<PAGE>   1
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                      SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549



                                    FORM 10-K

[X]  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
     ACT OF 1934 [NO FEE REQUIRED]

                   For the fiscal year ended December 31, 1997


                                       OR

[ ]  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
     EXCHANGE ACT OF 1934 [NO FEE REQUIRED]

           For the transition period from _____________ to ___________

                        Commission file number 000-22975


                               ORTHALLIANCE, INC.
             (Exact name of registrant as specified in its charter)

                    DELAWARE                               95-4632134
         (State or other jurisdiction of                (I.R.S. employer
         incorporation or organization)                identification no.)


      23848 HAWTHORNE BOULEVARD, SUITE 200                    90505
           TORRANCE, CALIFORNIA 90505                      (Zip code)
    (Address of principal executive offices)

       Registrant's telephone number, including area code: (310) 791-5656

SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: None

SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT: Class A Common
Stock, par value $.001 per share

         Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. YES X   NO
                                             ---     ---
         Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ ]

         The aggregate market value of the voting stock held by non-affiliates
of the registrant as of March 26, 1998 (based on the last reported closing
price per share of Common Stock as reported on The Nasdaq National Market on
such date) was approximately $161,117,958. As of March 31, 1998, the
registrant had 12,472,950 shares of Class A Common Stock outstanding and
250,000 shares of Class B Common Stock outstanding.

                       DOCUMENTS INCORPORATED BY REFERENCE

         Portions of the Proxy Statement for the Annual Meeting of Stockholders
to be held on June 5, 1998 are incorporated by reference in Part III.


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<PAGE>   2
                                     PART I

ITEM 1.  BUSINESS.

         Certain statements in this Form 10-K under the captions "Business"
and "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and in certain documents incorporated by reference herein constitute
"forward-looking statements" within the meaning of Section 27A of the
Securities Act of 1933, as amended (the "1933 Act"), and Section 21E of the
Securities Exchange Act of 1934, as amended (the "1934 Act"). Those statements
include statements regarding the intent, belief or current expectations of
OrthAlliance, Inc. (the "Company") and members of its management team.
Management cautions that any such forward-looking statements are not guarantees
of future performance and involve risks and uncertainties, and that actual
results may differ materially from those contemplated by such forward-looking
statements. Important factors currently known to management that could cause
actual results to differ materially from those in forward-looking statements
are set forth in the Safe Harbor Compliance Statements included as Exhibit 99.1
to this Form 10-K, and are hereby incorporated herein by reference. The Company
undertakes no obligation to update or revise forward-looking statements to
reflect changed assumptions, the occurrence of unanticipated events or changes
to future operating results over time.


GENERAL

         The Company was incorporated on October 21, 1996 to provide practice
management or consulting services to orthodontic practices throughout the United
States. The Company (i) manages certain business aspects of orthodontic
practices affiliated with the Company (the "Allied Practices"), and (ii)
provides capital for the development and growth of Allied Practices. On August
26, 1997, the Company affiliated with 55 Allied Practices with 82 orthodontists
at the Allied Practices (the "Allied Orthodontists") operating 147 offices in 16
states pursuant to long-term management services or consulting agreements, and
commenced its initial operations. From August 26, 1997 to December 31, 1997, the
Company increased the number of Allied Practices to a total of 66, with 99
Allied Orthodontists operating 178 offices in 18 states. The Company intends to
continue to expand its network of Allied Practices and to target orthodontic
practices that management believes are leading practices in their markets based
upon a variety of factors, including size, profitability, historical growth and
reputation for high quality care, among local consumers of orthodontic services
and within the orthodontic services industry.

         The Company provides fee-based management or consulting services to its
Allied Practices thereby allowing Allied Orthodontists to concentrate on
providing cost effective, quality patient care. The Company does not practice
orthodontics or dentistry, but generally acquires certain operating assets of an
orthodontic practice, employs the employees (except orthodontists, and where
applicable law requires, hygienists and dental assistants), and enters into
service or consulting agreements with the Allied Practices whereby the Company
provides management or consulting services to the Allied Practices, including
billing and collections, cash management, purchasing, inventory management,
payroll processing, advertising and marketing, financial reporting and analysis,
productivity reporting and analysis, training, associate orthodontist recruiting
and capital for satellite office development and acquisitions. Where state law
allows and upon request by an Allied Practice, the Company leases equipment or
office space to the Allied Practices. Unless otherwise indicated by the context,
references herein to practice management services, agreements or rights


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<PAGE>   3
include consulting or similar arrangements that the Company has or will enter
into with certain Allied Practices in order to comply with applicable
regulations in certain states regarding practice management.

         For the year ending December 31, 1997, the Company generated an
operating loss, after taking into account a $3,392,000 non-recurring organizer
compensation charge, of $165,000 on $18,081,000 in net revenue.

THE ORTHODONTIC INDUSTRY

         Orthodontics, the art and science of correcting the misalignment of
teeth, has historically been one of the most profitable specialties in
dentistry. Orthodontic research and education have aided the development of new
materials and techniques of orthodontic treatment, including the use of
computers to help solve complex cases. In 1994, orthodontists in the United
States conducted examinations of nearly 2.5 million potential new patients and
initiated treatment for approximately 1.5 million patients. The typical
orthodontist initiated treatment for approximately 170 patients in 1994 and
maintained approximately 380 active cases. Unless otherwise indicated, industry
information is derived from the 1995 Journal of Clinical Orthodontists
Orthodontic Practice Study (the "JCO Study") and relates to 1994. The
information compiled in the JCO Study relates to orthodontists who have
completed accredited graduate orthodontic training programs and does not include
general dentists who also perform certain orthodontic services.

         The primary target market for orthodontic treatment is children ages 8
to 18. In 1994, approximately 80%, or 1.2 million, of all patients treated were
children. The U.S. Census Bureau estimates that as of July 1, 1996, there were
approximately 37.6 million children and adolescents between the ages of 10 and
19. Management believes that as many as 80% of these children and adolescents
could benefit from orthodontic treatment. In addition to the traditional
juvenile market, the adult market has been a rapidly growing market for
orthodontic services. Based on statistics obtained from the JCO Study,
management believes that the adult market for orthodontic services remains
largely untapped, as the number of adults who need or want orthodontic treatment
substantially exceeds the number of patients currently seeking treatment. In
1994, standard case fees averaged approximately $3,500 for children and $3,800
for adults.

         There are approximately 9,000 practicing orthodontists in the United
States, nearly all of whom have graduated from accredited graduate programs of
orthodontics. The industry is highly fragmented, with approximately 90% of the
practicing orthodontists acting as sole practitioners and the balance practicing
in multiple-doctor practices (generally two orthodontists) or in groups
affiliated with the Company or its competitors. The training and qualification
of an orthodontist is extremely rigorous. Generally, a dentist must graduate in
the top 10% of his or her class at an accredited graduate school of dentistry,
pass national and state board examinations, and complete an accredited graduate
orthodontic program to become an orthodontist. These programs typically are
structured as two- or three-year programs. Each year about 200 new orthodontists
graduate from accredited orthodontic programs.

OPERATING STRATEGY

         The Company's operating strategy focuses on enabling the Allied
Practices to compete more effectively and realize greater profitability than
other orthodontic practices, thereby providing an inducement for additional
orthodontists to affiliate with the Company. Key elements of the Company's
operating strategy include:

         EMPHASIZING QUALITY PATIENT CARE. Management believes that the services
and support it provides the Allied Orthodontists impact the level of patient
care positively by increasing the Allied Orthodontists' time available to
concentrate on patient care. The qualifications of providers of orthodontic
services vary from general dentists who have


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<PAGE>   4
taken weekend courses in orthodontics to graduates of accredited three-year
programs. Nearly all Allied Orthodontists affiliated with the Allied Practices
are graduates of accredited orthodontic programs. The Company established a
clinical care advisory committee consisting of Allied Orthodontists to
formulate quality assurance programs and to consult with each other on current
treatments, techniques and issues. Furthermore, orthodontic graduates recruited
by the Company will be required (in most cases) to complete a mentoring program
pursuant to which such graduates will provide treatment under the supervision
and guidance of an experienced Allied Orthodontist for a period of time before
assuming primary responsibility for patient care at a satellite office of an
Allied Practice.

         CAPITALIZING ON THE BEST DEMONSTRATED PRACTICES OF ALLIED
ORTHODONTISTS. Management evaluates the policies and procedures of the Allied
Practices, including such critical areas as treatment quality, delivery of
patient care, practice-building, marketing, patient financing programs and
expense control. The Company provides Allied Orthodontists with comparative
operating and financial data to enable Allied Orthodontists to detect areas of
their practices that could be improved. The Company provides its own analysis of
such operating and financial data and recommends changes to improve performance.
The Company consults with Allied Practices that have had demonstrated success in
a certain area and generally seeks to facilitate communication among Allied
Practices through periodic conferences and meetings and, ultimately, through a
proprietary intranet system.

         ACHIEVING OPERATING EFFICIENCIES AND ECONOMIES OF SCALE. The Company
implements a variety of operating procedures and systems to improve the
productivity and profitability of each Allied Practice and to achieve economies
of scale including, without limitation, centralized payroll processing,
inventory control and national group purchasing contracts. The Company
implements appropriate credit and collection policies which accommodate specific
needs of the target market of each Allied Practice. Operating efficiencies and
economies are instituted on a per market or per Allied Practice need basis after
analysis of work flow, patient flow, aged accounts receivable history,
facilities, employee work load and productivity, and patient satisfaction.

         INCREASING THE AFFORDABILITY OF ORTHODONTIC CARE THROUGH FLEXIBLE
PAYMENT PLANS. The Company assists Allied Practices in developing and
implementing payment plans designed to make orthodontic services more affordable
to prospective patients. Many of the Allied Practices historically received a
down payment of approximately 25% of the total cost of services. Recognizing
that orthodontic services are largely discretionary and that a significant down
payment is often a deterrent to prospective patients, the Company believes that
flexible payment plans are an effective means of increasing patient volume.
Payment plans are tailored to respond to the various market demands and
opportunities. The Company makes general recommendations to all Allied Practices
with respect to instituting flexible payment plans and develops and implements
market-tailored plans at the request of individual Allied Practices. In
addition, the Company provides the working capital necessary for the Allied
Practices to implement flexible payment plans which may result in the reduction
or elimination of down payments.

         STIMULATING DEMAND IN LOCAL MARKETS THROUGH AGGRESSIVE MARKETING. In
consultation with and upon approval of the Allied Practices, the Company
develops and implements aggressive and innovative marketing plans to augment
each Allied Practice's referral and other marketing systems. Certain Allied
Practices have developed referral systems with local dentists. Upon the request
of an Allied Practice and in appropriate markets, the Company attempts to assist
such Allied Practice in reaching potential patients through print, local
television and radio advertising.

GROWTH STRATEGY

         The Company's growth strategy includes affiliation with existing
orthodontic practices in both new and existing markets, the development of
satellite offices for existing Allied Practices and internal growth through
improved operating efficiencies.


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<PAGE>   5
         AFFILIATIONS WITH EXISTING ORTHODONTIC PRACTICES. The Company targets
for affiliations a market that includes approximately half of the orthodontic
practices in the United States (approximately 4,500 practices), which practices
fit the Company model of quality and opportunity for revenue and earnings
growth. The Company (i) provides the capital to open and integrate new
orthodontic offices into existing Allied Practices, (ii) identifies and recruits
qualified associate orthodontists for the Allied Practices, (iii) designs and
offers business and clinical systems for each Allied Practice, (iv) with the
approval of the Allied Orthodontist, hires the necessary business and
non-orthodontic personnel for each new Allied Practice, (v) helps increase each
Allied Practice's market share and the number of new patients seen by
recommending successful marketing and advertising strategies, and (vi) reduces
the time Allied Orthodontists spend on administrative and business related
tasks, allowing them to focus on delivering quality patient care.

         DEVELOPMENT OF ORTHODONTIC SATELLITE OFFICES. If management determines
market demand supports practice expansion, the Company assists Allied
Orthodontists in developing satellite offices to be integrated into Allied
Practices. The Company provides capital for practice expansion, market research,
site selection, office design and marketing support for satellite office
development.

         INTERNAL GROWTH THROUGH IMPROVED OPERATING EFFICIENCIES. The Company
offers a variety of operating procedures and systems to improve the productivity
and profitability of the Allied Practices. The Company implemented payroll
processing, financial reporting and analysis, inventory management and national
group purchasing discounted contracts and implements appropriate credit and
collection policies which accommodate specific needs of each Allied Practice.
Operating efficiencies and economies are instituted on a per market or per
Allied Practice need basis.

PAYMENT PLAN AND CASE FEES

         PAYMENT PLAN; CASE FEES. At the initial orthodontic treatment,
generally the patient signs a contract outlining the terms of the treatment,
including the anticipated length of treatment and the total fees. Each Allied
Orthodontist determines the appropriate fee to charge for services to patients
based upon market conditions in the area served by that Allied Orthodontist.
Generally, the amount charged by the Allied Orthodontists is independent of the
patient's source of payment. The number of required monthly payments is
estimated at the beginning of the case and generally corresponds to the
anticipated number of months of treatment. Depending on the patient's credit
history, the down payment ranges from a substantial down payment to no down
payment. Patients are typically required to pay equal monthly installments,
although each Allied Practice offers a payment plan tailored to its market and
patients.

         If the treatment period exceeds the period originally estimated by the
orthodontist, the patient and the Allied Orthodontist will determine whether
payment for additional treatment will be required. If the treatment is completed
prior to the scheduled completion date, the patient is required to pay the
remaining balance of the contract. If a patient terminates the treatment prior
to the completion of the treatment period, the patient is required to pay the
balance due for services rendered to date.

         Other payment plans with lower monthly payments are available for
patients who have insurance coverage for the treatment. Payments from patients
with insurance may be lower, depending upon the amount of the fee paid on behalf
of the patient by insurance policies. For patients with insurance coverage, the
portion of the fee not covered by insurance is paid by the patient and is
generally not waived or discounted by the Allied Practice.

LOCATION

         As of December 31, 1997, the Company provided management services to
Allied Practices at the following locations:


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<PAGE>   6
<TABLE>
<CAPTION>
                                                Number of              Number of         Number of
         State                                Orthodontists(1)          Offices            Cities
         -----                                ----------------          -------          ----------
<S>                                           <C>                      <C>               <C>
         Alabama........................            3                       3                  3
         Arizona........................            3                       5                  4
         California.....................           21                      28                 27
         Florida........................           18                      33                 25
         Georgia........................           22                      52                 33
         Illinois.......................            1                       1                  1
         Indiana........................           11                      14                 13
         Kentucky.......................            2                       6                  6
         Michigan.......................            1                       1                  1
         Minnesota......................            2                       2                  2
         Mississippi....................            2                       6                  6
         Oregon.........................            1                       3                  3
         Pennsylvania...................            2                       3                  3
         South Carolina.................            3                       5                  5
         Tennessee......................            2                       3                  3
         Texas..........................            4                       9                  9
         Utah...........................            2                       2                  2
         Virginia.......................            2                       2                  2
                                                  ---                     ---                ---
              Total.....................          102                     178                148
                                                  ===                     ===                ===
</TABLE>

AGREEMENTS WITH ALLIED PRACTICES AND ALLIED ORTHODONTISTS

         Each Allied Practice has entered or enters into the following three
material agreements: (i) an acquisition agreement, which may be in the form of a
purchase and sale agreement whereby the Company acquires certain of the assets,
or stock of an entity holding certain assets, of the Allied Practice, or an
agreement and plan of reorganization, whereby the Allied Practice transfers
certain assets to the Company; (ii) either a service agreement or a consulting
agreement (depending upon the applicable state regulatory requirements), whereby
the Company provides management or consulting services to the Allied Practice;
and (iii) an employment agreement between the Allied Practice and each related
Allied Orthodontist who is an equity holder in the Allied Practice or who
provides orthodontic services through such practice for more than ten days each
month.

         ACQUISITION AGREEMENTS. Each acquisition agreement generally results in
the sale by the Allied Practice of its equipment, licenses (to the extent
assignable by law), inventory, accounts receivable, furniture and other personal
property, or some combination thereof based on applicable state laws or
regulations, in exchange for consideration based on the Allied Practice's
adjusted patient revenue. The aggregate purchase price paid by the Company is
generally payable in cash and shares of Class A Common Stock, as determined by
each Allied Practice and the Company. The aggregate consideration paid by the
Company in connection with the affiliation of the 11 Allied Practices from
August 26, 1997 to December 31, 1997 was approximately $12.4 million,
comprised of $2.1 million in cash and 863,775 shares of Class A Common Stock

--------
         (1)        Three Allied Orthodontists operate in two states.



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         SERVICE AGREEMENTS. Each service agreement generally requires the
Company to perform the following services for the Allied Practices: provide and
maintain specified furnishings and equipment; provide necessary employees
(except orthodontists and, where applicable law requires, hygienists and dental
assistants); establish appropriate business systems; purchase and maintain
inventory; perform payroll and accounting functions; provide billing and
collection services with respect to patients, insurance companies, and
third-party payors; arrange certain legal services not related to malpractice
litigation; design and execute a marketing plan; advise with respect to new
office locations; and manage and organize the Allied Practice's files and
records, including patient records where permitted by applicable law. If the
Allied Practice lacks sufficient funds to pay its current expenses, the Company
is required to advance funds to the Allied Practice for the purpose of paying
such expenses, subject to terms to be initially agreed upon. In exchange for
performing the services described above, the Company receives a management fee
based on one of the three fee structures described in Management's Discussion
and Analysis of Financial Condition and Results of Operations. The Company
has entered into agreements with certain Allied Practices to make the payment
of such management fees after the first two years contingent on various
factors, including practice profitability compared to acquisition consideration,
timely reporting of information, participation in practice improvement programs
and orthodontist hours worked. Prior patient revenue is not necessarily
indicative of the level of revenue that these practices may be expected to
generate in the future.

         The term of each service agreement is for 20 or 25 years, subject to
prior termination by either party in the event the other party becomes subject
to voluntary or involuntary bankruptcy proceedings or materially breaches the
agreement, subject to a cure period. In addition, the Allied Practices may
terminate the service agreements upon the occurrence of a change of control of
the Company (as defined therein, which does not include a transaction approved
by the Company's Board of Directors). Upon the expiration or termination of the
service agreement, the Allied Practice may, and in certain circumstances must,
repurchase for cash (at book value) certain assets, including all equipment, and
assume certain liabilities of the Company related to the Allied Practice.

         Each service agreement is generally not assignable by either party
thereto without the written consent of the other party; however, the Company may
assign the service agreement without the Allied Practice's consent to any entity
under common control with the Company. The Company and the Allied Practice
indemnify each other for costs and expenses incurred by such other party that
are caused directly or indirectly by, as the case may be, the Company's or the
Allied Practice's intentional or negligent acts or omissions. In the case of the
Allied Practice's obligation to indemnify the Company, such obligation also
applies to intentional or negligent acts and omissions occurring prior to the
date of the service agreement. As of December 31, 1997, the Company had entered
into service agreements with 40 Allied Practices.

         CONSULTING AGREEMENTS. Certain provisions of the consulting agreement
are substantially similar to the service agreement, including provisions
relating to the Company's obligation to loan funds to the Allied Practice in the
event the Allied Practice is unable to pay its current expenses, termination of
the consulting agreement, repurchase of assets and assumption of liabilities by
the Allied Practice upon expiration or termination, assignment, and
indemnification.

         The services provided by the Company to the Allied Practice under each
consulting agreement generally include consulting with respect to equipment and
office needs; preparing staffing models appropriate for an Allied Practice;
advising and training with respect to business systems; purchasing and
maintaining inventory; advising with respect to and providing or arranging
accounting and bookkeeping services; advising with respect to developing a
marketing plan; assessing the financial feasibility of establishing new offices;
providing billing and collection services; and assisting the Allied Practice in
organizing and developing filing and recording systems. In exchange for such
services, the Company receives a consulting fee based on one of the three fee
structures described in Management's Discussion and Analysis of Financial
Condition and Results of Operations. As of December 31, 1997, the Company had
entered into consulting agreements with 26 Allied Practices.

         Pursuant to both the service agreements and consulting agreements,
Allied Orthodontists maintain full control over and ownership of their
orthodontic practices, determine which personnel will be allied with the Allied
Practices and set their own standards of practice. The Company does not engage
in the practice of orthodontics or dentistry. Each Allied Orthodontist is
responsible for compliance of his or her Allied Practice with state and local
regulations applicable to the practice of orthodontics and with licensing or
certification requirements. Each Allied Practice, in its sole


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<PAGE>   8
discretion, determines the fees to be charged for services provided to patients
based upon market conditions in the service area and other factors deemed
appropriate by the Allied Practice. Each Allied Practice executes payor
contracts and acquires and pays for its own malpractice insurance coverage.

         Employment Agreements. Each Allied Orthodontist who is or becomes an
equity holder in an Allied Practice or who provides orthodontic services through
an Allied Practice for more than 10 days a month is required to execute an
employment agreement with the Allied Practice. Each employment agreement
generally provides that the Allied Orthodontist will perform professional
services for the Allied Practice for a period of five years, subject to prior
termination (i) for cause by the Allied Practice (which generally means death,
incapacity, willful misconduct, conviction for a felony, or chronic alcoholism
or drug addiction) and (ii) by the Allied Orthodontist in the event of a
material breach by the Allied Practice. The Allied Orthodontist agrees that
following termination or expiration of the employment agreement, he or she will
not compete for a period of two years in the market in which the Allied Practice
operates an office and will limit the methods of advertising in the area in
which an Allied Practice is located.

GOVERNMENT REGULATION

         General. The field of orthodontics is highly regulated, and there can
be no assurance that the regulatory environment in which the Company operates
will not change significantly in the future. In general, regulation of
healthcare companies is increasing. Every state imposes licensing requirements
on individual orthodontists and on facilities operated by and services rendered
by orthodontists. In addition, federal and state laws regulate health
maintenance organizations and other managed care organizations for which
orthodontists may be providers. In connection with the entry into new markets,
the Company, Allied Practices and Allied Orthodontists may become subject to
compliance with additional regulations.

         The operations of the Allied Practices must meet federal, state and
local regulatory standards in the areas of safety and health. Historically,
compliance with those standards has not had any material adverse effect on the
operations of the Allied Practices. Based on its familiarity with the historical
operations of the Allied Practices and the activities of the Allied
Orthodontists, management believes that the Allied Practices are in compliance
in all material respects with all applicable federal, state and local laws and
regulations relating to safety and health.

         State Legislation. The laws of several states prohibit orthodontists
from splitting fees with non-orthodontists. Furthermore, many states prohibit
non-orthodontic entities from practicing dentistry, including orthodontics,
employing orthodontists, or in some circumstances, employing hygienists and
dental assistants. The laws of some states prohibit advertising orthodontic
services under a trade or corporate name and require that all advertising be in
the name of the orthodontist. A number of states also regulate the content of
advertisement of orthodontic services and the use of promotional gift items. A
number of states limit the ability of a non-licensed dentist or non-orthodontist
to own equipment or offices used in an orthodontic practice. Some of these
states allow leasing of equipment and office space to an orthodontic practice,
under a bona-fide lease, if the equipment and office remain in the complete care
and custody of the orthodontist. Management believes, based on its familiarity
with the historical operations of the Allied Practices, the activities of the
Allied Orthodontists and applicable regulations, that the Company's current and
planned activities do not constitute the prohibited practices contemplated by
these statutes and regulations. There can be no assurance, however, that future
interpretations of such laws, or the enactment of more stringent laws, will not
require structural and organizational modifications of the Company's existing
contractual relationships with its Allied Orthodontists or the operation of the
Allied Practices. In addition, statutes in some states could restrict expansion
of Company operations in those jurisdictions. The Company enters into either a
service agreement or consulting agreement depending upon applicable state
regulations.


                                      -8-
<PAGE>   9
         Regulatory Compliance. The Company monitors developments in laws and
regulations relating to the practice of orthodontics and dentistry. The Company
may be required to modify its agreements, operations and marketing strategies
from time to time in response to changes in the business and regulatory
environment. The Company intends to structure all of its agreements, operations
and marketing in accordance with applicable law, although there can be no
assurance that its arrangements will not be successfully challenged or that
required changes may not materially affect the Company's business, financial
condition and results of operations.

COMPETITION

         The business of providing orthodontic services is highly competitive in
each market in which the Allied Practices operate. Allied Practices compete with
orthodontists who maintain single offices or operate a single satellite office,
as well as with orthodontists who maintain group practices or operate in
multiple offices. Allied Practices also compete with general dentists and
pediatric dentists who provide certain orthodontic services, some of whom have
more established practices. The provision of orthodontic services by such
dentists and pediatric dentists has increased in recent years.

         The Company faces substantial competition from other entities as the
Company seeks to affiliate with additional orthodontic practices. The Company is
aware of several practice management companies that are focused in the area of
orthodontics. Additional entities may enter this market and compete with the
Company. Certain of these competitors have greater financial or other resources
than the Company.

EMPLOYEES

         As of December 31, 1997, the Company employed approximately 700
persons, including 645 full-time employees. None of the Company's employees is
represented by a collective bargaining agreement. The Company considers its
relationship with its employees to be good.

INTELLECTUAL PROPERTY

         The Company's intent to use application for the service mark
"OrthAlliance" has been allowed by the U.S. Patent and Trademark Office
("Trademark Office"). The trademark registration should be issued after the
Trademark Office accepts the Company's Statement of Use, which the Company has
filed. Management intends to continue to utilize the service mark, as allowed by
applicable law, in the Company's marketing and advertising campaigns and in
connection with the Company's services.


INSURANCE

         The Company maintains general liability insurance for itself and on
behalf of the Allied Practices and, where permitted by applicable law and
insurers, the Company is named as an additional insured under the policies of
the Allied Practices. There can be no assurance that any claims against the
Company or any of the Allied Practices will not be successful, or if successful,
will not exceed the limits of available insurance coverage or that such coverage
will continue to be available at acceptable rates. The Allied Orthodontists
purchase and maintain their own malpractice liability insurance coverage.

ITEM 2.  PROPERTIES.

         The Company leases approximately 4,200 square feet of office space in
Torrance, California for its headquarters. In addition, the Company leases
office space for certain Allied Practices (see note 11 to the Company's
financial statements) with aggregate monthly payments of $438,000 as of
December 31, 1997.


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<PAGE>   10
ITEM 3. LEGAL PROCEEDINGS.

         As of December 31, 1997, the Company did not have any pending legal
proceedings that separately, or in the aggregate, if adversely determined, would
have a material adverse effect on the Company. The Company and its Allied
Orthodontists may, from time to time, be a party to litigation or administrative
proceedings which arise in the normal course of business.

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

         None.

ITEM 4A. EXECUTIVE OFFICERS OF THE REGISTRANT.

         The Company's executive officers and key employees are as follows:

<TABLE>
<CAPTION>
                  Name                      Age      Position with the Company
                  ---                       ---      -------------------------
<S>                                         <C>      <C>
                  Jonathan Wilfong          48       Chairman of the Board of Directors
                  Sam Westover              42       President, Chief Executive Officer and Director
                  Robert S. Chilton         39       Chief Financial Officer
                  P. Craig Hethcox(1)       45       Chief Operating Officer
                  Paul H. Hayase            42       Senior Vice President - Human Resources, General
                                                     Counsel and Secretary
</TABLE>

         Jonathan E. Wilfong has served as Chairman of the Board of Directors of
the Company since May 1997. Mr. Wilfong has served as an executive consultant to
the Company since its inception. Mr. Wilfong is the founder and a principal of
Newfound Capital Associates, an investment banking advisory firm founded in 1996
that specializes in advising high growth businesses on capital formation
strategies and acquisition transactions. Mr. Wilfong is a Certified Public
Accountant, and from 1983 to 1996 was a partner with Price Waterhouse LLP in
Atlanta, Georgia and Greenville, South Carolina.

         Sam Westover has served as Director, President and Chief Executive
Officer of the Company since October 1996. From August 1993 until July 1996, Mr.
Westover served as President and Chief Executive Officer of SystEmed Inc., a
pharmacy benefit management company, where he also served as Director from July
1992 until February 1997. From January 1993 until August 1993, Mr. Westover
served as Senior Vice President, Chief Financial Officer and Treasurer of
Wellpoint Health Networks, Inc., a health insurance company. Prior to joining
Wellpoint, Mr. Westover served as Chief Financial Officer and Senior Vice
President, Corporate Financial Services of Blue Cross of California, a position
to which he was named in May 1990.

         Robert S. Chilton has served as Chief Financial Officer of the Company
since May 1997. From April 1994 until May 1997, Mr. Chilton served as Vice
President/Controller of E&S Ring Management Corporation, a real estate
management firm. Mr. Chilton was Controller of Karl Storz Endoscopy-America,
Inc., a medical device manufacturer and distributor, from October 1987 until
April 1994. Mr. Chilton is a Certified Public Accountant, and from February 1985
to October 1987 was employed by KPMG Peat Marwick.

         P. Craig Hethcox served as Chief Operating Officer of the Company from
August 21, 1997 to January 31, 1998. From January 1997 to August 26, 1997, Mr.
Hethcox served as Chief Executive Officer of US Orothodontic Care, Inc.
("USOC"). From July 1994 to December 1996, Mr. Hethcox served as Chief Operating
Officer for Equimed, Inc., where he directed the corporate operations for
sixty-five ophthamology, oncology and surgical center entities. From 1988 to
June 1994, Mr. Hethcox served as Vice President of Operations for Medical Care
America, where he was responsible for the operations of the then largest
practice management company with surgical centers. Mr. Hethcox also held senior


(1) Effective January 31, 1998, Mr. Hethcox's employment as Chief Operating
    Officer was terminated.


                                      -10-
<PAGE>   11
management positions with Medical Corporation of America, Inc., and Omni Eye
Services, Inc., both ophthalmology practice management operations, and was Chief
Executive Officer of Lakeside Community Hospital.

         Paul H. Hayase has served as Senior Vice President - Human Resources,
General Counsel and Secretary of the Company since October 1996. From August
1995 until January 1997, Mr. Hayase served as Vice President - Human Resources,
General Counsel and Secretary of Systemed, Inc. Mr. Hayase served as Senior
Counsel of Ralphs Grocery Company, a supermarket chain in California, from
November 1993 to August 1995. From January 1985 to November 1993, Mr. Hayase
served as Senior Vice President, General Counsel for Knapp Communications
Corporation, a magazine publishing company.


                                     PART II

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

         (a) The Company's Class A Common Stock is traded on The Nasdaq Stock
Market's National Market System under the symbol "ORAL." There is no established
public trading market for the Company's Class B Common Stock. No transfers are
permitted of Class B Common Stock, except to the Class B stockholder's spouse,
parents, siblings, lineal descendants, trusts for the benefit of any such
individual or as determined by laws of descent or wills. The high and low
prices of the Company's Class A Common Stock as reported on The Nasdaq Stock
Market during each quarter from August 21, 1997 are shown below:

<TABLE>
<CAPTION>
1997                                   High             Low
----                                   ----             ---
<S>                                    <C>             <C>
Fourth Quarter                         15 1/2            8 1/2
Third Quarter                          15 3/8           13 1/2
</TABLE>

1998
----

First Quarter
  (through March 26, 1998)             13 11/16         10 1/4

         At March 26, 1998, the last reported sale price of the Class A Common
Stock was $13 11/16 per share and there were approximately 181 record holders of
Class A Common Stock and 52 record holders of Class B Common Stock.

         Except for the payment of $13.8 million cash consideration paid to the
initial 55 Allied Practices which was recorded as a cash dividend, the Company
has not declared any dividends on either its Class A Common Stock or its Class B
Common Stock. The Company expects that future earnings, if any, will be retained
for the growth and development of the Company's business and, accordingly, the
Company does not anticipate that any dividends will be declared or paid on the
Class A Common Stock or Class B Common Stock for the foreseeable future. The
declaration, payment and amount of future dividends, if any, will depend upon
the future earnings, results of operations, financial position and capital
requirements of the Company, among other factors, and are limited by the
Company's Credit Agreement.

Recent Sales of Unregistered Securities.

         On August 26, 1997, simultaneously with the closing of the Company's
initial public offering of its Class A Common Stock pursuant to a Registration
Statement on Form S-1, the 55 initial Allied Practices received 5,882,985 shares
of unregistered Class A Common Stock as partial consideration for certain assets
or stock of such Allied Practices pursuant to the exemption set forth in Section
4(2) of the 1933 Act regarding non-public offerings.


                                      -11-
<PAGE>   12
         On August 26, 1997, pursuant to that certain Agreement and Plan of
Merger between the Company, USOC and Premier Orthodontic Group, Inc. ("POG"),
the Company issued 1,750,000 shares of unregistered Class A Common Stock and
250,000 shares of unregistered Class B Common Stock as merger consideration to
the shareholders of USOC and POG in reliance on the exemption set forth in
Section 4(2) of the 1933 Act regarding non-public offerings.

         (b) Pursuant to the registration statement on Form S-1, as amended (No.
333-27143), that became effective on August 21, 1997, the Company offered and
sold to the underwriters (managed by J.C. Bradford & Co.) 2,990,000 shares of
Class A Common Stock in the Company's initial public offering ("IPO") for an
aggregate offering price of $35,880,000. As of December 31, 1997, the amount of
expenses incurred by the Company in connection with the issuance and
distribution of the Class A Common Stock in the IPO for underwriting discounts
and commissions, finders fees, expenses paid to or for underwriters was
approximately $2,511,600. The net proceeds received by the Company after
deducting the above expenses is approximately $31,137,400. The Company has used
the net proceeds from the Offering as follows:

<TABLE>
<S>                                                                <C>
           Dividend to founding Allied Practices                   $13,759,266
           Payment of Debt Assumed in merger
             between the Company, USOC and POG                     $ 4,407,812
           Acquisition of Allied Practices                         $ 2,062,749
                                                                   -----------
                                                                   $20,229,827
</TABLE>

         Of the $4,407,812 used of payment for assumed debt, $271,461 was paid
to Sam Westover (President, Chief Executive Officer and Director), $172,647 was
paid to Paul H. Hayase (Senior Vice President - Human Resources, General Counsel
and Secretary), $162,877 was paid to J. Dalton Gerlach (Senior Vice President -
Development) and $250,000 was paid to Jonathan E. Wilfong (Chairman of the
Board) for consulting services related to the public offering.

         Of the $13,759,266 used for payment of the dividend to the founding 55
Allied Practices, $280,403 was paid to Douglas D. Durbin (Director), $107,432
was paid to Randall A. Schmidt (Director) and $582,857 was paid to Randall K.
Bennett (Director).

         As of December 31, 1997, the balance of the funds generated from the
offering of approximately $10,907,573 has been used for general corporate
purposes or remains available for working capital.

ITEM 6.  SELECTED FINANCIAL DATA.


<TABLE>
<CAPTION>
                                                                         FOR THE YEAR ENDED DECEMBER 31,
                                                                         -------------------------------
                                                                                1997        1996(1)
                                                                                ----        ------
                                                                       (In thousands, except per share data)
<S>                                                                           <C>             <C>
         STATEMENT OF OPERATIONS DATA:
           Revenues ...................................................       $ 18,081        $ --
           Income before taxes (benefits) and extraordinary item                   105
           Loss before extraordinary items ............................           (736)
           Net loss ...................................................           (736)(2)      --
           Net loss attributable to common shares .....................           (736)
           Net loss per common
            and common equivalent shares ..............................          (0.18)         --
           Weighted average common and common equivalent outstanding
             shares ...................................................          4,026           0
</TABLE>

(1) The Company did not have any operations in 1996.

(2) Includes non-recurring compensation expense. (See note 10 to financial
    statements).


                                      -12-
<PAGE>   13
<TABLE>
<CAPTION>
                                                                                AS OF DECEMBER 31,
                                                                                ------------------
                                                                                1997           1996
                                                                                ----           ----
<S>                                                                           <C>             <C>
         BALANCE SHEET DATA:

           Working capital (deficit) ..................................       $ 13,085          $-

           Total assets ...............................................         44,363          $-

           Long term liabilities ......................................            121          $-
           Redeemable common stock, common stock,
              additional paid-in-capital, retained
              earnings and treasury stock .............................         34,028          $-
</TABLE>

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

The following discussion should be read in conjuction with the accompanying
Consolidated Statements of Operations and notes thereto for the year ended
December 31, 1997.

General

         The Company began providing practice management services to Allied
Practices in the United States on August 26, 1997. The initial 55 Allied
Practices included 82 Allied Orthodontists operating 147 offices in 16 states.
By the end of 1997, the Company had affiliated with 11 new practices, including
17 additional orthodontists operating out of 31 new locations. Four of these new
locations were new satellite offices to existing Allied Practices which were
created as part of the Company's strategy to grow the revenue potential of
Allied Practices though expansion into new markets. The Company anticipates that
future growth will come from both entering into long-term management contracts
with existing non-affiliated practices, and from satellite expansion of Allied
Practices and operating efficiencies.

         The Company earns revenue by providing services pursuant to long-term
service agreements or consulting agreements provides (collectively, "Management
Agreements") with Allied Practices. The Company provides management or
consulting services to each Allied Practice and assumes substantially all
operating expenses except for compensation to Allied Orthodontists and other
employees that the Company cannot employ according to applicable state laws. In
exchange for assuming these expenses and providing services, the Company records
revenues in amounts equal to the assumed expenses plus a service fee or
consulting fee, as described below. In general, the Management Agreements
provide for the recognition of fees to the Company based on a negotiated
percentage of the "Adjusted Patient Revenue" of Allied Practices. The timing of
the payment of such service fees is based upon cash collected. Adjusted Patient
Revenue is net patient revenue, as determined under generally accepted
accounting principles, including adjustments for contractual allowances and
other discounts, plus an adjustment for uncollectable accounts. Patient
revenue is recognized as services are performed. For orthodontic services,
approximately 20% of the orthodontic contract revenue is recognized at the
time of initial treatment. The balance of the contract revenue is realized
evenly over the remaining treatment period. The 20% estimated revenue at the
initial treatment date is based on the estimated costs incurred by the
practice at that time as compared to the total costs of providing the
contracted services and is consistent with industry standards. The percentage
includes the

                                      -13-
<PAGE>   14
estimated costs of diagnosis and treatment plan development, initial treatment
by orthodontic personnel, orthodontic supplies, and associated administrative
services.

         The service fee is earned and paid monthly to the Company by each
Allied Practice using one of three different fee structures set forth in the
Management Agreements:

         (i) a designated percentage of Adjusted Patient Revenue, ranging from
         14% to 17%, subject to an annual adjustment based upon improvements in
         the Allied Practice's operating margin in the most recent calendar year
         as compared with the immediately preceding calendar year. No annual
         adjustment shall be made which would result in reducing the designated
         percentage below the percentage applicable during the first year of the
         Management Agreement. Operating margin is defined as the percentage
         determined by dividing operating profit by Adjusted Patient Revenue.
         Operating profit is equal to Adjusted Patient Revenue less operating
         expenses, excluding the management fee and such expenses associated
         with the Allied Practices which the Company is prohibited from
         incurring, primarily consisting of orthodontist compensation. The
         average designated percentage is 16.9% for the Allied Practices subject
         to this fee structure.

         (ii) a designated percentage ranging from 13.5% to 17% of Adjusted
         Patient Revenue with a potential annual adjustment of 25% of the
         increase in operating margin (as defined in subparagraph (i) above) in
         a calendar year as compared to the preceding calendar year multiplied
         by the Adjusted Patient Revenue for the current calendar year. The
         supplemental fee for improvement in operating margin, if applicable, is
         paid in a lump sum payment upon final determination of the Allied
         Practice's operating margin for the calendar year. The average
         designated percentage is 16.7% for the Allied Practices subject to this
         fee structure. In some cases, the Allied Orthodonist must guarantee a
         minimum level of management fees to be paid by the Allied Practice for
         a portion of the agreement ranging from one to 25 years. The period
         covered by the minimum Service Fee varies by agreement, but ranges from
         one to 25 years.

         (iii) a fixed dollar fee with annual fixed dollar increases for each
         year of the term of the Management Agreement.

         The Company has entered into agreements with certain Allied Practices
to make the payment of such management fees after the first two years
contingent on various factors, including practice profitability compared to,
acquisition consideration, timely reporting of information, participation in
practice improvement programs and orthodontist hours worked. Prior patient
revenue is not necessarily indicative of the level of revenue that these
practices may be expected to generate in the future.

         Expenses reported by the Company include certain of the expenses to
operate the orthodontic offices and all of the expenses of any corporate
offices, facilities or functions. Therefore, salaries and benefits include the
wages, benefits, taxes or other employment costs for all employees of the
Company, including practice office staff, business office staff and management
personnel. Rent includes facility expenses for both practice offices and
corporate offices. Advertising and marketing includes practice activities to
attract new patients and corporate activities to attract new orthodontists to
join the Company. General and administrative expenses include professional
services, such as legal and accounting, utilities, advertising, marketing,
insurance, telephone, license fees, office supplies and shipping expenses.
Practice supplies include only those expenses required by the Allied
Orthodontist to provide treatment to patients.

RESULTS OF OPERATIONS

The audited financial statements of the Company for the year ended December 31,
1997 reflect a net loss of $736,000 on revenues of $18,081,000. This reflects
the results of operations for the period August 26, 1997 to December 31, 1997.
Excluding the impact of the non-recurring compensation expense in the amount of
$3,392,000, the Company recognized income before income taxes of $105,000. The
Company began operations in 1997; therefore, the presentation of prior period
information is not applicable.

The following table sets forth, the percentage of certain items in relation to
net revenues.


                                      -14-
<PAGE>   15
<TABLE>
<CAPTION>
                                                                   Year ended
                                                                December 31, 1997
                                                                -----------------
<S>                                                             <C>
   Net Revenue ...............................................       100.0%
   Direct Expenses:
       Employee costs ........................................        31.9%
       Practice supplies .....................................         9.3%
       Rent ..................................................         9.7%
       Depreciation and amortization .........................         1.4%
       General and administrative ............................        29.9%
                                                                     -----

       Total operating expenses ..............................        82.2%
                                                                     -----

   Operating profit ..........................................        17.8%
   Non-recurring organizer compensation expense ..............       (18.8%)
   Interest income, net ......................................         1.5%
                                                                     -----

   Income before income taxes ................................         0.5%
   Provision for income taxes ................................         4.6%
                                                                     -----

   Net loss ..................................................        (4.1%)
                                                                     =====
</TABLE>

         Net Revenue. The Company began operations on August 26, 1997 and
therefore annual revenues reported include only the revenue generated from
operations during the period from August 26, 1997 to December 31, 1997. Adjusted
patient revenue during this period was $22,975,000, of which 89.1% was generated
by the 55 Allied Practices that affiliated with the Company in connection with
the IPO. The remaining 10.9% was generated by Allied Practices that affiliated
with the Company subsequent to the completion of the IPO. Net Revenue reported
by the Company is derived by applying the appropriate management fee percentage
against Adjusted Patient Revenue, and adding the reimbursement from the Allied
Practices of practice expenses paid by the Company. In addition, the Company
does include in revenue the amortization of certain prepaid revenue balances
that were acquired from the 55 founding Allied Practices. The amortization
recognizes that the orthodontist has provided the services that were prepaid by
patients prior to the practice affiliated with the Company. From August 26 to
December 31, 1997, the Company recognized $453,000 of amortized prepaid revenue
into net revenue. As of December 31, 1997, $1,609,000 of prepaid patient revenue
acquired from the 55 founding Allied Practices remained unamortized on the
Company's balance sheet. Management expects to amortize most of this balance
into revenue during 1998 as the patients receive orthodontic services.

         Operating Expenses. The amounts reported for operating expenses
represent the amounts incurred from August 26, 1997 to December 31, 1997. All of
the expense categories are consistent with management's expectations based upon
expense information provided by the Allied Practices prior to affiliation with
the Company. Operating expenses as a percentage to revenue are consistent with
levels seen within the industry.

         Depreciation and Amortization. Depreciation and amortization expense
primarily relates to the depreciation of capital assets and the amortization of
excess cost over the fair value of net assets acquired (goodwill) and certain
other intangibles. The Company's policy is to amortize goodwill over the
expected period to be benefited, not to exceed the term of the Management
Agreements. For the period August 26, 1997 to December 31, 1997, depreciation
and amortization was $245,000.

         Non-recurring Organizer Compensation Expense. Prior to the completion
of the IPO, USOC and POG merged with and into the Company, and the Company
succeeded to the rights and obligations of both USOC and POG. Certain
compensation expenses were


                                      -15-
<PAGE>   16
incurred by USOC and POG during the period from inception (October 21, 1996)
through August 26, 1997 in connection with the IPO. In the second quarter of
1997, the Company issued warrants to owners of certain Allied Practices, and
certain officers and consultants for their assistance in recruiting
orthodontists to the Company and in completing the IPO. In addition, pursuant to
the merger between USOC, POG and the Company, warrants held by Jonathan Wilfong
and Robert Garces to purchase a total of 225,000 shares of USOC stock converted
into warrants to purchase an equal number of shares of the Company's Class A
Common Stock. The Company recorded compensation expense of $3,392,000 related to
these warrants during 1997.

         Interest Income. Net interest income for the period August 26, 1997 to
December 31, 1997 was $270,000. This represents interest earned on excess cash
balances invested primarily in short-term money market accounts.

         Provision for Income Taxes. Provision for income taxes for 1997 was
$841,000. A reconciliation of the provision for income taxes for the year ending
December 31, 1997 to the amount computed at the Federal statutory rate is
included in Note 13 of Notes to Consolidated Financial Statements. The Company's
effective income tax rate for the year was higher than the statutory rate
primarily due to the nondeductibility for income tax purposes of the organizer
compensation expense and amortization of goodwill.


QUARTERLY OPERATING RESULTS

         The Company's unaudited quarterly operating information for 1997 is
shown in the following table. The Company began operations in the third quarter
of 1997, but the Company recognized non-recurring organizer expense related to
warrants, described above, in the second and third quarter. The fourth quarter
represents the only quarter presented when the Company was fully operational
during the entire quarter.

<TABLE>
<CAPTION>
                                              Quarters ended
                                              --------------
                                      March 31           June 30                Sept. 30                 Dec. 31
                                      --------           -------                --------                 -------
<S>                                   <C>              <C>                     <C>                     <C>
   Total Revenues                      $ --            $        --             $ 4,054,000             $14,027,000
   Net Operating Income                $ --            $(1,935,000)            $  (880,000)            $ 2,346,000
   Net Income                          $ --            $(1,935,000)            $  (322,000)            $ 1,521,000
   Basic Earnings Per Share            $ --                  $ N/A             $     (0.07)            $      0.13
</TABLE>


SEASONALITY

         Most patients who seek orthodontic treatment are children, although the
number of adults seeking treatment has been increasing in recent years. Based
upon information provided by the Allied Practices, and based upon the results of
operations in 1997, the Company expects an increase in new patient volume during
the summer months when children are not in school. The Company also expects the
lowest volume of patient starts during the Christmas holiday season when
children are on vacation and when many of the Allied Practices are closed.
Since the Company recognizes 20% of all patients contracts as revenue in the
month treatment begins, the Company expects higher patient revenue in the third
quarter and lower patient revenue in the fourth quarter. Accordingly, the
Company should see an increase or decrease in service fee revenue during these
periods.


                                      -16-
<PAGE>   17
LIQUIDITY AND CAPITAL RESOURCES

Pursuant to the Registration Statement on Form S-1, as amended (No. 333-27143),
that became effective on August 21, 1997, the Company offered and sold to the
underwriters (co-managed by J.C. Bradford and CIBC Oppenheimer) 2,600,000 shares
of Class A Common Stock at $12.00 per share. Concurrently, the underwriters
exercised their over-allotment option for an additional 390,000 shares
of Class A Common Stock. The IPO and exercise of the over-allotment option
generated, net of underwriting discounts and commissions, approximately $33.4
million in cash for the Company. The Company has used these funds to pay some of
the expenses for the IPO, to pay a dividend to the owners of
the 55 original Allied Practices that affiliated with the Company in August 1997
($13.8 million), to fund the acquisition of certain operating assets of, or the
stock of entities holding certain operating assets of newly affiliated
practices, to pay debt assumed from Allied Practices as part of the affiliation
process, and for working capital requirements.

As of December 31, 1997, the Company had a working capital balance of
approximately $13.3 million. The Company anticipates the primary uses of capital
will include additional affiliations with orthodontic and pediatric dental
practices, certain costs related to the development of satellite offices, and
funding the working capital needs of the Company and Allied Practices.

On December 30, 1997, the Company entered into a credit agreement with First
Union National Bank to provide a $25 million revolving line of credit. The term
of this facility is for three years. The interest on borrowings accrues at
either the bank's prime rate or LIBOR, plus a margin between 0.25% and 1.875%.
Amounts borrowed are secured by security interests in certain of the Company's
assets, including accounts receivable, Management Agreements and capital stock
in Company's subsidiaries. As of December 31, 1997, no borrowings were
outstanding under this credit facility and the Company was in compliance with
all applicable covenants. The agreement terminates on December 30, 2000, but
does include two one year renewal options, subject to lender's approval.

The working capital requirements and capital resources needed to continue the
acquisition and development efforts will be funded through a combination of cash
flows provided by ongoing operations, funding from the Company's revolving line
of credit, and proceeds remaining from the IPO. Management believes that these
sources of capital will be sufficient to meet the Company's funding requirements
for the next twelve months. The Company may choose to issue debt or equity to
meet its future long-term capital needs as management deems appropriate.

After the completion of the IPO and the affiliation of the founding 55 Allied
Practices, the Company acquired certain operating assets of, or the stock in
entities that held certain operating assets of, 11 additional orthodontic
practices. The total consideration paid for these Allied Practices was $12.4
million, of which $2.1 million was paid in cash and the balance through the
issuance of 863,775 shares of Class A Common Stock, pursuant to a Registration
Statement on Form S-4 (No. 333-29435).

The Company continually purchases the patient accounts receivable generated by
each Allied Practice and records these receivables on the Company's balance
sheet. The receivables are recorded at net realizable value on the date of
purchase. Any subsequent uncollectible account is written off by the Company and
the Allied Practice revenue is reduced accordingly. The impact on the Company
from such write-offs is the loss of management fee because practice revenue is
reduced. These accounts receivable should generate funds required for (i) the
expenses incurred by the Company to manage and administer the Allied Practices,
(ii) service fees, and (iii) salaries for other employees of the Allied
Practices, with the balance due to the Allied Orthodontists owning the Allied
Practices.

The Management Agreements provide for advances by the Company to the Allied
Practices for working capital requirements and other purposes. Such loans
generally bear interest at the prime plus one percent and are repayable over
varying periods of time not to exceed five years. As of December 31, 1997, the
Company had advanced $2,010,000 to the Allied Practices.

YEAR 2000 COMPLIANCE

The Company has reviewed the systems utilized by the corporate office in all
areas of office automation, including payroll, payables, general ledger and data
management. In all cases the systems are already in full compliance with Year
2000 requirements or the developers of the systems has a Year 2000 compliant
version available. The corporate office intends to upgrade any remaining systems
that are not already in compliance, with a compliant version before the end of
1998. The cost to upgrade these systems is minimal since the upgrades are
provided by the developers under the maintenance agreements already in place.

The Company has not performed an evaluation of the practice management systems
installed in each of its Allied Practice offices. Therefore, the Company is not
aware of which systems are currently Year 2000 compliant. The Company does have
a plan to evaluate the practice management systems for Year 2000 compliance
before the end of 1998. Since the Company is not aware of which systems are
currently Year 2000 compliant, the Company is not aware of the costs associated
with upgrading the practice management systems to Year 2000 compliance.
However, any costs incurred by the Company to complete a systems upgrade would
be reimbursed to the Company by each Allied Practice.


                                      -17-
<PAGE>   18
ITEM 7A.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

                  Not Applicable.

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.

         The Company's Financial Statements, together with the report thereon of
Arthur Andersen LLP, dated February 27, 1998 begin on page F-1 of this Report.

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

                  Not Applicable.


                                    PART III

ITEM 10.  DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.

         The information contained under the heading "Information Concerning
Directors" in the Company's definitive proxy statement for its annual meeting of
stockholders to be held on June 5, 1998 (the "1998 Proxy Statement") is
incorporated herein by reference. Information regarding the Company's executive
officers is set forth in Item 4A of Part I hereof.

ITEM 11.  EXECUTIVE COMPENSATION.

         The information contained under the heading "Executive Compensation" in
the 1998 Proxy Statement is incorporated herein by reference.


                                      -18-
<PAGE>   19
ITEM 12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.

         The information contained under the headings "Information Concerning
Directors" and "Principal Stockholders" in the 1998 Proxy Statement is
incorporated herein by reference.

ITEM 13.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

         The information contained under the heading "Certain Transactions" in
the 1998 Proxy Statement is incorporated herein by reference.


                                     PART IV


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

(a)(1)   Financial Statements

         Listed on the Index to the Financial Statements and Schedules on page
         F-1 of this Report.

   (2)   Financial Statement Schedules

         Listed on the Index to the Financial Statements and Schedules on page
         F-1 of this Report.

   (3)   Exhibits


<TABLE>
<CAPTION>
        EXHIBIT                      DESCRIPTION
        -------                      -----------
<S>               <C>
         3.1      Amended and Restated Certificate of Incorporation of the
                  Company (incorporated by reference to Exhibit 3.1 of the
                  Company's Registration Statement on Form S-1, Registration No.
                  333-27143, as amended).

         3.2      Amended and Restated Bylaws of the Company (incorporated by
                  reference to Exhibit 3.2 of the Company's Registration
                  Statement on Form S-1 Registration No. 333-27143, as amended).

         4.1      Specimen Class A Common Stock Certificate (incorporated by
                  reference to Exhibit 4.1 of the Company's Registration
                  Statement on Form S-1, Registration No. 333-27143, as
                  amended).

         4.2      Amended and Restated Certificate of Incorporation of the
                  Company, including, without limitation Section 4 (incorporated
                  by reference to Exhibit 3.1 of the Company's Registration
                  Statement on Form S-1, Registration No. 333-27143, as
                  amended).

         4.3      Amended and Restated Bylaws of the Company (incorporated by
                  reference to Exhibit 3.2 of the Company's Registration
                  Statement on Form S-1 Registration No. 333-27143, as amended).

         4.4      Incidental Registration Rights for certain Allied
                  Orthodontist as set forth in the Form of Purchase and Sale
                  Agreement (Exhibit 10.2 hereto), the Form of Stock Purchase
                  and Sale Agreement (Exhibit 10.3 hereto) and the Form of
                  Agreement and Plan of Reorganization (Exhibit 10.5 hereto)

        10.1      Agreement and Plan of Merger between the Company, USOC and POG
                  (incorporated by reference to Exhibit 2.1 of the Company's
                  Registration Statement on Form S-1, Registration No.
                  333-27143, as amended).

         10.2     Form of Purchase and Sale Agreement between the Company and
                  Allied Practices (incorporated by reference to Exhibit 2.2 of
                  the Company's Registration Statement on Form S-1, Registration
                  No. 333-27143, as amended).

         10.3     Form of Stock Purchase and Sale Agreement between the Company
                  and Stockholders of the initial Allied Practices (incorporated
                  by reference to Exhibit 2.4 of the Company's Registration
                  Statement on Form S-1, Registration No. 333-27143, as
                  amended).


         10.4     Form of Stock Purchase and Sale Agreement between the Company
                  and the Stockholders of the Allied
</TABLE>


                                      -19-
<PAGE>   20
<TABLE>
<S>               <C>
                  Practices.

         10.5     Form of Agreement and Plan of Reorganization between the
                  Company, Allied Practices and the Stockholders of the Allied
                  Practices (incorporated by reference to Exhibit 2.3 of the
                  Company's Registration Statement on Form S-1, Registration No.
                  333-27143, as amended).

         10.6     Form of Service Agreement between the Company and Allied
                  Practices (Fixed Percentage Fee) (incorporated by reference to
                  Exhibit 10.1 of the Company's Registration Statement on Form
                  S-1, Registration No. 333-27143, as amended).

         10.7     Form of Service Agreement between Company and Allied Practices
                  (Variable Percentage Fee) (incorporated by reference to
                  Exhibit 10.2 of the Company's Registration Statement on Form
                  S-1, Registration No. 333-27143, as amended).

         10.8     Form of Consulting and Business Services Agreement between the
                  Company and Allied Practices (Variable Percentage Fee)
                  (incorporated by reference to Exhibit 10.3 of the Company's
                  Registration Statement on Form S-1, Registration No.
                  333-27143, as amended).

         10.9     Form of Consulting and Business Services Agreement between the
                  Company and Allied Practices (Fixed Percentage Fee)
                  (incorporated by reference to Exhibit 10.4 of the Company's
                  Registration Statement on Form S-1, Registration No.
                  333-27143, as amended).

         10.10    Form of Consulting and Business Services Agreement between the
                  Company and Allied Practices (Fixed Dollar Fee) (incorporated
                  by reference to Exhibit 10.5 of the Company's Registration
                  Statement on Form S-1, Registration No. 333-27143, as
                  amended).

         10.11    1997 Non-Employee Director Stock Plan (incorporated by
                  reference to Exhibit 10.6 of the Company's Registration
                  Statement on Form S-1, Registration No. 333-27143).

         10.12    Amended and Restated 1997 Employee Stock Option Plan
                  (incorporated by reference to Exhibit 10.7 of the Company's
                  Registration Statement on Form S-1, Registration No.
                  333-27143).

         10.13    1997 Orthodontist Stock Option Plan.

         10.14    Employment Agreement between the Company and Sam Westover
                  (incorporated by reference to Exhibit 10.8 of the Company's
                  Registration Statement on Form S-1, Registration No.
                  333-27143).

         10.15    Letter Agreement between the Company and Robert S. Chilton
                  (incorporated by reference to Exhibit 10.11 of the Company's
                  Registration Statement on Form S-1, Registration No.
                  333-27143, as amended).

         10.16    Credit Agreement dated December 30, 1997 between the Company
                  and First Union National Bank.

         10.17    Form of Company Practice Improvement Program Guarantee.

         21.1     Subsidiaries of the Registrant.

         23.1     Consent of Arthur Andersen LLP.

         27.1     Financial Data Schedule.

         27.2     Restated Financial Data Schedule.

         99.1     Safe Harbor Compliance Statement.
</TABLE>

(b)      Reports on Form 8-K.

         The Company did not file any reports on Form 8-K during the fourth
quarter of 1997.


                                      -20-
<PAGE>   21


                                   SIGNATURES


         Pursuant to the requirements of Section 13 or 15(d) of the 1934 Act,
the Company has duly caused this Form 10-K to be signed on behalf of the
undersigned, thereunto duly authorized, on March 30, 1998.

                                    ORTHALLIANCE, INC.


                                    By:  /s/ SAM WESTOVER
                                        ------------------------------------
                                        Sam Westover
                                        President and Chief Executive Officer


                                      -21-
<PAGE>   22

                                   SIGNATURES

         Pursuant to the Requirements of the 1934 Act, this Form 10-K has been
signed below by the following persons in the capacities indicated on
March 30, 1998. Signatures


/s/ SAM WESTOVER              President and Chief Executive Officer and Director
--------------------------
SAM WESTOVER

/s/ ROBERT S. CHILTON         Chief Financial Officer
--------------------------
ROBERT S. CHILTON

/s/ RANDALL K. BENNETT        Director
--------------------------
RANDALL K. BENNETT

/s/ DOUGLAS D. DURBIN         Director
--------------------------
DOUGLAS D. DURBIN

/s/ U. BERTRAM ELLIS, JR.     Director
--------------------------
U. BERTRAM ELLIS, JR.

/s/ CRAIG L. MCKNIGHT         Director
--------------------------
CRAIG L. MCKNIGHT

/s/ RANDALL A. SCHMIDT        Director
--------------------------
RANDALL A. SCHMIDT

/s/ W. DENNIS SUMMERS         Director
--------------------------
W. DENNIS SUMMERS

/s/ JONATHAN E. WILFONG       Chairman of the Board
--------------------------
JONATHAN E. WILFONG


                                      -22-
<PAGE>   23

                         INDEX TO FINANCIAL STATEMENTS


<TABLE>
<CAPTION>
                                                                         Page
                                                                         ----
<S>                                                                     <C>
OrthAlliance, Inc.
  Report of Independent Public Accountants............................... F-2
  Balance Sheets as of December 31, 1997 and December 31, 1996........... F-3
  Statements of Operations For the Year Ended December 31, 1997 and
    For the Period From Inception (October 21, 1996) to
    December 31, 1996.................................................... F-4
  Statements of Cash Flows For the Year Ended December 31, 1997 and
    For the Period From Inception (October 21, 1996) to
    December 31, 1996.................................................... F-5
  Statements of Changes in Stockholder's Equity For the Period From
    Inception (October 21, 1996) to December 31, 1996 and for the
    year ended December 31, 1997......................................... F-6
  Notes to Financial Statements.......................................... F-7
</TABLE>









                                      F-1
<PAGE>   24
                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS


To the Board of Directors and Shareholders of OrthAlliance, Inc.:

We have audited the accompanying consolidated balance sheets of OrthAlliance,
Inc. (a Delaware Corporation) and subsidiaries as of December 31, 1997 and 1996,
and the related consolidated statements of operations, stockholders' equity and
cash flows for the year ended December 31, 1997 and for the period from
inception (October 21, 1996) to December 31, 1996. These financial statements
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements based on our audits.

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

In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of OrthAlliance, Inc. and
subsidiaries as of December 31, 1997 and 1996, and the results of their
operations and their cash flows for the year ended December 31, 1997 and for the
period from inception (October 21, 1996) to December 31, 1996 in conformity with
generally accepted accounting principles.


                                              /s/ Arthur Andersen LLP

                                              ARTHUR ANDERSEN LLP


Los Angeles, California
February 27, 1998




                                      F-2
<PAGE>   25
                               ORTHALLIANCE, INC.

                           CONSOLIDATED BALANCE SHEETS

<TABLE>
<CAPTION>
                                                                              As of                As of
                                                                           December 31,         December 31,
                                                                               1997                 1996
                                                                           ------------             ----
<S>                                                                        <C>                  <C>
   ASSETS
   Current assets:
      Cash and cash equivalents ...............................            $ 12,647,000             $ --
      Patient receivables, net of allowances of $242,000 and $0               4,470,000               --
      Unbilled patient receivables, net of allowances
        of $293,000 and $0 ....................................               2,642,000               --
      Amounts due from Allied Practices .......................               2,489,000               --
      Current deferred tax assets .............................                 984,000               --
      Other current assets ....................................                  67,000               --
                                                                           ------------             ----
      Total current assets ....................................              23,299,000               --

   Property and equipment, net ................................               3,214,000               --
   Notes receivable from Allied Practices .....................               2,010,000               --
   Non-current deferred tax assets ............................               4,209,000               --
   Intangible assets, net .....................................              11,313,000
   Other, net .................................................                 318,000               --
                                                                           ------------             ----
      Total assets ............................................            $ 44,363,000             $ --
                                                                           ============             ====

   LIABILITIES AND STOCKHOLDERS' EQUITY

   Current liabilities:
      Accounts payable and other accrued liabilities ..........            $  3,024,000             $ --
      Patient prepayments .....................................               2,710,000               --
      Liabilities assumed from Allied Practices ...............                 410,000               --
      Income taxes payable ....................................               1,308,000               --
      Current deferred tax liabilities ........................               1,672,000               --
      Amounts due to Allied Practices .........................               1,090,000
                                                                           ------------             ----
      Total current liabilities ...............................              10,214,000               --
                                                                           ------------             ----

   Non-current deferred tax liabilities .......................                 121,000               --
                                                                           ------------             ----
      Total liabilities .......................................              10,335,000               --
                                                                           ------------             ----

   Commitments and Contingencies

   Stockholders' equity:
      Class A Common Stock, $.001 par value, 20,000,000
      shares authorized, 11,486,761 shares and 1 share
       issued and outstanding at December 31, 1997
       and 1996, respectively .................................                  11,000               --
      Class B Common Stock, $.001 par value, 250,000
        authorized, 250,000 and zero shares issued and
        outstanding at December 31, 1997 and
        1996, respectively ....................................                      --               --
   Additional paid-in capital .................................              45,149,000               --
   Retained deficit ...........................................             (11,132,000)              --
                                                                           ------------             ----
        Total stockholders' equity ............................              34,028,000               --
                                                                           ------------             ----
        Total liabilities and stockholders' equity ............            $ 44,363,000             $ --
                                                                           ============             ====
</TABLE>

                  The accompanying notes are an integral part
                     of these consolidated balance sheets.



                                      F-3
<PAGE>   26
                               ORTHALLIANCE, INC.

                      CONSOLIDATED STATEMENTS OF OPERATIONS


<TABLE>
<CAPTION>
                                                                             For the period
                                                                             from Inception
                                                   For the year ended     (October 21, 1996) to
                                                    December 31, 1997       December 31, 1996
                                                    -----------------       -----------------

<S>                                                <C>                     <C>
   Net revenues .......................               $ 18,081,000                $--
                                                      ------------                ---
   Costs and expenses:
      Salaries and benefits ...........                  5,771,000                 --
      Orthodontic supplies ............                  1,684,000                 --
      Rent ............................                  1,751,000                 --
      Depreciation and amortization ...                    245,000                 --
      General and administrative ......                  5,403,000                 --
      Non-recurring organizer
         compensation expense .........                  3,392,000                 --
                                                       -----------                ---

       Total operating expenses .......                 18,246,000                 --
                                                       -----------                ---

      Net operating loss ..............                   (165,000)                --

      Interest income .................                    270,000                 --
                                                        ----------                ---

   Income before income taxes .........                    105,000                 --

   Provision from income taxes ........                    841,000                 --
                                                      ------------                ---

   Net loss ...........................               $   (736,000)               $--
                                                      ============                ===
   Basic and diluted net loss per share               $      (0.18)               $--
                                                      ============                ===
   Number of shares used in
   calculating net loss
   per share ..........................                  4,026,313                 1
                                                      ============                ===
</TABLE>


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




                                      F-4
<PAGE>   27
                               ORTHALLIANCE, INC.

                      CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
                                                                                                             For the period
                                                                                                             from Inception
                                                                                  For the year ended     (October 21, 1996) to
                                                                                   December 31, 1997       December 31, 1996
                                                                                   -----------------       -----------------
<S>                                                                               <C>                     <C>
   Cash flows from operating activities:
   Net loss ............................................................               $   (736,000)               $--
   Adjustments to reconcile net loss to net cash
    provided by operating activities:
      Depreciation and amortization ....................................                    245,000                 --
      Deferred tax benefit .............................................                   (467,000)                --
      Organizer compensation warrants ..................................                  2,435,000                 --
   Changes in assets and liabilities, excluding effects of acquisitions:
      Increase in patient receivables ..................................                   (261,000)                --
      Increase in due from Allied Practices ............................                 (2,489,000)                --
      Increase in other assets .........................................                    (37,000)                --
      Increase in accounts payable and accrued liabilities .............                    126,000                 --
      Increase in due to Allied Practices ..............................                  1,090,000                 --
      Increase in patient prepayments ..................................                    243,000                 --
      Increase in income taxes payable .................................                  1,307,000                 --
                                                                                       ------------                ---
      Net cash provided by operating activities ........................                  1,456,000                 --
                                                                                       ------------                ---

   Cash flows from investing activities:
      Payment for new practice affiliations. ...........................                 (2,061,000)                --
      Capital expenditures .............................................                    (71,000)                --
      Acquisition of other assets ......................................                    (30,000)                --
                                                                                       ------------                ---
      Net cash used in investing activities ............................                 (2,162,000)
                                                                                       ------------                ---

   Cash flows from financing activities:
      Proceeds from issuance of common stock ...........................                 31,137,000                 --
      Proceeds from issuance of warrants ...............................                      1,000                 --
      Dividend paid to shareholders of founding
         Allied Practices ..............................................                (13,759,000)                --
      Bank overdraft ...................................................                    859,000                 --
      Payment of deferred financing costs ..............................                   (288,000)                --
      Repayment of long-term debt ......................................                 (4,597,000)                --
                                                                                       ------------                ---
      Net cash provided by financing activities ........................                 13,353,000
                                                                                       ------------                ---
   Net increase in cash and cash equivalents ...........................               $ 12,647,000                $--
                                                                                       ============                ===

   Cash and cash equivalents at beginning of period ....................               $         --                $--

   Cash and cash equivalents at end of period ..........................               $ 12,647,000                $--
                                                                                       ============                ---

   Supplemental cash flow information:
      Interest paid ....................................................               $     42,000                $--
      Noncash investing and financing activities
       Acquisition of businesses:
         Fair value of assets acquired .................................               $ 25,370,000                 --
         Less: Issuance of common stock ................................                (14,720,000)                --
         Elimination of predecessor's retained deficit .................                  2,945,000
         Less: Cash paid ...............................................                  2,063,000                 --
                                                                                       ------------                ---
         Liabilities assumed ...........................................               $(11,532,000)               $--
                                                                                       ============                ===
</TABLE>

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


                                      F-5
<PAGE>   28
                               ORTHALLIANCE, INC.

                  STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
      FOR THE PERIOD FROM INCEPTION (OCTOBER 21, 1996) TO DECEMBER 31, 1996
                    AND FOR THE YEAR ENDED DECEMBER 31, 1997

<TABLE>
<CAPTION>
                                   Class A                     Class B
                                Common Stock                Common Stock         Additional        Retained             Total
                          -----------------------      ---------------------       Paid-In          Earnings          Shareholders'
                            Shares         Amount      Shares        Amount        Capital          (Deficit)            Equity
                          ----------      -------      -------      --------      -----------      ------------       ------------
<S>                       <C>             <C>          <C>          <C>          <C>               <C>                <C>
Balances at
October 21, 1996 ...               1      $    --           --      $     --      $        --      $         --       $         --
                           ---------      -------      -------      --------      -----------      ------------       ------------
Balances at
December 31, 1996 ..               1      $    --           --      $     --      $        --      $         --       $         --


Initial public
offering
of common stock ....       2,990,000        3,000           --            --       30,398,000                --         30,401,000

Transfers of certain
assets and
liabilities
by founders ........       7,632,984        7,000      250,000            --        1,435,000         3,363,000          4,805,000

Dividend to
shareholders of
founding Allied
Practices ..........              --           --           --            --               --       (13,759,000)       (13,759,000)

Issuance of common
stock for intangible
assets .............         863,776        1,000           --            --       10,278,000                --         10,279,000

Issuance of warrants              --           --           --            --        3,038,000                --          3,038,000

Net loss ...........              --           --           --            --               --          (736,000)          (736,000)
                          ----------      -------      -------      --------      -----------      ------------       ------------
Balances at
December 31, 1997 ..      11,486,761      $11,000      250,000      $     --      $45,149,000      $(11,132,000)      $ 34,028,000
                          ==========      =======      =======      ========      ===========      ============       ============
</TABLE>

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


                                      F-6
<PAGE>   29
                               ORTHALLIANCE, INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                DECEMBER 31, 1997


1.       BUSINESS AND ORGANIZATION

a.       ORGANIZATION

OrthAlliance, Inc. ("OrthAlliance" or the "Company") (formerly known as Premier
Orthodontic Holdings, Inc.), a Delaware corporation, was founded in October,
1996 to provide practice management and consulting services (collectively
"management services") to orthodontic practices in the United States.

Effective prior to the closing of the initial public offering (the "Offering" or
"IPO"), Premier Orthodontic Group, Inc. ("Premier") and US Orthodontic Care,
Inc. ("USOC") merged with and into OrthAlliance. In the merger, the outstanding
common stock of USOC and Premier converted into an aggregate of 1,750,000
shares of Class A Common Stock ("Common Stock") and 250,000 shares of Class B
Common Stock ("Class B Common Stock"). Each share of USOC common stock converted
into 0.496 shares of Common Stock and 0.071 shares of Class B Common Stock. Each
share of Premier common stock converted into 5,250 shares of Common Stock and
750 shares of Class B Common Stock. The USOC and Premier stockholders received
an aggregate of 1,225,000 and 525,000 shares of Common Stock and 175,000 and
75,000 shares of Class B Common Stock, respectively.

On August 26, 1997, OrthAlliance acquired (the "Acquisitions") simultaneously
with the closing of the IPO of its Class A Common Stock, certain operating
assets of or the stock of entities holding certain tangible and intangible
assets, and assumed certain liabilities of 55 orthodontic practices
(collectively, the "Founding Practices") in exchange for 5,882,984 shares of
Common Stock and $13,800,000 in cash. The underwriters exercised an
overallotment option to purchase an additional 390,000 shares of Common Stock,
thereby increasing the number of shares of Common Stock offered in the IPO from
2,600,000 to 2,990,000. The net proceeds of the shares of Common Stock issued in
the IPO were $31,137,000. Other expenses incurred by the Company related to the
Offering totalled approximately $2,200,000 and these were recognized by Premier
and USOC prior to the merger. The Acquisitions have been accounted for in
accordance with the Securities and Exchange Commission's Staff Accounting
Bulletin No. 48.

b.       AGREEMENTS WITH ALLIED PRACTICES

The Company is party to management service agreements with orthodontic practices
which include the Founding Practices as well as practices that have become
affiliated with the Company subsequent to the IPO ("Allied Practices"). These
are either "Service Agreements" or "Consulting Agreements". The type of
management service agreement is determined by the Company and each Allied
Practice based primarily on applicable state laws and regulations. The types of
management service agreements are as follows:

Service Agreements
------------------
The parties to each Service Agreement include the Company and the Allied
Practice, which typically is a professional corporation or association owned by
the related orthodontist. Each Service Agreement generally requires the Company
to perform the following services for the Allied Practices: provide and maintain
specified furnishings and equipment; provide necessary employees (except
orthodontists and where applicable law requires,


                                      F-7
<PAGE>   30
hygienists and dental assistants); establish appropriate business systems;
purchase and maintain inventory; perform payroll and accounting functions;
provide billing and collection services with respect to patients, insurance
companies, and third-party payors; arrange certain legal services not related to
malpractice litigation; design and execute a marketing plan; advise with respect
to new office locations; and manage and organize the Allied Practices' files and
records, including patient records where permitted by applicable law. If the
Allied Practice lacks sufficient funds to pay its current expenses, the Company
is also required to advance funds to the Allied Practice for the purpose of
paying such expenses. In exchange for performing the services described above,
the Company receives a management fee based on one of the three fee structures
described below.

The term of each Service Agreement is 20 to 25 years, subject to prior
termination by either party in the event the other party becomes subject to
voluntary or involuntary bankruptcy proceedings or materially breaches the
agreement, subject to a cure period. In addition, the Allied Practices may
terminate the Service Agreements upon the occurrence of a change of control of
OrthAlliance (as defined therein, which does not include a transaction approved
by the Company's Board of Directors). Upon the expiration or termination of the
Service Agreement, the Allied Practice may, and in certain circumstances must,
repurchase for cash (at book value) certain assets, including all equipment, and
assume certain liabilities of the Company related to the Allied Practice.

Service Agreements are generally not assignable by either party thereto without
the written consent of the other party; however, the Company may assign the
Service Agreement without the Allied Practice's consent to any entity under
common control with the Company. The Company and the Allied Practice agree to
indemnify each other for costs and expenses incurred by such other party that
are caused directly or indirectly by, as the case may be, the Company's or the
Allied Practice's intentional or negligent acts or omissions. In the case of the
Allied Practice's obligation to indemnify the Company, such obligation also
applies to intentional or negligent acts and omissions occurring prior to the
date of the Service Agreement.

Consulting Agreements
---------------------

The parties to each Consulting Agreement include the Company and the Allied
Practice. Certain provisions of the Consulting Agreement are substantially
similar to the Service Agreement, including provisions relating to the Company's
obligation to loan funds to the Allied Practice in the event the Allied Practice
is unable to pay its current expenses, termination of the Consulting Agreement,
repurchase of assets and assumption of liabilities by the Allied Practice upon
expiration or termination, assignment, and indemnification.

The services provided by the Company to the Allied Practice under each
Consulting Agreement generally include consulting with respect to equipment and
office needs; preparing staffing models appropriate for an Allied Practice;
advising and training with respect to business systems; purchasing and
maintaining inventory; advising with respect to and providing or arranging
accounting and bookkeeping services; advising with respect to developing a
marketing plan; assessing the financial feasibility of establishing new offices;
providing billing and collection services; and assisting the Allied Practice in
organizing and developing filing and recording systems. In exchange for such
services, the Company receives a consulting fee based on one of the three fee
structures described below.

c.       CALCULATION OF MANAGEMENT FEES

The management fee is calculated pursuant to the Service and Consulting
Agreements monthly to the Company by each Allied Practice based upon the
practice's adjusted patient revenue calculated on the accrual basis. There are
three economic models by which the management fee may be calculated under the
two management service agreements discussed above which are as follows:

(i)      a designated percentage of adjusted patient revenue, ranging from 14%
         to 17%, subject to an annual adjustment based upon improvements in the
         Allied Practice's operating margin in the most recent fiscal period as
         compared with the immediately preceding fiscal period. No annual
         adjustment shall be made


                                      F-8
<PAGE>   31
         which would result in reducing the designated percentage applicable
         during the first year of the management agreement. Operating margin is
         defined as the percentage determined by dividing operating profit by
         adjusted patient revenue. Adjusted patient revenue under the agreement
         is net patient revenue as determined under generally accepted
         accounting principles, including adjustments for contractual allowances
         and other discounts, plus an adjustment for uncollectible accounts.
         Operating profit is equal to adjusted patient revenue less operating
         expenses, excluding the management fee and such expenses associated
         with the Allied Practices which the Company is prohibited from
         incurring, primarily consisting of orthodontist compensation.

(ii)     a designated percentage ranging from 13.5% to 17% of adjusted patient
         revenue with a potential annual adjustment of 25% of the increase in
         operating margin (as defined above) in a fiscal year as compared to the
         preceding fiscal year multiplied by the adjusted patient revenue for
         the current fiscal year. The supplemental fee, if applicable, is paid
         as a lump sum payment upon final determination of the improvement in
         the Allied Practice's operating margin as compared to the prior fiscal
         year period.

(iii)    a fixed dollar fee with annual established fixed increases for each
         year of the management agreement.

d.       RECEIVABLES FROM ALLIED PRACTICES

The difference in the timing of the recognition of adjusted patient revenue and
the collection of cash related thereto results in unbilled receivables or
patient prepayments. Unbilled patient receivables represent the earned revenue
in excess of billings to patients as of the end of each period. Patient
prepayments represent collections from patients or their insurance companies
which are received in advance of the performance of the related services.

After the transfer of certain assets and certain liabilities of an Allied
Practice to the Company, the Company continues to purchase patient accounts
receivable generated by the Allied Practice and records these receivables on the
balance sheet of OrthAlliance. The receivable is recorded at net realizable
value on the date of purchase. Any subsequent uncollectible account is written
off by OrthAlliance and the Allied Practice revenue is reduced accordingly. The
impact on the Company from such write offs is the loss of management revenue
because practice revenue is reduced. All of the accounts receivable are assigned
to the Company, which generates the funds required for (i) the expenses incurred
by the Company to manage and administer the Allied Practice, (ii) the management
fees, and (iii) salaries for other employees of the Allied Practices with the
balance due the affiliated orthodontist.

e.       OPERATING EXPENSES OF ALLIED PRACTICES

Certain operating expenses of the Allied Practices are the responsibility of
OrthAlliance. The Company is responsible for the payment of all operating
expenses incurred by the practice as required to operate an orthodontic office,
except for compensation to affiliated orthodontists and other expenses of the
Allied Practices that the Company is prohibited from employing.

These expenses include the following:

-     Salaries, benefits, payroll taxes, workers compensation, health insurance
      and other benefit plans, and other direct expenses of all employees of
      OrthAlliance at each practice office, excluding those costs associated
      with orthodontists and any other classification of employee which
      OrthAlliance is prohibited from employing by applicable state laws
      or regulations

-     Direct costs of all employees or consultants that provide services to each
      practice office except for Affiliated Orthodontists and other employees
      of the Allied Practices that the Company is prohibited from employing.

-     Dental and office supplies as permitted by applicable state laws or
      regulations

-     Lease or rent payments as permitted by state laws or regulations,
      utilities, telephone and maintenance expenses for practice facilities

-     Property taxes on OrthAlliance assets located at Allied Practice offices

-     Property, casualty, liability and malpractice insurance premiums

-     Orthodontists recruiting expenses


                                      F-9
<PAGE>   32
-     Interest on advances to practice bank accounts

-     Advertising and other marketing expenses attributable to the promotion of
      practice offices

All of the above expenses are paid directly to the third party provider of the
goods or services indicated. All of the above items are incurred by
OrthAlliance. Such expenses are classified together with similar expenses of the
Company in the consolidated income statement. In exchange for incurring these
expenses and providing management services, the Company records revenue in
amounts equal to those incurred expenses plus a management fee based on varying
percentages of the adjusted patient revenues of the Allied Practices. See
Note 13.

The Allied Practices retain the responsibility for the payment of any and all
direct employment expenses, including benefits, for any orthodontist or other
employee that OrthAlliance is prohibited from employing by applicable state laws
or regulations. In addition, the Allied Practices retain the responsibility for
the payment of continuing education expenses, seminars, professional licenses,
professional membership dues and all other expenses of any orthodontist.

f.       NEW ORTHODONTIST AFFILIATIONS


From August 26, 1997 to December 31, 1997, the Company entered into agreements
with 11 Allied Practices to provide management services and acquire certain
operating assets for a total consideration (including acquisition costs) of
$12,396,000. This consideration consisted of 863,776 shares of Common Stock with
an aggregate value at various acquisition dates of $10,333,000 and payment of
$2,063,000 in cash. The Company also assumed $1,390,000 in debt related to the
assets acquired.

These Allied Practices operate 31 locations in seven states. The allocation of
the purchase price to net assets acquired is based on preliminary estimates of
fair value and therefore may be revised at a later date upon the completion of
an appraisal of assets acquired.

2.       SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

a.       USE OF ESTIMATES

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

b.       CASH AND CASH EQUIVALENTS

The Company considers all highly-liquid investments with a maturity of three
months or less at the date of purchase to be cash equivalents. All cash
equivalents are recorded at cost which approximates fair value.

c.       PROPERTY AND EQUIPMENT, NET

Property and equipment is recorded at cost. Routine maintenance and repairs are
expensed when incurred, while costs of improvements and renewals are
capitalized. Depreciation of property and equipment is calculated using the
straight-line method over the estimated useful lives of the assets as follows:

                  Furniture and equipment            5- 7 years

                  Leasehold improvements             shorter of 3-10 years
                                                     or the related lease term


d.       INTANGIBLE ASSETS, NET

The Company's acquisitions involve the purchase of tangible and intangible
assets and the assumption of certain liabilities of the Allied Practices. The
Company allocates the purchase price to the tangible assets acquired and
liabilities assumed based on estimated fair market values. In connection with
each acquisition, the Company enters into long-term service agreements with the
Allied Practices. The service agreements are for terms of 20 to 25 years and can
be terminated by either party only with cause, which is primarily bankruptcy or
material default. Each service agreement intangible is being amortized using a
straight-line method over its term.



                                      F-10
<PAGE>   33

The Company continually evaluates whether events and circumstances have occurred
that indicate the remaining useful life of the intangible assets may warrant
revision or that the remaining balance of the intangible assets may not be
recoverable. As of December 31, 1997, there were no events or circumstances to
indicate that any portion of the recorded net intangible assets may not be
recoverable.

Accumulated amortization of the intangible assets at December 31, 1997
was $105,000.

e.        OTHER , NET

Other, net consist mainly of deferred costs. These are amortized on a
straight-line item basis over the expected period to be benefited (principally 3
to 25 years).


f.       INCOME TAXES

The Company accounts for income taxes in accordance with Statement of Financial
Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes," which
requires recognition of deferred tax assets and liabilities for expected future
tax consequences of events that have been recognized in the financial statements
or tax returns. Under this method, deferred tax assets and liabilities are
determined based on the differences between the financial statement carrying
amounts and the tax bases of such assets and liabilities using enacted tax rates
and laws in effect in the years in which the differences are expected to
reverse.

g.        FAIR VALUE OF FINANCIAL INSTRUMENTS

As of December 31, 1997, the carrying amounts of the Company's financial
instruments, which include cash and cash equivalents, notes receivable from
Allied Practices, accounts payable and accrued liabilities, and liabilities
assumed from Allied Practices are recorded at cost, which approximates
fair value.

h.        NEW ACCOUNTING PRONOUNCEMENTS

The Emerging Issues Task Force of the Financial Accounting Standards Board has
recently issued its Consensus Opinion 97-2 ("EITF 97-2"). EITF 97-2 addresses
certain specific matters pertaining to the physician, dentistry and veterinary
practice managment industries. EITF 97-2 will be effective for the Company for
its year ending December 31, 1998. EITF 97-2 addresses the ability of certain
practice management companies to consolidate the results of certain practices
with which it has an existing contractual relationship. The Company currently
does not consolidate the operations of the orthodontic practices that it
manages. The guidance in EITF 97-2 will not change the Company's accounting
method because the Company's arrangements with its Allied Practices do not meet
the requirements for consolidation as set forth in EITF 97-2.

3.       PROPERTY AND EQUIPMENT, NET

Property and equipment, net, consisted of the following as of December 31:

<TABLE>
<CAPTION>
                                                   1997          1996
                                               -----------       ----
<S>                                            <C>               <C>
            Furniture and fixtures ......      $ 3,361,000       $ --
            Office equipment ............        2,565,000         --
            Leasehold improvements ......        1,174,000         --
                                               -----------       ----
                                                 7,100,000         --
            Less accumulated depreciation       (3,886,000)        --
                                               -----------       ----
                                               $ 3,214,000       $ --
                                               ===========       ====
</TABLE>


                                      F-11
<PAGE>   34
4.       NOTES RECEIVABLE FROM ALLIED PRACTICES

Certain Allied Practices have signed promissory notes due to the Company.
Generally, principal and interest payments are due monthly, with interest
accruing at prime plus 1%. These notes are unsecured but have been personally
guaranteed by the respective orthodontists. The term of these notes range from
three to five years. As of December 31, 1997, the prime interest rate was 8.5%.

5.       ACCOUNTS PAYABLE AND OTHER ACCRUED LIABILITIES

Accounts payable and other accrued liabilities consisted of the following as of
December 31:

<TABLE>
<CAPTION>
                                                                1997          1996
                                                             ----------      -----
<S>                                                          <C>             <C>
            Bank overdrafts ...........................      $  859,000       $ --
            Accounts payable, Other accrued liabilities       1,565,000         --
            Litigation reserve ........................         600,000         --
                                                             ----------      -----
                                                             $3,024,000      $  --
                                                             ==========      =====
</TABLE>

The litigation reserve was established by the Company as a result of the
increased possibility for legal action by one or more state governments
challenging the compliance of the Management Agreements with state and local
law or regulations. Management believes the reserve is adequate to cover any
potential costs to defend such legal actions.

6.       LIABILITIES ASSUMED FROM ALLIED PRACTICES

Liabilities assumed from Allied Practices consist of various obligations assumed
from certain Allied Practices which will be repaid within one year from
affiliation. These unsecured obligations bear interest at rates ranging from 10%
to 18%. The Company settles these liabilities as soon as possible after
assumption.

7.       REVOLVING CREDIT FACILITY

On December 30, 1997, the Company entered into a $25.0 million revolving credit
facility (the "Revolving Credit Facility") with First Unikon, N.A. The Revolving
Credit Facility expires in December 2000, although it is subject to two,
one-year renewals upon the mutual acceptance of the Company and the bank.

The Company's receivables and its service agreements with the Allied Practices
collateralize the Revolving Credit Facility. Under the terms of the Revolving
Credit Facility, the Company is required to maintain certain consolidated
financial ratios and minimum consolidated net worth amounts. The Revolving
Credit Facility also prohibits the Company from incurring certain additional
indebtedness, limits certain future acquisitions to $2,000,000 per practice and
to $75,000,000 during the term without lender approval, and restricts capital
expenditures and cash dividends. At December 31, 1997, the Company was in
compliance with all financial covenants of the Revolving Credit Facility.

The Revolving Credit Facility requires payment of interest at variable rates
(bank's prime rate plus up to 0.5% or LIBOR plus up to 1.5%) depending upon the
Company's Leverage Ratio as defined in the Revolving Credit Facility. In
addition, the Company is charged a commitment fee of up to 0.375%.

At December 31, 1997, no amounts were outstanding under the Revolving Credit
Facility.

8.        CLASS B COMMON STOCK

Each share of Class B Common Stock will automatically convert into eight shares
of Common Stock upon the attainment of certain conversion prices. Twenty percent
of the Class B Common Stock shares will convert at each of the following
conversion prices: $18.00, $21.60, $25.92, $31.10, and $37.32. The conversion
will be effected when the average Common Stock closing price for 20 consecutive
trading days exceeds the threshold. Any Class B Common Stock shares not
converted to Common Stock, because the necessary conversion prices were not
attained, will automatically convert to one share of Common Stock upon the sixth
anniversary of the IPO. Class B Common


                                      F-12
<PAGE>   35
Stock shares are not transferable, except to a holder's direct relatives or as
determined by will or the laws of descent. The holders of Class B Common Stock
enjoy the same share-for-share voting rights with holders of the Common Stock,
with whom they vote as a single class.

9.        PREFERRED STOCK

The Company is authorized to issue up to 20 million shares of preferred stock.
The Board of Directors, from time to time and without any stockholder action or
approval, may fix the relative rights and preferences of the preferred shares,
including voting powers, dividend rights, liquidation preferences, redemption
rights and conversion privileges. No preferred stock was outstanding as of
December 31, 1997.

10.      STOCK OPTIONS AND WARRANTS

The Company has three stock option plans, the 1997 Employee Stock Option Plan
("Employee Plan"), the 1997 Non-Employee Director Stock Plan ("Non-Employee
Plan") and the 1997 Orthodontist Stock Option Plan ("Orthodontist Plan"). The
Orthodontist Plan is subject to shareholder approval. In addition, the Company
issued warrants to certain executives in 1997. Options may be granted as
incentive or nonqualified stock options. The Company accounts for the Employee
Plan and the Non-Employee Plan under APB Opinion No. 25, under which no cost
has been recognized.

The Company may grant options to purchase up to 1,000,000 shares of Common Stock
under the Employee Plan, 200,000 shares of Common Stock under the Non-Employee
Plan and 100,000 shares of Common Stock under the Orthodontist Plan. The Company
has granted 629,500 shares of Common Stock under the Employee Plan, 15,000 under
the Non-Employee Plan and 5,210 shares of Common Stock under the Orthodontist
Plan as of December 31, 1997. The options are issued with exercise prices equal
to the Company's stock price at the date of grant. Options granted under the
Employee Plan vest over one to five years; are exercisable in whole or in
installments; and expire ten years from date of grant. Options granted under the
Non-Employee Plan vest over one year; are exercisable in whole or in
installments; and also expire ten years from date of grant. All options issued
in 1997 remained unexercised at December 31, 1997. The weighted average exercise
price for options granted in 1997 is $12.10 per share.

In accordance with Statement of Financial Accounting Standards No. 123
"Accounting for Stock-Based Compensation" ("SFAS 123"), the fair value of option
grants is estimated using the Black-Scholes option pricing model for pro forma
footnote purposes. The following assumptions were used in 1997: dividend yield -
0%; risk free interest rate - 5.7% - 6.5%; expected option life - 10 years;
expected volatility - 49%.

As permitted by SFAS 123, the Company has chosen to continue accounting for
stock options at their intrinsic value. Accordingly, no compensation expense has
been recognized for its stock option compensation plans. Had the fair value
method of accounting been applied to the Company's stock option plans, the
tax-effected impact would be as follow:

<TABLE>
<CAPTION>
                                                   1997                1996
                                              -------------       -------------
<S>                          <C>               <C>                <C>
             Net loss:       As reported      $    (736,000)      $          --
                             Pro forma           (1,558,000)                 --
             Basic EPS:      As reported              (0.18)                 --
                             Pro forma                (0.39)                 --
</TABLE>

This pro forma impact only takes into account options granted in 1997 and is
likely to increase in future years as additional options are granted and
amortized ratably over the vesting period.

The Company also issued warrants to purchase 593,622 shares of Common Stock in
1997 with exercise prices ranging from $0.01 to $14.38. The weighted average
fair value of the warrants granted was $4.74. The vesting period for those
warrants range from immediate to one year. These warrants expire five years from
date of grant and their weighted average exercise price is $11.01 per warrant.
Certain of such warrants have associated incidental registration rights pursuant
to which the Company is obligated to use reasonable efforts to register the
share of Common Stock issued pursuant to the exercise of each warrant if the
Company initiales a public offering and files a registration statement in
connection therewith, excluding the registration of shares issued pursuant to
an employee stock purchase or option plan or an acquistion or proposed
acquistion by the Company.

                                      F-13
<PAGE>   36
11.      LEASES

The Company leases office space for the use of the Allied Practices and
corporate offices under operating leases, which have current expiration terms at
various dates through 2015. Certain of these leases have renewal options for
specified periods subsequent to their current terms. The annual lease payments
under the lease agreements have provisions for annual increases based on the
Consumer Price Index or other amounts specified within the lease agreements.

Future minimum lease payments on operating leases at December 31, 1997 are as
follows:

<TABLE>
<S>                                                                <C>
                 1998                                              $ 1,819,000
                 1999                                                1,513,000
                 2000                                                1,332,000
                 2001                                                  954,000
                 2002                                                  643,000
                 Thereafter                                          2,926,000
                                                                   -----------
                                                                   $ 9,187,000
                                                                   ===========
</TABLE>

12.      COMMITMENTS AND CONTINGENCIES

The Company may be subject to certain government regulation at the federal and
state levels. To comply with certain regulatory requirements, the Company does
not control the practice of the orthodontists, or control or employ the
orthodontists. There can be no assurance that the legality of any long-term
management services agreements that have been entered into will not be
successfully challenged. There also can be no assurance that the laws and
regulations of states in which the Company maintains operations will not change
or be interpreted in the future to restrict or further restrict the Company's
relationship with the orthodontists.

Orthodontists may be subject to legal liability suits while under management or
consulting services agreements with the Company. The Company may also, in the
normal course of business, become a defendant or plaintiff in various lawsuits.
Although a successful claim for which the Company is not fully insured could
have a material effect on the Company's financial condition, management is of
the opinion that it maintains insurance at levels sufficient to insure itself
against the normal risk of operations.

13.       NET REVENUE

Net revenue is comprised of the following:

<TABLE>
<CAPTION>
                                                               1997           1996
                                                           -----------      ---------
<S>                                                        <C>              <C>
            Management fee income ...................      $ 3,875,000      $      --
            Reimbursed practice operating expenses ..       13,753,000             --
            Amortization of acquired deferred revenue          453,000             --
                                                           -----------      ---------
                                                           $18,081,000      $      --
                                                           ===========      =========
</TABLE>




                                      F-14
<PAGE>   37

14.      INCOME TAXES

The provision for income taxes is comprised of the following:

<TABLE>
<CAPTION>
                                        1997              1996
                                    -----------       -----------
<S>                                 <C>               <C>
            Federal - current       $ 1,086,000       $        --
            Federal - deferred         (386,000)
                                    -----------       -----------
                                    $   700,000       $        --
                                    ===========       ===========

            State - current ..      $   222,000       $        --
            State - deferred .          (81,000)
                                    -----------       -----------
                                    $   141,000       $        --
                                    ===========       ===========
</TABLE>

A reconciliation of the provision for income taxes to the amount computed at the
Federal statutory rate is as follows:

<TABLE>
<CAPTION>
                                                           1997
                                                           ----
<S>                                                        <C>
            Federal income tax at statutory rate             34%
            Effect of disallowed expense .......              2
            Effect of amortization of goodwill .             34
            Non-deductible warrant expense .....            615
            State taxes, net of Federal benefit              88
            Other ..............................             33
                                                            ---
                                                            806%
                                                            ===
</TABLE>

The tax effect of temporary differences that give rise to significant portions
of the deferred tax assets and deferred tax liabilities at December 31 are as
follows:

<TABLE>
<CAPTION>
                                                                 1997                    1996
                                                             -----------             -----------
<S>                                                          <C>                     <C>
            Current deferred tax assets:
                Warrant expense .................            $   211,000             $        --
                Unearned revenue ................                773,000                      --
                                                             -----------             -----------
                                                                 984,000                      --
                                                             -----------             -----------

            Non-current deferred tax assets:
                Benefit of IRC Section 351 Gain
                   on transferred assets ........              2,552,000                      --
                Start-up costs amortization .....              1,281,000                      --
</TABLE>


                                      F-15
<PAGE>   38
<TABLE>
<S>                                                          <C>                     <C>
                Net operating loss ..............                174,000                      --
                Other ...........................                202,000                      --
                                                             -----------             -----------
                                                               4,209,000                      --
                                                             -----------             -----------
            Total deferred tax assets ...........            $ 5,193,000             $        --
                                                             ===========             ===========
            Current deferred tax liabilities:
                Patient receivables .............            $(1,672,000)            $        --
                                                             -----------             -----------
            Non-current deferred tax liabilities:
                Expansion costs .................                (83,000)                     --
                Other ...........................                (38,000)                     --
                                                             -----------             -----------
                                                                (121,000)                     --
                                                             -----------             -----------
            Total deferred tax liabilities ......            $(1,793,000)            $        --
                                                             ===========             ===========
</TABLE>

As part of the acquisition of the Allied Practices, the Company received assets
and liabilities from the founding Allied Practices which had not been subject to
income taxes. The basis of these assets and liabilities for income tax purposes
exceeded the basis for financial reporting purposes by $8,761,000 as of August
25, 1997. Deferred tax assets and liabilities were recorded on the opening
balance sheet to account for these differences.

15.       EARNINGS PER SHARE

The Company adopted SFAS No. 128, Earnings per Share ("SFAS 128") effective
December 15, 1997. Prior period earnings per share information has been
restated to follow the method prescribed by SFAS 128.

Basic earnings per share of Common Stock is computed by dividing the net loss
for the year by the weighted average number of shares of Common Stock
outstanding during the year. Diluted earnings per share of Common Stock is the
same as basic earnings per share as the Company has reported a net loss for
1997.

Securities, including those issuable pursuant to the conversion of Class B
Common Stock to Common Stock, that could potentially dilute EPS in the future,
that have not been included in the computation of diluted EPS because to do so
would have been anti-dilutive for the period presented, or because the
contingencies have not been met at December 31, 1997, consisted of the
following:


<TABLE>
<S>                                                                       <C>
Common Stock shares issuable in the future pursuant to options
and warrants outstanding at December 31, 1997                             1,243,332

Common Stock shares issuable in the future for conversion of
Class B Common Stock shares                                               2,000,000
                                                                          ---------
                                                                          3,243,332
                                                                          =========
</TABLE>


                                      F-16
<PAGE>   39
16.      RELATED PARTY TRANSACTIONS

For the year ended December 31, 1997, the Company entered into the following
related party transactions:

i)       Paid a $300,000 consulting fee to a director, Mr. Wilfong, who provided
         financial and general business services in connection with the
         IPO pursuant to a consulting agreement. Pursuant to this consulting
         agreement and in addition to the consulting fee, the Company granted
         Mr. Wilfong a warrant to purchase 150,000 shares of its Common Stock
         exercisable at $12.00 per share.

         Pursuant to the merger with USOC, a warrant granted to Mr. Wilfong
         by USOC to purchase 168,750 shares of USOC's common stock was converted
         to a warrant to purchase an equal number of shares of OrthAlliance's
         Common Stock at an exercise price of $11.16 per share.

         The Company recorded a non-recurring organizer compensation expense
         of $1,297,000 during the year ended December 31, 1997 related to
         these warrants.

ii)      In connection with the IPO, certain Allied Orthodontists were
         instrumental in recruiting new Allied Practices and received warrants
         to purchase an aggregate of 90,000 shares of OrthAlliance Common Stock.
         Of these, 31,600 were granted to an allied orthodontist who is also
         a director. All of these warrants have an exercise price of $12.00
         per share.

         The Company recorded a non-recurring organizer compensation expense
         of $366,000 during the year ended December 31, 1997 related to these
         warrants.

iii)     Referral Commissions for recruiting new Allied Practices of
         approximately $106,000 were paid to an Allied Orthodontist who is
         also a director. These consisted of approximately $41,000 in cash
         and options to purchase 5,210 shares of Common Stock valued
         at approximately $65,000.

iv)      Referral Commissions for recruiting new Allied Practices of
         approximately $91,000 were paid in cash to certain allied
         orthodontists.






                                      F-17
<PAGE>   40

17.      SUBSEQUENT EVENTS - NEW ORTHODONTIC AFFILIATIONS

Subsequent to December 31, 1997, 10 practices affiliated with the Company which
included 13 allied orthodontists. The 10 Allied Practices operate in 30
locations and generated historical patient revenue over the prior 12 months of
approximately $15.9 million (unaudited). Prior patient revenue is not
necessarily indicative of the level of revenue that such Allied Practices may
be expected to generate in the future. The Company has entered into agreements
with certain of these practices to determine management fees beginning in the
third year of the agreements based on various factors, including relative
practice profitability compared to acquisition consideration, timely reporting
of information, participation in practice improvement programs and orthodontist
hours worked.

PedoAlliance, Inc. ("PedoAlliance"), a wholly-owned subsidiary of the Company,
was incorporated on December 19, 1997 to provide practice management or
consulting services to pediatric dental practices ("Allied Pediatric Practices")
located throughout the United States. PedoAlliance intends to manage the
business aspects of Allied Pediatric Practices, thereby allowing the pediatric
dentists ("Allied Pediatric Dentist") to focus on delivering cost-effective,
high quality patient care, and provides capital for the development and growth
of such pediatric dental practices. As of December 31, 1997, PedoAlliance had
not yet allied with any pediatric dental practices.

OrthAlliance Finance, Inc. ("OA Finance"), a wholly-owned subsidiary of the
Company, was incorporated on October 7, 1997 to offer financing alternatives to
the patients of Allied Practices. As of December 31, 1997, OA Finance had not
yet funded any loans to prospective patients.


                                      F-18
<PAGE>   41


                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS



To the Board of Directors and Shareholders of OrthAlliance, Inc.:

We have audited in accordance with generally accepted auditing standards, the
consolidated financial statements of OrthAlliance, Inc. and subsidiaries
included in this Form 10-K and have issued our report thereon dated February 27,
1998. Our audits were made for the purpose of forming an opinion on the basic
financial statements taken as a whole. The schedule identified as "Schedule II -
Valuation and Qualifying Accounts" is the responsibility of the Company's
management and is presented for purposes of complying with the Securities and
Exchange Commission's rules and is not part of the basic consolidated financial
statements. This schedule has been subjected to the auditing procedures applied
in the audits of the basic consolidated financial statements and, in our
opinion, fairly states in all material respects the financial data to be set
forth therein in relation to the basic financial statements taken as a whole.


                                             /s/ Arthur Andersen LLP

                                             ARTHUR ANDERSEN LLP


Los Angeles, California
February 27, 1998


                                      F-19
<PAGE>   42
                               ORTHALLIANCE, INC.

                 SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS

<TABLE>
<CAPTION>
                                                         Additions
                                       Balance at       charged to                                         Balance at
                                      beginning of       costs and                         Other             end of
Description                              period          expenses        Retirements      charges(A)         period
-----------                              ------          --------        -----------      ----------         ------
<S>                                   <C>               <C>              <C>               <C>             <C>
Reserves and allowances
deducted from asset accounts:

Allowance for uncollectible
accounts receivable:

Year ended December 31, 1997             $   --           $ 18,000         $   --         $ 517,000          $ 535,000
</TABLE>


(A) Amount was recognized at the time that the Allied Practices transferred
    certain of their assets and liabilities to the Company.




                                      S-1
<PAGE>   43
<TABLE>
<CAPTION>
        EXHIBIT                      DESCRIPTION
        -------                      -----------
<S>               <C>
         3.1      Amended and Restated Certificate of Incorporation of the
                  Company (incorporated by reference to Exhibit 3.1 of the
                  Company's Registration Statement on Form S-1, Registration No.
                  333-27143, as amended).

         3.2      Amended and Restated Bylaws of the Company (incorporated by
                  reference to Exhibit 3.2 of the Company's Registration
                  Statement on Form S-1 Registration No. 333-27143, as amended).

         4.1      Specimen Class A Common Stock Certificate (incorporated by
                  reference to Exhibit 4.1 of the Company's Registration
                  Statement on Form S-1, Registration No. 333-27143, as
                  amended).

         4.2      Amended and Restated Certificate of Incorporation of the
                  Company, including, without limitation Section 4 (incorporated
                  by reference to Exhibit 3.1 of the Company's Registration
                  Statement on Form S-1, Registration No. 333-27143, as
                  amended).

         4.3      Amended and Restated Bylaws of the Company (incorporated by
                  reference to Exhibit 3.2 of the Company's Registration
                  Statement on Form S-1 Registration No. 333-27143, as amended).

         4.4      Incidental Registration Rights for certain Allied
                  Orthodontist as set forth in the Form of Purchase and Sale
                  Agreement (Exhibit 10.2 hereto), the Form of Stock Purchase
                  and Sale Agreement (Exhibit 10.3 hereto) and the Form of
                  Agreement and Plan of Reorganization (Exhibit 10.5 hereto)

         10.1     Agreement and Plan of Merger between the Company, USOC and POG
                  (incorporated by reference to Exhibit 2.1 of the Company's
                  Registration Statement on Form S-1, Registration No.
                  333-27143, as amended).

         10.2     Form of Purchase and Sale Agreement between the Company and
                  Allied Practices (incorporated by reference to Exhibit 2.2 of
                  the Company's Registration Statement on Form S-1, Registration
                  No. 333-27143, as amended).

         10.3     Form of Stock Purchase and Sale Agreement between the Company
                  and Stockholders of the initial Allied Practices (incorporated
                  by reference to Exhibit 2.4 of the Company's Registration
                  Statement on Form S-1, Registration No. 333-27143, as
                  amended).


         10.4     Form of Stock Purchase and Sale Agreement between the Company
                  and the Stockholders of the Allied
                  Practices.

         10.5     Form of Agreement and Plan of Reorganization between the
                  Company, Allied Practices and the Stockholders of the Allied
                  Practices (incorporated by reference to Exhibit 2.3 of the
                  Company's Registration Statement on Form S-1, Registration No.
                  333-27143, as amended).

         10.6     Form of Service Agreement between the Company and Allied
                  Practices (Fixed Percentage Fee) (incorporated by reference to
                  Exhibit 10.1 of the Company's Registration Statement on Form
                  S-1, Registration No. 333-27143, as amended).

         10.7     Form of Service Agreement between Company and Allied Practices
                  (Variable Percentage Fee) (incorporated by reference to
                  Exhibit 10.2 of the Company's Registration Statement on Form
                  S-1, Registration No. 333-27143, as amended).

         10.8     Form of Consulting and Business Services Agreement between the
                  Company and Allied Practices (Variable Percentage Fee)
                  (incorporated by reference to Exhibit 10.3 of the Company's
                  Registration Statement on Form S-1, Registration No.
                  333-27143, as amended).

         10.9     Form of Consulting and Business Services Agreement between the
                  Company and Allied Practices (Fixed Percentage Fee)
                  (incorporated by reference to Exhibit 10.4 of the Company's
                  Registration Statement on Form S-1, Registration No.
                  333-27143, as amended).

         10.10    Form of Consulting and Business Services Agreement between the
                  Company and Allied Practices (Fixed Dollar Fee) (incorporated
                  by reference to Exhibit 10.5 of the Company's Registration
                  Statement on Form S-1, Registration No. 333-27143, as
                  amended).

         10.11    1997 Non-Employee Director Stock Plan (incorporated by
                  reference to Exhibit 10.6 of the Company's Registration
                  Statement on Form S-1, Registration No. 333-27143).
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<S>               <C>
         10.12    Amended and Restated 1997 Employee Stock Option Plan
                  (incorporated by reference to Exhibit 10.7 of the Company's
                  Registration Statement on Form S-1, Registration No.
                  333-27143).

         10.13    1997 Orthodontist Stock Option Plan.

         10.14    Employment Agreement between the Company and Sam Westover
                  (incorporated by reference to Exhibit 10.8 of the Company's
                  Registration Statement on Form S-1, Registration No.
                  333-27143).

         10.15    Letter Agreement between the Company and Robert S. Chilton
                  (incorporated by reference to Exhibit 10.11 of the Company's
                  Registration Statement on Form S-1, Registration No.
                  333-27143, as amended).

         10.16    Credit Agreement dated December 30, 1997 between the Company
                  and First Union National Bank.

         10.17    Form of Company Practice Improvement Program Guarantee

         21.1     Subsidiaries of the Registrant.

         23.1     Consent of Arthur Andersen LLP.

         27.1     Financial Data Schedule.

         27.2     Restated Financial Data Schedule.

         99.1     Safe Harbor Compliance Statement.
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