<PAGE>   1
                                    FORM 10-K
                     U.S. Securities and Exchange Commission
                             Washington, D.C. 20549
                                   (Mark One)
      [x] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
                                   ACT OF 1934
                   FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998
                                       OR
       [ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
                              EXCHANGE ACT OF 1934
                        For the transition period from to

                         Commission file number: 0-21352

                             APPLIED INNOVATION INC.
                (Name of registrant as specified in its charter)

                               DELAWARE 31-1177192
         (State or other jurisdiction of incorporation or organization)
                      (I.R.S. Employer Identification No.)

                    5800 INNOVATION DRIVE, DUBLIN, OHIO 43016
               (Address of principal executive offices)(Zip Code)

                     Issuer's telephone number: 614-798-2000

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

           Securities registered pursuant to Section 12(g) of the Act:
                     COMMON STOCK, $0.01 PAR VALUE PER SHARE
                                (Title of class)

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

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

Aggregate market value of voting stock held by non-affiliates of the registrant,
9,049,650 shares, based on the $3.94 closing sale price on March 5, 1999, was
$35,655,621.

Indicate the number of shares outstanding of each of the registrant's classes of
common stock, as of the latest practicable date: 15,771,632 shares of Common
Stock were outstanding at March 12, 1999.

                       DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Registrant's Annual Report to the Stockholders for the fiscal
year ended December 31, 1998, are incorporated by reference in Part II.

Part III - Proxy Statement for the 1998 Annual Meeting of Stockholders to be
held April 22, 1999, in part, as indicated.
<PAGE>   2
        This Annual Report on Form 10-K contains forward-looking statements
within the meaning of Section 21E of the Securities Exchange Act of 1934, as
amended, and Section 26A of the Securities Act of 1933, as amended. The words
"anticipate," "believe," "expect," "estimate," and "project" and similar words
and expressions identify forward-looking statements which speak only as of the
date hereof. Investors are cautioned that such statements involve risks and
uncertainties that could cause actual results to differ materially from
historical or anticipated results due to many factors, including, but not
limited to, the factors discussed in "Business - Business Risks." The Company
undertakes no obligation to publicly update or revise any forward-looking
statements.

                                     PART I

ITEM 1.  BUSINESS.
         ---------

GENERAL

        Applied Innovation Inc. (the "Company") develops, manufactures and
markets network mediation and network bridging products and associated services
to support the operation, maintenance, administration and provisioning of the
internal data network that is used by telecommunications service providers to
manage elements in their customer service network systems.

        The Company's predecessor was incorporated in 1983 and engaged primarily
in development and preliminary testing activities until September 1984. In June
1986, the Company was formed as a Delaware corporation and the Company's
predecessor, an Ohio corporation, was merged into the Company solely for the
purpose of effecting a change in domicile. In 1995, the Company formed its
wholly owned subsidiary, Applied Innovation International Inc., a U.S. Virgin
Islands corporation, to act as a foreign sales corporation to market the
Company's products outside of the United States.

        The Company's executive offices and manufacturing facilities are located
at 5800 Innovation Drive, Dublin, Ohio, 43016, telephone (614) 798-2000.

THE COMPANY'S MARKETS

        The Company's products provide the data network used to support
Operations Support Systems needed to monitor and maintain thousands of pieces of
electronic equipment, or Network Elements, used by telecommunications service
providers. Network Elements provide the switching, connections and support
products required to transmit voice and data calls through one or more Central
Offices. Telecommunications service providers continually upgrade and expand the
equipment needed to provide service to their customers. As each piece of new
equipment is installed, it is connected to the Company's data monitoring network
that is used to report alarms, gather performance information, and to provide
test access and equipment reprogramming for establishing and maintaining
customer service. The Company's customers can use the Operations Support Systems
to perform a variety of tasks that include: fault management, configuration
management, performance management, security and inventory management.

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        The Company is seeking to expand distribution for its products outside
the United States. The Company has taken early steps to establish a presence in
Australia, China, Taiwan, and South Africa. The Company believes that countries
currently building telecommunications infrastructures will require centralized
network management and the supporting data communications capability supplied by
its products.

        The Company estimates that the Regional Bell Operating Companies
("RBOCs") control approximately half of the estimated 20,000 telecommunications
Central Office locations in the United States. The remaining locations are
controlled by a few large firms like GTE, Sprint, AT&T, MCIWorldcom, and over
1,000 smaller independent firms, competitive local exchange carriers ("CLECs"),
and long distance companies. Because of their relative size, demand for product,
and importance, the Company has concentrated its marketing efforts on the larger
telecommunications service providers. The Company has historically received a
large percentage of its annual net sales from RBOCs. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations."

        Each telecommunications service provider has a finite number of Central
Office facilities which limit their total capacity for the Company's products.
To the extent that the Company achieves significant penetration with the
Company's products into any single customer's Central Office facilities, it
cannot anticipate substantial additional sales of those existing products to the
customer. Future domestic sales growth to these customers depends on the
development and acceptance of new products and new releases of existing
products. Additional sales growth may be derived from additional sales to other
RBOCs, CLECs, and long distance phone companies. See "Business - Business Risks
- Risks Associated with Customer Concentration; Dependence on Telecommunications
Industry."

PRODUCTS

AISWITCH(TM) SERIES 180
-----------------------

        The AISwitch Series 180, connects multiple generations of
telecommunications network equipment to computers that monitor, control and
analyze field conditions. The AISwitch Series 180 incorporates the latest high
speed microprocessor and programmable gate array technology to bridge the
hardware and software gaps between old and new equipment, providing productivity
gains and cost savings at both the customer's Central Office and Operations
Centers. Substantially all vintages of telecommunications network equipment can
be integrated with support systems through the use of the AISwitch Series 180.

        Within a typical telecommunications service region, there may be as many
as 10,000 Network Elements to interface with a variety of equipment using
various communications protocols. Communications protocols are standards which
describe the way in which data is transmitted between computer systems.
Replacing existing equipment and updating it to conform to newer standards takes
place on extended schedules of up to twenty years, with successive introductions
of

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new technologies. For this reason, many of the Central Office and local site
locations utilize multiple generations of equipment from different vendors, each
with unique operating conditions. The Company's products offer one of the most
comprehensive solutions available for connecting these dissimilar
telecommunications elements.

        A unique capability of the AISwitch Series 180 and the Company's
technical organization is the ability to engineer custom interfaces for
telecommunications equipment produced by a variety of different manufacturers
for telecommunications service providers. Each AISwitch Series 180 includes a
wide variety of functions and options that are configured to fit client needs.

        The key to the AISwitch Series 180 integration capability is its
flexible microprocessor controlled digital switching and protocol processing
capabilities. The AISwitch Series 180 permits the use of industry-standard, open
architecture network building blocks to more easily connect different computers,
Network Elements and other intelligent Central Office equipment with one or more
network destinations. The Company transforms a complex multi-vendor environment
into an easily managed seamless network to increase the total efficiency of
Operations, Administration, Maintenance and Provisioning ("OAM&P") systems.

        The Company has licensed technology from Cisco Systems, Inc. ("Cisco")
which allows the Company to integrate a Cisco router into the AISwitch. Cisco's
routing technology is the most widely used and allows the AISwitch to work
smoothly with the routing technology already in use by most of the Company's
customers. See "Business - Business Risks - Reliance on Suppliers."

APPLIEDVIEW(TM)
---------------

        AppliedView is the Company's network management application for AISwitch
products. AppliedView provides industry standard Simple Network Management
Protocol ("SNMP") management of the OAM&P network, which connects Network
Elements with Operations Support Systems. Because AppliedView is based on
Hewlett-Packard Company's Open View ("HP Open View"), the same system can also
monitor other data communications networks and systems. AppliedView also
provides a platform for Telecommunications Management Network ("TMN"), and
Element Management Layer ("EML"). AppliedView enables customers to make basic
configuration changes to every AISwitch in their network from a single location.
AppliedView also provides centralized configuration backup and control, and
automatically stores status, alias, destination and alarm events in the HP Open
View database.

AIM(TM)
-------

        The AIM is a scaled down version of the AISwitch 180 that provides
operations center management of small office network elements in small central
offices, controlled environment vaults, cell sites, and huts. It is designed to
provide data paths for remote monitoring, provisioning, and software downloads.
The AIM also integrates diverse protocols and physical interfaces of network
elements for OAM&P applications.

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NEWEB(TM)
---------

        NEWEB is a powerful combination of AISwitch and Web technology used to
enable simple and secure access to network elements from anywhere. NEWEB is
easily customizable and provides a simplified interface for complex network
element commands. NEWEB allows the customer to turn up services more quickly by
giving control center technicians direct access to remote network elements.
NEWEB also allows the customer to diagnose and repair network faults more
quickly and, therefore, improve productivity.

AISPY(TM)
---------

        AIspy is a comprehensive system for managing remote, unmanned
facilities, such as controlled environment vaults, communication shelters,
cabinets, and huts. AIspy provides monitoring capabilities for the entire
facility through a multitude of alarms and sensors. AIspy is built to telephone
company standards and provides the customer with multiple management and
communication path options.

ACCESS PRODUCTS GROUP
---------------------

        The Company previously undertook a major project, known as the Access
Products Group, to develop a product to serve as a remote access concentrator
which recognized and off-loaded digital data calls from the public switched
telephone network. In March 1998, the Company made an announcement that it was
seeking a strategic partner for its Access Products Group and subsequently
retained an investment banking firm to conduct the search. In September 1998,
the Company terminated all product development and related activities of its
Access Products Group due to an unsuccessful search for a strategic partner.

MANUFACTURING AND OPERATIONS

        All of the printed circuit boards used within the Company's products are
proprietary designs of the Company. Printed circuit boards and power supplies
used in each of the Company's products are contracted out to third party
manufacturing firms for assembly. These subassemblies are then shipped to the
Company for testing and final assembly. Procurement of materials is driven
through an enterprise resource planning ("ERP") system with production forecasts
supplied to contract firms for component ordering from sources supplied and
approved by the Company. The Company maintains and controls all documentation
and process requirements for products manufactured by the contract assembly
firms. The Company utilizes multiple assembly firms and is, therefore, not
dependent on any single third party manufacturer.

        The Company performs multiple inspections on its products as well as
various test procedures prior to shipment to customers. These processes are
designed to assure product performance and reliability in the environments the
products will be used. The Company has made and continues to make significant
investments to attain quality assurance consistent with stringent industry
standards. The Company develops and manufactures its products in accordance with
NEBS

                                     - 5 -
<PAGE>   6
and Generic Equipment Requirements guidelines. The Company is International
Standards Organization 9001 ("ISO 9001") certified.

SALES AND MARKETING

        The Company's products and services are sold primarily through its own
sales force, except for independent sales agents in Canada and Taiwan. The
Company is exploring alternative distribution channels to allow sales of the
Company's products to markets that are not easily accessible nor cost effective
for its own sales force. In addition to the Dublin, Ohio headquarters, the
Company maintains sales offices in Atlanta, Chicago, Dallas, Denver, New York,
and San Francisco.

        The Company's sales and marketing staff consists of a Senior Vice
President of Sales and Marketing, a Director of Marketing, Divisional Sales
Managers, Senior Account Managers, Account Managers, New Account Managers, Sales
Engineers, Product Line Managers and an administrative staff. Sales leads are
currently generated primarily through target marketing to telecommunications
service providers, direct mail and trade shows. Sales leads are followed up by
personal contact from the Company's sales and marketing staff. If sufficient
interest exists, an on-site visit may be scheduled for the purpose of making a
sales presentation, which may include a product demonstration.

        The technical complexity of the Company's products and the relative
large size of customers creates a long sales cycle for the Company's products.
The technical nature of the products and Central Office environment also
mandates a very technical sales force. The Company's sales force receives
incentive compensation based on increased levels of sales.

RESEARCH AND DEVELOPMENT

        The Company's research and development ("R&D") activity is coordinated
with product management to create product development teams which focus on
customer requirements. Enhancements to the AISwitch are focused on increasing
its capacity and adapting to the emerging Open Systems Interconnection (OSI)
applications being driven into Network Elements by worldwide standardization
efforts. At the same time, the AISwitch is being enhanced to accommodate older
data communication standards in order to broaden its range of application. The
R&D staff consists of 66 engineers.

        The Company spent $11,979,875, $12,897,072, and $7,646,796 on
Company-sponsored R&D during the fiscal years ended December 31, 1998, 1997, and
1996, respectively. R&D expenditures represented approximately 22.3%, 27.6%, and
18.6% of annual net sales in fiscal 1998, 1997, and 1996, respectively. During
1998 and 1997, the Company incurred $6,263,000 and $6,536,000, respectively, in
R&D related to the terminated Access Products Group development activity. The
Company continues to expect to commit a substantial amount of resources and cash
to its research and development efforts during 1999. See "Business - Business
Risks - New Products and Rapid Technological Change; Need to Manage Product
Transitions."

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<PAGE>   7
CUSTOMER SERVICE AND WARRANTY

        The Company offers its customers a variety of support services such as
project management, training, detail engineering, installation, and test and
turn-up. Project managers interface between the Company and customers for
installation of new products and service and upgrades of existing products. The
project manager is also responsible for assuring that all possible circumstances
are anticipated prior to certifying the system for full operation. Following
installation, the project manager continues to monitor the customer's system to
ensure proper satisfaction.

        The Company designs training programs to educate the customer's system
administration, operations and maintenance personnel to operate the system.
Classes are available at the customer's site or at the Company's headquarters.
Additional training is also offered to the customer during system upgrades and
for new operations personnel.

        The Company's field service department provides custom design and
installation services for telecommunications network equipment. The Company
believes that its field service department complements and enhances the sale of
its products.

        The Company warrants its products for a minimum of one year and up to
three years, as negotiated under contract. Customers may also purchase extended
warranty contracts with guaranteed overnight factory replacement service for
circuit boards or system modules in the event of equipment failure. Software
revisions to the Company's products are also available as part of the warranty
package. In addition, for an additional charge, on-site spares are available for
those customers who require immediate replacement. The Company also provides a
24-hour Service Hotline for instant access to its field service and support
departments. A toll-free 800 number is also offered.

        Warranty expense represented approximately 4.0%, 3.6%, and 10.2% of
annual net sales in 1998, 1997, and 1996, respectively. Warranty expense was
abnormally high in 1996 because of repair costs on units which the Company
agreed to repair to avoid future product difficulties and to demonstrate the
Company's quality assurance commitment to customers. See "Business - Business
Risks - Risk of Product Defects."

COMPETITION

        There are numerous manufacturers of data communications equipment.
Manufacturers of these products frequently specialize their products for
specific applications and could enter the Company's target markets. Significant
competition exists from several well-established companies having resources
superior to those of the Company and from relatively new but aggressive
companies.

        Competition for the Company's products has traditionally come primarily
from suppliers of telecommunications switching and transmission equipment.
Lucent Technologies has a product line, Datakit, which competes directly with
the Company's products when selling into the

                                     - 7 -
<PAGE>   8
telecommunications industry. Competition also comes from other data
communications suppliers, such as Cisco Systems, Inc., Dantel, and Harris
Corporation's Westronics division. In some cases, newer products or redesigned
older products from these suppliers compete with the Company's products. See
"Business - Business Risks - Competition."

PERSONNEL

        As of February 26, 1999, the Company had 220 full-time and part-time
employees. The Company's employees are distributed among the following
departments: Sales and Marketing (33); Research and Development (66); Customer
Service (52); Manufacturing (39) and Operations (30). The Company anticipates
that it will continue to increase the number of its employees as it grows.

BUSINESS RISKS

        The Company desires to take advantage of the "safe harbor" provisions of
the Private Securities Litigation Reform Act of 1995. In addition to the other
information in this report, readers should carefully consider that the following
important factors, among others, in some cases have affected, and in the future
could affect, the Company's actual results and could cause the Company's actual
consolidated results of operations for the year ended December 31, 1999, and
beyond, to differ materially from those expressed in any forward-looking
statements made by, or on behalf of, the Company.

        Risks Associated with Customer Concentration; Dependence on
Telecommunications Industry. A significant portion of the Company's revenues in
each fiscal quarter since inception has been derived from substantial orders
placed by large organizations, such as the RBOCs. As a result, the Company's net
sales often have been concentrated among a relatively small number of customers.
In fiscal 1998, 1997, and 1996, net sales from the Company's five, five and
three largest customers represented approximately 75%, 76%, and 53%,
respectively, of the Company's total net sales. The Company expects that it will
continue to be dependent upon a limited number of customers for a significant
portion of its revenues in future periods. None of the Company's customers are
contractually obligated to license or purchase additional products or services
from the Company. As a result of this customer concentration, the Company's
business, operating results and financial condition could be materially
adversely affected by the failure of anticipated orders to materialize or by
deferrals or cancellations of orders. In addition, there can be no assurance
that revenue from customers that have accounted for significant net sales in
past periods, individually or as a group, will continue, or if continued will
reach or exceed historical levels in any future period. Furthermore, such
customers are concentrated in the telecommunications industry. Accordingly, the
Company's future success depends upon the capital spending patterns of such
customers and the continued demand by such customers for the Company's products
and services. The Company's operating results may in the future be subject to
substantial period-to-period fluctuations as a consequence of such customer
concentration and factors affecting capital spending in the telecommunications
industry.

                                     - 8 -
<PAGE>   9
        Product Concentration. Revenue from the sale, service and support of the
Company's AISwitch family of products has accounted for substantially all of the
Company's net sales since inception. The Company believes that revenue from the
sale, service and support of the AISwitch will continue to account for
substantially all of the Company's net sales in fiscal 1999. Therefore, the
Company's future operating results, particularly in the near term, are
significantly dependent upon the continued market acceptance of the AISwitch,
improvements to the AISwitch framework and new and enhanced development tools
and network operations support. There can be no assurance that the AISwitch will
continue to achieve market acceptance or that the Company will be successful in
developing, introducing or marketing improvements to the AISwitch framework or
new or enhanced development tools and applications. The life cycles of products,
including development tools and applications, are difficult to estimate due in
large part to the recent emergence of many of the Company's markets, the effect
of future product enhancements and competition. A decline in the demand for the
AISwitch as a result of competition, technological change or other factors would
have a material adverse effect on the Company's business, operating results and
financial condition.

        New Products, Research and Development, and Rapid Technological Change;
Need to Manage Product Transitions. The market for the Company's products is
characterized by rapidly changing technologies, evolving industry standards,
frequent new product introductions and rapid changes in customer requirements.
The introduction of products embodying new technologies and the emergence of new
industry standards and practices can render existing products obsolete and
unmarketable. As a result, the life cycles of the Company's products are
difficult to estimate. The Company's future success will depend on its ability
to enhance its existing products and to develop and introduce, on a timely and
cost-effective basis, new products and product features that keep pace with
technological developments and emerging industry standards and address the
increasingly sophisticated needs of its customers. The Company is attempting to
ensure future success by investing heavily in its research and development
effort. However, there can be no assurance that the Company will be successful
in developing and marketing new products or product features that respond to
technological change or evolving industry standards, that the Company will not
experience difficulties that could delay or prevent the successful development,
introduction and marketing of these new products and features, or that its new
products or product features will adequately meet the requirements of the
marketplace and achieve market acceptance. If the Company is unable, for
technological or other reasons, to develop and introduce enhancements of
existing products or new products in a timely manner, the Company's business,
operating results and financial condition will be materially adversely affected.

        The introduction or announcement of products by the Company or one or
more of its competitors embodying new technologies, or changes in industry
standards or customer requirements, could render the Company's existing products
obsolete or unmarketable. The introduction of new or enhanced versions of its
products requires the Company to manage the transition from older products in
order to minimize disruption in customer ordering. There can be no assurance
that the introduction or announcement of new product offerings by the Company or
one or more of its competitors will not cause customers to defer purchasing
existing Company products.

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<PAGE>   10
Such deferment of purchases could have a material adverse effect on the
Company's business, operating results and financial condition.

        Competition. Most of the Company's current and potential competitors
have longer operating histories and significantly greater financial, technical,
sales, customer support, marketing and other resources, as well as greater name
recognition and a larger installed base of their products and technologies than
the Company. There can be no assurance that the Company's current or potential
competitors will not develop products comparable or superior to those developed
by the Company or adapt more quickly than the Company to new technologies,
evolving industry trends or changing customer requirements. There can be no
assurance that the Company will be able to compete successfully against current
and future competitors or that competitive pressures faced by the Company will
not have a material adverse effect on its business, operating results and
financial condition.

        Dependence Upon Proprietary Technology; Risk of Third Party Claims of
Infringement. The Company's success and ability to compete is dependent in part
upon its proprietary software technology. The Company relies on a combination of
trade secret, copyright and trademark laws, nondisclosure and other contractual
agreements and technical measures to protect its proprietary rights. The Company
currently has no patents or patent applications pending. Despite the Company's
efforts to protect its proprietary rights, unauthorized parties may attempt to
copy aspects of the Company's products or to obtain and use information that the
Company regards as proprietary. There can be no assurance that the steps taken
by the Company to protect its proprietary technology will prevent
misappropriation of such technology, and such protections may not preclude
competitors from developing products with functionality or features similar to
the Company's products. In addition, effective copyright and trade secret
protection may be unavailable or limited in certain foreign countries. While the
Company believes that its products and trademarks do not infringe upon the
proprietary rights of third parties, there can be no assurance that the Company
will not receive future communications from third parties asserting that the
Company's products infringe, or may infringe, the proprietary rights of third
parties. The Company expects that software product developers will be
increasingly subject to infringement claims as a number of products and
competitors in the Company's industry segment grows and the functionality of
products in different industry segments overlap. Any such claims, with or
without merit, could be time-consuming, result in costly litigation and
diversion of technical and management personnel, cause product shipment delays
or require the Company to develop non-infringing technology or enter into
royalty or licensing agreements. Such royalty or licensing agreements, if
required, may not be available on terms acceptable to the Company or at all. In
the event of a successful claim of product infringement against the Company and
failure or inability of the Company to develop non-infringing technology or
license the infringed or similar technology, the Company's business, operating
results and financial condition could be materially adversely affected.

        The Company relies on certain software that it licenses from third
parties, including software that is integrated with internally developed
software and used in the Company's products to perform key functions. There can
be no assurance that these third party software licenses will continue to be
available to the Company on commercially reasonable terms or at all. Although
the Company

                                     - 10 -
<PAGE>   11
believes that alternative software is available from other third-party
suppliers, the loss of or inability to maintain any of these software licenses
or the inability of the third parties to timely and cost-effectively enhance
their products in response to changing customer needs, industry standards or
technological developments could result in delays or reductions in product
shipments by the Company until equivalent software could be developed internally
or identified, licensed and integrated, which would have a material adverse
effect on the Company's business, operating results and financial condition.

        Reliance on Suppliers. The Company purchases raw material and licenses
technology from a number of domestic and foreign sources. The Company believes
that currently there are acceptable alternatives to the suppliers of raw
material and technology used in its products, with the exception of network
routing products supplied by Cisco Systems, Inc. The Company currently purchases
network routing products and licenses technology regarding the same from Cisco
Systems, Inc. pursuant to a Technology Agreement. The term of the Technology
Agreement expires on December 31, 1999 and automatically renews for one year
periods, unless either party elects not to renew. Additionally, the Technology
Agreement may be terminated by either party for any reason upon six months
notice. The Company believes that its customers place a high value on the
incorporation of network routing products and technology from Cisco Systems,
Inc. into the Company's products. While the Company believes that it could
obtain similar quality network routing products and technology from other
vendors, the termination of the Technology Agreement could materially adversely
affect the acceptance of the Company's products, which could have a material
adverse effect on the Company's business, financial condition and results of
operations.

        Future Capital Needs; Uncertainty of Additional Financing. The Company
currently anticipates that its existing cash, cash equivalents, cash to be
generated from future operations, and funds which may be obtained from future
financing activities will provide sufficient capital to meet the business needs
of the Company. See "Management's Discussion and Analysis of Financial Condition
and the Results of Operations - Liquidity and Capital Resources." The Company
may need to raise additional funds through public or private debt or equity
financings in order to take advantage of unanticipated opportunities, including
more rapid expansion or acquisitions of complementary businesses or
technologies, or to develop new or enhanced services and related products or
otherwise respond to unanticipated competitive pressures. If additional funds
are raised through the issuance of equity securities, the percentage ownership
of the then current stockholders of the Company may be reduced and such equity
securities may have rights, preferences or privileges senior to those of the
holders of the Company's common stock. There can be no assurance that additional
financing will be available on terms favorable to the Company, or at all. If
adequate funds are not available or are not available on acceptable terms, the
Company may not be able to take advantage of unanticipated opportunities,
develop new or enhanced services and related products or otherwise respond to
unanticipated competitive pressures and the Company's business, operating
results and financial condition could be materially adversely affected.

        Future Operating Results Uncertain. Although the Company has previously
experienced growth in revenues and net income, the Company expects that
historical growth rates are not sustainable and such growth rates should not be
considered indicative of future growth, if any.

                                     - 11 -
<PAGE>   12
There can be no assurance that the Company's revenues will grow or be sustained
in future periods or that the Company will be profitable in any future period.

        Risk of Product Defects. Products as complex as those offered by the
Company may contain defects or failures when introduced or when new versions or
enhancements are released. The Company has in the past discovered defects in
certain of its products. Although the Company has remedied all known material
defects in its products, there can be no assurance that, despite testing by the
Company and its customers, errors will not be found in existing or new products
or releases, resulting in delay or loss of revenue, loss of market share or
failure to achieve market acceptance or substantial warranty expense. Any such
occurrence could have a material adverse effect upon the Company's business,
operating results and financial condition.

        Year 2000. The Company faces year 2000 compliance issues similar to
those faced by other companies which design, manufacture, and sell equipment
used in the telecommunications industry. Year 2000 compliance issues typically
arise with respect to computer software systems and programs that use only two
digits, rather than four digits, to represent a particular year. Consequently,
these systems and programs may not process dates beyond the year 1999 and may
result in miscalculation or system failures causing disruptions of business
operations. Although the products currently offered by the Company have been
tested for year 2000 compliance, any failure of the Company's products to
perform, including the failure to process dates beyond the year 1999, could have
a material adverse effect on the Company's business, financial condition, and
results of operations. The Company's future revenue could be impacted if
customers divert portions of their capital expenditure budgets toward the year
2000 issue and away from programs that include purchases of the Company's
products. The Company has addressed, and will continue to address, the year 2000
issue, however, the Company cannot guarantee that its year 2000 compliance
efforts will prevent all consequences, and there may be undetermined future
costs due to business disruption that may be caused by customers, suppliers, or
unforeseen circumstances.

        Potential Fluctuations in Quarterly Results; Seasonality. The Company's
quarterly operating results have in the past and will in the future vary
significantly depending on factors such as the timing of significant orders and
shipments, capital spending patterns of the Company's customers, changes in
pricing policies by the Company or its competitors, the lengthy sales cycle of
the Company's products, increased competition, changes in operating expenses,
personnel changes, demand for the Company's products, the number, timing and
significance of new product and product enhancement announcements by the Company
and its competitors, the ability of the Company to develop, introduce and market
new and enhanced versions of its products on a timely basis, the mix of direct
and indirect sales and general economic factors, among others. A significant
portion of the Company's revenues have been, and will continue to be, derived
from substantial orders placed by large organizations, such as the RBOCs, and
the timing of such orders and their fulfillment has caused and will continue to
cause material fluctuations in the Company's operating results, particularly on
a quarterly basis. Due to the foregoing factors, quarterly net sales and
operating results have been and will continue to be difficult to forecast.
Revenues are also difficult to forecast because the Company's sales cycle, from
initial evaluation to product shipment, varies substantially from customer to
customer. For these and other reasons, the sales cycle associated

                                     - 12 -
<PAGE>   13
with the purchase of the Company's products is typically lengthy and subject to
a number of significant risks, including customers' budgetary constraints and
internal acceptance reviews, over which the Company has little or no control.
The Company's expense levels are based, in part, on its expectations as to
future revenue levels. If revenue levels are below expectations, operating
results are likely to be materially adversely affected. In particular, because
only a small portion of the Company's expenses varies with net sales, net income
(loss) may be disproportionately affected by a reduction in net sales. The
Company's business has experienced and is expected to continue to experience
significant seasonality, in part due to an increase in capital expenditures by
customers in certain quarters. Based upon all of the foregoing, the Company
believes that quarterly net sales and operating results are likely to vary
significantly in the future and that period-to-period comparisons of its results
of operations are not necessarily meaningful and should not be relied upon as
indications of future performance. Further, it is likely that in some future
quarter, the Company's net sales or operating results will be below the
expectations of public market analysts and investors. In such event, the price
of the Company's Common Stock could be materially adversely affected.

        Dependence on Key Personnel. The Company's success depends to a
significant degree upon the continuing contributions of its key management,
sales, professional services, customer support and product development
personnel. In particular, the Company would be materially adversely affected if
it were to lose the services of Gerard B. Moersdorf, Jr., Chief Executive
Officer, President, Treasurer and a director of the Company, who has provided
significant leadership and direction to the Company since its inception. The
Company has obtained key man life insurance on the life of Mr. Moersdorf in the
amount of $1,000,000, payable to the Company. The loss of other key management
or technical personnel could adversely affect the Company. The Company believes
that its future success will depend in large part upon its ability to attract
and retain highly-skilled managerial, sales, professional services, customer
support and product development personnel. The Company has at times experienced
and continues to experience difficulty in recruiting qualified personnel.
Competition for qualified personnel is intense, and there can be no assurance
that the Company will be successful in attracting and retaining such personnel.
In addition, there are only a limited number of qualified professional services
and customer support engineers, and competition for such individuals is
especially intense. Furthermore, competitors have in the past and may in the
future attempt to recruit the Company's employees. Failure to attract and retain
key personnel could have a material adverse effect on the Company's business,
operating results and financial condition.

        Limited Market; Volatility of Stock Price. Although the Company is
listed on the Nasdaq National Market, there can be no assurance that an active
or liquid trading market in the Company's common stock will continue. The market
price of the shares of the Company's common stock is likely to be highly
volatile and may be significantly affected by factors such as actual or
anticipated fluctuations in the Company's operating results, announcements of
technological innovations, new products or new contracts by the Company or its
competitors, developments with respect to copyrights or proprietary rights,
general market conditions and other factors. In addition, the stock market has
from time to time experienced significant price and volume fluctuations that
have particularly affected the market prices for the common stocks of technology
companies. These types of broad market fluctuations may adversely affect the
market price of the Company's common stock.

                                     - 13 -
<PAGE>   14
In the past, following periods of volatility in the market price of a company's
securities, securities class action litigation has often been initiated against
such company. Such litigation could result in substantial costs and a diversion
of management's attention and resources, which could have a material adverse
effect upon the Company's business, operating results and financial condition.

        Anti-Takeover Provisions; Certain Provisions of Delaware Law;
Certificate of Incorporation and By-Laws. Certain provisions of Delaware law and
the Company's Certificate of Incorporation and By-Laws could have the effect of
making it more difficult for a third party to acquire, or of discouraging a
third party from attempting to acquire, control of the Company. The Company's
By-Laws provide for the Board of Directors to be divided into three classes of
directors serving staggered three-year terms. Such classification of the Board
of Directors expands the time required to change the composition of a majority
of directors and may tend to discourage a proxy contest or other takeover bid
for the Company. Additionally, the directors, executive officers and existing
principal stockholders of the Company and their affiliates beneficially own
approximately 43.5% of the outstanding shares of the Company's Common Stock.
Such concentration of ownership may have the effect of delaying or preventing a
change in control of the Company.

        Concentration of Stock Ownership. The present directors, executive
officers and principal stockholders of the Company and their affiliates
beneficially own approximately 43.5% of the outstanding shares of the Company's
Common Stock. In particular, Gerard B. Moersdorf, Jr. and his spouse own
approximately 41.5% of the outstanding shares of Common Stock. As a result,
these stockholders are able to exercise significant influence over matters
requiring stockholder approval, including the election of directors and approval
of significant corporate transactions. Such concentration of ownership may have
the effect of delaying or preventing a change in control of the Company.

ITEM 2.  PROPERTIES.
         -----------

        The Company headquarters is a 115,000 square foot modern corporate
office and manufacturing facility in Dublin, Ohio. All of the Company's
manufacturing, administrative and research and development activities and a
substantial portion of its marketing activities are conducted at this location.
The Company owns the building and the approximately 33 acres of land on which it
is situated.

ITEM 3.  LEGAL PROCEEDINGS.
         ------------------

        Not applicable.

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

        Not applicable.

                                     - 14 -
<PAGE>   15
                                     PART II

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

        The Company's common stock has been traded in the over-the-counter
market since 1986. The common stock was traded on the NASDAQ OTC Bulletin Board
until May 18, 1993. From May 18, 1993 to November 26, 1993 the common stock was
traded on the NASDAQ Small Cap Market. On November 29, 1993 the common stock
began trading on the NASDAQ National Market. The following table sets forth, for
the periods indicated, the high and low bid prices for the Company's common
stock. The prices shown represent quotations between dealers, without adjustment
for retail markups, markdowns or commissions and may not represent actual
transactions.

<TABLE>
<CAPTION>
                           1998                        1997
                           ----                        ----
                    High          Low            High         Low
<S>                <C>           <C>            <C>          <C>
Q1                  $8.00        $5.38          $6.50        $4.38

Q2                 $11.75        $7.00          $6.38        $3.25

Q3                 $11.25        $2.38          $4.75        $3.75

Q4                  $4.50        $2.19          $8.13        $4.13
                   -----------------------------------------------
</TABLE>

        At March 5, 1999, the Company had 745 stockholders of record.

        The Company has not paid any cash dividends and presently anticipates
that all of its future earnings will be retained for development of its
business. The Company does not anticipate paying cash dividends on its Common
Stock in the foreseeable future. The payment of any future dividends would be at
the discretion of the Company's Board of Directors and would depend upon, among
other things, future earnings, operations, capital requirements, the general
financial condition of the Company and general business conditions. Although the
Company's ability to pay dividends is not currently restricted by any of its
financing agreements, the Company may be subject to such restrictions in the
future.

                                     - 15 -
<PAGE>   16
ITEM 6.  SELECTED FINANCIAL DATA.
         ------------------------

        The information required by this item is included under the caption
"Financial Highlights" in the Company's Annual Report to Stockholders and is
incorporated herein by reference.

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

        The information required by this item is included under the caption
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" in the Company's Annual Report to Stockholders and is incorporated
herein by reference.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
         -----------------------------------------------------------

        None.

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
         --------------------------------------------

        The information required by this item is included under the caption
"Consolidated Financial Statements" in the Company's Annual Report to
Stockholders and is incorporated herein by reference.

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

        None.

                                     - 16 -
<PAGE>   17
                                    PART III

ITEM 10.  DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
          ---------------------------------------------------

         The information appearing under the caption "ELECTION OF DIRECTORS" on
pages 4 through 11 of the Company's Proxy Statement relating to the Company's
Annual Meeting of Stockholders to be held on April 22, 1999 (the "Proxy
Statement"), and the information appearing under the caption "SECTION 16(a)
BENEFICIAL OWNERSHIP REPORTING COMPLIANCE" on page 13 of the Proxy Statement is
incorporated herein by reference.

ITEM 11.  EXECUTIVE COMPENSATION.
          -----------------------

         The information appearing in the Proxy Statement under the caption
"ELECTION OF DIRECTORS - Executive Compensation" on pages 7 through 11 of the
Proxy Statement is incorporated herein by reference.

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

         The information appearing in the Proxy Statement under the caption
"OWNERSHIP OF COMMON STOCK BY PRINCIPAL STOCKHOLDERS" on page 2, and under the
caption "SECURITY OWNERSHIP OF MANAGEMENT" on page 3 of the Proxy Statement, is
incorporated herein by reference.

ITEM 13.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
          -----------------------------------------------

         The information appearing in the Proxy Statement under the caption
"ELECTION OF DIRECTORS - Related Party Transactions" on pages 9 and 10 is
incorporated herein by reference.

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

(a)(1)   The following documents are filed as part of this report:

         Consolidated Balance Sheets as of December 31, 1998 and 1997

         Consolidated Statements of Operations for the years ended December 31,
         1998, 1997, and 1996

         Consolidated Statements of Stockholders' Equity for the years ended
         December 31, 1998, 1997, and 1996

         Consolidated Statements of Cash Flows for the years ended December 31,
         1998, 1997, and 1996

         Notes to Consolidated Financial Statements

                                     - 17 -
<PAGE>   18
(a)(2)   No schedules are included because of the absence of the conditions
         under which they are required or because the required information is
         included in the financial statements or the notes thereto.

(a)(3)   Exhibits:  The following exhibits are filed as part of this report:

<TABLE>
<CAPTION>
EXHIBIT NO.                           DESCRIPTION
   PAGE
<S>                                                                                           <C>
        3.1    Certificate of Incorporation of the Company.....................................(1)

        3.2    By-laws of the Company, as amended..............................................(1)

        10.1   Company's Amended and Restated 1986 Incentive Stock
               Option Plan, including form of Stock Option Agreement..........................(1)*

        10.2   Company's 1986 Amended and Restated Non-Statutory
               Stock Option Plan, including form of Stock Option Agreement....................(1)*

        10.3   Form of Confidentiality, Assignment and Non-Competition
               Agreement between the Company and employee officers............................(1)*

        10.4   Technology Agreement, dated November 12, 1996, between
               the Company and Cisco Systems, Inc..............................................(4)

        10.5A  Letter Agreement between the Company and William H. Largent
               regarding employment...........................................................(4)*

        10.5B  Employment Agreement between the Company and William H. Largent................(4)*

        10.6   Letter Agreement between the Company and
               John M. Spiegel re: employment.................................................(1)*

        10.7   Employment Agreement between the Company and
               William J. Mrukowski...........................................................(4)*

        10.8   Form of Indemnification Agreement between the Company
               and officers and directors.....................................................(2)*

        10.9   Schedule of Indemnification Agreements.........................................(2)*

        10.10  Omitted

        10.11  Omitted
</TABLE>

                                     - 18 -
<PAGE>   19
<TABLE>
<S>                                                                                           <C>
        10.12  Omitted

        10.13  Company's 1996 Stock Option Plan...............................................(3)*

        11     Statement re: computation of earnings per share.................................(5)

        13     Portions of the Annual Report to Stockholders...................................(5)

        23.1   Consent of KPMG LLP.............................................................(5)

        24     Powers of Attorney     .........................................................(5)

        26     Financial Data Schedule.........................................................(5)
</TABLE>

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

        (1)    Previously filed with the same exhibit number with the Company's
               Form 10-SB filed March 10, 1993 and incorporated herein by
               reference.
        (2)    Previously filed with the same exhibit number with the Company's
               Form 10-KSB filed March 31, 1994 and incorporated herein by
               reference.
        (3)    Previously filed with the same exhibit number with the Company's
               Form 10-K filed March 31, 1996 and incorporated herein by
               reference.
        (4)    Previously filed with the same exhibit number with the Company's
               Form 10-K filed March 31, 1998 and incorporated herein by
               reference.
        (5)    Filed herewith.
         *     Management contract or compensatory plan or arrangement required
               to be filed as an exhibit to this form.

(b)     Form 8-K filed October 27, 1998, reporting that on October 23, 1998, the
        Company's Board of Directors authorized the Company to repurchase up to
        1,000,000 shares of its outstanding common stock through October 22,
        1999 (Item 5).

(c)     Exhibits - The exhibits to this report follow the signature page.

(d)     Financial Statement Schedules - None.

                                     - 19 -
<PAGE>   20
                                   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.

                                      APPLIED INNOVATION INC.

Date: March 26, 1999                  By:  /s/ Gerard B. Moersdorf, Jr.
                                          ------------------------------------
                                           Gerard B. Moersdorf, Jr., Chairman,
                                           President and Treasurer

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

<TABLE>
<CAPTION>
        SIGNATURE                            TITLE                              DATE
        ---------                            -----                              ----
<S>                                   <C>                                  <C>
 /s/ Gerard B. Moersdorf, Jr.         Chairman, President                  March 26, 1999
------------------------------        and Treasurer (Principal
Gerard B. Moersdorf, Jr.              Executive Officer)

 /s/ William H. Largent               Senior Vice President of             March 26, 1999
------------------------------        Operations and Chief Financial
William H. Largent                    Officer (Principal Financial
                                      Officer)

 /s/ John M. Spiegel                  Controller                           March 26, 1999
------------------------------        (Principal Accounting Officer)
John M. Spiegel

*James H. Blough
------------------------------
James H. Blough                       Director                             March 26, 1999

*Curtis A. Loveland
------------------------------
Curtis A. Loveland                    Director                             March 26, 1999

*Gerard B. Moersdorf, Sr.
------------------------------
Gerard B. Moersdorf, Sr.              Director                             March 26, 1999

*Richard W. Oliver
------------------------------
Richard W. Oliver                     Director                             March 26, 1999

*Thomas W. Huseby
------------------------------
Thomas W. Huseby                      Director                             March 26, 1999
</TABLE>

                                     - 20 -
<PAGE>   21
<TABLE>
<S>                                   <C>                                  <C>
*Alexander B. Trevor
------------------------------
Alexander B. Trevor                   Director                             March 26, 1999


*By: /s/ Gerard B. Moersdorf, Jr.
    -----------------------------
     Gerard B. Moersdorf, Jr.
     (Attorney-in-Fact)
</TABLE>

                                     - 21 -
<PAGE>   22

                            APPLIED INNOVATION INC.
                            -----------------------

                                 EXHIBIT INDEX
                                       TO
                           ANNUAL REPORT ON FORM 10-K
                           for the fiscal year ended
                               December 31, 1998

EXHIBIT NO.                           DESCRIPTION
   PAGE

3.1    Certificate of Incorporation of the Company........................(1)

3.2    By-laws of the Company, as amended.................................(1)

10.1   Company's Amended and Restated 1986 Incentive Stock
       Option Plan, including form of Stock Option Agreement.............(1)*

10.2   Company's 1986 Amended and Restated Non-Statutory
       Stock Option Plan, including form of Stock Option Agreement.......(1)*

10.3   Form of Confidentiality, Assignment and Non-Competition
       Agreement between the Company and employee officers...............(1)*

10.4   Technology Agreement, dated November 12, 1996, between
       the Company and Cisco Systems, Inc.................................(4)

10.5A  Letter Agreement between the Company and William H. Largent
       regarding employment..............................................(4)*

10.5B  Employment Agreement between the Company and William H. Largent...(4)*

10.6   Letter Agreement between the Company and
       John M. Spiegel re: employment....................................(1)*

10.7   Employment Agreement between the Company and
       William J. Mrukowski..............................................(4)*

10.8   Form of Indemnification Agreement between the Company
       and officers and directors........................................(2)*

10.9   Schedule of Indemnification Agreements............................(2)*

10.10  Omitted

10.11  Omitted

10.12  Omitted

10.13  Company's 1996 Stock Option Plan..................................(3)*

11     Statement re: computation of earnings per share....................(5)

13     Portions of the Annual Report to Stockholders......................(5)

23.1   Consent of KPMG LLP................................................(5)

24     Powers of Attorney     ............................................(5)

26     Financial Data Schedule............................................(5)

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

(1)    Previously filed with the same exhibit number with the Company's
       Form 10-SB filed March 10, 1993 and incorporated herein by
       reference.
(2)    Previously filed with the same exhibit number with the Company's
       Form 10-KSB filed March 31, 1994 and incorporated herein by
       reference.
(3)    Previously filed with the same exhibit number with the Company's
       Form 10-K filed March 31, 1996 and incorporated herein by
       reference.
(4)    Previously filed with the same exhibit number with the Company's
       Form 10-K filed March 31, 1998 and incorporated herein by
       reference.
(5)    Filed herewith.
 *     Management contract or compensatory plan or arrangement required
      to be filed as an exhibit to this form.