U.S. SECURITIES AND EXCHANGE COMMISSION
                              WASHINGTON, DC 20549

                                   FORM 10-QSB


      (MARK ONE)

    |X|  Quarterly Report Pursuant to Section 13 or 15(d) of Securities
         Exchange Act of 1934

                  For the quarterly period ended MARCH 31, 2001

    |_|  Transition report under Section 13 or 15(d) of the Securities
         Exchange Act of 1934

               For the transition period from _______ to _______.

                          Commission File No. 000-23279

                             CELERITY SYSTEMS, INC.
                             ----------------------
                 (Name of Small Business Issuer in Its Charter)

Delaware                                         52-2050585
--------                                         ----------
(State or Other Jurisdiction of                  (I.R.S. Employer Identification
Incorporation or Organization)                    No.)

122 Perimeter Park Drive, Knoxville, Tennessee   37922
----------------------------------------------   -----
(Address of Principal Executive Offices)         (Zip Code)


                                 (865) 539-5300
                                 --------------
                (Issuer's Telephone Number, Including Area Code)


      Check  whether the issuer:  (1) filed all reports  required to be filed by
Section 13 or 15(d) of the Exchange  Act during the past 12 months,  and (2) has
been subject to such filing requirements for the past 90 days. Yes |X| No |_|


      There were  49,521,100  shares of Common Stock  outstanding  as of May 14,
2001.


                                       1


<PAGE>
PART I

FINANCIAL INFORMATION
---------------------

ITEM 1. FINANCIAL STATEMENTS.
        --------------------

CELERITY SYSTEMS, INC.
 Balance Sheets
<TABLE>
<CAPTION>
                                                                        March 31, 2001
                                                                         (unaudited)    December 31, 2000
                                                                      ------------------------------------
 <S>                                                                      <C>                <C>
 Assets

    Cash                                                                  $    1,255,485     $     10,366
    Accounts receivable                                                            1,000                -
    Inventory, net                                                             1,058,662          400,157
                                                                      ------------------------------------
         Total current assets                                                  2,315,147          410,523

 Property and equipment, net                                                     333,967          100,375
 Debt offering costs, net of accumulated amortization of $15,000
   and $257,263, respectively                                                    143,239           41,215
 Other assets                                                                     45,810           56,930
                                                                      ------------------------------------
      Total assets                                                        $    2,838,163     $    609,043
                                                                      ====================================

 Liabilities, Redeemable Preferred Stock and Stockholders' Deficit

 Accounts payable                                                         $    1,018,466     $    684,103
 Accrued wages and related taxes                                                 163,268          187,642
 Accrued interest                                                                137,256          151,499
 Other accrued liabilities                                                       192,114          176,925
 Notes payable                                                                   100,309           92,943
 Current maturities of long-term debt and capital lease obligations              570,000          570,000
                                                                      ------------------------------------
      Total current liabilities                                                2,181,413        1,863,112
 Long-term debt and capital lease obligations, less current
maturities                                                                     1,035,472          530,425
                                                                      ------------------------------------
      Total liabilities                                                        3,216,885        2,393,537


 Commitments and contingencies (Notes 7 and 8)                                         -                -

 Series A convertible preferred stock, $.01 par value; authorized
      50 shares; 0 and 13.715 shares issued and outstanding at
      March 31, 2001 and December 31, 2000, respectively                               -          168,357
 Series B convertible preferred stock, $.01 par value; authorized
      100 shares; 79.5333 and 0 shares issued and outstanding at
      March 31, 2001 and December 31, 2000, respectively                          30,628                -
 Common stock, $.001 par value, 50,000,000 shares authorized,
     49,858,464 issued and 49,521,100 outstanding, and 24,640,649
      issued and 24,303,285 outstanding at March 31, 2001
      and December 31, 2000, respectively                                         49,858           24,641
 Additional paid-in capital                                                   32,679,324       30,407,547
 Treasury stock, at cost, 337,364 shares at March 31, 2001 and
      December 31, 2000                                                        (227,500)        (227,500)
 Accumulated deficit                                                        (32,911,032)     (32,157,539)
                                                                      ------------------------------------
      Total stockholders' deficit                                              (409,350)      (1,952,851)
                                                                      ------------------------------------
      Total liabilities, redeemable preferred stock and
       stockholders' deficit                                              $    2,838,163     $    609,043
                                                                      ====================================

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

</TABLE>


                                       2
<PAGE>

 CELERITY SYSTEMS, INC.
 Condensed Statements of Operations
 Unaudited
<TABLE>
<CAPTION>
                                                                                     Three Months Ended
                                                                                          March 31,
                                                                              ----------------------------------
                                                                                   2001             2000
                                                                                   -----            -----
   <S>                                                                         <C>                <C>

   Revenues                                                                    $   2,400       $         -

   Cost of revenues                                                                3,240                 -
                                                                              ---------------- -----------------
           Gross margin                                                             (840)                -

   Operating expenses                                                            654,956           951,778
                                                                              ---------------- -----------------
           Loss from operations                                                 (655,796)         (951,778)

      Interest expense                                                           (68,494)         (174,042)

      Other income                                                                 1,425             1,654
                                                                              ---------------- -----------------
           Loss from continuing operations                                      (722,865)       (1,124,166)

   Discontinued operations:

      Income on disposal of discontinued CD-ROM segment                                -            37,748
                                                                              ---------------- -----------------
           Net loss                                                             (722,865)       (1,086,418)

 Amortization of beneficial conversion feature of Series B
  redeemable convertible preferred stock (Note 4)                                (25,128)                -

 Accretion of redeemable preferred stock (Note 4)                                 (5,500)                -
                                                                              ---------------- -----------------
           Net loss applicable to common shareholders                          $(753,493)      $(1,086,418)
                                                                              ================ =================
   Basic and diluted loss per common share (Note 2):

      Loss from continuing operations                                          $   (0.02)      $     (0.16)

      Discontinued operations                                                         -               0.01
                                                                              ---------------- -----------------
      Net loss per share                                                       $   (0.02)      $     (0.15)
                                                                              ================ =================

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

</TABLE>




                                       3
<PAGE>




 CELERITY SYSTEMS, INC.
 Condensed Statements of Cash Flows
 Unaudited
<TABLE>
<CAPTION>
                                                                              Three Months Ended
                                                                            2001             2000
                                                                            -----            ----
 <S>                                                                   <C>               <C>
 Cash flows from operating activities:

    Net loss                                                           $  (722,865)      $ (1,086,418)

    Adjustments to reconcile net loss to net
     cash used in operating activities:

             Depreciation and amortization                                  80,128            267,026

             Noncash interest expense related to beneficial
                  conversion feature of debt                                46,001            140,047
             Noncash interest expense related to notes payable              36,860                  -
             Noncash operating expense related to consulting fees           17,990            234,375
             Noncash operating expense related to payroll
                and directors' fees                                         19,214                  -

             Changes in current assets and liabilities:

                 Accounts receivable                                        (1,000)           (34,180)
                 Prepaid expenses                                                -              5,700
                 Inventory                                                (658,505)           (64,862)
                 Accounts payable                                          345,902             74,095
                 Other current liabilities                                     946             54,832
                                                                       ----------------------------------
                     Net cash used in operating activities                (835,329)          (409,385)

 Cash flows from investing activities:

    Purchase of fixed assets                                              (246,385)                 -
                                                                       ----------------------------------
                     Net cash used in investing activities               (246,385)                 -

 Cash flows from financing activities:

    Proceeds from short-term borrowings                                     15,000              5,000
    Payments on short-term borrowings                                      (15,000)                 -
    Proceeds from long-term debt                                         1,790,000            629,980
    Principal payments on long-term debt and capital
     lease obligations                                                     (20,000)                 -
    Proceeds from issuance of common stock                                  30,000             40,000
    Proceeds from exercise of common stock warrants                              -             75,000
    Proceeds from exercise of common stock options                               -              2,775
    Proceeds from Series B preferred stock and warrant offering,
     net of offering costs                                                 685,072                  -
    Financing and debt issue costs                                        (158,239)           (87,480)
                                                                       ----------------------------------
                     Net cash provided by financing activities           2,326,833            665,275
 Net increase in cash and cash equivalents                               1,245,119            255,890
 Cash and cash equivalents, beginning of period                             10,366                383
                                                                       ----------------------------------
 Cash and cash equivalents, end of period                               $1,255,485       $    256,273
                                                                       ==================================

 The accompanying notes are an integral part of these unaudited condensed financial statements.
</TABLE>



                                       4
<PAGE>


                             CELERITY SYSTEMS, INC.

NOTES TO UNAUDITED CONDENSED FINANCIAL STATEMENTS

1.      PRESENTATION OF UNAUDITED INTERIM FINANCIAL STATEMENTS

        The accompanying interim condensed financial statements and notes to the
financial  statements  for the interim  periods as of March 31, 2001 and for the
three  months ended March 31, 2001 and 2000,  are  unaudited.  The  accompanying
interim  unaudited  financial  statements  have been  prepared by the Company in
accordance with generally accepted  accounting  principles for interim financial
statements and Item 310(b) of Regulation S-B.  Accordingly,  they do not include
all the  information  and footnotes  required by generally  accepted  accounting
principles for complete financial statements. In the opinion of management,  all
adjustments  (consisting of normal recurring items)  considered  necessary for a
fair  presentation  have been  included.  Operating  results for the three month
period ended March 31, 2001, are not necessarily  indicative of the results that
may be expected for the year ending  December 31, 2001. The condensed  financial
statements should be read in conjunction with the financial statements and notes
thereto  included  in the  10-KSB of the  Company  as of and for the year  ended
December 31, 2000.

        In June  1998,  the FASB  issued  SFAS 133,  Accounting  for  Derivative
Instruments  and  Hedging  Activities  and in July  1999  issued  SFAS 137 which
deferred  the  effective  date of SFAS 133, as it pertains  to the  Company,  to
fiscal year 2001. This statement has not had a material impact on the Company.

        In December 1999, the Securities and Exchange  Commission ("SEC") issued
Staff Accounting  Bulletin No. 101, or SAB 101, Revenue Recognition in Financial
Statements,  which  provides  guidance  on  the  recognition,  presentation  and
disclosure  of  revenue in  financial  statements  filed  with the SEC.  SAB 101
outlines the basic  criteria that must be met to recognize  revenue and provides
guidance  for  disclosures  related  to  revenue  recognition  policies.  It was
effective for the fourth fiscal quarter of fiscal years beginning after December
15, 1999. SAB 101 has not had a material impact on the Company.

        In April 2000,  the  Financial  Accounting  Standards  Board issued FASB
Interpretation  No. 44 (FIN 44) which  clarifies the  application  of Accounting
Principles  Board  Opinion  25  for  certain  transactions.  The  interpretation
addresses many issues related to granting or modifying  stock options  including
changes in accounting for modifications of awards (increased life,  reduction of
exercise  price,  etc.).  It was effective July 1, 2000 but certain  conclusions
cover specific  events that occurred  after either  December 15, 1998 or January
12, 2000. The effects of applying the  interpretation  are to be recognized on a
prospective  basis from July 1, 2000.  Adoption of FIN 44 has not had a material
impact on the Company.

        The Company's financial statements have been prepared on a going concern
basis,  which  contemplates  the  realization  of assets and the  settlement  of
liabilities  and  commitments in the normal course of business.  The Company has
had  recurring  losses and  continues  to suffer cash flow and  working  capital
shortages. Additionally, the lack of sales or a significant financial commitment
raises  substantial  doubt  about the  Company's  ability to continue as a going
concern.

        The Company has focused on attempting to obtain the necessary capital to
maintain  its  operations.  Additionally,  the  Company has  narrowed  its sales
efforts to those which have the best chance of closing in the near term.  In the
first  quarter  of 2001,  the  Company  received  gross  proceeds  from  private
placements  of  convertible  debt totaling  $1,790,000  and Series B Convertible
Preferred  Stock  totaling  $795,333 and  received  $30,000 from the issuance of
common stock. These funds should enable the Company to produce inventory for its
orders and to operate for the next few months.

2.      LOSS PER SHARE

        Basic and diluted  loss per share were  computed  by  dividing  net loss
applicable to common stock by the weighted  average  common  shares  outstanding


                                       5
<PAGE>

during each period.  Potential common equivalent shares totaling  52,250,286 are
not included in the  computation of per share amounts in the periods because the
Company  reported a loss from  continuing  operations  and their effect would be
anti-dilutive.

        Following is a reconciliation  of the numerators and denominators of the
basic and diluted loss per share:

                                                              March 31,
                                                         2001          2000
          Loss
                  Basic and diluted:
                         Loss applicable to common
                         stockholders                  $(753,493)   $(1,086,418)

          Shares
                  Basic and diluted:
                         Weighted-average common
                         shares outstanding            42,409,671      7,033,399

3.      ISSUANCE OF CONVERTIBLE DEBENTURES

        The  Company  issued  $1,790,000   aggregate   principal  amount  of  4%
convertible  debentures  in the first  quarter of 2001 under its Equity  Line of
Credit,  resulting in net proceeds of approximately  $1,633,000.  The debentures
have a term of five years and are convertible into the Company's common stock at
a price,  at the option of the holder,  equal to 75% of the average  closing bid
price of the  common  stock  for the five  trading  days  immediately  preceding
conversion.  The Company  recognized  a  beneficial  conversion  feature for the
convertible  debentures  as a  discount  on the  convertible  debentures  and as
additional  paid-in  capital.  This  discount of $725,410 will be amortized as a
non-cash interest expense over the five year period from the date of issuance to
the stated redemption date of the debentures.

4.      ISSUANCE OF SERIES B REDEEMABLE CONVERTIBLE PREFERRED STOCK

        In the  first  quarter  of  2001,  the  Company  consummated  a  private
placement  of 23 shares  of  Series B  Redeemable  Convertible  Preferred  Stock
resulting in gross  proceeds of $230,000.  The Stock  provides for  preferential
dividends  at an annual  rate of 8%. The  preferred  stock is  convertible  into
shares of common stock at a conversion price equal to $0.025 per share,  subject
to  availability,  at any time during the two years  following  execution of the
subscription  agreements.  Should there be an  insufficient  number of shares of
common  stock  available  at  the  time  the  preferred  stock  is  offered  for
conversion,  the  conversion  period  shall be  extended  by the  number of days
between the  conversion  date and the date common shares become  available.  Two
years from the original  issuance  date,  the Company shall offer to redeem such
preferred  shares then  outstanding  at a price equal to the  original  issuance
price plus  accrued  dividends.  The  Company  will record  accretion  up to the
redemption  value until the redemption  date.  Accretion  totaled $5,500 for the
first  quarter of 2001.  Warrants to purchase one share of common stock for each
two shares of common  stock issued upon  conversion  of this tranche of Series B
Preferred  Stock were included.  These warrants are  exercisable  for a two year
period  following  the  date  that the last  share  of the  Series B  Redeemable
Convertible  Preferred Stock is converted into common stock and have an exercise

                                       6
<PAGE>


price of $.10 per share. The Company  allocated  $132,000 of the proceeds to the
warrants based on their relative fair value.  The resulting  $98,000  beneficial
conversion  feature of the preferred  stock will be reflected as a dividend over
the two year period until the stated redemption date of the stock.  Amortization
of this  beneficial  conversion  feature  totaled $4,083 in the first quarter of
2001.

        The Company also consummated an additional  private placement of 51.5333
shares of Series B Redeemable  Convertible  Preferred  Stock  resulting in gross
proceeds  of  $515,333,  and  issued an  additional  5 shares  having a value of
$50,000 as payment for certain accounts payable and accrued wages. The Preferred
Stock provides for preferential dividends at an annual rate of 8%. The preferred
stock is convertible  into shares of common stock at a conversion price equal to
$0.025 per  share,  subject to  availability,  at any time  during the two years
following execution of the subscription  agreements.  The beneficial  conversion
feature of $505,072  will be  reflected  as a dividend  over the two year period
until the stated  redemption  date.  Amortization of this beneficial  conversion
feature  totaled  $21,045  in the  first  quarter  of 2001.  Should  there be an
insufficient  number  of  shares  of  common  stock  available  at the  time the
preferred  stock is offered  for  conversion,  the  conversion  period  shall be
extended by the number of days between the  conversion  date and the date common
shares become  available.  Two years from the original issuance date the Company
shall offer to redeem such preferred shares then outstanding at a price equal to
the  original  issuance  price plus accrued  dividends.  The Company will record
accretion up to the redemption value until the redemption date.

5.      ISSUANCE OF COMMON STOCK

        In the first quarter of 2001,  the Company  issued  1,000,000  shares of
common stock in a private placement for a value of $30,000.

6.      SUPPLEMENTAL CASH FLOW INFORMATION

        During the first quarter of 2001,  the Company  issued 427,946 shares of
common  stock  with a value of $23,116 as payment  for  certain  consulting  and
directors' fees and certain payroll expenses.

        The Company also issued 5 shares of Series B convertible preferred stock
with a value of $50,000 as payment  for  certain  accounts  payable  and accrued
wages.

        Also  during the first  quarter  of 2001,  $617,023  of the  convertible
debentures were converted into 19,357,711 shares of common stock.

        Additionally, during the first quarter of 2001, $140,912 of the Series A
convertible preferred stock was converted into 4,659,157 shares of common stock.

        During the first quarter of 2000,  the Company  issued 624,275 shares of
common stock with a value of $766,038 as payment for certain consulting fees.

        In the first quarter of 2000, $30,000 of the convertible debentures were
converted into 52,665 shares of common stock.

7.      COMMITMENTS AND CONTINGENCIES

        At March 31,  2001 the Company  had issued  49,858,464  shares of common
stock with  $2,538,983  aggregate  principal and interest  amount of convertible
debentures and Series B Preferred  Stock  outstanding.  The Company has received
exercise  notices  for  $63,650  of  convertible  debentures  under  which it is
obligated to issue an additional 2,462,502 shares of common stock. Additionally,
the Company  would be obligated to issue an  aggregate of  47,065,942  shares of
common stock if all remaining holders of the outstanding  Convertible Securities
were to issue conversion notices,  based upon the five day average closing price
of $.1469 as of March 30, 2001,  discounted to 75% of market  price,  or $.1101.
Accordingly,  sufficient  shares of common stock are not  available for issuance
upon  conversion of the  convertible  securities or upon exercise of outstanding
options  and  warrants.  While the Company  intends to  schedule a  stockholders
meeting as soon as possible to obtain  approval for an increase in the number of
authorized  shares of common stock, it cannot currently  satisfy its obligations
in respect to the issuance of additional  shares of common stock.  To the extent
the Company is unable to issue  shares as  required,  it will be in violation of
its  obligations  under  the  terms of the  outstanding  convertible  securities
agreements,  and will incur  liability for liquidated  damages of  approximately
$6,000 per month.

        The Company is a defendant in a lawsuit  brought by a financial  printer
for  non-payment of expenses.  The action was brought on January 30, 2001 and is
pending  before the Supreme Court of the State of New York,  County of New York.
In this action,  the plaintiff,  Merrill/New York Company,  has sued the Company
for the  non-payment  of financial  printing  fees and is seeking  approximately
$118,000 in damages,  plus interest and certain  costs.  The Company  intends to
defend the action vigorously.

                                       7
<PAGE>


        In addition,  certain creditors have threatened  litigation if not paid.
The Company is seeking to make arrangements  with these creditors.  There can be
no assurance  that any claims,  if made,  will not have an adverse effect on the
Company.

8.      SUBSEQUENT EVENTS

        In April 2001, the Securities and Exchange  Commission ("SEC") issued an
interpretation  regarding Equity Line Financings.  This Interpretation  modified
the  criteria  required  to  register  the shares of common  stock  issued  upon
conversion  of the related  debentures.  The Company has entered  into a Line of
Credit Agreement, that expires on October 31, 2001, under which a maximum amount
of $10,000,000  of debentures may be issued.  As of May 1, 2001, the Company had
drawn  $2,795,000   under  the  Line  of  Credit.   As  a  result  of  this  SEC
Interpretation,  the  terms of this  Line of  Credit  Agreement  do not meet the
criteria  for  registration  of the  common  stock  which  would be issued  upon
conversion  of these  debentures.  The  Company is seeking to arrange  financing
which will meet the new criteria established by this  Interpretation.  There can
be no assurance that the Company will be successful in its efforts.




                                       8
<PAGE>



ITEM 2. MANAGEMENT'S PLAN OF OPERATION AND DISCUSSION AND ANALYSIS.
        ----------------------------------------------------------

INTRODUCTORY STATEMENTS

        FORWARD-LOOKING  STATEMENTS AND ASSOCIATED  RISKS.  THIS FILING CONTAINS
FORWARD-LOOKING STATEMENTS,  INCLUDING STATEMENTS REGARDING, AMONG OTHER THINGS,
(A) OUR COMPANY'S  PROJECTED SALES AND  PROFITABILITY,  (B) OUR COMPANY'S GROWTH
STRATEGIES,  (C) ANTICIPATED TRENDS IN OUR COMPANY'S INDUSTRY, (D) OUR COMPANY'S
FUTURE  FINANCING  PLANS AND (E) OUR  COMPANY'S  ANTICIPATED  NEEDS FOR  WORKING
CAPITAL.  IN  ADDITION,   WHEN  USED  IN  THIS  FILING,  THE  WORDS  "BELIEVES,"
"ANTICIPATES," "INTENDS," "IN ANTICIPATION OF," "EXPECTS," AND SIMILAR WORDS ARE
INTENDED  TO  IDENTIFY   FORWARD-LOOKING   STATEMENTS.   THESE   FORWARD-LOOKING
STATEMENTS ARE BASED LARGELY ON OUR COMPANY'S  EXPECTATIONS AND ARE SUBJECT TO A
NUMBER OF RISKS AND  UNCERTAINTIES,  INCLUDING  THOSE DESCRIBED IN THE "BUSINESS
RISK  FACTOR"  SECTION.  ACTUAL  RESULTS  COULD  DIFFER  MATERIALLY  FROM  THESE
FORWARD-LOOKING  STATEMENTS  AS A RESULT OF CHANGES IN TRENDS IN THE ECONOMY AND
OUR  COMPANY'S  INDUSTRY,  DEMAND  FOR  OUR  COMPANY'S  PRODUCTS,   COMPETITION,
REDUCTIONS IN THE  AVAILABILITY OF FINANCING AND  AVAILABILITY OF RAW MATERIALS,
AND OTHER FACTORS.  IN LIGHT OF THESE RISKS AND  UNCERTAINTIES,  THERE CAN BE NO
ASSURANCE THAT THE FORWARD-LOOKING  STATEMENTS  CONTAINED IN THIS FILING WILL IN
FACT OCCUR.

OVERVIEW

        Prior to 1998, our major  activity was selling  digital video servers in
the interactive video services market. All sales were in Korea,  Israel,  Taiwan
and China.  However,  beginning in 1998,  we focused our sales  efforts in North
America,  and developed and sold the first production units of a new digital set
top box, the T 6000.

        In  February  1998,  we decided  to scale  back our CD-ROM  segment to a
maintenance  mode of  operations.  We  developed a formal plan of disposal  that
became effective in May 1998. The segment had revenues of $0 and $67,950 for the
three months ended March 31, 2001 and 2000,  respectively.  In February 2001, we
sold the  assets of our CD-ROM  segment  for 20  preferred  shares of the buyer,
which are  convertible  into common shares on a scheduled  basis over a two-year
period.  As we had written the assets of this segment down to zero, and the fair
value of the shares of the buyer is not currently determinable,  no gain or loss
on this sale was recorded.

        We have  continued  to  focus  most of our  development  and  production
efforts during 2000 and into 2001 on the T 6000. In addition, we are seeking new
projects  using our digital  video  servers,  which could be deployed with the T
6000 or other  compatible set top boxes.  In 1999, we produced our initial trial
run of the T 6000 set top boxes,  which were manufactured by Taylor-White,  LLC,
of  Greeneville,  Tennessee.  In December 1999, we entered into a  manufacturing
agreement  with  Global PMX  Company,  Limited,  which was  terminated  by us in
November 2000. We then entered into a manufacturing  agreement with Nextek, Inc.
under which all T 6000 digital set top boxes will be manufactured in their plant
in Madison, Alabama.

        Management  has also  focused  on  attempting  to obtain  the  necessary
capital  to  maintain  our  operations.  We are  continuing  to seek  financing,
including possible strategic  investment  opportunities or opportunities to sell
some or all of our  assets  and  business,  while  continuing  to  pursue  sales
opportunities.  We have narrowed our sales  efforts to those which,  we believe,
have the best chance of closing in the near term.  We  continue  to  encounter a
longer and more complex sales cycle than originally contemplated.

        We had no revenues in 2000. We had one  interactive  video customer that
represented all of our revenues in the first quarter of 2001.

                                       9
<PAGE>


RESULTS OF OPERATIONS

THREE MONTHS ENDED MARCH 31, 2001 COMPARED TO THREE MONTHS ENDED MARCH 31, 2000

REVENUES

        We had  revenues of $2,400 for the  quarter  ended  March 31,  2001,  as
compared to no revenue for the same period in 2000. The low level of interactive
video sales is a result of the constrained sales and marketing activities caused
by our cash shortage and delays associated with the production of the T 6000 set
top box.

COSTS OF REVENUES

        Costs of revenues  were $3,240 in the first quarter of 2001, as compared
to $-0- in 2000. We had a negative  gross margin of $840 in the first quarter of
2001, as compared to $-0- for the same period in 2000. The negative gross margin
is the  result of the sale of a small  number  of T 6000 set top boxes  produced
from a small, higher unit cost production run.

OPERATING EXPENSES

        Operating  expenses  for the three  months  ending  March 31,  2001 were
$654,956 as compared to $951,778  for the same period in 2000,  or a decrease of
$296,822.  This decrease  includes a reduction in legal and professional fees of
approximately  $200,000 in the first  quarter of 2001 from the first  quarter of
2000 primarily from lower consulting  expenses  incurred to assist with investor
relations and investment  banking.  Compensation  expense was down approximately
$189,000  in  the  current  quarter   compared  to  the  same  period  in  2000.
Compensation  expense  in the  first  quarter  of 2000 was  incurred  due to the
initial  closing  of a  private  offering  in which  $1,665,882  of  outstanding
accounts  payable and accrued wages was exchanged for common stock and warrants.
These  decreases  were  partially  offset by  increases in  insurance,  employee
benefits and facility and related expenses of approximately $92,000.

        Interest expense in the first quarter of 2001 was $70,481 as compared to
$174,042 in the first quarter of 2000. Of these amounts, $43,853 and $140,047 in
2001 and 2000,  respectively,  are non-cash  expenses  related to the beneficial
conversion  features of certain debentures and account for a significant portion
of the reduction between the two periods.  In November 2000, the Emerging Issues
Task Force of the Financial  Accounting Standards Board reached a consensus that
the discount  resulting  from  recording a beneficial  conversion  feature is to
amortized  from  the  date of  issuance  to the  stated  redemption  date of the
convertible instrument,  regardless of when the earliest conversion date occurs.
As a result,  the beneficial  conversion  feature of the convertible  debentures
issued after November 2000 are being  amortized over the life of the debentures,
in most cases 60 months,  versus an  approximately 3 month period generally used
prior to the issuance of this pronouncement.

NET LOSS

        As a result of the above factors,  net loss from  continuing  operations
for the quarter ended March 31, 2001, was $724,852 as compared to $1,124,166 for
the same period in 2000.

LIQUIDITY AND CAPITAL RESOURCES

        Our primary source of financing since our inception has been through the
issuance of common and preferred stock and debt.

        We had cash  balances  on hand as of March 31, 2001 of  $1,255,485.  Our
cash position continues to be uncertain.

        In the first quarter of 2001, we received  gross  proceeds from the Line
of Credit Agreement of $1,790,000,  $745,333 on the private placement of 74.5333
shares of our Series B Convertible  Preferred  Stock and  warrants,  and $30,000


                                       10
<PAGE>

from the issuance of common  stock.  We are looking at several  other options in
terms of  relieving  our cash  shortage.  We are  continuing  to seek to arrange
financing, including possible strategic investment or opportunities to sell some
or  all  of  our  assets  and  business,   while   continuing  to  pursue  sales
opportunities.  We have granted a security  interest in our personal property to
our prior legal counsel. Such security interest may hinder our efforts to obtain
financing.  The lack of  sales  or a  significant  financial  commitment  raises
substantial  doubt about our ability to continue as a going concern or to resume
a full-scale level of operations.

        As of March 31, 2001, we have an accumulated deficit of $32,887,881.  We
expect to incur  operating  losses for the  indefinite  future as we continue to
develop our technology and until we achieve some sales success. Since January 1,
2001, we have received new orders to install and operate end-to-end  interactive
video systems in 3 multi-family  developments with a total of 749 units in Texas
and Arizona and for the sale of our Digital  Education System to two Ohio school
systems.  There can be no  assurance,  however,  as to the  receipt or timing of
revenues  from  operations,  including,  in  particular,  revenues from products
currently under development.

        As of  March  31,  2001  we had net  working  capital  of  approximately
$147,800.  We had no  significant  capital  spending or purchase  commitments at
March 31,  2001 other than  certain  facility  leases  and  inventory  component
purchase commitments required in the ordinary course of our business.

        The Company has entered into a Line of Credit Agreement, that expires on
October 31, 2001,  under which a maximum amount of $10,000,000 of debentures may
be issued.  As of May 1, 2001 the Company had drawn $2,795,000 under the Line of
Credit.  As a result of a recent SEC  Interpretation,  the terms of this Line of
Credit  Agreement do not meet the criteria for  registration of the common stock
which  would be issued  upon  conversion  of these  debentures.  The  Company is
seeking to arrange  financing  which will meet the new criteria  established  by
this  Interpretation.  There  can be no  assurance  that  the  Company  will  be
successful in its efforts.

        We have no existing bank lines of credit.

BUSINESS RISK FACTORS

NEED FOR ADDITIONAL FINANCING

        As of March 31, 2001, we had cash and cash  equivalents of approximately
$1.3 million and working capital of approximately  $147,800.  We believe that we
have enough  cash to last for  approximately  six months,  at which time we will
need to raise  additional  capital.  We need to  obtain  from  external  sources
additional financing adequate to complete development  activities and to achieve
a level of sales  adequate to support our cost  structure  in order to alleviate
substantial  doubt  about our ability to  continue  as a going  concern.  In the
absence of additional capital,  we will be required to significantly  curtail or
cease our business activities, and our stock price would decline.

HISTORY OF LOSSES AND ACCUMULATED DEFICIT

        We had net losses of $753,000  for the quarter  ended March 31, 2001 and
$5,287,500 for the year ended  December 31, 2000. We had an accumulated  deficit
of approximately $33,000,000 as of March 31, 2001 and $32,157,539 as of December
31, 2000.  We cannot assure you that we will continue as a going concern or ever
operate profitably.  We may experience  fluctuations in future operating results
as a result of a number of factors,  including  delays in digital  video product
enhancements and new product introductions. We cannot assure you that we will be
able to  develop  commercially  successful  products  or that we will  recognize
significant revenues from such products.

ABILITY TO CONTINUE AS A GOING CONCERN

        We have  significantly  scaled  back our  operations  as a result of our
recurring losses, cash flow and working capital problems. The lack of sales or a
significant  financial  commitment raises substantial doubt about our ability to
continue as a going  concern or to operate our business on a  full-scale  basis.

                                       11
<PAGE>
There can be no assurance  that we will ever receive the funds  necessary for us
to continue as a going concern or to operate our business on a full-scale basis.

LIMITED SALES; LIMITED MARKETING AND SALES EXPERIENCE

        We have  limited  resources  and limited  experience  in  marketing  and
selling our products.  Our sales efforts are currently  being  supervised by our
President.  We cannot  assure you that we will be able to establish and maintain
adequate  marketing and sales  opportunities or make arrangements with others to
perform such activities.

        We are also  continuing to pursue our sales efforts and  endeavoring  to
offer  attractive  pricing to close  sales in a timely  manner.  There can be no
assurance,  however,  as to the receipt or timing of revenues  from  operations,
including, in particular, revenues from products currently under development.

        Achieving market penetration will require  significant efforts to create
awareness of and demand for, our  products.  Accordingly,  our ability to expand
our customer base will depend upon our marketing efforts,  including our ability
to establish an effective  internal sales  organization  or strategic  marketing
arrangements  with others.  Our failure to  successfully  develop  marketing and
sales  opportunities  will  have a  material  adverse  effect  on our  business.
Further,  we cannot assure you that such  development  will lead to sales of our
current or proposed products.

NECESSITY OF ATTRACTING AND RETAINING EMPLOYEES

        Our ability to successfully manage our growth will substantially  depend
on our ability to attract and retain additional qualified management  personnel.
Because of our extreme cash shortage, our ability to attract or retain qualified
personnel has been  hindered.  There can be no assurance that the demands placed
on our personnel by the cash shortage or the growth of our business and the need
for  close  monitoring  of our  operations  and  financial  performance  through
appropriate and reliable  administrative and accounting  procedures and controls
will be met,  or that we will  otherwise  manage  our growth  successfully;  the
failure to do so could have a material  adverse effect on our business,  results
of operations  and financial  condition.  There is significant  competition  for
qualified personnel, and there can be no assurance that we will be successful in
recruiting, retaining or training the management personnel we require.

DEPENDENCE ON KEY PERSONNEL

        Our  success  depends to a  significant  extent on the  performance  and
continued service of senior management,  particularly  Kenneth D. Van Meter. Our
failure  to retain  the  services  of key  personnel  or to  attract  additional
qualified employees could adversely affect us.

        We entered into an employment  agreement with Mr. Van Meter in 1997. Mr.
Van Meter's employment agreement expired on January 20, 2000.

DELISTING FROM THE NASDAQ  SMALLCAP  MARKET;  TRADING ON THE OTC BULLETIN BOARD;
PENNY STOCK

        On October 25, 1999 we were notified by Nasdaq that our common stock was
delisted from trading on the Nasdaq SmallCap Market effective  October 21, 1999.
The delisting  followed a Nasdaq panel's  determination that we did not meet the
$1.00 per share bid price and $2,000,000 net tangible  assets  requirements  for
maintenance on the Nasdaq SmallCap Market.  The panel also cited the explanatory
paragraph in our auditor's report on our December 30, 1998 financial  statements
regarding  substantial  doubt about our  ability to continue as a going  concern
going and determined  that the proposed  merger with  FutureTrak  International,
Inc., (which has since been terminated) constituted a reverse merger,  requiring
us to comply with more stringent initial listing requirements.  The panel was of
the opinion that we failed to present a definitive plan for continued listing on
the Nasdaq SmallCap Market within a reasonable period and to sustain  compliance
with those requirements over the long term.

        As a result of the  delisting,  there may be a  limited  release  of the
market prices of our common stock and limited news coverage of the Company.  The
delisting may also restrict investors' interest in our securities and materially
adversely  affect the  trading  market and  prices for such  securities  and our
ability to issue additional securities or to secure additional financing.

                                       12
<PAGE>


        In  addition  low price  stocks are subject to the  additional  risks of
federal and state  regulatory  requirements  and the potential loss of effective
trading markets. In particular, as long as the trading price of our common stock
is less than $5.00 per share, which it currently is, the common stock is subject
to Rule 15g-9  under the  Securities  Exchange  Act of 1934  which,  among other
things,   requires  that  broker/   dealers   satisfy   special  sales  practice
requirements.   These  requirements   include  making   individualized   written
suitability  determinations and receiving purchasers' written consent,  prior to
any transaction.

        If  our   securities  are  deemed  penny  stocks  under  the  Securities
Enforcement  and Penny Stock Reform Act of 1990,  this would require  additional
disclosure in connection with trades of our securities. Such disclosure includes
the delivery of a  disclosure  schedule  explaining  the nature and risks of the
penny stock market.

        The foregoing  requirements  could  severely  limit the liquidity of our
securities  and  materially  adversely  affect our  ability to issue  additional
securities or to secure additional financing.

SHARES ELIGIBLE FOR FUTURE SALE

        Other  than  certain   shares  held  by   affiliates   of  the  Company,
substantially all of our shares of common stock are freely transferable  without
restriction  or further  registration  under the  Securities  Act. The remaining
shares are "restricted securities" as that term is defined in Rule 144 under the
Securities  Act. These  restricted  securities may be sold pursuant to Rule 144,
other than shares of common  stock  underlying  certain  options,  warrants  and
convertible  securities which may be sold under Rule 144 or pursuant to Rule 701
under the  Securities Act or if "cashless  exercise"  provisions are utilized in
connection  with their exercise.  The sale of a substantial  number of shares of
common stock or the availability of common stock for sale could adversely affect
the market price of the common stock.

EFFECT OF PREVIOUSLY ISSUED OPTIONS, WARRANTS AND CONVERTIBLE DEBENTURES

        As of March 31, 2001,  options to purchase an aggregate of 64,500 shares
of common stock were outstanding under our 1995 stock option plan. These options
are  exercisable at prices ranging from $0.160 to $0.910 per share. In addition,
options  to  purchase  an  aggregate  of  192,483  shares  of  common  stock are
outstanding  under our 1997 stock option plan.  These options are exercisable at
prices  ranging  from  $0.160 to $2.938 per share,  although a majority  of such
options are exercisable at $0.688 per share. We also have additional outstanding
options and warrants to purchase approximately 6,987,534 shares of common stock.
The  exercise  price of certain  warrants may be lower since the holders of such
warrants  have  certain  anti-dilution  rights,  although  we have  not made any
adjustments.

        The  foregoing  is  in  addition  to  shares  which  are  issuable  upon
conversion of certain convertible  debentures.  Based on the market price of the
common stock on March 31, 2001,  49,528,444 shares would have been issuable upon
conversion  of  the   convertible   debentures  and  series  A  preferred  stock
outstanding  as of such date, of which some are currently  convertible  at a 25%
discount to the market price of the common stock and the  remainder of which are
currently  convertible at the debenture  holders option of either a 35% discount
to the to the  highest  bid price for the  common  stock for five  trading  days
preceding conversion or at fixed price of $0.75 per share or $0.50 per share.

        Additional  shares are issuable for interest and liquidated  damages due
on the Convertible Debentures and as a result of the triggering of anti-dilution
provisions of other instruments and agreements.

        The outstanding options,  warrants and convertible debentures may hinder
future  financings,  since the  holders of such  securities  may be  expected to
exercise them at a time when we will  otherwise be able to obtain equity capital
on more favorable terms.  The existence or exercise of the outstanding  options,
warrants and  convertible  debentures  and  subsequent  sale of the common stock
issuable  upon such  exercise  could  adversely  affect the market  price of our
securities.

                                       13
<PAGE>


OBLIGATIONS IN CONNECTION WITH THE ISSUANCE OF CONVERTIBLE DEBENTURES

        We are obligated to register the  underlying  common stock issuable upon
conversion  of our  convertible  debentures  under various  registration  rights
agreements. We did not timely fulfill our registration obligations in respect to
some of the convertible debentures. We are required to pay liquidated damages of
approximately  $26,000  in the form of  increased  interest  on the  convertible
debentures as a result of our failure to timely file such registration statement
and have it declared effective by the Securities and Exchange Commission.

SUBSTANTIAL  UP-FRONT EXPENSES;  LIQUIDATED DAMAGES PROVISIONS AND OTHER PROJECT
RISKS

        A  significant  portion of our  revenues  are expected to continue to be
derived from substantial  long-term projects which require significant  up-front
expense to us. There can be no assurance  that revenues  will be realized  until
the  projects  are  completed  or certain  significant  milestones  are met. For
example, suppliers and developers for long-term interactive video projects, such
as the Korean, Israeli, Taiwanese and Chinese projects in which we participated,
are required to reach  certain  milestones  prior to our receipt of  significant
payments.  Our  failure,  or any  failure  by a  third-party  with  which we may
contract,  to perform services or deliver interactive video products on a timely
basis could result in a substantial loss to us.

        We have had difficulty in meeting delivery schedules, which has resulted
in customer  dissatisfaction.  In addition,  difficulty  in completing a project
could have a material adverse effect on our reputation,  business and results of
operations.  In many instances, we are dependent on the efforts of third parties
to  adequately  complete our portion of a project and, even if our digital video
servers perform as required, a project may still fail due to other components of
the project supplied by third parties.

CONSEQUENCES OF FIXED PRICE CONTRACTS AND COMMITMENTS

        We have  entered  into and may in the  future  enter  into  fixed  price
agreements  for  the  sale  of our  products  and  services.  Pricing  for  such
commitments is made based upon estimates of  development  and production  effort
and estimates of future  product  costs.  We bear the risk of faulty  estimates,
cost overruns and inflation in connection with these commitments. Therefore, any
fixed price agreement can become  unprofitable  and could  materially  adversely
affect the Company.

COMPETITION

        The  interactive  video  industry  is  highly  competitive.  Many of the
companies  with which we  currently  compete or may  compete in the future  have
greater financial,  technical,  marketing, sales and customer support resources,
as well as greater name  recognition  and better access to  customers,  than the
ours.  In addition,  certain of such  competitors  have  entered into  strategic
alliances which may provide them with certain competitive advantages. We can not
assure you that we will be able to compete  successfully with existing or future
competitors.

UNCERTAIN MARKET ACCEPTANCE

        We are  engaged in the  design  and  development  of  interactive  video
products.  As with any new  technology,  there is a  substantial  risk  that the
marketplace  may not accept the  technology  utilized  in our  products.  Market
acceptance  of our  products  will  depend,  in large part,  upon our ability to
demonstrate the performance  advantages and  cost-effectiveness  of our products
over  competing  products  and  the  general  acceptance  of  interactive  video
services.  In particular,  we believe that widespread  deployment of interactive
video systems will depend on a number of factors, including:

        -      decreases in the cost per subscriber;

        -      the  "user-friendliness"  of such systems,  particularly  set top
boxes and remote controls which are relatively easy to understand and use; and


                                       14
<PAGE>

        -      improvements in the quantity and quality of interactive  services
available.

        Although recent developments have reduced the cost per subscriber and we
anticipate  that such costs will  continue  to  decrease  as  interactive  video
systems are more widely  deployed,  the current cost per subscriber may make the
system too  expensive  for a number of potential  network  operators.  We cannot
assure you that they will be able to market  their  technology  successfully  or
that  any  of  their  current  or  future  products  will  be  accepted  in  the
marketplace.

DEPENDENCE ON SUPPLIERS; MANUFACTURING RISKS

        We  rely  primarily  on  outside   suppliers  and   subcontractors   for
substantially all of our parts, components and manufacturing  supplies.  Certain
materials are currently  available only from one supplier or a limited number of
suppliers. We do not maintain long-term supply contracts with our suppliers. The
disruption or termination of our supply or subcontractor arrangements could have
a material  adverse  effect on our and results of  operations.  Our  reliance on
third  parties  involves  significant  risks,  including  reduced  control  over
delivery  schedules,  quality  assurance,  manufacturing  yields  and cost,  the
potential  lack of adequate  capacity  and  potential  misappropriations  of our
intellectual property. In addition, vendor delays or quality problems could also
result in lengthy production delays.

        To obtain manufacturing  resources, we may contract for manufacturing by
third  parties  or may seek to enter into joint  venture,  sublicense,  or other
arrangements with another party which has established  manufacturing capability.
Alternatively, we may choose to pursue the commercialization of such products on
our own. We cannot  assure you that,  either on our own or through  arrangements
with others, we will be able to obtain such arrangements on acceptable terms.

RELIANCE ON KEY CUSTOMERS

        Our interactive video services revenues to date have been derived almost
exclusively from five telecommunications  customers,  none of whom have placed a
new order with us since June 1997. The lack of new projects and major  customers
has had, and may continue to have, a material adverse effect on the Company.

LACK OF PATENT AND COPYRIGHT PROTECTION

        Although we have filed a provisional  patent application with respect to
certain  technology,  we hold no patents  and have not  generally  filed  patent
applications. Our methods of protecting our proprietary knowledge may not afford
adequate  protection.  We cannot assure you that any patents applied for will be
issued,  or, if issued,  that such patents  would  provide them with  meaningful
protection from competition.

        In Asia and third world countries,  in which we do business and have had
license  agreements,  the  unauthorized  use of  technology,  whether  protected
legally or not,  is  widespread.  It is  possible  that our  technology  will be
subject to theft and infringement.  Furthermore,  in accordance with our current
business  plan,  it will be necessary for us to make our  intellectual  property
available to vendors,  customers and other companies in the industry,  making it
even more difficult to protect our technology.

RISK OF THIRD PARTY CLAIMS OF INFRINGEMENT

        Technology-based  industries,  such as  ours,  are  characterized  by an
increasing  number of patents and frequent  litigation  based on  allegations of
patent  infringement.  From  time to time,  third  parties  may  assert  patent,
copyright  and  other  intellectual  property  rights to  technologies  that are
important to us. While there  currently are no outstanding  infringement  claims
pending by or against  us, we cannot  assure  you that  third  parties  will not
assert  infringement  claims against us in the future,  that  assertions by such
parties will not result in costly  litigation,  or that they will not prevail in
any such litigation.  In addition,  we cannot assure you that we will be able to
license  any valid and  infringed  patents  from third  parties on  commercially
reasonable  terms  or,  alternatively,   be  able  to  redesign  products  on  a
cost-effective  basis to avoid  infringement.  Any  infringement  claim or other
litigation against or by us could have a material adverse effect on the Company.

                                       15
<PAGE>


NO ASSURANCE OF TECHNOLOGICAL SUCCESS

        Our  ability  to  commercialize  their  products  is  dependent  on  the
advancement  of our  existing  technology.  In order to obtain  and  maintain  a
significant  market share we will  continually  be required to make  advances in
technology.  Due to cash  shortages,  our  company  did not  expend any money in
research and  development  in 2000.  We cannot  assure you that our research and
development  efforts  will result in the  development  of such  technology  on a
timely basis or at all. Any failures in such  research and  development  efforts
could result in significant  delays in product  development  and have a material
adverse  effect on the Company.  We cannot assure you that we will not encounter
unanticipated  technological  obstacles  which  either  delay or prevent us from
completing the development of our products.

        We believe there are certain  technological  obstacles to be overcome in
order  to  develop  future  products.  These  obstacles  include  the lack of an
electronic data  interchange  server  interface (used for real-time  exchange of
data  between  servers)  and  enhancements  in the ability to access and utilize
information  stored on remote  servers.  In certain cases,  we will be dependent
upon  technological  advances  which  must be made by third  parties.  We cannot
assure  you that they or such third  parties  will not  encounter  technological
obstacles  which either delay or prevent us from  completing the  development of
our future products.  Such obstacles could have a material adverse effect on the
Company.

PRODUCT OBSOLESCENCE; TECHNOLOGICAL CHANGE

        The industries in which we operate is characterized by unpredictable and
rapid  technological  changes  and  evolving  industry  standards.  We  will  be
substantially  dependent on our ability to identify emerging markets and develop
products that satisfy such markets. We cannot assure you that we will be able to
accurately  identify  emerging  markets  or that  any  products  we have or will
develop will not be rendered obsolete as a result of technological developments.

        We  believe  that   competition   in  our  business  may   intensify  as
technological  advances in the field are made and become more widely known. Many
companies  with  substantially  greater  resources  than ours are engaged in the
development  of products  similar to those  proposed to be sold by the  Company.
Commercial  availability  of such products  could render our products  obsolete,
which would have a material adverse effect on the Company.

        From time to time,  we may announce new  products or  technologies  that
have the potential to replace our existing product  offerings.  We cannot assure
you that the  announcement  or  expectation  of new product  offerings  by us or
others will not cause  customers to defer  purchases  of our existing  products,
which could materially adversely affect the Company.

EFFECT OF INDUSTRY STANDARDS AND COMPATIBILITY WITH EQUIPMENT AND SOFTWARE

        The interactive  video industry is currently  characterized  by emerging
technological  standards.  Widespread commercial deployment of our products will
depend on  determinations  by the industry as to whether such  products  will be
compatible  with the  infrastructure  equipment and software that comprise those
standards.  Failure to comply  substantially with industry standards in a timely
manner,  either  as they  exist  at a given  time or as they may  evolve  in the
future,  could have a material adverse effect on the Company.  In some cases, to
be compatible with industry standards,  we may need to obtain the cooperation of
its suppliers, partners and competitors, which we cannot assure.

ERRORS AND OMISSIONS; SOFTWARE AND HARDWARE BUGS

        Certain of our products  consist of  internally  developed  software and
hardware  component  sets,  purchased  software from third parties and purchased
hardware  components.  Additionally,  we  outsource  substantially  all  of  the
manufacturing of our products,  including the installation and  configuration of
certain hardware and software components. There is a substantial risk that these
components will have or could develop certain errors, omissions or bugs that may
render our products unfit for the purposes for which they were  intended.  While
there are no such known  errors,  omissions or bugs,  we cannot  assure you that
such errors, omissions or bugs do not currently exist or will not develop in our

                                       16
<PAGE>

current  or  future  products.  Any such  error,  omission  or bug  found in our
products  could  lead to delays in  shipments,  recalls  of  previously  shipped
products, damage to our reputation and other related problems which would have a
material adverse effect on the Company.

GOVERNMENT REGULATION

        The  Federal  Communications   Commission  and  certain  state  agencies
regulate  certain of our  products and services and certain of the users of such
products  and  services.  We are  also  subject  to  regulations  applicable  to
businesses  generally,  including  regulations  relating  to  manufacturing.  In
addition,  regulatory  authorities in foreign  countries in which we sell or may
sell our products may impose similar or more extensive governmental regulations.

        We rely upon,  and  contemplate  that we will continue to rely upon, our
corporate   partners  or  interactive  video  system  sponsors  to  comply  with
applicable regulatory  requirements.  We cannot assure you that such regulations
will not materially adversely affect us by jeopardizing the projects in which we
are  participating,  by  imposing  burdensome  regulations  on the  users of the
products,  by imposing sanctions that directly affect us, or otherwise.  Changes
in the  regulatory  environment  relating to the  industries in which we compete
could have a material  adverse  effect on the  Company.  We cannot  predict  the
effect that future regulation or regulatory changes may have on our business.

PRODUCT LIABILITY AND AVAILABILITY OF INSURANCE

        The  manufacture  and sale of our  products  entails the risk of product
liability  claims.  In addition,  many of the  telephone,  cable and other large
companies with which we do or may do business may require  financial  assurances
of product reliability. At the present time we do not maintain product liability
insurance.

VARIABILITY OF QUARTERLY OPERATING RESULTS

        Variations in our revenues and operating results occur from time to time
as a result of a number of  factors,  such as the  number of  interactive  video
projects in which we are  engaged,  the  completion  of work or  achievement  of
milestones  on  long-term  projects  and the timing and  progress of our product
development  efforts.  The timing and  realization  of revenues is  difficult to
forecast,  in part,  because  our  sales  and  product  development  cycles  for
interactive video products can be relatively long and may depend on factors such
as the size and scope of our projects.

        Furthermore,  as a result of a variety of other  factors,  including the
introduction of new products and services by competitors  and pricing  pressures
and economic  conditions  in various  geographic  areas where our  customers and
potential  customers  do  business,  our sales and  operating  results  may vary
substantially from year to year and from quarter to quarter.

        The variation in sales and operating results may be expected to increase
as a result  of the sale of our  CD-ROM  segment.  In  addition,  the  timing of
revenue  recognition  for revenue  received  from long term  projects  under our
accounting  policies  may  also  contribute  to  significant  variations  in our
operating results from quarter to quarter.


                                       17
<PAGE>


PART II

OTHER INFORMATION.
-----------------

ITEM 1. LEGAL PROCEEDINGS.
        -----------------

        There is no pending litigation against Celerity,  other than a claim for
non-payment of printing expenses. The action was brought on January 30, 2001 and
is pending before Supreme Court of the State of New York, County of New York. In
this action, the plaintiff,  Merrill/New York Company,  has sued the Company for
the non-payment of financial printing fees and is seeking approximately $118,000
in damages,  plus interest and certain costs.  The Company intends to defend the
action vigorously.

        In addition,  certain creditors have threatened  litigation if not paid.
Celerity is seeking to make arrangements  with these creditors.  There can be no
assurance that any claims, if made, will not have an adverse effect on Celerity.

ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
        -----------------------------------------

        (a), (b) and (d)     None.

        (c)    SALES OF UNREGISTERED SECURITIES.

        In March 2001,  our Company sold  74.5333  shares of Series B Redeemable
Convertible  Preferred Stock, from which we received gross proceeds of $745,333.
In  addition,  our Company  issued 5 shares of Series B  Redeemable  Convertible
Preferred  Stock as payment for certain  accounts  payable and accrued  wages to
Kenneth D. Van Meter,  the  Company's  President,  Chief  Executive  Officer and
Chairman of the Board of Directors.

        In March 2001, our Company issued  $1,640,000 of convertible  debentures
pursuant to an Equity Line of Credit,  from which we received  gross proceeds of
approximately $1,640,000.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
        -------------------------------

        Not applicable.

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

        None.

ITEM 5. OTHER INFORMATION.
        -----------------

        Not applicable.






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ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
        --------------------------------

(A)            EXHIBITS.

EXHIBIT
NO.     DESCRIPTION
---     -----------

3.1     Certificate of Incorporation of Celerity Systems, Inc.(1)

3.2     By laws of Celerity Systems, Inc.(1)

4.1     Form of Underwriter's Warrant(1)

4.2     1995 Stock Option Plan(1)

4.3     1997 Stock Option Plan(1)

4.4     Form of Stock Certificate(1)

4.5     Form of Bridge Warrant(1)

4.6     Form of 1996 Warrant(1)

4.7     Form of Hampshire Warrant(1)

4.8     Form of 1995 Warrant(1)

4.9     Letter  Agreement  dated July 15, 1997,  between the Company and Mahmoud
        Youssefi, including exhibits(1)

4.10    Letter  Agreement,  dated July 11,  1997,  between  the  Company and Dr.
        Fenton Scruggs(1)

4.11    Form of 9% Convertible Debenture(3)

4.12    Form of 7% Promissory Note(3)

4.13    Form of Registration  Rights Agreement,  between the Company and each of
        RNI Limited  Partnership,  First Empire Corporation,  Greg A. Tucker and
        Michael Kesselbrenner(3)

4.14    Form of Warrant issued April 27, 1999(4)

4.15    Shareholders Agreement, dated August 10, 1999, between Celerity Systems,
        Inc., FutureTrak Merger Corp. and certain parties listed therein(5)

4.16    Registration  Rights  Agreement,  dated September 30, 1999,  between the
        Company and GMF Holdings(6)

4.17    Form of Debenture in  connection  with Line of Credit  Agreement,  dated
        September 30, 1999(6)

4.18    Form of Warrant issued September 30, 1999(9)

4.19    Form of 4%  Convertible  Debenture due 2002 between the Company and each
        of John Bridges,  John Faure,  Loni Spurkeland,  Robert Dettle,  Michael
        Genta, Lennart Dallgren(9)

                                       19
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4.20    Form of 8%  Convertible  Debenture due 2002 between the Company and each
        of Richard T.  Garrett,  W. David McCoy,  Dominick  Chirarisi,  Gilda R.
        Chirarisi, Joseph C. Cardella, Carl Hoehner(9)

4.21    Form of 8%  Convertible  Debenture due 2003 between the Company and John
        Bolliger(9)

4.22    Form of Registration Rights Agreement, between Celerity and each of John
        Bridges,  John Faure,  Loni  Spurkeland,  Robert Dettle,  Michael Genta,
        Lennart Dallgren(9)

4.23    Form of  Registration  Rights  Agreement,  between  Celerity and each of
        Richard  T.  Garrett,  W.  David  McCoy,  Dominick  Chirarisi,  Gilda R.
        Chirarisi, Joseph C. Cardella, Carl Hoehner(9)

4.24    Form  of  Registration  Rights  Agreement,  between  Celerity  and  John
        Bolliger(9)

4.25    Form of 8%  Convertible  Debenture due 2003 between the Company and each
        of Sui Wa Chau,  Qinu Guan,  Peter  Chenan  Chen,  K&M  Industry,  Inc.,
        Michael Dahlquist, Denise and Vernon Koto and Rance Merkel(10)

4.26    Form of Registration Rights Agreement,  between Celerity and each of Sui
        Wa Chau,  Qinu Guan,  Peter Chenan Chen,  K&M  Industry,  Inc.,  Michael
        Dahlquist, Denise and Vernon Koto and Rance Merkel(10)

4.27    Securities Purchase  Agreement,  dated August 31, 2000, between Celerity
        and the Investors specified therein(11)

4.28    Registration  Rights Agreement,  dated August 31, 2000, between Celerity
        and the Investors specified therein(11)

4.29    Form of Warrant issued March 31, 2000(13)

10.1    Employment  Agreement,  dated January 7, 1997,  as amended,  between the
        Company and Kenneth D. Van Meter(1)

10.2    Employment,   Non-Solicitation,   Confidentiality   and  Non-Competition
        Agreement,  dated as of May 1,  1996,  between  the  Company  and  Glenn
        West(1)

10.3    Termination  Agreement,  dated as of April 5, 1997,  between the Company
        and Mahmoud Youssefi(1)

10.4    [Reserved]

10.5    Letter Agreement,  dated March 13, 1997, between the Company and William
        Chambers(1)

10.6    Letter Agreement,  dated July 24, 1997, between the Company and Mark. C.
        Cromwell(1)

10.7    Exclusive OEM/Distribution  Agreement, dated March 10, 1995, between the
        Company and InterSystem Multimedia, Inc.(1)

10.8    Purchase  Order  Agreement,   dated  June  26,  1995,   between  Tadiran
        Telecommunications Ltd. and the Company(1)

10.9    License  Agreement,  dated as of September 26, 1996, between the Company
        and En Kay Telecom Co., Ltd.(1)

10.10   License  Agreement,  dated as of February 21, 1997,  between the Company
        and En Kay Telecom Co., Ltd.(1)

10.11   Remarketer Agreement, dated as of June 15, 1997, between the Company and
        Minerva Systems, Inc.(1)

                                       20
<PAGE>

10.12   Memorandum of Understanding,  dated April 25, 1996,  between  Integrated
        Network Corporation and the Company(1)

10.13   Letter of  Agreement,  dated  March 31,  1993,  between  the Company and
        Herzog,  Heine  &  Geduld,  Inc.  and  Development   Agreement  attached
        thereto(1)

10.14   Subcontract  Agreement,  dated June 26, 1997, between Unisys Corporation
        and the Company(1)

10.15   Lease  Agreement  for  Crossroad  Commons,  dated  November 25, 1996, as
        amended,  between Lincoln  Investment  Management,  Inc., as attorney in
        fact for the Lincoln National Life Insurance Company, and the Company(1)

10.16   Lease Agreement,  dated November 25, 1997,  between  Centerpoint  Plaza,
        L.P. and the Company 2)

10.17   Letter  Agreement,  dated October 3, 1997,  between Dennis Smith and the
        Company(2)

10.18   Letter  Agreement,  dated  January 8, 1998,  between James Fultz and the
        Company(2)

10.19   Amendment   to   Employment,   Non-Solicitation,   Confidentiality   and
        Non-Competition  Agreement,  dated January 1, 1999,  between the Company
        and Glenn West(3)

10.20   Form of  Subscription  Agreement,  between  the  Company and each of RNI
        Limited  Partnership,  First  Empire  Corporation,  Greg A.  Tucker  and
        Michael Kesselbrenner(3)

10.21   Form of Subscription  Agreement,  between the Company and each of Donald
        Alexander,  Leo Abbe, Centerpoint Plaza, L.P., William Chambers,  Fenton
        Scruggs,  Dennis  Smith,  Kenneth  Van  Meter,  George  Semb and  Rodney
        Conard(3)

10.22   Form of  Royalty  Agreement,  between  the  Company  and each of  Donald
        Alexander,  Leo Abbe,  Centerpoint  Plaza, LP, William Chambers,  Fenton
        Scruggs,  Dennis  Smith,  Kenneth  Van  Meter,  George  Semb and  Rodney
        Conard(3)

10.23   Agreement and Plan of Merger,  dated August 10, 1999,  between  Celerity
        Systems,  Inc.,  FutureTrak  Merger Corp. and FutureTrak  International,
        Inc.(5)

10.24   Line  of  Credit  Agreement,  dated  September  30,  1999,  between  GMF
        Holdings, May Davis Group and the Company(6)

10.25   Termination  Agreement,  dated  December 7, 1999,  between the  Company,
        FutureTrak Merger Corp. and FutureTrak International, Inc.(7)

10.26   Manufacturing  Agreement,  dated November 30, 1999, between the Company,
        Primax Electronics, Ltd and Global Business Group, Ltd.(8)

10.27   Lease,  dated December 17, 1999,  between Andy Charles Johnson,  Raymond
        Perry Johnson, Tommy F. Griffin. and the Company.(8)

10.28   Amendment  to the Line of  Credit  Agreement  between  Celerity  and GMF
        Holdings, Inc. dated October 16, 2000(12)

10.29   Purchase  Agreement,  dated June 22,  2000,  between the Company and WIT
        Technologies Inc.(14)

10.30   Manufacturing  Service  Agreement,  dated  January 4, 2001,  between the
        Company and Nextek, Inc.(15)

10.31   Broadband Services Agreement, dated January 4, 2001, between the Company
        and DeserScape L.P.(16)

                                       21
<PAGE>


10.32   Cooperative  Marketing  Agreement,  dated  January 4, 2001,  between the
        Company and In4Structures LLC.(16)

 -----------

 (1)    Filed  as  an  Exhibit  to  the  Registration  Statement  on  Form  SB-2
        (Registration No. 333-33509).
 (2)    Filed as an Exhibit to the Form 10-KSB for the year ended  December  31,
        1997.
 (3)    Filed as an Exhibit to the Form 10-KSB/A for the year ended December 31,
        1998.
 (4)    Filed  as  an  Exhibit  to  the  Registration   Statement  on  Form  S-3
        (Registration No. 333-81099).
 (5)    Filed as an Exhibit to the Form 8-K filed September 14, 1999.
 (6)    Filed as an Exhibit to the Form 8-K filed October 8, 1999.
 (7)    Filed as an Exhibit to the Form 8-K filed December 8, 1999.
 (8)    Filed as an Exhibit to the Form 8-K filed January 5, 2000.
 (9)    Filed as an  Exhibit  to the  Registration  Statement  on Form S-3 filed
        February 15, 2000.
 (10)   Filed as an Exhibit to the Form 8-K filed March 23, 2000.
 (11)   Filed as an Exhibit to the Form 8-K filed March 23, 2000.
 (12)   Filed as an Exhibit to the Form 8-K filed August 31, 2000.
 (13)   Filed as an Exhibit to the Form 8-K filed April 5, 2000.
 (14)   Filed as an Exhibit to the Form 8-K filed July 11, 2000.
 (15)   Filed as an Exhibit to the Form 8-K filed December 27, 2000.
 (16)   Filed as an Exhibit to the Form 8-K filed January 10, 2001.

(B)     REPORTS ON FORM 8-K.

        On March 1, 2001, the Company filed a Form 8-K, which disclosed that the
Company  did not have  sufficient  authorized  shares of  common  stock to issue
pursuant to the terms of all outstanding  convertible securities and outstanding
subscriptions. The Form 8-K disclosed that the Company would be in breach of its
obligations if it is unable to issue the shares as required.

        On January 10, 2001,  the Company filed a Form 8-K,  which  describe the
terms  of a Letter  Agreement,  Broadband  Services  Agreement  and  Cooperative
Marketing Agreement.






                                       22
<PAGE>




                                   SIGNATURES

        In accordance with the  requirements of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.

Date:   May 15, 2001                                CELERITY SYSTEMS, INC.

                                                    By: /s/ Kenneth D. Van Meter
                                                         -----------------------
                                                            Kenneth D. Van Meter



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