Option Plan
 
  In 1996, the Board of Directors and the stockholders approved a Stock Option
Plan (the "Plan"). Under the Plan, options to purchase up to 9,500,000 shares
of common stock may be granted to employees, directors,
 
                                     F-18
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
consultants and advisors of the Company. Options granted may be either
"incentive stock options" or "nonqualified options." All options issued under
the Plan are exercisable over periods determined by the Board of Directors,
not to exceed 10 years from the date of grant. Options generally vest over
periods ranging from 3-5 years. In September 1997, the Board of Directors and
the stockholders approved an increase of 3,000,000 to the number of shares of
common stock available for future grants. These options have the same terms
and conditions as the shares initially authorized under the 1996 Plan.
 
  Stock option plan activity for the years ended December 31, 1996 and 1997
follows (in thousands):
 
<TABLE>
<CAPTION>
                                                                1996     1997
                                                               -------  -------
   <S>                                                         <C>      <C>
   Outstanding at January 1...................................   4,791    9,144
     Options granted..........................................   6,811    3,315
     Options canceled.........................................  (2,458)  (3,260)
                                                               -------  -------
   Outstanding at December 31.................................   9,144    9,199
                                                               =======  =======
   Exercisable at December 31.................................   1,878    3,472
                                                               =======  =======
   Available for grant at December 31.........................     356    3,301
                                                               =======  =======
 
  Weighted average option exercise price information for the years ended
December 31, 1996 and 1997 follows:
 
<CAPTION>
                                                                1996     1997
                                                               -------  -------
   <S>                                                         <C>      <C>
   Outstanding at January 1...................................   $2.15    $3.12
     Options granted..........................................   $3.00    $2.51
     Options canceled.........................................   $2.73    $2.33
   Outstanding at December 31.................................   $3.12    $2.68
                                                               =======  =======
   Exercisable at December 31.................................   $1.97    $2.74
                                                               =======  =======
</TABLE>
 
  The following table summarizes information about stock options outstanding
at December 31, 1997:
 
<TABLE>   
<CAPTION>
                    OPTIONS OUTSTANDING                       OPTIONS EXERCISABLE
   ---------------------------------------------------------------------------------
                                       WEIGHTED-
                                        AVERAGE   WEIGHTED-                WEIGHTED-
                           NUMBER      REMAINING   AVERAGE      NUMBER      AVERAGE
       RANGE OF         OUTSTANDING   CONTRACTUAL EXERCISE   EXERCISABLE   EXERCISE
    EXERCISE PRICES    (IN THOUSANDS)    LIFE       PRICE   (IN THOUSANDS)   PRICE
   -----------------   -------------- ----------- --------- -------------- ---------
   <S>                 <C>            <C>         <C>       <C>            <C>
         $0.25                25       7.2 years    $0.25          25        $0.25
         $1.00                50       7.3 years    $1.00          50        $1.00
       $2.00 to
         $3.00             9,124       5.8 years    $2.70       3,397        $2.78
                           -----                                -----
       $0.25 to
         $3.00             9,199       5.8 years    $2.68       3,472        $2.74
                           =====       =========    =====       =====        =====
</TABLE>    
   
  Had compensation cost for the Company been determined based upon the fair
value at the grant date for awards under the plan consistent with the
methodology prescribed under SFAS No. 123, the Company's net losses for the
years ended December 31, 1996 and 1997 would have been approximately $116,512
and $133,395, respectively, and basic and diluted net loss per share would
have been approximately $2.81 and $1.92, respectively. The effects of this pro
forma disclosure are not indicative of future amounts. Additional awards are
anticipated in future years. The weighted average fair value of the options
granted during the years ended     
 
                                     F-19
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
December 31, 1996 and 1997 was estimated at $1.69 and $0.28 per share,
respectively, on the date of grant using the Black-Scholes option-pricing
model with the following assumptions: no dividend yield, volatility of 55% for
1996 and 1997, risk-free rate of 6.16% for 1996 and 5.99% for 1997, and an
expected option life of 4.6 years from date of vesting for 1996 and 1997.
 
  In determining the fair value of the common stock at the date of grant under
the Plan, the Board considered a broad range of factors including the illiquid
nature of an investment in the Company's common stock, transactions in the
Company's common stock, the Company's historical financial performance
relative to that of comparable companies and its future prospects.
 
 Repricing of Stock Options
 
  In June 1997, the Board approved a repricing plan to reprice employee stock
options under the Plan to restore the long-term employee retention and
performance incentives of the stock options outstanding. In accordance with
the repricing plan, all stock options held by current, active full-time
employees, with exercise prices above $3.00 per share, were canceled and
replaced by the same number of options exercisable at $3.00 per share, the
fair value of the Company's common stock as determined by the Board on the
date of the repricing.
 
  In May 1998, the Board approved a repricing plan to reprice employee stock
options under the Plan to restore the long-term employee retention and
performance incentives of the stock options outstanding. In accordance with
the repricing plan, all stock options held by current, active full-time
employees, with exercise prices above $1.00 per share, were canceled and
replaced by the same number of options exercisable at $1.00 per share, the
fair value of the Company's common stock as determined by the Board on the
date of the repricing.
 
  The exercise and vesting periods of the outstanding options were not altered
by the repricings.
 
  In making the determinations of the fair value of the Company's common
stock, the Board considered a broad range of factors including the illiquid
nature of an investment in the Company's common stock, transactions of the
Company's common stock, the Company's historical financial performance
relative to that of comparable companies and its future prospects.
 
 Stock Warrants
 
  In October 1996, the Stockholder exercised his warrant to purchase 270,000
shares of common stock at a price of $3.00 per share, less a discount
resulting in proceeds of $792 to the Company. The discount was approved by the
Company's Board of Directors and was agreed upon to reflect the fact that the
Stockholder exercised the warrant prior to its expiration date of December 31,
1996. In December 1996, Carso Global Telecom exercised its warrant to purchase
2,700,000 shares of common stock at a price of $3.00 per share, resulting in
proceeds of $8,100 to the Company. These warrants were granted in
consideration of the commitments described in the Funding Agreement (see Note
4--Acquisition of Prodigy Services).
 
  The warrant to purchase 1,000,000 shares issued to Carso Global Telecom in
1996 was canceled in March 1997, at which time the Company granted Carso
Global Telecom and the Stockholder warrants to purchase 13,000,000 shares and
2,000,000 shares, respectively, of common stock for $3 per share, exercisable
prior to or on November 12, 1997. In October 1997, in consideration of the
interim financing (see Note 8--Notes Payable), the exercise price was reduced
from $3.00 per share to $1.00 per share.
 
  At December 31, 1997, the Company had warrants outstanding with various
shareholders, including Carso Global Telecom, to purchase 15,437,389 shares of
the Company's common stock at an average price of $1.05 per share. Of the
outstanding warrants, 15,000,000 may be exercised at any time until the
earlier of May 12,
 
                                     F-20
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
1998, or an initial public offering. Of the remainder, 88,056 warrants expire
between May and December 2001, and 349,333 expire between May and August 2005.
In April 1998, 13,000,000 warrants were exercised at $1.00 per share. In May
1998, 2,000,000 warrants were exercised at $1.00 per share.
 
12. COMMITMENTS AND CONTINGENCIES
 
 Commitments
 
  At December 31, 1997, the Company's minimum rental commitments under
noncancelable operating leases with initial or remaining terms of more than
one year were as follows:
 
<TABLE>
   <S>                                                                  <C>
   Year ended December 31,
   1998................................................................ $ 2,777
   1999................................................................   2,861
   2000................................................................   3,102
   2001................................................................   2,414
   2002 and thereafter.................................................   7,317
                                                                        -------
                                                                        $18,471
                                                                        =======
</TABLE>
 
 
  The Company's rent expense in the years ended December 31, 1996 and 1997 was
approximately $5,800 and $9,192, respectively.
 
  In December 1993, PSC entered into a noncancelable agreement with a
telephone company to provide certain services at the Company's White Plans, NY
and Yorktown, NY facilities. The agreement has a term ("service period") of
ten years. The agreement calls for line charges totaling $510 per year. The
Company has the right to terminate the agreement for certain services at any
time at a cost of 80% of the line charges over the remaining services period.
 
  The Company is party to a contract for a subscription management system
through June 2001. This contract requires minimum annual payment of processing
fees of $900. For the years ended 1996 and 1997, the Company paid $5,055 and
$3,628, respectively.
 
  The Company is party to a number of other agreements with information
providers which require payment of fees based upon the number of subscribers
or subscriber usage of providers' data.
 
  Under the Company's four-year agreement with Splitrock, the Company is
obligated to minimum annual payments of $39,000 in 1998, $45,000 in 1999,
$51,000 in 2000 and $27,000 in 2001 and maximum monthly charges based on the
number of the Company's subscribers for the month. The agreement provides for
early termination charges of $7,000 in the first year, declining thereafter of
an annual basis. The agreement is automatically renewed for successive 12-
month periods unless terminated by either party upon 12-months notice.
 
  In September 1997, the Company entered into a 22-month agreement with a
vendor to provide network licensing and technical support. This agreement
requires annual payments of $714 and $429, in 1998 and 1999, respectively.
Upon 30-day prior written notice, the Company can terminate the agreement
without penalty. The agreement can be extended for an additional 12 months.
 
  As of December 31, 1997, the Company was contractually obligated to pay IBM
a network termination penalty of $7,500 as part of the sale of the Company's
network. The Company is currently negotiating with IBM to settle this
liability through a defined purchasing plan, whereby the Company will be
obliged to purchase services from IBM through December 31, 2000, up to $7,500
in value, with any shortfall being paid as a penalty. The Company has accrued
$2,000 as of December 31, 1997, representing management's best estimate of the
anticipated penalty to IBM. This amount is included in the Company's accrued
network termination cost (see Note 3--Restructuring and Other Special Costs).
 
                                     F-21
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
 
 Contingencies
   
  In June 1998, Lycos, Inc. ("Lycos") filed a complaint and motion for
preliminary injunction in the Superior Court of Middlesex County,
Massachusetts against the Company. The lawsuit alleges, among other things,
that the Company breached a license agreement with Lycos by entering into a
portal outsourcing agreement with Excite in January 1998 and by terminating
the license agreement between Lycos and the Company. The lawsuit seeks
specific performance of the license agreement between Lycos and the Company, a
preliminary and permanent injunction enjoining the Company from terminating
the license agreement between Lycos and the Company and from performing under
its agreement with Excite, money damages and attorneys' fees. A hearing on
Lycos' motion for preliminary injunction has been adjourned because the
parties are in negotiations to settle the lawsuit. However, there can be no
assurance the lawsuit will be settled. If the lawsuit is not settled, the
Company intends to defend it vigorously. It is not currently possible to
estimate the effect of an unfavorable outcome to this lawsuit; however, it is
possible that such an outcome could have a material adverse impact on the
Company's operations.     
 
13. DEFINED CONTRIBUTION PLAN
 
  On June 17, 1996, as part of the Company's acquisition of PSC (see Note 4--
Acquisitions), the Company took on responsibility for the administration and
sponsorship of the Prodigy Services Corporation Capital Accumulation Plan (the
"Plan").
 
  The Plan is a defined contribution plan covering all employees of the
Company. Employees can participate in the Plan from their first day of
employment.
 
  Each year, active participants may contribute up to 12 percent of their pre-
tax base salaries, up to the maximum amount allowed by the Plan. The Company
contributes a matching contribution equal to 100 percent of an employee's pre-
tax contributions, limited to a maximum of 3 percent of a participant's
compensation. The Plan also has an after-tax savings feature that permits
employees to contribute from 1 percent to 10 percent of their base salaries
subject to Internal Revenue Code limitations.
 
  The Company's contributions were $600 and $596 in 1996 and 1997,
respectively.
 
14. VALUATION AND QUALIFYING ACCOUNTS
 
  The following table sets forth activity in the Company's reserve accounts:
 
                              ACCOUNTS RECEIVABLE
 
<TABLE>
<CAPTION>
                                    BALANCE AT                       BALANCE AT
                                    BEGINNING  CHARGES TO              END OF
                                    OF PERIOD  OPERATIONS DEDUCTIONS   PERIOD
                                    ---------- ---------- ---------- ----------
<S>                                 <C>        <C>        <C>        <C>
Year ended:
  December 31, 1996................    $--       $4,002     $3,072      $930
  December 31, 1997................     930       4,749      4,994       685
  Six months ended June 30, 1998
   (unaudited).....................     685       1,384      1,405       664
</TABLE>
 
                                     F-22
<PAGE>
 
                      PRODIGY COMMUNICATIONS CORPORATION
 
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
              (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
 
15. SUPPLEMENTAL CASH FLOW INFORMATION
 
<TABLE>   
<CAPTION>
                                                                YEARS ENDED
                                                               DECEMBER 31,
                                                             ------------------
                                                               1996      1997
                                                             --------  --------
<S>                                                          <C>       <C>
Cash paid for interest...................................... $  2,428  $  1,177
                                                             ========  ========
Noncash investing and financing activities:
  Conversion of advances from stockholder to common stock... $  4,500  $102,651
  Contingent convertible notes and contingent warrants
   issued in exchange for contingent convertible note.......      --     30,500
  Sale of network assets in exchange for service agreement..      --   $  9,502
  Acquisition of minority interest in "Comstar Cote d'
   Ivoire," in exchange for 350,000 shares of common stock.. $  1,050       --
                                                             ========  ========
Acquisition of business, net of cash acquired:
  Fair value of assets acquired............................. $136,095       --
  Cash paid for assets, including direct costs..............  (47,616)      --
  Issuance of contingent convertible notes..................  (30,500)      --
                                                             --------  --------
Liabilities assumed......................................... $ 57,979       --
                                                             ========  ========
</TABLE>    
   
16. SUBSEQUENT EVENT (UNAUDITED)     
   
  Telmex is the largest ISP in Mexico and currently has approximately 105,000
billable subscribers to its Internet Directo Personal ("IDP") online service.
IDP subscribers currently generate average monthly revenue of approximately
$20 per subscriber (based on the current peso/dollar exchange rate). In
November 1998, Prodigy and Telmex agreed in principle that (i) Prodigy will
acquire Telmex's IDP subscribers, (ii) Prodigy and Telmex will develop a
migration plan for the integration of the Prodigy Internet and IDP services,
(iii) Prodigy will contract with Telmex to carry the integrated IDP/Prodigy
Internet service on Telmex's existing network in Mexico and to provide certain
other functions associated with the service, (iv) Prodigy will contract with
selected third parties to provide certain functions associated with the
service, (v) Telmex will ensure, through Prodigy's pricing arrangements with
Telmex and third-party providers, that Prodigy will receive an operating
profit margin of 15% on the first 200,000 IDP subscribers and 10% thereafter,
(vi) Prodigy will issue approximately 26,500,000 shares of Common Stock to
Telmex (based on present assumptions) and (vii) Telmex will guarantee that a
minimum of 300,000 additional billable IDP subscribers will be obtained over a
three-year period.     
   
  Consummation of Prodigy's proposed acquisition of Telmex's IDP subscribers
will be subject to a number of significant conditions, including (i)
negotiation and execution of definitive documentation, (ii) receipt of all
necessary governmental approvals, including expiration of the waiting period
under the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended
(the "HSR Act"), (iii) approval by Prodigy's Board of Directors and, if
required, stockholders and (iv) receipt by Prodigy's Board of Directors of a
written opinion, from an investment banking firm of its selection, to the
effect that the terms of the proposed transaction are fair, from a financial
point of view, to Prodigy. Prodigy currently anticipates that this transaction
will be consummated in the first half of 1999. However, there can be no
assurance that this transaction will be consummated on the terms summarized
above, if at all. If this transaction is consummated, the financial and
operating implications for Prodigy cannot be predicted at this time. The
Offering is not conditioned on completion of Prodigy's proposed acquisition of
Telmex's IDP subscribers, and completion of Prodigy's proposed acquisition of
Telmex's IDP subscribers is not conditioned on the Offering.     
 
                                     F-23
<PAGE>
 
                       REPORT OF INDEPENDENT ACCOUNTANTS
 
To the Board of Directors of Prodigy Communications Corporation:
 
  In our opinion, the accompanying consolidated statements of operations and
of cash flows present fairly, in all material respects, the consolidated
results of operations and cash flows of Prodigy Services Company and its
subsidiary for the year ended December 31, 1995 and for the five and one-half
month period ended June 16, 1996, in conformity with generally accepted
accounting principles. These financial statements are the responsibility of
management; our responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits of these statements in
accordance with generally accepted auditing standards which require that we
plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements, assessing the accounting principles used and
significant estimates made by management, and evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for the opinion expressed above.
 
                                          /s/ PricewaterhouseCoopers LLP
 
Boston, Massachusetts
September 10, 1998
 
                                     F-24
<PAGE>
 
                  PRODIGY SERVICES COMPANY AND ITS SUBSIDIARY
 
                     CONSOLIDATED STATEMENTS OF OPERATIONS
 
  For the year ended December 31, 1995 and the five and one-half month period
ended June 16, 1996:
 
<TABLE>
<CAPTION>
                                                     YEAR ENDED  JANUARY 1, 1996
                                                    DECEMBER 31, THROUGH JUNE 1,
                                                        1995          1996
                                                    ------------ ---------------
                                                           (IN THOUSANDS)
<S>                                                 <C>          <C>
Revenues:
  On-line service revenues.........................   $230,562      $ 98,242
  Other............................................     12,837         8,900
                                                      --------      --------
    Total revenues.................................    243,399       107,142
                                                      --------      --------
Operating costs and expenses:
  Costs of revenue.................................    120,457        67,833
  Marketing........................................     67,411        43,527
  Product development..............................     22,509        11,277
  General and administrative.......................     68,738        32,948
  Restructuring and other special costs............        --         14,561
                                                      --------      --------
    Total operating costs and expenses.............    279,115       170,146
                                                      --------      --------
    Operating loss.................................    (35,716)      (63,004)
Interest income....................................      1,133            61
                                                      --------      --------
    Net loss.......................................   $(34,583)     $(62,943)
                                                      ========      ========
</TABLE>
 
 
 
   The accompanying notes are an integral part of the consolidated financial
                                  statements.
 
                                      F-25
<PAGE>
 
                  PRODIGY SERVICES COMPANY AND ITS SUBSIDIARY
 
                     CONSOLIDATED STATEMENTS OF CASH FLOWS
 
  For the year ended December 31, 1995 and the five and one-half month period
ended June 16, 1996
 
<TABLE>   
<CAPTION>
                                                                 JANUARY 1, 1996
                                                     YEAR ENDED      THROUGH
                                                    DECEMBER 31,    JUNE 16,
                                                        1995          1996
                                                    ------------ ---------------
                                                           (IN THOUSANDS)
<S>                                                 <C>          <C>
Cash flows from operating activities:
  Net loss........................................    $(34,583)     $(62,943)
  Adjustments to reconcile net loss to net cash
   used in operating activities:
    Provision for doubtful accounts...............      (2,434)          883
    Depreciation and amortization of property and
     equipment....................................      19,032         8,824
    Amortization of deferred software development
     costs........................................       2,719         1,215
    Write-down of deferred software development
     costs to net realizable value................         --          3,359
    Amortization of deferred subscriber
     acquisition costs............................      12,700         7,800
    Write-down of deferred subscriber acquisition
     costs to net realizable value................         --          9,221
    Gain on sale of property and equipment........      (1,273)          --
    Write-off of leasehold improvements...........         --          5,593
    Changes in operating assets and liabilities:
      Trade accounts receivable...................       6,788         3,096
      Prepaid expenses and other current assets...      (2,424)        3,827
      Deferred subscriber acquisition costs.......     (16,848)       (5,076)
      Accounts payable............................       4,833        (7,715)
      Accrued pension expense.....................      (1,146)          984
      Accrued restructuring and other special
       costs......................................         --          8,101
      Other accrued expenses......................      (7,571)        3,957
      Unearned revenue............................      (5,565)      (10,094)
                                                      --------      --------
        Net cash used in operating activities.....     (25,772)      (28,968)
                                                      --------      --------
Cash flows from investing activities:
  Purchase of property and equipment..............     (25,746)      (14,057)
  Proceeds from disposals of property and
   equipment......................................       2,783            85
  Deferred software development costs.............      (2,880)       (3,498)
                                                      --------      --------
        Net cash used in investing activities.....     (25,843)      (17,470)
                                                      --------      --------
Cash flows from financing activities:
  Partners' capital contributions.................      48,613        67,300
                                                      --------      --------
Net (decrease) increase in cash and cash
 equivalents......................................      (3,002)       20,862
Cash and cash equivalents at beginning of period..       8,668         5,666
                                                      --------      --------
Cash and cash equivalents at end of period........    $  5,666      $ 26,528
                                                      ========      ========
</TABLE>    
 
   The accompanying notes are an integral part of the consolidated financial
                                  statements.
 
                                      F-26
<PAGE>
 
                  PRODIGY SERVICES COMPANY AND ITS SUBSIDIARY
 
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                (IN THOUSANDS)
 
1. ORGANIZATION AND BASIS OF PRESENTATION
 
  Prodigy Services Company (the "Partnership") is a joint venture of
International Business Machines Corporation ("IBM") and Sears, Roebuck & Co.
("Sears"). The Partnership was formed to develop and market PRODIGY(SM) (the
"PRODIGY Service" or the "Service"), the national network that provides on-
line services to households with personal computers.
 
  The Partnership was organized on February 13, 1984 as a New York State
general partnership.
 
  On June 16, 1996, the Partners sold the PRODIGY Service, and the related
assets and liabilities, of the Partnership to Prodigy, Inc., with the
exception of certain patents and all obligations and liabilities related to
employee retirement and postretirement benefit plans, for an aggregate
purchase price of $78,116. These consolidated financial statements present the
results of operations for the year ended December 31, 1995 and for the five
and one-half month period from January 1, 1996 through June 16, 1996, and have
been prepared using the Partnership's historical basis in the results of
operations.
   
  These consolidated financial statements have been included in the Prospectus
as the Partnership is considered to be the predecessor business to Prodigy
Communications Corporation.     
 
2. SIGNIFICANT ACCOUNTING POLICIES
 
 Principles of Consolidation and Estimates
 
  The consolidated financial statements include the accounts of the
Partnership and its majority-owned subsidiary, SonicNet, Inc. All significant
intercompany transactions have been eliminated on consolidation. The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the reported amounts of revenues and expenses during the reporting
periods. Actual results could differ from those estimates.
 
 Cash and Cash Equivalents
 
  Cash and cash equivalents are highly liquid investments with a maturity of
three months or less when purchased and consist of deposits with banks and
financial institutions which are unrestricted as to withdrawal or use.
 
 Revenue Recognition
 
  On-line service revenues encompass subscription and usage fees. Term
subscription fees are recognized on a pro-rata basis over the life of the
related subscriptions. Other revenues consist principally of marketing
services and transaction fees generated from goods and services purchased
through the service. Revenues are recorded when services are rendered or
products are delivered.
 
 Income Taxes
 
  The Partnership is not a taxable entity; accordingly, no provision for
income taxes has been made in the financial statements. The Partners'
respective shares of partnership losses are reportable on the individual
Partner's corporate income tax returns.
 
 Property and Equipment
 
  Property and equipment is stated at cost. Depreciation and amortization is
computed using the straight-line method over the estimated useful life of the
asset or the lesser of the remaining lease term or the life of the
improvement. Estimated service lives of these assets range principally from
three to seven years.
 
                                     F-27
<PAGE>
 
                  PRODIGY SERVICES COMPANY AND ITS SUBSIDIARY
 
                 NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
                                (IN THOUSANDS)
 
  Repair and maintenance charges are expensed as incurred. When assets are
sold, retired or otherwise disposed of, the applicable costs and accumulated
depreciation and amortization are removed from the accounts and the resulting
gain or loss is included in the consolidated statement of operations.
 
 Deferred Subscriber Acquisition Costs
 
  Certain subscriber acquisition costs are deferred and charged to operations
using the straight-line method beginning the month after such costs are
incurred. These costs are amortized over a fifteen to eighteen month period.
These costs relate directly to subscriber solicitations and principally
include printing, production and shipping of start-up kits. Costs incurred
other than those targeted at specific identifiable prospects for the
Partnership's services are expensed as incurred.
 
 Product Development
 
  The Partnership capitalizes the cost of developing computer software used in
the sale of its services. The capitalization of these costs begins when
technological feasibility has been established and ends when the product is
available for general release to customers. Costs incurred prior to
technological feasibility are expensed as incurred. Amortization expense is
computed on a product-by-product basis using the straight-line method,
primarily over a twenty-four month period beginning the month after the date
of product release.
 
  Concentrations of Credit Risk
 
  Financial instruments which potentially subject the Partnership to
concentrations of credit risk consist principally of cash and trade
receivables. Concentration of credit risk with respect to cash is limited as
the Partnership invests its cash in deposits with several financial
institutions. Concentration of credit risk with respect to trade receivables
is limited as the outstanding total represents a large number of customers
with individually small balances. The Partnership does not require collateral
or other security against trade receivable balances; however, it does maintain
reserves for potential credit losses and such losses have been within
management's expectations.
 
3. INVESTMENTS
 
  In December 1995, the Partnership purchased a 53 percent ownership interest
in SonicNet, Inc., a company formed to provide an interactive service of
alternative rock music made available through a Prodigy web site on the
Internet and through other interactive media. The investment consists of
voting securities issued in exchange for the Partnership's commitment to
provide funding of approximately $2,100 for SonicNet, Inc. in scheduled
monthly payments through February 1997. The results of operations from the
date of acquisition are included in the Partnership's net losses and are not
material.
 
4. RELATED PARTY TRANSACTIONS
 
  a. The Partnership recognized revenues from contracts with its Partners as
follows:
 
<TABLE>
<CAPTION>
                                                                     JANUARY 1,
                                                        YEAR ENDED  1996 THROUGH
                                                       DECEMBER 31,   JUNE 16,
                                                           1995         1996
                                                       ------------ ------------
   <S>                                                 <C>          <C>
   IBM................................................     $ 41         $ 5
   Sears..............................................      163          23
                                                           ----         ---
                                                           $204         $28
                                                           ====         ===
</TABLE>
 
 
                                     F-28
<PAGE>
 
                  PRODIGY SERVICES COMPANY AND ITS SUBSIDIARY
 
                 NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
                                (IN THOUSANDS)
  b. The Partnership purchased data processing and office equipment from IBM
and Sears as follows:
 
<TABLE>   
<CAPTION>
                                                                     JANUARY 1,
                                                        YEAR ENDED  1996 THROUGH
                                                       DECEMBER 31,   JUNE 16,
                                                           1995         1996
                                                       ------------ ------------
   <S>                                                 <C>          <C>
   IBM................................................    $7,193        $356
   Sears..............................................         6         --
                                                          ------        ----
                                                          $7,199        $356
                                                          ======        ====
</TABLE>    
 
  c. Payments to IBM for technical services, software license fees, equipment
maintenance and installation charges, and training services totaled
approximately $6,200 and $2,300 for the year ended December 31, 1995 and the
five and one-half month period ended June 16, 1996, respectively.
 
  d. In March 1995, the Partnership contracted with Advantis, a joint venture
of IBM and Sears, to provide an inbound 800 number calling service. During the
year ended December 31, 1995 and the five and one-half month period ended June
16, 1996, the Partnership made net payments of approximately $1,200 and
$1,400, respectively, relating to this agreement.
 
  e. In September 1995, the Partnership entered into an agreement with IBM to
participate in the IBM licensing agreement with Netscape, Inc. for the
latter's "Navigator" Internet browser. Under the agreement the Partnership is
obligated to reimburse IBM for certain contractual fees in proportion to the
benefits derived from underlying services. These reimbursements were $239 and
$0 for the year ended December 31, 1995 and the five and one-half month period
ended June 16, 1996, respectively.
 
  f. In October 1993, the Partnership entered into an agreement with IBM to
provide PRODIGY Service start-up kits and an on-line service application for
inclusion in IBM personal computers. Payments to IBM totaled $416 and $331 for
the year ended December 31, 1995 and the five and one-half month period ended
June 16, 1996, respectively.
 
  g. In December 1991, the Partnership entered into an agreement with IBM for
business recovery services in the event a disaster interrupted operations at
the Partnership's data center. Partnership payments to IBM under this
agreement totaled $398 and $183 for the year ended December 31, 1995 and the
five and one-half month period ended June 16, 1996, respectively.
 
5. LEASE AGREEMENTS
   
  During 1992, the Partnership executed a lease agreement with Metropolitan
Life Insurance Company for a ten-year lease on the Partnership's headquarters
premises in White Plains, New York, commencing January 1, 1993.     
 
  The Partnership also leases space for numerous computer installation sites
throughout the United States. Leases for the computer installation sites
generally have three-year terms with options to renew for at least one
additional term.
 
  Rent expense approximated $9,900 and $4,800 for the year ended December 31,
1995 and the five and one-half month period ended June 16, 1996, respectively.
 
                                     F-29
<PAGE>
 
                  PRODIGY SERVICES COMPANY AND ITS SUBSIDIARY
 
                 NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
                                (IN THOUSANDS)
 
6. EMPLOYEE BENEFIT PLANS
 
 Pension Plan
 
  The Partnership has a noncontributory defined benefit pension plan (the
"Pension Plan") for all full-time employees. The benefits are based upon years
of service and the employee's average compensation during the highest-paid
consecutive five years of the last ten years of employment. The Pension Plan
is funded in accordance with the requirements of the Employee Retirement
Income Security Act of 1974 ("ERISA").
 
  Net Pension Plan expense included the following components for the year
ended December 31, 1995:
 
<TABLE>
   <S>                                                                  <C>
   Service cost........................................................ $ 1,714
   Interest cost.......................................................   2,214
   Actual return on assets.............................................  (8,350)
   Net amortization and deferral.......................................   5,148
                                                                        -------
     Net pension plan expense.......................................... $   726
                                                                        =======
</TABLE>
 
  The Partnership recorded a net Pension Plan expense of $360 in the five and
one-half month period ended June 16, 1996.
 
Supplemental Retirement Plans
 
  The Partnership also maintains two unfunded supplemental retirement plans
(the "Plans") for certain employees. The benefits are based upon years of
service and the employee's average compensation during the highest-paid
consecutive five years of the last ten years of employment.
 
  Net expense for the Plans included the following components for the year
ended December 31, 1995:
 
<TABLE>
   <S>                                                                     <C>
   Service cost........................................................... $ 63
   Interest cost..........................................................  495
   Net amortization and deferral..........................................  (70)
                                                                           ----
     Net plan expense..................................................... $488
                                                                           ====
</TABLE>
 
  The Partnership recorded a net expense for the Plans of $224 in the five and
one-half month period ended June 16, 1996.
 
 Capital Accumulation Plan
 
  The Partnership has a voluntary capital accumulation plan for all full-time
employees. The plan is a defined contribution plan and is subject to the
provisions of ERISA. Under the provisions of the plan, the Partnership matches
the first 3% of base salary employee-deferred pre-tax contributions. The
Partnership contributed approximately $1,100 and $600 to the plan in the year
ended December 31, 1995 and the five and one-half month period ended June 16,
1996, respectively.
 
7. OTHER POSTRETIREMENT BENEFITS
 
  The Partnership sponsors a defined benefit postretirement medical and life
insurance plan for all full-time employees. The plan is unfunded.
 
  In 1995, the Partnership adopted Statement of Financial Accounting Standards
No. 106 ("SFAS 106"), "Employers' Accounting for Postretirement Benefits Other
than Pensions." The standard requires recognition of the estimated future cost
of providing health and other postretirement benefits on the accruals basis.
 
                                     F-30
<PAGE>
 
                  PRODIGY SERVICES COMPANY AND ITS SUBSIDIARY
 
                 NOTES TO FINANCIAL STATEMENTS -- (CONTINUED)
                                (IN THOUSANDS)
 
  Net periodic postretirement benefit cost included the following components
for the year ended December 31, 1995:
 
<TABLE>
   <S>                                                                     <C>
   Service cost........................................................... $212
   Interest cost..........................................................  377
   Amortization of net obligation at transition...........................  205
                                                                           ----
                                                                           $794
                                                                           ====
</TABLE>
 
  The Partnership recorded a net periodic postretirement benefit cost of $400
in the five and one-half month period ended June 16, 1996.
 
8. RESTRUCTURING AND OTHER SPECIAL COSTS
 
  In April 1996, the Company approved a restructuring plan to reduce costs
through job eliminations and a reduction in the use of leased office space,
and as a result recorded a restructuring charge of $14,561. This charge
consisted of severance costs of $5,300 in connection with the planned
termination of 20 employees, a lease termination penalty of $7,826, a write-
down of $5,593 related to leasehold improvements, less the write-off of
deferred rent concessions of $4,158.
 
                                     F-31
<PAGE>
 
              INTERNATIONAL WIRELESS INCORPORATED AND SUBSIDIARIES
                      
                   UNAUDITED CONSOLIDATED BALANCE SHEETS     
 
<TABLE>
<CAPTION>
                                                               DECEMBER 31,
                                                            -------------------
                                                              1994      1995
                                                            -------- ----------
<S>                                                         <C>      <C>
ASSETS
Current Assets:
  Cash and equivalents..................................... $242,362 $  413,513
  Accounts receivable......................................      --       5,466
  Note receivable--stockholder.............................      --     100,000
  Interest receivable......................................      --       7,700
  Prepaid expenses.........................................      --      76,699
                                                            -------- ----------
    Total current assets...................................  242,362    603,378
                                                            -------- ----------
Property, Plant and Equipment, Net.........................   52,618  1,491,092
                                                            -------- ----------
Other Assets:
  Licenses.................................................   75,235     72,215
  Deposits.................................................      --      17,426
  Goodwill.................................................      --     316,807
                                                            -------- ----------
    Total other assets.....................................   75,235    406,448
                                                            -------- ----------
      Total................................................ $370,215 $2,500,918
                                                            ======== ==========
</TABLE>
 
<TABLE>   
<CAPTION>
                                                    DECEMBER 31,
                                         -------------------------------------
                                                                      1995
                                            1994         1995      (PRO FORMA)
                                         -----------  -----------  -----------
<S>                                      <C>          <C>          <C>
LIABILITIES AND STOCKHOLDERS' EQUITY
 (DEFICIENCY)
Current Liabilities:
  Accounts payable and accrued
   expenses............................. $   110,628  $   617,373
  Accrued interest--stockholders........         --        11,118
  Advances from stockholders............      11,476       32,529
  Customer deposits.....................         --       201,402
                                         -----------  -----------
    Total current liabilities...........     122,104      862,422
                                         -----------  -----------
Due to Stockholder......................     422,786    1,600,000
                                         -----------  -----------
    Total liabilities...................     544,890    2,462,422
                                         -----------  -----------
Commitments and Contingencies
Stockholders' Equity (deficiency):
  Series A convertible preferred stock,
   $.01 par value; 1,000,000 shares
   authorized; 433,728 and 0 shares
   issued and outstanding in 1994 and
   1995, respectively...................       4,337          --
  Common stock, $.01 par value;
   70,000,000
   shares authorized; 32,499,105, and
   34,527,765
   shares issued and outstanding in 1994
   and 1995, respectively; 41,458,467
   shares pro forma.....................     324,991      345,278  $   414,585
  Additional paid-in capital............     535,636    3,824,562   24,494,962
  Deficit...............................  (1,039,639)  (4,127,365)  (4,127,365)
  Cumulative translation adjustment.....         --        (3,979)      (3,979)
                                         -----------  -----------  -----------
    Total stockholders' equity
     (deficiency).......................    (174,675)      38,496  $20,778,203
                                         -----------  -----------  -----------
      Total............................. $   370,215  $ 2,500,918
                                         ===========  ===========
</TABLE>    
 
                See notes to consolidated financial statements.
 
                                      F-32
<PAGE>
 
              INTERNATIONAL WIRELESS INCORPORATED AND SUBSIDIARIES
                 
              UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS     
 
<TABLE>
<CAPTION>
                                     PERIOD FROM MAY 23, 1994
                                      (DATE OF INCEPTION) TO     YEAR ENDED
                                        DECEMBER 31, 1994     DECEMBER 31, 1995
                                     ------------------------ -----------------
<S>                                  <C>                      <C>
Revenues............................       $       --            $    12,195
                                           -----------           -----------
Costs and Expenses:
  Cost of revenues..................               --                 82,000
  Selling, general and administra-
   tive.............................         1,039,639             3,007,209
                                           -----------           -----------
    Total...........................         1,039,639             3,089,209
                                           -----------           -----------
Loss From Operations................        (1,039,639)           (3,077,014)
                                           -----------           -----------
Other Income (expense):
  Interest income...................               --                  7,832
  Interest expense..................               --                (18,544)
                                           -----------           -----------
    Total...........................               --                (10,712)
                                           -----------           -----------
Net Loss............................       $(1,039,639)          $(3,087,726)
                                           ===========           ===========
</TABLE>
 
 
 
 
                See notes to consolidated financial statements.
 
                                      F-33
<PAGE>
 
              INTERNATIONAL WIRELESS INCORPORATED AND SUBSIDIARIES
     
  UNAUDITED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIENCY)     
<TABLE>
<CAPTION>
                              COMMON STOCK          PREFERRED STOCK
                         ------------------------ --------------------
                                                                        ADDITIONAL
                                                                         PAID-IN
                           SHARES       AMOUNT      SHARES     AMOUNT    CAPITAL
                         -----------  ----------- -----------  -------  ----------
<S>                      <C>          <C>         <C>          <C>      <C>
  Acquisition of
   Comstar..............  21,336,850   $213,369           --   $   --   $ (285,574)
  Sale of preferred
   stock, net of costs
   of $19,200...........         --         --        433,728    4,337     843,919
  Issuance of common
   stock................  11,162,255    111,622           --       --      (22,709)
  Net loss..............         --         --            --       --          --
                         -----------   --------   -----------  -------  ----------
Balance, December 31,
 1994...................  32,499,105    324,991       433,728    4,337     535,636
  Sale of preferred
   stock................         --         --         20,000      200      39,800
  Conversion of
   preferred stock......     567,160      5,672      (453,728)  (4,537)     (1,135)
  Common stock issued
   for services.........      55,000        550           --       --      144,450
  Sale of common stock,
   net of costs of
   $146,374.............     806,500      8,065           --       --    1,861,811
  Conversion of amount
   due to stockholder...     400,000      4,000           --       --      996,000
  Acquisition of Karisi
   Communications,
   Inc..................     200,000      2,000           --       --      248,000
  Net loss..............         --         --            --       --          --
  Translation
   adjustment...........         --         --            --       --          --
                         -----------   --------   -----------  -------  ----------
Balance, December 31,
 1995...................  34,527,765   $345,278           --   $   --   $3,824,562
                         ===========   ========   ===========  =======  ==========
<CAPTION>
                                      CUMULATIVE
                                      TRANSLATION
                           DEFICIT    ADJUSTMENT     TOTAL
                         -----------  ----------- -----------
<S>                      <C>          <C>         <C>          <C>      <C>
  Acquisition of
   Comstar.............. $       --    $    --    $   (72,205)
  Sale of preferred
   stock, net of costs
   of $19,200...........         --         --        848,256
  Issuance of common
   stock................         --         --         88,913
  Net loss..............  (1,039,639)       --     (1,039,639)
                         -----------   --------   -----------
Balance, December 31,
 1994...................  (1,039,639)       --       (174,675)
  Sale of preferred
   stock................         --         --         40,000
  Conversion of
   preferred stock......         --         --            --
  Common stock issued
   for services.........         --         --        145,000
  Sale of common stock,
   net of costs of
   $146,374.............         --         --      1,869,876
  Conversion of amount
   due to stockholder...         --         --      1,000,000
  Acquisition of Karisi
   Communications,
   Inc..................         --         --        250,000
  Net loss..............  (3,087,726)       --     (3,087,726)
  Translation
   adjustment...........         --      (3,979)       (3,979)
                         -----------   --------   -----------
Balance, December 31,
 1995................... $(4,127,365)  $ (3,979)  $    38,496
                         ===========   ========   ===========
</TABLE>
 
 
                See notes to consolidated financial statements.
 
                                      F-34
<PAGE>
 
              INTERNATIONAL WIRELESS INCORPORATED AND SUBSIDIARIES
                 
              UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS     
 
<TABLE>
<CAPTION>
                                          PERIOD FROM MAY 23, 1994  YEAR ENDED
                                           (DATE OF INCEPTION) TO  DECEMBER 31,
                                             DECEMBER 31, 1994         1995
                                          ------------------------ ------------
<S>                                       <C>                      <C>
Cash Flows from Operating Activities:
  Net loss...............................       $(1,039,639)       $(3,087,726)
  Adjustments to reconcile net loss to
   cash used in operating activities:
    Common stock issued for services.....               --             145,000
    Depreciation and amortization........             4,291             28,478
    Changes in assets and liabilities:
      Accounts receivable................               --              (1,561)
      Interest receivable................               --              (7,700)
      Prepaid expenses...................               --             (75,301)
      Deposits...........................               --             (17,426)
      Accounts payable and accrued
       expenses..........................            38,070            377,327
      Accrued interest--stockholders.....               --              11,118
      Customer deposits..................               --             199,355
      Advances from stockholders.........            11,476             43,989
                                                -----------        -----------
        Cash used in operating
         activities......................          (985,802)        (2,384,447)
                                                -----------        -----------
Cash Flows from Investing Activities:
  Purchase of property and equipment.....           (52,596)        (1,425,419)
  Acquisition of licenses................           (79,195)            (2,094)
                                                -----------        -----------
        Cash used in investing
         activities......................          (131,791)        (1,427,513)
                                                -----------        -----------
Cash Flows from Financing Activities:
  Net proceeds from sale of common
   stock.................................            88,913          1,869,876
  Borrowings from stockholder............           422,786          2,177,214
  Note receivable from stockholder.......               --            (100,000)
  Net proceeds from issuance of Convert-
   ible Preferred Stock..................           848,256             40,000
  Other..................................               --              (3,979)
                                                -----------        -----------
        Cash provided by financing
         activities......................         1,359,955          3,983,111
                                                -----------        -----------
Increase in Cash and Equivalents.........           242,362            171,151
Cash and Equivalents, Beginning of Peri-
 od......................................               --             242,362
                                                -----------        -----------
Cash and Equivalents, End of Period......       $   242,362        $   413,513
                                                ===========        ===========
</TABLE>
 
                See notes to consolidated financial statements.
 
                                      F-35
<PAGE>
 
             INTERNATIONAL WIRELESS INCORPORATED AND SUBSIDIARIES
           
        NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (UNAUDITED)     
 
1. NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
   
  Nature of Business--International Wireless Incorporated (the "Company") was
incorporated on May 23, 1994, as a Delaware corporation to develop and operate
cellular telephone systems together with voice mail, paging and other enhanced
services, including Internet access and on-line services, in developing
countries throughout the world. In January 1996, through its investment in
Global Enterprise Services, Inc., the Company expanded its Internet-related
activities to the United States. In May 1996, the Company entered into an
agreement to acquire Prodigy Services Company ("Prodigy") through a holding
company, Prodigy, Inc., formed to hold the Company and Prodigy, resulting in a
substantial change in the nature of the Company's activities. As a result of
the Prodigy acquisition, the Company has become a major provider of on-line
and Internet services while continuing to pursue the development of its
cellular and other on-line activities in developing countries.     
   
  Effective, January 1997, Prodigy Inc. sold all issued and outstanding
capital stock of International Wireless Incorporated ("IW"). The assets of IW
at the time of the sale consisted of cellular communications licenses and
license applications in certain African countries, and the associated rights
and assets used in the Company's cellular telephone activities. Africa Online,
Inc. formerly a wholly-owned subsidiary of IW, had been transferred to another
subsidiary of Prodigy, Inc. and was sold on October 1, 1998. Prodigy, Inc.
also retained the joint venture investment in China previously held by IW.
This investment was subsequently discontinued.     
   
  Although required by Regulation S-X, audited financial statements for
International Wireless Incorporated have not been presented in the Prospectus,
as the operating results and assets of the Company and its Subsidiaries were
minimal for all periods prior to the acquisition of Prodigy. Audited financial
statements for Prodigy Services Company have been presented in the Prospectus
for the year ended December 31, 1995 and for the five and one-half month
period ended June 16, 1998, as Prodigy is considered to be the predecessor
business to Prodigy Communications Corporation.     
 
  Principles of Consolidation--The accompanying consolidated financial
statements include the accounts of the Company and its majority-owned
subsidiaries. All significant intercompany transactions and balances have been
eliminated.
 
  Pro Forma Stockholders' Equity--Pro forma stockholders' equity reflects the
following transactions in 1996 as if they had occurred on December 31, 1995:
the sale of the first 4,000,000 of 7,000,000 shares of common stock to a
subsidiary of Grupo Carso, S.A. de C.V. ("Carso"), at $3 per share pursuant to
a stock subscription agreement (see Note 8--Stock Subscription); the receipt
of additional advances of $2,900,000 from a stockholder (the "Stockholder")
and conversion of the additional advances and the outstanding advances at
December 31, 1995 of $1,600,000 into 1,500,000 shares of common stock at $3
per share (see Note 8--Stockholder Advances); and, the sale in a private
placement of 1,430,702 shares of common stock resulting in net proceeds to the
Company of $4,239,707 (see Note 8--Private Placement).
 
  Use of Estimates--The preparation of financial statements in conformity with
generally accepted accounting principles necessarily requires management to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and the disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
 
  Revenues--Cellular service revenue is recognized as services are provided.
Customer deposits represent receipts for cellular service subscriptions
received by the Company's subsidiary in Cote d'lvoire.
 
  Cash Flow Information--Cash equivalents include highly liquid securities
purchased with remaining maturities of less than three months. No cash was
paid for income taxes or interest in 1994 and 1995.
 
                                     F-36
<PAGE>
 
             INTERNATIONAL WIRELESS INCORPORATED AND SUBSIDIARIES
     
  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (UNAUDITED)     
 
  Property, Plant and Equipment--Property and equipment are recorded at cost.
Depreciation is computed using the straight-line method over the estimated
useful lives of the related assets, ranging from 3 to 8 years for automobiles
and equipment and 40 years for buildings.
 
  Licenses--Licenses consist of cellular telephone licenses in certain African
countries. The costs of obtaining the licenses have been deferred and are
being amortized over the lesser of the period of the license or its estimated
useful life. Amortization expense for the period ended December 31, 1994 and
for the year ended December 31, 1995 amounted to $3,960 and $9,074,
respectively.
 
  Goodwill--Goodwill represents the excess of the purchase price over the fair
value of net assets acquired and is being amortized over 10 years. Goodwill is
periodically reviewed for impairment by comparison to future expected cash
flows to be generated by the underlying operations.
 
  Foreign Currency Translation--The functional currencies of the Company's
foreign subsidiaries are the local currency. Accordingly, assets and
liabilities of foreign subsidiaries are translated to U.S. dollars at period-
end exchange rates and revenues and expenses are translated using the average
rates during the period. The effects of foreign currency translation
adjustments have been accumulated and are included as a separate component of
stockholders' equity.
 
  Income Taxes--Deferred tax assets and liabilities are provided to recognize
differences in the book and tax bases of assets and liabilities.
 
  Financial Instruments--The carrying values of cash and equivalents,
receivables and accounts and other payables approximate fair value due to the
short-term nature of these instruments. Management believes that the amount
due to stockholder approximates fair value because the terms were negotiated
in the latter part of 1995.
 
  Impairment of Long-Lived Assets--The Company will be required to adopt
Statement of Financial Accounting Standards ("SFAS") No. 121, "Accounting for
the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed
Of," in 1996. The adoption of this statement is not expected to have a
material effect on the Company's consolidated financial statements.
 
  Accounting for Stock-Based Compensation--The Company will be required to
adopt SFAS No. 123, "Accounting for Stock-Based Compensation," in 1996. As
permitted by SFAS No. 123, the Company will elect to continue to apply the
intrinsic value methodology provisions of Accounting Principles Board Opinion
No. 25 for grants or awards of equity instruments to employees. Also, as
required by SFAS No. 123, the Company will use a fair value methodology to
measure the compensation element of grants or awards of equity instruments to
nonemployees and will disclose in its annual consolidated financial
statements, beginning in 1996, the pro forma effect on net income of using a
fair value approach to measure compensation for all grants or awards of equity
instruments.
 
2. ACQUISITIONS
 
  Comstar Cellular Network, Inc. ("Comstar")--In August 1994, the Company
issued 21,336,850 shares of common stock in exchange for certificates of
common stock of Comstar representing 79% of the number of shares covered by
outstanding certificates of common stock of Comstar. The assets of Comstar
consisted primarily of provisional licenses to develop cellular communications
systems in Cote d'lvoire and Nigeria. The Company has recorded the assets
acquired and liabilities assumed at their historical carrying amounts due to
the common control of both companies. The excess of liabilities assumed over
assets acquired was $72,205. The accompanying consolidated financial
statements include the results of operations of Comstar from the date of
acquisition.
 
                                     F-37
<PAGE>
 
             INTERNATIONAL WIRELESS INCORPORATED AND SUBSIDIARIES
     
  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (UNAUDITED)     
 
  African Communications Incorporated ("ACI")--On March 31, 1995, the Company
merged with ACI. This transaction was accounted for in a manner similar to a
pooling of interests because of the common ownership of both companies. Prior
to March 31, 1995, the Company and ACI were jointly developing the Company's
cellular systems through subsidiaries of the Company that were approximately
67% owned by the Company and 33% owned by ACI. The Company and ACI had no
operations that were independent of these joint development efforts. The
Company issued 11,162,255 shares of common stock representing a 33% interest
in the Company in exchange for all of the outstanding shares of ACI. The
consolidated financial statements for 1994 have been restated to include the
operations of ACI.
 
  Karisi Communications, Inc. ("Karisi")--In November 1995, the Company
acquired Karisi including a 79% equity interest in Karisi Communications
(Kenya) Ltd. Karisi, which changed its name to Africa Online, Inc., is
primarily engaged in providing online services to Kenyan subscribers. The
initial purchase price consisted of 100,000 shares of the Company's common
stock valued at $2.50 per share and assumption of net liabilities of $30,085.
Additional consideration of 100,000 shares is currently held in escrow and may
be released over a two-year period based on the attainment of future
subscriber levels.
 
  The acquisition has been accounted for as a purchase. Accordingly, the
results of operations of Karisi have been included in the accompanying
consolidated statements of operations from the date of acquisition. The excess
of purchase over the fair value of net assets acquired has been allocated to
goodwill.
 
  The following unaudited pro forma information for the year ended December
31, 1995 reflects the combined results of operations of the Company and Karisi
as if the acquisition occurred on January 1, 1995:
 
<TABLE>
       <S>                                                            <C>
       Revenue....................................................... $  141,395
       Net loss......................................................  3,231,637
</TABLE>
 
  Karisi did not have any significant operations prior to January 1, 1995.
 
3. PROPERTY, PLANT AND EQUIPMENT
 
  Property, plant and equipment at December 31, 1994 and 1995 consisted of the
following:
 
<TABLE>
<CAPTION>
                                                             1994       1995
                                                            -------  ----------
   <S>                                                      <C>      <C>
   Land.................................................... $49,000  $   78,064
   Buildings...............................................     --      195,834
   Computer equipment......................................     --      190,078
   Cellular system equipment...............................     --      721,612
   Furniture and equipment.................................   3,896     241,404
   Automobiles.............................................     --       87,870
                                                            -------  ----------
     Total.................................................  52,896   1,514,862
   Less accumulated depreciation...........................    (278)    (23,770)
                                                            -------  ----------
   Property, plant and equipment........................... $52,618  $1,491,092
                                                            =======  ==========
</TABLE>
 
4. DUE TO STOCKHOLDER--CREDIT FACILITY
 
  Under a credit facility provided by the Stockholder in 1994, the Company was
able to borrow up to a maximum of $1,250,000 without interest through March
31, 1995 and with interest at prime plus 2% thereafter. On May 31, 1995, the
credit facility was terminated and the outstanding borrowings at that date of
$1,000,000 were converted into 400,000 shares of common stock.
 
                                     F-38
<PAGE>
 
             INTERNATIONAL WIRELESS INCORPORATED AND SUBSIDIARIES
     
  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (UNAUDITED)     
 
  Pursuant to a loan and security agreement dated November 15, 1995, the
Stockholder agreed to make additional loans to the Company in the aggregate
amount up to $4,500,000. Borrowings bear interest payable monthly at prime
plus 1.25% on the first $1 million; prime plus 1.5% on the second $1 million;
and prime plus 2% on amounts in excess of $2 million. Borrowings are
collateralized by all assets of the Company, including a pledge of the common
stock of the subsidiaries. All borrowings are due on December 31, 1998. Prior
to December 31, 1996, borrowings are convertible into shares of the Company's
common stock at a conversion price of $3 per share.
 
  The Company paid the Stockholder a commitment fee equal to 1% of the maximum
borrowings through the issuance of 15,000 shares of the Company's common
stock.
 
5. INCOME TAXES
 
  The tax effects of significant items comprising the Company's net deferred
tax assets as of December 31, 1994 and 1995 are approximately as follows:
 
<TABLE>
<CAPTION>
                                                           1994        1995
                                                         ---------  -----------
   <S>                                                   <C>        <C>
   U.S. net loss carryforwards.......................... $  51,000  $   608,000
   Net loss carryforwards of foreign subsidiaries.......   200,000      592,000
   Deferred liabilities.................................       --        (4,000)
   Valuation allowances.................................  (251,000)  (1,196,000)
                                                         ---------  -----------
   Net tax asset........................................ $     --   $       --
                                                         =========  ===========
</TABLE>
 
  At December 31, 1995, the Company has net operating loss carryforwards for
federal income tax purposes of $1,673,000 which may be used to offset future
taxable income, expiring in 2010. The Company also has operating loss
carryforwards in Cote d'lvoire and Kenya, which begin to expire in 1998, of
$1,696,000, which may be used to offset future taxable income in those
countries. Due to the uncertainty of realization, the Company has provided a
100% valuation allowance of all deferred tax assets.
 
6. STOCKHOLDERS' EQUITY
 
  Stock Recapitalization--On March 31, 1995, the stockholders approved the
following recapitalization: conversion of the existing outstanding preferred
stock into common stock at a rate of one and one quarter shares of common
stock for each share of preferred stock; an increase in the number of
authorized shares of common stock from 35,000,000 to 70,000,000; an increase
in the number of authorized shares of preferred stock from 1,000,000 shares of
"Series A" preferred stock to 10,000,000 shares of "blank check" preferred
stock. In 1996, the Board of Directors and the stockholders approved an
increase in the authorized shares of common stock to 140,000,000 shares.
 
  Stock Option Plan--Under the Company's 1994 Stock Option Plan (the "Plan"),
options to purchase up to 6,000,000 shares of common stock may be granted to
employees, directors, consultants, and advisors of the Company. Options
granted may be either "incentive stock options" or nonqualified options. Stock
options are exercisable over a period determined by the Board of Directors.
 
  In 1996, the Board of Directors and the stockholders adopted an amendment to
the Plan increasing the number of shares available for grant to 9,500,000.
 
                                     F-39
<PAGE>
 
             INTERNATIONAL WIRELESS INCORPORATED AND SUBSIDIARIES
     
  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (UNAUDITED)     
 
  A summary of stock option activity is as follows:
 
<TABLE>
<CAPTION>
                                                           SHARES      PRICE
                                                          --------- -----------
<S>                                                       <C>       <C>
Granted.................................................. 1,084,000 $0.25-$2.00
Exercised................................................       --          --
Canceled.................................................       --          --
                                                          --------- -----------
Balance, December 31, 1994............................... 1,084,000 $0.25-$2.50
Granted.................................................. 3,707,000 $0.25-$2.50
Exercised................................................       --          --
Canceled.................................................       --          --
                                                          --------- -----------
Balance, December 31, 1995............................... 4,791,000 $0.25-$2.50
                                                          ========= ===========
Exercisable at December 31, 1995.........................   915,000 $0.25-$2.50
                                                          ========= ===========
</TABLE>
 
  Stock Warrants--At December 31, 1995, the Company had outstanding warrants
to purchase 216,000 shares of the Company's common stock at $2.50 per share.
The warrants may be exercised at any time and expire in 2005.
 
7. COMMITMENTS AND CONTINGENCIES
 
  As of December 31, 1995, the Company and its subsidiaries leased facilities
in Ivory Coast and in Cambridge, MA. The leases expire from 1996 to 2000 and
contain renewal options. Future minimum rental payments are as follows:
 
<TABLE>
   <S>                                                                 <C>
   Year ended December 31
   1996............................................................... $171,000
   1997...............................................................  122,000
   1998...............................................................   45,000
   1999...............................................................   50,000
   2000...............................................................   55,000
   Thereafter.........................................................   71,000
                                                                       --------
   Total future minimum rentals....................................... $514,000
                                                                       ========
</TABLE>
 
  Total rent expense for the period ended December 31, 1994 and the year ended
December 31, 1995 was $3,000 and $86,000, respectively.
 
  At December 31, 1995, the Company has outstanding purchase commitments of
approximately $4.7 million for equipment relating to its cellular telephone
development activities in Africa.
 
  Litigation--Pursuant to the acquisition described in Note 2, holders of
Comstar stock certificates were required to release Comstar and the Company
from any claims which such holders may have had and to surrender their Comstar
stock certificates. Certain holders of the Comstar certificates did not
participate in the reorganization, and there can be no assurance that they
will not bring claims against the Company. The consolidated financial
statements contain no provision or liability for such potential claims;
however, the Company believes that the reorganization provided the holders
with the opportunity to acquire equity participation in the Company, without
further investment, in the same relative proportion as they would have had in
Comstar. The Company does not expect that this matter will have a material
impact on its financial position or the results of operations.
 
                                     F-40
<PAGE>
 
             INTERNATIONAL WIRELESS INCORPORATED AND SUBSIDIARIES
     
  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (UNAUDITED)     
 
8. SUBSEQUENT EVENTS
 
  Acquisition of Minority Interest in Subsidiary--In January 1996, the Company
purchased 90 shares of common stock of Comstar Cellular S.A. Cote d'lvoire
("Comstar Cote d'lvoire") from a minority shareholder and employee in exchange
for 350,000 shares of common stock of the Company and $300,000 in cash. As a
result of this transaction, the Company's equity interest in Comstar Cote
d'Ivoire increased from 91% to 100%.
 
  The acquisition will be accounted for as a purchase and the purchase price
of $1,350,000 is expected to be allocated to goodwill associated with the
cellular operations of Comstar Cote d'Ivoire.
 
  Investment in Global Enterprise Services, Inc. ("GES")--In 1996, the Company
acquired a 48% voting interest in GES, represented by 4,800,000 shares of
convertible preferred stock, for $9 million. The preferred stock has voting
rights and is convertible into common stock of GES stock.
 
  The Company also received a warrant to purchase up to 1,380,000 additional
shares of GES' convertible preferred stock at an exercise price of $2.8125 per
share. The warrant is exercisable from January 1, 1997 through June 30, 1997
only in the event that GES reports both revenues of less than $15 million and
a loss before interest, taxes, depreciation and amortization for the year
ending December 31, 1996.
 
  The Company will account for its investment using the equity method since
essentially all of the capital at risk in GES belongs to the Company.
 
  Note Payable--In March 1996, the Company borrowed $2 million from Bay
Networks, Inc. ("Bay Networks") pursuant to an 8 1/4% convertible note.
Principal and interest are due on the earlier of six months after the
completion of a private placement with aggregate gross proceeds of at least
$1,000,000 or March 31, 1997. Bay Networks has the right within 30 days after
the completion of such a private placement and prior to March 31, 1997 to
convert the principal and interest into common stock at the price per share at
which the Company's common stock is sold in the private placement.
 
  Private Placement--Subsequent to December 31, 1995, the Company has sold in
a private placement 1,430,702 shares of common stock resulting in net proceeds
to the Company of $4,239,707.
 
  Stock Subscription--Pursuant to a subscription agreement dated February 20,
1996, as amended, Carso agreed to acquire for cash 7,000,000 shares of common
stock of the Company at a price of $3 per share as follows:
 
<TABLE>
<CAPTION>
   DATE                                                     SHARES     AMOUNT
   ----                                                    --------- -----------
   <S>                                                     <C>       <C>
   February 20, 1996...................................... 1,000,000 $ 3,000,000
   March 11, 1996......................................... 2,000,000   6,000,000
   May 1, 1996............................................ 1,000,000   3,000,000
   September 3, 1996...................................... 3,000,000   9,000,000
                                                           --------- -----------
     Total................................................ 7,000,000 $21,000,000
                                                           ========= ===========
</TABLE>
 
  In addition, Carso may purchase an additional 3,000,000 shares of the
Company's common stock from existing stockholders.
 
  Stockholder Advances--Subsequent to December 31, 1995, the Stockholder
advanced the Company an additional $2,900,000 under the terms of the existing
credit facility (Note 4) and all advances have been converted into 1,500,000
shares of common stock at $3 per share. The credit facility has been
terminated.
 
                                     F-41
<PAGE>
 
             INTERNATIONAL WIRELESS INCORPORATED AND SUBSIDIARIES
     
  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (UNAUDITED)     
 
  Acquisition of Prodigy Services Company--On June 17, 1996, the Company
acquired the partnership interests of International Business Machines
Corporation ("IBM") and Sears Roebuck and Co. ("Sears") in Prodigy. The
Company acquired the assets and assumed liabilities of Prodigy, with the
exception of certain patents and all obligations and liabilities related to
employee retirement and other postretirement benefit plans. The purchase price
was $46.2 million in cash subject to adjustments plus contingent convertible
notes (the "Contingent Convertible Notes"), payable to IBM and Sears.
 
  Commencing December 1998, the Contingent Convertible Notes accrue interest
at $4 million on a quarterly basis. Upon the earlier of (i) an initial public
offering by the Company resulting in gross proceeds of at least $25 million,
(ii) an acquisition of the Company, (iii) following an initial public
offering, the Company's market value exceeds $200 million, or (iv) the tenth
anniversary of the closing date, the Contingent Convertible Notes are
convertible into shares constituting 15% of the Company's outstanding common
stock on a fully diluted basis (or 15% of the consideration received in the
event the Company is acquired), limited to a value equal to $200 million plus
accrued interest. Principal and interest are not required to be paid in cash,
except in the event that the Company is acquired for cash.
 
  As part of the above agreement, the Company is required to have available
funds in the amount of $155 million to provide a portion of the necessary
funds for the purchase and operations of Prodigy. In order to meet this
requirement, the Company entered into a funding agreement with Carso and the
Stockholder described below.
 
  Commencing with the Prodigy closing and terminating on the earlier of (i)
November 12, 1997 or (ii) the closing of an underwritten public offering in
which the gross proceeds to the Company exceed $25 million, the Company has
the right from time to time to require Carso and the Stockholder to purchase
shares of common stock from the Company at $6 per share up to a maximum amount
of $144.5 million (the "Maximum Amount"). The Maximum Amount is reduced by (i)
the net amount realized from the sale by the Company of certain cellular
assets (see below), (ii) the net amount realized, after expenses, from the
sale of common stock in a private placement, (iii) the net amount realized by
the Company in an initial public offering, (iv) the amount realized by the
Company from the exercise of the warrants described below. The Maximum Amount
is allocated 90% to Carso and 10% to the Stockholder.
 
  The Company has granted Carso and the Stockholder warrants to purchase
2,700,000 shares and 270,000 shares, respectively, of common stock at $3 per
share after the initial closing of a private placement and on or before
December 31, 1996. Warrants to purchase 2,000,000 shares and 1,000,000 shares
of the Company's common stock were also granted to Carso and the Stockholder,
respectively, at $9 per share at any time after the initial closing of a
private placement and on or before the earlier of the closing of an initial
public offering or November 12, 1997.
 
  In connection with these arrangements, the Company granted Carso an option
to purchase, on or before July 26, 1996, its cellular telephone assets located
in Cote d'lvoire and Guinee for a purchase price of $69 million. If the option
is exercised, Carso will be granted a right of first refusal, from January 1,
1997 to March 31, 1997, to purchase additional cellular assets the Company may
have at that time.
 
  As a result of the Prodigy acquisition, the Company has entered into
employment and stock option agreements with certain Prodigy management.
 
                                     F-42
<PAGE>
 
             INTERNATIONAL WIRELESS INCORPORATED AND SUBSIDIARIES
     
  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (UNAUDITED)     
 
  Summarized financial information with respect to Prodigy is as follows (in
thousands):
 
<TABLE>
<CAPTION>
                                                                   AS OF
                                                               DECEMBER 31,
                                                             ------------------
                                                               1994      1995
                                                             --------  --------
   <S>                                             <C>       <C>       <C>
   Total assets...................................           $ 80,121  $ 84,702
   Partners' capital (deficit)....................             (4,279)    9,751
<CAPTION>
                                                      FOR THE YEARS ENDED
                                                          DECEMBER 31,
                                                   ----------------------------
                                                     1993      1994      1995
                                                   --------  --------  --------
   <S>                                             <C>       <C>       <C>
   Revenues....................................... $195,194  $210,900  $243,399
   Net loss.......................................  (59,973)  (51,980)  (34,583)
</TABLE>
 
  Credit Facility--In June 1996, the Company entered into a loan agreement
with Banco Inbursa, S.A. ("Inbursa"), an affiliate of Carso, whereby Inbursa
agreed to provide a credit facility to the Company of up to $50 million for a
period of one year at an interest rate of prime plus 1/2%. Borrowings under
this credit facility are collateralized by a pledge of 17,000,000 shares of
the Company's common stock held by two of the Company's stockholders. Any
outstanding borrowings mature within 30 days of the date of borrowing at which
time the Company may re-borrow any unpaid balances. Through June 17, 1996, the
Company had borrowed $48 million under the agreement primarily to fund the
Prodigy acquisition.
 
  Reorganization--On June 13, 1996, a reorganization was effected through
which the Company became a wholly owned subsidiary of a new holding company,
Prodigy, Inc.
 
                                  * * * * * *
 
                                     F-43
<PAGE>
 
-------------------------------------------------------------------------------
-------------------------------------------------------------------------------
 
  NO DEALER, SALESPERSON OR OTHER INDIVIDUAL HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR MAKE ANY REPRESENTATIONS NOT CONTAINED IN THIS PROSPECTUS IN
CONNECTION WITH THE OFFERING COVERED BY THIS PROSPECTUS. IF GIVEN OR MADE,
SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY THE COMPANY OR THE UNDERWRITERS. THIS PROSPECTUS DOES NOT
CONSTITUTE AN OFFER TO SELL, OR A SOLICITATION OF AN OFFER TO BUY, THE COMMON
STOCK IN ANY JURISDICTION WHERE, OR TO ANY PERSON TO WHOM, IT IS UNLAWFUL TO
MAKE SUCH OFFER OR SOLICITATION. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR
ANY SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION
THAT THERE HAS NOT BEEN ANY CHANGE IN THE FACTS SET FORTH IN THIS PROSPECTUS
OR IN THE AFFAIRS OF THE COMPANY SINCE THE DATE HEREOF.
 
                                ---------------
 
                               TABLE OF CONTENTS
 
<TABLE>   
<CAPTION>
                                                                            PAGE
                                                                            ----
<S>                                                                         <C>
Prospectus Summary.........................................................   3
Risk Factors...............................................................  10
Use of Proceeds............................................................  21
Dividend Policy............................................................  21
Capitalization.............................................................  22
Dilution...................................................................  23
Selected Consolidated Financial Information and Other Data.................  25
Management's Discussion and Analysis of
 Financial Condition and Results of
 Operations................................................................  28
Business...................................................................  42
Management.................................................................  59
Corporate History and Certain Transactions.................................  71
Principal Stockholders.....................................................  79
Description of Capital Stock...............................................  81
Shares Eligible for Future Sale............................................  83
Underwriting...............................................................  85
Legal Matters .............................................................  87
Experts....................................................................  87
Additional Information.....................................................  88
Index to Consolidated Financial Statements................................. F-1
</TABLE>    
 
                                ---------------
   
  UNTIL    , 1999 (25 DAYS AFTER THE DATE OF THIS PROSPECTUS), ALL DEALERS
EFFECTING TRANSACTIONS IN THE COMMON STOCK OFFERED HEREBY, WHETHER OR NOT
PARTICIPATING IN THIS DISTRIBUTION, MAY BE REQUIRED TO DELIVER A PROSPECTUS.
THIS IS IN ADDITION TO THE OBLIGATION OF DEALERS TO DELIVER A PROSPECTUS WHEN
ACTING AS UNDERWRITERS AND WITH RESPECT TO THEIR UNSOLD ALLOTMENTS OR
SUBSCRIPTIONS.     
 
-------------------------------------------------------------------------------
-------------------------------------------------------------------------------
-------------------------------------------------------------------------------
-------------------------------------------------------------------------------
 
                                       SHARES
 
 
                                [PRODIGY LOGO]
(PRODIGY LOGO)
 
                                 COMMON STOCK
 
                                ---------------
 
                                  PROSPECTUS
 
                                ---------------
 
                           BEAR, STEARNS & CO. INC.
 
                         BANCBOSTON ROBERTSON STEPHENS
 
                          ING BARING FURMAN SELZ LLC
 
                         VOLPE BROWN WHELAN & COMPANY
 
                            WIT CAPITAL CORPORATION
                                 AS E-MANAGER
 
                                       , 1998
 
-------------------------------------------------------------------------------
-------------------------------------------------------------------------------
<PAGE>
 
                                    PART II
 
                    INFORMATION NOT REQUIRED IN PROSPECTUS
 
ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
 
  The following table sets forth the various expenses, all of which will be
borne by the Registrant, in connection with the sale and distribution of the
securities being registered, other than the underwriting discounts and
commissions. All amounts shown are estimates except for the Securities and
Exchange Commission registration fee and the NASD filing fee.
 
<TABLE>   
   <S>                                                               <C>
   SEC registration fee............................................. $25,443.75
   NASD filing fee..................................................      9,125
   Nasdaq National Market listing fee...............................          *
   Blue Sky fees and expenses.......................................          *
   Transfer Agent and Registrar fees................................          *
   Accounting fees and expenses.....................................          *
   Legal fees and expenses..........................................          *
   Printing and mailing expenses....................................          *
   Miscellaneous....................................................          *
                                                                     ----------
     Total.......................................................... $        *
                                                                     ==========
</TABLE>    
----------
*to be filed by amendment
 
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS
 
  Article EIGHTH of the Registrant's Certificate of Incorporation, as amended
(the "Certificate of Incorporation"), provides that no director of the
Registrant shall be personally liable for any monetary damages for any breach
of fiduciary duty as a director, except to the extent that the Delaware
General Corporation Law prohibits the elimination or limitation of liability
of directors for breach of fiduciary duty.
 
  Article NINTH of the Registrant's Certificate of Incorporation provides that
a director or officer of the Registrant (a) shall be indemnified by the
Registrant against all expenses (including attorneys' fees), judgments, fines
and amounts paid in settlement incurred in connection with any litigation or
other legal proceeding (other than an action by or in the right of the
Registrant) brought against him by virtue of his position as a director or
officer of the Registrant if he acted in good faith and in a manner he
reasonably believed to be in, or not opposed to, the best interests of the
Registrant, and, with respect to any criminal action or proceeding, had no
reasonable cause to believe his conduct was unlawful and (b) shall be
indemnified by the Registrant against all expenses (including attorneys' fees)
and amounts paid in settlement incurred in connection with any action by or in
the right of the Registrant brought against him by virtue of his position as a
director or officer of the Registrant if he acted in good faith and in a
manner he reasonably believed to be in, or not opposed to, the best interests
of the Registrant, except that no indemnification shall be made with respect
to any matter as to which such person shall have been adjudged to be liable to
the Registrant, unless a court determines that, despite such adjudication but
in view of all of the circumstances, he is entitled to indemnification of such
expenses. Notwithstanding the foregoing, to the extent that a director or
officer has been successful, on the merits or otherwise, including, without
limitation, the dismissal of an action without prejudice, he is required to be
indemnified by the Registrant against all expenses (including attorneys' fees)
incurred in connection therewith. Expenses shall be advanced to a director or
officer at his request, provided that he undertakes to repay the amount
advanced if it is ultimately determined that he is not entitled to
indemnification for such expenses.
 
  Indemnification is required to be made unless the Registrant determines that
the applicable standard of conduct required for indemnification has not been
met. In the event of a determination by the Registrant that the
 
                                     II-1
<PAGE>
 
director or officer did not meet the applicable standard of conduct required
for indemnification, or if the Registrant fails to make an indemnification
payment within 60 days after such payment is claimed by such person, such
person is permitted to petition the court to make an independent determination
as to whether such person is entitled to indemnification. As a condition
precedent to the right of indemnification, the director or officer must give
the Registrant notice of the action for which indemnity is sought and the
Registrant has the right to participate in such action or assume the defense
thereof.
 
  Article NINTH of the Registrant's Certificate of Incorporation further
provides that the indemnification provided therein is not exclusive, and
provides that in the event that the Delaware General Corporation Law is
amended to expand the indemnification permitted to directors or officers the
Registrant must indemnify those persons to the fullest extent permitted by
such law as so amended.
 
  Section 145 of the Delaware General Corporation Law provides that a
corporation has the power to indemnify a director, officer, employee or agent
of the corporation and certain other persons serving at the request of the
corporation in related capacities against amounts paid and expenses incurred
in connection with an action or proceeding to which he is or is threatened to
be made a party by reason of such position, if such person shall have acted in
good faith and in a manner he reasonably believed to be in or not opposed to
the best interests of the corporation, and, in any criminal proceeding, if
such person had no reasonable cause to believe his conduct was unlawful;
provided that, in the case of actions brought by or in the right of the
corporation, no indemnification shall be made with respect to any matter as to
which such person shall have been adjudged to be liable to the corporation
unless and only to the extent that the adjudicating court determines that such
indemnification is proper under the circumstances.
   
  Under Section      of the Underwriting Agreement, the Underwriters are
obligated, under certain circumstances, to indemnify directors and officers of
the Registrant against certain liabilities, including liabilities under the
Securities Act of 1933, as amended (the "Securities Act"). Reference is made
to the form of Purchase Agreement filed as Exhibit 1.1 hereto.     
 
  The Registrant has an insurance policy with coverage of $8,000,000 that
insures the directors and officers of the Registrant against certain
liabilities which might be incurred by such directors and officers in
connection with the performance of their duties.
 
ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES
 
  Set forth below in chronological order is certain information regarding
securities issued by the Registrant and its predecessor, International
Wireless Incorporated ("IW"), without registration under the Securities Act of
1933, as amended (the "Securities Act"), since May 1, 1995. The information
presented in this Item 15 has not been adjusted to reflect the     -for-
reverse stock split of the Registrant's Common Stock that the Company will
effect prior to the closing of the Offering.
   
  1. In May 1995, IW granted to two persons, for business development
services, warrants to purchase an aggregate of 200,000 shares of Common Stock
for $2.50 per share, exercisable at any time prior to May 15, 2005.     
   
  2. Between May 1995 and November 1995, IW issued, in connection with a
private placement transaction, an aggregate of 1,232,500 shares of Common
Stock to selected private investors for a purchase price of $2.50 per share
for aggregate proceeds of $3,081,250 (including the conversion of $730,000 in
cash advances from Greg C. Carr). D.E. Wine Investments, Inc. acted as
placement agent in this private placement and was paid a cash fee of $77,438.
ANZ, Inc. also acted as placement agent in this private placement and was
granted a warrant to purchase 16,000 shares of Common Stock for $2.50 per
share, exercisable at any time prior to August 15, 2005.     
 
 
                                     II-2
<PAGE>
 
          
  3. In November 1995, IW issued an aggregate of 200,000 shares of Common
Stock in connection with the acquisition of Africa Online, Inc.     
   
  4. Between November 1995 and March 1996, IW issued, in connection with a
private placement transaction, an aggregate of 2,458,836 shares of Common
Stock to selected private investors for a purchase price of $3.00 per share
for aggregate cash proceeds of $7,376,508 (including the conversion of
$3,000,000 in cash advances from Greg C. Carr). D.E. Wine Investments, Inc.
acted as placement agent in this private placement and was paid a cash fee of
$50,000. ANZ, Inc. also acted as placement agent in this private placement and
was granted a warrant to purchase 133,333 shares of Common Stock for $3.00 per
share, exercisable at any time prior to August 15, 2005.     
   
  5. In November 1995, IW issued 15,000 shares of Common Stock to Greg C. Carr
as a commitment fee valued at $3.00 per share ($45,000 total) in consideration
of the establishment of a $4,500,000 credit facility by Mr. Carr in favor of
IW.     
   
  6. In December 1995, IW issued an aggregate of 9,500 shares of Common Stock
to two former holders of certificates for common stock of Comstar Cellular
Network, Inc. ("Comstar") in exchange for their release of any claims against
IW and related parties arising out of IW's acquisition of Comstar's assets and
accounts payable in August 1994.     
   
  7. In January 1996, IW issued 350,000 shares of Common Stock in exchange for
a 9% equity interest in Comstar Cellular S.A. Cote d'Ivoire, IW's Ivory Coast
subsidiary, held by IW's Ivory Coast consultant.     
   
  8. In February 1996, IW issued 16,734 shares of Common Stock to an executive
search firm in exchange for such firm's placement of an executive employee
with IW.     
   
  9. In March 1996 and May 1996, IW issued an aggregate of 4,000,000 shares of
Common Stock to Grupo Carso, S.A. de C.V. ("Grupo Carso") for a purchase price
of $3.00 per share for aggregate cash proceeds of $12,000,000 pursuant to an
agreement dated April 11, 1996 (the "Initial Grupo Carso Agreement").     
   
  10. In May 1996, IW issued 13,333 shares of Common Stock to an executive
search consultant in exchange for such consultant's placement of an executive
employee with IW.     
   
  11. In May 1996, IW granted Grupo Carso and Greg C. Carr, in connection with
financing commitments made by Grupo Carso and Mr. Carr under a Funding
Agreement dated May 12, 1996 (the "Funding Agreement"), (i) warrants to
purchase 2,700,000 shares and 270,000 shares, respectively, of Common Stock
for $3.00 per share, exercisable prior to December 31, 1996, and (ii) warrants
to purchase 2,000,000 shares and 1,000,000 shares, respectively, of Common
Stock for $9.00 per share, exercisable prior to the earlier of (a) the closing
of an initial public offering or (b) November 12, 1997.     
   
  12. In May 1996, IW granted a person a warrant to purchase 20,000 shares of
Common Stock for $3.00 per share, exercisable at any time prior to May 16,
2001, for his assistance in introducing IW to Grupo Carso.     
 
  13. In June 1996, IW issued 500,000 share of Common Stock to Greg C. Carr
for $3.00 per share upon the conversion of $1,500,000 in cash advances from
Mr. Carr.
 
  14. In June 1996, the Registrant issued, in connection with its
incorporation, 100 shares of Common Stock to IW for an aggregate cash purchase
price of $10.
 
  15. In June 1996, the Registrant issued, in connection with a holding-
company reorganization in which a wholly-owned subsidiary of the Registrant
was merged with and into IW, an aggregate of 21,636,850 shares of Common Stock
in exchange for all outstanding Common Stock of IW and simultaneously assumed
the outstanding options and warrants of IW.
 
 
                                     II-3
<PAGE>
 
  16. In June 1996, the Registrant issued, in connection with its acquisition
of Prodigy Services Company ("PSC"), 8% Contingent Convertible Promissory
Notes to International Business Machines Corporation ("IBM") and Sears,
Roebuck and Co. ("Sears") in the aggregate face amount of $200,000,000. In
connection with the Registrant's acquisition of PSC, Wasserstein, Perella &
Co., Inc. acted as the financial advisor to PSC's management and received a
fee of $5,400,000 and ING Baring Furman Selz LLC acted as the Registrant's
financial advisor and received a fee of $750,000.
 
  17. In September 1996, the Registrant issued 3,000,000 shares of Common
Stock to Carso Global Telecom, S.A. de C.V. ("Carso Global Telecom") for a
purchase price of $3.00 per share for aggregate cash proceeds of $9,000,000.
In June 1996, Carso Global Telecom was spun-off from Grupo Carso and assumed
Grupo Carso's obligations under the Initial Grupo Carso Agreement and the
Funding Agreement.
 
  18. In September 1996, the Registrant issued 100,000 shares of Common Stock
to a former holder of a certificate for common stock of Comstar in exchange
for his release of any claims against IW, the Registrant and related parties
arising out of IW's acquisition of Comstar's assets and accounts payable in
August 1994.
 
  19. In October 1996, in connection with an amendment to the Funding
Agreement, (i) Mr. Carr's warrant to purchase 1,000,000 shares for $9.00 per
share was cancelled and (ii) Grupo Carso's warrant to purchase 2,000,000
shares for $9.00 per share was exchanged for a warrant to purchase 1,000,000
shares for $7.00 per share and assigned to Carso Global Telecom.
 
  20. In October 1996, the Registrant issued 270,000 shares of Common Stock to
Greg C. Carr upon the exercise of an outstanding warrant for a purchase price
of $2.93 per share for aggregate cash proceeds of $792,000, reflecting a
discount (based on the interest rate charged on the Registrant's bank debt)
from the original exercise price in order to induce early exercise.
   
  21. Between October 1996 and February 1997, the Registrant issued, in
connection with a private placement transaction, an aggregate of 1,309,034
shares of Common Stock to selected private investors for a purchase price of
$7.00 per share for aggregate cash proceeds of $9,163,238. In February 1997,
the Registrant reduced the offering price from $7.00 per share to $3.00 per
share. The purchasers of an aggregate of 50,000 shares at $7.00 per share
elected to receive cash refunds totalling $350,000 and the other purchasers at
$7.00 per share elected to receive an aggregate of 1,678,711 additional shares
to reduce their average purchase price to $3.00 per share. In March 1997, the
Registrant issued Convertible Promissory Notes to Carso Global Telecom and
Greg C. Carr in the principal amounts of $65,000,000 and $15,000,000,
respectively, which automatically converted into an aggregate of 26,666,667
shares at $3.00 per share upon receipt of regulatory approvals in June 1997.
In May 1997, the Registrant issued 10,000 additional shares to an investor at
$3.00 per share. In total, the Registrant issued an aggregate of 29,614,412
shares for $3.00 per share for aggregate cash proceeds of $88,843,235 in this
private placement. Tucker Anthony Incorporated acted as placement agent and
financial advisor in this private placement and was paid cash fees totalling
$150,000. ANZ, Inc. also acted as placement agent in this private placement
and was granted a warrant to purchase 68,056 shares of Common Stock for $3.00
per share, exercisable at any time prior to December 13, 2001.     
 
  22. In December 1996, the Registrant issued 2,700,000 shares of Common Stock
to Carso Global Telecom upon the exercise of an outstanding warrant for a
purchase price of $3.00 per share for aggregate cash proceeds of $8,100,000.
 
  23. In March 1997, in connection with an amendment to the Funding Agreement,
the Registrant (i) granted warrants to purchase 13,000,000 and 2,000,000
shares of Common Stock to Carso Global Telecom and Mr. Carr, respectively,
with an exercise price of $3.00 per share and (ii) cancelled Carso Global
Telecom's warrant to purchase 1,000,000 shares for $7.00 per share.
 
  24. In June 1997, the Registrant issued 2,166,667 shares and 833,333 shares
of Common Stock to Carso Global Telecom and Greg C. Carr, respectively, upon
the exercise of stock puts under the Funding Agreement for a purchase price of
$3.00 per share for aggregate cash proceeds of $9,000,000.
 
                                     II-4
<PAGE>
 
  25. In July 1997, the Registrant issued 8,450,000 shares and 200,000 shares
of Common Stock to Carso Global Telecom and Greg C. Carr, respectively, upon
the exercise of stock puts under the Funding Agreement for a purchase price of
$3.00 per share for aggregate cash proceeds of $25,950,000.
 
  26. In August 1997, the Registrant issued 363,511 shares of Common Stock to
Greg C. Carr upon the exercise of stock puts under the Funding Agreement for a
purchase price of $3.00 per share for aggregate cash proceeds of $1,090,533.
 
  27. In September 1997, the Registrant issued 2,362,822 shares and 166,667
shares of Common Stock to Carso Global Telecom and Greg C. Carr, respectively,
upon the exercise of stock puts under the Funding Agreement for a purchase
price of $3.00 per share for aggregate cash proceeds of $7,588,467.
 
  28. In October 1997, the Registrant issued 433,333 shares of Common Stock to
Greg C. Carr upon the exercise of stock puts under the Funding Agreement for a
purchase price of $3.00 per share for aggregate cash proceeds of $1,300,000.
 
  29. In October 1997, in connection with interim financing commitments made
by Carso Global Telecom and Greg C. Carr, the Registrant reduced the exercise
price of the warrants held by Carso Global Telecom and Mr. Carr to purchase
13,000,000 and 2,000,000 shares of Common Stock, respectively, from $3.00 per
share to $1.00 per share.
 
  30. In November 1997, Prodigy Services Corporation issued to IBM and Sears,
in exchange for the 8% Contingent Convertible Promissory Notes described in
paragraph 16 above, (i) 8% Contingent Convertible Promissory Notes in the
aggregate face amount of $200,000,000 and (ii) Contingent Common Stock
Purchase Warrants.
 
  31. In December 1997, the Registrant issued, in connection with a private
placement transaction involving a rights offering to all stockholders of the
Registrant, an aggregate of 50,561,915 shares of Common Stock for a purchase
price of $1.00 per share for aggregate proceeds of $50,561,915, of which (i)
$32,811,915 was paid in cash (including the conversion of $500,000 in cash
advances from Greg C. Carr), (ii) Carso Global Telecom was credited with
$4,000,000 by reason of the issuance of a letter of credit on behalf of the
Registrant (and with respect to which Carso Global Telecom will pay the
Registrant each calendar quarter an amount equal to $333,333 less any draws on
such letter of credit during such quarter until the entire $4,000,000 has been
paid to the Registrant or drawn under such letter of credit), and (iii)
$13,750,000 was paid by Carso Global Telecom directly to Banco Inbursa, S.A.
("Banco Inbursa") on the Registrant's behalf in repayment of $13,750,000 of
indebtedness owed by the Registrant to Banco Inbursa. Tucker Anthony
Incorporated acted as financial advisor in this private placement and was paid
a cash fee of $150,000.
 
  32. In April 1998, the Registrant issued 13,000,000 shares of Common Stock
to Carso Global Telecom upon the exercise of a warrant at a purchase price of
$1.00 per share for aggregate cash proceeds of $13,000,000.
 
  33. In May 1998, the Registrant issued 2,000,000 shares of Common Stock to
an investor upon exercise of a warrant at a purchase price of $1.00 per share
for aggregate cash proceeds of $2,000,000.
 
  34. In July 1998, the Registrant issued 5,500,000 shares of Common Stock to
Carso Global Telecom for a purchase price of $2.00 per share for aggregate
cash proceeds of $11,000,000, and in August 1998 the Registrant issued
24,500,000 shares of Common Stock to Telefonos de Mexico, S.A. de C.V. for a
purchase price of $2.00 per share for aggregate cash proceeds of $49,000,000.
Wit Capital Corporation acted as financial advisor in this private placement
and was paid a cash fee of $50,000.
   
  35. In November 1998, the Company granted a person (i) a warrant to purchase
7,840 shares of Common Stock for $2.50 per share, exercisable at any time
prior to March 1, 2001, for his assistance in identifying investors in the
private placement described in paragraph 2 above, and (ii) a warrant to
purchase 44,380 shares     
 
                                     II-5
<PAGE>
 
   
of Common Stock for $3.00 per share, exercisable at any time prior to March 1,
2001, for his assistance in identifying investors in the private placement
described in paragraph 4 above.     
   
  Since May 1, 1995, the Registrant (including IW) has granted stock options
to employees and consultants to purchase an aggregate of 18,294,645 shares of
Common Stock with exercise prices ranging from $1.00 to $7.00 per share.
During this same period, the Registrant (including its predecessor) has issued
an aggregate of 10,549 shares of Common Stock for aggregate cash proceeds of
$30,227 pursuant to the exercise of stock options.     
 
  The securities issued in the foregoing transactions were either (i) offered
and sold in reliance upon exemptions from registration set forth in Sections
3(b) and 4(2) of the Securities Act, or regulations promulgated thereunder,
relating to sales by an issuer not involving any public offering, (ii) in the
case of certain sales to non-United States persons, pursuant to Regulation S
promulgated under the Securities Act, or (iii) in the case of certain options
to purchase shares of Common Stock and shares of Common Stock issued upon the
exercise of such options, such offers and sales were made in reliance upon an
exemption from registration under Rule 701 of the Securities Act. Except as
noted above, no underwriters or placement agents were involved in the
foregoing sales of securities.
 
ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
 
  (a) Exhibits
 
<TABLE>   
<CAPTION>
 EXHIBIT
   NO.                                 DESCRIPTION
 -------                               -----------
 <C>     <S>
  1.1*   Form of Underwriting Agreement.
  3.1**  Certificate of Incorporation of the Registrant, as amended.
  3.2**  By-laws of the Registrant, as amended.
  3.3*   Form of Certificate of Incorporation of the Registrant, as in effect
         upon the closing of the Offering.
  3.4*   Form of By-laws of the Registrant, as in effect upon the closing of
         the Offering.
  4.1*   Specimen certificate for shares of Common Stock.
  5.1*   Opinion of Hale and Dorr LLP.
 10.1**  Agreement and Plan of Corporate Reorganization, dated July 8, 1994,
         among International Wireless Incorporated, Comstar Cellular Network,
         Inc., Terrance Dillon, Duncan Wine, Blaize Kaduru and Herbert Orji.
 10.2**  Partnership Purchase Agreement, dated May 12, 1996, among
         International Wireless Incorporated, Prodigy Services Company,
         International Business Machines Corporation and Sears, Roebuck and
         Co., as amended by Amendment dated June 3, 1996.
 10.3**  Note Exchange Agreement, dated October 20, 1997, among the Registrant,
         Prodigy Services Corporation, International Business Machines
         Corporation and Sears, Roebuck and Co., as amended by Amendment to
         Note Exchange Agreement dated October 31, 1997.
 10.4**  Letter agreement, dated October 20, 1997, between the Registrant and
         Carso Global Telecom, S.A. de C.V., relating to the Note Exchange
         Agreement.
 10.5**  Form of 8% Contingent Convertible Promissory Note issued by Prodigy
         Services Corporation to IBM and Sears.
 10.6**  Form of Contingent Common Stock Purchase Warrant issued by Prodigy
         Services Corporation to IBM and Sears.
 10.7**  Letter agreement, dated April 11, 1996, between International Wireless
         Incorporated and Grupo Carso, S.A. de C.V.
</TABLE>    
 
 
                                     II-6
<PAGE>
 
<TABLE>   
 <C>      <S>
 10.8**   Funding Agreement, dated May 12, 1996, among International Wireless
          Incorporated, Grupo Carso, S.A. de C.V. and Greg C. Carr.
 10.9**   Amendment to Funding Agreement, dated October 31, 1996, among the
          Registrant, Carso Global Telecom, S.A. de C.V. and Greg C. Carr.
 10.10**  Amendment No. 2 to Funding Agreement, dated March 18, 1997, among the
          Registrant, Carso Global Telecom, S.A. de C.V. and Greg C. Carr.
 10.11**  Put Exercise Agreement, dated May 6, 1997, among the Registrant,
          Carso Global Telecom, S.A. de C.V. and Greg C. Carr.
 10.12**  Interim Financing Agreement, dated October 30, 1997, among the
          Registrant, Greg C. Carr and Carso Global Telecom, S.A. de C.V.
 10.13**  Stock Purchase Agreement, dated July 24, 1998, between the Registrant
          and Telefonos de Mexico, S.A. de C.V.
 10.14**  Stock Purchase Agreement, dated July 24, 1998, between the Registrant
          and Carso Global Telecom, S.A. de C.V.
 10.15**  Stock Purchase Agreement, dated July 24, 1998, among the Registrant,
          Telefonos de Mexico, S.A. de C.V., Greg C. Carr and Carso Global
          Telecom, S.A. de C.V.
 10.16**  Registration Rights Agreement, dated July 24, 1998, between the
          Registrant and Greg C. Carr.
 10.17+** Software License and Services Agreement, dated April 16, 1997,
          between Prodigy Services Corporation and ORACLE Worldwide Tech
          Support.
 10.18**  Understanding Agreement, dated August 5, 1998, for line of credit
          granted by Carso Global Telecom, S.A. de C.V. to the Registrant.
 10.19+** Splitrock Full Service Agreement, dated June 24, 1997, between
          Splitrock Services, Inc. and Prodigy Services Corporation.
 10.20**  Agreement of Sublease, dated June 24, 1997, between Splitrock
          Services, Inc. and Prodigy Services Corporation.
 10.21*   Employment Agreement, dated September 1, 1998, between the Registrant
          and Samer F. Salameh.
 10.22*   Consulting Agreement, dated July 31, 1998, between the Registrant and
          Russell I. Pillar.
 10.23*   Employment Agreement, dated July 21, 1998, between the Registrant and
          David R. Henkel.
 10.24*   Employment Agreement, dated November 24, 1997, between the Registrant
          and James P. Dougherty.
 10.25*   Employment Agreement, dated September 14, 1998, between the
          Registrant and Andrea S. Hirsch.
 10.26*   Employment Agreement, dated June 1, 1998, between the Registrant and
          James L'Heureux.
 10.27*   Employment Agreement, dated June 1, 1998, between the Registrant and
          Carena M. Pooth.
 10.28*   1996 Stock Option Plan of the Registrant, as amended.
 10.29*   1998 Employee Stock Purchase Plan of the Registrant.
 10.30**  Lease, dated August 14, 1997, between Prodigy Services Corporation
          and Westchester One LLC, as amended.
 10.31+** Promotion & Distribution Agreement, effective October 7, 1996,
          between Microsoft Corporation and Prodigy Services Corporation, as
          amended.
 10.32+** Distribution and Licensing Agreement, effective October 1, 1996,
          between Packard Bell NEC, Inc. and Prodigy Services Corporation.
 10.33+** Excite Services Distribution and Co-Branded Area Agreement, dated
          January 20, 1998, between Excite, Inc. and Prodigy Services
          Corporation.
 10.34**  Lease Agreement, dated June 6, 1988, between Prodigy Services Company
          and Crow-Kelly#1, as amended.
</TABLE>    
 
                                      II-7
<PAGE>
 
<TABLE>   
 <C>      <S>
 10.35+** Internet-Sign Up Wizard Referral and Microsoft Internet Explorer
          License and Distribution Agreement, dated January 8, 1997, between
          Prodigy Services Corporation and Microsoft Corporation.
 10.36+** Software Development and Processing Services Agreement, dated January
          1, 1992, between Prodigy Services Company and CSG Systems, Inc., as
          amended.
 10.37**  Form of Prodigy Service Member Agreement.
 10.38*   Agreement between the Registrant and Telefonos de Mexico, S.A. de
          C.V. relating to subscriber transaction.
 10.39*   Employment Agreement between the Registrant and David C.
          Trachtenberg.
 11.1*    Computation of earnings per common share.
 16.1     Letter from Deloitte & Touche LLP regarding change in accountants.
 23.1     Consent of PriceWaterhouseCoopers LLP.
 23.2*    Consent of Hale and Dorr LLP (included in Exhibit 5.1).
 24.1**   Power of Attorney (included on page II-10 of Registration Statement
          filed on September 25, 1998).
 27.1     Financial Data Schedule.
</TABLE>    
 
----------
 * To be filed by amendment.
   
** Previously filed.     
 
+ Confidential treatment requested as to certain portions, which portions are
omitted and filed separately with the Securities and Exchange Commission.
 
  (b) Financial Statement Schedules
 
  All other schedules have been omitted because they are not required or
because the required information is given in the Consolidated Financial
Statements or Notes thereto.
 
ITEM 17. UNDERTAKINGS
   
  (a) The undersigned Registrant hereby undertakes to provide to the
Underwriters at the closing specified in the Underwriting Agreement,
certificates in such denominations and registered in such names as required by
the Underwriters to permit prompt delivery to each purchaser.     
 
  (b) Insofar as indemnification for liabilities arising under the Securities
Act may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the provisions contained in the Certificate of
Incorporation, as amended, of the Registrant and the laws of the State of
Delaware, or otherwise, the Registrant has been advised that in the opinion of
the Securities and Exchange Commission such indemnification is against public
policy as expressed in the Securities Act and is, therefore, unenforceable. In
the event that a claim for indemnification against such liabilities (other
than the payment by the Registrant of expenses incurred or paid by a director,
officer or controlling person of the Registrant in the successful defense of
any action, suit or proceeding) is asserted by such director, officer or
controlling person in connection with the securities being registered, the
Registrant will, unless in the opinion of its counsel the matter has been
settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Securities Act and will be governed by the final
adjudication of such issue.
 
  (c) The undersigned Registrant hereby undertakes that:
   
  (1) For purposes of determining any liability under the Securities Act, the
information omitted from the form of prospectus filed as part of this
Registration Statement in reliance upon Rule 430A and contained in a form of
prospectus filed by the Registrant pursuant to Rule 424(b)(1) or (4) or 497(h)
under the Securities Act shall be deemed to be part of this Registration
Statement as of the time it was declared effective.     
 
 
                                     II-8
<PAGE>
 
  (2) For the purpose of determining any liability under the Securities Act,
each post-effective amendment that contains a form of prospectus shall be
deemed to be a new registration statement relating to the securities offered
therein, and the offering of such securities at that time shall be deemed to be
the initial bona fide offering thereof.
 
                                      II-9
<PAGE>
 
                                  SIGNATURES
   
  PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, THE REGISTRANT
HAS DULY CAUSED THIS AMENDMENT NO. 1 TO REGISTRATION STATEMENT TO BE SIGNED ON
ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED, IN WHITE PLAINS, NEW
YORK, ON THIS 9TH DAY OF DECEMBER, 1998.     
 
                                          Prodigy Communications Corporation
                                                    
                                                 /s/ Samer F. Salameh     
                                          By: _________________________________
                                             SAMER F. SALAMEH, CHAIRMAN OF THE
                                                           BOARD,
                                               PRESIDENT AND CHIEF EXECUTIVE
                                                          OFFICER
          
  PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT OF 1933, THIS AMENDMENT
NO. 1 TO REGISTRATION STATEMENT HAS BEEN SIGNED BY THE FOLLOWING PERSONS IN
THE CAPACITIES AND ON THE DATES INDICATED.     
 
<TABLE>   
<CAPTION>
              SIGNATURE                          TITLE                   DATE
              ---------                          -----                   ----
 
<S>                                    <C>                        <C>
         /s/ Samer F. Salameh          Chairman of the Board,      December 9, 1998
______________________________________  President and Chief
           SAMER F. SALAMEH             Executive Officer
                                        (principal executive
                                        officer)
 
       Russell I. Pillar *             Vice Chairman of the Board  December 9, 1998
______________________________________
          RUSSELL I. PILLAR
 
        Alfredo Sanchez *              Vice Chairman of the Board  December 9, 1998
______________________________________
           ALFREDO SANCHEZ
 
        David R. Henkel *              Executive Vice President,   December 9, 1998
______________________________________  Finance, Chief Financial
           DAVID R. HENKEL              Officer and Director
                                        (principal financial and
                                        accounting officer)
 
          Arturo Elias *               Director                    December 9, 1998
______________________________________
             ARTURO ELIAS
 
        James M. Nakfoor *             Director                    December 9, 1998
______________________________________
           JAMES M. NAKFOOR
</TABLE>    
          
       /s/ Samer F. Salameh     
   
* By: __________________________     
            
         Samer F. Salameh     
            
         Attorney-in-Fact     
 
                                     II-10
<PAGE>
 
                                 EXHIBIT INDEX
 
<TABLE>   
<CAPTION>
 EXHIBIT
   NO.                                 DESCRIPTION
 -------                               -----------
 <C>      <S>
  1.1*    Form of Underwriting Agreement.
  3.1**   Certificate of Incorporation of the Registrant, as amended.
  3.2**   By-laws of the Registrant, as amended.
  3.3*    Form of Certificate of Incorporation of the Registrant, as in effect
          upon the closing of the Offering.
  3.4*    Form of By-laws of the Registrant, as in effect upon the closing of
          the Offering.
  4.1*    Specimen certificate for shares of Common Stock.
  5.1*    Opinion of Hale and Dorr LLP.
 10.1**   Agreement and Plan of Corporate Reorganization, dated July 8, 1994,
          among International Wireless Incorporated, Comstar Cellular Network,
          Inc., Terrance Dillon, Duncan Wine, Blaize Kaduru and Herbert Orji.
 10.2**   Partnership Purchase Agreement, dated May 12, 1996, among
          International Wireless Incorporated, Prodigy Services Company,
          International Business Machines Corporation and Sears, Roebuck and
          Co., as amended by Amendment dated June 3, 1996.
 10.3**   Note Exchange Agreement, dated October 20, 1997, among the
          Registrant, Prodigy Services Corporation, International Business
          Machines Corporation and Sears, Roebuck and Co., as amended by
          Amendment to Note Exchange Agreement dated October 31, 1997.
 10.4**   Letter agreement, dated October 20, 1997, between the Registrant and
          Carso Global Telecom, S.A. de C.V., relating to the Note Exchange
          Agreement.
 10.5**   Form of 8% Contingent Convertible Promissory Note issued by Prodigy
          Services Corporation to IBM and Sears.
 10.6**   Form of Contingent Common Stock Purchase Warrant issued by Prodigy
          Services Corporation to IBM and Sears.
 10.7**   Letter agreement, dated April 11, 1996, between International
          Wireless Incorporated and Grupo Carso, S.A. de C.V.
 10.8**   Funding Agreement, dated May 12, 1996, among International Wireless
          Incorporated, Grupo Carso, S.A. de C.V. and Greg C. Carr.
 10.9**   Amendment to Funding Agreement, dated October 31, 1996, among the
          Registrant, Carso Global Telecom, S.A. de C.V. and Greg C. Carr.
 10.10**  Amendment No. 2 to Funding Agreement, dated March 18, 1997, among the
          Registrant, Carso Global Telecom, S.A. de C.V. and Greg C. Carr.
 10.11**  Put Exercise Agreement, dated May 6, 1997, among the Registrant,
          Carso Global Telecom, S.A. de C.V. and Greg C. Carr.
 10.12**  Interim Financing Agreement, dated October 30, 1997, among the
          Registrant, Greg C. Carr and Carso Global Telecom, S.A. de C.V.
 10.13**  Stock Purchase Agreement, dated July 24, 1998, between the Registrant
          and Telefonos de Mexico, S.A. de C.V.
 10.14**  Stock Purchase Agreement, dated July 24, 1998, between the Registrant
          and Carso Global Telecom, S.A. de C.V.
 10.15**  Stock Purchase Agreement, dated July 24, 1998, among the Registrant,
          Telefonos de Mexico, S.A. de C.V., Greg C. Carr and Carso Global
          Telecom, S.A. de C.V.
 10.16**  Registration Rights Agreement, dated July 24, 1998, between the
          Registrant and Greg C. Carr.
 10.17+** Software License and Services Agreement, dated April 16, 1997,
          between Prodigy Services Corporation and ORACLE Worldwide Tech
          Support.
</TABLE>    
       
<PAGE>
 
<TABLE>   
<CAPTION>
 EXHIBIT
   NO.                                 DESCRIPTION
 -------                               -----------
 <C>      <S>
 10.18**  Understanding Agreement, dated August 5, 1998, for line of credit
          granted by Carso Global Telecom, S.A. de C.V. to the Registrant.
 10.19+** Splitrock Full Service Agreement, dated June 24, 1997, between
          Splitrock Services, Inc. and Prodigy Services Corporation.
 10.20**  Agreement of Sublease, dated June 24, 1997, between Splitrock
          Services, Inc. and Prodigy Services Corporation.
 10.21*   Employment Agreement, dated September 1, 1998, between the Registrant
          and Samer F. Salameh.
 10.22*   Consulting Agreement, dated July 31, 1998, between the Registrant and
          Russell I. Pillar.
 10.23*   Employment Agreement, dated July 21, 1998, between the Registrant and
          David R. Henkel.
 10.24*   Employment Agreement, dated November 24, 1997, between the Registrant
          and James P. Dougherty.
 10.25*   Employment Agreement, dated September 14, 1998, between the
          Registrant and Andrea S. Hirsch.
 10.26*   Employment Agreement, dated June 1, 1998, between the Registrant and
          James L'Heureux.
 10.27*   Employment Agreement, dated June 1, 1998, between the Registrant and
          Carena M. Pooth.
 10.28*   1996 Stock Option Plan of the Registrant, as amended.
 10.29*   1998 Employee Stock Purchase Plan of the Registrant.
 10.30**  Lease, dated August 14, 1997, between Prodigy Services Corporation
          and Westchester One LLC, as amended.
 10.31+** Promotion & Distribution Agreement, effective October 7, 1996,
          between Microsoft Corporation and Prodigy Services Corporation, as
          amended.
 10.32+** Distribution and Licensing Agreement, effective October 1, 1996,
          between Packard Bell NEC, Inc. and Prodigy Services Corporation.
 10.33+** Excite Services Distribution and Co-Branded Area Agreement, dated
          January 20, 1998, between Excite, Inc. and Prodigy Services
          Corporation.
 10.34**  Lease Agreement, dated June 6, 1988, between Prodigy Services Company
          and Crow-Kelly#1, as amended.
 10.35+** Internet-Sign Up Wizard Referral and Microsoft Internet Explorer
          License and Distribution Agreement, dated January 8, 1997, between
          Prodigy Services Corporation and Microsoft Corporation.
 10.36+** Software Development and Processing Services Agreement, dated January
          1, 1992, between Prodigy Services Company and CSG Systems, Inc., as
          amended.
 10.37**  Form of Prodigy Service Member Agreement.
 10.38*   Agreement between the Registrant and Telefonos de Mexico, S.A. de
          C.V. relating to subscriber transaction.
 10.39*   Employment Agreement between the Registrant and David C.
          Trachtenberg.
 11.1*    Computation of earnings per common share.
 16.1     Letter from Deloitte & Touche LLP regarding change in accountants.
 23.1     Consent of PriceWaterhouseCoopers LLP.
 23.2*    Consent of Hale and Dorr LLP (included in Exhibit 5.1).
 24.1**   Power of Attorney (included on page II-10 of Registration Statement
          filed on September 25, 1998).
 27.1     Financial Data Schedule.
</TABLE>    
 
----------
   
 * To be filed by amendment.     
   
** Previously filed.     
   
+ Confidential treatment requested as to certain portions, which portions are
omitted and filed separately with the Securities and Exchange Commission.