<PAGE>
 
                                 UNITED STATES

                      SECURITIES AND EXCHANGE COMMISSION

                            WASHINGTON, D.C.  20549

                                   FORM 10-K

[X]  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
     ACT OF 1934
     For the fiscal year ended December 31, 1998

                                       OR

[_]  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
     EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
     For the transition period from _____ to _____


Commission File Number  0-21317

                       TCI SATELLITE ENTERTAINMENT, INC.
                       ---------------------------------
            (Exact name of Registrant as specified in its charter)

<TABLE>
<CAPTION>
 
<S>                                                           <C>
                State of Delaware                                                  84-1299995
-----------------------------------------------                                    ----------
           (State or other jurisdiction                                         (I.R.S. Employer
         of incorporation or organization)                                    Identification Number)
 
 
          8085 South Chester, Suite 300
              Englewood, Colorado                                                     80112
-----------------------------------------------                                    ----------
   (Address of principal executive offices)                                        (Zip Code)
</TABLE>

 Registrant's telephone number, including area code:  (303) 712-4600

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

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

     Series A Common Stock, par value $1.00 per share
     Series B Common Stock, par value $1.00 per share

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

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

     The aggregate market value of the voting stock held by nonaffiliates of TCI
Satellite Entertainment, Inc., computed by reference to the last sales price of
such stock, as of the close of trading on January 29, 1999, was approximately
$63,149,000.

     The number of shares outstanding of TCI Satellite Entertainment, Inc.'s
common stock as of January 29, 1999 was:

            Series A Common Stock - 59,280,466 shares; and
            Series B Common Stock - 8,465,324 shares.
<PAGE>
 
                       TCI SATELLITE ENTERTAINMENT, INC.
                        1998 ANNUAL REPORT ON FORM 10-K

                               Table of Contents

                                                               Page
                                                               ----
                                     PART I
<TABLE>
<CAPTION>

<S>        <C>                                                  <C> 
Item 1.    Business...........................................  I-1

Item 2.    Properties.........................................  I-24
 
Item 3.    Legal Proceedings..................................  I-25
 
Item 4.    Submission of Matters to a Vote of Security Holders  I-25

<CAPTION> 
 
                                    PART II
<S>        <C>                                                  <C>  
Item 5.    Market for Registrant's Common Equity and
           Related Stockholder Matters.......................   II-1
 
Item 6.    Selected Financial Data...........................   II-2
 
Item 7.    Management's Discussion and Analysis of Financial
           Condition and Results of Operations...............   II-3
 
Item 8.    Financial Statements and Supplementary Data.......   II-10

Item 9.    Changes in and Disagreements with Accountants
           on Accounting and Financial Disclosure............   II-10

<CAPTION> 
                                    PART III
<S>        <C>                                                  <C>  
Item 10.   Directors and Executive Officers of the Registrant   III-1
 
Item 11.   Executive Compensation............................   III-3
 
Item 12.   Security Ownership of Certain Beneficial Owners
           and Management....................................   III-7
 
Item 13.   Certain Relationships and Related Transactions....   III-11

<CAPTION>  
                                    PART IV

Item 14.   Exhibits, Financial Statements and Financial 
           Statement Schedules, and Reports on Form 8-K......   IV-1

</TABLE> 
<PAGE>
 
Item 1.  Business.
-------  ---------

(a)  General Development of Business
     -------------------------------

     TCI Satellite Entertainment, Inc. ("TSAT" or the "Company") owns a 37%
ownership interest in PRIMESTAR, Inc. ("PRIMESTAR").  PRIMESTAR is a leading
distributor of digital satellite-based television services in the United States
and operates the PRIMESTAR(R) medium power digital satellite programming
service.  The PRIMESTAR(R) service is broadcast from GE-2 ("GE-2"), a medium
power satellite stationed at the 85 degrees West Longitude ("W.L.") orbital
position.

     Through its wholly-owned subsidiary, Tempo Satellite, Inc. ("Tempo"), the
Company holds a construction permit (the "FCC Permit") issued by the Federal
Communications Commission ("FCC"), authorizing construction of a high power
direct broadcast satellite ("DBS") system consisting of two or more satellites
delivering DBS service in 11 frequencies at the 119 degrees W.L. orbital
position. Tempo is a party to a satellite construction agreement (the "Satellite
Construction Agreement") with Space Systems/Loral, Inc. ("Loral") pursuant to
which Tempo arranged for the construction of two high power direct broadcast
satellites (the "Tempo Satellites"). Construction of the Tempo Satellites has
been completed. On March 8, 1997, one of the Tempo Satellites ("Tempo DBS-1")
was launched into geosynchronous orbit, to be stationed in Tempo's high power
orbital position at 119 degrees W.L. The 119 degrees W.L. orbital position is
one of three such orbital positions available for DBS service to the U.S. which
are "full CONUS", meaning that they have a view of the entire continental U.S.
The other Tempo Satellite ("Tempo DBS-2") presently serves as a ground spare for
Tempo DBS-1. Tempo DBS-1 is currently undergoing extended in-orbit testing under
the Satellite Construction Agreement.

     On March 6, 1998, the TSAT stockholders voted to approve a proposal to
adopt the provisions of certain agreements and the transactions contemplated
thereby, collectively, referred to herein as the "Roll-up Plan".  The Roll-up
Plan is a two-step transaction comprising the Restructuring and the proposed
TSAT Merger, as described below.

     Effective April 1, 1998 (the "Closing Date") and pursuant to (i) a Merger
and Contribution Agreement dated as of February 6, 1998 (the "Restructuring
Agreement"), among TSAT, PRIMESTAR, Time Warner Entertainment Company, L.P.
("TWE"), Advance/Newhouse Partnership ("Newhouse"), Comcast Corporation
("Comcast"), Cox Communications, Inc. ("Cox"), MediaOne of Delaware, Inc.
("MediaOne") and GE American Communications, Inc. ("GE Americom") and (ii) an
Asset Transfer Agreement dated as of February 6, 1998 (the "TSAT Asset Transfer
Agreement"), between TSAT and PRIMESTAR, a business combination (the
"Restructuring") was consummated. In connection with the Restructuring, TSAT
contributed and transferred to PRIMESTAR (the "TSAT Asset Transfer") all of
TSAT's assets and liabilities except (i) the capital stock of Tempo, (ii) the
consideration received by TSAT in the Restructuring and (iii) the rights and
obligations of TSAT under certain agreements with PRIMESTAR and others. In
addition, the business of PRIMESTAR Partners L.P. ("PRIMESTAR Partners") and the
business of distributing the PRIMESTAR(R) programming service ("PRIMESTAR(R)")
of each of TWE, Newhouse, Comcast, Cox and affiliates of MediaOne were
consolidated into PRIMESTAR.

                                      I-1
<PAGE>
 
     In connection with the TSAT Asset Transfer, PRIMESTAR assumed all of TSAT's
indebtedness on the Closing Date, and TSAT received from PRIMESTAR such number
of shares of Class A Common Stock of PRIMESTAR ("PRIMESTAR Class A Common
Stock") and Class B Common Stock of PRIMESTAR ("PRIMESTAR Class B Common Stock"
and together with the PRIMESTAR Class A Common Stock, "PRIMESTAR Common Stock"),
respectively, as equals the number of shares of Series A Common Stock of TSAT
("Series A Common Stock") and Series B Common Stock of TSAT ("Series B Common
Stock"), respectively, issued and outstanding on the Closing Date, in accordance
with the Restructuring Agreement and the TSAT Asset Transfer Agreement. In
addition, TSAT received one share of PRIMESTAR Class A Common Stock for each
share of Series A Common Stock issuable at the Closing Date ("Issuable TSAT
Shares") pursuant to certain TSAT stock options, restricted stock awards and
other arrangements.  TSAT received 66.3 million shares of PRIMESTAR Class A
Common Stock and 8.5 million shares of PRIMESTAR Class B Common Stock, and as a
result, owns approximately 37% of the outstanding shares of common equity of
PRIMESTAR at the closing of the Restructuring, representing approximately 38% of
the combined voting power of such common equity.  The outstanding shares of
Series A Common Stock, and Series B Common Stock, remain outstanding and were
not directly affected by the Restructuring.

     As a result of the TSAT Asset Transfer, TSAT is a holding company, with no
substantial assets or liabilities other than (i) 100% of the outstanding capital
stock of Tempo, (ii) its ownership interest in PRIMESTAR, and (iii) its rights
and obligations under certain agreements with PRIMESTAR and others.

     On January 22, 1999, the Company announced that the Company and PRIMESTAR
had reached an agreement with Hughes Electronics Corporation ("Hughes"), a
subsidiary of General Motors Corporation, to sell (i) the Tempo Satellites, (ii)
Tempo's 119 degrees W.L. orbital location license and (iii) PRIMESTAR's rights
to use Tempo's DBS system (the "Tempo Rights") to Hughes, for aggregate
consideration valued at $500 million (the "Hughes High Power Transaction"). Due
to the fact that regulatory approval is required to transfer Tempo DBS-1 and
Tempo's authorization for 119 W.L. to Hughes, the Hughes High Power Transaction
will be completed in two steps.

     Effective March 10, 1999, the first closing of the Hughes High Power
Transaction (the "First Closing") was consummated whereby Hughes acquired Tempo
DBS-2 and PRIMESTAR's option to acquire Tempo DBS-2 (the "Tempo DBS-2 Option")
for aggregate consideration of $150 million. Such consideration was comprised of
the following: (i) $9,750,000 paid to PRIMESTAR for the Tempo DBS-2 Option
(including any amounts allocable to PRIMESTAR Partners in consideration of the
termination and relinguishment of the Tempo Rights), (ii) $750,000 paid to TSAT
to exercise the Tempo DBS-2 Option and (iii) the assumption by Hughes of
$139,500,000 due to PRIMESTAR Partners from TSAT in exchange for Tempo DBS-2.

     With regard to the sale of the remaining assets contemplated by the Hughes 
High Power Agreement (the "Second Closing"), Tempo has been notified that Tempo 
DBS-I experienced power reductions which occurred on March 29, 1999 and April 2,
1999. Although the Company does not believe the extent of such power reductions 
is significant, a definitive assessment of the impact on Tempo DBS-I is not yet 
complete. Notwithstanding the foregoing, the Second Closing, which is subject to
the receipt of appropriate regulatory approvals and other customary closing 
conditions, is expected to be consummated in the second quarter of 1999.

     Effective February 6, 1998 and as part of the Roll-up Plan, TSAT and 
PRIMESTAR entered into an Agreement and Plan of Merger (the "TSAT Merger
Agreement"), providing for the merger of TSAT with and into PRIMESTAR, with
PRIMESTAR as the surviving corporation (the "TSAT Merger"). In connection with
the First closing, the Company and PRIMESTAR terminated the TSAT Merger
Agreement.

                                      I-2
<PAGE>
 
     In a separate transaction (the "Hughes Medium Power Transaction"),
PRIMESTAR also announced that it had reached an agreement with Hughes to sell
PRIMESTAR's medium-power DBS business and assets for $1.1 billion in cash and
4.871 million shares of General Motors Class H common stock ("GMH Stock") valued
at approximately $225 million, based upon the closing price of GMH Stock on the
date of the purchase agreement.  The foregoing purchase price is subject to
adjustments for working capital at the date of closing.  PRIMESTAR is
responsible for the payment of certain obligations not assumed by Hughes,
satisfaction of its funded indebtedness and the payment of costs, currently
estimated to range from $270 million to $340 million, associated with the
termination of its high power business strategy and sale of its medium power
assets. The consummation of the Hughes Medium Power Transaction is subject to
various consents from PRIMESTAR's lenders; restructuring of certain of
PRIMESTAR's indebtedness; and other customary conditions.

     In connection with their approval of the Hughes Medium Power Transaction,
the stockholders of PRIMESTAR also approved the payment to TSAT of consideration
in the amount of $65 million, payable in shares of GMH Stock. Such payment is
conditioned upon the closing of the Hughes Medium Power Transaction.

     If the Hughes Medium Power Transaction and Hughes High Power Transaction
are both consummated, the Company will cease to be engaged in the direct-to-home
satellite television business through PRIMESTAR and Tempo. The Company is
currently reviewing potential business opportunities to take advantage of the
Company's industry expertise and relationships and significant tax loss
carryforward. There can be no assurances, however, that the Company will be able
to fund the implementation of any such potential business opportunity on terms
favorable to the Company, or on any terms, or that any such potential business
opportunity will be successfully implemented.

     If the Hughes Medium Power Transaction is not consummated for any reason,
PRIMESTAR currently intends to continue operating its medium power business,
which may require the restructuring or refinancing of certain of its
liabilities.  There can be no assurance that such restructuring or refinancing,
if necessary, would be accomplished on terms acceptable to PRIMESTAR.

     TSAT was incorporated in Delaware in November 1996.  Prior to the Spin-off
(as defined below), the Company was wholly owned by Tele-Communications, Inc.
("TCI"), which, through various subsidiaries, was engaged in the business of
distributing PRIMESTAR(R) from December 1990 until the consummation of the Spin-
off.  TSAT's predecessor was incorporated in February 1995 to consolidate TCI's
PRIMESTAR(R) distribution business into one subsidiary, and was merged into TSAT
in connection with the Spin-off.

     TSAT was formed to own and operate certain businesses of TCI
Communications, Inc. ("TCIC"), a subsidiary of TCI, constituting TCI's
collective interests ("TCI SATCO") in the digital satellite business.  On
December 4, 1996 (the "Spin-off Date") TCI distributed, (the "Spin-off"), as a
dividend, all of the issued and outstanding TSAT Common Stock to the holders of
record of shares of Tele-Communications, Inc., Series A TCI Group Common Stock,
$1.00 par value per share (the "Series A TCI Group Stock"), and Tele-
Communications, Inc., Series B TCI Group Common Stock, $1.00 par value per share
(the "Series B TCI Group Stock" and, together with the Series A TCI Group Stock,
the "TCI Group Stock"), on the basis of one share of the Series A Common Stock
for each ten shares of Series A TCI Group Stock, and one share of Series B
Common Stock for each ten shares of Series B TCI Group Stock.

     References herein to the "Company" may, as the context requires, refer to
(i) TCI SATCO prior to the Spin-off Date and (ii) TSAT and its consolidated
subsidiaries on and after the Spin-off Date.

                                      I-3
<PAGE>
 
     Certain statements in this Annual Report on Form 10-K constitute "forward-
looking statements" within the meaning of the Private Securities Litigation
Reform Act of 1995. Such forward-looking statements involve known and unknown
risks, uncertainties and other important factors that could cause the actual
results, performance or achievements of the Company, or industry results, to
differ materially from any future results, performance or achievements expressed
or implied by such forward-looking statements. Such risks, uncertainties and
other factors include, among others: general economic and business conditions
and industry trends; the continued strength of the multichannel video
programming distribution industry and the satellite services industry and the
growth of satellite delivered television programming; uncertainties inherent in
proposed business strategies and development plans, including uncertainties
regarding the Hughes High Power and Medium Power Transactions; future financial
performance, including availability, terms and deployment of capital; the
ability of vendors to deliver required equipment, software and services;
availability of qualified personnel; changes in, or the failure or the inability
to comply with, government regulation, including, without limitation,
regulations of the FCC, and adverse outcomes from regulatory proceedings;
changes in the nature of key strategic relationships with partners and joint
venturers; competitor responses to the Company's products and services, and the
overall market acceptance of such products and services, including acceptance of
the pricing of such products and services; possible interference by satellites
in adjacent orbital positions with the satellite currently being used for
PRIMESTAR's existing medium power satellite television business; reliance on
software programs used by the Company or its suppliers containing problems
related to the Year 2000; and other factors referenced in this Report. These
forward-looking statements (and such risks, uncertainties and other factors)
speak only as of the date of this Report. The Company expressly disclaims any
obligation or undertaking to disseminate any updates or revisions to any 
forward-looking statement contained herein to reflect any change in the
Company's expectations with regard thereto or any change in events, conditions
or circumstances on which any such statement is based.

     (b) Financial Information about Industry Segments
         ---------------------------------------------

         Not applicable.

     (c) Narrative Description of Business
         ---------------------------------

Industry Overview

General
-------

     Digital satellite television services use communications satellites,
broadcasting at Ku-band or higher frequencies, to transmit multichannel video
programming directly to consumers, who receive such signals on home satellite
dishes ("HSDs"). Such satellites operate in geosynchronous orbit above the
equator, from orbital positions or ''slots'' allocated by international
agreement to the U.S. and other national governments and assigned by such
governments in accordance with local law. Orbital slots are designated by their
location East or West of the zero meridian, measured in degrees of longitude,
and comprise both a physical location and an assignment of broadcast spectrum in
the applicable frequency band.  The assigned spectrum is divided into 32
frequency channels. Such frequency channels are sometimes referred to as
''transponders'' because each transponder on a satellite generally transmits on
one of such channels. At standard levels of digital compression technology
currently deployed, each frequency channel can be converted on average into
eight or more analog channels of video programming (depending on the video
density of the programming), thereby enabling the digital satellite service
operator to offer a broader variety of programming choices than analog satellite
systems.  Advanced compression technologies currently being tested are expected
to result in substantially greater compression ratios.  Digital technology
enables subscribers to receive laser disc-quality picture and compact disc-
quality sound from the satellite.

                                      I-4
<PAGE>
 
     The operator of a digital satellite television service typically enters
into agreements with programmers, who deliver their programming content to the
digital satellite service operator via commercial satellite, fiber optics or
microwave transmissions. The digital satellite service operator generally
monitors such signals for quality, and may add promotional messages, public
service programming or other system-specific content. The signals are then
digitized, compressed, encrypted and combined with other programming sharing a
given transponder.  Each transponder's signal is then uplinked, or transmitted,
to the transponder owned or leased by the service operator on the service's
satellite, which receives and retransmits the signal to HSDs configured and
authorized to receive it.

     In order to receive programming, a subscriber requires (i) a properly
installed HSD, which includes a dish-shaped antenna, low noise block converter
("LNB") and related equipment, (ii) an integrated receiver/decoder ("IRD,"
sometimes referred to herein as the "satellite receiver" or "set-top box"),
which receives the data stream from each broadcasting transponder, separates it
into separate digital programming signals, decrypts and decompresses those
signals that the subscriber is authorized to receive and converts such digital
signals into analog radio frequency signals, and (iii) a television set, to view
and listen to the programming contained in such analog signals. A subscriber's
IRD is generally connected to the digital satellite service operator's
authorization center by telephone, to report the purchase of  pay-per-view
channels.

     The FCC authorizes two types of satellite services for transmission of
television programming: Broadcast Satellite Service ("BSS"), which operates at
high power in the Ku-band, and Fixed Satellite Service ("FSS"), which includes
medium power services transmitting in the Ku-band, as well as low power analog
services transmitting in the C-band. Both high power BSS satellites and medium
power FSS satellites are used for digital satellite television services. High
power signals can generally be received by HSDs of approximately 14 to 18 inches
in diameter (depending on the geographical location of the HSD and wattage per
channel), while medium power signals require HSDs of 27 to 39 inches in diameter
(depending on the geographical location of the HSD and wattage per channel).
Low power signals, such as those used by C-band direct-to-home satellite
services, require still larger  HSDs.

     Generally, both high power and medium power digital satellite services
provide the same high video and audio quality. However, in certain situations
medium power services may be more susceptible to interference from adjacent
satellites than high power services. High power services have the benefit of
certain regulatory safeguards instituted by the FCC to protect BSS broadcast
signals from interference from other sources. Under the FCC's current policy,
BSS orbital locations are spaced at greater intervals than FSS orbital
locations. There are 9 degrees of longitude between adjacent BSS orbital slots,
as compared to 2 degrees between adjacent FSS locations. The smaller interval
between FSS orbital locations, together with their lower power, requires the use
of a relatively large HSD to prevent interference. Newly assigned FSS license
holders are required to coordinate their satellite designs with the satellites
previously existing at adjacent orbital locations. However, such coordination
efforts between FSS license holders may not be sufficient to resolve any
interference that may occur, and an FSS license holder may not have adequate
recourse if the FCC assigns an adjacent location to another user that results in
signal interference.

                                      I-5
<PAGE>
 
     In 1982, the FCC allocated a spectrum within the Ku-band for BSS services.
Eight BSS orbital slots, each with 32 frequencies, have been reserved by the FCC
for use by domestic DBS providers. Three of those orbital slots (101 degrees
W.L., 110 degrees W.L. and 119 degrees W.L.) provide full CONUS visibility.
DirecTv, Inc., a subsidiary of Hughes, ("DirecTv") and United States Satellite
Broadcasting Corporation ("USSB") are the only entities licensed for the 101
degrees W.L. orbital slot, with a total of 32 transponders. MCI
Telecommunications Corporation/WorldCom ("MCI/WorldCom"), in partnership with
The News Corporation Limited ("News Corp."), acquired FCC authorizations to
build and operate a DBS service at the 110 degrees W.L. orbital location, using
28 transponders. EchoStar Communications Corporation ("EchoStar") holds FCC
authorizations with respect to one of the remaining four transponders at 110
degrees W.L. and USSB holds FCC authorizations with respect to the other three
transponders at 110 degrees W.L. EchoStar's DBS service uses 21 transponders at
the 119 degrees W.L. orbital location and Tempo's FCC Permit authorizes it to
build a DBS service using the remaining 11 transponders at 119 degrees W.L.

Digital Satellite Services Business
-----------------------------------

     Digital satellite television has been one of the fastest selling consumer
electronics products in the U.S. history.  As of December 31, 1998, the
installed base for digital satellite services consisted of approximately 8.7
million active subscribers nationwide, as compared to approximately 6.2 million,
4.4 million and 2.2 million subscribers at December 31, 1997, 1996 and 1995,
respectively.

     The following table shows the approximate percentage of digital satellite
television subscribers served by PRIMESTAR, DirecTV (combined with USSB) and
EchoStar:

<TABLE>
<CAPTION>
                                                                 As of December 31,
                                                         ----------------------------------
                                                         1998                          1997
                                                         ----                          ----
<S>                                                      <C>                           <C>
PRIMESTAR (1)                                            26%                            32%
DirecTV                                                  52%                            51%
EchoStar                                                 22%                            17%
</TABLE>


--------------------------------
(1) 1997 percentage reflects subscribers served by all distributors of
PRIMESTAR(R).

     The Company believes that the following factors will contribute to the
growth of the digital satellite services business.

     Demand for More Choice in Television Programming, Reliable Service and
Better Quality Picture and Sound.  Prior to the growth of cable television
services, television viewers were offered a relatively limited number of
channels. As the number of channels increased, consumer demand for more
programming choices also increased. As a result, the multichannel video industry
has experienced significant growth, both in terms of the number of content
producers creating programming and the number of channels available to viewers.
The Company expects that this trend will continue and consumers will desire even
more programming choices than are available through cable television. The
Company believes consumers are also demanding more reliable service and improved
picture quality compared to what has historically been offered by over-the-air
VHF and UHF broadcasters and by cable.  The two most recent consumer surveys of
cable and satellite customers by J.D. Power and Associates found that digital
satellite television providers outranked cable providers in customer
satisfaction. In the surveys, PRIMESTAR(R) ranked number one in customer
satisfaction, ahead of both EchoStar and DirecTv.

                                      I-6
<PAGE>
 
     Large Potential Customer Base.  The Company believes that there is
significant unsatisfied demand for high quality, reasonably priced television
programming. According to industry sources, there are approximately 98 million
television households in the U.S., all of which are potential subscribers to
satellite programming services.  Of the estimated 98 million television
households in the U.S., approximately 33 million do not currently subscribe to
cable television services, and the Company believes that many of the 65 million
existing cable television subscribers have a desire for greater variety of
programming, improved video and audio quality, better customer service and fewer
transmission interruptions.  Moreover, the Company believes that cable
subscribers, who typically spend approximately $42 per month on multichannel
programming, and, more generally, cable subscribers who purchase premium or pay-
per-view services, represent a particularly lucrative potential customer base
for providers of satellite programming services.

     Households Unserved or Underserved by Cable. The Company believes that
households not passed by cable and households served by cable systems with fewer
than 40 channels provide an opportunity for customer growth. Cable systems with
sufficient channel capacity (generally 54 or more channels) and good quality
cable plant will not require costly upgrades to add bandwidth or incur
significant maintenance costs in order to offer digital programming services.
The Company believes, however, that based on current compression technology, the
number of channels that a cable system would have to remove from its existing
service offerings in order to use them for digital services may, in the case of
cable systems with limited channel capacity, degrade the value of their analog
programming offering and alienate subscribers. Accordingly, pending the
availability of advances in digital compression technology now under
development, such smaller cable systems will be required to incur substantial
costs to upgrade their plant to expand channel capacity before they can
introduce digital services. Due to the substantial capital investment required
for wide scale deployment of fiber-based digital services, several cable
companies have delayed originally-announced deployment schedules.

     Commercial Subscribers.  The Company believes that digital satellite
services are well suited for hotels, motels, bars, multiple dwelling units
("MDUs"), businesses, schools and other organizations with commercial
applications, as well as for non-residential buildings which are not easily
accessible by cable.  The Company expects that some commercial organizations
will in the future create increased demand for educational, foreign language,
and other niche video and audio programming, as well as data services.

The PRIMESTAR(R) Service
------------------------

     PRIMESTAR is a leading provider of digital satellite services in the U.S.
PRIMESTAR owns and operates the PRIMESTAR(R) digital satellite business, which
is the second largest digital satellite business and the eighth largest
multichannel video programming distribution business in the U.S., measured by
the number of subscribers as of December 31, 1998.

     PRIMESTAR currently offers a medium power satellite service with over 160
channels of digital video and audio programming throughout the continental
United States. The medium power service is transmitted via GE-2, which is owned
by GE Americom and located at the 85 degrees W.L. orbital position. The
PRIMESTAR(R) medium power service served approximately 2.3 million subscribers
as of December 31, 1998.

                                      I-7
<PAGE>
 
     PRIMESTAR(R) includes a variety of advertiser-supported networks (sometimes
referred to as ''basic cable'' channels), a broad selection of movie services,
national and regional sports packages and other premium services, and
multiplexed pay-per-view programming.  PRIMESTAR secures its rights to broadcast
such programming via satellite by entering into non-exclusive affiliation
agreements with programming vendors. In addition to video services, PRIMESTAR(R)
includes digital audio services and regional weather services covering ten
regions of the country.

     Digital satellite television service requires that subscribers install HSDs
for a clear line of sight to the transmitting satellite.  GE-2 provides coverage
to the entire continental U.S. with favorable ''look'' angles, meaning that the
satellite is viewable from the entire continental U.S. at angle elevations high
enough to facilitate installation of HSDs in most areas. Additionally, GE-2's
orbital location over the East coast of the U.S. is considered favorable because
the signal travels a shorter path through the relatively moist air of the
Eastern seaboard, minimizing potential interference from bad weather. The
overall PRIMESTAR(R) system is designed for high availability, and operates
consistently without any significant interference approximately 99.8% of the
time.

     As currently in effect, an Amended and Restated Memorandum between GE
Americom and PRIMESTAR (the "GE-2 Agreement") for the leasing of GE-2 provides
for an initial lease term extending through February 2003, with an option to
extend the term through the end-of-life of GE-2 (the "End-of-Life Option").  The
End-of-Life Option has expired without exercise.  However, PRIMESTAR remains in
discussions with GE Americom regarding alternatives for extension of the GE-2
Agreement, and PRIMESTAR will continue to assess other alternatives if the
Hughes Medium Power Transaction is not consummated.  No assurance can be given
that the parties will agree to an extension or that any other alternatives will
be confirmed.

     Pursuant to the GE-2 Agreement, GE Americom provides PRIMESTAR with service
on 24 transponders on GE-2.  PRIMESTAR is currently entitled to non-preemptible
service on 18 of the transponders on GE-2 and preemptible service on six
transponders.  Preemptible transponders are transponders that may be reassigned
to restore service to protected customers if such protected customers experience
transponder or satellite failure.  PRIMESTAR does not believe that, during the
early stages of GE-2's operational life, the use of preemptible transponders is
likely to interfere in any material respect with the operation of the
PRIMESTAR(R) service. PRIMESTAR currently receives "orbital location protected
service" on all 24 of its transponders, meaning that if there is a failure of
GE-2, PRIMESTAR will be entitled to restore the lost service on another GE
Americom medium power satellite, GE-3, which was successfully launched on
September 4, 1997 into the same 85 degrees W.L. orbital position used by GE-2.
Even in those circumstances, the six preemptible transponders, although
protected, would remain preemptible. Upon the successful launch of another GE
Americom medium power satellite, GE-4 ("GE-4"), PRIMESTAR's six preemptible
transponders will become non-preemptible. 

     If PRIMESTAR extends the GE-2 Agreement and intends to use more than six of
its transponders for uses other than providing the PRIMESTAR(R) service, GE
Americom may reduce service from orbital location protected service to
nonpreemptible or preemptible service, as the case may be.

                                      I-8
<PAGE>
 
  PRIMESTAR currently uses proprietary authorization, encryption and digital
compression technology developed by an affiliate of General Instruments
Corporation ("GI"). PRIMESTAR believes that the compression technology it uses
produces picture and sound quality comparable to that of other digital satellite
television providers. Uplinking, encoding and compression services are provided
by National Digital Television Center, Inc., a subsidiary of TCI (''NDTC''),
under a Master Digital Transmission Agreement between NDTC and PRIMESTAR.
Although the satellite receiver used by PRIMESTAR(R) customers is not currently
compatible with certain other compression systems, it can be upgraded to be
compatible through equipment provided by GI, the cost of which equipment is
projected to range from $150 to $200 at commercial volumes.

  Programming.  At December 31, 1998, PRIMESTAR offered consumers programming
packages, as described below, which provide 76 to over 100 channels of audio and
video programming depending upon the package.  Each of the packages includes a
monthly programming guide.  Most of PRIMESTAR's customers rent their equipment
and pay an additional $3 - $10 monthly charge for equipment rental, which
includes free maintenance and customer service.

<TABLE>
<CAPTION>
Programming package                        Monthly price (1)
-------------------                        -----------------
 
<S>                                        <C>
PRIME Value                                $22.99
PRIME Variety                              $27.99
PRIME Entertainment                        $34.99
PRIME Entertainment Plus                   $42.99
PRIME Hits                                 $49.99
PRIME Hits Plus                            $55.99
</TABLE>
 
-------------------------
  (1) Monthly price excludes lease fee.

  As of December 31, 1998, PRIMESTAR(R) also offered 15 channels of pay-per-view
movies and events; a regional sports tier and other sports packages that provide
expanded coverage of regular-season, out-of-market sports events; and niche
services such as PBS and east and west coast feeds of ABC, NBC, CBS and FOX (to
those subscribers unable to receive such networks through local affiliates).
Such offerings were made on an a la carte basis.

  PRIMESTAR contracts with and bills its residential and commercial subscribers
directly for the PRIMESTAR(R) service. Most residential subscribers may
terminate their service at any time upon notice to PRIMESTAR.  Commercial
subscribers' service contracts automatically renew for successive terms unless
the commercial subscribers provide 90 days' prior written notice to PRIMESTAR of
their intent to terminate their service at the end of the current term.  In
addition, a commercial customer may terminate the contract prior to the
expiration of the contractual term by paying a cancellation fee.  Satellite
reception equipment reclaimed from terminating subscribers is tested,
refurbished as necessary and placed back into service.

Distribution.  PRIMESTAR distributes PRIMESTAR(R) services through multiple
distribution channels, including sales agents, full-service providers,
telemarketing agents and consumer retail outlets, such as RadioShack(R).
PRIMESTAR has engaged sales agents, (the ''Sales Agents''), each of which has
extensive experience distributing C-band DTH satellite equipment.  Sales Agents
generally do not sell directly to customers, but recruit, train and maintain a
network of sub-agents comprised generally of full-service independent satellite
retailers.  The sub-agents sell PRIMESTAR(R) services on behalf of PRIMESTAR and
install, service and maintain customer premises equipment for PRIMESTAR's
subscribers. Authorization of new customers is provided by PRIMESTAR's call
center(s).  Sales Agents are responsible for maintaining their sub-agents'
inventories of HSDs and other customer premises equipment, which are provided by
PRIMESTAR on consignment.

                                      I-9
<PAGE>
 
  PRIMESTAR  has also contracted with independent contractors who have
experience in distributing and servicing DTH satellite equipment ("full-service
providers" or "FSPs") to engage them to sell, install and service their own
accounts. The FSPs solicit potential subscribers by making door-to-door sales
calls, setting up booths at special events and otherwise marketing the
PRIMESTAR(R) service to customers in target markets in its authorized
distribution areas.  FSPs also install and service customers obtained through
retail outlets and call centers.

  PRIMESTAR pays the Sales Agents and FSPs commissions on equipment leased or
sold, as well as an installation reimbursement to cover the cost of each new
installation.  The Sales Agents and FSPs also receive a residual sales
commission for a contractually determined period of time (generally five years).
Sales Agents are responsible for compensating their sub-agents.

  PRIMESTAR operates a call center, located in Englewood, Colorado to take
subscription orders and provide both sales support and customer service.  In
addition, PRIMESTAR obtains call center support services from TCI's Boise, Idaho
call center (the "Boise Call Center"), as well as call centers operated on
behalf of PRIMESTAR by unaffiliated third parties.  The call centers offer
customers around-the-clock telephone support for sales, installation,
authorization and billing, as well as for repair and customer service.

  PRIMESTAR also distributes its services through certain national consumer
electronics retailers, including Radio Shack.  Pursuant to PRIMESTAR's national
agreement with Radio Shack, Radio Shack is compensated based on the number of
installations generated.  PRIMESTAR's distribution network is further supported
by local market retailers, such as hardware stores and convenience stores, which
promote PRIMESTAR's services and further assist PRIMESTAR in its distribution
efforts.

  Equipment and Installation.  Unlike other digital satellite television
services, PRIMESTAR(R) does not require consumers to purchase or finance the
equipment needed to receive its programming. PRIMESTAR provides the HSD,
satellite receiver and remote control to subscribers for a monthly rental fee
($3 - $10 per month at December 31, 1998), which includes ongoing maintenance
and service at no additional charge.  The monthly equipment rental fee is
normally included in a service package that includes various levels of basic and
premium programming.  Satellite receivers are manufactured by GI, and packaged
by GI with remote controls, and HSDs are manufactured by multiple vendors.

  In addition to monthly fees for programming and the purchase or lease of
equipment, PRIMESTAR generally charges new subscribers an installation fee
ranging from $49 to $99.  Certain other direct satellite service providers offer
consumers the option of self-installation of the HSD and other equipment for
their digital satellite systems, with an installation kit that retails for
approximately $70.

High Power Satellites
---------------------

  Tempo DBS System.  The Company, through Tempo, holds the FCC Permit,
authorizing construction of a high power DBS system consisting of two or more
satellites delivering DBS service in 11 frequencies at the 119 degrees W.L.
orbital position. The 119 degrees W.L. orbital position is generally visible to
HSDs throughout the entire continental U.S. Tempo is also a party to the
Satellite Construction Agreement with Loral, pursuant to which Tempo arranged
for the construction of Tempo DBS-1 and Tempo DBS-2 and has an option to
purchase up to three additional satellites. As constructed, each Tempo Satellite
can operate in either ''single transponder'' mode (with 32 transponders
broadcasting at 113 watts per channel) or in ''paired transponder'' mode (with
16 transponders broadcasting at 220 watts per channel). Either such
configuration can be selected at any time, either before or after launch.

                                      I-10
<PAGE>
 
  Tempo DBS-1 was outfitted with an antenna designed for operation at the 119
degrees W.L. orbital location and was launched into geosynchronous orbit on
March 8, 1997. During 1997, Loral notified Tempo of nine separate
occurrences of power reductions on Tempo DBS-1. In addition, Loral notified
Tempo of two additional power reductions that occurred on March 29, 1999 and
April 2, 1999. TSAT does not currently know the extent of such power reductions,
and cannot confirm the precise causes thereof; however, such reductions could
eventually affect the proposed operation of Tempo DBS-1, either alone or
together with other events that may arise during the expected life of the
satellite. As a result of such power reductions, in-orbit testing has been
extended and Tempo DBS-1 has not yet been accepted. TSAT currently believes that
Tempo DBS-1 may not fully comply with specifications, but has not yet determined
the extent of any such non-compliance. Tempo and Loral are currently engaged in
negotiations regarding this matter, including the timing, extent and methodology
of any further tests to be conducted and the terms of any monetary settlement
with respect to the satellite to which Tempo may be entitled under the Satellite
Construction Agreement. Certain defects or damages affecting Tempo DBS-1 could
cause a substantial monetary loss to TSAT.

  Tempo Capacity Option. In February 1990, Tempo entered into an option
agreement (the "Tempo Option Agreement") with PRIMESTAR Partners, granting
PRIMESTAR Partners the right and option (the "Tempo Capacity Option"), upon
exercise, to purchase or lease 100% of the capacity of the DBS system to be
built, launched and operated by Tempo pursuant to the FCC Permit. Under the
Tempo Option Agreement, upon the exercise of the Tempo Capacity Option,
PRIMESTAR Partners was obligated to pay Tempo $1,000,000 (the "Exercise Fee")
and to lease or purchase the entire capacity of the DBS system, with the
purchase price (or aggregate lease payments) for such capacity sufficient to
cover the costs of constructing, launching and operating such DBS system. In
connection with the Tempo Capacity Option and certain related matters, Tempo and
PRIMESTAR Partners subsequently entered into two letter agreements (the "Tempo
Letter Agreements"), which provided for, among other things, the funding by
PRIMESTAR Partners of milestone and other payments due under the Satellite
Construction Agreement, and certain related costs, through advances by PRIMESTAR
Partners to Tempo ("PRIMESTAR Advances"). PRIMESTAR Partners financed such
advances to Tempo through borrowings under a bank credit facility (the
"Partnership Credit Facility"), which is in turn supported by letters of credit
arranged for by affiliates of the partners of PRIMESTAR Partners (other than GE
Americom). At December 31, 1998, the aggregate funding provided to Tempo by
PRIMESTAR Partners was $469,498,000, and the balance due under the Partnership
Credit Facility was $575,000,000, including amounts borrowed to pay interest
charges.

  On February 7, 1997, the Partners Committee of PRIMESTAR Partners adopted a
resolution (i) affirming that PRIMESTAR Partners had unconditionally exercised
the Tempo Capacity Option, (ii) approving the proposed launch of Tempo DBS-1
into the 119 degrees W.L. orbital position and the use of Tempo DBS-2 as a spare
or back-up for Tempo DBS-1, pending other deployment or disposition as
determined by PRIMESTAR Partners, and (iii) authorizing the payment by PRIMESTAR
Partners to Tempo of the Exercise Fee and other amounts in connection with the
Tempo Capacity Option and the Tempo Letter Agreements, including funding of
substantially all construction and related costs relating to the Tempo
Satellites not previously funded by the PRIMESTAR Partners.

  The Tempo Letter Agreements permit PRIMESTAR to apply its advances to Tempo
against any payments (other than the Exercise Fee) due under the Tempo Capacity
Option with respect to its purchase or lease of satellite capacity. Although
TSAT and PRIMESTAR have not entered into an agreement with respect to the
purchase or lease of 100% of the capacity of the proposed Tempo DBS system
pursuant to the Tempo Capacity Option, TSAT believes that its obligations to
PRIMESTAR with respect to such advances will be satisfied in connection with the
completion of such purchase or lease.

                                      I-11
<PAGE>
 
  As described above, the Company has entered into the Hughes High Power
Agreement which provides for the sale of the Tempo Satellites, the 119 degrees
W.L. orbital location license and PRIMESTAR's right to use Tempo's high power
DBS system to Hughes for aggregate consideration of $500 million. In connection
with the Hughes High Power Transaction, Hughes has agreed to assume, and to
satisfy and discharge $465 million of Tempo's obligation to PRIMESTAR Partners
for the PRIMESTAR Advances, and PRIMESTAR Partners has agreed to forgive the
remaining balance. In addition, PRIMESTAR has agreed to terminate its rights
under the Tempo Capacity Option to lease or purchase 100% of the capacity of the
Tempo DBS system.

Competition
-----------

  The business of providing video programming to consumers is highly
competitive. The Company faces competition from numerous other companies
offering video, audio and data products and services. The Company's existing and
potential competitors comprise a broad range of companies engaged in
communications and entertainment, including other digital satellite program
providers, cable operators, wireless cable operators, television networks and
local broadcasters and home video products companies, as well as companies
developing new technologies and other purveyors of news, information and
entertainment.  Many of the Company's competitors have greater financial,
marketing and programming resources than the Company. The Company expects that
quality and variety of programming, quality of picture and service and cost will
be the key bases of competition.

  Advances in communications technology, as well as changes in the marketplace
and the regulatory and legislative environment, are constantly occurring.  As a
result, the Company cannot predict the effect that ongoing or future
developments might have on the video programming distribution industry generally
or the Company specifically.

  Other Digital Satellite Service Providers.  In addition to the Company,
several other companies offer digital satellite services and are positioned to
compete with the Company for home satellite subscribers.

  DirecTv successfully launched its first satellite in December 1993, its second
satellite in August 1994 and a third satellite in June 1995 as an in-orbit
spare. The third satellite may also be operated by DirecTv to provide additional
capacity. DirecTv's satellites, which are high power satellites, are located at
101 degrees W.L. DirecTv operates 27 transponders on each of its existing
satellites, enabling it to offer over 175 channels of digital programming.
DirecTv currently has exclusive distribution rights for out-of-market National
Football League telecasts. As of December 31, 1998, according to trade
publications, DirecTv served approximately 4.5 million subscribers.

  DirecTv recently filed an application with the FCC to expand its existing
satellite system and, in connection therewith, requested orbital slots located
at 96.5 degrees W. L. and 105.5 degrees W.L. To implement this expansion,
DirecTv must secure additional frequencies that are not currently allocated
domestically for DBS use, and DirecTv has also requested an FCC rulemaking to
secure such allocations. In addition, DirecTv recently entered into an agreement
with PanAmSat Corp., pursuant to which DirecTv acquired additional Ku-band
transponder capacity on PanAmSat's full CONUS Galaxy III-R satellite located at
95 degrees W. L. Initially, Galaxy III-R will be used to deliver six channels of
foreign-language programming. Under the agreement, DirecTv will initially lease
four Ku-band transponders and will have the ability to expand transponder
capacity to ultimately offer up to 120 channels dedicated for special interest
programming (such as programming services directed to foreign-language
communities), niche programs, future business-to-business applications and high
definition television transmissions.

  Hughes, DirecTV's parent corporation, also has received an FCC authorization
to construct, launch and operate a Ka-band system, including an authorization
for a Ka-band satellite at 101 degrees W.L. which may permit DirecTv to expand
its satellite services.

                                      I-12
<PAGE>
 
  USSB owns and operates five transponders on one of DirecTv's satellites and
offers a programming service separate from DirecTv's service, with over 25
channels of premium video programming not available from DirecTv. USSB's
selection of programming services (and its use of transponders on the same
satellite used by DirecTv, which enables subscribers to receive both DirecTv and
USSB signals with a single HSD) allows it to be marketed as complementary to
DirecTv, partially offsetting the competitive handicap caused by its relatively
limited channel capacity.  As of December 31, 1998, approximately 51% of
DirecTv's 4.5 million subscribers also received USSB programming. In addition,
USSB has a construction permit from the FCC that would allow it to build and
launch two high power DBS systems, one at 110 degrees W.L. (with three
transponders) and one at 148 degrees W.L. (with eight transponders). The 110
degrees W.L. orbital location would enable USSB to provide a second high power
DBS service to the continental U.S., although with limited channel capacity. The
148 degrees W.L. slot would allow USSB to transmit signals to viewers in Alaska
and Hawaii and could provide programming between the U.S. and certain locations
on the Pacific Rim.

  On December 14, 1998, Hughes announced that it had signed a definitive merger
agreement with USSB to acquire the business and assets of USSB. Hughes intends
to combine DirecTv's business with USSB's assets and business at 101 degrees
W.L. The proposed transaction also includes USSB's three frequencies at 110
degrees W.L., which, pending FCC approval, DirecTv intends to use to launch
Spanish-language programming services in 1999. The proposed merger is subject to
USSB shareholder approval and the receipt of appropriate regulatory and
antitrust approvals and is expected to close in mid-1999.

  Bell Atlantic Corp. ("Bell Atlantic") and SBC Communications Inc. ("SBC") have
each entered into a multi-year marketing and distribution agreement with DirecTv
and USSB to sell DirecTv's and USSB's satellite-television services to their
telephone customers.  GTE Corporation ("GTE") has entered into a similar
agreement with DirecTv, and is in negotiations with USSB to similarly market and
distribute USSB's programming service.  The agreements enable Bell Atlantic, SBC
and GTE to offer the satellite equipment for sale, for lease or with a lease-to-
own option.  These agreements provide a significant base of potential customers
for the DirecTv and USSB DBS services and allow Bell Atlantic, SBC, GTE, DirecTv
and USSB to offer customers a package of digital entertainment and
communications services.  As a result, the Company is at a competitive
disadvantage marketing to these customers.

  As of December 31, 1998, EchoStar and its subsidiaries had acquired 11
transponders at 61.5 degrees W.L., one transponder at 110 degrees W.L, 21
transponders at 119 degrees W.L., 24 transponders at 148 degrees W.L. and 22
transponders at 175 degrees W.L.; and had launched one satellite into the 148
degrees W.L. slot, two satellites into the 119 degrees W.L. slot and one
satellite into the 61.5 degrees slot. As of December 31, 1998, EchoStar
distributed approximately 150 channels of video and audio programming to the
entire continental United States from its satellite at 119 degrees W.L., and
served approximately 1.9 million subscribers. In addition, EchoStar has an
agreement with Dominion Video Satellite, Inc. ("Dominion") to use 3 of the 8
transponder frequencies assigned by the FCC to Dominion at 61.5 degrees W.L. The
satellite in the 61.5 degrees W.L. slot is equipped with 32 transponders
operating at 120 watts per channel, and includes programming complementary to
that offered by EchoStar's existing service on EchoStar's first two satellites,
such as educational and business programming, and retransmission of broadcast
television signals.

  On November 30, 1998, EchoStar and MCI/WorldCom announced an agreement for the
transfer to EchoStar of MCI/WorldCom's license to operate a high power DBS
business at 110 degrees W.L. consisting of 28 frequencies. The agreement also
includes the sale of MCI/WorldCom's two satellites currently under construction.
If consummated as currently contemplated, the transaction would enable EchoStar
to combine the capacity of its existing orbital slots at 119 degrees W.L. with
the capacity of the orbital slots at 110 degrees W.L. and allow EchoStar to
provide in excess of 500 channels of programming. 

                                      I-13
<PAGE>
 
  In addition, the International Bureau of the FCC (the "International
Bureau")has granted EchoStar a conditional authorization to construct, launch
and operate a Ku-band domestic fixed satellite into the orbital position at 83
degrees W.L., immediately adjacent to that occupied by GE-2. Contrary to
previous FCC policy which would have permitted operation of a satellite at the
83 degrees W.L. orbital position at a power level of only 60-90 watts (subject
to coordination requirements), EchoStar has been authorized to operate at a
power level of 130 watts. If EchoStar were to launch its high power satellite
authorized to 83 degrees W.L. and commence operations at that location at a
power level of 130 watts, it would likely cause harmful interference to the
reception of the PRIMESTAR(R) signal from GE-2 by subscribers to the
PRIMESTAR(R) medium power service.

  EchoStar has also been granted conditional authorization to construct, launch
and operate a Ku-band domestic fixed satellite at the 121 degrees W.L. orbital
position and two Ka-band domestic fixed satellites, including an authorization
for a Ka-band satellite at 121 degrees W.L.

  Foreign satellite systems are also potential providers of digital satellite
services within the United States.  Canada, Mexico and other countries have been
allocated various DBS orbital locations which are capable of providing service
to part or all of the continental U.S.  In general, non-U.S. licensed satellites
are not allowed to provide domestic digital satellite services in the U.S.
However, in April 1996, the United States entered into a bilateral agreement
with Mexico which would allow, subject to certain conditions, the use of
satellites licensed in Mexico to provide digital satellite services to U.S.
consumers.  Pursuant to such agreement, in August 1997, the FCC authorized
Televisa International, LLC ("Televisa") to operate one million receive-only
earth stations in the U.S., subject to certain conditions, to receive direct-to-
home FSS television services from Solidaridad II, a satellite licensed by the
Mexican Government. Televisa owns and operates television broadcast networks and
stations in Mexico, and exports Spanish language programming to broadcast
networks, broadcast stations and cable systems in the U.S. and other countries.
Televisa is presently engaged in the development of direct-to-home FSS
television and related services in Mexico, Latin America, North America and
Europe. Televisa intends to use the Solidaridad II satellite operating in the 
Ku-band and located at 113 degrees W.L. to provide an FSS service of
entertainment, sports, news, educational and informational video programming,
primarily in the Spanish language, to customers in the U.S. All of the
transmissions to Solidaridad II would originate in Mexico.

  The United States has indicated its willingness to enter into similar
agreements with other countries in North, Central and South America.  If the
U.S. government moves forward with these initiatives, or if other countries
authorize digital satellite service providers to use their orbital slots to
serve the U.S. and the U.S. approves of such service, additional competition
could be created.  At this time, PRIMESTAR is unable to predict the effect of
such existing and future foreign satellite services upon its operations.

  In addition, as indicated above, the FCC has allocated certain U.S. licensed
DBS frequencies to DirecTv and other parties in addition to the frequencies used
to provide their existing DTH satellite services. These frequencies could
provide additional capacity for existing digital satellite operators thereby
enhancing their competitive position relative to PRIMESTAR. Alternatively, such
presently unused frequencies could enable new competitors to enter the digital
satellite services business. Further, other potential competitors may provide
television programming by leasing transponders from an existing satellite
operator. However, the number of transponders available for lease on any one
satellite is generally limited, making it difficult to provide sufficient
channels of programming for a viable system.

                                      I-14
<PAGE>
 
  To date, the PRIMESTAR(R) medium power service has been competitively
disadvantaged vis-a-vis other satellite programming distributors due to its
relatively larger dish size.  PRIMESTAR has sought to mitigate this competitive
disadvantage through various programs, including its equipment rental program.
PRIMESTAR(R) is marketed as a service, with programming, equipment rental,
maintenance and customer service included in the monthly price.  In addition,
each of the PRIMESTAR(R) programming packages includes a monthly programming
guide at no additional charge. The up-front costs to new subscribers of
PRIMESTAR(R), who are charged only an installation fee and the first month's
programming and equipment rental fees, have historically been lower than the up-
front costs to new subscribers of other direct satellite service providers, who
typically must purchase and install an HSD, IRD and related equipment. Moreover,
since PRIMESTAR generally owns, services and installs all home reception
equipment, PRIMESTAR protects its subscribers from the inconvenience of
equipment failure, maintenance concerns, self-installation and expired
warranties. PRIMESTAR believes that when the cost of equipment is factored in,
its service is priced competitively, compared to the respective prices of other
current digital satellite service providers.

  C-band Satellite Program Distributors. The Company also competes with C-band
satellite program distributors. C-band systems have been popular (mostly in
rural and semi-rural areas) since the late 1970s, and in the aggregate serve
approximately 1.9 million subscribers as of December 31, 1998. However, digital
satellite television systems use Ku-band frequencies that can be received by
less expensive systems with significantly smaller dishes than those used with C-
band frequencies. As a result of the smaller dish size, digital satellite
television systems are more widely accepted by consumers than C-band systems,
particularly in urban and suburban areas.

  Over the past few years, the C-band industry has been contracting.  In an
effort to reverse this trend, several C-band companies are currently
contemplating uniting their resources to promote the C-bank satellite technology
in a yet undetermined manner.

  Cable Television.  Cable television is currently available for purchase by
more than 97% of the approximate 98 million U.S. television households. The
cable television industry is an established provider of multichannel
programming, with approximately 65 million subscribers or approximately 66% of
total U.S. television households. Cable systems typically offer 30 to 80 analog
channels of programming at an average monthly subscription price of
approximately $42.

                                      I-15
<PAGE>
 
  The Company encounters a number of challenges in competing with cable
television providers. First, cable television providers benefit from a strong
position in the domestic consumer marketplace. Second, satellite television
systems generally have not yet found it efficient to provide any local broadcast
programming and, third the Satellite Home Viewer Act of 1994 (the "SHVA")
prohibits the retransmission by a satellite carrier of a television broadcast
signal of a network television station to households that receive a Grade B
intensity over-the-air signal of a television broadcast station affiliated with
such network or that receive (or within the past 90 days had received) through a
cable system the signal of a television station affiliated with such network.
Accordingly, PRIMESTAR(R) subscribers who are subject to the foregoing SHVA
restrictions are unable to obtain such programming (which is among the most
popular and desirable video programming) from PRIMESTAR. Such subscribers
must, instead, receive such programming either through use of a standard
television antenna (traditional rooftop or set-top antenna) or by purchasing
that level of cable service which includes such programming.  Furthermore, since
reception of digital satellite signals requires clear line of sight to the
satellite, it may not be possible for some households served by cable to receive
PRIMESTAR(R) as a result of large adjacent structures or other obstacles. In
addition to households lacking a clear line of sight to the satellite,
PRIMESTAR(R) is not available to households in apartment complexes or other MDUs
that do not facilitate or allow the installation of satellite television
equipment.  Lastly, because IRDs are currently significantly more expensive than
analog cable converters, existing cable operators are able to offer their
subscribers the ability to have fully functional cable on multiple television
sets in a household without significant additional cost  to the customer.

  While cable companies currently serve a majority of the U.S. television
market, the Company believes many may not be able to provide the quality and
variety of programming offered by digital satellite service providers until they
significantly upgrade their coaxial systems. Many cable television providers are
in the process of upgrading their systems and other cable operators have
announced intentions to make significant upgrades. Many proposed upgrades, such
as conversion to digital format, fiber optic cabling, advanced compression
technology and other technological improvements, when fully completed, will
permit cable companies to increase channel capacity, thereby increasing
programming alternatives, and to deliver a better quality signal.  In addition,
the expanded capacity may be used to provide interactive and other new services.

  Many of the largest cable systems in the U.S. have announced plans to offer
access to telephony services through their existing cable equipment, and have
entered into agreements with major telephony providers to further these efforts.
In some cases, certain cable systems have actually commenced trial offerings of
such services.  If such trials are successful, many consumers may find cable
service to be more attractive than digital satellite service for the reception
of programming. However, although cable systems with adequate available
bandwidth may offer digital service without major rebuilds, the Company believes
that, given the limits of current compression technology, other cable systems
with more limited bandwidth will require major physical plant upgrades to
provide digital service, and that such upgrades will require substantial
investments of capital and time to complete industry-wide. As a result, the
Company believes that there will be a substantial delay before cable systems can
offer programming services equivalent to digital satellite television providers
on a national basis and that some cable systems may never be upgraded, subject
to advances in compression technology.

                                      I-16
<PAGE>
 
  Wireless Cable Systems.  Other competitors of the Company are multi-channel
multi-point distribution systems, which deliver programming services over
microwave channels to subscribers with special antennas, and other so-called
"wireless cable" systems. Wireless cable systems operating in the U.S.,
currently serve an estimated 1.0 million subscribers, mostly with limited
channel, analog service. Wireless cable systems typically offer 20 to 30
channels of programming with inferior image and sound quality compared to
digital satellite services.  However, wireless cable systems may provide their
customers with local programming, a potential advantage over digital satellite
television systems, and developments in compression technology are expected to
significantly increase the number of channels and video and audio quality of
wireless cable systems.  Nevertheless, in order to upgrade their systems to
implement digital transmission of high quality video and audio signals, wireless
cable operators will be required to install new digital decoders in customers'
homes and make certain modifications to transmission facilities, at a
potentially significant cost. Wireless cable also generally requires direct line
of sight from the receiver to the transmitter tower, which creates the potential
for substantial interference from terrain, buildings and foliage.

  Telephone Companies.  In addition to Bell Atlantic's, SBC's and GTE's
agreements with DirecTv and USSB, certain regional telephone companies and long
distance telephone companies could become significant competitors in the future
as they have expressed an interest in becoming subscription television
providers. Legislation enacted by Congress in 1996 removed barriers to entry
which previously inhibited telephone companies from competing, or made it more
difficult for telephone companies to compete, in the provision of video
programming and information services. Certain telephone companies have received
authorization to test market video and other services in certain geographic
areas using fiber optic cable and digital compression over existing telephone
lines. Estimates for the timing of wide-scale deployment of such multichannel
video service vary, as several telephone companies have delayed originally
announced deployment schedules.  In addition, several large telephone companies
have announced plans to acquire or merge with existing cable and wireless cable
systems.

  As more telephone companies begin to provide subscription television
programming and other information and communications services to their
customers, additional significant competition for subscribers will develop.
Among other things, telephone companies have an existing relationship with
substantially every household in their service area, substantial financial
resources, and an existing infrastructure and may be able to subsidize the
delivery of programming through their position as the sole source of telephone
service to the home.

  VHF/UHF Broadcasters.  Most areas of the U.S. are covered by traditional
territorial over-the-air VHF/UHF broadcasts, which typically include three to
ten channels in most markets. These stations provide local, network and
syndicated programming free of charge, but each major market is generally
limited in the number of available programming channels. However, the FCC has
recently allocated additional digital spectrum to licensed broadcasters.  During
a transition period ending in 2006, each existing television station will be
able to transmit programming on a digital channel that may permit multiple
programming services per channel.

  Private Cable.  Private cable is a multi-channel subscription television
service where the programming is received by a satellite receiver and then
transmitted via coaxial cable through private property, often MDUs, without
crossing public rights of way.  Private cable generally operates under an
agreement with a private landowner to service a specific MDU, commercial
establishment or hotel.  These agreements are often exclusive arrangements with
lengthy (e.g., ten-year) terms, and private cable systems generally are not
subject to substantial federal, state or local regulations.  The FCC recently
amended its rules to allow the provision of point-to-point delivery of video
programming by private cable operators and other video delivery systems in the
18 gigahertz bandwidth.  Private cable operators compete with PRIMESTAR(R) for
customers within the general market of consumers of subscription television
services.

                                      I-17
<PAGE>
 
  Local Multi-Point Distribution Service.  In March 1997, the FCC announced its
intention to offer two local multi-point distribution service ("LMDS") licenses,
one for a block of spectrum 1150 megahertz wide and the other for a 150
megahertz-wide block, in each of 493 Basic Trading Areas pursuant to an auction
in the case of mutually exclusive applications.  Incumbent local exchange
carriers and cable operators will not be allowed to obtain in-region licenses
for the larger spectrum block for three years. The FCC recently completed its
auction of the LMDS licenses.  While 122 licenses were not sold, the FCC stated
that 95% of the population will be covered by those licenses sold.  The FCC
plans to re-auction those licenses not sold.  The broadband 28 and 31 gigahertz
LMDS spectrum allocation may enable LMDS providers to offer subscribers a wide
variety of audio, video and interactive service options.

  Utilities.  In 1996, Congress enacted legislation authorizing utility holding
companies and their subsidiaries to provide video programming services,
notwithstanding the Public Utility Holding Company Act.  Utilities must
establish separate subsidiaries and must apply to the FCC for operating
authority.  Several such utilities have been granted broad authority by the FCC
to engage in activities which could include the provision of video programming.

  Other Providers of News, Information and Entertainment.  The Company also
competes broadly with other providers of news, information and entertainment to
consumers.

Regulatory Matters
------------------

  General.  Pursuant to the Communications Act of 1934, as amended (the
"Communications Act"), the FCC regulates the use of radio spectrum in the United
States.  United States DBS licensees and permittees are subject to the
regulatory authority of the FCC.  Although the non-technical aspects of DBS
operations are generally subject to less regulation than other communications
services, some regulations do apply.  In addition, the FCC has proposed to adopt
regulations that will affect DBS licensees and  permittees.

  Currently, a DBS permittee must complete and file with the FCC a satellite
construction contract with respect to its authorized satellite station(s) within
one year of the grant of the construction permit.  DBS permittees who received
their permits prior to January 19, 1996 have six years from the date of permit
grant to begin operating their DBS systems.  New permits and permit extensions
granted after January 19, 1996 provide for a four year construction period.
Upon completion of construction, the FCC authorizes DBS permittees to launch and
operate their satellites.  Those DBS providers which control the video
programming they distribute, and DBS licensees which offer broadcast service,
are subject to equal employment opportunity requirements.  DBS providers
offering non-broadcast service from their DBS satellites are licensed to operate
for ten years, while those offering broadcast services (that is, services
available on a non-subscription basis) are licensed for five years.  FCC
licenses must be renewed at the end of each license term.  FCC licenses are
generally renewed in the ordinary course, absent misconduct by the licensee.

  In 1995, the FCC adopted several new service rules for DBS permittees and
licensees.  The FCC established a requirement that those entities acquiring DBS
permits or licenses after January 19, 1996, must provide service to Alaska and
Hawaii if such service is technically feasible.  It also required that all
existing DBS permittees and licensees provide service to Alaska and Hawaii from
at least one of their currently assigned orbital positions or relinquish their
western orbital location.  In addition, the FCC revised its rules with respect
to licensees' ability to use portions of their satellite capacity for non-DBS
services.  The FCC provided that licensees must principally use their DBS
authorizations for DBS service, but that during their first five years in
operations, licensees may offer non-DBS services.  After five years, licensees
may continue to provide non-DBS services so long as at least half of their total
satellite capacity at a given orbital location is used for DBS service.

                                      I-18
<PAGE>
 
  In December 1996, the International Bureau concluded that foreign ownership
restrictions do not apply to subscription DBS service. This decision, however,
is subject to a pending review by the FCC, and the current Administration
requested that the FCC reconsider its decision in a general rulemaking
proceeding. As described further below, the FCC has adopted a Notice of Proposed
Rulemaking and sought comments on the applicability of foreign ownership
restrictions to subscription DBS providers and FSS-DTH providers, such as
PRIMESTAR. The Notice of Proposed Rulemaking is still pending as described
below.

  On February 26, 1998, the FCC released a Notice of Proposed Rulemaking to
consolidate the construction permit and licensing process for DBS providers, to
consolidate the DBS rules with the FCC's other satellite rules, and to update
the  DBS technical rules.  The FCC also requested comment on the application of
foreign ownership limitations to subscription DBS and FSS-DTH providers, whether
any limitations on cable/DBS cross-ownership are warranted and whether the FCC
should have a rule of general applicability restricting cable interests in DBS
licensees; whether there should be a ban on ownership of more than one DBS full
CONUS orbital position; and how the delivery of DBS service can be improved to
Alaska, Hawaii, and the U.S. territories and possessions.

  In December 1998, the FCC adopted a requirement that DBS providers, including
medium power DTH providers, such as PRIMESTAR, reserve four percent of their
channel capacity for noncommercial programming of an educational and
informational nature.  In addition, the Commission imposed access requirements
for federal political candidates and limited the charges operators could demand
from such candidates for advertising time.

  PRIMESTAR cannot predict how application of the FCC's current or proposed
rules will affect its own operations or the operations of its competitors, or
the applications pending at the FCC as described below in "Required FCC
Approvals."

  The satellite that PRIMESTAR currently uses and the satellites it proposes to
use in the future are geostationary satellites ("GSOs").  At present, no
satellite systems except other GSO systems have been authorized to use the
frequency bands in which PRIMESTAR satellites transmit and will transmit in the
future.

  In 1997, an application was filed at the FCC by SkyBridge L.L.C. to construct
and operate a nongeostationary satellite system ("NGSO") that would share
frequencies used by PRIMESTAR's satellites and other GSO satellites.  In
addition, the FCC initiated a rulemaking proceeding to address potential
regulations for NGSO systems such as the one proposed by SkyBridge L.L.C.  At
the World Radiocommunication Conference ("WRC") in late 1997, the International
Telecommunications Union ("ITU") adopted "provisional" technical rules that
would authorize frequency sharing between GSO and NGSO systems.  These
provisional rules are subject to affirmation and/or modification at a WRC
meeting scheduled for 1999.

  On November 19, 1998, the FCC released a Notice of Proposed Rulemaking whereby
it proposed to implement domestically the allocation made at WRC in late 1997,
to permit NGSO operations in the Ku-band.  The Notice of Proposed Rulemaking
also requested comment on a Petition for Rulemaking filed by Northpoint
Technologies ("Northpoint") to permit the terrestrial retransmission of local
television signals and the provision of data services to DBS service subscribers
operating in the DBS services band.  On January 11, 1999, an application was
filed with the FCC requesting authorizations so that parties could begin
using the Northpoint technology to provide terrestrial services to consumers
using the DBS services band.

                                      I-19
<PAGE>
 
  PRIMESTAR and many other users and operators of GSO satellite systems have
expressed concerns regarding potential technical interference to GSO satellites
that could be caused by NGSO systems, including those that might operate
pursuant to the 1997 WRC provisional rules.  PRIMESTAR has participated and
other GSO users and operators are participating in FCC proceedings and in the
preparation process for the WRC meeting in 1999 in an  attempt to assure that
any rules finally adopted by the ITU and the FCC for GSO/NGSO frequency sharing
would not result in unacceptable technical interference to GSO transmissions.
PRIMESTAR cannot now predict the outcome of these various proceedings or what
effect, if any, GSO/NGSO frequency sharing would have on its technical
operations or business.

  In addition, regulations promulgated by governmental entities other than the
FCC may affect the distribution of programming by DBS providers.  The SHVA
provides that only "unserved households" are permitted to receive distant
network signals.  In other words, the SHVA prohibits the retransmission by a
satellite carrier of the television broadcast signal of a network television
station to households that receive a Grade B intensity over-the-air signal of a
television broadcast station affiliated with such network and to households that
receive (or within the past 90 days had received) through a cable system the
signal of a television station affiliated with such network.

  PRIMESTAR has received numerous challenges to its network subscribers from
certain network affiliates and in some instances has discontinued network
service to certain subscribers.  The networks and their affiliates have
commenced and have won infringement actions against certain other satellite
carriers for violation of the network service restrictions in the SHVA.
However, while the networks and affiliates have from time to time threatened
litigation, none of the networks or affiliates has yet asserted any claim for
damages under applicable law against PRIMESTAR.  Indeed, PRIMESTAR, the National
Association of Broadcasters, certain network-affiliated television stations and
their respective affiliate associations have entered into a Settlement and
Compliance Agreement, which provides for pre-screening techniques for customers
based on zip codes and maps to ensure compliance with SHVA procedures, the time
for disconnecting any existing non-compliant network subscribers, and provisions
for mutual release for any past or future liability. PRIMESTAR cannot ensure
that such Agreement will not lead to legal actions that may adversely impact
PRIMESTAR.

  In response to a petition for rulemaking filed by EchoStar and the National
Rural Telecommunications Cooperative as well as two federal court rulings
regarding the delivery of distant network signals to consumers that were not
qualified to receive those signals pursuant to SHVA, the FCC released a Notice
of Proposed Rulemaking on November 17, 1998 seeking comments on the way it
defines, measures, and predicts the strength of television signals.  Television
signal intensity is the key element in determining whether a household is
"unserved" by a broadcast network station and is, therefore, eligible to receive
a distant network signal using a home satellite dish pursuant to SHVA.  As
described above, only those consumers that are "unserved", meaning unable to
receive an over-the-air signal of Grade B intensity of a particular local
network station using rooftop antennae, are eligible to receive that network's
distant signal from a satellite provider pursuant to SHVA.

  On February 2, 1999, the FCC released a Report and Order addressing the  way
it measures and predicts the strength of television signals for the purposes of
the SHVA.  The FCC declined to adopt a definition for "Grade B signal" solely
for the purposes of the SHVA.  However, the FCC adopted a methodology for
measuring signal strength at individual households.  In addition, the FCC
recommended that satellite providers and broadcasters use a predictive model for
determining whether an individual household is "unserved".  Finally, the FCC
encouraged Congress to modify the law and permit satellite providers to offer
local into local retransmissions of broadcast signals.  The FCC's new rule for
measuring signal strength may impact the number of households who qualify as
"unserved households".

                                      I-20
<PAGE>
 
  The Copyright Office reviewed the SHVA and submitted its report to Congress on
August 1, 1997.  Of particular note, the Copyright Office recommended the
adoption of a "red zone/green zone" plan under which satellite carriers
generally would be barred from retransmitting a network-affiliated station to
households located within the local market area (i.e., Area of Dominant
Influence) of another affiliate of the same network, but would be permitted to
retransmit (subject to payment of the applicable SHVA royalty fee) a network-
affiliated station to households located in any Area of Dominant Influence that
is not served by an affiliate of the same network.  The Copyright Office further
proposed that a new royalty fee system be established that would permit
satellite carriers to retransmit a network-affiliated station to households
located in the local market of another affiliate upon the payment of a royalty
fee which would be distributed to network affiliates.  The Copyright Office also
recommended that the Copyright Act be amended to expressly permit satellite
carriers to retransmit a network affiliated station to households located in
that station's own market.  The Copyright Office took no position on whether
there should be a royalty fee payment imposed for such "local into local"
retransmissions.  In response to a petition by EchoStar, the Copyright Office
has initiated a proceeding to consider whether the retransmission of a network's
affiliated station within a station's own market is permissible under the
Copyright Act as presently codified.  That proceeding is still pending.  Lastly,
the Copyright Office recommended that Congress indefinitely extend the satellite
carrier license, similar to the cable compulsory license.  The recommendations
of the Copyright Office do not currently have legal force or effect, and will
not have legal force or effect unless and until they are adopted by Congress and
enacted as legislation.  In 1998, Congress was unsuccessful in passing
legislation that would allow local into local retransmission of broadcast
signals; however, in January 1999, bills were introduced in the Senate (S. 247
and S. 303) and the House (H.R. 89) which, if enacted, would permit the
retransmission of local broadcast signals within their local broadcast areas.

  A Copyright Arbitration Royalty Panel ("CARP") convened pursuant to the terms
of the SHVA recommended that the Librarian of Congress adopt an increase in the
royalty fees paid by satellite carriers for the distribution of superstations
and network affiliates directly to homes to a level commensurate with fair
market value. Specifically, the CARP recommended that the rates be increased
from $0.06 per subscriber per month for network signals and $0.175 ($0.14 for
certain "syndex proof" stations) per subscriber per month for superstations, to
a uniform rate of $0.27 per subscriber per month for all signals.  The satellite
carriers filed petitions with the Librarian of Congress to set aside or modify
the report, arguing, inter alia, that the new rate is unfair because it is well
in excess of the effective royalty rates currently paid by cable television
systems, and because their increases were made effective retroactively to July
1, 1997.  The Librarian of Congress released his report on October 27, 1997,
adopting CARP's recommendation.  However the Librarian of Congress rejected
CARP's recommendation to make the new fees retroactive, and instead, made the
new fees effective as of January 1, 1998.  The SBCA, representing the satellite
carriers, filed a petition with the Librarian of Congress requesting a stay of
the effectiveness of the rate increase, pending judicial review or congressional
action.  The Librarian of Congress denied the petition.  The SBCA filed an
unsuccessful petition seeking review of the rate increase with the U.S. Court of
Appeals for the District of Columbia.  The satellite carriers also have
requested Congress to override the rate adjustment by legislation. The bills
introduced into Congress last year failed; however, S. 247 currently proposes to
decrease copyright rates by 30% for superstations and 45% for networks. No
assurance can be given that the carriers will be able to obtain relief from
Congress. With the rate increase, PRIMESTAR (and all other direct broadcast
satellite and DTH satellite service providers) may be competitively
disadvantaged against cable operators.

                                      I-21
<PAGE>
 
  The Telecommunications Act of 1996.  The Telecommunications Act of 1996 ("1996
Act") clarified that the FCC has exclusive jurisdiction over DTH satellite
services, and that criminal penalties may be imposed for piracy of DTH satellite
services.  The 1996 Act also preempted local (but not state) governments from
imposing taxes or fees on DTH services, including DBS, and directed the FCC to
promulgate regulations prohibiting local (including state) governments from
maintaining zoning or other regulations that impair a viewer's ability to
receive video programming services through the use of DBS receive-only dishes in
residential areas. The FCC has adopted rules that it believes comply with the
statutory requirements. Finally, the 1996 Act requires that multichannel video
programming distributors such as DBS operators scramble or block channels
providing indecent or sexually explicit adult programming.

  Existing FCC Permits and Licenses.  Tempo holds the FCC Permit, which
authorizes construction of a high power DBS system consisting of two or more
satellites delivering DBS service in 11 frequencies at the 119 degrees W.L.
orbital location. As the holder of a DBS permit, Tempo is subject to FCC
jurisdiction and review primarily for: (i) authorization of individual
satellites (i.e. meeting minimum financial, legal, and technical standards) and
earth stations, (ii) avoiding interference with other radio frequency
transmitters, (iii) complying with the rules the FCC has established
specifically for holders of U.S. DBS authorizations and (iv) complying with
applicable provisions of the Communications Act.

  Under the FCC Permit, the time by which the Tempo Satellites must be
operational was due to expire in May 1998.  On April 3, 1998, Tempo filed a
request with the FCC for an extension of that deadline pending FCC review of (i)
TSAT's request for consent to the transfer of control of Tempo to PRIMESTAR (the
"Transfer Application") and (ii) PRIMESTAR's application for consent to the
assignment to PRIMESTAR of the high power DBS authorizations and certain assets
owned by MCI (the "Assignment Application").

  On April 30, 1998, the FCC determined that Tempo's satellite at 119 degrees
W.L. was not operational. It did find, however, that an extension of time was
warranted for that orbital location and granted an extension to Tempo for 119
degrees W.L. Such extension was granted until six months after the FCC
determination on the Transfer Application and Assignment Application, with the
condition that Tempo not enter into a lease agreement with PRIMESTAR or any
similar lease arrangement prior to the FCC's decision on the Transfer
Application and the Assignment Application. In addition, Tempo voluntarily
surrendered its permit for 166 degrees W.L.

  In an order released February 24, 1997, the International Bureau granted,
subject to certain conditions, Tempo's request to launch and operate the Tempo
DBS-1 satellite at 119 degrees W.L. and to test its satellite at 109.8 degrees
W.L. for eight weeks. In addition, the International Bureau required Tempo to
submit to the FCC information required to initiate advance publication and
notification of Tempo's operations in accordance with the Radio Regulations of
the International Telecommunications Union. The International Bureau also
granted Tempo authority to modify its satellite design, as requested in a July
1993 application, and denied oppositions which had been filed by numerous
existing and potential DBS competitors. Tempo DBS-1 was launched on March 8,
1997, and is now stationed in its authorized location at 119 degrees W.L. Tempo
may need to file an application with the FCC for a license to operate the
satellite in orbit. Tempo expects that the FCC would approve any such request,
but cannot assure the ultimate outcome.

  There can be no assurance that Tempo will succeed in obtaining all requisite
regulatory approvals for its operations without the imposition of restrictions
on or other adverse consequences to Tempo or TSAT.

                                      I-22
<PAGE>
 
  Required FCC Approvals.  On July 18, 1997, TSAT and PRIMESTAR Partners filed
the Transfer Application.  The FCC released a Public Notice of the Transfer
Application on July 23, 1997, establishing procedural dates for petitions to
deny and responsive pleadings.  EchoStar, CAI Wireless Systems, Inc., the Small
Cable Business Association and Media Access Project filed petitions to deny the
Transfer Application, while DirecTv and the Wireless Cable Association
International filed comments on the Transfer Application.  These petitions and
comments request that the FCC deny or dismiss the Transfer Application on a
variety of procedural and substantive grounds or that the FCC condition its
approval of the Transfer Application upon PRIMESTAR's compliance with
restrictions designed to ensure access to programming and protect against cross-
subsidization, among other requests.  TSAT and PRIMESTAR Partners filed a joint
opposition to these petitions and comments, and the National Rural
Telecommunications Cooperative filed a reply comment in support of DirecTv's
comments.  The petitioners and commenters filed replies to TSAT's and PRIMESTAR
Partners' opposition on September 9, 1997.  There can be no assurance that the
FCC's review of these documents or the Transfer Application will be favorable,
or that the FCC will not impose conditions unacceptable to TSAT, PRIMESTAR, or
the other Restructuring Parties in connection with its review.

  In support of the Transfer Application, PRIMESTAR Partners filed two ex parte
filings.  The first filing was an economic study prepared by outside economic
consultants which demonstrated that (1) an analysis of PRIMESTAR Partners'
penetration in cabled areas served by a PRIMESTAR Partner and those areas served
by a non-affiliated cable operator does not indicate a systematic strategy by
PRIMESTAR Partners to compete selectively and (2) PRIMESTAR's incentives to
compete are comparable to those of a stand-alone DBS operator.  The second
filing was an analysis of the Transfer Application proceedings using the
framework established in the FCC's Bell Atlantic/NYNEX decision, as well as a
                                   -------------------                       
summary of PRIMESTAR Partners' responses to the arguments and requested
conditions raised by parties during the proceedings.  The FCC requested
responses to those filings from interested parties. EchoStar and DirecTV argued
that the Transfer Application should be denied, while BellSouth and the Wireless
Cable Association requested conditions regarding the availability of programming
affiliated with PRIMESTAR's owners. EchoStar also filed a motion seeking access
to the underlying data used by the economic consultants or, in the alternative,
deletion of the economic filing from the records.  PRIMESTAR Partners filed a
response to all of these filings on  February 20, 1998, rejecting the arguments
raised by the parties, and PRIMESTAR Partners requested expedited approval of
the Transfer Application.

  On March 2, 1998, the Chief of the International Bureau of the FCC submitted
to PRIMESTAR Partners a letter request for the submission of certain documents
previously submitted to the Department of Justice as well as certain information
regarding the economic study described above and information regarding the
programming interests of PRIMESTAR Partners' cable owners.  These documents have
been submitted pursuant to a suitable protective order.  Several parties filed
comments regarding PRIMESTAR's response, reiterating their objections to the
Transfer Application.  PRIMESTAR filed a reply denying their arguments.

  On November 25, 1998, Tempo and PRIMESTAR requested expedited action by the
FCC on the application to transfer control of Tempo to PRIMESTAR. Several
parties filed responses to that request, objecting to the proposed transfer.
PRIMESTAR and Tempo filed a join reply to those objections. On January 27, 1999,
Tempo filed a joint application with DIRECTV Enterprises, Inc. seeking FCC
approval to assign Tempo's DBS authorization to DIRECTV ("DIRECTV Application").
In addition, Tempo and PRIMESTAR jointly filed a letter seeking to maintain the
status quo with respect to the Transfer Application until the FCC decides the
DIRECTV Application; therefore, Tempo and PRIMESTAR requested that the Transfer
Application be held in abeyance and, subject to and contemporaneously with
approval of the DIRECTV Application, that the FCC dismiss the Transfer
Application. EchoStar filed a petition to deny the DIRECTV Application on March
5, 1999, on the basis that DirecTv should not be allowed to control high power
DBS spectrum at three full-CONUS orbital locations and that EchoStar has offered
to purchase the Tempo high power DBS assets. On the same date, the Small Cable
Business Association submitted a request that any grant of the DIRECTV
Application be conditioned on DirecTV providing a digital add-on service that
small cable systems can self-brand, and Media Access Project filed a petition to
deny the application to the extent the FCC did not apply and DirecTV did not
accept application of Section 310(b) of the Communications Act. DirecTV and
Tempo each filed oppositions to these petitions on March 19, 1999. Responses to
the DirecTV and Tempo submissions are due April 2, 1999.

                                      I-23

<PAGE>
 
  Antitrust Decree.  PRIMESTAR Partners and the parties named in the actions
described below are subject to the jurisdiction of the U.S. District Court for
the Southern District of New York to ensure compliance with an antitrust consent
decree. In United States v. PRIMESTAR Partners, L.P., et al., 93 Civ. 3919 (SDNY
1993) (the ''Federal Decree''), PRIMESTAR Partners and such parties agreed to
refrain from (i) enforcing any provisions of the PRIMESTAR Partnership Agreement
that affect the availability, price, terms or conditions of sale of programming
to any provider of multichannel subscription television, or (ii) entering into
certain other agreements restricting the availability of programming services.
The Company was not named as a defendant in the above action, but may be subject
to certain provisions of the Federal Decree as a successor-in-interest to TCI K-
1, Inc. and United Artists K-1 Investments, Inc., indirect subsidiaries of TCI
that were original partners in PRIMESTAR Partners and named defendants in the
action. The Company believes that it is currently in compliance with the Federal
Decree in all material respects and that the Federal Decree does not currently
have a material adverse effect on the Company or its operations.

Other
-----

  Legislative, administrative and/or judicial action may change all or portions
of the foregoing statements relating to competition and regulation.

  The Company has not expended material amounts during the last three fiscal
years on research and development activities.

  There is no one customer or affiliated group of customers to whom sales are
made in an amount which exceeds 10% of the Company's revenue.

  Compliance with federal, state and local provisions which have been enacted or
adopted regulating the discharge of material into the environment or otherwise
relating to the protection of the environment has had no material effect upon
the capital expenditures, results of operations or competitive position of the
Company.

  Upon consummation of the Restructuring, the majority of TSAT's employees
became employees of PRIMESTAR.  As of December 31, 1998, the Company had
approximately 5 employees all of whom are also employees of PRIMESTAR and whose
compensation is paid by PRIMESTAR.

  (d)     Financial Information about Foreign and Domestic Operations and Export
          ----------------------------------------------------------------------
          Sales
          -----

          Not applicable.

Item 2.   Properties.
-------   -----------

  The Company owns no real estate.  Upon consummation of the Restructuring,
PRIMESTAR succeeded to the Company's facilities and assumed the leases relating
thereto.

                                      I-24
<PAGE>
 
Item 3.   Legal Proceedings.
-------   ------------------

  There are no material pending legal proceedings to which the Company is a
party or to which any of its property is subject, except as follows:

  In a civil action entitled Jerry Wayne Self v. PRIMESTAR By TCI, el al., filed
                             -------------------------------------------        
in the Circuit Court of Jefferson County, Alabama, Civil Action No. 96-831, an
Order of Judgment was entered against PRIMESTAR by TCI on November 12, 1997, in
the amount of $4,257,242, consisting of medical expenses of $15,242, lost wages
of $52,000, future lost wages of $1,040,000, physical and mental pain and
suffering in an amount of $150,000 and punitive damages of $3,000,000.  The
judgment arises out of a case in which the plaintiff alleges that on September
19, 1995, he was riding in the front seat of a car that was struck head-on by a
car driven by William Francis Hinton, causing the plaintiff to suffer injuries.
The plaintiff alleges that Hinton was intoxicated and was "acting within the
line and scope of his employment" for PRIMESTAR By TCI when the accident
occurred.  "PRIMESTAR By TCI" is a trade name currently or formerly used in
certain jurisdictions by TSAT and/or its predecessors.  On December 3, 1997,
TSAT filed an Answer and Affirmative Defenses and a Motion to Set Aside Entry of
Default and Default Judgment or in the Alternative for Relief from Judgment or
in the Alternative a Motion to Reconsider or for a New Trial.  On December 12,
1997, the Court entered an order setting aside the Entry of Default and Default
Judgment. PRIMESTAR has agreed to indemnify TSAT for any potential liability
with respect to this matter, to the extent not covered by insurance or other
third party indemnification obligations.  The parties settled this matter for a
nominal amount, and the Court dismissed the defendant with prejudice on October
29, 1998.  Such settlement represents the final resolution of this matter, and
accordingly, it will not be reported in future filings.

Item 4.  Submission of Matters to a Vote of Security Holders.
-------  ----------------------------------------------------

         None.

                                      I-25
<PAGE>
 
                                   PART II.


Item 5.  Market for Registrant's Common Equity and Related Stockholder Matters.
------   --------------------------------------------------------------------- 

     Shares of the Company's Series A Common Stock and Series B Common Stock
trade on the Nasdaq National Market tier of the Nasdaq Stock Market under the
symbols "TSATA" and "TSATB", respectively.  The following table sets forth the
range of high and low sale prices in U.S. dollars of shares of Series A Common
Stock and Series B Common Stock for the periods indicated as furnished by
Nasdaq.  The prices have been rounded up to the nearest eighth, and do not
include retail markups, markdowns, or commissions.

<TABLE>
<CAPTION>
                                                      Series A                    Series B
                                             --------------------------  --------------------------
                                                 High          Low           High          Low
                                             ------------  ------------  ------------  ------------
<S>                                          <C>           <C>           <C>           <C> 
1997
----
       First quarter                               10 1/2         6 7/8        11             7 1/2
       Second quarter                              10 3/4         5 3/4        11 3/8         6 5/8
       Third quarter                                9 1/4         6 3/8         9 1/2         6 1/2
       Fourth quarter                               8 3/4         5 3/4         8             5 3/4
 
1998
----
 
       First quarter                                8 1/8         5 1/2         7 1/8         4 3/4
       Second quarter                               8 1/8         4 3/4         9 1/8         5
       Third quarter                                6             2 7/8         5 5/8         1 5/8
       Fourth quarter                               2 1/2           3/4         2 5/8           7/8
</TABLE>

   As of January 29, 1999, there were approximately 5,150 and 320 record holders
of the Series A Common Stock and Series B Common Stock, respectively (which
amounts do not include the number of shareholders whose shares are held of
record by banks, brokerage houses or other institutions but include each such
institution as one shareholder).

   Recently, the closing bid price of each of the Series A Common Stock and the
Series B Common Stock has been less than $1.00 per share, and the aggregate
market value of the outstanding shares of the Series B Common Stock, excluding
shares held by stockholders who own more than 10 percent of such series, has
been less than $5 million. Accordingly, the Series A Common Stock and the Series
B Common Stock may not currently meet the quantitative maintenance standards of
the Nasdaq National Market. The Company is currently reviewing the options
available to it to address this deficiency. Such options may include
implementing a reverse stock split of the Series A Common Stock and the Series B
Common Stock, requesting that Nasdaq transfer the Company's Stock listings to
the SmallCap tier of The Nasdaq Stock Market, and/or withdrawing from The Nasdaq
Stock market and seeking to have the Company's stock quoted on the OTC Bulletin
Board. There can, however, be no assurances that the Company will be able to
maintain its listing under either tier of The Nasdaq Stock Market, even if the
Company effects a reverse stock split, and none of such actions will affect the
underlying causes of the recent weakness in the Company's stock price.

   The Company has not paid cash dividends on its Series A Common Stock and
Series B Common Stock and has no present intention of so doing.  Payment of cash
dividends, if any, in the future will be determined by the Company's Board of
Directors in light of its earnings, financial condition and other relevant
considerations.  As a holding company, the Company's ability to pay cash
dividends is dependent on its ability to receive cash dividends, loans and
advances from its subsidiaries and PRIMESTAR.  Moreover, during the term of the
TSAT Merger Agreement, the Company is subject to the covenants provided for
therein, including the Company's agreement not to, and to cause each of its
subsidiaries not to, declare, set aside or pay any dividend with respect to any
shares of its capital stock.  For further discussion of such restrictions, see
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."

                                      II-1
<PAGE>
 
Item 6.  Selected Financial Data.
------   ----------------------- 

   Selected financial data related to the Company's financial condition and
results of operations for the five years ended December 31, 1998 are summarized
as follows (such information should be read in conjunction with the accompanying
consolidated financial statements of the Company):

<TABLE>
<CAPTION>
                                                             Years ended December 31,
                                             --------------------------------------------------------
                                               1998(1)       1997        1996       1995       1994
                                             -----------  ----------  ----------  ---------  --------
                                                              amounts in thousands,
                                                            except per share amounts
<S>                                          <C>          <C>         <C>         <C>        <C>
Summary Statement of Operations Data:
-------------------------------------
Revenue                                       $ 168,500     561,990     417,461    208,903    30,279
Operating, selling, general and
 administrative expenses and stock
 compensation                                  (158,810)   (489,947)   (410,390)  (214,117)  (25,106)
Depreciation (2)                                (65,105)   (243,642)   (191,355)   (55,488)  (14,317)
                                              ---------   ---------   ---------   --------   -------
   Operating loss                               (55,415)   (171,599)   (184,284)   (60,702)   (9,144)
Interest expense (3)                            (14,177)    (47,992)     (2,023)        --        --
Share of losses of PRIMESTAR, Inc.             (369,231)         --          --         --        --
Share of losses of PRIMESTAR Partners            (5,822)    (20,473)     (3,275)    (8,969)  (11,722)
Other, net                                         (621)      1,723       3,641        306       306
Income tax benefit                                   --          --      45,937     21,858     6,872
                                              ---------   ---------   ---------   --------   -------
   Net loss                                   $(445,266)   (238,341)   (140,004)   (47,507)  (13,688)
                                              =========   =========   =========   ========   =======
 
Basic and diluted loss per common share (4)       (6.58)      (3.58)      (2.11)      (.72)
                                              =========   =========   =========   ========   ======= 
 
<CAPTION> 
                                                                       December 31,
                                              ------------------------------------------------------
                                                1998 (1)     1997        1996       1995      1994
                                              ---------   ---------   ---------   --------   -------
                                                              amounts in thousands

<S>                                          <C>          <C>         <C>         <C>        <C>
Summary Balance Sheet Data:
---------------------------
Property and equipment, net                   $ 463,133   1,121,937   1,107,654    889,220   397,798
Investment in, and related advances to,
 PRIMESTAR Partners                           $      --      11,093      32,240     17,963     9,793
 
Total assets                                  $ 463,133   1,204,856   1,180,273    933,443   410,105
Due to PRIMESTAR, Inc.                        $ 469,498     463,133     457,685    382,900   278,772
Debt (3)                                      $      --     418,729     247,230         --        --
Equity (deficit)                              $  (6,365)    136,269     372,358    483,584   120,526
</TABLE>
 
----------------------------------
(1)  The Restructuring was consummated on April 1, 1998.  In connection
     therewith, TSAT contributed and transferred to PRIMESTAR all of its assets
     and liabilities except for assets and liabilities related to the high power
     DBS system being constructed by Tempo.

(2)  Effective October 1, 1996, the Company (i) changed the method used to
     depreciate its subscriber installation costs, and (ii) reduced the
     estimated useful life of certain satellite reception equipment.  The
     inception-to-date effect of the change in depreciation method aggregated
     $55,304,000 and was recorded during the fourth quarter of 1996, and the
     effect of the reduction in estimated useful life was accounted for on a
     prospective basis.

(3)  Effective December 31, 1996, TSAT entered into a bank credit facility with
     initial commitments of $350,000,000.  In addition, on February 20, 1997,
     TSAT issued the Notes with aggregate principal amounts at maturity of
     $475,000,000.

                                      II-2
<PAGE>
 
(4)  In connection with the December 4, 1996 consummation of the Spin-off, the
     Company issued 66,408,000 shares of Company Common Stock.  The basic and
     diluted loss per common share amounts for the years ended December 31, 1996
     and 1995 assume that the shares issued pursuant to the Spin-off were issued
     and outstanding since January 1, 1995.  Accordingly the calculation of the
     net loss per share assumes weighted average shares outstanding of
     66,408,000 for each of the years ended December 31, 1996 and 1995.

Item 7.   Management's Discussion and Analysis of Financial Condition
------    -----------------------------------------------------------
          and Results of Operations
          -------------------------

General
-------

          Proposed Hughes Transactions
          ----------------------------

          On January 22, 1999, the Company announced that the Company and
PRIMESTAR had reached an agreement with Hughes to sell (i) the Tempo Satellites,
(ii) Tempo's 119 degrees W.L. orbital location license and (iii) PRIMESTAR's
rights relating to Tempo's high power DBS system to Hughes, for aggregate
consideration valued at $500 million. Pursuant to the agreement, Hughes has
agreed to assume $465 million of TSAT's liability to PRIMESTAR Partners, pay
TSAT $2.5 million in cash and pay PRIMESTAR and PRIMESTAR Partners $32.5 million
in cash. In addition, PRIMESTAR Partners has agreed to forgive amounts due from 
the Company in excess of the $465 million to be assumed by Hughes ($4,498,000 at
December 31, 1998).

          Effective March 10, 1999, the first closing of the Hughes High Power
Transaction was consummated whereby Hughes acquired Tempo DBS-2 and the Tempo
DBS-2 Option for aggregate consideration of $150 million. Such consideration was
comprised of the following: (i) $9,750,000 paid to PRIMESTAR and PRIMESTAR
Partners for the Tempo DBS-2 Option, and the termination of PRIMESTAR Partners'
rights under the Tempo Capacity Option, (ii) $750,000 paid to TSAT to exercise
the Tempo DBS-2 Option and (iii) the assumption by Hughes of $139,500,000 due to
PRIMESTAR Partners from TSAT in exchange for Tempo DBS-2, which had a carrying
value of $224 million at December 31, 1998. 

          With regard to the sale of the remaining assets contemplated by the
Hughes High Power Agreement, Tempo has been notified that Tempo DBS-I
experienced power reductions which occurred on March 29, 1999 and April 2, 1999.
Although the Company does not believe the extent of such power reductions is
significant, a definitive assessment of the impact on Tempo DBS-I is not yet
complete. Notwithstanding the foregoing, the Second Closing, which is subject to
the receipt of appropriate regulatory approvals and other customary closing
conditions, is expected to be consummated in the second quarter of 1999. Upon
completion of the sale of the Company's remaining high power assets, which had a
carrying value of $239 million at December 31, 1998, the Company will receive
additional consideration of $327 million in the form of cash and debt
assumption. In the event the Second Closing is not consummated and the Hughes 
High Power Agreement is abandoned, there can be no assurance that the Company 
will be able to recover the carrying amount of its satellites.

          In a separate transaction, PRIMESTAR also announced that it had
reached an agreement with Hughes to sell PRIMESTAR's medium-power DBS business
and assets for $1.1 billion in cash and 4.871 million shares of GMH Stock valued
at approximately $225 million, based on the closing price of GMH Stock on the
date of the purchase agreements. The foregoing purchase price is subject to
adjustments for working capital at the date of closing. PRIMESTAR is responsible
for the payment of certain obligations not assumed by Hughes, satisfaction of
its funded indebtedness and the payment of costs, currently estimated to range
from $270 million to $340 million, associated with the termination of
PRIMESTAR's high power business strategy and sale of its medium power assets.
The consummation of the Hughes Medium Power Transaction is subject to various
consents from PRIMESTAR's lenders, restructuring of certain of PRIMESTAR's
indebtedness, and other customary conditions.

          In addition, completion of the Hughes High Power Transaction is not
dependent on consummation of the Hughes Medium Power Transaction, and
consummation of the Hughes Medium Power Transaction is not dependent on
completion of the Hughes High Power Transaction.

                                      II-3
<PAGE>
 
          In connection with their approval of the Hughes Medium Power 
Transaction, the stockholders of PRIMESTAR approved the payment to TSAT of 
consideration (the "PRIMESTAR Payment") in the amount of $65 million, payable in
shares of GMH Stock, valued at $46.1875 (the closing price of such stock on the 
date of the purchase agreements with Hughes). Subject to the terms and 
considerations set forth in an agreement (the "PRIMESTAR Payment Agreement") 
dated as of January 22, 1999. In consideration of the PRIMESTAR Payment, the 
Company agreed to approve the Hughes Medium Power Transaction and Hughes High 
Power Transaction as a stockholder of PRIMESTAR, to modify certain agreements 
to facilitate the Hughes High Power Transaction, and to issue PRIMESTAR a share 
appreciation right (the "TSAT GMH SAR") with respect to the shares of GMH Stock 
received as the PRIMESTAR Payment, granting PRIMESTAR the right to any 
appreciation in such GMH Stock over the one-year period following the date of 
issuance, over an agreed strike price of $47.00.

          The TSAT GMH SAR will be secured by a first priority pledge and 
security interest in the underlying shares of GMH Stock, and both the TSAT GMH 
SAR and such pledge and security interest will be pledged by PRIMESTAR for the 
benefit of certain holders of share appreciation rights issued by PRIMESTAR 
with respect to shares of GMH Stock (the "PRIMESTAR GMH SARs"). The shares of 
GMH Stock issued to TSAT pursuant to the PRIMESTAR Payment Agreement will be 
subject to certain restrictions on transfer during the first year after the 
closing of the Hughes Medium Power Transaction, and TSAT will be entitled 
(together with PRIMESTAR) to certain registration rights with respect to such
shares following the expiration of such one-year period. Pursuant to the
PRIMESTAR Payment Agreement, TSAT has also agreed to forego any liquidating
distribution or other payment that may be made in respect of the outstanding
shares of PRIMESTAR upon any dissolution and winding-up of PRIMESTAR, or
otherwise in respect of PRIMESTAR's existing equity. The PRIMESTAR Payment is
conditioned upon the closing of the Hughes Medium Power Transaction.

          If the Hughes Medium Power Transaction and Hughes High Power
Transaction are both consummated, the Company will cease to be engaged in the
direct-to-home satellite television business through PRIMESTAR and Tempo. The
Company is currently reviewing potential business opportunities to take
advantage of the Company's industry expertise and relationships and significant
tax loss carryforward. There can be no assurances, however, that the Company
will be able to fund the implementation of any such potential business
opportunity on terms favorable to the Company, or on any terms, or that any such
potential business opportunity will be successfully implemented.

          If the Hughes Medium Power Transaction is not consummated for any
reason, PRIMESTAR currently intends to continue operating its medium power
business, which may require the restructuring or refinancing of certain of its
liabilities.  There can be no assurance that such restructuring or refinancing,
if necessary, could be accomplished on terms acceptable to PRIMESTAR.

          Restructuring Transaction
          -------------------------

          Effective April 1, 1998 and pursuant to the Restructuring Agreement
and the TSAT Asset Transfer Agreement, the Restructuring was consummated.  In
connection with the Restructuring, TSAT contributed and transferred to PRIMESTAR
all of TSAT's assets and liabilities except (i) the capital stock of Tempo, (ii)
the consideration received by TSAT in the Restructuring and (iii) the rights and
obligations under certain agreements with PRIMESTAR and others.  In addition,
the business of PRIMESTAR Partners and the business of distributing the
PRIMESTAR(R) programming service of each of TWE, Newhouse, Comcast, Cox and
affiliates of MediaOne was consolidated into PRIMESTAR.

          In connection with the TSAT Asset Transfer, PRIMESTAR assumed all of
TSAT's indebtedness and TSAT received from PRIMESTAR such number of shares of
PRIMESTAR Class A Common Stock and PRIMESTAR Class B Common Stock, respectively,
as equaled the number of shares of Series A Common Stock and Series B Common
Stock, respectively, issued and outstanding or deemed to be issued and
outstanding on the closing date.  As of December 31, 1998, TSAT owns
approximately 37% of the outstanding shares of common equity of PRIMESTAR
representing approximately 38% of the combined voting power of such common
equity.

          TSAT Merger
          -----------

          The TSAT Merger Agreement provided that TSAT would be merged with and
into PRIMESTAR, with PRIMESTAR as the surviving corporation.  In connection
with the First Closing, the Company and PRIMESTAR terminated the TSAT Merger 
Agreement.

Summary of Operations
----------------------

          As a result of the consummation of the Restructuring, TSAT is a
holding company whose primary assets are (i) Tempo's authorizations granted by
the FCC and other assets and liabilities relating to a proposed direct broadcast
system being constructed by Tempo and (ii) its investment in PRIMESTAR.
Accordingly, subsequent to the Restructuring, TSAT's operations consist of (i)
expenses incurred to maintain TSAT as a public company, including accounting and
legal fees ($152,000 during 1998), (ii) expenses associated with the operation
and maintenance of the Tempo Satellites ($6,365,000 during 1998) and (iii)
TSAT's share of PRIMESTAR's earnings or losses.  TSAT's results of operations
for the year ended December 31, 1998 also include three months of operations of
TSAT's medium power DBS distribution business.  Such medium power business was
contributed to PRIMESTAR in connection with the Restructuring.

                                      II-4
<PAGE>
 
          Certain financial information concerning the Company's operations for
the years ended December 31, 1997 and 1996 is presented below (dollar amounts in
thousands):

<TABLE>
<CAPTION>
                                                                Years ended December 31,
                                                   --------------------------------------------------
                                                             1997                      1996
                                                   ------------------------  ------------------------
                                                                Percentage                Percentage
                                                                 of total                  of total
                                                     Amount       revenue      Amount       revenue
                                                   -----------  -----------  -----------  -----------
 
Revenue:
<S>                                                <C>          <C>          <C>          <C>
 Programming and equipment rental                   $ 512,894           91%   $ 351,548           84%
 Installation                                          49,096            9       65,913           16
                                                    ---------         ----    ---------         ----
   Total revenue                                      561,990          100      417,461          100
                                                    ---------         ----    ---------         ----
 
Operating costs and expenses:
 Charges from PRIMESTAR Partners                     (259,600)         (47)    (188,724)         (45)
 Operating                                            (23,992)          (4)     (28,546)          (7)
 
 Selling, general and administrative:
   Selling and regional marketing                    (138,021)         (24)    (132,972)         (32)
   General and administrative                         (60,242)         (11)     (60,594)         (14)
                                                    ---------         ----    ---------         ----
                                                     (198,263)         (35)    (193,566)         (46)
                                                    ---------         ----    ---------         ----
 
   Operating Cash Flow(1)                              80,135           14        6,625            2
 
Stock compensation                                     (8,092)          (2)         446           --
Depreciation                                         (243,642)         (43)    (191,355)         (46)
                                                    ---------         ----    ---------         ----
 
   Operating loss                                   $(171,599)        (31)%   $(184,284)        (44)%
                                                    =========         ====    =========         ====
</TABLE>


---------------------------
(1)  Operating Cash Flow, which represents operating income before depreciation
     and stock compensation, is a commonly used measure of value and borrowing
     capacity.  Operating Cash Flow is not intended to be a substitute for a
     measure of performance in accordance with generally accepted accounting
     principles and should not be relied upon as such.  Furthermore, Operating
     Cash Flow may not be comparable to similarly titled measures reported by
     other companies.  Operating Cash Flow should be viewed together with cash
     flows measured in accordance with generally accepted accounting principles.
     For information concerning such cash flows, see the statements of cash
     flows included in the accompanying financial statements.

     TSAT's year-end customers increased from 702,000 at December 31, 1996 to
851,000 at December 31, 1997, and TSAT's average customers increased 32% from
1996 to 1997.  To the extent not otherwise described, increases in TSAT's
revenue and expenses are primarily related to such customer growth.

     Revenue increased $144,529,000 or 35% during 1997, as compared to the
corresponding prior year.  The Company's programming and equipment rental
revenue increased primarily as a result of an increase in the number of
customers.  Additionally, TSAT's average monthly programming and equipment
rental revenue per customer increased from $50 during 1996 to $55 during 1997.
Such increase was primarily the result of rate increases implemented in May 1997
in conjunction with the launch of approximately 55 additional channels.  The
Company's installation revenue decreased primarily due to a reduction in 1997 in
the number of installations performed and a decrease from $145 during 1996 to
$128 during 1997 in the average installation revenue derived from each customer
installed.

                                      II-5
<PAGE>
 
     PRIMESTAR Partners provided programming services to the Company and the
other authorized Distributors in exchange for a fee based upon the number of
customers receiving programming services.  PRIMESTAR Partners also arranged for
satellite capacity and uplink services, and provided national marketing and
administrative support services, in exchange for a separate authorization fee
from each Distributor, including the Company, based on each such Distributor's
total number of customers.  The average aggregate monthly amount per customer
charged by PRIMESTAR Partners was $28 and $27 per customer during 1997 and 1996
respectively.

     Other operating expenses, which were primarily comprised of amounts related
to customer fulfillment activities, decreased $4,554,000 or 16% during 1997, as
compared to the corresponding prior year.  Such decrease is primarily
attributable to the fact that TSAT's other operating costs and expenses for the
year ended December 31, 1996 included $9,292,000 of installation fees paid to
TCIC that were not capitalized.  Other operating costs and expenses for the year
ended December 31, 1997 do not include a similar amount since TSAT has
capitalized the full amount of installation fees paid to TCIC since the Spin-off
Date for installations associated with customers who have elected to lease
satellite reception equipment. As described below, the charges for installation
and other customer fulfillment services provided by TCIC from January 1, 1997
through December 31, 1997 were made pursuant to the Fulfillment Agreement.

     Through December 31, 1996, TCIC provided the Company with certain customer
fulfillment services.  Charges for such services were allocated to the Company
by TCIC based on scheduled rates.  Such services, which included installation,
maintenance, retrieval, inventory management and other customer fulfillment
services, were to be performed in accordance with specified performance
standards.  Effective January 1, 1997, charges for customer fulfillment services
provided by TCI were made pursuant to a fulfillment agreement (the "Fulfillment
Agreement") entered into by the Company and TCIC in connection with the Spin-
off.  Pursuant to the Fulfillment Agreement, TCIC continued to provide
fulfillment services on an exclusive basis to the Company.  Such services were
required to be performed in accordance with specified performance standards. The
Fulfillment Agreement terminated on December 31, 1997.

     Installation charges from TCIC included direct and indirect costs of
performing installations.  Through the Spin-off Date, the Company capitalized a
portion of such charges as subscriber installation costs based upon amounts
charged by unaffiliated third parties to perform similar services.  Subsequent
to the Spin-off Date, the Company capitalized the full amount of installation
fees paid to TCIC.  Additionally, the scheduled rates for the services provided
by TCIC under the Fulfillment Agreement exceeded the scheduled rates upon which
charges, historically, were allocated to the Company for such services.  In this
regard, installation charges allocated to the Company by TCIC aggregated
$62,461,000 during the year ended December 31, 1996.  If the Fulfillment
Agreement had been in effect during 1996, the estimated installation fees
incurred by the Company would have been $86,186,000.

     Selling, general and administrative ("SG&A") expenses increased $4,697,000
or 2% during 1997, as compared to the corresponding prior year.  Selling and
regional marketing expenses include sales commissions, marketing and advertising
expenses, and costs associated with the operation of the Company's call center
and regional sales offices.  The decrease in SG&A expenses as a percentage of
revenue in 1997 is primarily attributable to (i) lower sales commissions due to
a 15% decrease in installations in 1997 as compared to 1996, and (ii) the
relatively fixed nature of certain components of TSAT's selling, general and
administrative expenses.

                                      II-6
<PAGE>
 
     In connection with the Spin-off, the Company and TCI also entered into the
"Transition Services Agreement", and certain other agreements. Pursuant to the
Transition Services Agreement, TCIC provided certain general and administrative
services to TSAT for a fee of $1.50 per subscriber per month. Amounts charged by
TCIC pursuant to the Transition Services Agreement aggregated $3,174,000 and
$11,579,000 during the years ended December 31, 1998 and 1997, respectively.
Upon consummation of the Restructuring, TSAT and TCI agreed to terminate the
Transition Services Agreement.

     Through the Spin-off Date, general and administrative allocations from TCIC
were based upon the estimated cost of such services provided to TSAT. The
amounts charged to TSAT pursuant to the Transition Services Agreement are in
excess of the amounts that would have been allocated by TCIC to TSAT under the
arrangement that was in effect through the Spin-off Date. If the Transition
Services Agreement had been effective as of January 1, 1996, selling, general
and administrative expenses would have been approximately $198,200,000 for the
year ended December 31, 1996.

     Depreciation expense increased $52,287,000 or 27% during 1997, as compared
to the corresponding prior year. The 1997 increase is primarily the result of an
increase in TSAT's depreciable assets due to capital expenditures. Changes in
the Company's depreciation policies also contributed to the increase. Effective
October 1, 1996, TSAT changed the method used to depreciate its subscriber
installation costs, and reduced the estimated useful life of certain satellite
reception equipment. The inception-to-date effect on depreciation expense of the
change in depreciation method aggregated $55,304,000, and was recorded during
the fourth quarter of 1996. The effect of the reduction in estimated useful life
was accounted for on a prospective basis.

     TSAT incurred interest expense of $47,992,000 during the year ended
December 31, 1997.  Substantially all of such interest was attributable to the
December 31, 1996 completion of the Bank Credit Facility and the February 1997
issuance of the Notes. All of TSAT's interest bearing debt was assumed by 
PRIMESTAR in the Restructuring.

     The Company's 20.86% share of PRIMESTAR Partners' net losses increased
$17,198,000 during 1997, as compared to the corresponding prior year.  Such
increase is primarily attributable to increases in PRIMESTAR Partners' interest
expense and operating loss.  The increase in interest expense is attributable to
interest incurred on borrowings under the Partnership Credit Facility that were
used to fund the construction of Tempo DBS-2.  Prior to the January 1, 1997
determination that construction of Tempo DBS-2 was substantially complete,
interest incurred on the applicable borrowings under the Partnership Credit
Facility had been capitalized.  The increase in PRIMESTAR Partners' operating
loss occurred primarily because the increase in PRIMESTAR Partners' revenue did
not fully offset increases in selling, marketing and certain other expenses.

     TSAT recognized no income tax benefit during the years ended December 31,
1998 and 1997.  TSAT is only able to realize income tax benefits for financial
reporting purposes to the extent that such benefits offset TSAT's income tax
liabilities or TSAT generates taxable income.  For financial reporting purposes,
all of TSAT's income tax liabilities had been fully offset by income tax
benefits at December 31, 1998 and 1997.  Additionally, TSAT believes that it
will incur net losses for income tax purposes during the foreseeable future, and
accordingly, will not be in a position to realize income tax benefits on a
current basis.

                                      II-7
<PAGE>
 
Recent Accounting Pronouncements
--------------------------------

     In June 1998, the Financial Accounting Standards Board issued statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
                                         -------------------------------------
and Hedging Activities" ("Statement No. 133").  Statement No. 133 is effective
----------------------                                                        
for fiscal quarters beginning after June 15, 1999.  As the Company currently has
no derivative instruments and does not participate in hedging activities, the
Company does not anticipate that Statement No. 133 will have any effect on its
results of operations or financial position.

Liquidity and Capital Resources
-------------------------------

     Upon completion of the Hughes High Power and Medium Power Transactions, of
which there can be no assurance, TSAT's assets would be the GMH Stock and cash.

     TSAT is currently considering its course of action upon receipt of the
PRIMESTAR Payment.  Options available to the Company include, but are not
limited to, distribution of the PRIMESTAR Payment to the Company's shareholders,
(subject to a one-year holding period) investment of the PRIMESTAR Payment in a
yet undetermined operating business, or retention of the PRIMESTAR Payment for
future use.

     As a holding company, TSAT's ability to satisfy any liabilities or
obligations is dependent solely upon the cash flows of Tempo and PRIMESTAR and
the distribution or the payment of such cash flows to TSAT in the form of
dividends, loans or other advances.  The payment of dividends or the making of
loans or advances to TSAT by Tempo and PRIMESTAR may be subject to statutory,
regulatory or contractual restriction, will be contingent upon the earnings of
those subsidiaries and affiliates, and will be subject to various business
considerations. Moreover, TSAT does not control PRIMESTAR, and PRIMESTAR has no
obligation, contingent or otherwise, to make any funds available to TSAT,
whether by dividends, loans or other payments (except for (i) the obligation of
PRIMESTAR to reimburse TSAT for certain financial reporting, legal,
accounting and other obligations of TSAT as a public company, as provided in the
TSAT Merger Agreement, which obligation automatically terminated as a result of
the termination of the TSAT Merger Agreement and (ii) the PRIMESTAR Payment
Agreement). In addition, PRIMESTAR is subject to loan agreements that prohibit
or limit the transfer of funds to TSAT in the form of dividends, loans, or
advances and/or require that any indebtedness of such subsidiaries or affiliates
of TSAT be subordinate to the indebtedness under such loan agreements.

                                      II-8
<PAGE>
 
     TSAT will continue to be subject to the risks associated with operating as
a holding company including possible regulation under the Investment Company
Act.  TSAT does not currently intend to be an investment company within the
meaning of the Investment Company Act.  TSAT has made no decision as to what
course of action it will pursue.

     Certain contingent liabilities of TSAT related to (i) indemnification
agreements entered into between TSAT and TCI and (ii) other obligations were
assumed by PRIMESTAR in connection with the Restructuring.

     The Company is in the process of identifying and addressing issues
surrounding the Year 2000 ("Y2K") and its impact on the Company's operations.
The issue surrounding the Year 2000 is whether the Company's operations and
financial systems or the systems used by companies with whom the Company
conducts business will properly recognize and process date sensitive information
before and after January 1, 2000.  Pursuant to the TSAT Merger Agreement,
PRIMESTAR provides the Company with accounting services and the use of any and
all related information systems.  Therefore, TSAT is coordinating its Y2K
assessment with PRIMESTAR.  The following discussion of PRIMESTAR's Y2K project
is based on information currently available to the Company.

     PRIMESTAR completed an initial assessment in October of 1998 which
identified areas of risk associated with the Year 2000.  The Year 2000 Program
Office was established in the fourth quarter of 1998 to oversee PRIMESTAR's Year
2000 project.  Detailed inventories have been gathered and cost estimates have
been finalized.  For each functional area of the project, detailed work plans
have been developed and put into place.  Separate test environments completed
construction and testing in the first quarter of 1999.

     A detail assessment of applications has been performed which identified
applications requiring remediation.  The assessment findings for applications
showed minimal remediation, and the effort is expected to be finalized by the
end of the second quarter of 1999.  Testing efforts running parallel to
remediation are expected to be completed by the first part of the third quarter
of 1999.  The exception to this is the area of network operations where the
detail assessment, remediation  and testing is expected to be on-going through
the third quarter of 1999.

     PRIMESTAR has identified business partners that are critical to PRIMESTAR's
ability to continue providing service to its customers - operations and
availability of IRDs and related software; ability to deliver programming to
customers; and ability to authorize, service and bill customers.  PRIMESTAR's
Y2K plan includes the continual review and possible integrated testing of
critical business functions supplied by these business partners.  An event of
failure by a critical business partner could have a material adverse effect on
PRIMESTAR's results of operations.  PRIMESTAR intends to monitor the Y2K efforts
of such business partners, and will devise contingency plans in the event that
Year 2000 failures occur.

     PRIMESTAR has identified vendors that supply products and services and has
established an on-going process to evaluate and track their Y2K readiness.
Based upon responses and research with these vendors, PRIMESTAR will make
decisions whether to remain in the partnership or choose alternative sources.
For those vendors that supply a product or service to PRIMESTAR which could
adversely impact daily operations in the event of a Year 2000 failure, the
research and subsequent decision will be made in the second quarter of 1999.

                                      II-9
<PAGE>
 
     PRIMESTAR has analyzed and continues to analyze its internal IT and non-IT
systems.  PRIMESTAR believes that most of such systems are currently capable of
functioning without substantial Y2K compliance problems, and that those which
are not currently Y2K compliant, will be Y2K capable in a time frame that will
avoid any material adverse effect on PRIMESTAR.  PRIMESTAR intends to initiate
contingency planning in the first quarter of 1999 and expects to continue to
refine and test contingency plans through the fourth quarter of 1999.

     Through December 1998, PRIMESTAR has spent approximately $250,000 for Y2K
issues.  PRIMESTAR has completed a budget for Y2K costs, and currently estimates
the cost to remediate Y2K issues will be $11,800,000, comprised primarily of
$4.8 million for technical remediation and testing, $2.8 million for project
management, $1.5 million for software upgrades and 1.3 million for replacement
of personal computers.  Additional costs could be identified during the life of
the project.

     The Company does not currently believe that any of the foregoing will have
a material adverse effect on its financial condition or its results of
operations.  However, the process of evaluating PRIMESTAR's products and third
party products and systems is ongoing.  Although not expected, failures of
critical suppliers and/or systems could have a material adverse effect on the
Company's financial condition or results of operations.  As widely publicized,
Y2K compliance has many issues and aspects, not all of which the Company is able
to accurately forecast or predict.  There is no way to assure that Y2K will not
have adverse effects on the Company, some of which could be material.

Item 8.  Financial Statements and Supplementary Data.
------   ------------------------------------------- 

     The financial statements of the Company are filed under this item beginning
on page II-11.


Item 9.  Changes in and Disagreements with Accountants on Accounting and
------   ---------------------------------------------------------------
         Financial Disclosure.
         -------------------- 

         None.

                                     II-10
<PAGE>
 
                          INDEPENDENT AUDITORS' REPORT



The Board of Directors and Stockholders
TCI Satellite Entertainment, Inc.:


     We have audited the accompanying consolidated balance sheets of TCI
Satellite Entertainment, Inc. and subsidiaries (as defined in note 1) as of
December 31, 1998 and 1997 and the related consolidated statements of
operations, equity (deficit), and cash flows for each of the years in the three-
year period ended December 31, 1998.  In connection with our audit of the
consolidated financial statements, we have also audited the financial statement
schedule listed in the index at Item 14(a).  These consolidated financial
statements and the financial statement schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements and the financial statement schedule based on
our audits.

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

     In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of TCI
Satellite Entertainment, Inc. and subsidiaries as of December 31, 1998 and 1997,
and the results of their operations and their cash flows for each of the years
in the three-year period ended December 31, 1998, in conformity with generally
accepted accounting principles.  Also, in our opinion, the related financial
statement schedule, when considered in relation to the basic financial
statements taken as a whole, presents fairly, in all material respects, the
information set forth therein.



                                                     KPMG LLP

Denver, Colorado
April 15, 1999

                                     II-11
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES

                          Consolidated Balance Sheets

                           December 31, 1998 and 1997


<TABLE>
<CAPTION>
                                                                         1998                 1997
                                                                  -------------------  -------------------
                                                                            amounts in thousands
Assets
------
 
<S>                                                                          <C>                  <C> 
Cash and cash equivalents                                                    $     --                6,084
 
Accounts receivable, net of allowance for doubtful accounts                        --               35,079
 
Investment in PRIMESTAR, Inc. ("PRIMESTAR") (note 8)                               --                   --
 
Investment in, and related advances to, PRIMESTAR Partners
 L.P., ("PRIMESTAR Partners")                                                      --               11,093
 
 
Property and equipment, at cost:
 Satellites (note 9)                                                          463,133              463,133
 Satellite reception equipment                                                     --              674,387
 Subscriber installation costs                                                     --              227,131
 Support equipment                                                                 --               34,389
                                                                             --------            ---------
                                                                              463,133            1,399,040
 Less accumulated depreciation                                                     --              277,103
                                                                             --------            ---------
                                                                              463,133            1,121,937
                                                                             --------            ---------
 
Deferred financing costs and other assets, net of accumulated
 amortization                                                                      --               30,663
                                                                             --------            ---------
 
                                                                             $463,133            1,204,856
                                                                             ========            =========
</TABLE>

                                                                     (continued)

                                     II-12
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES

                     Consolidated Balance Sheets, continued

                           December 31, 1998 and 1997


<TABLE>
<CAPTION>
                                                                          1998                  1997
                                                                  --------------------  --------------------
                                                                             amounts in thousands
Liabilities and Stockholders' Equity (Deficit)
----------------------------------------------
 
<S>                                                               <C>                   <C>
Accounts payable                                                  $                --                50,755
Accrued charges from PRIMESTAR Partners                                            --                48,591
Accrued charges from TCI Communications, Inc.   ("TCIC")                           --                14,225
Accrued commissions                                                                --                10,435
Accrued interest payable                                                           --                 8,658
Other accrued expenses                                                             --                24,386
Subscriber advance payments                                                        --                29,675
Due to PRIMESTAR (note 9)                                                     469,498               463,133
Debt                                                                               --               418,729
                                                                            ---------             ---------
 
    Total liabilities                                                         469,498             1,068,587
                                                                            ---------             ---------
 
 
Stockholders' Equity (Deficit) (note 10):
 Preferred stock, $.01 par value; authorized 5,000,000
  shares; none issued                                                              --                    --
 Series A common stock, $1 par value; authorized
  185,000,000 shares; issued 59,280,466 in 1998 and
  58,239,136 in 1997                                                           59,280                58,239
 Series B common stock, $1 par value; authorized
  10,000,000 shares; issued 8,465,324 in 1998 and 1997                          8,465                 8,465
 Additional paid-in capital                                                   825,276               523,685
 Accumulated deficit                                                         (899,386)             (454,120)
                                                                            ---------             ---------
 
    Total stockholders' equity (deficit)                                       (6,365)              136,269
                                                                            ---------             ---------
 
Commitments (note 9)
 
                                                                            $ 463,133             1,204,856
                                                                            =========             =========
</TABLE>



See accompanying notes to consolidated financial statements.

                                     II-13
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES

                     Consolidated Statements of Operations

                  Years ended December 31, 1998, 1997 and 1996


<TABLE>
<CAPTION>
                                                            1998                1997                 1996
                                                     ------------------  -------------------  ------------------
                                                                        amounts in thousands, 
                                                                      except per share amounts
Revenue:
<S>                                                  <C>                 <C>                  <C>
 Programming and equipment rental                            $ 154,257              512,894             351,548
 Installation                                                   14,243               49,096              65,913
                                                             ---------            ---------            --------
                                                               168,500              561,990             417,461
                                                             ---------            ---------            --------
Operating costs and expenses:
 Charges from PRIMESTAR Partners
   (note 12)                                                    82,235              259,600             188,724
 Operating (note 12)                                            16,211               23,992              28,546
 Selling, general and administrative (note
  12)                                                           55,495              198,263             193,566
 Stock compensation                                              4,869                8,092                (446)
 Depreciation (note 5)                                          65,105              243,642             191,355
                                                             ---------            ---------            --------
                                                               223,915              733,589             601,745
                                                             ---------            ---------            --------
 
    Operating loss                                             (55,415)            (171,599)           (184,284)
                                                             ---------            ---------            --------
 
Other income (expense):
 Interest expense                                              (14,177)             (47,992)             (2,023)
 Share of losses of PRIMESTAR (note 8)                        (369,231)                  --                  --
 Share of losses of PRIMESTAR Partners                          (5,822)             (20,473)             (3,275)
 Other, net                                                       (621)               1,723               3,641
                                                             ---------            ---------            --------
                                                              (389,851)             (66,742)             (1,657)
                                                             ---------            ---------            --------
 
    Loss before income taxes                                  (445,266)            (238,341)           (185,941)
 
Income tax benefit (note 11)                                        --                   --              45,937
                                                             ---------            ---------            --------
 
    Net loss                                                 $(445,266)            (238,341)           (140,004)
                                                             =========            =========            ========
 
Basic and diluted loss per common share (note 6)             $   (6.58)           $   (3.58)              (2.11)
                                                             =========            =========            ========
</TABLE>

See accompanying notes to consolidated financial statements.

                                     II-14
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES

           Consolidated Statements of Stockholders' Equity (Deficit)

                  Years ended December 31, 1998, 1997 and 1996


<TABLE>
<CAPTION>
                                                                                                              
                                                                   Common Stock      Additional              
                                                            -----------------------    paid-in    Accumulated    
                                                              Series A    Series B     capital      deficit   
                                                            ------------  ---------  ------------  ---------  
                                                                           amounts in thousands                                     

<S>                                                         <C>           <C>        <C>           <C>         
Balance at January 1, 1996                                       $    --        --            --    (75,775)  
 Net loss                                                             --        --            --   (140,004)  
 TCIC intercompany allocations                                        --        --            --         --   
 Net cash transfers from TCIC                                         --        --            --         --   
 Recognition of deferred tax assets upon transfer                                                             
  of PRIMESTAR Partners investment in connection                                                              
  with Spin-off                                                       --        --            --         --   
 Adjustment to reflect consummation of Spin-off                                                               
  (note 4)                                                        57,941     8,467       521,724         --   
 Issuance of Series A Common Stock upon conversion                                                            
  of notes of Tele-Communications, Inc.                                5        --            --         --   
                                                                 -------  --------       -------   --------   
Balance at December 31, 1996                                      57,946     8,467       521,724   (215,779)  
 Net loss                                                             --        --            --   (238,341)  
 Recognition of stock compensation related to stock                                                           
  options and restricted stock awards                                 --        --         1,781         --   
 Issuance of Series A Common Stock related to                                                                 
  restricted stock awards                                             33        --           180         --   
 Issuance of Series A Common Stock upon conversion                                                            
  of convertible securities of                                                                                
   Tele-Communications, Inc.                                         258        --            --         --   
 Conversion of Series B to Series A                                    2        (2)           --         --   
                                                                 -------  --------       -------   --------   
Balance at December 31, 1997                                      58,239     8,465       523,685   (454,120)  
 Net loss                                                             --        --            --   (445,266)  
 Recognition of stock compensation related to stock                                                           
  options and restricted stock awards                                 --        --         2,595         --   
 Issuance of Series A Common Stock related to                                                                 
  restricted stock awards                                             50        --           (50)        --   
 Issuance of Series A Common Stock upon conversion                                                            
  of convertible securities of                                                                                
  Tele-Communications, Inc.                                          991        --            --         --   
 Issuance of common stock by subsidiary (note 3)                      --        --       299,046         --   
                                                                 -------  --------       -------   --------   
Balance at December 31, 1998                                     $59,280     8,465       825,276   (899,386)  
                                                                 =======  ========       =======   ========   

<CAPTION> 



                                                                                                       
                                                                                       Total      
                                                                      Due to       stockholders'
                                                                       TCIC       equity (deficit)
                                                                   -------------  ----------------   
                                                                        amounts in thousands
<S>                                                                <C>            <C>      
Balance at January 1, 1996                                               559,359           483,584
 Net loss                                                                     --          (140,004)
 TCIC intercompany allocations                                            21,009            21,009
 Net cash transfers from TCIC                                            228,622           228,622
 Recognition of deferred tax assets upon transfer                                              
  of PRIMESTAR Partners investment in connection                                               
  with Spin-off                                                           29,142            29,142
 Adjustment to reflect consummation of Spin-off                                                
  (note 4)                                                              (838,132)         (250,000)
 Issuance of Series A Common Stock upon conversion                                             
  of notes of Tele-Communications, Inc.                                       --                 5   
                                                                   -------------          -------- 
Balance at December 31, 1996                                                  --           372,358
 Net loss                                                                     --          (238,341)
 Recognition of stock compensation related to stock                                            
  options and restricted stock awards                                         --             1,781    
 Issuance of Series A Common Stock related to                                                  
  restricted stock awards                                                     --               213  
 Issuance of Series A Common Stock upon conversion                                             
  of convertible securities of                                                                 
   Tele-Communications, Inc.                                                  --               258   
 Conversion of Series B to Series A                                           --                --
                                                                   -------------          --------
Balance at December 31, 1997                                                               136,269
 Net loss                                                                     --          (445,266)
 Recognition of stock compensation related to stock                                            
  options and restricted stock awards                                         --             2,595    
 Issuance of Series A Common Stock related to                                                  
  restricted stock awards                                                     --                -- 
 Issuance of Series A Common Stock upon conversion                                             
  of convertible securities of                                                                 
  Tele-Communications, Inc.                                                   --               991   
 Issuance of common stock by subsidiary (note 3)                              --           299,046
                                                                   -------------          --------
Balance at December 31, 1998                                                  --            (6,365)
                                                                   =============          ======== 

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

                                     II-15
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                     Consolidated Statements of Cash Flows

                  Years ended December 31, 1998, 1997 and 1996


<TABLE>
<CAPTION>
                                                                         1998               1997               1996
                                                                   -----------------  -----------------  ----------------
                                                                                    amounts in thousands
                                                                                        (see note 7)
<S>                                                                <C>                <C>                <C> 
Cash flows from operating activities:
 Net loss                                                                 $(445,266)          (238,341)         (140,004)
 Adjustments to reconcile net loss to net cash provided by
  operating activities:
    Depreciation                                                             65,105            243,642           191,355
    Share of losses of PRIMESTAR                                            369,231                 --                --
    Share of losses of PRIMESTAR Partners                                     5,822             20,473             3,275
    Accretion of debt discount                                                4,682             16,719                --
    Stock compensation                                                        4,869              8,092              (446)
    Deferred income tax expense                                                  --                 --            24,708
    Other non-cash charges (credits)                                          8,108              6,919              (311)
    Changes in operating assets and liabilities,
      net of the effect of the Restructuring:
      Change in receivables                                                  10,845            (15,014)            4,364
      Change in other assets                                                   (736)              (335)             (841)
      Change in accruals and payables                                       (10,210)            42,056            24,096
      Change in subscriber advance payments                                  (3,114)             7,426             9,005
                                                                          ---------           --------          --------
       Net cash provided by operating activities                              9,336             91,637           115,201
                                                                          ---------           --------          --------
 
Cash flows from investing activities:
 Capital expended for property and equipment                                (73,966)          (227,327)         (326,621)
 Capital expended for construction of satellites                                 --             (5,448)          (74,785)
 Additional investments in, and related advances to,
  PRIMESTAR Partners                                                            (75)            (7,073)          (17,552)
 Repayments of advances to PRIMESTAR Partners                                    --              7,815                --
 Other investing activities                                                      --             (1,581)           (5,458)
                                                                          ---------           --------          --------
       Net cash used in investing activities                                (74,041)          (233,614)         (424,416)
                                                                          ---------           --------          --------
 
Cash flows from financing activities:
 Borrowings of debt                                                         113,000            498,061           259,000
 Repayments of debt                                                         (61,735)          (344,699)         (263,000)
 Payment of deferred financing costs                                             --            (17,780)           (7,000)
 Increase in due to PRIMESTAR                                                 6,365              5,448            74,785
 Proceeds from issuance of common stock                                         991                471                --
 Increase in due to TCIC                                                         --                 --           250,189
                                                                          ---------           --------          --------
       Net cash provided by financing activities                             58,621            141,501           313,974
                                                                          ---------           --------          --------
 
       Net increase (decrease) in cash and cash
        equivalents                                                          (6,084)              (476)            4,759
 
 
       Cash and cash equivalents:
         Beginning of year                                                    6,084              6,560             1,801
                                                                          ---------           --------          --------
 
         End of year                                                      $      --              6,084             6,560
                                                                          =========           ========          ========
</TABLE>

See accompanying notes to consolidated financial statements.

                                     II-16
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

                        December 31, 1998, 1997 and 1996


(1)  Basis of Presentation
---  ---------------------

     The accompanying financial statements of TCI Satellite Entertainment, Inc.
     ("TSAT" or the "Company") include the historical financial information of
     (i) certain satellite television assets (collectively, "TCI SATCO") of
     TCIC, a subsidiary of Tele-Communications, Inc. ("TCI") for periods prior
     to the December 4, 1996 consummation of the distribution transaction (the
     "Spin-off") described in note 4, and (ii) TSAT and its consolidated
     subsidiaries for the period following such date.  Upon consummation of the
     Spin-off, TSAT became the owner of the assets that comprise TCI SATCO,
     which assets included (i) a 100% ownership interest in the TCIC business
     that distributed the PRIMESTAR(R) programming service to subscribers within
     specified areas of the continental United States, (ii) a 100% ownership
     interest in Tempo Satellite, Inc. ("Tempo"), and (iii) a 20.86% aggregate
     ownership interest in PRIMESTAR Partners, which owned and operated the
     PRIMESTAR(R) service.

     As a result of the TSAT Asset Transfer described in note 3, TSAT is
     currently a holding company, with no substantial assets or liabilities
     other than (i) 100% of the outstanding capital stock of Tempo, (ii) its
     ownership interest in PRIMESTAR, and (iii) its rights and obligations under
     certain agreements with PRIMESTAR and others.

     In addition, the Company has no operations subsequent to the TSAT Asset
     Transfer other than (i) expenses associated with the operation and
     maintenance of the Tempo Satellites, as defined below and (ii) general and
     administrative expenses incurred to maintain the Company's status as a
     publicly traded company.

     Tempo holds a permit (the "FCC Permit") issued by the Federal
     Communications Commission ("FCC") authorizing the construction of a direct
     broadcast satellite ("DBS") system in the 119 degrees West Longitude
     ("W.L.") orbital position. Tempo is also a party to a construction
     agreement (the "Satellite Construction Agreement") with Space
     Systems/Loral, Inc. ("Loral"), pursuant to which Tempo arranged for the
     construction of two high power communications satellites (the "Tempo
     Satellites"), one of which is currently in orbit at 119 degrees W.L.
     ("Tempo DBS-1") and one of which is currently used as a ground spare
     ("Tempo DBS-2").

     All significant inter-entity and intercompany transactions have been
     eliminated.

                                                                     (continued)

                                     II-17
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

(2)  Proposed Hughes Transactions
     ----------------------------

     On January 22, 1999, the Company announced that the Company and PRIMESTAR
     had reached an agreement with Hughes to sell (i) the Tempo Satellites, (ii)
     Tempo's 119 degrees W.L. orbital location license and (iii) PRIMESTAR's
     rights relating to Tempo's DBS system to Hughes, for aggregate
     consideration valued at $500 million. Pursuant to the agreement, Hughes has
     agreed to assume $465 million of TSAT's liability to PRIMESTAR Partners,
     pay TSAT $2.5 million in cash and pay PRIMESTAR and PRIMESTAR Partners
     $32.5 million in cash. In addition, PRIMESTAR Partners has agreed to
     forgive amounts due from TSAT in excess of the $465 million to be assumed
     by Hughes ($4,498,000 at December 31, 1998). Due to the fact that
     regulatory approval is required to transfer Tempo DBS-1 and Tempo's FCC
     authorization for 119 degrees W.L. to Hughes, the Hughes High Power
     Transaction will be completed in two steps.

     Effective March 10, 1999, the first closing of the Hughes High Power
     Transaction (the "First Closing") was consummated whereby Hughes acquired
     Tempo DBS-2 and PRIMESTAR's option to acquire Tempo DBS-2 (the "Tempo DBS-2
     Option") for aggregate consideration of $150 million. Such consideration
     was comprised of the following: (i) $9,750,000 paid to PRIMESTAR and
     PRIMESTAR Partners for the Tempo DBS-2 Option and the termination of
     PRIMESTAR Partners' rights with respect to the capacity of Tempo's high
     power DBS assets, (ii) $750,000 paid to TSAT to exercise the Tempo DBS-2
     Option and (iii) the assumption by Hughes of $139,500,000 due to PRIMESTAR
     Partners from TSAT in exchange for Tempo DBS-2, which had a carrying value
     of $224 million at December 31, 1998. 

     With regard to the sale of the remaining assets contemplated by the Hughes
     High Power Agreement (the "Second Closing"), Tempo has been notified that
     Tempo DBS-I experienced power reductions which occurred on March 29, 1999
     and April 2, 1999. Although the Company does not believe the extent of such
     power reductions is significant, a definitive assessment of the impact on
     Tempo DBS-I is not yet complete. Notwithstanding the foregoing, the Second
     Closing, which is subject to the receipt of appropriate regulatory
     approvals and other customary closing conditions, is expected to be
     consummated in the second quarter of 1999. Upon completion of the sale of
     the Company's remaining high power assets, which had a carrying value of
     $239 million at December 31, 1998, the Company will receive additional
     consideration of $327 million in the form of cash and debt assumption. In
     the event the Second Closing is not consummated and the Hughes High Power
     Agreement is abandoned, there can be no assurance that the Company will be
     able to recover the carrying amount of its satellites.

     In a separate transaction (the "Hughes Medium Power Transaction"),
     PRIMESTAR also announced that it had reached an agreement with Hughes to
     sell PRIMESTAR's medium-power DBS business and assets for $1.1 billion in
     cash and 4.871 million shares of General Motors Class H common stock ("GMH
     Stock") valued at approximately $225 million, based on the closing price of
     GMH Stock on the date of the purchase agreements.  The foregoing purchase
     price is subject to adjustments for working capital at the date of closing.
     PRIMESTAR is responsible for the payment of certain obligations not assumed
     by Hughes, satisfaction of its funded indebtedness and the payment of
     costs, currently estimated to range from $270 million to $340 million,
     associated with the termination of PRIMESTAR's high power business strategy
     and sale of its medium power assets. The consummation of the Hughes Medium
     Power Transaction is subject to various consents from PRIMESTAR's lenders,
     restructuring of certain of PRIMESTAR's indebtedness, and other customary
     conditions.

     In addition, completion of the Hughes High Power Transaction is not
     dependent on consummation of the Hughes Medium Power Transaction, and
     consummation of the Hughes Medium Power Transaction is not dependent on
     completion of the Hughes High Power Transaction.

     In connection with their approval of the Hughes Medium Power Transaction,
     the stockholders of PRIMESTAR approved the payment to TSAT of consideration
     (the "PRIMESTAR Payment") in the amount of $65 million, payable in shares
     of GMH Stock, valued at $46.1875 (the closing price of such stock on the
     date of the purchase agreements with Hughes). Subject to the terms and
     considerations set forth in an agreement (the "PRIMESTAR Payment
     Agreement") dated as of January 22, 1999. In consideration of the PRIMESTAR
     Payment, the Company agreed to approve the Hughes Medium Power Transaction
     and Hughes High Power Transaction as a stockholder of PRIMESTAR, to modify
     certain agreements to facilitate the Hughes High Power Transaction, and to
     issue PRIMESTAR a share appreciation right (the "TSAT GMH SAR") with
     respect to the shares of GMH Stock received as the PRIMESTAR Payment,
     granting PRIMESTAR the right to any appreciation in such GMH Stock over the
     one-year period following the date of issuance, over an agreed strike price
     of $47.00.

     The TSAT GMH SAR will be secured by a first priority pledge and security
     interest in the underlying shares of GMH Stock, and both the TSAT GMH SAR
     and such pledge and security interest will be pledged by PRIMESTAR for the
     benefit of certain holders of share appreciation rights issued by PRIMESTAR
     with respect to shares of GMH Stock (the "PRIMESTAR GMH SARs"). The shares
     of GMH Stock issued to TSAT pursuant to the PRIMESTAR Payment Agreement
     will be subject to certain restrictions on transfer during the first year
     after the closing of the Hughes Medium Power Transaction, and TSAT will be
     entitled (together with PRIMESTAR) to certain registration rights with
     respect to such shares following the expiration of such one-year period.
     Pursuant to the PRIMESTAR Payment Agreement, TSAT has also agreed to forego
     any liquidating distribution or other payment that may be made in respect
     of the outstanding shares of PRIMESTAR upon any dissolution and winding-up
     of PRIMESTAR, or otherwise in respect of PRIMESTAR's existing equity. The
     PRIMESTAR Payment is conditioned upon the closing of the Hughes Medium
     Poser Transaction.

     If the Hughes Medium Power Transaction is not consummated for any reason,
     PRIMESTAR currently intends to continue operating its medium power
     business, which may require the restructuring or refinancing of certain of
     its liabilities.  There can be no assurance that such restructuring or
     refinancing, if necessary, could be accomplished on terms acceptable to
     PRIMESTAR.

                                     II-18
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

(3)  The Roll-up Plan
     ----------------

     On March 6, 1998, the TSAT stockholders voted to approve a proposal to
     adopt the provisions of certain agreements and the transactions
     contemplated thereby, collectively, referred to herein as the "Roll-up
     Plan".  The Roll-up Plan is a two-step transaction comprising the
     Restructuring and the proposed TSAT Merger, as described below.

     Restructuring

     Effective April 1, 1998 (the "Closing Date") and pursuant to (i) a Merger
     and Contribution Agreement dated as of February 6, 1998, (the
     "Restructuring Agreement"), among TSAT, PRIMESTAR, Time Warner
     Entertainment Company, L.P. ("TWE"), Advance/Newhouse Partnership
     ("Newhouse"), Comcast Corporation ("Comcast"), Cox Communications, Inc.
     ("Cox"), MediaOne of Delaware, Inc., ("MediaOne"), US WEST Media Group,
     Inc. and GE American Communications, Inc., and (ii) an Asset Transfer
     Agreement dated as of February 6, 1998, (the "TSAT Asset Transfer
     Agreement") between TSAT and PRIMESTAR, a business combination (the
     "Restructuring") was consummated.  In connection with the Restructuring,
     TSAT contributed and transferred to PRIMESTAR (the "TSAT Asset Transfer")
     all of TSAT's assets and liabilities except (i) the capital stock of Tempo,
     (ii) the consideration received by TSAT in the Restructuring and (iii) the
     rights and obligations of TSAT under certain agreements with PRIMESTAR and
     others.  In addition, the business of PRIMESTAR Partners and the business
     of distributing the PRIMESTAR(R) programming service ("PRIMESTAR(R)") of
     each of TWE, Newhouse, Comcast, Cox and affiliates of MediaOne were
     consolidated into PRIMESTAR.

     In connection with the TSAT Asset Transfer, PRIMESTAR assumed all of TSAT's
     indebtedness on such date, and TSAT received from PRIMESTAR such number of
     shares of Class A Common Stock of PRIMESTAR ("PRIMESTAR Class A Common
     Stock") and Class B Common Stock of PRIMESTAR ("PRIMESTAR Class B Common
     Stock" and together with the PRIMESTAR Class A Common Stock, "PRIMESTAR
     Common Stock"), respectively, as equals the number of shares of Series A
     Common Stock of TSAT ("Series A Common Stock") and Series B Common Stock of
     TSAT ("Series B Common Stock"), respectively, issued and outstanding on the
     Closing Date, in accordance with the Restructuring Agreement and the TSAT
     Asset Transfer Agreement.  In addition, TSAT received one share of
     PRIMESTAR Class A Common Stock for each share of Series A Common Stock
     issuable at the Closing Date ("Issuable TSAT Shares") pursuant to certain
     TSAT stock options, restricted stock awards and other arrangements.  TSAT
     received 66.3 million shares of PRIMESTAR Class A Common Stock and 8.5
     million shares of PRIMESTAR Class B Common Stock, and as a result, owns
     approximately 37% of the outstanding shares of common equity of PRIMESTAR
     at the closing of the Restructuring, representing approximately 38% of the
     combined voting power of such common equity.  As a result of the dilution
     of TSAT's investment in PRIMESTAR from 100% to approximately 37%, TSAT
     recognized an increase in its investment in PRIMESTAR and an increase in
     additional paid-in capital of $299,046,000, net of income taxes.  Such
     increase represents the difference between TSAT's historical investment
     basis in PRIMESTAR and TSAT's proportionate share of PRIMESTAR's equity
     subsequent to the Restructuring.

                                                                     (continued)

                                     II-19
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

     TSAT Merger

     Effective February 6, 1998, TSAT and PRIMESTAR entered into an Agreement
     and Plan of Merger (the "TSAT Merger Agreement"), providing for the merger
     of TSAT with and into PRIMESTAR, with PRIMESTAR as the surviving
     corporation (the "TSAT Merger"). In connection with the First Closing, the
     Company and PRIMESTAR terminated the TSAT Merger Agreement.

(4)  TSAT Spin-off  Transaction
     --------------------------

     General

     On December 4, 1996 (the "Spin-off Date"), TCI distributed (the "Spin-off")
     all the capital stock of the Company to the holders of Tele-Communications,
     Inc. Series A TCI Group Common Stock (the "Series A TCI Group Stock") and
     Tele-Communications, Inc. Series B TCI Group Common Stock (the "Series B
     TCI Group Stock" and, together with the Series A TCI Group Stock, the "TCI
     Group Stock").  The Spin-off did not involve the payment of any
     consideration by the holders of TCI Group Stock (such holders, the "TCI
     Group Stockholders"), and was intended to qualify as a tax-free spinoff.
     TCI Group Stockholders received one share of Series A Common Stock for each
     ten shares of Series A TCI Group Stock owned and one share of Series B
     Common Stock for each ten shares of Series B TCI Group Stock owned.

     Since the Spin-off, the Company and TCI have operated independently.  For
     the purposes of governing certain of the ongoing relationships between the
     Company and TCI after the Spin-off, and to provide mechanisms for an
     orderly transition, the Company and TCI entered into various agreements,
     including the "Reorganization Agreement" (see 10), the "Fulfillment
     Agreement" and the "Transition Services Agreement" (see note 12), and an
     amendment to TCI's existing "Tax Sharing Agreement" (see note 11).

                                                                     (continued)

                                     II-20
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

(5)  Changes in Accounting
     ---------------------

     During the fourth quarter of 1996, the Company changed its depreciation
     policy for subscriber installation costs. Such change was adopted effective
     October 1, 1996 and was treated as a change in accounting policy that was
     inseparable from a change in estimate. Accordingly, the cumulative effect
     of such change for periods prior to October 1, 1996, together with the
     fourth quarter 1996 effect of such change, was included in the Company's
     depreciation expense for the fourth quarter of 1996.  Consequently, this
     change in policy resulted in increases to the Company's depreciation
     expense, net loss and net loss per share for the year ended December 31,
     1996 of $55,304,000 ($8,754,000 of which relates to periods prior to
     January 1, 1996), $41,478,000 ($6,566,000 of which relates to periods prior
     to January 1, 1996) and $.62 ($.10 of which relates to periods prior to
     January 1, 1996), respectively.

     The Company also revised the estimated useful life of certain satellite
     reception equipment on a prospective basis as of October 1, 1996.  Such
     change in estimate resulted in increases to the Company's depreciation
     expense, net loss and net loss per share for the year ended December 31,
     1996 of $7,796,000, $5,847,000 and $.09, respectively.

(6)  Summary of Significant Accounting Policies
     ------------------------------------------

     Cash and Cash Equivalents

     The Company considers all highly liquid investments with a maturity of
     three months or less at the date of acquisition to be cash equivalents.

     Equity Method Investments

     The Company uses the equity method to account for its investment in
     PRIMESTAR Partners and PRIMESTAR.  Under this method, the investment,
     originally recorded at cost, is adjusted to recognize the Company's share
     of the net earnings or losses as they occur, rather than as dividends or
     other distributions are received, limited to the extent of the Company's
     investment in, and advances and commitments to, the investee.

     Changes in the Company's proportionate share of the underlying equity of a
     subsidiary or equity method investee, which result from the issuance of
     additional securities by such subsidiary or equity investee, are recognized
     as increases to or reductions of additional paid-in capital in the
     consolidated statements of stockholders' equity.

     Property and Equipment

     Property and equipment is stated at cost.  Upon acceptance by the Company
     of delivery of a satellite, the satellite is depreciated using the
     straight-line method over the estimated useful life of such satellite.

                                                                     (continued)

                                     II-21
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements


     The Company periodically reviews the carrying amount of its long-lived
     assets to determine whether current events or circumstances warrant
     adjustments to such carrying amounts. The Company considers historical and
     expected future net operating losses to be its primary indicators of
     potential impairment. Assets are grouped and evaluated for impairment at
     the lowest level for which there are identifiable cash flows that are
     largely independent of the cash flows of other groups of assets ("Assets").
     The Company deems Assets to be impaired if the Company is unable to recover
     the carrying value of its Assets over their expected remaining useful life
     through a forecast of undiscounted future operating cash flows directly
     related to the Assets. If Assets are deemed to be impaired, the loss is
     measured as the amount by which the carrying amount of the Assets exceeds
     their fair values. TSAT generally measures fair value by considering sales
     prices for similar assets or by discounting estimated future cash flows.
     Considerable management judgment is necessary to estimate discounted future
     cash flows. Accordingly, actual results could vary significantly from such
     estimates.

     Deferred Financing Costs

     Deferred financing costs are amortized over the term of the related loan
     facility.

     Revenue Recognition

     Programming and equipment rental revenue is recognized in the period that
     services are delivered. Installation revenue is recognized in the period
     the installation services are provided to the extent of direct selling
     costs. To date, direct selling costs have exceeded installation revenue.

     Advertising Costs

     Advertising costs generally are expensed as incurred.  Amounts expensed for
     advertising aggregated $5,066,000, $23,062,000 and $25,622,000 during 1998,
     1997 and 1996, respectively.

     Marketing and Direct Selling Costs

     Marketing and direct selling costs are expensed as incurred.  The excess
     cost of customer premises equipment over proceeds received upon sale of
     such equipment is recognized at the time of sale and is included in selling
     expense.

     Residual Sales Commissions

     Residual sales commissions, which become payable upon the collection of
     programming revenue from certain subscribers, are expensed during the
     period in which such commissions become payable.

     Stock Based Compensation

     The Company accounts for stock-based employee compensation using the
     intrinsic value method pursuant to Accounting Principles Board Opinion No.
     25.

                                                                     (continued)

                                     II-22
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

     Income Taxes

     TSAT accounts for its income taxes using the asset and liability method.
     Under the asset and liability method, deferred tax assets and liabilities
     are recognized for the estimated future tax consequences attributable to
     differences between the financial statement carrying amounts of existing
     assets and liabilities and their respective tax bases.  Deferred tax assets
     and liabilities are measured using enacted tax rates in effect for the year
     in which those temporary differences are expected to be recovered or
     settled.  The effect on deferred tax assets and liabilities of a change in
     tax rates is recognized in income in the period that includes the enactment
     date.

     Loss Per Common Share

     The loss per common share for the years ended December 31, 1998 and 1997 is
     based on 67,718,000 and  66,658,000 weighted average shares outstanding
     during the respective period. TSAT issued 66,408,000 shares of Company
     Common Stock pursuant to the Spin-off.  The loss per share amounts set
     forth in the accompanying statements of operations assume that the shares
     issued pursuant to the Spin-off were issued and outstanding since January
     1, 1996.  Accordingly, the calculation of the loss per share assumes
     weighted average shares outstanding of 66,408,000 for the year ended
     December 31, 1996.  Excluded from the computation of diluted EPS for the
     years ended December 31, 1998, 1997 and 1996 are options to acquire
     6,929,000, 7,894,000 and 591,000 weighted average shares of Series A Common
     Stock, respectively, because inclusion of such options would be anti-
     dilutive.

     Comprehensive Income (Loss)

     The Company's total comprehensive loss for all periods presented herein did
     not differ from those amounts reported as net loss in the consolidated
     statements of operations.

     Estimates

     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 at
     the date of the financial statements and the reported amounts of revenue
     and expenses during the reporting period. Actual results could differ from
     those estimates.

(7)  Supplemental Disclosures to Statements of Cash Flows
     ----------------------------------------------------

     Cash paid for interest was $13,844,000, $20,224,000 and $1,946,000 during
     the years ended December 31, 1998, 1997 and 1996.  Cash paid for income
     taxes was not material during the years ended December 31, 1998, 1997 and
     1996.

                                                                     (continued)

                                     II-23
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

     Significant non-cash investing and financing activities for the year ended
     December 31 1998 are as follows (amounts in thousands):

<TABLE>
<S>                                                                             <C>
     Contribution of operating assets and liabilities   to subsidiary in
      Restructuring                                                                      $ 68,796
                                                                                         ========
 
     Increase in equity due to issuance of stock by   subsidiary in Restructuring
                                                                                         $299,046
                                                                                         ========
</TABLE>

 Transactions effected through the intercompany account with TCIC for periods
 prior to the Spin-off have been considered to be constructive cash receipts and
 payments for purposes of the accompanying statements of cash flows.

 The non-cash effects of the Spin-off are set forth in the accompanying
 statements of equity.

 Accounts payable include accrued capital expenditures of $35,645,000 and
 $7,713,000 at December 31, 1997 and 1996, respectively, which have been
 excluded from the accompanying statements of cash flows .

(8)   Investment in PRIMESTAR, Inc.
      -----------------------------

 As a result of the Restructuring, PRIMESTAR owns and operates the PRIMESTAR(R)
 direct to home satellite service throughout the continental U.S.

 Summarized unaudited financial information for PRIMESTAR is as follows:

<TABLE>
<CAPTION>
                                                                                     December 31,
                                                                   -------------------------------------------------
                                                                             1998                     1997
                                                                   ------------------------  -----------------------
                                                                                amounts in thousands
<S>                                                                <C>                       <C>
                                                                                  
Financial Position
------------------
Current assets                                                                  $  143,567                    42,425
Property and equipment, net                                                      1,148,590                 1,121,937
Intangible assets, net                                                             786,373                        --
Other assets, net                                                                   33,557                    40,494
                                                                                ----------                 ---------
 
   Total assets                                                                 $2,112,087                 1,204,856
                                                                                ==========                 =========
 
Current liabilities                                                             $  448,514                   180,051
Debt                                                                             1,833,195                   418,729
Deferred income taxes                                                               75,057                        --
Other liabilities                                                                   40,095                   469,807
Stockholders' equity (deficit)                                                    (284,774)                  136,269
                                                                                ----------                 ---------
 
   Total liabilities and stockholders' equity (deficit)                         $2,112,087                 1,204,856
                                                                                ==========                 =========
</TABLE>

                                                                     (continued)

                                     II-24
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

<TABLE>
<CAPTION>
                                                                            Year ended December 31,
                                                         -------------------------------------------------------------
                                                                1998                 1997                 1996
                                                         -------------------  -------------------  -------------------
                                                                              amounts in thousands
<S>                                                      <C>                  <C>                  <C>
Results of Operations
---------------------
Revenue                                                         $ 1,289,666              561,990              417,461
 
Operating, selling, general and administrative
 expenses                                                        (1,133,834)            (489,947)            (410,390)
Impairment of long-lived assets                                    (950,289)                  --                   --
Depreciation and amortization                                      (543,087)            (243,642)            (191,355)
                                                                -----------             --------             --------
 
   Operating loss                                                (1,337,544)            (171,599)            (184,284)
 
Interest expense                                                   (145,939)             (47,992)              (2,023)
Other, net                                                           (7,749)             (18,750)                 366
Income tax benefit                                                  147,528                   --               45,937
                                                                -----------             --------             --------
 
   Net loss                                                     $(1,343,704)            (238,341)            (140,004)
                                                                ===========             ========             ========
</TABLE>

(9)  Satellites
---  ----------
 
     Tempo DBS System

     The Company, through Tempo, holds the FCC Permit authorizing construction
     of a high power DBS system consisting of two or more satellites delivering
     DBS service in 11 frequencies at the 119 degrees W.L. orbital position.

     Tempo is also a party to the Satellite Construction Agreement with Loral,
     pursuant to which Tempo has arranged for the construction of the Tempo
     Satellites at a fixed contract price of $487,159,500, and has an option to
     purchase up to three additional satellites.

     Tempo DBS-1 was launched into geosynchronous orbit on March 8, 1997. During
     1997, Loral notified TSAT of nine separate occurrences of power reductions
     on Tempo DBS-1. In addition, Loral notified TSAT of two additional, power
     reductions that occurred on March 29, 1999 and April 2, 1999. TSAT does not
     currently know the extent of such power reductions, and cannot confirm the
     precise causes thereof; however, such reductions could eventually affect
     the proposed operation of Tempo DBS-1, either alone or together with other
     events that may arise during the expected life of the satellite. As a
     result of such power reductions, in-orbit testing has been extended and
     Tempo DBS-1 has not yet been accepted. Pursuant to the Satellite
     Construction Agreement, Loral bears the risk of loss of the Tempo
     Satellites until Tempo accepts delivery of the Tempo Satellites. TSAT
     currently believes that Tempo DBS-1 may not fully comply with
     specifications, but has not yet determined the extent of any such non-
     compliance. Tempo and Loral are currently engaged in negotiations regarding
     this matter, including the timing, extent and methodology of any further
     tests to be conducted and the terms of any monetary settlement with respect
     to the satellite to which Tempo may be entitled under the Satellite
     Construction Agreement. Certain launch defects or damages affecting Tempo
     DBS-1 could cause a substantial monetary loss to TSAT.

                                                                     (continued)

                                     II-25
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

     Under the FCC Permit, the time by which the Tempo Satellites must be
     operational was due to expire in May 1998.  On April 3, 1998, Tempo filed a
     request with the FCC for an extension of that deadline pending FCC review
     of TSAT's request for consent to the transfer of control of Tempo to
     PRIMESTAR (the "Transfer Application") should the FCC determine that an
     extension is necessary for Tempo to maintain its FCC authorizations at 119
     degrees W.L. and 166 degrees W.L.

     On April 30, 1998, the FCC determined that Tempo's satellite at 119 W.L.
     was not operational.  It did find, however, that an extension of time was
     warranted for that orbital location and granted an extension to Tempo for
     119 W.L.  Such extension was granted until six months after the FCC
     determination on the Transfer Application, with the condition that Tempo
     not enter into a lease agreement with PRIMESTAR or any similar lease
     arrangement prior to the FCC's decision on the Transfer Application.  In
     addition, Tempo voluntarily surrendered its permit for 166 W.L.

     On November 25, 1998, Tempo and PRIMESTAR requested expedited action by the
     FCC on the Transfer Application.  Several parties filed responses to that
     request, objecting to the proposed transfer.  PRIMESTAR and Tempo filed a
     joint reply to those objections.  On January 27, 1999, Tempo filed a joint
     application with DIRECTV Enterprises, Inc. seeking FCC approval to assign
     Tempo's DBS authorization to DIRECTV ("DIRECTV Application").  In addition,
     Tempo and PRIMESTAR jointly filed a letter seeking to maintain the status
     quo with respect to the Transfer Application until the FCC decides the
     DIRECTV Application.  Therefore, Tempo and PRIMESTAR requested that the
     Transfer Application be held in abeyance and, subject to and
     contemporaneously with approval of the DIRECTV Application, that the FCC
     dismiss the Transfer Application.

     Upon delivery of each of the Tempo Satellites, Tempo is obligated to make a
     $10 million incentive payment to Loral.  Tempo is eligible to receive a pro
     rata warranty payback of each such incentive payment to the extent that
     transponder failures occur during the twelve-year period following
     delivery.  Satellite incentive payments and any related warranty paybacks
     are treated as adjustments of the cost of the applicable Tempo Satellite.

                                                                     (continued)

                                     II-26
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

     Tempo Capacity Option

     In February 1990, Tempo entered into an option agreement (the "Tempo Option
     Agreement") with PRIMESTAR Partners granting PRIMESTAR Partners the right
     and option (the "Tempo Capacity Option"), upon exercise, to purchase or
     lease 100% of the capacity of the DBS system to be built, launched and
     operated by Tempo pursuant to the FCC Permit. Under the Tempo Option
     Agreement, upon the exercise of the Tempo Capacity Option, PRIMESTAR
     Partners was obligated to pay Tempo $1,000,000 (the "Exercise Fee") and to
     lease or purchase the entire capacity of the DBS system with the purchase
     price (or aggregate lease payments) being sufficient to cover the costs of
     constructing, launching and operating such DBS system. In connection with
     the Tempo Capacity Option and certain related matters, Tempo and PRIMESTAR
     Partners subsequently entered into two letter agreements (the "Tempo Letter
     Agreements"), which provided for, among other things, the funding by
     PRIMESTAR Partners of milestone and other payments due under the Satellite
     Construction Agreement, and certain related costs, through advances by
     PRIMESTAR Partners to Tempo (the "PRIMESTAR Advances"). The PRIMESTAR
     Advances aggregated $469,498,000 at December 31, 1998 and are reflected in
     due to PRIMESTAR, Inc. in the accompanying consolidated balance sheets.

     On February 7, 1997, the Partners Committee of PRIMESTAR Partners adopted a
     resolution (i) affirming that PRIMESTAR Partners had unconditionally
     exercised the Tempo Capacity Option, (ii) approving the proposed launch of
     Tempo DBS-1 into the 119 degrees W.L. orbital position and the use of Tempo
     DBS-2 as a spare or back-up for Tempo DBS-1, pending other deployment or
     disposition as determined by PRIMESTAR Partners, and (iii) authorizing the
     payment by PRIMESTAR Partners to Tempo of the Exercise Fee and other
     amounts in connection with the Tempo Capacity Option and the Tempo Letter
     Agreements, including funding of substantially all construction and related
     costs relating to the Tempo Satellites not previously funded by PRIMESTAR
     Partners.

     The Tempo Letter Agreements permit PRIMESTAR Partners to apply its advances
     to Tempo against any payments (other than the Exercise Fee) due under the
     Tempo Capacity Option with respect to its purchase or lease of satellite
     capacity. Although TSAT and PRIMESTAR Partners have not entered into an
     agreement with respect to the purchase or lease of 100% of the capacity of
     the proposed Tempo DBS system pursuant to the Tempo Capacity Option, TSAT
     believes that its obligations to PRIMESTAR Partners with respect to such
     advances will be satisfied in connection with the completion of such
     purchase or lease, including the Hughes High Power Transaction. However, if
     notwithstanding the exercise of the Tempo Capacity Option such purchase or
     lease of satellite capacity is not completed, TSAT believes that
     alternative courses of action are available that would allow TSAT to
     recover its costs of constructing the Tempo Satellites.

     In connection with the Hughes High Power Transaction, Hughes has agreed to
     assume, and to satisfy and discharge, $465 million of Tempo's obligation to
     PRIMESTAR Partners for the PRIMESTAR Advances, and PRIMESTAR
     Partners has agreed to forgive the remaining balance. In addition,
     PRIMESTAR has agreed to terminate its rights under the Tempo Capacity
     Option.
                                                                     (continued)

                                     II-27
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements


(10) Stockholders' Equity
     --------------------

     Common Stock

     The Series A Common Stock has one vote per share and the Series B Common
     Stock has ten votes per share.  Each share of Series B Common Stock is
     convertible, at the option of the holder, into one share of Series A Common
     Stock.

     Preferred Stock

     TSAT is authorized to issue 5,000,000 shares of Preferred Stock.  The
     Preferred Stock may be issued from time to time as determined by the Board
     of Directors, without stockholder approval.  Such Preferred Stock may be
     issued in such series and with such designations, preferences, conversion
     or other rights, voting powers, qualifications, limitations, or
     restrictions as shall be stated or expressed in a resolution or resolutions
     providing for the issue of such series adopted by the Company's Board of
     Directors (the "TSAT Board").  The TSAT Board has not authorized the
     issuance of any shares of Preferred Stock and has no current plans for the
     issuance of any shares of Preferred Stock.

     Employee Retirement Plan

     TSAT's Employee Stock Purchase Plan (the "TSAT ESPP") became effective on
     January 1, 1997 and was merged into PRIMESTAR Partners' retirement plan in
     connection with the Restructuring.  The TSAT Plan provided eligible
     employees with an opportunity to invest in TSAT and to create a retirement
     fund.  Terms of the TSAT ESPP provided for eligible employees to contribute
     up to 10% of their compensation to a trust for investment in TSAT common
     stock.  TSAT, by annual resolution of the TSAT Board, could elect to
     contribute up to 100% of the amount contributed by employees.  TSAT
     contributions to the TSAT ESPP aggregated $317,000 and $1,200,000 for 1998
     and 1997.

     Stock Options

     On the Spin-off Date, the TSAT Board adopted, and TCI as the sole
     stockholder of the Company prior to the Spin-off, approved, the TCI
     Satellite Entertainment, Inc. 1996 Stock Incentive Plan (the "TSAT 1996
     Plan").  The TSAT 1996 Plan provides for awards to be made in respect of a
     maximum of 3,200,000 shares of Series A Common Stock (subject to certain
     anti-dilution adjustments).  Awards may be made as grants of stock options,
     stock appreciation rights ("SARs"), restricted shares, stock units,
     performance awards or any combination thereof (collectively, "Awards").
     Awards may be made to employees and to consultants and advisors to the
     Company who are not employees.  Shares of Series A Common Stock that are
     subject to Awards that expire, terminate or are annulled for any reason
     without having been exercised (or deemed exercised, by virtue of the
     exercise of a related SAR), or are forfeited prior to becoming vested, will
     return to the pool of such shares available for grant under the TSAT 1996
     Plan.  Options granted pursuant to the TSAT 1996 Plan vest evenly over five
     years from the date of grant and expire 10 years from the date of grant.

                                                                     (continued)

                                     II-28
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

     In June 1996, the Board of Directors of TCI (the "TCI Board") authorized
     TCI to permit certain of its executive officers to acquire equity interests
     in certain of TCI's subsidiaries.  In connection therewith, the TCI Board
     approved the acquisition by each of two executive officers of TCI who are
     not employees of the Company (the "TCI Officers"), of 1.0% of the net
     equity of the Company.  The TCI Board also approved the acquisition by the
     chief executive officer and a director of the Company (the "Company
     Officer"), of 1.0% of the net equity of the Company and the acquisition by
     an executive officer of certain TCI subsidiaries who is also a director,
     but not an employee, of the Company (the "TCI Subsidiary Officer"), of 0.5%
     of the net equity of the Company.  The TCI Board determined to structure
     such transactions as grants by the Company to such persons of options to
     purchase shares of Series A Common Stock representing 1.0% (in the case of
     each of the TCI Officers and the Company Officer) and 0.5% (in the case of
     the TCI Subsidiary Officer) of the shares of Series A Common Stock and
     Series B Common Stock issued and outstanding on the Spin-off Date,
     determined immediately after giving effect to the Spin-off, but before
     giving effect to any exercise of such options (the "Spin-off Date
     Options").

     Spin-off Date Options to purchase 2,324,266 shares of Series A Common Stock
     at a per share price of $8.86 were granted on the Spin-off Date.  As
     originally granted, the Spin-off Date options were to vest in 20%
     cumulative increments on each of the first five anniversaries of February
     1, 1996, and were to be exercisable for up to ten years following February
     1, 1996.  In November 1997, the TSAT Board approved modifications to the
     vesting provisions of the Spin-off Date Options accelerating the vesting
     schedule such that the Spin-off Date Options will be two-thirds vested in
     February 1999 and fully vested in February 2000.  Compensation expense with
     respect to the Spin-off Date Options held by the Company Officer aggregated
     $621,000, $1,101,000 and $95,000 during the years ended December 31, 1998,
     1997 and 1996, respectively.

     Pursuant to the Reorganization Agreement, and (in the case of the TCI
     Officers and the TCI Subsidiary Officer) in partial consideration for the
     capital contribution made by TCI to the Company in connection with the
     Spin-off, the Company agreed, effective as of the Spin-off Date, to bear
     all obligations under such options and to enter into stock option
     agreements with respect to such options with each of the TCI Officers, the
     Company Officer and the TCI Subsidiary Officer

                                                                     (continued)

                                     II-29
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

     On March 6, 1998, stockholders of the Company approved the TCI Satellite
     Entertainment, Inc. 1997 Nonemployee Director Stock Option Plan (the "TSAT
     DSOP") including the grant, effective as of February 3, 1997, to each
     person that as of that date was a member of the TSAT Board and was not an
     employee of the Company or any of its subsidiaries, of options to purchase
     50,000 shares of Series A Common Stock.  Pursuant to the TSAT DSOP, options
     to purchase 200,000 shares of Series A Common Stock were granted at an
     exercise price of $8.00 per share.  As originally granted, options issued
     pursuant to the TSAT DSOP vest and become exercisable over a five-year
     period from the date of grant and expire 10 years from the date of grant.
     In November 1997, the TSAT Board approved modifications to the vesting
     provisions to provide for vesting in three annual installments, commencing
     February 1998.  In November 1997, the TSAT Board also voted to increase the
     number of directors by one, and the director named to fill such newly
     created directorship received options to purchase 50,000 shares of Series A
     Common Stock at an exercise price of $6.50.

     The Company applies Accounting Principles Board Opinion No. 25 in
     accounting for its stock options, and accordingly, compensation expense has
     been recognized for its stock options in the accompanying financial
     statements using the intrinsic value method.  Had the Company determined
     compensation expense based on the grant-date fair value method pursuant to
     Statement of Financial Accounting Standards No. 123, the Company's net loss
     and loss per share would have been $447,012,000 and $6.60 for 1998,
     $240,384,000 and $3.61 for 1997 and would not have been significantly
     different than the amounts reported for 1996.

                                                                     (continued)

                                     II-30
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

     The following table presents the number, weighted-average exercise price
     and weighted-average grant-date fair value of options to buy Series A
     Common Stock.
 
<TABLE>
<CAPTION>
                                                                        Weighted-            Weighted-
                                                                         average              average
                                                   Number of            exercise            grant-date
                                                    options               price             fair value
                                              -------------------  -------------------  -------------------
 
<S>                                           <C>                  <C>                  <C>
Granted in connection with Spin-off
                                                        2,324,266                $8.86                $8.74
                                                        ---------
 
Outstanding at December 31, 1996                        2,324,266
 
   Granted in 1997                                      1,070,000                 7.93                 4.77
                                                        ---------
 
Outstanding at December 31, 1997 and 1998               3,394,266                 8.57
                                                        =========
 
Exercisable at December 31, 1996                               --
                                                        =========
 
Exercisable at December 31, 1997                          464,853                 8.86
                                                        =========
 
Exercisable at December 31, 1998                        1,241,706                 8.64
                                                        =========
</TABLE>

As originally granted, options granted to employees vest evenly over five years
with such vesting period beginning January 1, 1997, first become exercisable on
January 1, 1998 and expire on December 31, 2006. In November 1997, the TSAT
Board approved modifications to the vesting provisions to provide for vesting in
three equal annual installments, commencing February 1998.

Options outstanding at December 31, 1998 have a range of exercise prices from
$6.50 to $8.86 and a weighted-average remaining contractual life of
approximately eight years.

The respective estimated grant-date fair values of the options noted above are
based on the Black-Scholes model and are stated in current annualized dollars on
a present value basis. The key assumptions used in the model for purposes of
these calculations include the following: (a) a discount rate equal to the 10-
year Treasure rate on the date of grant; (b) a 35% volatility rate; (c) the 10-
year option term; (d) the closing price of the Series A Common Stock on the date
of grant; and (e) an expected dividend rate of zero.

                                                                     (continued)

                                     II-31
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

     In February 1997, certain key employees of the Company were granted,
     pursuant to the TSAT 1996 Plan, an aggregate of 325,000 restricted shares
     of Series A Common Stock. As originally granted, such restricted shares
     vest as to 50% on January 1, 2001 and as to the remaining 50% on January 1,
     2002. In November 1997, the TSAT Board approved modifications to the
     vesting provisions accelerating the vesting schedules under such restricted
     stock awards to provide for vesting of 50% on each of the second and third
     anniversaries of the date of granting. Compensation expense with respect to
     the restricted shares aggregated $434,000 and $585,000 during the years
     ended December 31, 1998 and 1997, respectively.

     Other

     Pursuant to the Reorganization Agreement, the Company granted to TCI an
     option to purchase up to 4,765,000 shares of Series A Common Stock, at an
     exercise price of $1.00 per share, as required by TCI from time to time to
     meet its obligations under the conversion features of certain convertible
     securities of TCI as such conversion features were adjusted as a result of
     the Spin-off. During 1998 and 1997, TCI purchased 991,000 shares and
     258,000 shares, respectively, of Series A Common Stock pursuant to such
     option.

     In connection with the Spin-off, TCI and the Company also entered into a
     "Share Purchase Agreement" to sell to each other from time to time, at the
     then current market price, shares of Series A TCI Group Stock and Series A
     Common Stock, respectively, as necessary to satisfy their respective
     obligations after the Spin-off Date under certain stock options and SARs
     held by their respective employees and non-employee directors.

     At December 31, 1998, a total of 8,790,209 shares of Series A Common Stock
     were reserved for issuance pursuant to the Spin-off Date Options, the Share
     Purchase Agreements, the Reorganization Agreement, the TSAT 1996 Plan and
     the TSAT DSOP. In addition, one share of Series A Common Stock is reserved
     for each outstanding share of Series B Common Stock.

(11) Income Taxes
     ------------

     Through the Spin-off Date, TSAT's results of operations were included in
     TCI's consolidated U.S. Federal income tax returns, in accordance with the
     existing tax sharing arrangements among TCI and its consolidated
     subsidiaries.  Effective July 1, 1995,  TCI, TCIC and certain other
     subsidiaries of TCI entered into a tax sharing agreement (the "Tax Sharing
     Agreement"), which formalized such pre-existing tax sharing arrangements
     and implemented additional provisions regarding the allocation of certain
     consolidated income tax attributes and the settlement procedures with
     respect to the intercompany allocation of current tax attributes.  In
     connection with the Spin-off, the Tax Sharing Agreement was amended to
     provide that TSAT be treated as if it had been a party to the Tax Sharing
     Agreement, effective July 1, 1995. TSAT's intercompany income tax
     allocation through the Spin-off Date has been calculated in accordance with
     the Tax Sharing Agreement.  Subsequent to the Spin-off Date, TSAT files
     separate U.S. Federal and state income tax returns.

                                                                     (continued)

                                     II-32
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

     In connection with the Restructuring, TSAT and TCI entered into a tax
     sharing agreement dated June 1997, to confirm that pursuant to the amended
     Tax Sharing Agreement (i) neither TSAT nor any of its subsidiaries has any
     obligation to indemnify TCI or the TCI shareholders for any tax resulting
     from the Spin-off failing to qualify as a tax-free distribution pursuant to
     Section 355 of the Internal Revenue Code of 1986 (the "Code"); (ii) TCI is
     obligated to indemnify TSAT and its subsidiaries for any taxes resulting
     from the Spin-off failing to qualify as a tax-free distribution pursuant to
     Section 355 of the Code; (iii) to the best knowledge of TCI, TSAT's total
     payment obligation under the Tax Sharing Agreement could not reasonably be
     expected to exceed $5 million; and (iv) the sole agreement between TCI and
     TSAT or any of its subsidiaries relating to taxes is the Tax Sharing
     Agreement.

     TSAT recognized no income tax benefit during either of the years ended
     December 31, 1998 and 1997.  As a result of the Spin-off, TSAT is no longer
     a part of the TCI consolidated tax group, and accordingly, is only able to
     realize income tax benefits for financial reporting purposes to the extent
     that such benefits offset TSAT's income tax liabilities or TSAT generates
     taxable income.  For financial reporting purposes, all of TSAT's income tax
     liabilities had been fully offset by income tax benefits at December 31,
     1998 and 1997.  Additionally, during the foreseeable future, TSAT believes
     that it will incur net losses for income tax purposes, and accordingly,
     will not be in a position to realize income tax benefits on a current
     basis.

     Income tax benefit (expense) for the year ended December 31, 1996 consists
          of:

<TABLE>
<CAPTION>
                                                            Current           Deferred             Total
                                                        ----------------  -----------------  -----------------
                                                                         amounts in thousands
<S>                                                     <C>               <C>                <C>             
Year ended December 31, 1996:
 Intercompany allocation                                         $70,645                --             70,645
 Federal                                                              --           (17,699)           (17,699)
 State and local                                                      --            (7,009)            (7,009)
                                                                 -------           -------            -------
                                                                 $70,645           (24,708)            45,937
                                                                 =======           =======            =======
</TABLE>

Income tax benefit (expense) differs from the amounts computed by applying the
Federal income tax rate of 35% as a result of the following (amounts in
thousands):

<TABLE>
<CAPTION>
                                                                       Years ended December 31
                                                       -------------------------------------------------------
                                                             1998               1997               1996
                                                       -----------------  -----------------  -----------------
                                                                        amounts in thousands
<S>                                                    <C>                <C>                <C>    
Computed "expected" tax benefit                               $ 155,843             83,419             65,079
State and local income taxes, net
 of Federal income tax benefit                                       --             13,009             (2,672)
Issuance of common stock by   subsidiary                       (104,666)                --                 --
Change in valuation allowance                                   (51,736)           (98,521)           (16,371)
Other                                                               559              2,093                (99)
                                                              ---------            -------            -------
                                                              $      --                 --             45,937
                                                              =========            =======            =======
</TABLE>

                                                                     (continued)

                                     II-33
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

The tax effects of temporary differences that give rise to significant portions
of the deferred tax assets and deferred tax liabilities at December 31, 1998 and
1997 are presented below:

<TABLE>
<CAPTION>
                                                                                 December 31,
                                                                   ----------------------------------------
                                                                          1998                 1997
                                                                   -------------------  -------------------
                                                                            amounts in thousands
<S>                                                                <C>                  <C> 
Deferred tax assets:
 Net operating loss carry forwards                                          $ 152,468              133,024
 Investment in PRIMESTAR, principally due to losses
  recognized for financial statement purposes in excess of
  losses recognized for tax purposes                                           15,827                   --
 Investment in PRIMESTAR Partners:
   Due to an increase in tax basis upon transfer from
    TCIC to the Company                                                            --               29,305
   Due principally to losses recognized for financial
    statement purposes in excess of losses recognized for
    tax purposes                                                                   --                2,671
 Future deductible amounts principally due to accruals
  deductible in later periods                                                      --                5,028
                                                                            ---------             --------
 Total deferred tax assets                                                    168,295              170,028
   Less-valuation allowance                                                  (166,628)            (114,892)
                                                                            ---------             --------
 Net deferred tax assets                                                        1,667               55,136
Deferred tax liability-
 Property and equipment, principally due to differences in
  depreciation net of increase in tax basis resulting from
  intercompany transfer                                                            --               55,136
 Other                                                                          1,667                   --
                                                                            ---------             --------
Net deferred tax liability                                                  $      --                   --
                                                                            =========             ========
</TABLE>

 Immediately prior to the Spin-off, the investment in PRIMESTAR Partners was
 transferred from TCIC to the Company. Such transfer, which resulted in an
 increased tax basis for the investment in PRIMESTAR Partners, was recorded at
 TCIC's carryover basis for financial reporting purposes. In connection with
 such transfer, the Company recorded a $29,142,000 non-cash increase to the
 intercompany account owed to TCIC and $29,142,000 non-cash decrease to the
 Company's deferred tax liability.

 The valuation allowance for deferred tax assets as of December 31, 1998 was
 $166,628,000.  Such balance increased $51,736,000 from December 31, 1997.

 The Company has analyzed the sources and expected reversal periods of its
 deferred tax assets. The Company believes that the tax benefits attributable to
 deductible temporary differences will be realized to the extent of future
 reversals of existing taxable temporary differences.

                                                                     (continued)

                                     II-34
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

     At December 31, 1998, the Company had net operating loss carry forwards for
     income tax purposes aggregating approximately $398,609,000 of which, if not
     utilized to reduce taxable income in future periods, $526,000 expire in
     2006, $13,967,000 expire in 2010, $55,145,000 expire in 2011, $258,347,000
     expire in 2012 and $70,624,000 expire in 2018.

(12) Transactions with Related Parties
     ---------------------------------

     Pursuant to the terms of the TSAT Merger Agreement, PRIMESTAR reimbursed
     TSAT for all reasonable costs and expenses incurred by TSAT (i) to comply
     with its tax and financial reporting obligations, (ii) to maintain certain
     insurance coverage and (iii) to maintain its status as a publicly traded
     company.  During the year ended December 31, 1998, such reimbursements
     aggregated $152,000.  The effects of such reimbursements have been
     reflected as a reduction of TSAT's investment in PRIMESTAR.

     In addition, PRIMESTAR makes advances to TSAT for the payment of certain
     costs related to the Tempo Satellite and the proposed high power strategy.
     Such advances aggregated $6,365,000 during 1998, and are included in due to
     PRIMESTAR in the accompanying consolidated balance sheets.

     Certain former employees of TSAT, who are now employees of PRIMESTAR, hold
     stock options, stock options with tandem stock appreciation rights, and
     restricted shares of TSAT (collectively, the "TSAT Options").  Subsequent
     to the Restructuring, compensation expense related to the TSAT Options
     aggregated $1,541,000 and has been reflected as an increase in TSAT's
     investment in PRIMESTAR in the accompanying consolidated financial
     statements.

     Prior to the Restructuring, PRIMESTAR Partners provided programming
     services to the Company and other authorized distributors in exchange for a
     fee based upon the number of subscribers receiving programming services.
     In addition, PRIMESTAR Partners arranged for satellite capacity and uplink
     services, and provided national marketing  and administrative support
     services in exchange for a separate authorization fee.

     Through December 31, 1996, TCIC provided certain installation, maintenance,
     retrieval and other customer fulfillment services to the Company. The costs
     associated with such services were allocated to the Company based upon a
     standard charge for each of the various customer fulfillment activities
     performed by TCIC. During the year ended December 31, 1996, the Company's
     capitalized installation costs included amounts allocated from TCIC of
     $53,169,000.  Maintenance, retrieval and other operating expenses allocated
     from TCIC to the Company aggregated $20,365,000 during the year ended
     December 31, 1996.

                                                                     (continued)

                                     II-35
<PAGE>
 
              TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES  

                  Notes to Consolidated Financial Statements

     Effective January 1, 1997, charges for customer fulfillment services
     provided by TCI were made pursuant to the Fulfillment Agreement entered
     into by the Company and TCIC in connection with the Spin-off.  Pursuant to
     the Fulfillment Agreement, TCIC continued to provide fulfillment services
     on an exclusive basis to the Company following the Spin-off with respect to
     customers of the PRIMESTAR(R) medium power service. Such services were
     performed in accordance with specified performance standards.  Charges to
     TSAT pursuant to the Fulfillment Agreement aggregated $54,823,000 during
     1997, of which $46,498,000 were capitalized installation costs.  The
     Fulfillment Agreement terminated on December 31, 1997.

     TCIC also provided corporate administrative services to the Company.
     Through the Spin-off Date, such administrative expenses, which were
     allocated from TCIC to the Company based primarily on the estimated cost of
     providing the service aggregated $18,120,000 during the year ended December
     31, 1996.

     Effective on the Spin-off Date, charges for administrative services
     provided by TCIC were made pursuant to the Transition Services Agreement.
     Pursuant to the Transition Services Agreement, TCI was obligated to provide
     to the Company certain services and other benefits.  As compensation for
     the services rendered and for the benefits made available to the Company
     pursuant to the Transition Services Agreement, the Company was required to
     pay TCI a monthly fee of $1.50 per qualified subscribing household or other
     residential or commercial unit (counted as one subscriber regardless of the
     number of satellite receivers), up to a maximum of $3,000,000 per month,
     and to reimburse TCI quarterly for direct, out-of-pocket expenses incurred
     by TCI to third parties in providing the services.  Amounts charged to TSAT
     pursuant to the Transition Services Agreement aggregated $3,174,000 and
     $11,579,000 for the years ended December 31, 1998 and 1997, respectively,
     and are included in selling, general and administrative expenses in the
     accompanying consolidated statements of operations.  Upon consummation of
     the Restructuring, TSAT and TCI agreed to terminate the Transition Services
     Agreement.

     Beginning in March 1997, and through the Closing Date, TCIC provided TSAT
     with customer support services from TCIC's Boise, Idaho call center.
     Amounts charged by TCIC to TSAT for such services aggregated $5,026,000 and
     $12,173,000 during the years ended December 31, 1998 and 1997,
     respectively, and are included in selling, general and administrative
     expenses in the accompanying consolidated statements of operations.

     Certain key employees of the Company hold stock options in tandem with SARs
     with respect to certain common stock of TCI.  In connection with the Spin-
     off, the Company assumed the stock compensation liability with respect to
     such TCI options and SARs.  Estimates of the compensation related to the
     options and/or SARs granted to employees of the Company have been recorded
     in the accompanying financial statements, but are subject to future
     adjustment based upon the market value of the underlying TCI common stock
     and, ultimately, on the final determination of market value when the rights
     are exercised. Non-cash increases (decreases) to such estimated stock
     compensation liability, which are included in the above-described TCIC
     administrative expense allocations, aggregated $(541,000) during the year
     ended December 31, 1996.  In 1998 and 1997, the Company recognized
     $3,814,000 and $6,134,000, respectively, of stock compensation expense
     related to the aforementioned options with tandem SARs.

                                     II-36
<PAGE>
 
                                   PART III.

Item 10.  Directors and Executive Officers of the Registrant.
--------  -------------------------------------------------- 

     The following lists the directors and executive officers of the Company,
their birth dates, a description of their business experience and positions held
with the Company, as of February 1, 1999.


           Name                                 Position
           ----                                 --------
 
John C. Malone             Has served as Chairman of the Board and a director of
Born March 7, 1941         the Company since December 1996. Has served as Chief
                           Executive Officer of TCI since January 1994, and as
                           Chairman of the Board of TCI since November 1996. Dr.
                           Malone served as President of TCI from January 1994
                           to March 1997, as Chief Executive Officer of TCIC
                           from March 1992 to October 1994 and as President of
                           TCIC from 1973 to October 1994. Dr. Malone has also
                           served as Chairman of the Board and as a director of
                           Tele-Communications International, Inc. since May
                           1995. Dr. Malone is also a director of TCI, TCIC, TCI
                           Pacific Communications, Inc., The Bank of New York,
                           At Home Corporation, Lenfest Communications, Inc.,
                           Cablevision Systems Corporation and PRIMESTAR.
                            

Gary S. Howard             Has served as Chief Executive Officer of the Company
Born February 22, 1951     since December 1996 and a director of the Company
                           since November 1996. From February 1995 through
                           August 1997, Mr. Howard also served as President of
                           the Company. Mr. Howard is also currently an
                           executive officer of TCI and various subsidiaries of
                           TCI. Mr. Howard served as Senior Vice President of
                           TCIC from October 1994 to December 1996, and as Vice
                           President of TCIC from December 1991 through October
                           1994. Mr. Howard is also a director of United Video
                           Satellite Group, Inc. ("UVSG"), Telewest
                           Communications plc and PRIMESTAR.
                           

David P. Beddow            Has served as a director of the Company since
Born December 27, 1943     December 1996. Mr. Beddow has served as Executive
                           Vice President of TCIC and President and Chief
                           Executive Officer of NDTC since August 1998. Prior to
                           August 1998, Mr. Beddow served as Senior Vice
                           President of TCITV and NDTC since February 1995. Mr.
                           Beddow served as Vice President of TCI Technology,
                           Inc. from June 1993 to February 1995.
 

William E. Johnson         Has served as a director of the Company since
Born June 23, 1941         December 1996. Mr. Johnson served as Chief Executive
                           Officer of Scientific Atlanta, Inc. from January 1987
                           until his retirement in December 1992. Mr. Johnson
                           served as a director of Intelligent Electronic, Inc.
                           from November 1994 to 1998 and as a director of ATX,
                           Inc. since January 1993.
                           



                                     III-1
<PAGE>
 
            Name                        Position
            ----                        --------
 
John W. Goddard              Has served as a director of the Company since 
Born May 4, 1941             December 1996. Mr. Goddard served as President and
                             Chief Executive Officer of the cable division of
                             Viacom International, Inc. from 1980 until his
                             retirement in July 1996. Mr. Goddard is also a
                             director of Diva Systems Corporations and
                             PRIMESTAR.
 
 
Leo J. Hindery, Jr.          Has served as a director of the Company since 
Born October 31, 1947        November 1997. Mr. Hindery has served a President
                             and Chief Operating Officer of TCI, and as
                             President and a director of TCIC, since March 1997.
                             Prior to joining TCI, Mr. Hindery was the founder,
                             Managing General Partner and Chief Executive
                             Officer of InterMedia Partners and its affiliated
                             entities since 1988. Mr. Hindery is also a director
                             of Cablevision Systems Corporation, USA Networks
                             and PRIMESTAR.

Christopher Sophinos         Has served as President of the Company since 
Born January 26, 1952        September 1997, and was previously Senior Vice
                             President of the Company from February 1996. Mr.
                             Sophinos served as the President of Boats Unlimited
                             from November 1993 to September 1998 and has served
                             as a director of Sophinos & Sons, Inc. since
                             November 1993.
                                      
Kenneth G. Carroll           Has served as Senior Vice President and Chief 
Born April 21, 1955          Financial Officer of the Company since February
                             1995. From December 1994 to May 1997, Mr. Carroll
                             served as Vice President of TCI K-1, Inc. and as
                             Vice President of United Artists K-1 Investments,
                             Inc. From April 1994 through January 1995, Mr.
                             Carroll served as Vice President of Business
                             Operations and Chief Financial Officer of Netlink
                             USA, a subsidiary of TCI and from July 1992 to May
                             1994, Mr. Carroll served as Senior Director of
                             Finance and Business Operations of Netlink.
                              
William D. Myers             Has served as Vice President and Treasurer of the 
Born March 23, 1958          Company since September 1996. Mr. Myers served as
                             Vice President of TCI Cable Management Corporation
                             from November 1994 through August 1996. Mr. Myers
                             served as Director of Finance of TCI from December
                             1991 to November 1994.
                             

          The directors of the Company will hold office until the next annual
meeting of stockholders of the Company and until their successors are duly
elected and qualified. The executive officers named above will be elected to
serve in such capacities until the next annual meeting of the Company's Board of
Directors (the "TSAT Board"), or until their respective successors have been
duly elected and have been qualified, or until their earlier death, resignation,
disqualification or removal from office.


                                     III-2
<PAGE>
 
     The Company's charter provides for a classified Board of Directors of not
less than three members, divided into three classes of approximately equal size,
with each class to be elected for a three-year term at each annual meeting of
stockholders.  The exact number of directors is fixed by resolution of the TSAT
Board.  In connection with the Spin-off, the number of directors on the TSAT
Board was fixed at five.  On November 10, 1997, the TSAT Board voted to increase
the size of the TSAT Board from five to six, and to add Leo J. Hindery, Jr. to
fill the newly created directorship.  For purposes of determining their terms,
directors are divided into three classes.  The Class I directors, whose terms
were scheduled to expire at the 1997 annual stockholders' meeting, are Mr.
Beddow and Mr. Hindery. The Class II directors, whose terms were scheduled to
expire at the 1998 annual stockholders' meeting, are Messrs. Howard and Johnson.
The Class III directors, whose terms expire at the 1999 annual stockholders'
meeting, are Dr. Malone and Mr. Goddard. On November 10, 1997, the TSAT Board
determined that the 1997 annual stockholders meeting would not be held, as a
result of the pendency of the proposed Roll-up Plan. On March 6, 1998, the
Company held a special meeting of stockholders to vote on the Roll-up Plan,
which was approved by more than 66-2/3% of the outstanding voting power of the
Series A Common Stock and Series B Common Stock, voting together as a class. Due
to the pendency of the TSAT Merger, the 1998 annual stockholders meeting was
also deferred. The Company currently expects that the 1999 annual stockholders
meeting will be held during the summer of 1999. At the 1999 annual stockholders
meeting, TSAT stockholders will have an opportunity to vote with respect to the
election of two Class I directors (whose terms will expire in 2000), two Class
II directors (whose terms will expire in 2001) and two Class III directors 
(whose terms will expire in 2002).

     There are no family relations by blood, marriage or adoption, of first
cousin or closer, among the above named individuals.

     During the past five years, none of the persons named above has had any
involvement in such legal proceedings as would be material to an evaluation of
his ability or integrity.

     Section 16(a) of the Security Exchange Act of 1934, as amended, requires
the Company's officers and directors, and persons who own more than ten percent
of a registered class of the Company's equity securities, to file reports of
ownership and changes in ownership with the Security and Exchange Commission
("SEC").  Officers, directors and greater-than-ten-percent shareholders are
required by SEC regulation to furnish the Company with copies of all Section
16(a) forms they file.

     Based solely on review of the copies of Forms 3, 4 and 5 and amendments
thereto furnished to the Company with respect to its most recent fiscal year, or
written representations that no Forms 5 were required, the Company believes
that, during the year ended December 31, 1998, its officers, directors and
greater-than-ten-percent beneficial owners complied with all Section 16(a)
filing requirements.

Item 11.    Executive Compensation.
--------    ---------------------- 

     (a)    Summary Compensation Table.  Certain directors, officers and 
            --------------------------  
employees of TCI and its subsidiaries (including the Company, prior to the Spin-
off) were granted options to purchase shares of Series A TCI Group Common Stock
("TCI Options") and stock appreciation rights with respect to shares of Series A
TCI Group Common Stock ("TCI SARs"). The TCI Options and TCI SARs were granted
pursuant to various stock plans of TCI (the "TCI Plans").


                                     III-3
<PAGE>
 
     Immediately prior to the Spin-off, each TCI Option was divided into two
separately exercisable options: (i) an option to purchase Series A Common Stock
(an "Add-on Company Option"), exercisable for the number of shares of Series A
Common Stock that would have been issued in the Spin-off in respect of the
shares of Series A TCI Group Stock subject to the applicable TCI Option, if such
TCI Option had been exercised in full immediately prior to the Spin-off Date,
and (ii) an option to purchase Series A TCI Group Stock (an "Adjusted TCI
Option"), exercisable for the same number of shares of Series A TCI Group Stock
as the corresponding TCI Option had been.  The aggregate exercise price of each
TCI Option was allocated between the Add-on Company Option and the Adjusted TCI
Option into which it was divided, and all other terms of the Add-on Company
Option and Adjusted TCI Option are in all material respects the same as the
terms of such TCI Option.  Similar adjustments were made to the outstanding TCI
SARs, resulting in the holders thereof holding Adjusted TCI SARs and Add-on
Company SARs instead of TCI SARs, and to outstanding restricted share awards,
resulting in the holders thereof holding restricted shares of Series A Common
Stock in addition to restricted shares of Series A TCI Group Stock, effective
immediately prior to the Spin-off.

     As a result of the foregoing, certain persons who remained TCI employees or
non-employee directors after the Spin-off and certain persons who were TCI
employees prior to the Spin-off but became Company employees after the Spin-off
hold both Adjusted TCI Options and separate Add-on Company Options and/or hold
both Adjusted TCI SARs and separate Add-on Company SARs.  The obligations with
respect to the Adjusted TCI Options, Add-on Company Options, Adjusted TCI SARs
and Add-on Company SARs held by TCI employees and non-employee directors are
obligations solely of TCI.  The obligations with respect to the Adjusted TCI
Options, Add-on Company Options, Adjusted TCI SARs and Add-on Company SARs held
by persons who were Company employees at the time of the Spin-off and following
the Spin-off are no longer TCI employees ("Company Employees") are obligations
solely of the Company.  Prior to the Spin-off, TCI and the Company entered into
an agreement to sell to each other from time to time at the then current market
price shares of Series A TCI Group Common Stock and Series A Common Stock,
respectively, as necessary to satisfy their respective obligations under such
securities.

     The following table is a summary of all forms of compensation paid by the
Company (or by TCI or any other subsidiary of TCI) to the officers named therein
for services rendered in all capacities to the Company (and, prior to the Spin-
off, TCI) for the fiscal years ended December 31, 1998, 1997 and 1996 (total of
five persons).

<TABLE>
<CAPTION>
                                                  Annual Compensation                           Long-Term Compensation
                                      --------------------------------------------  ----------------------------------------------
                                                                                                      Securities
                                                                    Other Annual       Restricted     Underlying      All Other
Name and Principal Position                                         Compensation       Stock Award     Options/      Compensation
    with the Company            Year   Salary ($)      Bonus ($)        ($)(5)             ($)            SARs           ($)(9)
    ----------------            ----  -----------    -----------     ------------      --------------   ----------    ------------
<S>                             <C>   <C>           <C>            <C>               <C>              <C>          <C> 
Gary S. Howard (1)              1998  $        --    $        --     $         --      $           --           --    $         -- 
 (Chief Executive Officer)      1997  $   215,519    $   120,600     $      2,976      $    1,000,000(6)        --    $     17,158
                                                     $    23,210(4)
                                1996  $   275,000    $    23,210(4)  $      4,230      $           --      664,076(7) $     15,000
 
Christopher Sophinos (2)        1998  $    51,626    $    35,500     $         --      $           --           --    $      4,667
 (President)                    1997  $   174,538    $    70,000     $         --      $      400,000(6)   100,000(8) $     10,240
                                1996  $    96,865(3) $    10,750(3)  $         --      $           --           --    $         --
 
Kenneth G. Carroll (2)          1998  $    51,827    $    35,500     $         --      $           --           --    $      4,590
 (Senior Vice President and     1997  $   174,538    $    78,846     $      2,182      $      400,000(6)   100,000(8) $      9,934
 Chief Financial Officer)       1996  $   119,423    $    33,150     $         --      $           --           --    $      9,500
 
William D. Myers (2)            1998  $    41,731    $    26,000     $         --      $           --           --    $      2,617
 (Vice President and            1997  $   139,827    $    35,000     $      2,352      $      400,000(6)   100,000(8) $      9,711
 Treasurer)                     1996  $   115,010    $     5,000     $      2,683      $           --           --    $      8,639
</TABLE>

                                     III-4
<PAGE>

---------------- 
(1)  Effective June 1, 1997 and through December 31, 1997, TSAT and UVSG agreed
     that 75% of Mr. Howard's annual salary was to be charged to UVSG, of which
     Mr. Howard is a director and Chief Executive Officer.  The 1997 amount
     represents Mr. Howard's 1997 annual salary less amount charged to UVSG
     ($215,481).  Subsequent to December 31, 1997, all of Mr. Howard's annual
     salary is charged to UVSG and other TCI subsidiaries.

(2)  In connection with the Restructuring and effective April 1, 1998, Messrs.
     Sophinos, Carroll and Myers became officers of PRIMESTAR; and from that
     date forward, all of such officers' compensation has been paid by
     PRIMESTAR.  Accordingly, the 1998 compensation information included in the
     table represents three months of employment.

(3)  Mr. Sophinos commenced employment on February 27, 1996, and accordingly,
     the 1996 compensation information included in the table reflects ten months
     of employment.

(4)  This amount reflects the amortization of obligations under an employment
     contract between Mr. Howard and a prior employer, which obligations were
     assumed by TCI in connection with the acquisition of such prior employer,
     and were assumed by the Company in connection with the Spin-off.

(5)  Consists of amounts reimbursed during the year for the payment of taxes.

(6)  Pursuant to the TCI Satellite Entertainment, Inc. 1996 Stock Incentive Plan
     (the "TSAT 1996 Plan"), Mr. Howard was granted 125,000 restricted shares of
     Series A Common Stock and Messrs. Sophinos, Carroll and Myers were each
     granted 50,000 restricted shares of Series A Common Stock.  As originally
     granted, such restricted shares vested as to 50% on each of January 1, 2001
     and January 1, 2002.  On November 10, 1997, the TSAT Board and the
     Compensation Committee of the TSAT Board approved modifications to the
     terms of such awards, accelerating the vesting provisions to provide for
     vesting of 50% on February 3, 1999 and as to the remaining 50% on February
     3, 2000. The value of Mr. Howard's restricted shares at the end of 1998 was
     $179,750, and the value of each of Messrs. Sophinos', Carroll's and Myers'
     restricted shares at the end of 1998 was $71,900.  The Company has not paid
     cash dividends on the Series A Common Stock and does not anticipate paying
     cash dividends on the Series A Common Stock at any time in the foreseeable
     future.

(7)  On the Spin-off Date, Mr. Howard was granted an option to purchase shares
     of Series A Common Stock representing 1.0% of the number of shares of
     Company Common Stock issued and outstanding on the Spin-off Date,
     determined immediately after giving effect to the Spin-off, but before
     giving effect to the exercise of such option or certain other options
     granted in connection with the Spin-off.

(8)  Pursuant to the TSAT 1996 Plan, Messrs. Sophinos, Carroll and Myers were
     each granted options with tandem SARs to purchase 100,000 shares of Series
     A Common Stock at a purchase price of $8.00. As originally granted each
     such grant of options vests evenly over five years with such vesting period
     beginning January 1, 1997, first became exercisable on January 1, 1998 and
     expires on December 31, 2006.  On November 10, 1997, the TSAT Board and the
     TSAT compensation committee approved modifications to the vesting of all
     options issued pursuant to the TSAT 1996 Plan, accelerating the vesting
     schedules under such options from five to three years, commencing February
     1998.


                                     III-5
<PAGE>
 
(9)  Includes dollar value of annual TCI contributions to the TCI Employee Stock
     Purchase Plan (''TCI ESPP'') prior to the Spin-off and TSAT contributions
     to the TSAT Employee Stock Purchase Plan (the "TSAT ESPP") from January 1,
     1997 through March 31 1998.  All named executives are fully vested in such
     plans, except for Mr. Sophinos who is not a participant in the TCI ESPP.
     Directors who are not employees of TSAT are ineligible to participate in
     the TSAT ESPP. The TSAT ESPP, a defined contribution plan, enables
     participating employees to acquire a proprietary interest in TSAT and
     benefits upon retirement. Under the terms of the TSAT ESPP, employees are
     eligible for participation after one year of service. The TSAT ESPP's
     normal retirement age is 65 years. Participants may contribute up to 10% of
     their compensation and TSAT (by annual resolution of the TSAT Board) may
     contribute up to a matching 100% of the participants' contributions. The
     TSAT ESPP includes a salary deferral feature in respect of employee
     contributions. Forfeitures (due to participants' withdrawal prior to full
     vesting) are used to reduce TSAT's otherwise determined contributions. In
     connection with the Restructuring and effective June 30, 1998, the TSAT
     ESPP was merged into the PRIMESTAR, Inc. 401(k) Savings Plan. Also includes
     insurance premiums paid by TSAT in 1998 for the benefit of Messrs.
     Sophinos, Carroll and Myers in the amount of $245, $148 and $113,
     respectively, and in 1997 for the benefit of Messrs. Howard, Sophinos,
     Carroll and Myers in the amount of $2,158, $740, $434 and $211,
     respectively.

     (b) Option and SARs Grants in Last Fiscal Year.  No options were granted
         -------------------------------------------                         
during the year ended December 31, 1998 to the named executive officers of the
Company.

     (c) Aggregated TSAT Option/SAR Exercises and Fiscal Year-End TSAT
         -------------------------------------------------------------
Option/SAR Values. The following table provides, for the executives named in the
-----------------                                                               
Summary Compensation Table, information on (i) the exercise during the year
ended December 31, 1998, of options with respect to shares of Series A Common
Stock, (ii) the number of shares of Series A Common Stock represented by
unexercised options owned by them at December 31, 1998, and (iii) the value of
those options as of the same date.

<TABLE>
<CAPTION>
                                                                       Number of
                                                                      Securities
                                                                      Underlying
                                                                      Unexercised        Value of
                                                                     Options/SARs     Unexercised In-
                                                                          at             the-Money
                                                                     December 31,     Options/SARs at
                                        Shares                         1998 (#)      December 31, 1998
                                      Acquired on   Value Realized   Excercisable/   ($)Excercisable/
        Name                          Exercise (#)       ($)         Unexercisable     Unexercisable
        ----                          -----------   --------------   -------------   -----------------
<S>                                   <C>           <C>              <C>             <C> 
Gary S. Howard
 Exercisable
   Series A                                    --               --         288,630   $              --
 Unexercisable
   Series A                                    --               --         405,446   $              --
Christopher Sophinos
 Exercisable
   Series A                                    --               --          33,333   $              --
 Unexercisable
   Series A                                    --               --          66,667   $              --
Kenneth G. Carroll
 Exercisable
   Series A                                    --               --          34,703   $              --
 Unexercisable
   Series A                                    --               --          67,447   $              --
William D. Myers
 Exercisable
   Series A                                    --               --          34,653   $              --
 Unexercisable
   Series A                                    --               --          67,247   $              --
</TABLE>

                                     III-6
<PAGE>
 
     (d) Compensation of Directors.  Members of the TSAT Board who are also
         --------------------------                                        
full-time employees of the Company or TCI, or any of their respective
subsidiaries, do not receive any additional compensation for their services as
directors. Directors who are not full-time employees of the Company or TCI, or
any of their respective subsidiaries, receive a retainer of $30,000 per year.
All members of the TSAT Board are also reimbursed for expenses incurred to
attend any meetings of the TSAT Board or any committee thereof.  In addition, on
March 6, 1998, the TSAT stockholders approved the TCI Satellite Entertainment,
Inc. 1997 Nonemployee Director Stock Option Plan (the "TSAT DSOP").  Pursuant to
the TSAT DSOP, each of the persons who were directors of the Company, but not
employees of the Company or any of the Company's subsidiaries (each such
director, a "Nonemployee Director") as of February 3, 1997 has been granted
options to purchase 50,000 shares of Series A Common Stock, and each person who
becomes a Nonemployee Director after February 3, 1997  will be automatically
granted options to purchase 50,000 shares of Series A Common Stock upon such
person's becoming a director.  The TSAT DSOP provides that the per share
exercise price of each option granted under the TSAT DSOP will be equal to the
fair market value of the Series A Common Stock on the date such option is
granted.  In general, fair market value is determined by reference to the last
sale price for shares of Series A Common Stock on the date of the grant.

     (e) Employment Contracts and Termination of Employment and Change of
         ----------------------------------------------------------------
Control Arrangements.
---------------------

     Effective November 7, 1997, TSAT entered into a Termination Agreement with
Mr. Lloyd Riddle, former Chief Operating Officer of the Company.  The agreement
provided for Mr. Riddle's employment with TSAT to terminate on March 31, 1998
and for Mr. Riddle to receive 39 weeks of pay upon meeting certain conditions,
including but not limited to Mr. Riddle devoting his full time, attention and
best efforts on behalf of TSAT through March 31, 1998.  In addition, Mr. Riddle
received an additional 52 weeks of severance pay as well as certain severance
benefits for meeting the conditions of TSAT's 1997 PRIMESTAR Transition
Severance Pay Plan.  The agreement also provided for the acceleration of the
vesting of all stock options, SARs and restricted shares held by Mr. Riddle
arising out of his employment by TSAT and his former employment by TCI.

     (f) Additional Information with respect to Compensation Committee
         -------------------------------------------------------------
Interlocks and Insider Participation in Compensation Decisions.
---------------------------------------------------------------

     The members of the Company's compensation committee are Messrs. William E.
Johnson and John W. Goddard, each a director of the Company.  None of the
members of the compensation committee are or were officers of the company or any
of its subsidiaries.

Item 12.  Security Ownership of Certain Beneficial Owners and Management.
--------  -------------------------------------------------------------- 

     (a) Security Ownership of Certain Beneficial Owners.  The following table
         ------------------------------------------------                     
lists stockholders believed by the Company to be the beneficial owners of more
than five percent of the outstanding Company Common Stock as of December 31,
1998.  Shares issuable upon exercise of options and upon vesting of restricted
shares are deemed to be outstanding for the purpose of computing the percentage
ownership and overall voting power of persons believed to beneficially own such
securities, but have not been deemed to be outstanding for the purpose of
computing the percentage ownership or overall voting power of any other person.
Voting power in the table is computed with respect to a general election of
directors.  So far as is known to the Company, the persons indicated below have
sole voting and investment power with respect to the shares indicated as
believed to be owned by them except as otherwise stated in the notes to the
table.


                                     III-7
<PAGE>
 
<TABLE>
<CAPTION>
                                                                     Number of
                                                                      Shares
                 Name and Address                     Title         Beneficially         Percent         Voting
                of Beneficial Owner                  of Class          Owned           of Class (1)     Power (1)
                -------------------                  --------     ----------------     ------------     ---------
<S>                                                 <C>         <C>                  <C>              <C>
John C. Malone, Chairman of the Board                Series A        909,845 (3)             1.5%         24.5%
 5619 DTC Parkway                                    Series B      3,439,958 (4)            40.6%
 Englewood, CO
 
Kim Magness (individually and                        Series A        383,807 (2)(7)            *          26.3%
as Personal Representative of the Estate of Betsy    Series B      3,744,206 (2)(7)         44.2%
 Magness and as co-representative of the estate of
 Bob Magness)
 4000 E. Belleview
 Greenwood Village, Colorado
 
Gary Magness (as co-representative of the estate     Series A        152,273 (2)               *          21.3%
 of Bob Magness)                                     Series B      3,053,585 (2)            36.1%
 29 Sunset Drive
 Englewood, Colorado
 
The Associated Group, Inc                            Series A      1,247,997 (5)             2.2%          5.8%
 200 Gateway Towers                                  Series B        707,185 (6)             8.4%
 Pittsburgh, Pennsylvania
 
Snyder Capital Management L.P.                       Series A      5,245,800 (8)             8.8%          3.6%
 350 California Street                               Series B             --                  --
 San Francisco, California
 
RB Haave Associates                                  Series A      3,403,000                 5.7%          2.4%
 36 Grove Street                                     Series B             --                  --
 New Canaan, Connecticut
</TABLE>
 
------------------------------
*    Less than one percent.

(1)  Based on 59,280,466 shares of Series A Common Stock and 8,465,324 shares of
     Series B Common Stock outstanding as of December 31, 1998.

(2)  Effective January 5, 1998, Mr. Kim Magness and Mr. Gary Magness were
     appointed Co-Personal Representatives of the Estate of Bob Magness.

(3)  Assumes the exercise in full of all Add-On Company Options and Add-On
     Company SARs, whether or not then exercisable or in-the-money, in respect
     of the following: (i) stock options granted in tandem with SARs in November
     of 1992 to acquire 100,000 shares of Series A Common Stock, all of which
     options are currently exercisable; and (ii) stock options granted in tandem
     with SARs in December of 1995 to acquire 100,000 shares of Series A Common
     Stock, of which options to purchase 40,000 shares are currently
     exercisable.  Also assumes the exercise in full of options to purchase
     50,000 shares of Series A Common Stock granted pursuant to the TSAT DSOP
     effective February 3, 1997, none of which options are vested.

(4)  Includes 117,300 shares of Series B Common Stock held by Dr. Malone's wife,
     Mrs. Leslie Malone, but Dr. Malone disclaims any beneficial ownership of
     such shares.

(5)  The number of shares in the table is based on information provided by the
     respective stockholder.



                                     III-8
<PAGE>
 
(6)  The number of shares in the table is based upon information provided by The
     Associated Group on February 26, 1998.  Said corporation has shared voting
     power and dispositive power over 707,185 shares of Series B Common Stock.

(7)  Includes 210,533 shares of Series A Common Stock and 634,621 shares of
     Series B Common Stock held by the Estate of Betsy Magness.  Mr. Magness is
     deemed to have beneficial ownership over such shares as Personal
     Representative of the Estate of Betsy Magness. Also assumes the exercise in
     full of all Add-on Company Options and Add-on Company SARs, whether or not
     then exercisable or in-the-money of stock options granted in November of
     1994 to acquire 5,000 shares of Series A Common Stock, of which options to
     acquire 4,000 shares are currently exercisable.

(8)  The number of shares in the table is based upon a Schedule 13G, dated
     February 4, 1999, filed by Snyder Capital Management L.P. which Schedule
     13G reflects that said company has shared voting power over 5,071,500
     shares and shared dispositive power over 5,245,800 shares of Series A
     Common Stock.

     (b) Security Ownership of Management.  The following table lists the number
         ---------------------------------                                      
of shares of Company Common Stock believed to be owned beneficially by each
director, each of the executive officers named in the above Summary Compensation
Table, and all directors and executive officers as a group as of December 31,
1998, according to data furnished by the persons named. Shares issuable upon
exercise of options and upon vesting of restricted shares are deemed to be
outstanding for the purpose of computing the percentage ownership and overall
voting power of persons believed to beneficially own such securities, but have
not been deemed to be outstanding for the purpose of computing the percentage
ownership or overall voting power of any other person. Voting power in the table
is computed with respect to a general election of directors.  So far as is known
to the Company, the persons indicated below have sole voting and investment
power with respect to the shares indicated as believed to be owned by them.

<TABLE>
<CAPTION>
                                                      Number of Shares
                                                     Beneficially Owned         Percent of Class(1)    
                                               -------------------------------  --------------------    Voting
                 Name                           Series A             Series B    Series A  Series B    Power (1)
                 ----                           --------             --------    --------  --------    ---------
<S>                                            <C>                 <C>           <C>       <C>        <C>
Directors:
 John C. Malone                                 909,845  (2)         3,439,958 (3)    1.5%     40.6%      24.5%
 Gary S. Howard                                 824,215  (4)                --        1.4%       --          *
 David P. Beddow                                414,300  (5)                --          *        --          *
 William E. Johnson                              51,900  (6)                10          *         *          *
 John W. Goddard                                 51,408  (6)(7)          1,425 (7)      *         *          *
 Leo J. Hindery, Jr.                             50,000  (6)                --          *        --          *
Other Named Executive Officers:
 Christopher Sophinos                           150,000  (8)                --          *        --          *
 Kenneth G. Carroll                             152,170  (9)                --          *        --          *
 William D. Myers                               151,974  (10)               --          *        --          *
All directors and executive officers
 as a group (ten persons)                     2,777,729              3,441,393        4.5%     40.7%      25.5%
</TABLE>


---------------------------
* Less than one percent.

(1)  Based on 59,280,466 shares of Series A Common Stock and 8,465,324 shares of
     Series B Common Stock outstanding as of December 31, 1998.



                                     III-9
<PAGE>
 
(2)  Assumes the exercise in full of all Add-On Company Options and Add-On
     Company SARs, whether or not then exercisable or in-the-money, in respect
     of the following: (i) stock options granted in tandem with SARs in November
     of 1992 to acquire 100,000 shares of Series A Common Stock, all of which
     options are currently exercisable; and (ii) stock options granted in tandem
     with SARs in December of 1995 to acquire 100,000 shares of Series A Common
     Stock, of which options to purchase 60,000 shares are currently
     exercisable.  Also assumes the exercise in full of options to purchase
     50,000 shares of Series A Common Stock granted pursuant to the TSAT DSOP
     effective February 3, 1997, of which options to purchase 16,666 shares are
     currently vested.

(3)  Includes 117,300 shares of Series B Common Stock held by Dr. Malone's wife,
     Mrs. Leslie Malone, but Dr. Malone disclaims any beneficial ownership of
     such shares.

(4)  Assumes the exercise in full of all Add-On Company Options and Add-On
     Company SARs, whether or not then exercisable or in-the-money, in respect
     of the following: (i) stock options granted in tandem with SARs in November
     of 1992 to acquire 5,000 shares of Series A Common Stock, all of which
     options are currently exercisable; (ii) stock options in tandem with SARs
     granted in October of 1993 to acquire 5,000 shares of Series A Common
     Stock, all of which options are currently exercisable; (iii) stock options
     in tandem with SARs granted in November of 1994 to acquire 5,000 shares of
     Series A Common Stock, of which options to acquire 4,000 shares are
     currently exercisable; (iv) stock options granted in tandem with SARs in
     December of 1995 to purchase 15,000 shares of Series A Common Stock, of
     which options to acquire 9,000 shares are currently exercisable; and (v)
     stock options granted in December of 1996 to purchase 664,076 shares of
     Series A Common Stock, of which options to acquire 265,630 shares are
     currently exercisable.  Additionally assumes the vesting in full of 126,500
     restricted shares of Series A Common Stock, none of which are currently
     vested.  Also includes 1,022 shares of Series A Common Stock held by trusts
     in which Mr. Howard is beneficial owner as trustee for his children.

(5)  Assumes the exercise in full of all Add-On Company Options and Add-On
     Company SARs, whether or not then exercisable or in-the-money, in respect
     of the following: (i) stock options granted in tandem with SARs in October
     of 1993 to acquire 750 shares of Series A Common Stock, all of which
     options are currently exercisable; (ii) stock options granted in tandem
     with SARs in November of 1994 to acquire 5,000 shares of Series A Common
     Stock, of which options to purchase 4,000 shares are currently exercisable;
     (iii) stock options granted in tandem with SARs in December of 1995 to
     purchase 25,000 shares of Series A Common Stock, of which options to
     purchase 15,000 shares are currently exercisable; and (iv) stock options
     granted in December of 1996 to purchase 332,038 shares of Series A Common
     Stock, of which options to acquire 132,815 shares are currently
     exercisable. Additionally assumes the vesting in full of 1,500 restricted
     shares of Series A Common Stock, none of which are currently vested.  Also
     assumes the exercise in full, whether or not then exercisable or in-the-
     money, of options to purchase 50,000 shares of Series A Common Stock
     granted pursuant to the TSAT DSOP effective February 3, 1997, of which
     options to purchase 16,666 shares are currently vested.

(6)  Assumes the exercise in full, whether or not then exercisable or in-the-
     money, of options to purchase 50,000 shares of Series A Common Stock
     granted pursuant to the TSAT DSOP, of which options to purchase 16,666
     shares are currently vested.

(7)  Includes 478 shares of Series A Common Stock held by Mr. Goddard's wife, of
     which Mr. Goddard is beneficial owner, and 129 shares of Series B Common
     Stock held by a trust in which Mr. Goddard is beneficial owner as trustee.


                                     III-10
<PAGE>
 
(8)  Assumes the exercise in full, whether or not then exercisable or in-the-
     money, of stock options granted in tandem with SARs in February of 1997 to
     purchase 100,000 shares of Series A Common Stock, of which options to
     purchase 33,333 shares are currently exercisable, and assumes the vesting
     in full of 50,000 restricted shares of Series A Common Stock, none of which
     are currently vested.

(9)  Assumes the exercise in full of all Add-On Company Options and Add-On
     Company SARs, whether or not then exercisable or in-the-money, in respect
     of the following: (i) stock options granted in tandem with SARs in November
     of 1994 to acquire 400 shares of Series A Common Stock, of which options to
     acquire 320 shares of Series A Common Stock are currently exercisable; and
     (ii) stock options granted in tandem with SARs in December of 1995 to
     purchase 1,750 shares of Series A Common Stock, of which options to
     purchase 1,050 shares of Series A Common Stock are currently exercisable.
     Additionally assumes the exercise in full, whether or not then exercisable
     or in-the-money, of stock options granted in tandem with SARs in February
     of 1997 to purchase 100,000 shares of Series A Common Stock, of which
     options to purchase 33,333 shares are currently exercisable, and assumes
     the vesting in full of 50,000 restricted shares of Series A Common Stock,
     none of which are currently vested.

(10) Assumes the exercise in full of all Add-On Company Options and Add-On
     Company SARs, whether or not then exercisable or in-the-money, in respect
     of the following: (i) stock options granted in tandem with SARs in November
     1994 to acquire 900 shares of Series A Common Stock, of which options to
     acquire 720 shares of Series A Common Stock are currently exercisable; and
     (ii) stock options granted in tandem with SARs in December of 1995 to
     purchase 1,000 shares of Series A Common Stock, of which options to
     purchase 600 shares are currently exercisable. Additionally assumes the
     exercise in full, whether or not then exercisable or in-the-money, of stock
     options granted in tandem with SARs in February of 1997 to purchase 100,000
     shares of Series A Common Stock, of which options to purchase 33,333 shares
     are currently exercisable, and assumes the vesting in full of 50,000
     restricted shares of Series A Common Stock, none of which are currently
     vested.

Item 13.  Certain Relationships and Related Transactions.
--------  ---------------------------------------------- 

     John Malone is currently the Chairman of the Board and a director of TCI
and is also the Chairman of the Board and a director of the Company.  Dr. Malone
is also a principal stockholder of both TCI and the Company.  In addition, as an
officer of TCIC prior to the Distribution, Gary Howard, the Chief Executive
Officer and a director of the Company, had the benefit of certain undertakings
of indemnification from TCI and TCIC, which have survived the Spin-off.

     The Company was formed in connection with the Spin-off to own and operate
certain businesses of TCI constituting all of TCI's interests in the digital
satellite business. On the Spin-off Date, TCI distributed all the shares of
Company Common Stock held by TCI to the holders of record of TCI Group Stock, on
the basis of one share of Series A Stock for each ten shares of Series A TCI
Group Stock, and one share of Series B Common Stock for each ten shares of
Series B TCI Group Stock held by such holders.


                                     III-11
<PAGE>
 
     Since the consummation of the Spin-off, the Company and TCI have operated
independently.  However, for the purposes of governing certain of the ongoing
relationships between the Company and TCI after the Spin-off, and to provide
mechanisms for an orderly transition, the Company and TCI entered into various
agreements, including the "Reorganization Agreement," the "Transition Services
Agreement," an amendment to TCI's existing "Tax Sharing Agreement," the
"Indemnification Agreements," the "Trade Name and Service Mark Agreement" and
the "Share Purchase Agreement," all of which are described below.

     Reorganization Agreement.    On the Spin-off Date, TCI, TCIC and a number
of other TCI subsidiaries, including the Company, entered into the
Reorganization Agreement, which provided for, among other things, the principal
corporate transactions required to effect the Spin-off, the conditions thereto
and certain provisions governing the relationship between the Company and TCI
with respect to and resulting from the Spin-off.

     Pursuant to the Reorganization Agreement, the Company assumed TCI's
obligations under options granted to Brendan R. Clouston, Larry E. Romrell and
David P. Beddow to purchase shares of Series A Common Stock representing 1.0%,
1.0% and 0.5%, respectively, of the shares of Company Common Stock issued and
outstanding on the Spin-off Date, determined immediately after giving effect to
the Spin-off but before giving effect to the issuance of the shares of Series A
Common Stock issuable upon exercise of such options; and granted an option to
TCI to purchase up to 4,765,000 shares of Series A Common Stock (as such number
may be adjusted to reflect stock dividends, stock splits and the like), for a
purchase price equal to the par value of such shares, as necessary to satisfy
TCI's obligations to deliver shares of Series A Common Stock upon conversion of
certain convertible securities of TCI as a result of the Spin-off.  During the
year ended December 31, 1998, the Company issued 991,000 shares of Series A
Common Stock to TCI for aggregate consideration of $991,000 under this
arrangement.

     Transition Services Agreement.  During 1998 and pursuant to the Transition
Services Agreement, TCI provided to the Company certain general and
administrative services.  In addition, TCI has agreed to provide the Company
with certain most-favored-customer rights to programming services that TCI may
own in the future and access to any volume discounts that may be available to
TCI for purchase of HSDs, satellite receivers and other equipment.

     As compensation for services rendered to the Company and for the benefits
made available to the Company pursuant to the Transition Services Agreement, the
Company is required to pay TCI a fee of $1.50 per qualified subscribing
household or other residential or commercial unit (counted as one subscriber
regardless of the number of satellite receivers) per month, up to a maximum of
$3 million per month, and reimburse TCI quarterly for direct, out-of-pocket
expenses incurred by TCI to third parties in providing the services.  During the
year ending on December 31, 1998, the Company was charged $3,174,000 pursuant to
the Transition Services Agreement.  Upon consummation of the Restructuring, TSAT
and TCI agreed to terminate the Transition Services Agreement.

     Indemnification Agreements.  On the Spin-off Date, the Company entered into
the Indemnification Agreements with TCIC and TCI UA 1. The Indemnification
Agreement with TCIC provides for the Company to reimburse TCIC for any amounts
drawn under an irrevocable transferable letter of credit issued by the Bank of
New York for the account of TCIC to support the Company's share of PRIMESTAR
Partners' obligations under the GE-2 Agreement, with respect to PRIMESTAR
Partners' use of transponders on GE-2.  At December 31, 1998, the drawable
amount of such letter of credit was $25,000,000.



                                     III-12
<PAGE>
 
     The Indemnification Agreement with TCI UA 1 provides for the Company to
reimburse TCI UA 1 for any amounts drawn under the TCI UA 1 Letter of Credit,
which supports the Partnership Credit Facility that was obtained by PRIMESTAR
Partners to finance advances to Tempo for payments due in respect of the
construction of the Company Satellites and that is supported by letters of
credit arranged for by affiliates of the partners of PRIMESTAR Partners (other
than GE Americom). The amount of the TCI UA 1 Letter of Credit was $141,250,000
at December 31, 1998.

     The Indemnification Agreements further provide for the Company to indemnify
and hold harmless TCIC and TCI UA 1 and certain related persons from and against
any losses, claims, and liabilities arising out of the respective letters of
credit or any drawings thereunder. The payment obligations of the Company to
TCIC and TCI UA 1, under such Indemnification Agreements are subordinated in
right of payment with respect to certain future obligations of the Company to
financial institutions.  In connection with the Restructuring, PRIMESTAR assumed
TSAT's obligations pursuant to the Indemnification Agreements.

     Trade Name and Service Mark License Agreement.  Pursuant to the Trade Name
and Service Mark License Agreement (the "License Agreement"), TCI granted to the
Company, for an initial term of three years following the Distribution, a non-
exclusive non-assignable license to use certain trade names and service marks
specifically identified in the License Agreement, including the mark "TCI" in
the context of the Digital Satellite Business. The License Agreement provides,
among other things, that all advertising, promotion and use of certain of TCI's
trade names and service marks by the Company shall be consistent with TCI
guidelines and standards, as well as subject to TCI approval in certain
circumstances.  Since the Distribution, the Company has taken steps to phase out
the use of the TCI names and marks covered by the License Agreement, except in
connection with its corporate name.  The Company and TCI amended the License
Agreement immediately prior to the closing of the Restructuring to reflect such
limited use.

     Call Center Support.  Through the Closing Date, TCIC provided TSAT with
customer support services from TCIC's Boise, Idaho call center.  Amounts charged
by TCIC to TSAT for such services aggregated $5,026,000 during 1998.

     Other Arrangements.  On the Spin-off Date, TCI and the Company entered into
the Share Purchase Agreement, which obligates TCI and the Company to sell to
each other from time to time, at the then current market price, shares of Series
A TCI Group Common Stock and Series A Common Stock, respectively, as necessary
to satisfy their respective obligations under Adjusted TCI Options and Add-on
Company Options held after the Spin-off Date by their respective employees and
non-employee directors.  During the year ended December 31, 1998, the Company
issued no shares of Series A Common Stock to TCI under this arrangement.

     Certain officers of the Company who were officers or directors of TCI
and/or TCIC prior to the Spin-off received undertakings of indemnification from
TCI and/or TCIC. Such undertakings survived the Spin-off.



                                     III-13
<PAGE>
 
     In June 1996, the TCI Board authorized TCI to permit certain of its
executive officers to acquire equity interests in certain of TCI's subsidiaries.
In connection therewith, the TCI Board approved the acquisition by each of
Brendan R. Clouston and Larry E. Romrell, executive officers of TCI, of 1.0% of
the net equity of the Company. The TCI Board also approved the acquisition by
Gary S. Howard, an executive officer of TCIC prior to the Spin-off Date and
chief executive officer and a director of the Company, of 1.0% of the net equity
of the Company and the acquisition by David P. Beddow, an executive officer of
certain TCI subsidiaries and a director of the Company, of 0.5% of the net
equity of the Company. The TCI Board determined to structure such transactions
as grants to such persons of options to purchase shares of Series A Common Stock
representing 1.0% (in the case of each of Messrs. Clouston, Romrell and Howard)
and 0.5% (in the case of Mr. Beddow) of the shares of Series A Common Stock and
Series B Common Stock issued and outstanding on the Spin-off Date, determined
immediately after giving effect to the Spin-off, but before giving effect to any
exercise of such options ("Distribution Date Options").  Distribution Date
Options to purchase 2,324,266 shares of Series A Common Stock at a per share
price of $8.86 were granted on the Spin-off Date. Pursuant to the Reorganization
Agreement, and (in the case of the options granted to Messrs. Clouston, Romrell
and Beddow) in partial consideration for the capital contribution made by TCI to
the Company in connection with the Spin-off, the Company agreed, effective as of
the Spin-off Date, to bear all obligations under such options and to enter into
stock option agreements with respect to such options with each of Messrs.
Clouston, Romrell, Howard and Beddow.

     Certain members of TSAT's management and the TSAT Board have certain
interests in the Roll-up Plan, as described below:

     Directors and Officers of PRIMESTAR.  Certain of the directors and officers
of TSAT became directors and officers of PRIMESTAR upon consummation of the
Restructuring and will serve as directors and officers of both TSAT and
PRIMESTAR until the TSAT Merger is consummated, at which time they will cease to
be officers and directors of TSAT and will continue as officers and directors of
PRIMESTAR (unless they have been earlier replaced in accordance with the
certificate of incorporation and bylaws of PRIMESTAR).  These include Gary S.
Howard, the Chief Executive Officer and a director of TSAT, who will serve as a
director of PRIMESTAR, and John C. Malone, Leo J. Hindery, Jr. and John W.
Goddard, all of whom are directors of TSAT and will serve as directors of
PRIMESTAR.

     Treatment of TSAT Options, Stock Appreciation Rights and Restricted Stock
Awards.  As of December 31, 1998, executive officers and directors of TSAT held
options ("TSAT Options") under the TSAT 1996 Plan to purchase an aggregate of
1,580,164 shares of Series A Common Stock at various exercise prices and subject
to various vesting schedules.  In the case of a tandem option or stock
appreciation right ("TSAT SAR"), the related stock appreciation right or option,
as the case may be, is considered to have been exercised to the extent of the
number of shares of TSAT Common Stock with respect to which such related tandem
option or stock appreciation right is exercised.

     The TSAT Options and TSAT SARs remain outstanding following the
consummation of the Restructuring, as obligations of TSAT, but have been amended
to provide that service as an employee of, or consultant to, PRIMESTAR following
the closing date of the Restructuring will be deemed to constitute service as an
employee of, or consultant to, TSAT, for all purposes of such awards and the
TSAT 1996 Plan.



                                     III-14
<PAGE>
 
     At the effective time of the TSAT Merger, (x) all TSAT Options outstanding
immediately prior to the effective time of the TSAT Merger, whether vested or
unvested, (y) all obligations of TSAT under the TSAT 1996 Plan and the TSAT DSOP
(collectively, the "TSAT Plans") and (z) the agreements evidencing the grants of
such TSAT Options will be assumed by PRIMESTAR.  Pursuant to the TSAT Merger
Agreement, at the effective time of the TSAT Merger, each TSAT Option
outstanding immediately prior to such effective time will be deemed to
constitute an option to acquire, on the same terms and conditions as were
applicable under such TSAT Option, the same number of shares of PRIMESTAR Class
A Common Stock as the holder of such TSAT Option would have been entitled to
receive pursuant to the TSAT Merger had such holder exercised such TSAT Option
in full immediately prior to the effective time of the TSAT Merger, at a price
per share equal to the exercise price for the shares of Series A Common Stock
otherwise purchasable pursuant to such TSAT Option; provided, however, that in
the case of any option to which Section 421 of the Internal Revenue Code of
1986, as amended (the "Code") applies by reason of its qualification under
either Section 422 or 424 of the Code ("qualified stock options"), the option
price, the number of shares purchasable pursuant to such option and the terms
and conditions of exercise of such option will be determined in order to comply
with Section 424(a) of the Code.  The TSAT Merger Agreement provides that
PRIMESTAR will comply with the terms of the TSAT Plans and ensure, to the extent
required by, and subject to the provisions of, the TSAT Plans, that the TSAT
Options that qualified as qualified stock options prior to the effective time of
the TSAT Merger continue to qualify as qualified stock options after such
effective time. PRIMESTAR will be entitled to make any changes to the TSAT Plans
as will be necessary to give effect to the TSAT Merger.  TSAT SARs issued in
tandem with TSAT Options will be similarly modified.

     On November 10, 1997, the TSAT Board and the Compensation Committee of the
TSAT Board approved modifications to the vesting provisions of all TSAT Options
issued pursuant to the TSAT 1996 Plan and the TSAT DSOP, accelerating the
vesting schedules under such options from five to three years.  TSAT Options
granted prior to the Distribution, which were 40% vested in February 1998, will
become two-thirds vested in February 1999 and fully vested in February 2000.

     The following table indicates for each person who is an executive officer
or director of TSAT and who held TSAT Options (including TSAT Options issued in
tandem with TSAT SARs) at December 31, 1998, (a) the number of shares of Series
A Common Stock subject to such options and/or stock appreciation rights that
were vested at December 31, 1998, (b) the number of shares of Series A Common
Stock subject to such options and/or stock appreciation rights that were not
vested at such date, and (c) the exercise price per share of Series A Common
Stock of all such options and/or stock appreciation rights (whether vested or
unvested).  The total number of shares of PRIMESTAR Class A Common Stock that
would be subject to such options and/or stock appreciation rights immediately
following the effective time of the TSAT Merger assuming that all such options
and/or stock appreciation rights continue to be outstanding immediately prior to
such effective time would be equal to the number of shares of Series A Common
Stock identified in the table.  The exercise or base price per share of
PRIMESTAR Class A Common Stock of such options and/or stock appreciation rights
immediately following the effective time of the TSAT Merger would be equal to
the exercise price of the TSAT Options.  The TSAT Options listed opposite the
name of each person in the table below (including TSAT Options issued in tandem
with TSAT SARs) include all TSAT Options and TSAT SARs granted to such person
under incentive plans of TSAT or otherwise.



                                     III-15
<PAGE>
 
<TABLE>
<CAPTION>
                                                                     
                                  Series A Common   Series A Common   Exercise Price
Option and                        Stock Subject to  Stock Subject to     of TSAT    
----------                         Vested Options   Unvested Options  Options and/or 
SAR Holder                          and/or SARs       and/or SARs          SARs
----------                         ----------------  ----------------  --------------
<S>                               <C>               <C>               <C>
Gary S. Howard                         288,630           405,446       $ 8.86 - $23.76
Christopher Sophinos                    33,333            66,667       $     8.00
Kenneth G. Carroll                      34,703            67,447       $ 8.00 - $23.76
William D. Myers                        34,653            67,247       $ 8.00 - $23.76
John C. Malone                          16,666            33,334       $     8.00
William E. Johnson                      16,666            33,334       $     8.00
John W. Goddard                         16,666            33,334       $     8.00
David P. Beddow                        132,815           199,223       $     8.86
                                        16,666            33,334       $     8.00
Leo J. Hindery, Jr.                     16,666            33,334       $     6.50 
</TABLE>

      As of December 31, 1998, executive officers and directors of TSAT held
restricted stock awards ("TSAT Restricted Stock Awards") under the TSAT 1996
Plan representing the right to receive, upon vesting as described below, an
aggregate of 275,000 shares of Series A Common Stock.  Mr. Howard held 125,000
TSAT Restricted Stock Awards and Messrs. Sophinos, Carroll and Myers each held
50,000 Restricted Stock Awards, all of which were not vested as of December 31,
1998.  As originally granted, each TSAT Restricted Stock Award vested 50% on
each of January 1, 2001 and January 1, 2002.  On November 10, 1997, the TSAT
Board and the Compensation Committee of the TSAT Board approved modifications to
the terms of such awards, accelerating the vesting provisions to provide for
vesting of 50% on each of the second and third anniversaries of the date of
grant.  At the effective time of the TSAT Merger, pursuant to the TSAT Merger
Agreement, (x) all TSAT Restricted Stock Awards outstanding immediately prior to
such effective time, whether vested or unvested, and the agreements evidencing
the grants of such TSAT Restricted Stock Awards, will be assumed by PRIMESTAR,
and (y) each TSAT Restricted Stock Award will be deemed to constitute a
restricted stock award, on the same terms, with respect to a number of shares of
PRIMESTAR Class A Common Stock equal to the number of shares of Series A Common
Stock previously subject to such TSAT Restricted Stock Award.

      Indemnification.  The TSAT Merger Agreement provides that all rights to
indemnification for acts or omissions occurring prior to the effective time of
the TSAT Merger existing in favor of the current or former directors or officers
of TSAT and its subsidiaries will survive the consummation of the TSAT Merger
and continue in full force and effect in accordance with their respective terms.

      Directors' and Officers' Liability Insurance.  The TSAT Merger Agreement
provides that, for a period of not less than three years from the effective time
of the TSAT Merger, directors' and officers' liability insurance will be
maintained by PRIMESTAR covering current TSAT directors and officers on terms
and conditions no less advantageous than TSAT's existing insurance, to the
extent such coverage can be maintained or procured by the payment of an annual
premium not exceeding one and one-half times the current annual premium paid by
TSAT for its existing coverage.

      Registration Rights.  Pursuant to the Registration Rights Agreement, the
Specified Class B Stockholders (as defined therein), including John C. Malone,
currently Chairman of the Board and a director of TSAT, will have, subject to
certain conditions, both "demand" and "piggyback" registration rights to require
PRIMESTAR to register all or any portion of the PRIMESTAR Common Stock then
owned by them.


                                     III-16
<PAGE>
 
      In connection with the Roll-up Plan, TSAT entered into the following
related agreements:

      Stockholders Agreement.  Pursuant to the Restructuring Agreement, each of
TWE, Newhouse, Comcast, Cox and MediaOne (collectively, the "Class C
Stockholders"), the Specified Class B Stockholders (as defined below).  GE
Americom and PRIMESTAR entered into a Stockholders Agreement (the "Stockholders
Agreement") on the Closing Date, which provides for, among other things, certain
provisions relating to the nomination of directors to the PRIMESTAR Board of
Directors and certain voting agreements, transfer restrictions, conversion
restrictions, rights of first refusal and other rights and obligations of the
Class C Stockholders, the Specified Class B Stockholders and GE Americom in
connection with their respective shares of PRIMESTAR Common Stock.  The term of
the Stockholders Agreement is ten years.  As used herein, the term "Specified
Class B Stockholders" means (i) prior to the TSAT Merger, TSAT (and for certain
purposes, John C. Malone), and (ii) after the TSAT Merger, John C. Malone (and,
under certain circumstances, certain other holders of PRIMESTAR Class B Common
Stock).  Although immediately following the Closing of the Restructuring, Dr.
Malone does not own directly any shares of PRIMESTAR Class B Common Stock (all
of which are owned by TSAT), he nevertheless executed the Stockholders Agreement
on the Closing Date as a Specified Class B Stockholder and is entitled to
exercise certain rights thereunder, including the rights of first refusal.

      TSAT is also a party to the Stockholders Agreement as a Specified Class B
Stockholder, prior to consummation of the TSAT Merger, and accordingly will be
bound by, and entitled to the benefits of, the rights of first refusal set forth
therein.  However, during the term of the TSAT Merger Agreement, certain
covenants provided for in the TSAT Merger Agreement may, as a practical matter,
prevent TSAT from exercising such rights.  TSAT's inability to exercise its
rights of first refusal under the Stockholders Agreement during the terms of the
TSAT Merger Agreement may have the effect of enhancing the rights of Dr. Malone
under the Stockholders Agreement during such period.

      Registration Rights Agreement.  Pursuant to the Restructuring Agreement,
at the Closing, a registration rights agreement (the "Registration Rights
Agreement") was entered into among PRIMESTAR, TSAT, the Class C Stockholders, GE
Americom and John C. Malone.  The registration Rights Agreement provides that
each of the Class C Stockholders, the Specified Class B Stockholders, GE
Americom, respectively, and their respective affiliates, will have certain
rights, under specific circumstances and subject to certain conditions and
exceptions, to require PRIMESTAR to register under the Securities Act all or any
portion of their respective shares of PRIMESTAR Class A Common Stock and
PRIMESTAR Class B common Stock.

      Reimbursement Agreements.  Prior to entering into the Restructuring
Agreement, affiliates of each of the Partners (or, in the case of TSAT,
affiliates of TCI) other than GE Americom provided letters of credit
(collectively, the "PRIMESTAR Letters of Credit") to secure certain obligations
of PRIMESTAR Partners under (i) the GE-2 Agreement and (ii) the Partnership
Credit Facility. Pursuant to the TSAT Asset Transfer Agreement, PRIMESTAR
assumed the rights and obligations of TSAT under the Indemnification Agreements
between TSAT and the affiliates of TCI that issued PRIMESTAR Letters of Credit,
which include reimbursement obligations in favor of such TCI affiliates with
respect to such PRIMESTAR Letters of Credit on substantially the same terms as
the Reimbursement Agreements.



                                     III-17
<PAGE>
 
      Letter Agreement.  In connection with the execution and delivery of the
Restructuring Agreement by the parties thereto, John C. Malone entered into a
letter of agreement, dated February 6, 1998, for the benefit of such parties
(the "Letter Agreement").  The Letter Agreement provides for, among other
things, the agreement of Dr. Malone to enter into the Stockholders Agreement and
the Registration Rights Agreement at the Closing of the Restructuring.

      TSAT Tempo Agreement.  In connection with the execution and delivery of
the Restructuring Agreement, the Company and PRIMESTAR entered into the TSAT
Tempo Agreement dated as of February 6, 1998, pursuant to which, among other
things, the Company granted to PRIMESTAR the exclusive and irrevocable option,
exercisable at any time during the term of the TSAT Tempo Agreement, upon
receipt of FCC approval of the transfer of control of Tempo to PRIMESTAR
(including approval of a transfer in anticipation of a subsequent sale), to
purchase from the Company (at the Option Holder's election) either (x) all the
issued and outstanding shares of capital stock of Tempo or (y) all the rights,
title and interests of TSAT in, to and under the Tempo Assets (as defined
below), in either case for an aggregate purchase price equal to $2.5 million
plus, in the case of an asset purchase, the assumption by the Option Holder of
all obligations and liabilities of Tempo in respect of the Tempo Assets, other
than those incurred in violation of the TSAT Tempo Agreement.  The Option
Holder, in its sole discretion, is entitled to assign the TSAT Tempo Agreement
and PRIMESTAR's rights, interests and obligations thereunder at any time.
"Tempo Assets" means (i) the FCC Permit, (ii) the Tempo Satellites, (iii) the
Satellite Construction Agreement, and (iv) all rights, claims and causes of
action under the Satellite Construction Agreement, all insurance claims in
respect of the Tempo Satellites, and Tempo's rights under the Tempo Option
Agreement.

      TSAT Stockholders Agreement.  In connection with the execution and
delivery of the Restructuring Agreement, TSAT, John C. Malone and PRIMESTAR
entered into a stockholders agreement dated as of February 6, 1998 (the "TSAT
Stockholders Agreement"), which provides, among other things, that until the
termination of the TSAT Merger Agreement, each TSAT Stockholder (as defined
below) will vote or act by written consent with respect to (or cause to be voted
or acted upon by written consent) all shares of TSAT Common Stock held of record
or beneficially owned by such TSAT Stockholder and all shares of TSAT Common
Stock as to which such TSAT Stockholder has voting control (1) in favor of the
TSAT Merger Agreement and the transactions contemplated thereby and (2) except
for the transactions contemplated by the TSAT Merger Agreement, against any
merger acquisition, consolidation or similar transaction that would adversely
affect the transactions contemplated by the TSAT Merger Agreement, or any
amendment of the TSAT Charter or the TSAT Bylaws, without the prior written
consent of PRIMESTAR.  In addition, until the termination of the TSAT Merger
Agreement, each TSAT Stockholder has agreed not to convert any of its shares of
TSAT Series B Common Stock into shares of TSAT Series A Common Stock or to
transfer any of its shares of TSAT Common Stock, except to a permitted
transferee (as specified in the TSAT Stockholders Agreement) of such TSAT
Stockholder that becomes a party to the TSAT Stockholders Agreement as a TSAT
Stockholder and to the Stockholders Agreement as a potential Specified Class B
Stockholder.



                                     III-18
<PAGE>
 
      Each TSAT Stockholder has also agreed, until the earliest to occur of (i)
consummation of the TSAT Merger, (ii) consummation of the transactions
contemplated by the TSAT Tempo Agreement and (iii) termination of the TSAT Tempo
Agreement, to vote or act by written consent with respect to (or cause to be
voted or acted upon by written consent) all shares of TSAT Common Stock held of
record or beneficially owned by such TSAT Stockholder and all shares of TSAT
Common Stock as to which such TSAT Stockholder has voting control, in favor of
the TSAT Tempo Agreement and the transactions contemplated thereby.  "TSAT
Stockholder" means (i) Dr. Malone for so long as he holds of record or
beneficially owns or has voting control of any TSAT Common Stock (or has an
affiliate holding TSAT Common Stock pursuant in specified provisions of the TSAT
Stockholders Agreement) and (ii) each permitted transferee (as specified in the
TSAT Stockholders Agreement) that acquires record or beneficial ownership or
voting control of any TSAT Common Stock from a TSAT Stockholder, as long as such
permitted transferee holds of record, beneficially owns or has voting control of
any TSAT Common Stock; provided that such permitted transferee becomes a party
to the TSAT Stockholders Agreement in accordance therewith.

      PRIMESTAR Transition Services Agreement.  In connection with the
Restructuring, the Company and PRIMESTAR entered into a transition services
agreement (the "PRIMESTAR Transition Services Agreement").  Pursuant to the
PRIMESTAR Transition Services Agreement, PRIMESTAR is obligated to provide to
TSAT certain services for the administration and operation of TSAT's business
and its subsidiaries and affiliates as a public company.  Such services include
(i) tax reporting, financial reporting, compliance with the requirements of
applicable state corporate laws, the Securities Act, the Exchange Act and other
applicable laws, compliance with NASDAQ/NM filing and other requirements, and
similar services typically performed by PRIMESTAR's accounting, finance,
corporate, legal, investor relations and tax department personnel, (ii)
administration of existing stock options, restricted stock awards and similar
obligations, and (iii) such other services as TSAT and PRIMESTAR may from time
to time mutually determine to be necessary or desirable.

      As compensation for services rendered to TSAT pursuant to the Transition
Services Agreement, TSAT is required to reimburse PRIMESTAR quarterly for the
actual direct costs and expenses incurred by PRIMESTAR in providing such
services, provided that the incurrence of such expenses is consistent with
practices generally followed by PRIMESTAR in managing or operating its won
business and the businesses of its subsidiaries and affiliates.  The PRIMESTAR
Transition Services Agreement further provides, however, that so long as
PRIMESTAR is obligated to reimburse TSAT for expenses pursuant to the TSAT
Merger Agreement, all obligations of TSAT to PRIMESTAR pursuant to the PRIMESTAR
Transition Services Agreement will be offset against, and will for all purposes
be fully and irrevocable satisfied by, the obligations of PRIMESTAR to TSAT
pursuant to the TSAT Merger Agreement.  The TSAT Merger Agreement provides that
during the term thereof, PRIMESTAR will reimburse TSAT for all reasonable costs
and expenses (including reasonable legal fees of outside counsel and reasonable
fees to TSAT's independent public accountants) incurred by TSAT (i) in
preparation of tax returns and other reports to governmental entities, (ii) for
payment of required taxes, franchise fees, NASDAQ/NM fees and similar fees,
(iii) in compliance with its reporting obligations under the Securities Act and
the Exchange Act and (iv) to maintain directors' and officers' insurance on
terms reasonable acceptable to PRIMESTAR.  During 1998, the net amount of TSAT
expenses reimbursed by PRIMESTAR pursuant to the PRIMESTAR Transition Services
Agreement and the TSAT Merger Agreement aggregated $152,000.



                                     III-19
<PAGE>
 
      The PRIMESTAR Transition Services Agreement continues  in effect until the
close of business December 31, 1999 and will be renewed automatically for
successive one-year periods thereafter, unless earlier terminated by (i) either
party at the end of the initial term or the then current renewal term, as
applicable, on not less than 120 days prior written notice to the other party,
(ii) TSAT upon written notice to PRIMESTAR following certain changes in control
of PRIMESTAR, and (iii) either party if the other party is the subject of
certain bankruptcy or insolvency-related events.



                                     III-20
<PAGE>
 
                                   PART IV.


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

(a)  (1)  Financial Statements
          --------------------
<TABLE> 
<CAPTION> 
Included in Part II of this Report:                                                  Page No.
                                                                                 ---------------
         <S>                                                                  <C> 
          Independent Auditors' Report                                               II-11
 
          Consolidated Balance Sheets,
            December 31, 1998 and 1997                                               II-12
 
          Consolidated Statements of Operations,
            Years ended December 31, 1998, 1997 and 1996                             II-14
 
          Consolidated Statements of Equity (Deficit),
            Years ended December 31, 1998, 1997 and 1996                             II-15
 
          Consolidated Statements of Cash Flows,
            Years ended December 31, 1998, 1997 and 1996                             II-16
 
          Notes to Consolidated Financial Statements,
            December 31, 1998, 1997 and 1996                                         II-17


(a)  (2)  Financial Statement Schedules
          -----------------------------

Included in Part IV of this Report:

     (i)  Financial Statement Schedules required to be filed:

          Schedule II - Valuation and Qualifying Accounts,                           IV-6
            Years ended December 31, 1998, 1997 and 1996.

     (ii) Separate Financial Statements for PRIMESTAR, Inc.:

          Consolidated Financial Statements
          ---------------------------------

          Independent Auditors' Report                                               IV-7

          Consolidated Balance Sheets                                                IV-8

          Consolidated Statements of Operations                                      IV-10

          Consolidated Statements of Equity (Deficit)                                IV-11

          Consolidated Statements of Cash Flows                                      IV-12

          Notes to Consolidated Financial Statements                                 IV-13
</TABLE> 

                                      IV-1
<PAGE>
 
(a)  (3)  Exhibits
          --------

The following exhibits are filed herewith or are incorporated by reference
herein (according to the number assigned to them in Item 601 of Regulation S-K)
as noted:

2 - Plan of Acquisition, Reorganization, Arrangement, Liquidation or Succession:

    2.1   Reorganization Agreement dated as of December 4, 1996, among Tele-
          Communications, Inc. ("TCI"), TCI Communications, Inc. ("TCIC"), Tempo
          Enterprises, Inc., TCI Digital Satellite Entertainment, Inc., TCI K-1,
          Inc. ("TCI K-1"), United Artists K-1 Investments, Inc. ("UA K-1"), TCI
          SE Partner 1, Inc. ("TCISE 1"), TCI SE Partner 2, Inc. ("TCISE 2") and
          TCI Satellite Entertainment, Inc. (the "Company"). (c)

    2.2   Merger and Contribution Agreement dated as of February 6, 1998, among
          the Company, PRIMESTAR, Inc., Time Warner Entertainment Company L. P.
          ("TWE"), Advance/Newhouse Partnership ("Newhouse"), Comcast
          Corporation ("Comcast"), Cox Communications, Inc. ("Cox"), MediaOne of
          Delaware, Inc. ("MediaOne") and GE American Communications, Inc. ("GE
          Americom"). (e)

    2.3   Asset Transfer Agreement dated as of February 6, 1998, between the
          Company and PRIMESTAR, Inc. (e)

    2.4   Agreement and Plan of Merger dated as of February 6, 1998, between the
          Company and PRIMESTAR, Inc. (e)

    2.5   Guarantee Agreement dated as of February 6, 1998, by US WEST Media
          Group, Inc. ("US West"), in favor of each of the Company, PRIMESTAR,
          Inc., TWE, Newhouse, Comcast, Cox and GE Americom. (e)

    2.6   Letter Agreement dated as of February 6, 1998, between John C. Malone
          and the Company, PRIMESTAR, Inc., TWE, Newhouse, Comcast, Cox ,
          MediaOne and GE Americom, for the benefit of the Company, PRIMESTAR,
          Inc., TWE, Newhouse, Comcast, Cox, MediaOne and GE Americom. (e)

    2.7   Voting Agreement dated as of June 12, 1997, among John C. Malone, Time
          Warner Cable, a division of TWE, Comcast, the Company, Cox, MediaOne,
          Newhouse and GE Americom. (e)

    2.8   Voting Agreement dated as of June 12, 1997, among Donne F. Fisher, as
          Co-Personal Representative of the Estate of Bob Magness, Time Warner
          Cable, a division of TWE, Comcast, the Company, Cox, MediaOne,
          Newhouse and GE Americom. (e)

    2.9   Voting Agreement dated as of June 12, 1997, among TCI, John C. Malone,
          Time Warner Cable, a division of TWE, Comcast, the Company, Cox,
          MediaOne, Newhouse and GE Americom. (e)


                                     IV-2
<PAGE>
 
2 -  Plan of Acquisition, Reorganization, Arrangement, Liquidation or Succession
       (continued):

    2.10  Form of Stockholders Agreement among PRIMESTAR, Inc., the Company,
          TWE, Newhouse, Comcast, Cox, MediaOne, Continental Satellite company,
          Inc./, Continental Satellite Company of Chicago, Inc., Continental
          Satellite Company of Minnesota, Inc., Continental Satellite company of
          New England, Inc., Continental Satellite Company of Michigan, Inc.,
          Continental Satellite Company of Ohio, Inc., Continental Satellite
          Company of Virginia, Inc., MediaOne Satellite II, Inc., GE Americom
          and John C. Malone. (e)

    2.11  Form of Registration Rights Agreement among PRIMESTAR, Inc., the
          Company, TWE, Newhouse, Comcast, Cox, MediaOne, Continental Satellite
          Company, Inc., Continental Satellite Company of Chicago, Inc.,
          Continental Satellite Company of Minnesota, Inc., Continental
          Satellite Company of New England, Inc., Continental Satellite Company
          of Michigan, Inc., Continental Satellite Company of Ohio, Inc.,
          Continental Satellite Company of Virginia, Inc., MediaOne Satellite
          II, Inc., GE Americom and John C. Malone. (e)

    2.12  Stockholders Agreement dated as of February 6, 1998, among PRIMESTAR,
          Inc., the Company and John C. Malone. (e)

    2.13  TSAT Tempo Agreement dated as of February 6, 1998, between PRIMESTAR,
          Inc., and the Company. (e)


3 -  Articles of Incorporation and Bylaws:

    3.1   Amended and Restated Certificate of Incorporation of the Company. (d)

    3.2   Amended and Restated Bylaws of the Company. (b)


4 -  Instruments Defining the Rights of Security Holders:
 
    4.1   Specimen certificate representing shares of Series A Common Stock of
          the Company. (d)

    4.2   Specimen certificate representing shares of Series B Common Stock of
          the Company.(d)

10 - Material Contracts

    10.1  TCI Satellite Entertainment, Inc. 1996 Stock Incentive Plan. (d)

    10.2  Qualified Employee Stock Purchase Plan of the Company. (c)

    10.3  Indemnification Agreement dated December 4, 1996, by and between TCI
          and Gary S. Howard. (c)

    10.4  Option Agreement, dated as of December 4, 1996, by and between the
          Company and Gary S. Howard. (c)


                                     IV-3
<PAGE>
 
10 - Material Contracts (continued)

    10.5   Option Agreement, dated as of December 4, 1996, by and between the
           Company and Larry E. Romrell. (c)

    10.6   Option Agreement, dated as of December 4, 1996, by and between the
           Company and Brendan R. Clouston. (c)

    10.7   Option Agreement, dated as of December 4, 1996, by and between the
           Company and David P. Beddow. (c)

    10.8   1996 Ancillary Agreement Among Partners dated as of October 18, 1996,
           among PRIMESTAR Partners L.P., the Participating Partners named
           therein, GE American Services, Inc. and its affiliate GE American
           Communications, Inc. (c)

    10.9   Annex A to the 1996 Ancillary Agreement Among Partners. (d)

    10.10  Option Agreement dated February 8, 1990, between Tempo and K Prime
           Partners, L.P. (d)

    10.11  Letter Agreement dated July 30, 1993, between Tempo and PRIMESTAR
           Partners, L.P. relating to FSS. (d)

    10.12  Letter Agreement dated July 30, 1993, between Tempo and PRIMESTAR
           Partners, L.P. relating to BSS. (d)

    10.13  TPO-1-290 BSS Construction Agreement dated as of February 22, 1990,
           between Tempo and Space Systems/Loral, Inc.(d)(g)

    10.14  Trade Name and Service Mark License Agreement dated as of December 4,
           1996, between TCI and the Company. (c)

    10.15  Tax Sharing Agreement effective July 1, 1995, among TCIC and certain
           other subsidiaries of TCI. (d)

    10.16  First Amendment to Tax Sharing Agreement dated as of October 1995,
           among TCIC and certain other subsidiaries of TCI.(d)

    10.17  Second Amendment to Tax Sharing Agreement dated as of December 3,
           1996, among TCIC and certain other subsidiaries of TCI. (c)

    10.18  TCI/TSAT Tax Sharing Agreement dated June 1997, by and between the
           Company and TCI. (e)

    10.19  Share Purchase Agreement dated as of December 4, 1996, between TCI
           and the Company. (c)

    10.20  Option Agreement dated as of December 4, 1996, between TCI and the
           Company.(c)


                                     IV-4
<PAGE>
 
10 - Material Contracts (continued)

    10.21 Indemnification Agreement dated as of June 11, 1997 among News Corp.,
            the Company, PRIMESTAR Partners, Time Warner, Comcast, Cox,
            MediaOne, Newhouse, and GE Americom. (e)

    10.22 TCI Satellite Entertainment, Inc. 1997 Nonemployee Director Plan. (e)

    10.23 Asset Purchase Agreement by and among Hughes Electronics Corporation,
            PRIMESTAR, Inc., PRIMESTAR Partners L.P., Tempo Satellite, Inc. and
            the Stockholders of PRIMESTAR listed herein, date as of January 22,
            1999. (f)

    21  Subsidiaries of the Registrant.(a)

    27  Financial Data Schedule.(a)


-----------------------
    (a) Filed herewith.

    (b) Incorporated by reference to the Company's Annual Report on Form 10-K
        for the year ended December 31, 1997 (Commission File No. 0-21317).

    (c) Incorporated by reference to the Company's Annual Report on Form 10-K
        for the year ended December 31, 1996 (Commission File No. 0-21317).

    (d) Incorporated by reference to the Company's Registration Statement on
        Form 10 filed with the Securities and Exchange Commission ("SEC") on
        November 15, 1996 (Registration No. 0-21317).

    (e) Incorporated by reference to PRIMESTAR, Inc.'s Registration Statement
        on Form S-4 filed with the SEC on February 9, 1998 (Registration No.
        333-45835).

    (f) Incorporated by reference to the Company's Current Report on Form 8-K, 
        dated February 1, 1999.

    (g) Portions of this document have been granted confidential treatment by
        the SEC and have been redacted in accordance therewith.

   (b) Reports on Form 8-K filed during the quarter ended December 31, 1998:

       None.


                                      IV-5
<PAGE>
 
                                                                     Schedule II
                                                                     -----------


                       TCI SATELLITE ENTERTAINMENT, INC.

                       Valuation and Qualifying Accounts

                 Years ended December 31, 1998, 1997 and 1996


<TABLE>
<CAPTION>
                                                  Additions        Deductions
                                               ---------------  ----------------
                                Balance at       Charged to        Write-offs                           Balance
                                 beginning         profit            net of                             at end
Description                       of year         and loss         recoveries        Other (1)          of year
-----------                   ---------------  ---------------  ----------------  ----------------  ---------------
<S>                           <C>              <C>              <C>               <C>               <C>
                                                              amounts in thousands
Year ended
   December 31, 1998:
      Allowance for doubtful
         receivables - trade  $         5,307            3,062           (4,003)           (4,366)               --
                              ===============  ===============  ===============   ===============   ===============
 
Year ended
   December 31, 1997:
      Allowance for doubtful
         receivables - trade  $         4,666           18,339          (17,698)               --             5,307
                              ===============  ===============  ===============   ===============   ===============
 
Year ended
   December 31, 1996:
      Allowance for doubtful
         receivables - trade  $         4,819           19,235          (19,388)               --             4,666
                              ===============  ===============  ===============   ===============   ===============
 
</TABLE>

(1)  Contribution of accounts receivable and related allowance for doubtful
     accounts in connection with TSAT Asset Transfer.

 

                                     IV-6
<PAGE>
 
                          INDEPENDENT AUDITORS' REPORT



The Board of Directors and Stockholders
PRIMESTAR, Inc.:


     We have audited the accompanying consolidated balance sheets of PRIMESTAR,
Inc. and subsidiaries (as defined in note 1) as of December 31, 1998 and 1997
and the related consolidated statements of operations, equity (deficit), and
cash flows for each of the years in the three-year period ended December 31,
1998. In connection with our audit of the consolidated financial statements, we
have also audited the financial statement schedule listed in the index at Item
14(a). These consolidated financial statements and the financial statement
schedule are the responsibility of the Company's management. Our responsibility
is to express an opinion on these consolidated financial statements and the
financial statement schedule based on our audits.

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

     In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of PRIMESTAR,
Inc. and subsidiaries as of December 31, 1998 and 1997, and the results of their
operations and their cash flows for each of the years in the three-year period
ended December 31, 1998, in conformity with generally accepted accounting
principles. Also, in our opinion, the related financial statement schedule, when
considered in relation to the basic financial statements taken as a whole,
presents fairly, in all material respects, the information set forth therein.



                                             KPMG LLP
                
Denver, Colorado
April 15, 1999

                                     IV-7
<PAGE>
 
                        PRIMESTAR INC. AND SUBSIDIARIES

                          Consolidated Balance Sheets

                           December 31, 1998 and 1997


<TABLE>
<CAPTION>
                                                                         1998                 1997
                                                                  -------------------  -------------------
                                                                            amounts in thousands
Assets
------
 
<S>                                                               <C>                  <C>
Cash and cash equivalents                                                  $       --                6,084
 
Trade accounts receivable                                                     117,655               40,386
Other receivables                                                              29,387                   --
                                                                           ----------            ---------
                                                                              147,042               40,386
Less allowance for doubtful accounts                                            7,442                5,307
                                                                           ----------            ---------
                                                                              139,600               35,079
                                                                           ----------            ---------
 
Prepaid expenses                                                                3,967                1,262
 
Investment in PRIMESTAR Partners L.P. (the   "Partnership")
 (note 3)                                                                          --               11,093
 
 
Property and equipment, at cost:
 Satellites                                                                        --              463,133
 Satellite reception equipment                                              1,198,376              674,387
 Subscriber installation costs                                                270,384              227,131
 Support equipment                                                             93,698               34,389
                                                                           ----------            ---------
                                                                            1,562,458            1,399,040
 Less accumulated depreciation                                                413,868              277,103
                                                                           ----------            ---------
                                                                            1,148,590            1,121,937
                                                                           ----------            ---------
 
Intangible assets, net of accumulated amortization (note 6)                   786,373                   --
 
Deferred financing costs and other assets, net of accumulated                       
 amortization                                                                  33,557               29,401
                                                                           ----------            ---------
                                                                                      
 
                                                                           $2,112,087            1,204,856
                                                                           ==========            =========
</TABLE>

                                                                     (continued)

                                     IV-8
<PAGE>
 
                        PRIMESTAR INC. AND SUBSIDIARIES

                     Consolidated Balance Sheets, continued

                           December 31, 1998 and 1997


<TABLE>
<CAPTION>
                                                                          1998                   1997
                                                                  ---------------------  ---------------------
                                                                              amounts in thousands
Liabilities and Stockholders' Equity (Deficit)
----------------------------------------------
 
<S>                                                               <C>                    <C>
Accounts payable                                                           $   195,873                 50,755
Accrued charges from related parties (note 12)                                  14,792                 62,816
Accrued commissions                                                             16,296                 10,435
Accrued interest payable                                                        16,142                  8,658
Other accrued expenses                                                         104,463                 17,712
Deferred revenue                                                               100,948                 29,675
Due to the Partnership (note 13)                                                    --                463,133
Debt (note 8)                                                                1,833,195                418,729
Deferred income taxes (note 11)                                                 75,057                     --
Other liabilities                                                               40,095                  6,674
                                                                           -----------              ---------
 
    Total liabilities                                                        2,396,861              1,068,587
                                                                           -----------              ---------
 
 
Stockholders' Equity (Deficit) (note 9):
 PRIMESTAR, Inc. ("PRIMESTAR") preferred stock, $.01 par
  value; authorized 350,000,000 shares; none issue                                  --                     --
 PRIMESTAR Class A common stock, $.01 par value;
  authorized 850,000,000 shares; issued 179,143,934 in
  1998                                                                           1,791                     --
 PRIMESTAR Class B common stock, $.01 par value;
  authorized 50,000,000 shares; issued 8,465,324 in 1998                            85                     --
 PRIMESTAR Class C common stock, $.01 par value;
  authorized 30,000,000 shares; issued 13,332,365 in 1998                          133                     --
 PRIMESTAR Class D common stock, $.01 par value;
  authorized 150,000,000 shares; none issued                                        --                     --
 TCI Satellite Entertainment, Inc. ("TSAT") preferred
  stock, $.01 per value; authorized 5,000,000 shares;
  none issued                                                                       --                     --
 TSAT Series A common stock; $1 par value; authorized
  185,000,000 shares; issued 58,239,136 shares in 1997                              --                 58,239
 TSAT Series B common stock, $1 par value; authorized
  10,000,000 shares; issued 8,465,324 shares in 1997                                --                  8,465
 Additional paid-in capital                                                  1,511,041                523,685
 Accumulated deficit                                                        (1,797,824)              (454,120)
                                                                           -----------              ---------
 
   Total stockholders' equity (deficit)                                       (284,774)               136,269
                                                                           -----------              ---------
Commitments and contingencies (note 13)                                    $ 2,112,087              1,204,856
                                                                           ===========              =========
</TABLE>

See accompanying notes to consolidated financial statements.

                                     IV-9
<PAGE>
 
                        PRIMESTAR INC. AND SUBSIDIARIES

                     Consolidated Statements of Operations

                  Years ended December 31, 1998, 1997 and 1996


<TABLE>
<CAPTION>
                                                       1998                 1997                 1996
                                                -------------------  -------------------  -------------------
                                                                    amounts in thousands,
                                                                  except per share amounts
<S>                                             <C>                  <C>                  <C>
Revenue:
 Programming and equipment rental                      $ 1,227,270              512,894              351,548
 Installation                                               62,396               49,096               65,913
                                                       -----------             --------             --------
                                                         1,289,666              561,990              417,461
                                                       -----------             --------             --------
Operating costs and expenses:
 Charges from the Partnership
   (note 12)                                                82,235              259,600              188,724
 Operating (note 12)                                       565,510               23,992               28,546
 Selling, general and administrative
  (note 12)                                                438,795              198,263              193,566
 Transition (note 12)                                       20,855                   --                   --
 Restructuring charges (note 10)                            26,025                   --                   --
 Impairment of long-lived assets (note 2)                  950,289                   --                   --
 Stock compensation                                            414                8,092                 (446)
 Depreciation (note 5)                                     445,911              243,642              191,355
 Amortization                                               97,176                   --                   --
                                                       -----------             --------             --------
                                                         2,627,210              733,589              601,745
                                                       -----------             --------             --------
 
    Operating loss                                      (1,337,544)            (171,599)            (184,284)
                                                       -----------             --------             --------
 
Other income (expense):
 Interest expense                                         (145,939)             (47,992)              (2,023)
 Share of losses of the Partnership                         (5,822)             (20,473)              (3,275)
 Other, net                                                 (1,927)               1,723                3,641
                                                       -----------             --------             --------
                                                          (153,688)             (66,742)              (1,657)
                                                       -----------             --------             --------
 
    Loss before income taxes                            (1,491,232)            (238,341)            (185,941)
 
Income tax benefit (note 11)                               147,528                   --               45,937
                                                       -----------             --------             --------
 
    Net loss                                           $(1,343,704)            (238,341)            (140,004)
                                                       ===========             ========             ========
 
Basic and diluted loss per common share
 (note 6)                                              $     (8.02)               (3.58)               (2.11)
                                                       ===========             ========             ========

</TABLE>

See accompanying notes to consolidated financial statements.

                                     IV-10
<PAGE>
 
                        PRIMESTAR INC. AND SUBSIDIARIES

           Consolidated Statements of Stockholders' Equity (Deficit)

                  Years ended December 31, 1998, 1997 and 1996
<TABLE>
<CAPTION>
                                                                                                                    
                                                                                                                    
                                                          PRIMESTAR Common Stock               TSAT Common Stock  
                                            ----------------------------------------------  -----------------------
                                                 Class A             Class B       Class C    Series A    Series B  
                                            ------------------  -----------------  -------  ------------  --------- 
                                                                          amounts in thousands                     
<S>                                         <C>                 <C>                <C>      <C>           <C>       
Balance at January 1, 1996                  $               --                 --       --           --         --  
 Net loss                                                   --                 --       --           --         --  
 TCIC intercompany allocations                              --                 --       --           --         --  
 Net cash transfers from TCIC                               --                 --       --           --         --  
 Recognition of deferred tax assets                                                                                
  upon transfer of PRIMESTAR                                                                                       
  Partners investment in connection                                                                                
  with Distribution (note 4)                                --                 --       --           --         --  
 Adjustment to reflect consummation                                                                                
  of Distribution (note 4)                                  --                 --       --       57,941      8,467  
 Issuance of TSAT Series A Common                                                                                  
  Stock upon conversion of notes of         
  Tele-Communications, Inc.                                 --                 --       --            5         --  
                                            ------------------  -----------------  -------      -------   --------  
Balance at December 31, 1996                                --                 --       --       57,946      8,467  
 Net loss                                                   --                 --       --           --         --  
 Recognition of stock compensation                                                                                 
  related to stock options and                                                                                     
  restricted stock awards                                   --                 --       --           --         --  
 Issuance of TSAT Series A Common                                                                                  
  Stock related to restricted stock awards                  --                 --       --           33         --  
 Issuance of TSAT Series A Common                                                                                  
  Stock upon conversion of convertible                                                                             
  securities of Tele-Communications, Inc.                   --                 --       --          258         --  
 Conversion of TSAT Series B to TSAT                                                                               
  Series A                                                  --                 --       --            2         (2) 
                                            ------------------  -----------------  -------      -------   --------  
Balance at December 31, 1997                                --                 --       --       58,239      8,465  
 Net loss                                                   --                 --       --           --         --  
 Recognition of stock compensation                                                                                 
  related to stock options and                                                                                     
  restricted stock awards                                   --                 --       --           --         --  
 Issuance of TSAT Series A Common                                                                                  
  Stock related to restricted stock awards                  --                 --       --           50         --  
 Issuance of TSAT Series A Common                                                                                  
  Stock upon conversion of convertible                                                                             
  securities of Tele-Communications, Inc.                   --                 --       --          989         --  
 Issuance of PRIMESTAR common stock                                                                          
  in Restructuring (note 3)                              1,791                 85      133      (59,278)    (8,465) 
 Reimbursement of TSAT expenses (note                                                                          
  12)                                                       --                 --       --           --         --  
                                            ------------------  -----------------  -------      -------   --------  
Balance at December 31, 1998                            $1,791                 85      133           --         --  
                                            ==================  =================  =======      =======   ========  


<CAPTION> 

                                                                           Due to TCI
                                             Additional                  Communications,        Total
                                               paid-in      Accumulated        Inc.          stockholders'   
                                               capital        deficit        ("TCIC")      equity (deficit)
                                            --------------  -----------  ----------------  ----------------
                                                                       amounts in thousands
                                            <C>             <C>          <C>               <C>
Balance at January 1, 1996                              --      (75,775)          559,359           483,584
 Net loss                                               --     (140,004)               --          (140,004)
 TCIC intercompany allocations                          --           --            21,009            21,009
 Net cash transfers from TCIC                           --           --           228,622           228,622
 Recognition of deferred tax assets         
  upon transfer of PRIMESTAR                
  Partners investment in connection         
  with Distribution (note 4)                            --           --            29,142            29,142 
 Adjustment to reflect consummation         
  of Distribution (note 4)                         521,724           --          (838,132)         (250,000) 
 Issuance of TSAT Series A Common           
  Stock upon conversion of notes of 
  Tele-Communications, Inc.                             --           --                --                 5
                                            --------------  -----------  ----------------  ----------------
Balance at December 31, 1996                       521,724     (215,779)               --           372,358
 Net loss                                               --     (238,341)               --          (238,341)
 Recognition of stock compensation          
  related to stock options and              
  restricted stock awards                            1,781           --                --             1,781
 Issuance of TSAT Series A Common           
  Stock related to restricted stock awards             180           --                --               213
 Issuance of TSAT Series A Common           
  Stock upon conversion of convertible      
  securities of Tele-Communications, Inc.               --           --                --               258
 Conversion of TSAT Series B to TSAT        
  Series A                                              --           --                --                --
                                            --------------  -----------  ----------------  ----------------
Balance at December 31, 1997                       523,685     (454,120)               --           136,269
 Net loss                                               --   (1,343,704)               --        (1,343,704)
 Recognition of stock compensation          
  related to stock options and              
  restricted stock awards                            2,596           --                --             2,596
 Issuance of TSAT Series A Common           
  Stock related to restricted stock awards             (50)          --                --                --
 Issuance of TSAT Series A Common           
  Stock upon conversion of convertible      
  securities of Tele-Communications, Inc.               --           --                --               989
 Issuance of PRIMESTAR common stock   
  in Restructuring (note 3)                        984,962           --                --           919,228
 Reimbursement of TSAT expenses (note   
  12)                                                 (152)          --                --              (152)
                                            --------------  -----------  ----------------  ----------------
Balance at December 31, 1998                     1,511,041   (1,797,824)               --          (284,774)
                                            ==============  ===========  ================  ================
</TABLE>

See accompanying notes to consolidated financial statements.


                                     IV-11
<PAGE>
 
                        PRIMESTAR INC. AND SUBSIDIARIES

                     Consolidated Statements of Cash Flows

                  Years ended December 31, 1998, 1997 and 1996


<TABLE>
<CAPTION>
                                                                             1998         1997       1996
                                                                         -------------  ---------  ---------
                                                                                amounts in thousands
                                                                                    (see note 7)
<S>                                                                      <C>            <C>        <C>
Cash flows from operating activities:
 Net loss                                                                 $(1,343,704)  (238,341)  (140,004)
 Adjustments to reconcile net loss to net cash provided by
  operating activities:
    Depreciation and amortization                                             543,087    243,642    191,355
    Share of losses of the Partnership                                          5,822     20,473      3,275
    Accretion of debt discount                                                 20,941     16,719         --
    Restructuring charges                                                      26,025         --         --
    Payments related to restructuring charges                                  (6,388)        --         --
    Impairment of long-lived assets                                           950,289         --         --
    Stock compensation                                                            414      8,092       (446)
    Payments related to stock appreciation rights                              (2,479)        --         --
    Deferred income tax expense (benefit)                                    (147,528)        --     24,708
    Other non-cash charges (credits)                                            3,940      6,919       (311)
    Changes in operating assets and liabilities, net of the
     effect of the Restructuring:
       Change in receivables                                                  (79,838)   (15,014)     4,364
       Change in prepaids                                                       3,417       (335)      (841)
       Change in accruals, payables and other
        liabilities                                                           132,375     42,056     24,096
       Change in deferred revenue                                              30,802      7,426      9,005
                                                                          -----------   --------   --------
         Net cash provided by operating activities                            137,175     91,637    115,201
                                                                          -----------   --------   --------
 
Cash flows from investing activities:
 Cash paid in Restructuring                                                   (54,894)        --         --
 Capital expended for property and equipment                                 (563,334)  (227,327)  (326,621)
 Capital expended for construction of satellites                                   --     (5,448)   (74,785)
 Additional investments in, and related advances to, the
  Partnership                                                                     (75)    (7,073)   (17,552)
 Repayments of advances to the Partnership                                         --      7,815         --
 Other investing activities                                                    (6,365)    (1,581)    (5,458)
                                                                          -----------   --------   --------
         Net cash used in investing activities                               (624,668)  (233,614)  (424,416)
                                                                          -----------   --------   --------
 
Cash flows from financing activities:
 Borrowings of debt                                                           959,761    498,061    259,000
 Repayments of debt                                                          (469,858)  (344,699)  (263,000)
 Payment of deferred financing costs                                           (9,483)   (17,780)    (7,000)
 Proceeds from issuance of common stock                                           989        471         --
 Increase in due to the Partnership                                                --      5,448     74,785
 Increase in due to TCIC                                                           --         --    250,189
                                                                          -----------   --------   --------
         Net cash provided by financing activities                            481,409    141,501    313,974
                                                                          -----------   --------   --------
 
         Net increase (decrease) in cash and cash
          equivalents                                                          (6,084)      (476)     4,759
 
 
         Cash and cash equivalents:
          Beginning of year                                                     6,084      6,560      1,801
                                                                          -----------   --------   --------
 
          End of year                                                    $         --      6,084      6,560
                                                                         ============   ========   ========
</TABLE>

See accompanying notes to financial statements.

                                     IV-12
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements


                        December 31, 1998, 1997 and 1996


(1)  Organization and Basis of Presentation
     --------------------------------------

     The accompanying consolidated financial statements of PRIMESTAR, Inc.
     ("PRIMESTAR" or the "Company") include the historical financial information
     of (i) certain satellite television assets (collectively, "TCI SATCO") of
     TCIC, a subsidiary of Tele-Communications, Inc. ("TCI") for periods prior
     to the December 4, 1996 consummation of the distribution transaction
     described in note 4, (ii) TSAT and its consolidated subsidiaries for the
     period from December 5, 1996 through March 31, 1998 and (iii) PRIMESTAR and
     its consolidated subsidiaries for the period subsequent to March 31, 1998.
     PRIMESTAR was incorporated on August 27, 1997, and subsequently, ten shares
     of the Company's common stock were issued to TSAT for a capital
     contribution of $10.  All significant inter-entity and intercompany
     transactions have been eliminated.

     The Company owns and operates the PRIMESTAR(R) direct to home satellite
     service throughout the continental U.S.  The PRIMESTAR(R) service is
     transmitted via a satellite ("GE-2") owned and operated by GE American
     Communications ("GE Americom") at the 85 West Longitude ("W.L.") orbital
     position.

(2)  The Hughes Transactions
     -----------------------

     On January 22, 1999, PRIMESTAR announced that it had reached an agreement
     with Hughes Electronics Corporation ("Hughes"), a subsidiary of General
     Motors Corporation, to sell its medium-power direct broadcast satellite
     ("DBS") business and assets to Hughes for $1.1 billion in cash and 4.871
     million shares of General Motors Class H common stock ("GMH Stock") valued
     at approximately $225 million, based on the closing price of GMH Stock on
     the date of the purchase agreement (the "Hughes Medium Power Transaction").
     The foregoing purchase price is subject to adjustments for working capital
     at the date of closing. The Company is responsible for the payment of
     certain obligations not assumed by Hughes, satisfaction of its funded
     indebtedness and the payment of costs, currently estimated to range from
     $270 million to $340 million, associated with the termination of certain
     vendor and service contracts and lease agreements related to the Company's
     medium power business and proposed high power business strategy. The
     consummation of the Hughes Medium Power Transaction is subject to various
     consents from PRIMESTAR's lenders; restructuring of certain of the
     Company's indebtedness, as described below; and other customary conditions.

     On February 1, 1999 and in connection with the Hughes Medium Power
     Transaction, the Company commenced tender offers (the "Tender Offers") to
     purchase 100% of the outstanding principal amount of the Company's 10 7/8%
     Senior Subordinated Notes due 2007 (the "Senior Subordinated Notes") at a
     price of $670 per $1,000 principal amount and 100% of the outstanding
     principal amount of the Company's 12 1/4% Senior Subordinated Discount
     Notes due 2007 (the "Senior Subordinated Discount Notes", and together with
     the Senior Subordinated Notes, the "Notes") at a price of 67% of the
     accreted value of the Senior Subordinated Discount Notes as of February 15,
     1999.

                                                                     (continued)
                                     IV-13
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements

     In addition, PRIMESTAR made a separate offer to lenders under the
     Company's Senior Subordinated Credit Agreement, dated as of April 1, 1998
     (the "Interim Loan Agreement"), to purchase 100% of the outstanding
     principal amount due thereunder at a price of $670 per $1,000 principal
     amount (the "Offer to Purchase"). Each of the Tender Offers and the Offer
     to Purchase was subject to a minimum tender condition of 90% of the
     outstanding principal amount of such issue. In conjunction with the Tender
     Offers, PRIMESTAR solicited consents to certain proposed amendments to the
     indentures governing the Notes and the Interim Loan that would eliminate
     substantially all of the restrictive covenants thereunder and would amend
     certain other provisions. Consummation of both the Tender Offers and the
     Offer to Purchase was conditioned upon the closing of the Hughes Medium
     Power Transaction and other conditions.

     Following several extensions, the Tender Offer and the Offer to Purchase
     expired on March 25, 1999.  The minimum tender conditions were not
     satisfied under the Tender Offer and Offer to Purchase, and no securities
     or loans were purchased thereunder.

     Since the announcement of the Hughes Medium Power Agreement and of the
     proposed restructuring of the Company's senior subordinated indebtedness
     relating thereto (the "Proposed Debt Restructuring"), the Company has been
     engaged in negotiations with the representatives of an informal committee
     (the "Bondholders' Committee") of holders of Notes and with representatives
     of an informal committee (the "Bridge Lenders' Committee" and, together
     with the Bondholders' Committee, the "Committees") of holders of loans
     under the Interim Loan Agreement, with respect to the possible terms and
     conditions of the Proposed Debt Restructuring.  In that connection, the
     Company has entered into confidentiality agreements with certain
     representatives of the Committees and has agreed to pay certain expenses of
     the Committees, including certain fees and expenses of their legal counsel
     and financial advisor.  Based on the progress of such negotiations to date,
     the Company believes that the Proposed Debt Restructuring will be
     consummated on terms satisfactory to the Company and such Committees, by
     means of privately negotiated transactions. However, the Company has not
     entered into any agreements to date with respect to the terms and
     conditions of any such restructuring, and there can be no assurance that
     the Proposed Debt Restructuring will be consummated. In the event the
     Company is unable to negotiate certain minimum tender conditions in
     connection with the Proposed Debt Restructuring, the Company does not
     intend to consummate the Hughes Medium Power Transaction.

     In connection with their approval of the Hughes Medium Power Transaction,
     the stockholders of PRIMESTAR also approved the payment to TSAT of
     consideration (the "PRIMESTAR Payment") in the amount of $65 million,
     payable in shares of GMH Stock, valued at $46.1875 (the closing price of
     such stock on the date of the purchase agreements with Hughes), subject to
     the terms and conditions set forth in an agreement dated as of January 22,
     1999 (the "PRIMESTAR Payment Agreement"). In consideration of the PRIMESTAR
     Payment, TSAT agreed to approve the Hughes Medium Power Transaction and
     Hughes High Power Transaction as a stockholder of PRIMESTAR, to modify
     certain agreements to facilitate the Hughes High Power Transaction, and to
     issue the Company a share appreciation right with respect to the shares of
     GMH Stock received as the PRIMESTAR Payment, granting the Company the right
     to any appreciation in such GMH Stock over the one year period following
     the date of issuance, over an agreed strike price of $47.00. Pursuant to
     the PRIMESTAR Payment Agreement, TSAT has also agreed to forego any
     liquidating distribution or other payment that may be made in respect of
     the outstanding shares of PRIMESTAR upon any dissolution and winding-up of
     PRIMESTAR, or otherwise in respect of PRIMESTAR'S existing equity. Such
     payment is conditioned upon the closing of the Hughes Medium Power
     Transaction.

                                                                     (continued)

                                     IV-14
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements

     In connection with the Hughes Medium Power Transaction, the Company
     concluded that it would be unable to recover the carrying value of its
     assets over their expected remaining useful life.  Accordingly, the Company
     has recorded an impairment loss of $950,289,000 (the "Impairment Loss"),
     which represents the difference between the carrying value of the Company's
     assets and their estimated fair value.  Such fair value was based upon the
     estimated consideration to be received by the Company in the Hughes Medium
     Power Transaction.

     The reduction in carrying amount of assets included in the Impairment Loss
     is as follows (amounts in thousands):
<TABLE>
<CAPTION>
<S>                                                         <C> 
Property and equipment: 
 Satellite reception equipment                              $103,898
 Subscriber installation costs                               223,541
Intangible assets:
 Excess purchase price over acquired net assets              401,475
 Tradename                                                   221,375
                                                            --------
 
                                                            $950,289
                                                            ========
</TABLE>
     In a separate transaction, the Company announced that TSAT and the Company
     had reached an agreement with Hughes to sell (i) TSAT's authorizations
     granted by the Federal Communications Commission (the "FCC") and other
     assets and liabilities relating to a proposed DBS system being constructed
     by Tempo Satellite, Inc. ("Tempo"), a subsidiary of TSAT, at 119 degrees
     W.L. (collectively, the "Tempo DBS Assets") and (ii) PRIMESTAR's rights
     relating to the Tempo DBS Assets (see note 13) to Hughes, for aggregate
     consideration valued at $500 million (the "Hughes High Power Transaction").
     Pursuant to the agreement, Hughes would assume $465 million of TSAT's
     liability to the Partnership, pay TSAT $2.5 million in cash and pay
     PRIMESTAR and the Partnership $32.5 million in cash. In addition, the
     Partnership has agreed to forgive amounts due from TSAT in excess of the
     $465 million to be assumed by Hughes ($4,498,000 at December 31, 1998). To
     facilitate such transaction, the Partnership would terminate and relinquish
     the Tempo Capacity Option, as defined in note 13.

     Due to the fact that regulatory approval is required to transfer certain of
the Tempo DBS Assets to Hughes, the Hughes High Power Transaction will be
completed in two steps. Effective March 10, 1999, the first closing of the
Hughes High Power Transaction (the "First Closing") was consummated whereby
Hughes acquired one of Tempo's high power satellites ("Tempo DBS-2") and
PRIMESTAR's option to acquire Tempo DBS-2 (the "Tempo DBS-2 Option") for
aggregate consideration of $150 million. Such consideration was comprised of the
following: (i) $9,750,000 paid to PRIMESTAR and the Partnership for the Tempo
DBS-2 Option and the termination of the Partnership's rights under the Tempo
Capacity Option, (ii) $750,000 paid to TSAT to exercise the Tempo DBS-2 Option
and (iii) the assumption by Hughes of $139,500,000 due to the Partnership from
TSAT in exchange for Tempo DBS-2. Simultaneously with the First Closing, Hughes
repaid the liability to the Partnership that Hughes assumed. 

With regard to the sale of the remaining assets contemplated by the Hughes High
Power Agreement (the "Second Closing"), Tempo has been notified that its in-
orbit satellite ("Tempo DBS-I") experienced power reductions which occurred on
March 29, 1999 and April 2, 1999. Although the Company does not believe the
extent of such power reductions is significant, a definitive assessment of the
impact on Tempo DBS-I is not yet complete. Notwithstanding the foregoing, the
Second Closing, which is subject to the receipt of appropriate regulatory
approvals and other customary closing conditions, is expected to be consummated
in the second quarter of 1999. In the event the Second Closing is not
consummated and the Hughes High Power Agreement is abandoned, there can be no
assurance that the Company will be able to recover the carrying amount of its
satellite rights.

In addition, consummation of the Hughes Medium Power Transaction is not
dependent on completion of the Hughes High Power Transaction, and completion of
the Hughes High Power Transaction is not dependent on consummation of the Hughes
Medium Power Transaction.

     The Company has a history of operating losses and reported an accumulated
deficit at December 31, 1998. In connection with the Hughes Medium Power
Transaction, affiliates of the stockholders of the Company other than TSAT, and
an affiliate of TCI have committed to make funds available to the Company,
either in the form of capital contributions or loans, up to an aggregate of
$1,013 million. Management of the Company believes, but cannot assure, that when
such funds are combined with the proceeds from the Hughes Medium Power and High
Power Transactions and the Company's existing sources of liquidity, that the
Company will be able to meet its obligations as they become due and payable.

     In the event the Hughes Medium Power Transaction is not consummated and is
abandoned, the Company currently intends to continue operating its medium power
business. Under such scenario, the Company anticipates that it would curtail
marketing and sales activities, reduce the number of new installations and
otherwise reduce expenditures to the extent possible. The Company believes, but
cannot assure, that in such event, the Company's cash flow from continuing
operations, commitments from the Company's stockholders to make certain funds
available to the Company and proceeds from the Hughes High Power Transaction
would provide the necessary funds for the Company to meets its obligations as
they become due and payable through December 31, 1999. In the event the Company
is unable to meet its obligations as they become due and payable, the Company
may be required to restructure or refinance certain of its liabilities. There
can be no assurance that such restructuring or refinancing, if necessary, would
be accomplished on terms acceptable to the Company.

                                                                     (continued)

                                     IV-15
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements

(3)  The Restructuring and the TSAT Merger
     -------------------------------------

     The Restructuring
     -----------------

     Effective April 1, 1998 (the "Closing Date") and pursuant to (i) a Merger
     and Contribution Agreement dated as of February 6, 1998 (the "Restructuring
     Agreement"), among the Company, TSAT, Time Warner Entertainment Company,
     L.P. ("TWE"), Advance/Newhouse Partnership ("Newhouse"), Comcast
     Corporation ("Comcast"), Cox Communications, Inc. ("Cox"), MediaOne of
     Delaware, Inc. ("MediaOne"), and GE Americom, and (ii) an Asset Transfer
     Agreement dated as of February 6, 1998 (the "TSAT Asset Transfer
     Agreement"), between the Company and TSAT, a business combination (the
     "Restructuring") was consummated.  In connection with the Restructuring,
     TSAT contributed and transferred to the Company (the "TSAT Asset Transfer")
     all of TSAT's assets and liabilities except (i) the capital stock of Tempo,
     (ii) the consideration received by TSAT in the Restructuring and (iii) the
     rights and obligations of TSAT under agreements with the Company and
     others.  In addition, (i) the business of the Partnership, (ii) the
     business of distributing the PRIMESTAR(R) programming service
     ("PRIMESTAR(R)"), including certain related assets and liabilities of each
     of TWE, Newhouse, Comcast, Cox and affiliates of MediaOne, and (iii) the
     interest in the Partnership of each of TWE, Newhouse, Comcast, Cox,
     affiliates of MediaOne and GE Americom (collectively, the "Non-TSAT
     Parties") were consolidated into the Company.

     In connection with the Restructuring, each of TSAT, Comcast, Cox, MediaOne,
     Newhouse, TWE and GE Americom received from the Company (i) cash or an
     assumption of indebtedness, (ii) shares of Class A Common Stock, $.01 par
     value per share, of the Company, ("Class A Common Stock"), (iii) in the
     case of TSAT only, shares of Class B Common Stock, $.01 par value per
     share, of the Company ("Class B Common Stock"), and (iv) except in the case
     of TSAT and GE Americom, shares of Class C Common Stock, $.01 par value per
     share, of the Company ("Class C Common Stock"), in each case in an amount
     determined pursuant to the Restructuring Agreement.  The total
     consideration paid by PRIMESTAR to the Non-TSAT Parties (including assumed
     liabilities) aggregated approximately $2.2 billion comprising $1.3 billion
     of cash and assumed liabilities and $900 million of common stock.

     As of December 31, 1998, the approximate ownership of PRIMESTAR's common
     stock was as follows:

<TABLE>
<CAPTION>
                                                                    Ownership
               Name of Beneficial Owner                             Percentage
               ------------------------                             ----------
 
               <S>                                                  <C>
               TSAT                                                   37.23%
               TWE and Newhouse (collectively)                        30.02%
               Comcast                                                9.50%
               MediaOne                                               9.69%
               Cox                                                    9.43%
               GE Americom                                            4.13%
</TABLE>

                                                                     (continued)
                                     IV-16
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements

     The TSAT Asset Transfer has been recorded at TSAT's historical cost, and
     the remaining elements of the Restructuring, as set forth above, have been
     accounted for using the purchase method of accounting.  The fair value of
     the consideration issued to the Non-TSAT Parties has been allocated to the
     assets and liabilities acquired based upon the estimated fair values of
     such assets and liabilities.

     TSAT has been identified as the acquirer for accounting purposes and the
     predecessor for financial reporting purposes due to the fact that TSAT owns
     the largest interest in the Company immediately following consummation of
     the Restructuring.

     The following pro forma operating results for the Company assume the
     Restructuring had been consummated on January 1, 1997.  Such unaudited pro
     forma financial information is based upon historical results of operations
     adjusted for acquisition costs and, in the opinion of management, is not
     necessarily indicative of the results had the Restructuring been
     consummated on January 1, 1997.

<TABLE>
<CAPTION>
                                                                                Year ended
                                                                               December 31,
                                                           ----------------------------------------------------
                                                                     1998                       1997
                                                           -------------------------  -------------------------
 
<S>                                                        <C>                        <C>
Revenue                                                                 $ 1,493,729                  1,272,274
Net loss                                                                $(1,434,214)                  (509,620)
Loss per common share                                                   $     (7.14)                     (2.54)
</TABLE>

     The TSAT Merger
     ---------------

     Effective February 6, 1998, PRIMESTAR and TSAT entered into an Agreement
     and Plan of Merger (the "TSAT Merger Agreement"), providing for the merger
     of TSAT with and into PRIMESTAR, with PRIMESTAR as the surviving
     corporation (the "TSAT Merger"). In connection with the First Closing, the
     Company and TSAT terminated the TSAT Merger Agreement.

(4)  Distribution Transaction
     ------------------------

     On December 4, 1996 (the "Distribution Date"), TCI distributed (the
     "Distribution") all the capital stock of the Company to the holders of
     Tele-Communications, Inc. Series A TCI Group Common Stock (the "Series A
     TCI Group Stock") and Tele-Communications, Inc. Series B TCI Group Common
     Stock (the "Series B TCI Group Stock" and, together with the Series A TCI
     Group Stock, the "TCI Group Stock").  Holders of TCI Group Stock received
     one share of TSAT Series A Common Stock for each ten shares of Series A TCI
     Group Stock owned and one share of TSAT Series B Common Stock for each ten
     shares of Series B TCI Group Stock owned.

     In connection with the Distribution, the Company and TCI entered into
     various agreements, including the "Reorganization Agreement" (see below),
     the "Fulfillment Agreement" and the "Transition Services Agreement" (see
     note 12), and an amendment to TCI's existing "Tax Sharing Agreement" (see
     note 11).

                                                                     (continued)
                                     IV-17
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements


     Pursuant to the Reorganization Agreement, on the Distribution Date, the
     Company issued to TCIC a promissory note (the "Company Note"), in the
     principal amount of $250,000,000, representing a portion of the Company's
     intercompany balance owed to TCIC on such date.  The remainder of the
     Company's intercompany balance owed to TCIC on the Distribution Date (other
     than certain advances made to the Company by TCIC in 1996 to fund certain
     construction and related costs associated with the Tempo Satellites, as
     described in note 13) was assumed by TCI in the form of a capital
     contribution to the Company.  On December 31, 1996, the Company entered
     into a bank credit agreement (the "Bank Credit Facility") and used a
     portion of the borrowing availability thereunder to repay in full all
     principal and interest due to TCIC pursuant to the Company Note.

(5)  Changes in Accounting
     ---------------------

     During the fourth quarter of 1996, the Company changed its depreciation
     policy for subscriber installation costs. Such change was adopted effective
     October 1, 1996 and was treated as a change in accounting policy that was
     inseparable from a change in estimate. Accordingly, the cumulative effect
     of such change for periods prior to October 1, 1996, together with the
     fourth quarter 1996 effect of such change, was included in the Company's
     depreciation expense for the fourth quarter of 1996.  Consequently, this
     change in policy resulted in increases to the Company's depreciation
     expense, net loss and net loss per share for the year ended December 31,
     1996 of $55,304,000 ($8,754,000 of which relates to periods prior to
     January 1, 1996), $41,478,000 ($6,566,000 of which relates to periods prior
     to January 1, 1996) and $.62 ($.10 of which relates to periods prior to
     January 1, 1996), respectively.

     The Company also revised the estimated useful life of certain satellite
     reception equipment on a prospective basis as of October 1, 1996.  Such
     change in estimate resulted in increases to the Company's depreciation
     expense, net loss and net loss per share for the year ended December 31,
     1996 of $7,796,000, $5,847,000 and $.09, respectively.

(6)  Summary of Significant Accounting Policies
     ------------------------------------------
 
     Cash and Cash Equivalents

     The Company considers all highly liquid investments with a maturity of
     three months or less at the date of acquisition to be cash equivalents.

     Investment in PRIMESTAR Partners L.P.

     Prior to the Restructuring, the Company used the equity method to account
     for its investment in the Partnership.  Under this method, the investment,
     originally recorded at cost, was adjusted to recognize the Company's share
     of the net earnings or losses of the Partnership as they occurred, rather
     than as dividends or other distributions were received, limited to the
     extent of the Company's investment in, and advances and commitments to, the
     Partnership.  The Company's share of net earnings or losses of the
     Partnership included the amortization of the difference between the
     Company's investment and its share of the net assets of the Partnership.
     As part of the Restructuring, the Partnership became a wholly-owned
     subsidiary of the Company.

                                                                     (continued)

                                     IV-18
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements

     Property and Equipment

     Property and equipment is stated at cost. Depreciation is computed on a
     straight-line basis using estimated useful lives of 4 to 6 years (4 to 8
     years through September 30, 1996) for satellite reception equipment and 3
     to 10 years for support equipment. Subscriber installation costs are
     depreciated over the estimated average life of a subscriber (4 years).  Any
     subscriber installation costs that have not been fully depreciated at the
     time service to a subscriber is terminated are charged to depreciation
     expense during the period in which such termination occurs.

     Repairs and maintenance are charged to operations, and betterments and
     additions are capitalized. At the time of ordinary retirements of satellite
     reception equipment, sales or other dispositions of property, the original
     cost and cost of removal of such property are charged to accumulated
     depreciation, and salvage, if any, is credited thereto.

     The Company periodically reviews the carrying amount of its long-lived
     assets to determine whether current events or circumstances warrant
     adjustments to such carrying amounts. The Company considers historical and
     expected future net operating losses to be its primary indicators of
     potential impairment. Assets are grouped and evaluated for impairment at
     the lowest level for which there are identifiable cash flows that are
     largely independent of the cash flows of other groups of assets ("Assets").
     The Company deems Assets to be impaired if the Company is unable to recover
     the carrying value of its Assets over their expected remaining useful life
     through a forecast of undiscounted future operating cash flows directly
     related to the Assets. If Assets are deemed to be impaired, the loss is
     measured as the amount by which the carrying amount of the Assets exceeds
     their fair values. PRIMESTAR generally measures fair value by considering
     sales prices for similar assets or by discounting estimated future cash
     flows. Considerable management judgment is necessary to estimate discounted
     future cash flows. Accordingly, actual results could vary significantly
     from such estimates.

     Intangible Assets

     Intangible assets at December 31, 1998 are comprised of the following
     (amounts in thousands):

<TABLE>
<S>                                         <C>
  Customer relationships                    $390,000
  Satellite rights                           469,498
                                            --------
                                             859,498
  Accumulated amortization                   (73,125)
                                            --------
                                            $786,373
                                            ========
</TABLE>

     Customer relationships are amortized using the straight-line method over
     their estimated useful life of 4 years.  Satellite rights represent
     PRIMESTAR's right to use Tempo's two high power communications satellites
     (the "Tempo Satellites") as described in note 13.  The Company is not
     amortizing such rights as the Company has not launched a high power service
     utilizing the Tempo Satellites.

                                                                     (continued)

                                     IV-19
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements

     In connection with the Restructuring, the Company recorded tradenames of
     $230,000,000 and excess cost over acquired net assets of $416,901,000.
     Such intangible assets were amortized using the straight-line method over
     20 years.  As of December 31, 1998, such intangible assets were written
     down to their estimated fair value of zero.  Such writedown has been
     included in the Impairment Loss described in note 2.

     Deferred Financing Costs

     Deferred financing costs are amortized over the term of the related loan
     facility.

     Revenue Recognition
 
     Programming and equipment rental revenue is recognized in the period that
     services are delivered. Installation revenue is recognized in the period
     the installation services are provided to the extent of direct selling
     costs. To date, direct selling costs have exceeded installation revenue.
     Payments received from customers at the time of installation to reduce
     future monthly rental fees are deferred and recognized as revenue over the
     average life of a customer.

     Programming Carriage Fees

     Payments received from programmers at the time of launch for which future
     carriage by the Company is required are deferred and recognized as a
     reduction of programming expense over the term of the programming contract.

     Advertising Costs

     Advertising costs are generally expensed as incurred.  Amounts expensed for
     advertising aggregated $51,859,000, $23,062,000 and $25,622,000 during
     1998, 1997 and 1996, respectively.

     Marketing and Direct Selling Costs

     Marketing and direct selling costs are expensed as incurred. The excess
     cost of customer premises equipment over proceeds received upon sale of
     such equipment is recognized at the time of sale and is included in selling
     expense.

     Residual Sales Commissions

     Residual sales commissions, which become payable upon the collection of
     programming revenue from certain subscribers, are expensed during the
     period in which such commissions become payable.

     Stock Based Compensation

     The Company accounts for stock-based employee compensation using the
     intrinsic value method pursuant to Accounting Principles Board Opinion No.
     25.

                                                                     (continued)

                                     IV-20
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements

     Income Taxes

     The Company accounts for its income taxes using the asset and liability
     method. Under the asset and liability method, deferred tax assets and
     liabilities are recognized for the estimated future tax consequences
     attributable to differences between the financial statement carrying
     amounts of existing assets and liabilities and their respective tax bases.
     Deferred tax assets and liabilities are measured using enacted tax rates in
     effect for the year in which those temporary differences are expected to be
     recovered or settled. The effect on deferred tax assets and liabilities of
     a change in tax rates is recognized in income in the period that includes
     the enactment date.

     Loss Per Common Share

     The loss per common share for the years ended December 31, 1998 and 1997 is
     based on 167,615,000 and 66,658,000 weighted average shares outstanding
     respectively.  TSAT issued 66,408,000 shares of TSAT common stock pursuant
     to the Distribution.  The loss per share amounts set forth in the
     accompanying consolidated statements of operations assume that the shares
     issued pursuant to the Distribution were issued and outstanding since
     January 1, 1996.  Accordingly, the calculation of the loss per share
     assumes weighted average shares outstanding of 66,408,000 for the year
     ended December 31, 1996.  Excluded from the computation of diluted EPS for
     the years ended December 31, 1998, 1997 and 1996 are options to acquire
     5,395,000, 7,894,000 and 591,000 weighted average shares of common stock,
     respectively, because inclusion of such options would be anti-dilutive.

     Comprehensive Income (Loss)

     The Company's total comprehensive loss for all periods presented herein did
     not differ from those amounts reported as net loss.

     Estimates

     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 at
     the date of the financial statements and the reported amounts of revenue
     and expenses during the reporting period. Actual results could differ from
     those estimates.

(7)  Supplemental Disclosures to Statements of Cash Flows
     ----------------------------------------------------

     Cash paid for interest was $116,193,000, $20,224,000 and $1,946,000 during
     the years ended December 31, 1998, 1997 and 1996, respectively.  Cash paid
     for income taxes was not material during the years ended December 31, 1998,
     1997, and 1996.

                                                                     (continued)

                                     IV-21
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements


     Significant non-cash investing and financing activities for the year ended
     December 31, 1998 are reflected in the following table (amounts in
     thousands):



<TABLE>
<CAPTION>
        <S>                                            <C> 
        Cash paid in Restructuring:
        Property and equipment acquired                $  716,821
        Intangible assets                               1,500,034
        Current liabilities assumed, net of
        current assets                                   (116,849)
        Debt assumed                                     (903,299)
        Deferred tax liability                           (222,585)
        Common stock issued                              (919,228)
                                                       ----------
                                                       $   54,894
                                                       ==========
</TABLE>

     Transactions effected through the intercompany account with TCIC for
     periods prior to the Distribution have been considered to be constructive
     cash receipts and payments for purposes of the accompanying statements of
     cash flows.

     The non-cash effects of the Distribution are set forth in the accompanying
     statements of equity.

     Accounts payable includes accrued capital expenditures of $26,593,000,
     $35,645,000 and $7,713,000 at December 31, 1998, 1997 and 1996,
     respectively, which have been excluded from the accompanying statements of
     cash flows.


(8)    Debt
       ----

     The components of debt are as follows:

<TABLE>
<CAPTION>
                                                                        December 31,
                                                                 1998                 1997
                                                                 ----                 ----
                                                                    amounts in thousands
        <S>                                                        <C>                 <C>  
        Bank Credit Facility (a)                                   $  513,200               48,000
        Interim Loan Agreement (b)                                    350,000                   --
        Partnership Credit Facility (c)                               575,000                   --
        Senior Subordinated Notes (d)                                 200,000              200,000
        Senior Subordinated Discount Notes (d)                        189,722              168,781
        Other                                                           5,273                1,948
                                                                   ----------              -------
 
                                                                   $1,833,195              418,729
                                                                   ==========              =======
</TABLE>

                                                                     (continued)

                                     IV-22
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements


(a)  In connection with the Restructuring, the Company amended and restated the
     Bank Credit Facility.  As amended, the Bank Credit Facility provides for
     maximum commitments of up to $700 million, comprising $550 million of
     revolving loan commitments and $150 million of term commitments, subject to
     the Company's compliance with operating and financial covenants and other
     customary conditions. In addition to the outstanding borrowings at December
     31, 1998, $30 million of availability under the Bank Credit Facility had
     been utilized to obtain two outstanding letters of credit.  Commencing
     March 31, 2001, the revolving loan commitments will be reduced quarterly,
     and outstanding borrowings under the term loan commitments will be payable
     in quarterly installments, in each case in accordance with a schedule,
     until final maturity at June 30, 2005.

     Borrowings under the Bank Credit Facility bear interest at variable rates
     (6.7% at December 31, 1998). In addition, the Company must pay a commitment
     fee equal to 0.375% on the average daily unused portion of the available
     commitments, payable quarterly in arrears and at maturity. Such commitment
     fees were not significant during any of the years presented.

     Borrowings under the Bank Credit Facility are guaranteed by all restricted
     subsidiaries of the Company (defined under the Bank Credit Facility to mean
     each of the Company's domestic subsidiaries of which the Company owns
     directly or indirectly at least 80% of the outstanding capital stock), and
     secured by collateral assignments or other security interests. The Bank
     Credit Facility contains covenants regarding debt service coverage and
     leverage, as well as negative covenants restricting, among other things
     indebtedness, liens and other encumbrances, mergers or consolidation
     transactions, transactions with affiliates, investments, capital
     expenditures, and payment of dividends and other distributions.

     At April 1, 1999, the Company was not in compliance with one of the
     covenants in the Bank Credit Facility regarding the provision of audited
     financial statements to the lenders under the Bank Credit Facility (the
     "Lenders") within 90 days of the Company's fiscal year-end. The Company
     will remedy such event of noncompliance in accordance with the terms of the
     Bank Credit Facility by providing its audited financial statements to the
     Lenders prior to April 30, 1999.

(b)  On the Closing Date, the Company entered into the Interim Loan Agreement
     with certain financial institutions (the "Lenders") with respect to a $350
     million unsecured senior subordinated interim loan (the "Interim Loan").
     The Interim Loan Agreement provided for commitments of $350 million.  The
     commitments were fully funded to the Company on the Closing Date.

     The obligations under the Interim Loan Agreement were due in full one year
     from the Closing Date. However, the Company had the option to convert any
     outstanding principal amount of the Interim Loan on such date (the
     "Conversion Date") into a term loan maturing on April 1, 2008. The Company
     gave notice of such conversion on March 29, 1999, in accordance with the
     terms of the Interim Loan Agreement.

     In addition, on the Conversion Date, the Company became obligated to enter
     into a stock warrant agreement with the Lenders providing for the issuance
     of warrants to purchase common stock of the Company equal to 2% of the
     Company's outstanding common stock on the Conversion Date. The warrants are
     to be exercisable over a ten-year period at a nominal exercise price.

                                                                     (continued)

                                     IV-23
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements


          The outstanding principal under the Interim Loan Agreement bears
          interest at a rate per annum equal to the greater of 10% or, at the
          election of the Lenders, (i) a rate per annum that is equal to the
          corporate base rate, as provided for in the Interim Loan Agreement,
          (ii) the Federal Funds effective rate, plus 0.50%, or (iii) the London
          interbank offered rate ("LIBOR") for such period, plus in each case
          the Applicable Spread (as defined in the Interim Loan Agreement).  The
          interest rate on the Interim Loan in effect at December 31, 1998 was
          11.5% which included the Applicable Spread of 650 basis points.  The
          Applicable Spread increases monthly thereafter, with a final increase
          to 750 basis points from and after April 1, 1999.

          At any time after the Conversion Date, the applicable spread is to be
          850 basis points.  In addition, at the request of any Lender, the
          interest rate on all or any portion of the term loan owing to such
          Lender will be converted to a fixed rate equal to the rate in effect
          as of the date such Lender gave notice to the Company.

          Interest was payable monthly in arrears on the last day of each month
          until the Conversion Date.  Thereafter, interest is payable quarterly
          in arrears, except for any term loan converted to a fixed rate loan,
          in which event interest is payable on March 31 and September 30 of
          each year.  If interest payable by the Company exceeds 15%, the
          Company may elect to pay all or a portion of the interest in excess of
          15% by issuance of notes in an aggregate principal amount equal to
          such excess amount.

          Prior to the Conversion Date, the Company could prepay the Interim
          Loan without penalty. After the Conversion Date, certain limited
          prepayments are permitted until April 1, 2001 out of the proceeds of
          certain equity offerings. Otherwise, prepayment is not permitted until
          on or after April 1, 2003. Prepayment penalties apply to any
          prepayment prior to April 1, 2006, which penalties are calculated with
          reference to the interest rate in effect at the time of prepayment.
          The Interim Loan Agreement provides for mandatory prepayments of the
          Interim Loan upon the occurrence of certain asset sales, capital
          contributions, securities issuances and a change of control (as
          defined in the Interim Loan Agreement) of the Company.

                                                                     (continued)

                                     IV-24
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements


(c)  The Partnership Credit Facility, as amended, allows for borrowings up to
     $585 million, and borrowings thereunder are collateralized by letters of
     credit (the "Partnership Letters of Credit"), which were arranged for by
     affiliates of the partners of the Partnership (the "Partners") (or, in the
     case of TSAT, affiliates of TCI) other than GE Americom.  In connection
     with the Restructuring, the Partnership became an indirect, wholly-owned
     subsidiary of the Company.  In addition, the Partners and TCI agreed to
     maintain their respective Partnership Letters of Credit through June 1999,
     and the Company entered into Reimbursement Agreements with respect to such
     letters of credit, whereby the Company agreed to indemnify the parties
     arranging for such letters of credit from and against all obligations
     thereunder and/or other existing documentation relating thereto, including
     all existing and future payment obligations.  The obligations of the
     Company under such Reimbursement Agreements are subordinated in right of
     payment, in the manner set forth in the Reimbursement Agreement, to all
     indebtedness of the Company under the Bank Credit Facility, the Interim
     Loan Agreement and the Notes.

     Borrowings under the Partnership Credit Facility bear interest at variable
     rates (5.6% at December 31, 1998). In addition, the Company must pay
     quarterly, in arrears, a commitment fee of 3/16% per annum on the daily
     unused portion of the facility. Such commitment fees were not significant
     during the year ended December 31, 1998.

     The maturity date of the Partnership Credit Facility is June 30, 1999.

(d)  On February 20, 1997, the Company issued the Senior Subordinated Notes
     having an aggregate principal amount of $200,000,000 and the Senior
     Subordinated Discount Notes having an aggregate principal amount at
     maturity of $275,000,000.

     Cash interest on the Senior Subordinated Notes is payable semi-annually in
     arrears on February 15 and August 15. Cash interest will not accrue or be
     payable on the Senior Subordinated Discount Notes prior to February 15,
     2002. Thereafter cash interest will accrue at a rate of 12-1/4% per annum
     and will be payable semi-annually in arrears on February 15 and August 15,
     commencing August 15, 2002, provided however, that at any time prior to
     February 15, 2002, the Company may make a Cash Interest Election (as
     defined) on any interest payment date to commence the accrual of cash
     interest from and after the Cash Election Date (as defined). The Notes will
     be redeemable at the option of the Company, in whole or in part, at any
     time after February 15, 2002 at specified redemption prices. In addition,
     prior to February 15, 2000, the Company may use the net cash proceeds from
     certain specified equity transactions to redeem up to 35% of the Notes at
     specified redemption prices.

                                                                     (continued)


                                     IV-25
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements

     The fair value of the Company's debt is estimated based upon the quoted
     market prices for the same or similar issuances or on the current rates
     offered to the Company for debt of the same remaining maturities.  With the
     exception of the Notes, which had an aggregate fair value of $158,090,000
     at December 31, 1998, PRIMESTAR believes that the fair value and the
     carrying value of its debt were approximately equal at December 31, 1998.

     As of December 31, 1998, annual maturities of the Company's debt for each
     of the next five years were as follows (amounts in thousands):

<TABLE>
               <S>                          <C>
               1999                         $575,921
               2000                            1,013
               2001                           15,342
               2002                           30,368
               2003                          153,596
</TABLE>


(9)  Stockholders' Equity
     -------------------------
 
     PRIMESTAR Preferred Stock
     -------------------------

     The Restated Certificate of Incorporation of the Company authorizes the
     PRIMESTAR Board of Directors (the "Board") to provide for the issuance of
     all or any shares of preferred stock of the Company in one or more series
     and to fix for each series the number of shares constituting such series
     and such voting powers, full or limited, or no voting powers, and such
     designations, preferences and relative, participating, optional or other
     special rights and such qualifications, limitations or restrictions thereof
     as shall be stated and expressed in the resolution or resolutions adopted
     by the Board providing for the issuance of such series.  As of December 31,
     1998, no series of preferred stock have been designated.

     PRIMESTAR Common Stock
     ----------------------

     Holders of Class A Common Stock are entitled to one vote for each share of
     such stock held, holders of Class B Common Stock are entitled to ten votes
     for each share of such stock held and holders of Class C Common Stock are
     entitled to ten votes for each share of such stock held.  Holders of Class
     D Common Stock are not entitled to any voting rights with respect to such
     shares, except as may be required by law.

     Each share of Class B Common Stock is convertible, at the option of the
     holder, into one share of Class A Common Stock.  Each share of Class C
     Common Stock is convertible, at the option of the holder, into one share of
     Class B Common Stock, and will be mandatorily and automatically so
     converted upon the tenth anniversary of the Closing Date.

     TSAT Preferred Stock
     --------------------

     Prior to the Restructuring, TSAT was authorized to issue 5,000,000 shares
     of Preferred Stock.

                                                                     (continued)

                                     IV-26
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements

     TSAT Common Stock
     -----------------

     Prior to the Restructuring, the TSAT Series A Common Stock had one vote per
     share and the TSAT Series B Common Stock had ten votes per share.  Each
     share of TSAT Series B Common Stock was convertible, at the option of the
     holder, into one share of TSAT Series A Common Stock.

     Employee Retirement Plan
     ------------------------

     Prior to the Restructuring, TSAT maintained an employee stock purchase plan
     (the "TSAT Plan") pursuant to which employees could contribute up to 10% of
     their compensation.  TSAT, by annual resolution of the TSAT Board of
     Directors (the "TSAT Board"), could elect to contribute up to 100% of the
     amount contributed by employees.  In connection with the Restructuring and
     effective June 30, 1998, the TSAT Plan was merged with and into the
     Partnership's amended and restated retirement plan, which has been renamed
     the PRIMESTAR, Inc. 401(k) Savings Plan.

     Stock Options
     -------------

     In June 1996, the Board of Directors of TCI (the "TCI Board") authorized
     TCI to permit certain of its executive officers to acquire equity interests
     in certain of TCI's subsidiaries.  In connection therewith, the TCI Board
     approved the acquisition by each of two executive officers of TCI who were
     not employees of TSAT (the "TCI Officers"), of 1.0% of the net equity of
     TSAT.  The TCI Board also approved the acquisition by the chief executive
     officer and a director of TSAT (the "TSAT Officer"), of 1.0% of the net
     equity of TSAT and the acquisition by an executive officer of certain TCI
     subsidiaries who is also a director, but not an employee, of TSAT (the "TCI
     Subsidiary Officer"), of 0.5% of the net equity of TSAT.  The TCI Board
     determined to structure such transactions as grants by TSAT to such persons
     of options to purchase shares of TSAT Series A Common Stock representing
     1.0% (in the case of each of the TCI Officers and the TSAT Officer) and
     0.5% (in the case of the TCI Subsidiary Officer) of the shares of TSAT
     Series A Common Stock and TSAT Series B Common Stock issued and outstanding
     on the Distribution Date, determined immediately after giving effect to the
     Distribution, but before giving effect to any exercise of such options (the
     "Distribution Date Options").

     Pursuant to the Reorganization Agreement, and (in the case of the TCI
     Officers and the TCI Subsidiary Officer) in partial consideration for the
     capital contribution made by TCI to TSAT in connection with the
     Distribution, TSAT agreed, effective as of the Distribution Date, to bear
     all obligations under such options and to enter into stock option
     agreements with respect to such options with each of the TCI Officers, the
     TSAT Officer and the TCI Subsidiary Officer

     Distribution Date Options to purchase 2,324,266 shares of TSAT Series A
     Common Stock at a per share price of $8.86 were granted on the Distribution
     Date.  The market price of the TSAT Series A Common Stock on such date was
     $12.63.  As originally granted, the Distribution Date Options vest in 20%
     cumulative increments on each of the first five anniversaries of February
     1, 1996, and will be exercisable for up to ten years following February 1,
     1996.  Compensation expense with respect to the Distribution Date Options
     held by the TSAT Officer aggregated $1,026,000, $1,101,000 and $95,000
     during the years ended December 31, 1998, 1997 and 1996, respectively.

                                                                     (continued)

                                     IV-27
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements

     On the Distribution Date, the TSAT Board adopted, and TCI as the sole
     stockholder of TSAT prior to the Distribution, approved, the TCI Satellite
     Entertainment, Inc. 1996 Stock Incentive Plan (the "TSAT 1996 Plan").  The
     TSAT 1996 Plan provides for awards to be made in respect of a maximum of
     3,200,000 shares of TSAT Series A Common Stock (subject to certain anti-
     dilution adjustments).  Awards may be made as grants of stock options,
     stock appreciation rights ("SARs"), restricted shares, stock units,
     performance awards or any combination thereof.  As originally granted,
     options granted pursuant to the TSAT 1996 Plan vest evenly over five years
     from the date of grant and expire 10 years from the date of grant.

     In March 1998, stockholders of TSAT approved the TCI Satellite
     Entertainment, Inc. 1997 Nonemployee Director Stock Option Plan (the "TSAT
     DSOP") including the grant, effective as of February 3, 1997, to each
     person that as of that date was a member of the TSAT Board and was not an
     employee of TSAT or any of its subsidiaries, of options to purchase 50,000
     shares of TSAT Series A Common Stock.  Pursuant to the TSAT DSOP, options
     to purchase 200,000 shares of TSAT Series A Common Stock were granted at an
     exercise price of $8.00 per share.  As originally granted, options issued
     pursuant to the TSAT DSOP vest and become exercisable over a five-year
     period from the date of grant and expire 10 years from the date of grant.
     In November 1997, the TSAT Board voted to increase the number of directors
     by one, and the director named to fill such newly created directorship
     received options to purchase 50,000 shares of TSAT Series A Common Stock at
     an exercise price of $6.50.

     In February 1997, certain key employees of TSAT were granted, pursuant to
     the TSAT 1996 Plan, an aggregate of 325,000 restricted shares of TSAT
     Series A Common Stock.  Such restricted shares had a grant-date fair value
     of $8.00.  As originally granted, such restricted shares vest as to 50% on
     January 1, 2001 and as to the remaining 50% on January 1, 2002.
     Compensation expense with respect to the restricted shares aggregated
     $1,570,000 and $585,000 during the years ended December 31, 1998 and 1997,
     respectively.

     In November 1997, the TSAT Board and the compensation committee of the TSAT
     Board approved modifications to the vesting provisions of all options and
     restricted stock awards issued pursuant to the TSAT 1996 Plan, (i)
     accelerating the vesting schedules under such options, to provide for
     vesting in three equal annual installments, commencing February 1998, and
     (ii) accelerating the vesting schedules under such restricted stock awards
     to provide for vesting of 50% on each of the second and third anniversaries
     of the date of granting.  Options granted prior to the Distribution, which
     were 40% vested in February 1998, will become two-thirds vested in February
     1999 and fully vested in February 2000.

     On April 2, 1998, the PRIMESTAR Board of Directors approved the PRIMESTAR,
     Inc. 1998 Incentive Plan (the "1998 PRIMESTAR Plan").  The 1998 PRIMESTAR
     Plan provides for awards to be made in respect of a maximum of 7,000,000
     shares of Class A Common Stock.  Awards may be made as grants of stock
     options, SARs, restricted shares, stock units, performance awards or any
     combination thereof.  Options granted pursuant to the 1998 PRIMESTAR Plan
     vest evenly over three years from the date of grant and expire 10 years
     from the date of grant.

                                                                     (continued)

                                     IV-28
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements


     The Company applies Accounting Principles Board Opinion No. 25 in
     accounting for its stock options, and accordingly, compensation expense has
     been recognized for its stock options in the accompanying financial
     statements using the intrinsic value method.  Had the Company determined
     compensation expense based on the grant-date fair value method pursuant to
     Statement of Financial Accounting Standards No. 123, the Company's net loss
     and loss per share would have been $240,384,000 and $3.61 for 1997 and
     would not have been significantly different than the amounts reported for
     1998 or 1996.

     The following table presents the number, weighted-average exercise price
     and weighted-average grant-date fair value of options to buy TSAT Series A
     Common Stock and Class A Common Stock.

<TABLE>
<CAPTION>
                                                                                                            
                                                  Number of options               Weighted-       Weighted- 
                                       ---------------------------------------     average         average  
                                              TSAT              PRIMESTAR          exercise       grant-date
                                            Series A             Class A            price         fair value
                                       -------------------  ------------------  --------------  --------------
 
<S>                                    <C>                  <C>                 <C>             <C>
                                                       
Granted in connection with                     ----------
 Distribution                                   2,324,266                                $8.86           $8.74
                                               ----------  
                                                         
 
Outstanding at December 31, 1996                2,324,266                                 8.86 
                                                
 
 Granted                                        1,070,000                                 7.93            4.77
                                               ----------
 
Outstanding at December 31, 1997                3,394,266                                 8.57 
                                                
 
 Options not assumed by
  PRIMESTAR (1)                                (3,394,266)
 
 Granted                                               --           4,934,993             7.69            5.95
 Canceled                                              --            (242,285)            7.69
                                               ----------   -----------------
 
Outstanding at December 31, 1998                       --           4,692,708             7.69 
                                               ==========   =================                  
                                                                               
 
Exercisable at December 31, 1996                       -- 
                                               ==========
                                               

Exercisable at December 31, 1997                  464,853                                 8.86 
                                               ==========                                 
                                               

Exercisable at December 31, 1998                                           --
                                                            =================                 
                                                  
</TABLE>
 ________________

     (1) At the time of the Restructuring, none of the outstanding options to
         acquire TSAT common stock were converted into options to acquire
         PRIMESTAR common stock.  However, PRIMESTAR assumed TSAT's liability
         with respect to any future cash payment to be made upon exercise by any
         PRIMESTAR employee of an option or SAR issued by TSAT prior to the
         Restructuring.

                                                                     (continued)

                                     IV-29
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements

     Options outstanding at December 31, 1998 have an exercise price of $7.69
     and a weighted-average remaining contractual life of approximately nine
     years.

     The respective estimated grant-date fair values of the options noted above
     are based on the Black-Scholes model and are stated in current annualized
     dollars on a present value basis. The key assumptions used in the model for
     purposes of these calculations include the following: (a) a discount rate
     equal to the 10-year Treasury rate on the date of grant; (b) a 65%
     volatility rate; (c) the 10-year option term; (d) the closing price of the
     TSAT Series A Common Stock on the date of grant; and (e) an expected
     dividend rate of zero.

     Pursuant to the Reorganization Agreement, TSAT granted to TCI an option to
     purchase up to 4,765,000 shares of TSAT Series A Common Stock, at an
     exercise price of $1.00 per share, as required by TCI from time to time to
     meet its obligations under the conversion features of certain convertible
     securities of TCI as such conversion features were adjusted as a result of
     the Distribution. During 1998, 1997 and 1996, TCI purchased 989,000 shares,
     258,000 shares and 5,000 shares, respectively, of TSAT Series A Common
     Stock pursuant to such option.

     In connection with the Distribution, TCI and the Company also entered into
     a "Share Purchase Agreement" to sell to each other from time to time, at
     the then current market price, shares of Series A TCI Group Stock and TSAT
     Series A Common Stock, respectively, as necessary to satisfy their
     respective obligations after the Distribution Date under certain stock
     options and SARs held by their respective employees and non-employee
     directors.

     Other
     -----

     At December 31, 1998, a total of 4,692,708 shares of Class A Common Stock
     were reserved for issuance pursuant to the 1998 PRIMESTAR Plan. In
     addition, one share of Class A Common Stock is reserved for each
     outstanding share of Class B Common Stock and Class C Common Stock.

(10) Restructuring Charges
     ---------------------

     During 1998, the Company reorganized its operations. In connection
     therewith, the Company closed certain of its local offices and reduced its
     corporate work force.  As a result, the Company terminated approximately
     700 employees.  In connection with such reorganization, the Company
     recognized restructuring charges of $26,025,000.  Such restructuring
     charges related to (i) severance costs for terminated employees
     ($18,828,000), (ii) lease cancellation fees and other office shutdown costs
     ($3,617,000) and (iii) the net book value of abandoned equipment
     ($3,580,000).  As of December 31, 1998, the Company had paid approximately
     $6,388,000 of the restructuring charges and has a remaining accrual of
     $16,057,000.

                                                                     (continued)


                                     IV-30
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements

(11) Income Taxes
     ------------

     Through the Distribution Date, TSAT's results of operations were included
     in TCI's consolidated U.S. Federal income tax returns, in accordance with
     the existing tax sharing arrangements among TCI and its consolidated
     subsidiaries.  Effective July 1, 1995,  TCI, TCIC and certain other
     subsidiaries of TCI entered into a tax sharing agreement (the "Tax Sharing
     Agreement"), which formalized such pre-existing tax sharing arrangements
     and implemented additional provisions regarding the allocation of certain
     consolidated income tax attributes and the settlement procedures with
     respect to the intercompany allocation of current tax attributes.  In
     connection with the Distribution, the Tax Sharing Agreement was amended to
     provide that TSAT be treated as if it had been a party to the Tax Sharing
     Agreement, effective July 1, 1995. TSAT's intercompany income tax
     allocation through the Distribution Date has been calculated in accordance
     with the Tax Sharing Agreement.  Subsequent to the Distribution Date, the
     Company files separate U.S. Federal and state income tax returns.

     Income tax benefit (expense) for the years ended December 31, 1998, 1997
     and 1996 consists of:

<TABLE>
<CAPTION>
                                                            Current           Deferred             Total
                                                        ----------------  -----------------  -----------------
                                                                         amounts in thousands
<S>                                                     <C>               <C>                 <C> 
     Year ended December 31, 1998:
       Federal                                          $             --           128,243            128,243
       State and local                                                --            19,285             19,285
                                                        ----------------           -------            -------
                                                        $             --           147,528            147,528
                                                        ================           =======            =======
 
     Year ended December 31, 1997:
       Federal                                          $             --                --                 --
       State and local                                                --                --                 --
                                                        ----------------           -------            -------
                                                        $             --                --                 --
                                                        ================           =======            =======
 
     Year ended December 31, 1996:
       Intercompany allocation                                   $70,645                --             70,645
       Federal                                                        --           (17,699)           (17,699)
       State and local                                                --            (7,009)            (7,009)
                                                        ----------------           -------            -------
                                                                 $70,645           (24,708)            45,937
                                                        ================           =======            =======
</TABLE>

     Income tax benefit (expense) differs from the amounts computed by applying
     the Federal income tax rate of 35% as a result of the following:

<TABLE>
<CAPTION>
                                                                       Years ended December 31
                                                       -------------------------------------------------------
                                                             1998               1997               1996
                                                       -----------------  -----------------  -----------------
                                                                        amounts in thousands
<S>                                                    <C>                <C>                <C> 
     Computed "expected" tax benefit                          $ 521,931             83,419             65,079
     State and local income taxes, net
       of Federal income tax benefit                             12,535             13,009             (2,672)
     Change in valuation allowance                             (238,739)           (98,521)           (16,371)
     Amortization of goodwill                                  (145,915)                --                 --
     Other                                                       (2,284)             2,093                (99)
                                                              ---------            -------            -------
                                                              $ 147,528                 --             45,937
                                                              =========            =======            =======
</TABLE>
                                                                     (continued)

                                     IV-31
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements


     The tax effects of temporary differences that give rise to significant
     portions of the deferred tax assets and deferred tax liabilities at
     December 31, 1998 and 1997 are presented below:

<TABLE>
<CAPTION>
                                                                                December 31,
                                                                 ------------------------------------------
                                                                         1998                  1997
                                                                 --------------------  --------------------
                                                                           amounts in thousands
<S>                                                              <C>                   <C>  
Deferred tax assets:
 Net operating loss carry forwards                                         $ 226,823               133,024
 Investment in the Partnership:
   Due to an increase in tax basis upon transfer from
    TCIC to the Company                                                       29,305                29,305
   Due principally to losses recognized for financial
    statement purposes in excess of losses recognized
    for tax purposes                                                              57                 2,671
 Property and equipment principally due to impairment
  write-offs for financial statement purposes                                 11,801                    --
 Future deductible amounts principally due to accruals
  deductible in later periods                                                 12,310                 5,028
                                                                           ---------              --------
 Total deferred tax assets                                                   280,296               170,028
   Less-valuation allowance                                                 (238,739)             (114,892)
                                                                           ---------              --------
 Net deferred tax assets                                                      41,557                55,136
Deferred tax liabilities:
 Intangible assets recorded in purchase accounting for
  financial statement purposes                                               116,614                    --
 Property and equipment, principally due to differences
  in depreciation                                                                 --                55,136
                                                                           ---------              --------
Net deferred tax liability                                                 $  75,057                    --
                                                                           =========              ========
</TABLE>

     The valuation allowance for deferred tax assets as of December 31, 1998 was
     $238,739,000.  Such balance increased $123,847,000 from December 31, 1997.
     The valuation allowance at December 31, 1997 related to TSAT's net
     operating loss carryforwards which were not contributed to PRIMESTAR in the
     Restructuring.

     The Company has analyzed the sources and expected reversal periods of its
     deferred tax assets. The Company believes that the tax benefits
     attributable to deductible temporary differences will be realized to the
     extent of future reversals of existing taxable temporary differences.

     At December 31, 1998, the Company had net operating loss carry forwards for
     income tax purposes aggregating approximately $593,001,000 of which, if not
     utilized to reduce taxable income in future periods, $900,000 expire in
     2005, $1,200,000 expire in 2006, $2,170,000 expire in 2008, $2,003,000
     expire in 2011, $6,200,000 expire in 2012 and $580,528,000 expire in 2018.

                                                                     (continued)

                                     IV-32
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements


(12) Transactions with Related Parties
     ---------------------------------

     Pursuant to the terms of the TSAT Merger Agreement, PRIMESTAR reimbursed
     TSAT for all reasonable costs and expenses incurred by TSAT (i) to comply
     with its tax and financial reporting obligations, (ii) to maintain certain
     insurance coverage and (iii) to maintain its status as a publicly traded
     company.  During the year ended December 31, 1998, such reimbursements
     aggregated $152,000, and have been reflected as a reduction of PRIMESTAR's
     equity.

     In addition, PRIMESTAR makes advances to TSAT for the payment of certain
     costs related to the Tempo Satellites and the proposed high power strategy.
     Such advances aggregated $6,365,000 during 1998 and have been included in
     intangible assets in the accompanying consolidated balance sheet. PRIMESTAR
     anticipates that it will recover the advances upon the sale of the Tempo
     Satellites to Hughes.

     The Company is a party to a satellite transponder service agreement, as
     amended (the "GE-2 Agreement") with an affiliate of GE Americom for
     satellite service on GE-2. As originally executed, the GE-2 Agreement had
     an initial term extending through February 2003 at an annual rate of
     $86,340,000, with an option to extend the term through the end-of-life of
     GE-2.  The option to extend has expired without exercise.  However, the
     Company remains in discussions with GE Americom regarding other
     alternatives for extension of the GE-2 Agreement, and the Company will
     continue to assess other alternatives if the Hughes Medium Power
     Transaction is not consummated.  No assurance can be given that the parties
     will agree to any such extension, if necessary, or that any other
     alternatives will be confirmed.  Charges to the Company for the use of GE-2
     and other services provided by GE Americom aggregated $64,755,000 for the
     period from April 1, 1998 through December 31, 1998, and are included in
     operating expenses in the accompanying consolidated statement of
     operations.

     Pursuant to the GE-2 Agreement, GE Americom provides the Company with
     service on 24 transponders on GE-2.  The Company is currently entitled to
     non-preemptible service on 18 of the transponders on GE-2 and preemptible
     service on six transponders.  Preemptible transponders are transponders
     that may be reassigned to restore service to protected customers if such
     protected customers experience transponder or satellite failure.  The
     Company does not believe that, during the early stages of GE-2's
     operational life, the use of preemptible transponders is likely to
     interfere in any material respect with the operation of the PRIMESTAR(R)
     service.  The Company currently receives "orbital location protected
     service" on all 24 of its transponders, meaning that if there is a failure
     of GE-2, the Company will be entitled to restore the lost service on
     another GE Americom medium power satellite, GE-3, which was successfully
     launched on September 4, 1997, into the same 85 W.L. orbital position used
     by GE-2.  Even in those circumstances, the six preemptible transponders,
     although protected, would remain preemptible.  Upon the successful launch
     of another GE Americom medium power satellite, GE-4, the Company's six
     preemptible transponders will become non-preemptible.

                                                                     (continued)

                                     IV-33
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements


     TCI and the Non-TSAT Parties, other than GE Americom, have arranged for
     letters of credit (the "GE-2 Letters of Credit") to support the Company's
     obligations under the GE-2 Agreement.  Pursuant to the Restructuring
     Agreement, the Company reimburses TCI and the Non-TSAT Parties for fees
     related to the Partnership Letters of Credit and the GE-2 Letters of
     Credit.  Such reimbursements aggregated $10,004,000 during the year ended
     December 31, 1998 and are included in interest expense in the accompanying
     consolidated statements of operations.

     Since April 1, 1998, a subsidiary of TCI has provided satellite uplink
     services to the Company.  Charges for such services aggregated $10,659,000
     during 1998 and are included in operating expenses in the accompanying
     consolidated statement of operations.

     Since March 1997, TCI has provided the Company with customer support
     services from TCI's Boise, Idaho call center.  Amounts charged by TCI to
     the Company for such services aggregated $24,938,000 and $12,173,000 during
     the years ended December 31, 1998 and 1997, respectively, and are included
     in selling, general and administrative expenses in the accompanying
     consolidated statements of operations.

     Subsequent to the Restructuring, the Non-TSAT Parties continued to operate
     certain non-strategic local offices (the "Transition Offices") for
     approximately three months (the "Transition Period") while the
     responsibilities of such offices were transferred to other PRIMESTAR
     offices.  By the end of the Transition Period, all of the Transition
     Offices had been closed.  Transition expenses include costs incurred
     through December 31, 1998 and charged to the Company by the Non-TSAT
     Parties to operate the Transition Offices during the Transition Period.

     Certain key employees of the Company hold stock options in tandem with
     stock appreciation rights with respect to certain common stock of TCI.
     Estimates of the compensation related to the options and/or stock
     appreciation rights granted to employees of the Company have been recorded
     in the accompanying consolidated financial statements, but are subject to
     future adjustment based upon the market value of the underlying common
     stock of TCI and, ultimately, on the final determination of market value
     when the rights are exercised.  Stock compensation recognized by the
     Company related to such options aggregated ($2,182,000), $6,134,000 and
     $(541,000) during the years ended December 31, 1998, 1997 and 1996,
     respectively.

     Prior to the Restructuring, the Partnership provided programming services
     to TSAT and other authorized distributors in exchange for a fee based upon
     the number of subscribers receiving programming services.  In addition, the
     Partnership arranged for satellite capacity and uplink services, and
     provided national marketing and administrative support services in exchange
     for a separate authorization fee.

                                                                     (continued)

                                     IV-34
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements


     TCI also provided corporate administrative services to the Company pursuant
     to a transition services agreement (the "Transition Services Agreement").
     Pursuant to the Transition Services Agreement, the Company was required to
     pay TCI a monthly fee of $1.50 per qualified subscriber up to a maximum of
     $3,000,000 per month, and to reimburse TCI quarterly for direct, out-of-
     pocket expenses incurred by TCI to third parties in providing the services.
     Charges under the Transition Services Agreement aggregated $3,174,000 and
     $11,579,000 during the years ended December 31, 1998 and 1997,
     respectively, and are included in selling, general and administrative
     expenses in the accompanying consolidated statements of operations.  The
     Transition Services Agreement was terminated in connection with the
     consummation of the Restructuring.

     Through the Distribution Date, the effects of all transactions between the
     Company and TCI were reflected as adjustments to a non-interest bearing
     intercompany account.  As described in note 4, all but $250,000,000 of this
     intercompany account was forgiven in connection with the Distribution.
     Subsequent to the Distribution Date, the effects of all transactions (other
     than those related to the TCIC Credit Facility) have been reflected in a
     non-interest bearing account between the Company and TCIC and are settled
     periodically in cash.

     Through December 31, 1996, TCI provided certain installation, maintenance,
     retrieval and other customer fulfillment services to the Company. The costs
     associated with such services were allocated to the Company based upon a
     standard charge for each of the various customer fulfillment activities
     performed by TCI.  During the year ended December 31, 1996, the Company's
     capitalized installation costs included amounts allocated from TCI of
     $53,169,000.  Maintenance, retrieval and other operating expenses allocated
     from TCI to the Company aggregated $20,365,000 during the year ended
     December 31, 1996.

     Effective January 1, 1997, charges for customer fulfillment services
     provided by TCI were made pursuant to the Fulfillment Agreement entered
     into by the Company and TCI in connection with the Distribution.  Pursuant
     to the Fulfillment Agreement, TCI continued to provide fulfillment services
     on an exclusive basis to the Company following the Distribution with
     respect to customers of the PRIMESTAR(R) medium power service. Such
     services were performed in accordance with specified performance standards.
     Charges to TSAT pursuant to the Fulfillment Agreement aggregated
     $54,823,000 during 1997, of which $46,498,000 were capitalized installation
     costs.  The Fulfillment Agreement terminated on December 31, 1997.

(13) Commitments and Contingencies
     -----------------------------

     At December 31, 1998, the Company's future minimum commitments to purchase
     satellite reception equipment aggregated approximately $44 million The
     Company currently purchases all of its integrated receiver/decoders
     ("IRDs") from one supplier and all of its home satellite dishes ("HSDs")
     from a different supplier.  Each supplier has certain disaster recovery
     plans.  However, a break in production of either IRDs or HSDs could result
     in a slow down in the addition of new customers and a corresponding
     reduction in the Company's revenue.

                                                                     (continued)

                                     IV-35
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements


     As part of the compensation paid to the Company's various sales agents, the
     Company has agreed to pay certain residual sales commissions during
     specified periods following the initiation of service (generally five
     years). Residual payments to sales agents aggregated $25,639,000,
     $15,364,000, and $11,848,000 during  1998, 1997 and 1996, respectively and
     were charged to expense in the accompanying consolidated statements of
     operations.

     In addition to leasing transponder capacity on GE-2, the Company leases
     business offices and uses certain equipment under lease arrangements.
     Rental expense under such arrangements amounted to $9,847,000, $2,237,000,
     and $2,095,000 in 1998, 1997 and 1996, respectively. Included in the 1998
     amount is $2,013,000 related to lease cancellation fees. It is expected
     that, in the normal course of business, expiring leases will be renewed or
     replaced by leases on other properties; thus, it is anticipated that future
     minimum lease commitments will not be less than the rental expense incurred
     during 1998, exclusive of the amounts for lease cancellations. 

     In February 1990, Tempo entered into an option agreement with the
     Partnership granting the Partnership the right and option (the "Tempo
     Capacity Option"), upon exercise, to purchase or lease 100% of the capacity
     of the DBS system to be built, launched and operated by Tempo with the
     purchase price (or aggregate lease payments) being sufficient to cover the
     costs of constructing, launching and operating such DBS system. In
     connection with the Tempo Capacity Option and certain related matters,
     Tempo and the Partnership subsequently entered into two letter agreements
     (the "Tempo Letter Agreements") which provided for, among other things, the
     funding by the Partnership of milestone and other payments due under a
     satellite construction agreement, and certain related costs, through
     advances by the Partnership to Tempo. The Tempo Letter Agreements permit
     the Partnership to apply its advances to Tempo against any payments due
     under the Tempo Capacity Option with respect to its purchase or lease of
     satellite capacity. The aggregate funding provided to Tempo by the
     Partnership ($469,498,000 at December 31, 1998) is reflected as satellite
     rights in the accompanying consolidated balance sheet. On February 7, 1997,
     the Partnership exercised the Tempo Capacity Option, but no capacity lease
     or purchase agreement has been entered into in connection therewith. In
     connection with the Hughes High Power Transaction, Hughes has agreed to
     assume, and to satisfy and discharge, $465 million of Tempo's obligation to
     the Partnership for such advances, and the Partnership has agreed to
     forgive the remaining balance. In addition, the Partnership has agreed to
     terminate and relinquish its rights under the Tempo Capacity Option.

     Pursuant to the Restructuring Agreement, the Company has indemnified each
     of the Non-TSAT Parties against (i) any and all losses and liabilities,
     suffered or incurred by any such indemnified party resulting from any
     liabilities of such party assumed by the Company in the Restructuring, (ii)
     any and all losses and liabilities resulting from the operation by the
     Company of the digital satellite business, whether before, on or after the
     Closing Date and (iii) any and all losses and liabilities resulting from
     the business, affairs, assets or liabilities of the Company whether arising
     before, on or after the Closing Date.

                                                                     (continued)

                                     IV-36
<PAGE>
 
                       PRIMESTAR, INC. AND SUBSIDIARIES

                  Notes to Consolidated Financial Statements


     In addition, the Company is required to indemnify each of the Non-TSAT
     Parties against (i) all liability for taxes, other than transfer taxes,
     incurred as a result of the Restructuring ("Covered Taxes") of PRIMESTAR
     for the taxable period that begins after the Closing Date or the portion
     that begins after the Closing Date of any taxable period that begins before
     and ends after the Closing Date, (ii) all liability for Covered Taxes
     failing to qualify under Section 368(a) of the Code if such failure is
     attributable to any action taken after the Closing by the Company (other
     than any such action expressly required or contemplated by the
     Restructuring Agreement) and (iii) all liability for any reasonable legal,
     accounting, appraisal, consulting or similar fees and expenses relating to
     the foregoing.

     The International Bureau of the FCC has granted a subsidiary of EchoStar
     Communications Corporation ("EchoStar") a conditional authorization to
     construct, launch and operate a Ku-band domestic fixed satellite into the
     orbital position at 83 degrees W.L., immediately adjacent to that occupied
     by GE-2, the medium power satellite now used to provide the PRIMESTAR(R)
     service. Contrary to previous FCC policy, which would have permitted
     operation of a satellite at the 83 degrees W.L. orbital position at a power
     level of only 60 to 90 watts (subject to coordination requirements),
     EchoStar has been authorized to operate at a power level of 130 watts. If
     EchoStar were to launch its high power satellite authorized to 83 degrees
     W.L. and commence operations at that location at a power level of 130
     watts, it would likely cause harmful interference to the reception of the
     PRIMESTAR(R) signal from GE-2 by subscribers to the PRIMESTAR(R) medium
     power service.

     GE Americom and PRIMESTAR have each requested reconsideration of the
     International Bureau's authorization for EchoStar to operate at 83 degrees
     W.L. These requests, which were opposed by EchoStar and others, currently
     are pending at the International Bureau. There can be no assurance that the
     International Bureau will change slot assignments, or power levels, in a
     fashion that eliminates the potential for harmful interference.
     Accordingly, the ultimate outcome of this matter cannot presently be
     predicted.

     GE Americom and PRIMESTAR have attempted to resolve potential coordination
     problems directly with EchoStar, and EchoStar has advanced a proposition to
     resolve this matter.  PRIMESTAR is currently evaluating such proposition.
     It is uncertain whether any agreement in respect of such coordination
     between the Partnership and EchoStar will be reached, or that if such
     agreement is reached that coordination will resolve such interference.

     The Company has contingent liabilities related to legal proceedings and
     other matters arising in the ordinary course of business.  Although it is
     reasonably possible the Company may incur losses upon conclusion of such
     matters, an estimate of any loss or range of loss cannot be made.  In the
     opinion of management, it is expected that amounts, if any, which may be
     required to satisfy such contingencies will not be material in relation to
     the accompanying financial statements.


                                     IV-37
<PAGE>
 
                                  SIGNATURES

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

                              TCI SATELLITE ENTERTAINMENT, INC.


                              By:   /s/  Gary S. Howard
                                  -------------------------------
                                  Name:  Gary S. Howard
                                  Title:  Chief Executive Officer

Dated April 15, 1999


     Pursuant to the Securities Exchange Act of 1934, this report has been
signed by the following persons on behalf of the Registrant and in the
capacities and on the date indicated:

<TABLE>
<CAPTION>
                     Signature                         Title                               Date
                     ---------                         -----                               ----
       <S>                                       <C>                               <C> 
        /s/John C. Malone                                                             April 15, 1999
        ------------------------------------
           John C. Malone                        Chairman of the Board and
                                                 Director
 
        /s/Gary S. Howard                                                             April 15, 1999
        ------------------------------------
           Gary S. Howard                        Director and Chief Executive
                                                 Officer
 
 
        /s/David P. Beddow                                                            April 15, 1999
        ------------------------------------
           David P. Beddow                       Director
 
 
 
        /s/Leo J. Hindery, Jr.                                                        April 15, 1999
        ------------------------------------
           Leo J. Hindery, Jr.                   Director
 
 
 
        /s/Christopher Sophinos                                                       April 15, 1999
        ------------------------------------
           Christopher Sophinos                  President
 
 
 
        /s/Kenneth G. Carroll                                                         April 15, 1999
        ------------------------------------
           Kenneth G. Carroll                    Senior Vice President and Chief
                                                 Financial Officer (Principal
                                                 Financial Officer)
 
 
        /s/Scott D. Macdonald                                                         April 15, 1999
        ------------------------------------
           Scott D. Macdonald                    Vice President and Controller
                                                 (Principal Accounting Officer)
</TABLE>

                                      IV-38
<PAGE>
 
 
                                 Exhibit Index
                                 -------------

The following exhibits are filed herewith or are incorporated by reference
herein (according to the number assigned to them in Item 601 of Regulation S-K)
as noted:

2 -  Plan of Acquisition, Reorganization, Arrangement, Liquidation or
     Succession:

    2.1   Reorganization Agreement dated as of December 4, 1996, among Tele-
          Communications, Inc. ("TCI"), TCI Communications, Inc. ("TCIC"), Tempo
          Enterprises, Inc., TCI Digital Satellite Entertainment, Inc., TCI K-1,
          Inc. ("TCI K-1"), United Artists K-1 Investments, Inc. ("UA K-1"), TCI
          SE Partner 1, Inc. ("TCISE 1"), TCI SE Partner 2, Inc. ("TCISE 2") and
          TCI Satellite Entertainment, Inc. (the "Company"). (c)

    2.2   Merger and Contribution Agreement dated as of February 6, 1998, among
          the Company, PRIMESTAR, Inc., Time Warner Entertainment Company L. P.
          ("TWE"), Advance/Newhouse Partnership ("Newhouse"), Comcast
          Corporation ("Comcast"), Cox Communications, Inc. ("Cox"), MediaOne of
          Delaware, Inc. ("MediaOne") and GE American Communications, Inc. ("GE
          Americom"). (e)

    2.3   Asset Transfer Agreement dated as of February 6, 1998, between the
          Company and PRIMESTAR, Inc. (e)

    2.4   Agreement and Plan of Merger dated as of February 6, 1998, between the
          Company and PRIMESTAR, Inc. (e)

    2.5   Guarantee Agreement dated as of February 6, 1998, by US WEST Media
          Group, Inc. ("US West"), in favor of each of the Company, PRIMESTAR,
          Inc., TWE, Newhouse, Comcast, Cox and GE Americom. (e)

    2.6   Letter Agreement dated as of February 6, 1998, between John C. Malone
          and the Company, PRIMESTAR, Inc., TWE, Newhouse, Comcast, Cox ,
          MediaOne and GE Americom, for the benefit of the Company, PRIMESTAR,
          Inc., TWE, Newhouse, Comcast, Cox, MediaOne and GE Americom. (e)

    2.7   Voting Agreement dated as of June 12, 1997, among John C. Malone, Time
          Warner Cable, a division of TWE, Comcast, the Company, Cox, MediaOne,
          Newhouse and GE Americom. (e)

    2.8   Voting Agreement dated as of June 12, 1997, among Donne F. Fisher, as
          Co-Personal Representative of the Estate of Bob Magness, Time Warner
          Cable, a division of TWE, Comcast, the Company, Cox, MediaOne,
          Newhouse and GE Americom. (e)

    2.9   Voting Agreement dated as of June 12, 1997, among TCI, John C. Malone,
          Time Warner Cable, a division of TWE, Comcast, the Company, Cox,
          MediaOne, Newhouse and GE Americom. (e)





<PAGE>
 
2 -  Plan of Acquisition, Reorganization, Arrangement, Liquidation or Succession
     (continued):

    2.10  Form of Stockholders Agreement among PRIMESTAR, Inc., the Company,
          TWE, Newhouse, Comcast, Cox, MediaOne, Continental Satellite company,
          Inc./, Continental Satellite Company of Chicago, Inc., Continental
          Satellite Company of Minnesota, Inc., Continental Satellite company of
          New England, Inc., Continental Satellite Company of Michigan, Inc.,
          Continental Satellite Company of Ohio, Inc., Continental Satellite
          Company of Virginia, Inc., MediaOne Satellite II, Inc., GE Americom
          and John C. Malone. (e)

    2.11  Form of Registration Rights Agreement among PRIMESTAR, Inc., the
          Company, TWE, Newhouse, Comcast, Cox, MediaOne, Continental Satellite
          Company, Inc., Continental Satellite Company of Chicago, Inc.,
          Continental Satellite Company of Minnesota, Inc., Continental
          Satellite Company of New England, Inc., Continental Satellite Company
          of Michigan, Inc., Continental Satellite Company of Ohio, Inc.,
          Continental Satellite Company of Virginia, Inc., MediaOne Satellite
          II, Inc., GE Americom and John C. Malone. (e)

    2.12  Stockholders Agreement dated as of February 6, 1998, among PRIMESTAR,
          Inc., the Company and John C. Malone. (e)

    2.13  TSAT Tempo Agreement dated as of February 6, 1998, between PRIMESTAR,
          Inc., and the Company. (e)


3 -  Articles of Incorporation and Bylaws:

    3.1   Amended and Restated Certificate of Incorporation of the Company. (d) 

    3.2   Amended and Restated Bylaws of the Company. (b)


4 -  Instruments Defining the Rights of Security Holders:

    4.1   Specimen certificate representing shares of Series A Common Stock of
          the Company. (d)

    4.2   Specimen certificate representing shares of Series B Common Stock of
          the Company.(d)


10 - Material Contracts

    10.1  TCI Satellite Entertainment, Inc. 1996 Stock Incentive Plan. (d)

    10.2  Qualified Employee Stock Purchase Plan of the Company. (c)

    10.3  Indemnification Agreement dated December 4, 1996, by and between TCI
          and Gary S. Howard. (c)

    10.4  Option Agreement, dated as of December 4, 1996, by and between the
          Company and Gary S. Howard. (c)



<PAGE>
 
10 - Material Contracts (continued)

    10.5   Option Agreement, dated as of December 4, 1996, by and between the
           Company and Larry E. Romrell. (c)

    10.6   Option Agreement, dated as of December 4, 1996, by and between the
           Company and Brendan R. Clouston. (c)

    10.7   Option Agreement, dated as of December 4, 1996, by and between the
           Company and David P. Beddow. (c)

    10.8   1996 Ancillary Agreement Among Partners dated as of October 18, 1996,
           among PRIMESTAR Partners L.P., the Participating Partners named
           therein, GE American Services, Inc. and its affiliate GE American
           Communications, Inc. (c)

    10.9   Annex A to the 1996 Ancillary Agreement Among Partners. (d)

    10.10  Option Agreement dated February 8, 1990, between Tempo and K Prime
           Partners, L.P. (d)

    10.11  Letter Agreement dated July 30, 1993, between Tempo and PRIMESTAR
           Partners, L.P. relating to FSS. (d)

    10.12  Letter Agreement dated July 30, 1993, between Tempo and PRIMESTAR
           Partners, L.P. relating to BSS. (d)

    10.13  TPO-1-290 BSS Construction Agreement dated as of February 22, 1990,
           between Tempo and Space Systems/Loral, Inc.(d)(g)

    10.14  Trade Name and Service Mark License Agreement dated as of December 4,
           1996, between TCI and the Company. (c)

    10.15  Tax Sharing Agreement effective July 1, 1995, among TCIC and certain
           other subsidiaries of TCI. (d)

    10.16  First Amendment to Tax Sharing Agreement dated as of October 1995,
           among TCIC and certain other subsidiaries of TCI.(d)

    10.17  Second Amendment to Tax Sharing Agreement dated as of December 3,
           1996, among TCIC and certain other subsidiaries of TCI. (c)

    10.18  TCI/TSAT Tax Sharing Agreement dated June 1997, by and between the
           Company and TCI. (e)

    10.19  Share Purchase Agreement dated as of December 4, 1996, between TCI
           and the Company. (c)

    10.20  Option Agreement dated as of December 4, 1996, between TCI and the
           Company.(c)



<PAGE>
 
10 - Material Contracts (continued)

    10.21  Indemnification Agreement dated as of June 11, 1997 among News Corp.,
           the Company, PRIMESTAR Partners, Time Warner, Comcast, Cox, MediaOne,
           Newhouse, and GE Americom.(e)

    10.22  TCI Satellite Entertainment, Inc. 1997 Nonemployee Director Plan. (e)

    10.23  Asset Purchase Agreement by and among Hughes Electronics Corporation,
           PRIMESTAR, Inc., PRIMESTAR Partners L.P., Tempo Satellite, Inc. and
           the Stockholders of PRIMESTAR listed herein, date as of January 22,
           1999. (f)

    21     Subsidiaries of the Registrant.(a)

    27     Financial Data Schedule.(a)



-------------------
  (a)      Filed herewith.

  (b)      Incorporated by reference to the Company's Annual Report on Form 10-K
           for the year ended December 31, 1997 (Commission File No. 0-21317).

  (c)      Incorporated by reference to the Company's Annual Report on Form 10-K
           for the year ended December 31, 1996 (Commission File No. 0-21317).

  (d)      Incorporated by reference to the Company's Registration Statement on
           Form 10 filed with the Securities and Exchange Commission ("SEC") on
           November 15, 1996 (Registration No. 0-21317).

  (e)      Incorporated by reference to PRIMESTAR, Inc.'s Registration Statement
           on Form S-4 filed with the SEC on February 9, 1998 (Registration No.
           333-45835).

  (f)      Incorporated by reference to the Company's Current Report on Form 
           8-K, dated February 1, 1999.

  (g)      Portions of this document have been granted confidential treatment by
           the SEC and have been redacted in accordance therewith.