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                      SECURITIES AND EXCHANGE COMMISSION
                            WASHINGTON, D.C. 20549

                                  FORM 10-K/A

                              AMENDMENT NO. 2 TO
                   ANNUAL REPORT PURSUANT TO 13 OR 15(d) OF
                      THE SECURITIES EXCHANGE ACT OF 1934

                  For the fiscal year ended December 31, 1999

                       Commission file number: 000-25333

                      PRODIGY COMMUNICATIONS CORPORATION

            (Exact name of registrant as specified in its charter)

               DELAWARE                               04-3323363
                                                   (I.R.S. Employer
    (State or other jurisdiction of              Identification No.)
            incorporation)

                44 SOUTH BROADWAY, WHITE PLAINS, NEW YORK 10601
                   (Address of principal executive offices)

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

      Registrant's telephone number, including area code: (914) 448-8000

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

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

   Securities registered pursuant to Section 12(g) of the Act: Common Stock,
par value $.01 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 the 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 outstanding shares of the registrant's Common
Stock held by non-affiliates as of March 1, 2000 was $418,705,886. For this
purpose, any officer, director and known 5% stockholder is deemed to be an
affiliate.

   The number of shares of the registrant's Common Stock outstanding on March
1, 2000 was 64,581,965.

                      DOCUMENTS INCORPORATED BY REFERENCE

   None.

   Prodigy Communications Corporation (the "Company" or "Prodigy") hereby
amends its Annual Report on Form 10-K for the year ended December 31, 1999.

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                                     INDEX

<TABLE>
<CAPTION>
Item     Description                                                                             Page
----     -----------                                                                             ----
<S>      <C>                                                                                     <C>
                                               PART I

Item 1   Business...............................................................................   3
Item 2   Properties.............................................................................  20
Item 3   Legal Proceedings......................................................................  21
Item 4   Submission of Matters to a Vote of Security Holders....................................  22

                                              PART II

Item 5   Market for Registrant's Common Equity and Related Stockholder Matters..................  23
Item 6   Selected Financial Data................................................................  23
Item 7   Management's Discussion and Analysis of Financial Condition and Results of Operations..  27
         Certain Factors That May Affect Future Operating Results...............................  37
Item 7A  Quantitative and Qualitative Disclosures About Market Risk.............................  49
Item 8   Financial Statements and Supplementary Data............................................  49
Item 9   Changes in and Disagreements with Accountants on Accounting and Financial Disclosure...  76

                                              PART III

Item 10  Directors and Executive Officers of the Registrant.....................................  77
Item 11  Executive Compensation.................................................................  81
Item 12  Security Ownership of Certain Beneficial Owners and Management.........................  89
Item 13  Certain Relationships and Related Transactions.........................................  90

                                              PART IV

Item 14  Exhibits, Financial Statement Schedules, and Reports on Form 8-K.......................  93
</TABLE>

   This report on Form 10-K/A includes "forward-looking statements", including
statements containing the words "believes", "anticipates", "expects" and words
of similar import. All statements other than statements of historical fact
included in this report including, without limitation, such statements under
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and "Business" and elsewhere herein, regarding Prodigy or any of
the transactions described herein, including the timing, financing, strategies
and effects of such transactions and Prodigy's growth strategy and anticipated
growth, are forward-looking statements. Important factors that could cause
actual results to differ materially from expectations are disclosed in this
report, including, without limitation, in conjunction with the forward-looking
statements in this report and under the heading "Certain Factors That May
Affect Future Operating Results" under Item 7.

   Prodigy, the Prodigy globe logo and Prodigy Internet are registered
trademarks, and Are You A Prodigy?, the Are You A Prodigy? logo, It's a tool
for living, Prodigy Classic, the Prodigy Internet logo and Prodigy MailLink are
trademarks of Prodigy. All other brand or product names may be trademarks or
registered trademarks of their respective owners.

                                       2
<PAGE>

                                    PART I.

ITEM 1. BUSINESS

   Prodigy is a leading nationwide Internet service provider that provides fast
and reliable Internet access and other Internet-based services. Prodigy's
nationwide Internet service offering, customer base and well recognized brand
name have made it a leading national Internet service provider. Prodigy tailors
its services to target the consumer, small business and U.S. Hispanic markets.
Prodigy has nationwide brand recognition and customer acquisition not available
to regional and local Internet service providers. Prodigy utilizes a nationwide
network covering over 850 cities in all 50 states. This network allows
approximately 90% of the United States population to access Prodigy's services
with a local telephone call. Prodigy believes its scalable technology allows it
to grow cost-effectively without significant capital expenditures. The number
of billable subscribers to Prodigy Internet, including subscribers who switched
from Prodigy's original Prodigy Classic online service, increased from 221,000
at December 31, 1997 to 1,138,000 at December 31, 1999.

   Prodigy Internet enables subscribers to use the Internet as a productivity
tool by allowing subscribers to obtain and communicate desired information
quickly and efficiently in an easy and personalized manner. Prodigy Internet
users receive fast and reliable access to the Internet, Prodigy-branded and
partner-branded content and other member services. Prodigy is expanding its Web
hosting and electronic commerce services for business customers. Prodigy
believes that its extensive experience in operating a large data center with
electronic commerce applications positions it well for growth in these areas.
Prodigy has introduced or is introducing various Internet-based services, such
as Web-based email, chat, personal Web pages, instant messaging, long-distance
telephone services, Internet-based telephone and fax services and online
customer billing.

   Prodigy has been an online pioneer since its inception in 1984. Prodigy
launched Prodigy Classic as the world's first consumer-focused online service
in 1988. Prodigy Classic featured custom content, e-mail and chat rooms and was
based on technologies owned by Prodigy. In October 1996, Prodigy launched
Prodigy Internet, a service allowing consumers with any computer operating
system to access the Internet. Prodigy Classic was discontinued in October 1999
as Prodigy completed the transition to Prodigy Internet. Since the autumn of
1997, Prodigy has focused on expanding the Prodigy Internet subscriber base and
introducing additional Internet-based services. Prodigy has also used outside
companies for network coverage, customer support and content. Due to these
initiatives, Prodigy has substantially reduced its fixed operating costs and
number of employees. Prodigy believes it can accommodate sustained subscriber
growth cost-effectively without significant capital expenditures.

Industry Background

 Growth of the Internet and Electronic Commerce

   The Internet is a collection of computer networks that links millions of
public and private computers to form the largest computer network in the world.
It has become an important global communications medium, enabling millions of
people to obtain and share information and conduct business electronically, and
a critical tool for information and communications for many users. The Internet
has grown rapidly in recent years, both in the number of Web users and Web
sites. Many factors are driving the growth in the number of Web users and Web
sites, including:

  .  the large and growing number of personal computers;

  .  the declining cost of computers;

  .  advances in the performance and speed of personal computers and modems;

  .  easier and alternative access to the Internet; and

  .  the increasing importance of the Internet for communications,
     information and commerce.

                                       3
<PAGE>

   For many businesses, the Internet has created a new communications and sales
channel enabling large numbers of geographically dispersed organizations and
consumers to be reached quickly and cost-effectively.

 Evolution of the Internet Services Market

   Today, the Internet services market consists primarily of Internet access.
Access services include dial-up access for individuals and small businesses and
high-speed dedicated access primarily for larger organizations. The rapid
development and growth of the Internet have resulted in a highly fragmented
industry, consisting of more than 5,000 Internet service providers in the
United States, most of which operate as small, local businesses. The Internet
services industry is expected to undergo substantial consolidation, especially
among mid-sized Internet service providers, over the next few years.

   Internet service providers vary widely in geographic coverage, customer
focus and the nature and quality of services provided to subscribers. Few
Internet service providers offer nationwide coverage, have a brand name with
nationwide recognition or can grow significantly without additional investment
in infrastructure. Internet service providers may concentrate on specific types
of customers that differ from the target markets of other Internet service
providers. Services offered by Internet service providers can range from simple
dial-up access to highly organized, personalized access coupled with value-
added services. Prodigy believes that consumers generally focus on speed and
reliability of access, ease of use, customer service and price as they evaluate
an Internet service provider. In addition, Prodigy believes many business
customers want all their Internet-based requirements, such as Internet access,
Web hosting and electronic commerce applications, met by a single provider.

   Internet operations, including Web hosting and electronic commerce, are
increasingly becoming critical to businesses. However, many businesses lack the
resources and expertise to develop, maintain and enhance, on a cost-effective
basis, successful Internet operations. As a result, businesses increasingly use
outside companies to enhance Web site reliability and performance, provide
continuous operation of their Internet-based functions and reduce operating
expenses. By outsourcing these services, companies can focus on their business
rather than using their resources to support Internet operations.

   As a result, there is increasing demand for Internet service providers to
offer electronic commerce services that businesses can establish quickly and
easily. An increasing number of Internet service providers supplement their
basic Internet access services with a variety of commercial services that
facilitate electronic commerce, such as hosting web sites, online customer
billing, co-location and other value-added services. These services expand an
Internet service provider's potential revenue sources from basic monthly access
fees to other fees such as set-up and maintenance charges. In addition, some
larger and more sophisticated Internet service providers market other Internet-
based services, such as paging, long-distance and cellular telephone services,
to both consumers and business customers nationwide.

The Prodigy Solution

   Prodigy provides fast and reliable Internet access and other Internet-based
services. Prodigy intends to meet the rapidly changing needs of its customers
by offering new products and additional Internet-based services as demand
arises. Prodigy believes the following competitive strengths positions it to
meet this goal:

   Nationwide Brand Name Recognition. Since the introduction of its original
service in 1988, Prodigy has established substantial nationwide brand
recognition it believes offers a significant competitive advantage in
attracting new subscribers. Prodigy uses a variety of advertising, promotional
and distribution channels to leverage its brand name, one of the oldest and
best-known in the Internet industry. Prodigy launched the Prodigy Internet
service in October 1996 as a productivity tool dedicated to the Internet and
designed to make a user's experience simpler and more rewarding. Prodigy
believes the strength of the Prodigy brand has enhanced its Prodigy Internet
marketing efforts and facilitated the rapid growth in the number of Prodigy
Internet subscribers.

                                       4
<PAGE>

   Nationwide Customer Acquisition Channels. Prodigy has a variety of
arrangements to acquire customers, including:

  .  contract acquisition programs with selected major PC manufacturers and
     retailers;

  .  bundling with PCs shipped by leading PC manufacturers;

  .  its relationship with Microsoft;

  .  Web-based marketing;

  .  retail channels;

  .  direct mail and telemarketing; and

  .  television, radio and print advertising.

   Prodigy believes many of these customer acquisition channels are not
available to regional and local Internet service providers who lack a
nationwide presence. Prodigy Internet software is included on PCs shipped by
many leading PC manufacturers. This software is also included in the online
services folder of every copy of Windows 98 and Windows 2000 shipped by
Microsoft for sale in retail channels or for loading on new PCs. The Prodigy
Internet service is also included in Microsoft's Internet service providers
Internet Referral Service Program.

   Scalable Business Model. Prodigy has created a business and operating model
that it believes can accommodate sustained subscriber growth cost-effectively
without significant capital expenditures. Prodigy outsources major capital- and
labor-intensive functions to companies that it believes can provide scalable
and dependable network coverage, customer service and organized content.
Prodigy's outsourcing arrangements enable it to rely on the resources of other
companies while drawing on its own experience to manage these services. As a
result, the principal costs of servicing new subscribers, network usage and
telephone customer service are variable and generally increase only as the
subscriber base increases. In addition, Prodigy's e-mail and customer
authentication systems have been developed in-house to support a large number
of customers. Prodigy's existing data hosting facilities have the capacity to
support millions of additional subscribers.

   Fast and Reliable Service. Prodigy Internet offers fast and reliable
Internet connections. Prodigy Internet subscribers have direct Internet access
at speeds of up to 56 kilobits per second.

   Nationwide Network Coverage. The networks used to offer the Prodigy Internet
service cover over 850 cities in all 50 states. The networks can provide dial-
up access, with a local telephone call, to approximately 90% of the households
in the United States. Prodigy also offers network access via an 800 telephone
number for $.10 per minute without an additional enrollment charge. Prodigy
also offers high-speed DSL access in seven states and is negotiating agreements
expected to provide nationwide DSL coverage by the end of 2000.

   Superior Customer Experience. In addition to being easy to use and
personalize, Prodigy believes Prodigy Internet offers a productive and
rewarding customer experience. Prodigy's customer services include toll-free
telephone support, various online support options and an online "members
helping members" program. Prodigy distributes its customer service calls over
multiple outsourcing partners to reduce call waiting times. Prodigy has
developed proprietary filters to limit unsolicited commercial email, or "spam,"
sent by or addressed to subscribers. Prodigy accepts banner advertisements and
sponsorships but does not generate pop-up advertisements which appear on
smaller screens that automatically overlay the user's PC screen. Prodigy also
offers a program that rewards subscribers for their loyalty with points that
can be redeemed for gift certificates at selected retail stores.


                                       5
<PAGE>

Business Strategy

   Prodigy's objectives are to strengthen its position as a leading nationwide
Internet service provider and to expand the range of services it offers and
markets it serves. Key elements of Prodigy's business strategy include:

   Leverage Strong Brand Name. Prodigy intends to increase its brand equity by
promoting the Prodigy brand through increased marketing and advertising
activities. Prodigy is leveraging the Prodigy brand name to expand its customer
acquisition activities, offer new services and enter new markets.

   Introduce New Services. Prodigy is expanding its Web hosting business and
introducing additional Internet-based services. In October 1999, Prodigy
acquired BizOnThe.Net, a Web hosting business which sells Web sites to
customers. The designs of these sites are based on standardized forms and
artwork, which are customized for specific lines of business. Prodigy is
enhancing its ability to obtain and organize customer data to enable targeted
sales and marketing of Internet-based services to existing subscribers. In
addition, Prodigy plans to expand its electronic commerce activities and has
introduced broadband services with Bell Atlantic and Covad.

   Enter New Markets. Prodigy is leveraging its brand recognition to expand
beyond its existing consumer market to include the small business and U.S.
Hispanic markets. Prodigy's services for small businesses include dial-up
Internet access, Web hosting, communications provisioning and related services.
Since January 1999, Prodigy has managed Telmex's Prodigy Internet de Telmex
subscribers in exchange for a management fee. In April 1999, Prodigy introduced
its bilingual Prodigy en Espanol service for U.S. Hispanic consumers.

   Evaluate Acquisition Opportunities. Prodigy evaluates acquisition
opportunities on an ongoing basis. At any given time Prodigy may be engaged in
discussions with respect to possible acquisitions or other business
combinations. Prodigy may seek strategic acquisitions that can complement its
current or planned business activities. The Internet services industry is
expected to undergo substantial consolidation over the next few years, and
Prodigy may also seek to acquire other Internet service providers as an
additional means of customer acquisition or to enter into new markets.

Products and Services

 Prodigy Internet

   Prodigy Internet is an open standards-based Internet access service,
allowing consumers with any computer operating system to access the Internet.
The Prodigy Internet service combines the depth and breadth of the Internet
with the ease of use and organization of a traditional online service. Prodigy
Internet users receive fast and reliable access to the Internet, Prodigy-
branded and partner-branded content and other Prodigy member services.

   The Prodigy Internet service provides subscribers with, among other
services:

  .  direct, high-speed Internet access;

  .  an electronic mailbox enabling subscribers to send and receive an
     unlimited number of text, graphics and multimedia messages;

  .  instant messaging;

  .  space on Prodigy's servers to host a personal Web page; and

  .  Web-based email.

   Prodigy Internet also offers for most Prodigy Internet subscribers:

  .  a personalized home page for each subscriber which includes personalized
     news services through MSNBC, stock portfolios, weather through
     Accuweather, local TV listings and sports scores;

                                       6
<PAGE>

  .  customer service and online member support, including help files,
     tutorials and other online educational tools;

  .  content generated by community members using communication tools such as
     chat, message boards, news groups, bulletin boards and personal Web
     pages; and

  .  access to online transactions on the Web through the Prodigy home page
     and other e-commerce platforms.

   The Prodigy Internet service is compatible with Internet standards and
protocols, allowing use of industry-standard client/server software. Unlike
some online services that use proprietary technologies, Prodigy Internet merges
seamlessly with Web content and can be regularly updated to incorporate
advances in Internet technologies, such as new browsers, RealAudio players and
security devices for electronic commerce. Prodigy Internet is compatible with
the Microsoft Internet Explorer and Netscape Navigator browsers on the Windows
98, Windows 95 and Windows 3.1 operating systems and on Macintosh computers.
Microsoft Internet Explorer is the primary browser shipped on disks that
contain the Prodigy Internet software.

   As of December 31, 1999, there were 1,138,000 billable subscribers to the
Prodigy Internet service.

   The price plans for the Prodigy Internet service vary and are subject to
change. Prodigy Internet's principal price plans currently are:

  .  $19.95 per month for unlimited usage with a 30-day money back guarantee;

  .  a discounted prepaid annual plan of $198 for one year of unlimited
     usage, equivalent to $16.50 per month;

  .  $9.95 per month for three months of unlimited usage, and $19.95 per
     month thereafter;

  .  a free trial for 30 days with unlimited usage, and $19.95 per month
     thereafter;

  .  $21.95 per month for unlimited usage plus five mailboxes; and

  .  $21.95 or $19.95 per month for new customers acquired under contract
     acquisition programs with major PC retailers.

 Other Internet-Based Services

   Prodigy's other Internet-based services include the following:

  .  The shopping tab on Prodigy Internet currently provides links to over
     100 Web-based stores and retailers, including Amazon.com, Reel.com,
     PETsMART, Godiva Chocolate, eToys, uBid, Outpost.com and Omaha Steaks.

  .  In September 1998, Prodigy began offering paging services in partnership
     with SkyTel.

  .  In February 1999, Prodigy announced the launch of Prodigy MailLink, a
     new Web-based e-mail program that allows Prodigy Internet members to
     access their Prodigy e-mail from any PC connected to the Web.

  .  In June 1999, Prodigy rolled out the co-branded marketing of long-
     distance telephone services through Talk.com.

  .  In December 1999, Prodigy announced a relationship with Metris and
     Mastercard to offer a Prodigy Internet Mastercard to Prodigy members.
     The program is scheduled to launch in the second quarter of 2000.

  .  In January 2000, Prodigy announced a relationship with AnyDay.com to
     provide free calendaring and invitation services to its members.


                                       7
<PAGE>

  .  In March 2000, Prodigy announced a relationship with LookSmart to
     provide the LookSmart search engine to its members.

 Business Services

   In October 1999, Prodigy acquired BizOnThe.Net, a Web hosting business, and
combined it with Prodigy's existing Web hosting business. The combined
operation is called Prodigy Biz. The majority of the Prodigy Biz business is
the sale of Web sites with standardized forms and artwork to customers. These
hosting services are sold through telemarketing and offer a simple, easy to use
and understandable Web site to small businesses. A small part of the Prodigy
Biz business is the sale of more complex and sophisticated shared Web hosting
services to small businesses, as developed by the Prodigy Business Solutions
Group before the purchase of BizOnThe.Net. This more sophisticated offering
allows Web hosting customers the ability to design their own Web sites. Prodigy
also offers these Web-hosting customers e-commerce capabilities, which permit
the customer to set up an online store to promote, sell, bill for and collect
payments relating to its products and services.

 Spanish-Speaking and Hispanic Market

   Prodigy markets Internet services to Spanish-speaking and Hispanic customers
in the United States. According to U.S. census data, there are approximately 17
million persons in the United States age 5 or older who speak Spanish at home,
and a total of approximately 28 million U.S. residents are identified as
Hispanic.

   In April 1999, Prodigy launched Prodigy en Espanol, the first completely
bilingual Spanish-English Internet access service offered nationwide in the
United States. Prodigy en Espanol is tailored to meet the needs of the large
and growing Hispanic community in the United States. Prodigy en Espanol
provides the same fast and reliable access to the Internet as Prodigy Internet.
Bilingual options for the customer include enrollment software, the customer
interface, customer service and technical service, allowing Prodigy en Espanol
subscribers the option using either Spanish or English. Content of interest to
the Hispanic community in the United States, and links to web sites with
Spanish language content, are featured on the home page of Prodigy en Espanol.
Prodigy en Espanol subscribers also have access to all of the English content
offered to Prodigy Internet subscribers.

   In April 2000, Prodigy became the exclusive co-branded preferred Internet
service provider for Hispanic Broadcasting Company, a large Spanish-language
radio broadcasting company in the United States, and Prodigy en Espanol will be
the preferred Internet access service featured on Hispanic Broadcasting
Company's radio stations, Web sites and special events. The agreement between
Prodigy and Hispanic Broadcasting Company includes on-air and off-air
promotional time as well as provision for Prodigy to provide hosting services
for Hispanic Broadcasting Company's corporate Internet activities.

   As of December 31, 1999, Prodigy managed approximately 364,000 Prodigy
Internet de Telmex subscribers. See Item 13--"Certain Relationships and Related
Transactions." Telmex is the leading provider of local and long-distance
telephone services in Mexico and is the principal full-service
telecommunications provider in Mexico. Telmex owns the nationwide network of
local telephone lines and the principal public long-distance telephone
transmission facilities in Mexico, and has built a nationwide data transmission
network. Carso Global Telecom currently controls Telmex. Carso Global Telecom
and Telmex are Prodigy's principal shareholders.

 Electronic Commerce

   Prodigy was a pioneer in electronic commerce through its establishment of
standards and creation of applications that facilitated online shopping and
transacting, such as online banking and securities trading. Prodigy currently
has the capability to provide the fundamental elements of electronic commerce--
Web hosting, hosting of intranets/extranets and high-speed dial access, meaning
using the quickest modem available to send and to receive information to and
from the Internet. Prodigy's strategy is to provide its customers with

                                       8
<PAGE>

a bundle of products and services containing everything needed to access the
web and to set up online stores to promote, sell, bill for and collect payments
relating to its products and services. Although e-commerce applications have
not to date generated a material portion of Prodigy's revenues, e-commerce
applications that Prodigy plans to roll out include:

  .  electronic shopping carts;

  .  order processing and tracking;

  .  online billing and payment processing; and

  .  in conjunction with partners, consulting and integration services for
     complex and large electronic commerce sites.

 Broadband Services

   Prodigy's broadband strategy is designed to provide customers with a suite
of Internet access and other Internet-based services in conjunction with
selected technology and marketing partners. Prodigy has entered into agreements
with Bell Atlantic, Southwestern Bell and Covad Communications for the
provisioning of DSL services and is in discussions with others to support
various broadband applications.

Customer Acquisition and Marketing

   Prodigy uses a variety of methods to acquire customers. Prodigy believes
that the strong national brand recognition of the Prodigy name and the
nationwide network used by Prodigy provide it with access to customer
acquisition methods not available to local and regional Internet service
providers.

   The Prodigy Internet service is marketed through a variety of media outlets,
including television, radio and outdoor advertising. The target audiences for
Prodigy Internet are:

  .  purchasers of new desktop consumer PCs;

  .  existing subscribers to online services who may be interested in moving
     to an Internet service provider; and

  .  existing Internet service subscribers who are dissatisfied with their
     current service or attracted to the performance and features of Prodigy
     Internet.

   Prodigy believes that the purchasers of new desktop consumer PCs give
Prodigy effective access to both first-time Internet users, who may be
attracted by Prodigy Internet's ease-of-use, personalized home page customer
service and online assistance, and existing Internet access subscribers who, in
conjunction with the purchase of a new PC, may be willing to switch to Prodigy
Internet. Prodigy believes that consumers in the other target segments listed
above are less likely to switch back from Prodigy Internet to another Internet
service providers, are less price-sensitive and are more receptive to value-
added services.

   Prodigy's marketing efforts position the Prodigy Internet service as the
right Internet choice and as a productivity tool to help users obtain and
communicate information quickly and efficiently. Marketing themes emphasize
that the Prodigy Internet service is superior in terms of:

  .  availability and reliability;

  .  speed--up to 56 kilobits;

  .  technology--a network architecture that places asynchronous transfer
     mode switching devices at local phone access sites instead of
     backhauling the data to a central location;

  .  navigation; and

  .  personalization.

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<PAGE>

   Contract Acquisition Programs. Prodigy has relationships with selected major
PC retailers which enable the retailers to offer rebates to consumers who
purchase new PCs. Under these agreements, Prodigy makes a payment to the
retailer in exchange for the retailer enrolling a customer onto Prodigy
Internet and obtaining a signed contractual commitment from the customer to a
term subscription to Prodigy Internet. These payments range up to $400 for a
term subscription of up to three years.

   PC Bundling. The Prodigy Internet service is bundled with PCs under
arrangements where Prodigy pays a negotiated fee to the PC manufacturer only if
a subscriber enrolls from the PC and continues as a service customer beyond an
introductory period. PC bundling is attractive to Prodigy because the supplier
bears the distribution cost and bundling reaches many more potential
subscribers than through most other acquisition channels. The Prodigy Internet
software is pre-loaded on selected PC models shipped by Hewlett Packard, IBM,
Gateway 2000, Sony and Toshiba.

   Microsoft Relationship. Microsoft includes the Prodigy Internet service in
the online services folder of every copy of the Windows 98 shipped by Microsoft
for sale in retail channels or for loading on new PCs. Prodigy Internet,
Microsoft Network, America Online, CompuServe and AT&T WorldNet are the only
services in the online services folders of Windows 98. Microsoft also includes
Prodigy Internet in Microsoft's Internet service providers Internet Referral
Service Program. Prodigy believes that these arrangements enhance Prodigy's
nationwide brand presence.

   Web-Based. Prodigy maintains a Web site--www.prodigy.com--that provides
Internet users with the opportunity to learn about and enroll in the Prodigy
Internet service. Prodigy believes its television advertising and other
programs help target consumers interested in switching providers.

   Retail. Prodigy has relationships with major retailers in the computer,
software and consumer electronics areas, including Best Buy, Office Depot and
Electronics Boutique. The Prodigy Internet software is currently available at
approximately 6,000 retail stores nationwide. These relationships typically
entitle Prodigy to establish displays containing free software in prime
locations, such as next to cash registers. Prodigy supports these relationships
through the use of bounty programs, cooperative advertising, joint promotional
events and manufacturer development funds.

   Direct. Prodigy pursues targeted audiences in its direct mailing and
telemarketing efforts. Prodigy targets its direct mail to highly-qualified
prospects, such as known Internet users and new PC purchasers. Prodigy's
inbound telemarketing program fulfills customer orders, 24 hours a day, 7 days
a week, 365 days a year, via toll-free telephone numbers--1-800-PRODIGY and 1-
888-PRODIGY--that it promotes widely. Prodigy's outbound telemarketing programs
focus on the reacquisition of recently disconnected members and highly-
qualified prospects. Prodigy outsources its telemarketing services. Prodigy
maintains an online, member-assisted referral program in which existing
subscribers receive cash payments for signing up new members.

   Retention Programs. Prodigy also develops programs to encourage trial
customers to subscribe and improve customer retention. Prodigy designs these
promotions to increase usage, which results in a higher likelihood of
subscribing. In January 1999, Prodigy introduced the Prodigy Points program, a
member loyalty program designed to increase knowledge and usage of the Web for
transactions and other services. Through the Prodigy Points program, Prodigy
members can earn "points" based on usage and redeem points for gift
certificates at selected retail stores. Prodigy plans to extend this program to
travel services and other merchandise, including a free month of Prodigy
Internet service. Prodigy also uses incentives to retain subscribers who might
otherwise cancel service.

Customer Service

   Prodigy designs its customer service programs to increase member
satisfaction and retention, while controlling costs by combining outsourcing
with in-house services. Prodigy believes that its customer service programs,
coupled with a new-release strategy that is sensitive to the concerns of
existing members and

                                       10
<PAGE>

responsive to market trends, have positioned Prodigy to provide customer
support that is cost-effective and that it can expand to accommodate future
growth.

   Telephone Support. Prodigy outsources its telephone support for initial
questions from users to various vendors. Telephone technical support is toll-
free and available twenty-four hours per day, 365 days per year. Customers are
assisted with Prodigy software installation, enrollment questions, account
management concerns, service access problems and disconnect requests. Prodigy
can direct customer calls between vendors on short notice, which Prodigy
believes creates a competitive environment between vendors, resulting in
enhanced quality, performance and pricing. Geographic distribution of call
centers allows for uninterrupted service in the event of regional disasters.
Administrative and billing support is available weekdays from 9:00 a.m. to 9:00
p.m., eastern time.

   In-House Customer Support and Systems. Prodigy maintains an online member
services area that provides a variety of support options to all members,
including real-time chat, instant messaging, news groups, message boards and
email. Prodigy has integrated comprehensive help, tutorials, advisories,
frequently asked questions and tips online. Prodigy also has an online "members
helping members" program, in which selected subscribers receive nominal monthly
compensation in exchange for providing personalized responses to members
posting inquiries on news groups, message boards and chat. Prodigy's customer
service organization monitors customer service vendor performance with
quantitative metrics such as average wait time, first call resolution rate and
abandon rate, and qualitative controls such as call monitoring. Prodigy also
has technically-trained customer service representatives to call subscribers
with unresolved problems.

   Prodigy maintains detailed customer records and documents each customer
support request in a problem tracking system. This system allows recurring
problems to be identified and escalated for resolution. Prodigy maintains a
Web-based database that is accessible by all vendor and employee customer
service representatives on a real-time basis. This database helps ensure
accurate and consistent delivery of customer service regardless of where the
contact is handled.

   Billing. Prodigy outsources its customer billing system and services to CSG
Systems, CSG Systems' billing system is highly customized and flexible and
supports prompt pricing changes. CSG Systems provides credit card and paper
billing, transaction processing and check handling. Prodigy bills a substantial
majority of its current subscribers through pre-authorized credit card charges.
Other subscribers receive invoices.

Technology

   Prodigy has been a technology pioneer in the online industry since its
formation in 1984 and introduced many concepts that would later be adopted for
the Web. Continuing this pioneering heritage in the Internet industry, the
Prodigy Internet service utilizes a standards-based, proprietary service
provider platform and mail server developed by Prodigy.

   Service Provider Platform. The service provider platform is a suite of
functions that creates the infrastructure of a large-scale Internet service
provider. Capabilities include customer profile management, access control,
authentication, billing and customer care interfaces and other functions
necessary to offer large-scale Internet services. The service provider platform
is scalable to millions of subscribers. It is compatible with industry standard
products, such as Netscape and Apache Web servers and Oracle databases. The
service provider platform also interfaces effectively with Prodigy's mail
server. The platform is built to open standards to enable the use of
applications from other suppliers.

     Portal. Highly scalable Web platform for delivery of a personalized
  Internet experience. The platform is compatible with various content feeds.
  Personalization is based on member preference and geographical data.

     Instant Message/Chat. High function system that enables interactive and
  real-time communication between members.

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<PAGE>

     Community Platform. Various tools and systems that enable and promote
  communities on the Prodigy Internet service, including a bulletin board
  platform and an email-list platform. The email-list platform is capable of
  supporting custom domains, and delegated administration making it possible
  for Prodigy to leverage it not only for communities, but also for the small
  business Web hosting line of business.

     Alerts. A real-time notification system that is capable of alerting
  Prodigy members to various interesting events, such as arrival of certain
  emails, stock and Usenet alerts. The system is highly scalable and
  extensible to various content and alert feeds.

     Web-Hosting Platform. High scalable and functional system for hosting
  small business Web sites. The system is compatible with e-commerce
  applications and various Web publishing tools. The system also provides
  small business users with custom email domains and mailboxes, as well 56
  kilobits dial capabilities.

   Mail Server. The Prodigy Internet service uses a scalable, reliable Internet
mail server. The mail server draws on the fault-tolerance and scalability
provided by the underlying Oracle database to offer flexibility, ease of
operation and scalability. Prodigy's mail server supports standard Internet
protocols. The mail system also provides:

     Tools for Administrators. Welcome messages; bulk mailers; quota controls
  by realm, domain, household, small business or individual account; tools to
  manage spam; and operational scripts and tools.

     Tools for Users. User-configured filters for prioritization and spam
  removal. Messages can contain any number of attachments through technology
  which allows the user to send and receive graphics, audio and video files
  via the Internet, up to a size limitation of 10 megabytes per mailbox. The
  mail system delivers messages without promotional tag lines.

     Features for Business Customers. Support for multiple domains, which
  enables Prodigy Internet to operate multiple Internet services under
  different brands on the same system base and an off-site administrator to
  control enterprise mailboxes.

     Configuration and Provisioning Interfaces. The system supports a
  standard administrative interface that provides configuration and control
  of the mail system from external systems or via a hypertext markup language
  screen. Standard application programming interfaces, interface the system
  to external databases for user authentication and mailbox provisioning.

     Scaling Ability. The system is designed to scale to millions of
  mailboxes with an architecture that supports hardware and data redundancy.

Network and Related Infrastructure

   Subscribers access Prodigy's services by connecting to a network with their
PCs using local, toll-free or long distance telephone service. The network
connects subscribers' PCs to the Internet and to Prodigy's hosting servers. The
hosting servers store some of the data accessed during subscriber sessions.
Network connections are made through communications hardware, such as telephone
lines, routers, switches and modems. These direct data and enable communication
among a variety of computer operating systems. The network used for the Prodigy
Internet service is built to Internet standards. Prodigy outsources its
consumer dialup network functions to Splitrock, Navinet and AT&T.

 Network Architecture

   The network infrastructure used by Prodigy Internet consists of three
primary tiers: local phone access sites; a middle tier, which connects local
phone access sites to regional hubs; and a backbone tier, which

                                       12
<PAGE>

connects the regional hubs to the Internet or Prodigy's data hosting center.
The network currently includes over 750 local phone access sites nationwide and
has the capability to provide dial-up access, with a local telephone call, to
approximately 90% of the households in the United States. Prodigy also offers
access to the Splitrock network via an 800 telephone number for $.10 per minute
without an additional enrollment charge. Over 750 local phone access sites
currently provide 56 kilobits access to Prodigy Internet subscribers having
modems of that speed. All of the local phone access sites that provide 56
kilobits access are V.90 supported.

 Data Hosting Center

   Prodigy's data hosting center, located in Yorktown Heights, New York, houses
approximately 400 high-capacity servers to store content and other data. The
data center contains a mainframe complex that supports business support systems
such as subscriber session accounting and reporting and high-capacity servers
for customer service support systems and business accounting. Prodigy's data
center hosts a variety of applications that are scalable to millions of users.
The use of standard interfaces allows integration of products offered by a
broad spectrum of vendors, including IBM, Microsoft and Netscape. Supported
operating system platforms include UNIX/AIX, Windows(R) NT and OS/390, and
installed database products include Oracle and DB2.

   Prodigy has equipped its data hosting center with triple redundant power
systems and housed it in a climate and humidity controlled environment. Prodigy
has installed both battery and diesel power backup systems to preclude outages.
All production host systems have backup processors or are designed to be fault
tolerant, and all critical data is backed up to tape daily. Prodigy physically
secures facilities and data by incrementally restrictive card key locks. Built-
in operating system security features provide logical data security. The
facility uses firewall technology to protect critical systems. Prodigy has
installed servers that are open directly to the Internet on a separate network.
In addition, the facility uses anti-hacking measures.

 Reliability and Availability

   Reliability and availability are key objectives of Prodigy's network and
hosting configurations. Prodigy accumulates and analyzes statistics on each
access line. Lines exhibiting quality problems are removed from service and
referred for repair. When possible, problem lines are immediately replaced with
lines from other vendors. In addition, Prodigy has integrated Inverse's IP
Insight product into the Prodigy Internet software, allowing Prodigy to gather
data on the actual connection experiences of subscribers who have agreed to
have their connection experiences measured. Prodigy reports problem sites to
the network provider for action.

   At Prodigy's data hosting center, Prodigy operates a 24x7 operations control
center. Where feasible, Prodigy distributes the telephone lines among multiple
modem subsystems and access servers to provide diversity. The hosting center
connects to the backbone via diversely routed, multi-vendor DS3 lines.

Principal Outsourcing Arrangements

 Splitrock

   Prodigy owned and operated its own network in the United States until July
1, 1997. Effective July 1, 1997, Prodigy conveyed its network assets to
Splitrock in exchange for Splitrock's agreement to build and operate a network,
hire all Prodigy employees engaged in Prodigy's network operations and assume
various local phone access site leases and other liabilities. Splitrock is
required to provide dial-up network access in all locations in which Prodigy
provided dial-up service as of June 30, 1997. Prodigy may require additional
sites to be added if it meets designated coverage and usage parameters.
Splitrock may also provide access to the network to other customers. Splitrock
is required to provide a backbone network based on technology and is required
to support transmission via Serial Line Internet Protocol, Point-to-Point
Protocol and TCP/IP.

   Splitrock is required to meet specified service levels. Splitrock's failure
to meet the specified service level objectives will result in financial
penalties. If Splitrock fails to meet specified service levels for an extended

                                       13
<PAGE>

period, Prodigy may terminate the agreement. In addition, if there is a system-
wide failure, Prodigy will have the right to terminate the agreement or assume
responsibility for operating the network at Splitrock's expense.

   Splitrock charges Prodigy a monthly fee per subscriber for usage by
Prodigy's subscribers. If the average hourly usage by Prodigy's subscribers in
any month exceeds a set threshold, Prodigy must pay Splitrock an additional
amount per hour in excess of the threshold. The agreement includes minimum
monthly charges. Prodigy may terminate the agreement at any time upon payment
of an early termination charge.

   The agreement, as amended, will expire as December 31, 2001 and is subject
to automatic renewal for successive one-year terms unless terminated by either
party on 12 months' notice. Until termination of the agreement, Prodigy has
agreed that Splitrock will be Prodigy's primary provider of network services.
During this period, Prodigy must give Splitrock advance notice of, and the
opportunity to discuss with Prodigy, any forms of service access, other than
network access, that Prodigy wishes to pursue in the United States.

 CSG Systems

   Prodigy outsources its customer billing to CSG Systems. CSG Systems is a
leading provider of customer care and billing services for telecommunications
providers, including many of the largest cable television and direct broadcast
satellite providers. Prodigy and CSG Systems have agreed that CSG Systems is
Prodigy's exclusive provider of billing services for the Prodigy Internet
service, but not for premium or other billing services. CSG Systems charges
Prodigy a monthly fee based on the number of subscribers, subject to a minimum
charge, and a monthly minimum fee for ongoing development and support. The
agreement between Prodigy and CSG Systems expires June 30, 2001.

Competition

   The industry in which Prodigy competes is intensely competitive and includes
many significant participants. These participants include:

  .  Internet service providers;

  .  proprietary online service providers;

  .  ultra high-speed service providers;

  .  major international telecommunications companies;

  .  wireless communications companies;

  .  Internet-search services; and

  .  various other telecommunications companies.

   There are more than 5,000 Internet service providers in the United States,
most of which operate small, local businesses. Additional regional telephone
operating companies, long-distance carriers and cable companies may also enter
the market. Internet-search service companies and major telecommunications
companies have established various partnering arrangements, which could result
in increased competition for Prodigy. Moreover, Prodigy faces competition from
companies that provide broadband connections to households, including local and
long-distance telephone companies, cable television companies and electric
utility companies. Broadband technologies offer significantly faster Internet
access than conventional modems, and the above-listed companies could include
Internet access in their basic service packages, could offer access for a
nominal additional charge or could prevent Prodigy from delivering Internet
access through the cable or wire connections that they own. Some competitors,
such as NetZero, offer free Internet access services.

   Among the larger providers of Internet service providers services are
EarthLink, which has merged with MindSpring, Microsoft Network, AT&T WorldNet,
MCI Internet, IBM Internet Connection, PSINet, GTE

                                       14
<PAGE>

Internetworking and Concentric Network Corporation. Microsoft's ownership of
the dominant PC operating system and the Microsoft Internet Explorer browser
may give Microsoft Network certain competitive advantages, including
distribution and marketing synergies. Prodigy also competes with America
Online, which offers the America Online and CompuServe proprietary online
services over closed networks and Internet access.

   Prodigy believes that the principal competitive factors in the Internet
service provider industry are speed and reliability of access, ease of use,
brand name recognition, network coverage, customer service and price. Prodigy
believes that it competes effectively on the basis of these factors.

Government Regulation

   Internet access and online services are not subject to direct regulation in
the United States. Changes in the laws and regulations relating to the
telecommunications and media industry, however, could impact Prodigy's
business. For example, the Federal Communications Commission could begin to
regulate the Internet and online services industry, which could result in
increased costs for Prodigy.

   The federal Child Online Protection Act, enacted in October 1998, creates
criminal penalties for content on the Internet that may be deemed harmful to
minors. Prodigy has not changed any of its plans or policies as a result of
this statute, and does not believe its current plans or policies violate this
statute. In February 1999, a federal judge enjoined this statute. The federal
Children's Online Privacy Act, also enacted in October 1998 and effective no
earlier than April 2000, will regulate the collection of personal information
from children by commercial Web site operators. Prodigy believes its plans and
policies will enable it to comply with the statute. There also are laws that
make it illegal to traffic in obscene or child pornographic materials,
including by a computer.

   In addition, the applicability to Prodigy of existing laws governing issues,
such as intellectual property ownership, defamation, access to the Internet for
the disabled and personal privacy is uncertain. Courts have indicated that
online service providers and Internet service providers could be held
responsible for the publication of defamatory material or for failure to
prevent the distribution of material that infringes copyrights. Further, the
applicability to Prodigy of international laws and regulations governing the
Internet is also uncertain.

   Prodigy does not edit or otherwise monitor the content accessed by
subscribers to Prodigy Internet. In addition, Prodigy blocks access to news
groups that carry child pornography.

   In March 1997, Prodigy entered into a consent order with the Federal Trade
Commission, which became effective in March 1998, regarding use of the word
"free" and similar words in advertising, disclosure of the financial terms and
conditions of services, including method of cancellation, practices with
respect to electronic funds transfers and related matters. The consent order
has a duration of twenty years and imposes various record keeping requirements.
Prodigy believes that it is in compliance with the consent order and that its
continuing compliance with the order will not have a negative affect on
Prodigy. America Online is subject to a similar consent order that governs its
marketing of services under both the American Online and CompuServe brands.

   In connection with the acquisition of BizOnThe.Net from U.S. Republic,
Prodigy became subject to an agreement between U.S. Republic and the Federal
Trade Commission that became final through a court order in November 1999. The
agreement requires full disclosure of "free" trial offers and cancellation
obligations, the verification of direct-to-phone-bill orders, clear
communication of the submission process and probable placement of customer Web
sites on search engines and various record keeping requirements. Prodigy
believes that it is in compliance with the agreement and that its continuing
compliance will not negatively affect Prodigy's business.


                                       15
<PAGE>

Proprietary Rights

   Prodigy owns a variety of trademarks, including "Prodigy(R)", the Prodigy
globe logo, the Prodigy Internet logo, "Prodigy Internet", "Are you a
Prodigy?", "Prodigy MailLink" and others, many of which are the subject of
existing or pending registrations in the United States and various foreign
countries. Prodigy also owns other intellectual property rights, including
proprietary software used in its business. Prodigy protects its proprietary
technology through copyright and trade secrets laws, employee and third-party
confidentiality agreements and other methods.

   Prodigy and IBM have licensed each other's entire patent portfolios existing
as of June 17, 1996 and all additional patents issued with respect to patent
applications filed prior to June 1, 1999. Until June 17, 2001, Prodigy is
required to grant IBM most favored nation status with respect to Prodigy's
software that it makes generally available to the public, meaning IBM can
obtain the software on terms no less favorable than any other company.

Employees

   At March 31, 2000, Prodigy had 438 full-time employees, of whom 63 were in
sales and marketing, 166 were in technology and product development, 123 were
in customer service, and 86 were in management, finance and administration. As
necessary, Prodigy supplements its regular employees with temporary and
contract personnel, which totaled 130 persons at March 31, 2000.

   None of Prodigy's employees is represented by a labor union. Prodigy
believes that its employee relations are good.

Pending Transactions

SBC

 Overview and Structure of the SBC Transaction

   On November 22, 1999, Prodigy and SBC announced that they had agreed to
establish a strategic relationship in which:

  .  SBC will acquire an approximate 43% indirect interest in Prodigy;

  .  Prodigy will be the exclusive retail Internet service marketed by SBC to
     consumers and small businesses in the United States;

  .  SBC will purchase the Prodigy Internet service from Prodigy on wholesale
     terms and provide it to SBC's approximately 690,000 existing Internet
     subscribers--the wholesale price to be paid by SBC to Prodigy for the
     Prodigy Internet service that SBC will resell to its existing Internet
     subscribers will equal SBC's average retail price as of the closing less
     reasonable and necessary expenses actually incurred by SBC in serving
     its existing Internet subscribers;

  .  SBC has committed to obtain for Prodigy 1,200,000 additional Internet
     subscribers over a three-year period--all new subscribers obtained for
     Prodigy by SBC will be Prodigy subscribers;

  .  Prodigy has agreed to pay SBC a fee of between $40 and $75 for each
     subscriber obtained by SBC;

  .  SBC has agreed to pay Prodigy a penalty, under a specified formula, if
     SBC does not obtain 1,200,000 additional Internet subscribers for
     Prodigy over the three-year period, with the size of the penalty based
     on the number of subscribers actually obtained by SBC who pay at least
     one monthly bill from Prodigy--for example, the penalty will range from
     $165,000,000 if SBC acquires no new subscribers for Prodigy, to
     $105,000,000 if SBC acquires 600,000 new subscribers for Prodigy, to no
     penalty if SBC acquires 1,200,000 new subscribers for Prodigy;


                                       16
<PAGE>

  .  SBC will have the exclusive right to market its long-distance phone
     service, local phone service, wireless phone services, paging services
     and related calling services to Prodigy's subscribers, so long as SBC's
     service offerings are competitive with service offerings from other
     providers;

  .  SBC will be Prodigy's exclusive network provider so long as SBC offers
     its network services to Prodigy at the most favorable rates that it
     offers to other similar purchasers, so long as SBC's terms are
     competitive with those offered by other providers;

  .  SBC will have the exclusive right to provide telecommunications,
     advertising, telecommunications e-commerce and Internet telephony
     applications in conjunction with the Prodigy Internet service to
     Prodigy's subscribers, so long as SBC's terms are competitive with those
     offered by other providers; and

  .  SBC will be the exclusive provider of electronic yellow and white pages
     and city guides to Prodigy's subscribers.

   SBC's exclusive rights described in the three preceding bullet points will
be subject to Prodigy's existing agreements with other providers. Prodigy
currently has agreements with other providers of network, telecommunications
and related services. These agreements will not be affected by the SBC's
transaction. When these agreements terminate, SBC's exclusive rights described
above will apply.

 In order to implement our strategic relationship with SBC:

  .  Prodigy will contribute substantially all of its assets and liabilities
     and transfer its employees to the operating partnership;

  .  SBC will contribute to the operating partnership routers, servers and
     associated hardware used in connection with SBC's consumer and small
     business Internet operations and that are selected by Prodigy because
     Prodigy determines that they will be useful in connection with the
     provision of services to SBC's customers and Prodigy's customers after
     the closing;

  .  SBC will contribute to the operating partnership intangible assets
     consisting primarily of royalty-free licenses to use SBC's trademarks in
     connection with the marketing and operation of the Prodigy Internet
     service and Prodigy's right to manage SBC's existing Internet customers;

  .  Prodigy will receive an initial interest in the operating partnership of
     approximately 57%;

  .  SBC will receive an initial interest in the operating partnership of
     approximately 43%; and

  .  SBC may convert its interest in the operating partnership into a direct
     equity interest in Prodigy at any time, or may require the operating
     partnership to be merged into Prodigy at any time.

   As a result of this structure, Prodigy will become a holding company and its
principal asset will be its interest in the operating partnership. Upon the
liquidation of the operating partnership, the assets contributed by Prodigy and
SBC will be distributed to them after payment of the operating partnership's
liabilities.

 Following the SBC transaction, Prodigy will:

  .  provide the Prodigy Internet service to SBC's existing Internet
     subscribers;

  .  continue to provide the Prodigy Internet service to Prodigy's current
     subscribers;

  .  obtain additional Prodigy Internet subscribers through SBC's marketing
     efforts; and

  .  continue to obtain new Prodigy Internet subscribers through Prodigy's
     existing and new channels on a nationwide basis.

   At the closing, Prodigy will also issue to the SBC subsidiary one share of
Prodigy Class B common stock in consideration of $100. Prodigy Class B common
stock will be convertible at any time, on a one-for-one

                                       17
<PAGE>

basis, into the same number of shares of Prodigy Class A common stock. When
transferred to any person or entity not affiliated with SBC, Prodigy Class B
common stock will automatically convert into Prodigy Class A common stock. Only
one share of Class B common stock will be authorized for issuance and Prodigy
does not anticipate issuing any additional shares of Class B common stock to
SBC or anyone else. As part of its strategic relationship with SBC, Prodigy
will also amend its certificate of incorporation and by-laws to implement the
following corporate governance arrangements:

  .  SBC will have the right to appoint three Prodigy directors;

  .  Carso Global Telecom and Telmex, Prodigy's current principal
     stockholders, will have the right to appoint three Prodigy directors;

  .  Prodigy's other three directors will be its chief executive officer and
     two independent directors;

  .  Prodigy's board will establish a new executive steering committee, which
     must approve all major corporate actions prior to being submitted to the
     board for consideration; and

  .  SBC will have the right to appoint two members of the executive steering
     committee and Carso Global Telecom an Telmex will have the right to
     appoint the other two members of the executive steering committee.

 As a result of the SBC transaction:

  .  Prodigy will be a holding company;

  .  Prodigy's sole assets will consist of the approximate 57% interest in
     the operating partnership and rights under stock-related agreements and
     plans;

  .  Prodigy's sole business will be to act as the general partner of the
     operating partnership;

  .  Prodigy will become an affiliate of SBC and will become subject to the
     restrictions imposed on affiliates of Bell operating companies under the
     federal Communications Act.

 Rights of Prodigy Stockholders Following the SBC Transaction

   Prodigy's stockholders, including FlashNet's former shareholders if the
FlashNet merger is completed, will exchange their Prodigy common stock for
Prodigy Class A common stock. Prodigy Class A common stock will be listed on
the Nasdaq National Market and will be freely tradeable to the same extent as
Prodigy common stock formerly was. Holders of Prodigy Class A common stock will
generally have rights identical to holders of Prodigy Class B common stock,
except that:

  .  each holder of Prodigy Class A common stock will be entitled to one vote
     per share; and

  .  the SBC subsidiary that holds Prodigy Class B common stock will be
     entitled to one vote for the share of Prodigy Class B common stock held
     by it and one vote for each unit in the operating partnership not held
     by Prodigy.

   SBC will have the right to directly elect three of Prodigy's nine directors.
Otherwise, holders of Prodigy Class A common stock and Prodigy Class B common
stock generally will vote together as a single class on all matters, including
the election of the directors who are not elected directly by SBC. SBC, as
holder of Prodigy Class B common stock, may approve a merger of the operating
partnership into Prodigy by a vote of at least 75% of Prodigy Class B common
stock without a vote of the holders of Prodigy Class A common stock.

 Governance of Prodigy and the Operating Partnership Following the SBC
 Transaction

   As sole general partner of the operating partnership, Prodigy will have
unilateral control over all of the affairs and decision making of the operating
partnership. As the sole general partner, Prodigy will be responsible for
nearly all operational and administrative decisions of the operating
partnership and the day-to-

                                       18
<PAGE>

day management of the operating partnership's business. With some exceptions,
Prodigy cannot be removed as the sole general partner of the operating
partnership and the operating partnership cannot be dissolved without Prodigy's
approval.

   Upon issuance of the units and Prodigy Class B common stock to the SBC
subsidiary, the number of units owned by Prodigy will equal the number of
outstanding shares of Prodigy common stock. After the closing, the number of
units owned by Prodigy is intended to be at all times equal to the number of
shares of outstanding common stock of Prodigy. The net cash proceeds received
by Prodigy from any issuance of shares of common stock, such as from the
exercise of options and warrants, will be concurrently transferred to the
operating partnership in exchange for units equal in number to the number of
shares of Prodigy common stock issued by Prodigy.

   Following the SBC transaction, Prodigy's board of directors will consist of
nine members:

  .  three directors elected by SBC;

  .  three directors designated by Carso Global Telecom and Telmex;

  .  Prodigy's chief executive officer; and

  .  two independent directors.

   Following the SBC transaction, Prodigy will establish an executive steering
committee of the board of directors. This committee will consist of four
members, two of whom will be selected by the directors elected by SBC and two
of whom will be selected by the directors designated by Carso Global Telecom
and Telmex. The purpose of the committee will be to evaluate all major
corporate actions of Prodigy and its subsidiaries, such as mergers,
acquisitions, capital expenditures or borrowings in excess of $20,000,000. The
executive steering committee must approve major corporate actions before it
submits them to the board of directors of Prodigy for approval.

 Directors of Prodigy Following the SBC Transaction

   Samer F. Salameh, as Prodigy's current chief executive officer, will remain
a director upon completion of the SBC transaction. Carso Global Telecom and
Telmex have indicated to Prodigy that two of their designees to Prodigy's board
will be James M. Nakfoor and Jaime Chico Pardo, whose biography appears below,
but that they have not yet selected their third designee. SBC has indicated to
Prodigy that its three designees to Prodigy's board will be James D. Gallemore,
James S. Kahan and Charles J. Roesslein, whose biographies appear below. Carso
Global Telecom, Telmex and SBC have not yet indicated to Prodigy who their
representatives on the executive steering committee will be. Prodigy expects
that Allen Craft, Arturo Elias and Alfredo Sanchez will resign as directors
upon completion of the SBC transaction. Prodigy intends to appoint two
independent directors within ninety days after completion of the SBC
transaction. As a result, FlashNet stockholders should understand that the
composition of the Prodigy board of directors following completion of the SBC
transaction will be significantly different than the directors elected at the
annual meeting.

   Jaime Chico Pardo, age 50, currently serves as vice chairman and chief
executive officer of Telmex, which he joined as chief executive officer in
1995. From 1993 to 1995, Mr. Chico Pardo was president and chief executive
officer of Grupo Condumex, S.A. de C.V., a manufacturer of products for the
construction, automobile and telecommunications industries. Mr. Chico Pardo is
also vice chairman of Carso Global Telecom and a director of Grupo Carso and
Grupo Financiero Inbursa, both of which are affiliated with Carso Global
Telecom. He also serves as a director of Honeywell International Inc., a
diversified technology and manufacturing company.

   James D. Gallemore, age 48, has served as executive vice president--SBC
Strategic Marketing & Planning of SBC Operations, Inc. since April 1997.
Previously, he was vice president--marketing for Southwestern Bell Operations
from 1995 until April 1997. He served as vice president--marketing of

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<PAGE>

Southwestern Bell Telephone from 1994 to 1995 and as its assistant vice
president--marketing from 1992 to 1994. From 1973 to 1992, he held various
marketing and sales positions with SBC companies.

   James S. Kahan, age 52, has been employed by various SBC affiliates since
1983. He has served as SBC's senior executive vice president--corporate
development since October 1999. He was SBC's senior vice president--corporate
development from 1992 to October 1999. Previously, he was managing director--
corporate development from 1988 to 1992. Mr. Kahan is also a director of Bell
Canada and Amdocs Ltd., a leading provider of product-driven information system
solutions to major telecommunications companies.

   Charles J. Roesslein, age 51, has served as a senior vice president of SBC
since March 2000. From October 1999 to March 2000, he was president-SBC CATV,
responsible for SBC's cable television operations at Ameritech and Southern New
England Telephone. From 1997 to 1999, Mr. Roesslein was president and chief
executive officer of SBC Technology Resources, responsible for the development
of SBC's long-term technology strategies. He was vice president-information
services of Southwestern Bell Telephone Company and vice president-chief
information officer for SBC Services, Inc. from 1995 to 1997, except for the
period from October 1996 to August, 1997, when he served as SBC's vice
president-strategic planning. From 1990 to 1994, Mr. Roesslein served as vice
president-chief financial officer and treasurer for Southwestern Bell Telephone
Company. Previously he held a variety of network, strategic planning, corporate
development and finance positions with SBC companies, dating back to 1970.

 Impact of Failure to Complete SBC Transaction

   If the SBC transaction is not completed, Prodigy's business would be
significantly different. Failure to complete the SBC transactions would mean
that Prodigy would not acquire access to SBC's existing subscribers and would
not have the benefit of the strategic and marketing agreement, under which SBC
has committed to deliver an additional 1,200,000 subscribers and to market
Prodigy Internet as its exclusive consumer service for the term of the
agreement. As a result, the failure to complete the SBC transaction would
adversely impact Prodigy's ability to become a leading provider of high speed
DSL Internet access services and would also adversely affect Prodigy's ability
to increase its non-subscription revenue. Please see Item 12 "Security
Ownership of Certain Beneficial Owners and Management" for a comparison of the
ownership of Prodigy if the SBC transaction is not completed.

Flashnet

   On November 5, 1999, Prodigy announced a definitive agreement to acquire
FlashNet Communications in a stock-for-stock merger pursuant to which Prodigy
will issue 0.35 of a share of Prodigy common stock for each share of FlashNet
common stock outstanding immediately prior to the close of the merger. In
addition Prodigy will assume all FlashNet stock options and warrants
outstanding upon the close of the merger. Prodigy expects to issue
approximately 5,000,000 shares of Prodigy common stock in the merger. Upon
completion of the merger, FlashNet shareholders will own approximately 7.6% of
Prodigy's outstanding common stock. Following completion of the SBC
transaction, FlashNet shareholders will own 4.6% of Prodigy and SBC will own
approximately 39.4% of Prodigy.

ITEM 2. PROPERTIES

   Prodigy leases 97,000 square feet of office space in White Plains, New York.
The lease expires December 31, 2004 and Prodigy has the right to offer to
extend the lease on expiration. The current annual base rent is $2,330,000 and
Prodigy is required to pay an allocated portion of taxes and operating
expenses. Prodigy has established a letter of credit in the initial amount of
$3,930,000 to secure the rent payments.

   Prodigy also leases 80,000 square feet in Yorktown Heights. The lease
expires February 28, 2001 with two five-year renewal options in Prodigy's
favor. The current annual base rent is $764,000 and Prodigy is required to pay
associated taxes and operating expenses.

                                       20
<PAGE>

   Prodigy leases approximately 20,000 square feet of office space in Stafford,
Texas under a lease expiring on September 14, 2003. The current annual base
rent is $69,000.

   Prodigy believes that its existing facilities are adequate for its current
needs and that suitable additional space will be available as needed.

ITEM 3. LEGAL PROCEEDINGS

   In September 1998, Prodigy received a letter from the Office of the Attorney
General of New York notifying Prodigy that the Attorneys General of New York
and 19 other states were investigating the "advertising and certain other
practices" of Prodigy and other unnamed Internet service providers. The letter
stated that the inquiry was a follow-up to the settlement between America
Online and many states in May 1998 concerning the following issues:

  .  disclosures for free offers;

  .  representations concerning pricing;

  .  disclosures concerning premium areas;

  .  disclosures for communications charges;

  .  advertising to minors;

  .  cancellation procedures; and

  .  unauthorized charges to credit cards or bank accounts and changes to the
     service agreement.

   The letter requested that Prodigy voluntarily supply various documents and
other information relating to the marketing and provision of its services.
Prodigy has submitted all requested materials. Since July 1999, Prodigy has
allowed the State of New York to share the documents and information submitted
in response to this inquiry with a number of additional states. No legal action
has been initiated against Prodigy as a result of the investigation.

   On March 31, 2000, Giovanni R. Viana filed a class action lawsuit against
Prodigy in the 11th Judicial Circuit Court for Dade County, Florida. This class
action lawsuit arises out of the Best Buy mail-in rebate program. The plaintiff
alleges Prodigy violated Florida's Unfair Trade Practices Act when it
represented it would provide rebates and failed to do so. In addition, the
complaint contains a breach of contract claim for failure to pay the rebates.
The plaintiff seeks damages under the breach of contract claim not to exceed
$75,000 per member of the class, as well as actual damages plus attorneys' fees
and litigation costs. Given the early stage of this litigation, no prediction
as to its outcome can be made.

   On February 24, 2000, Prodigy was served with a summons and complaint by
Carroll Wesley Chance in a class action lawsuit brought against Best Buy,
Prodigy and Young America in the State Court of Richmond County, State of
Georgia. The case was brought on behalf of the class of similarly situated
consumers who purchased a computer at Best Buy, enrolled in the Prodigy
Internet service under the rebate program and did not receive a rebate check.
The complaint alleges breach of contract, unjust enrichment, conversion and
negligence. The plaintiffs seek damages not to exceed $74,900 per member of the
class, including actual damages, rebates, interest, punitive damages, court
costs and litigation expenses. Given the early stage of this litigation, no
prediction as to its outcome can be made.

   On January 10, 2000, Christa Roberts filed a class action lawsuit in the
Superior Court of the State of California, County of Los Angeles, against
Prodigy, America Online, Circuit City Stores, Fry's Electronic, Microsoft and
other unnamed parties. On February 7, 2000, the plaintiff filed an amended
complaint naming Young H. Kim as the named plaintiff in place of Christa
Roberts. Prodigy has received a copy of the summons and complaint but has not
been properly served in the lawsuit. The lawsuit alleges that Prodigy and the
other

                                       21
<PAGE>

defendants offered rebates to consumers and entered into retail sales contracts
with consumers which violated California law and engaged in false advertising.
The plaintiff is seeking restitution from the defendants of all sums related to
this conduct. Given the early stage of this litigation, no prediction as to its
outcome can be made.

   On October 2, 1999, Irwin Sales filed a lawsuit against Prodigy in the
United States District Court of the Southern District of New York. The lawsuit
alleges that Prodigy breached an independent contractor agreement with the
plaintiff and engaged in fraud arising out of it. The plaintiff seeks
$25,000,000 in damages for the contract claim and $50,000,000 in damages for
the fraud claim. On January 5, 2000 Prodigy served its answer. On February 1,
2000, the plaintiff filed an amended complaint, and, on February 25, 2000,
Prodigy filed a motion to dismiss the plaintiffs fraud claim. Prodigy believes
it has meritorious defenses to the claims and intends to vigorously contest
them.

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

   No matters were submitted to a vote of security holders during the fourth
quarter of the fiscal year covered by this report.


                                       22
<PAGE>

                                    PART II.

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

Market Information and Holders

   Prodigy common stock has traded on the Nasdaq National Market under the
symbol "PRGY" since February 11, 1999. The table below sets forth, for the
periods indicated, the high and low sale prices of Prodigy common stock as
reported on the Nasdaq National Market.

<TABLE>
<CAPTION>
                                                                   Prodigy
                                                                Common Stock
                                                              -----------------
                                                                High     Low
                                                              -------- --------
<S>                                                           <C>      <C>
Quarter ended March 31, 1999................................. $ 50.625 $  20.00
Quarter ended June 30, 1999.................................. $  41.25 $21.0625
Quarter ended September 30, 1999............................. $ 28.625 $  14.00
Quarter ended December 31, 1999.............................. $35.4375 $  16.00
</TABLE>

   As of December 31, 1999, there were 64,502,608 shares of common stock issued
and outstanding and held of record by 539 record holders. This number does not
include stockholders who hold the stock in "street name" through brokers or
nominees.

Dividends

   Prodigy has never declared or paid cash dividends on Prodigy common stock.
Prodigy currently intends to retain earnings, if any, to support its growth
strategy and does not anticipate paying cash dividends in the foreseeable
future. Payment of future dividends, if any, will be at the discretion of the
Prodigy board of directors after taking into account various factors, including
Prodigy's financial condition, operating results, current and anticipated cash
needs and plans for expansion.

Recent Sales of Unregistered Securities

   On October 5, 1999, in partial consideration of our acquisition of the
BizOnThe.Net Web hosting business of U.S. Republic Communications, Prodigy
issued 2,840,993 shares of our common stock to U.S. Republic, including 727,272
shares held in an escrow account to secure the indemnification obligations of
U.S. Republic and its stockholders. The shares issued in the U.S. Republic
transaction were offered and sold in reliance upon exemptions set forth in
Sections 3(b) and 4(2) of the Securities Act of 1933, or Regulation D
promulgated thereunder, relating to sales by an issuer not involving a public
offering. No underwriters or placement agents were involved in the foregoing
issuance of shares.

ITEM 6. SELECTED FINANCIAL DATA

   The following data contains selected consolidated financial information and
other data for Prodigy and its predecessor business, Prodigy Services Company.
The selected consolidated financial data for Prodigy for each of the years
1995-1999 has been derived from Prodigy's annual consolidated financial
statements, including the consolidated balance sheets at December 31, 1998 and
1999 and the related consolidated statements of operations and of cash flows
for the three years ended December 31, 1999 and accompanying notes appearing
elsewhere in this document.

   Please read this information in conjunction with Item 7. "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
Prodigy's consolidated financial statements and accompanying notes included
elsewhere in this document.


                                       23
<PAGE>

    Selected Historical Condensed Consolidated Financial Information of Prodigy
         (in millions, except number of billable subscribers and per share
                                  information)

<TABLE>
<CAPTION>
                                            Year Ended December 31,
                                   --------------------------------------------
                                   1995(1)(4) 1996(4)   1997     1998   1999(2)
                                   ---------- -------  -------  ------  -------
<S>                                <C>        <C>      <C>      <C>     <C>
Consolidated Statement of
 Operations Data:
Revenues
Internet and online service
 revenues........................    $        $ 90.7   $ 128.3  $128.9  $169.8
Other............................                8.2       5.9     7.2    19.2
                                     ------   ------   -------  ------  ------
Total Revenues...................               98.9     134.2   136.1   189.0
Operating costs and expenses
 Costs of revenue................    $  0.1     66.3      92.0    93.3   102.2
Sales and marketing..............               20.7      59.6    41.7    58.9
Product development..............                4.8      11.4    10.9    12.3
General and administrative.......       3.0     49.8      56.3    44.6    61.7
Depreciation and amortization....               12.3      21.4    16.1    21.8
Amortization of subscriber
 acquisition costs...............                                         20.4
Acquired incomplete technology...               20.9
Restructuring and other special
 costs...........................                3.1       9.9
Write-down of assets held for
 sale............................                          2.4
Loss on sale of cellular assets..                          0.8
                                     ------   ------   -------  ------  ------
 Total operating costs and
  expenses.......................       3.1    177.9     253.8   206.6   277.3
                                     ------   ------   -------  ------  ------
Operating loss...................      (3.1)   (79.0)   (119.6)  (70.5)  (88.3)
(Loss) on equity investment in
 joint venture...................               (0.5)    (12.1)
Gain on asset sale...............                                  5.2
(Write-down) recovery of equity
 investments.....................               (9.1)      0.3
Interest (expense) income, net...               (2.2)     (1.4)    0.2     2.3
Gain on sale of equity
 investment......................                                          3.3
Gain on settlement of note
 receivable......................                                          0.5
Gain on settlement of note
 payable.........................                                          1.7
                                     ------   ------   -------  ------  ------
Net Loss.........................    $ (3.1)  $(90.8)  $(132.8) $(65.1) $(80.5)
                                     ======   ======   =======  ======  ======
Net loss per common share:
Basic and diluted................    $(0.37)  $(8.76)  $ (7.66) $(1.60) $(1.34)
                                     ======   ======   =======  ======  ======
Weighted average number of common
 and common equivalent shares
 outstanding:
Basic and diluted................       8.4     10.4      17.3    40.7    60.0
                                     ======   ======   =======  ======  ======
</TABLE>


                                       24
<PAGE>

<TABLE>
<CAPTION>
                                          Year Ended December 31,
                                -----------------------------------------------
                                1995(1)(4) 1996(4)   1997     1998     1999(2)
                                ---------- -------  -------  -------  ---------
<S>                             <C>        <C>      <C>      <C>      <C>
Other Data:
Prodigy Internet billable
 subscribers at period end....               7,000  221,000  505,000  1,138,000
Prodigy Classic billable
 subscribers at period end....             780,000  392,000  166,000         --
Internet subscribers managed..                                          364,000
                                  -----    -------  -------  -------  ---------
Total managed subscribers at
 period end...................        0    787,000  613,000  671,000  1,502,000
                                  =====    =======  =======  =======  =========
Prodigy Internet revenue......             $   0.1  $  29.5  $  80.7  $   154.2
Prodigy Classic revenue.......                90.6     98.8     48.2       15.6
EBITDA (3)....................    $(3.1)     (76.2)  (110.0)   (49.2)     (40.5)
Other Cash Flow Data:
Net cash used in operating
 activities...................     (2.4)     (35.3)  (114.0)   (68.0)     (40.1)
Net cash used in investing
 activities...................     (1.4)     (47.9)   (15.3)     2.6     (212.6)
Net cash provided by financing
 activities...................      4.0      104.1    120.4     65.2      276.0
<CAPTION>
                                                December 31,
                                -----------------------------------------------
                                1995(1)(4) 1996(4)   1997     1998     1999(2)
                                ---------- -------  -------  -------  ---------
<S>                             <C>        <C>      <C>      <C>      <C>
Consolidated Balance Sheet
 Data:
Working capital...............    $(0.3)   $ (54.8) $ (48.5) $ (33.6) $  (128.1)
Total assets..................      2.5      126.6     93.5     78.3      346.0
Long-term debt................      1.6       56.0     10.0       --        1.0
Contingent Convertible Notes
 (included
 in stockholders' equity
 (deficit))...................       --       30.5     30.5     30.5         --
Stockholders' equity
 (deficit)....................      0.0      (11.5)    17.7     29.8      165.1
</TABLE>
--------
(1)  International Wireless Incorporated was incorporated in May 1994 to
     evaluate and develop cellular telephone systems and Internet access and
     online services in Africa. In June 1996, Prodigy was formed under the name
     Prodigy, Inc. as a new holding company to acquire Prodigy Services Company
     and to hold International Wireless and the other communications interests
     of International Wireless. On June 17, 1996, Prodigy completed the
     acquisition of Prodigy Services Company. The acquisition was accounted for
     under the purchase method of accounting. Accordingly, the results of
     operations of Prodigy Services Company are included in Prodigy's
     consolidated results of operations from the date of acquisition. In
     January 1997, Prodigy sold its cellular telephone assets and operations.
     Subsequently, Prodigy decided to sell and wind-down its remaining
     international operations in Africa and China.

(2)  On October 5, 1999, Prodigy acquired the BizOnThe.Net Web hosting business
     of U.S. Republic Communications, Inc., an indirect majority owned
     subsidiary of VarTec, including the subscribers of the BizOnThe.Net Web
     hosting business. At the closing, Prodigy repaid a $9 million loan from
     VarTec to U.S. Republic and issued 2,840,993 shares of Prodigy common
     stock to U.S. Republic.

  The acquisition of BizOnThe.Net has been accounted for under the purchase
  method of accounting and, accordingly, the results of operations of
  BizOnThe.Net are included in Prodigy's consolidated results of operations
  from the date of acquisition. The cost to acquire BizOnThe.Net was
  allocated to the assets acquired and liabilities assumed based on their
  respective fair values with the excess allocated to goodwill. Based on the
  value of the 2,840,993 shares of common stock currently issued in
  connection with the BizOnThe.Net acquisition and the $9 million cash used
  to repay the loan, the total purchase price was approximately $58 million.

(3)  Earnings before interest, taxes, depreciation and amortization is a
     commonly used measure for operating performance of Internet service
     providers, and also provides additional information to assist investors in
     determining Prodigy's liquidity. Earnings before interest, taxes,
     depreciation and amortization is not an accounting measure under generally
     accepted accounting principles, is not necessarily indicative of

                                       25
<PAGE>

   operating income or cash flows from operations as determined under these
   principles and may not be comparable to similarly titled measures reported
   by other companies.

(4) Selected Historical Condensed Consolidated Financial Information of Prodigy
    Services Company
                                 (in millions)

<TABLE>
<CAPTION>
                                                                     Period from
                                                                     January 1,
                                                         Year Ended    1996 to
                                                        December 31,  June 16,
                                                            1995        1996
                                                        ------------ -----------
   <S>                                                  <C>          <C>
   Consolidated Statement of Operations Data:
   Online service revenues.............................    $230.6      $ 98.2
   Other...............................................      12.8         8.9
                                                           ------      ------
   Total revenues......................................     243.4       107.1
                                                           ------      ------
   Net loss............................................    $(34.6)     $(62.9)
                                                           ======      ======
</TABLE>

<TABLE>
<CAPTION>
                                                                    December 31,
                                                                        1995
                                                                    ------------
   <S>                                                              <C>
   Consolidated Balance Sheet Data:
   Working capital (deficit).......................................    $(36.4)
   Total assets....................................................      84.7
   Long-term debt..................................................      16.4
   Partners' capital (deficit).....................................       9.8
</TABLE>

                                       26
<PAGE>

Supplementary Financial Data (Unaudited)

   The following table sets forth unaudited consolidated quarterly statement of
operations data for each of the four quarters during the years ended December
31, 1998 and 1999. In the opinion of management, this information has been
prepared substantially on the same basis as the audited financial statements
appearing elsewhere in this report on Form 10-K/A, and all necessary
adjustments, consisting only of normal recurring adjustments, have been
included in the amounts stated below to present fairly the unaudited
consolidated quarterly results of operations. The quarterly data should be read
in conjunction with the audited consolidated financial statements of Prodigy
and the notes thereto appearing elsewhere in this report on Form 10-K/A. The
results of operations for any quarter are not necessarily indicative of the
results of operations for any future period.

<TABLE>
<CAPTION>
                                             1998                                              1999
                        ------------------------------------------------  ------------------------------------------------
Quarter Ended            March 31    June 30    September 30 December 31   March 31    June 30    September 30 December 31
-------------           ----------  ----------  ------------ -----------  ----------  ----------  ------------ -----------
<S>                     <C>         <C>         <C>          <C>          <C>         <C>         <C>          <C>
Total revenues........  $   33,387  $   33,923   $   34,158  $   34,672   $   35,926  $   37,090   $   48,899  $   67,123
                        ----------  ----------   ----------  ----------   ----------  ----------   ----------  ----------
Operating Costs and
 Expenses:
Cost of Revenue.......      25,078      23,533       22,202      22,542       21,846      22,105       27,743      30,505
Sales and marketing...       6,958       8,411       10,435      15,874       12,412      11,100       13,446      21,896
Product Development...       2,792       2,339        2,539       3,210        3,450       3,405        2,761       2,725
General and
 Administrative.......      11,285      11,088       11,075      11,192       12,653      12,861       16,827      19,311
Depreciation and
 amortization.........       4,098       3,973        3,861       4,140        4,073       4,208        4,196       9,315
Amortization of
 subscriber
 acquisition cost.....                                                                                  8,604      11,844
                        ----------  ----------   ----------  ----------   ----------  ----------   ----------  ----------
Total operating costs
 and expenses.........      50,211      49,344       50,112      56,958       54,434      53,679       73,577      95,596
                        ----------  ----------   ----------  ----------   ----------  ----------   ----------  ----------
Operating Loss........     (16,824)    (15,421)     (15,954)    (22,286)     (18,508)    (16,589)     (24,678)    (28,473)
Interest
 income/(expense),
 net..................        (215)       (113)        (135)        689        1,064       1,842        1,127      (1,771)
Gain on sale of equity
 investment...........                                  385                                3,319                      500
Gain of settlement of
 note payable.........                                                         1,714
Gain on asset sale....         400
Other.................                                            4,391                       44          (59)        (20)
                        ----------  ----------   ----------  ----------   ----------  ----------   ----------  ----------
Net loss..............  $  (16,639) $  (15,534)  $  (15,704) $  (17,206)  $  (15,730) $  (11,384)  $  (23,610) $  (29,764)
                        ==========  ==========   ==========  ==========   ==========  ==========   ==========  ==========
Basic and diluted net
 loss per share.......  $    (0.49) $    (0.43)  $    (0.39) $    (0.38)  $    (0.29) $    (0.19)  $    (0.39) $    (0.46)
                        ==========  ==========   ==========  ==========   ==========  ==========   ==========  ==========
Weighted average
 number of shares
 outstanding..........  33,804,894  36,466,399   40,002,234  45,034,027   53,455,241  61,007,546   61,145,041  64,094,423
                        ==========  ==========   ==========  ==========   ==========  ==========   ==========  ==========
</TABLE>

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

   The following discussion should be read in conjunction with the risk
factors, selected financial information, pro forma financial statements and
other financial statements.

   Prodigy is a leading national Internet service provider. In October 1996,
Prodigy launched Prodigy Internet, an open standards-based Internet access
service. Since the autumn of 1997, Prodigy has focused on expanding the Prodigy
Internet subscriber base and introducing additional value-added services.
Prodigy has also made strategic decisions to outsource its network and use
multiple vendors for outsourced customer services functions. As a result of
these initiatives, Prodigy has substantially reduced its fixed operating costs
and headcount.

                                       27
<PAGE>

   In conjunction with the launch of Prodigy Internet in October 1996, Prodigy
began offering a plan allowing subscribers unlimited usage of Prodigy Internet
for a flat monthly fee without hourly usage charges. In December 1996, Prodigy
introduced a similar plan for Prodigy Classic. Since the introduction of
Prodigy's unlimited usage plans, the portion of revenues generated from hourly
usage charges has decreased substantially.

   The results of operations of Internet service providers, including those of
Prodigy, are significantly affected by subscriber cancellations. Subscriber
acquisition expenses and the administrative expenses of enrolling and assisting
new subscribers are substantial, and in the past Prodigy typically offered free
service for one or two months to new subscribers. In selected distribution
channels, Prodigy has replaced free trial programs with prepaid term plans and
subscriber contract acquisition programs in order to attract enrollees who are
less likely to terminate service.

   Prodigy historically has experienced better retention for subscribers under
prepaid term plans than subscribers under month-to-month plans. Under prepaid
term plans, subscribers choose to prepay for longer terms at reduced monthly
rates. Additionally, under subscriber contract acquisition programs, Prodigy
makes payments to computer retailers in return for, among other things, the
retailers enrolling a customer onto Prodigy Internet, obtaining a signed
contractual commitment from the customer to a term subscription of one, two or
three years, and committed marketing of Prodigy Internet by the retailer in
connection with the retailers' other product advertisements. Prodigy's recent
experience has been that subscribers obtained through subscriber contract
acquisition programs have lower rates of cancellation than those obtained
through other channels. As a result of these lower rates of cancellation,
Prodigy has made the strategic decision to focus its marketing efforts towards
these subscriber acquisition programs.

   Prodigy historically has experienced seasonality in its business, with:

  .  higher expense during the last and first fiscal quarters, corresponding
     to the Christmas and post-Christmas selling season; and

  .  lower timed usage revenues (revenues from hourly usage charges) during
     its second and third fiscal quarters resulting from reduced usage of its
     services during the summer months.

   Prodigy believes that the seasonal reductions in timed usage revenues
historically experienced by Prodigy will be mitigated by the movement from
timed usage plans to unlimited usage plans as well as growth in Prodigy's
subscriber base, although Prodigy expects to continue to have higher expenses
during its first and fourth quarters. Due to the seasonality of its business,
as well as to other factors, Prodigy experiences quarterly fluctuations in its
operating results.

   On October 5, 1999, Prodigy acquired the BizOnThe.Net Web hosting business
of U.S. Republic Communications, Inc., an indirect majority owned subsidiary of
VarTec, including the subscribers of the BizOnThe.Net Web hosting business. In
consideration for BizOnThe.Net, Prodigy paid a $9 million loan from VarTec to
U.S. Republic and issued 2,840,993 shares of Prodigy common stock to U.S.
Republic including 727,272 shares held in an escrow account to secure the
indemnification obligations of U.S. Republic and its shareholders. Some or all
of the escrowed shares will be released to U.S. Republic at various times over
the two year period following the closing. In addition to the shares and
amounts paid at closing, in 2001 Prodigy may be required to issue up to 727,272
additional shares, contingent on the attainment by the acquired business of set
earn-out targets.

   Based on the value of the 2,840,993 shares of common stock currently issued
in connection with the BizOnThe.Net acquisition and the $9 million cash used to
repay the loan, the total purchase price is approximately $58 million. The
excess of the purchase price over the fair value of the assets acquired and
liabilities assumed of $49.6 million has been allocated to goodwill and will be
amortized on a straight line basis over three years.


                                       28
<PAGE>

Results of Operations

   Prodigy's total revenues have two components: Internet and online service
revenues, consisting of subscription revenues from subscribers to Prodigy
Internet and Prodigy Classic, and other revenues, consisting of small business
Web hosting fees from Prodigy's ProdigyBiz division, fees from a management
contract with Telmex under which Prodigy provides certain management and
consulting services to Telmex's Internet subsidiary Prodigy Internet de Telmex,
and advertising and transaction fees. Subscription revenues include revenues
from hourly usage charges ("timed usage revenues").

   Prodigy defines billable subscribers as subscribers who remain enrolled
beyond completion of the applicable trial period or who enroll in a money-back
guarantee program. Prodigy defines "Internet subscribers managed" to include
billable Prodigy Internet subscribers and billable Prodigy Internet de Telmex
subscribers but excluding subscribers to the Prodigy Classic service which was
discontinued in October 1999.

Year Ended December 31, 1999 Compared to Year Ended December 31, 1998

Subscribers

   The number of Prodigy Internet billable subscribers increased 633,000, or
125%, from 505,000 billable subscribers at December 31, 1998 to 1,138,000 at
December 31, 1999. Prodigy Classic subscribers decreased from 166,000 at
December 31, 1998 to 70,000 on October 1, 1999, the date Prodigy Classic was
discontinued, and zero thereafter. Total Internet subscribers managed increased
by 997,000, or 197%, from 505,000 at December 31, 1998 to 1,502,000 at December
31, 1999. Billable subscribers of Prodigy Internet de Telmex accounted for
approximately 364,000 of the number of Internet subscribers managed at December
31, 1999.

Internet Revenues

   Subscription revenues from Prodigy Internet increased $73.5 million, or 91%,
from $80.7 million in 1998 to $154.2 million in 1999 due to the increase in
billable subscribers discussed above. Subscription revenues from Prodigy
Classic decreased $32.6 million, or 68%, from $48.2 million in 1998 to $15.6
million in 1999 due to the discontinuation of service as of October 1999. Timed
usage revenues decreased $2.7 million, or 64%, from $4.2 million in 1998 to
$1.5 million in 1999. The decrease in timed usage revenues was primarily
attributable to the decrease in Prodigy Classic subscribers during 1999.

Other Revenues

   Other revenues increased by $12.0 million, or 166%, from $7.2 million in
1998 to $19.2 million in 1999. The increase in other revenues consisted of $6.8
million in management fees relating to Prodigy's January 1999 agreement with
Telmex to manage the Prodigy Internet de Telmex Internet subscribers, $3.0
million from Prodigy's Web hosting business including revenues from
BizOnThe.Net, which was acquired in October 1999, $5.4 million attributable to
transition services revenue related to Prodigy's July 1999 acquisition of
Internet subscribers of Cable & Wireless USA, Inc., and a $1.0 million increase
in advertising display revenues primarily due to Prodigy's successful program
of re-establishing control over advertising content displayed on Prodigy
Internet's home page. These increases were offset, in part, by a decrease of
$4.4 million from Prodigy's African Internet operations that were sold in
October 1998.

Cost of Revenues

   Cost of revenues includes network and content expenses. Network expense
includes costs associated with Prodigy's hosting operations center in Yorktown,
New York as well as the costs of outsourced network provider services. Content
expenses consist of the costs of developing, or obtaining from third parties,
content for inclusion in Prodigy's service offerings. Cost of revenues
increased $8.8 million, or 9%, from $93.4 million in 1998 to $102.2 million in
1999 primarily related to increased network charges incurred by Prodigy in
1999.

                                       29
<PAGE>

Network usage increased 65% in 1999 compared to 1998 primarily due to the shift
of the subscriber base from timed usage to unlimited usage plans which result
in higher hourly usage. However, network expense increased only 11% or $10.3
million due to a monthly "cap" (based on average hourly usage by subscribers)
contained in the network agreement between Prodigy and Splitrock. The increase
in network charges was offset, in part, by a decrease of $1.5 million, or 40%,
in content expense attributable to the discontinuation of the Prodigy Classic
service.

Sales and Marketing

   Sales and marketing expense includes advertising, salaries of sales and
marketing personnel and other general sales and marketing costs. Sales and
marketing expense increased $17.2 million, or 41%, from $41.7 million in 1998
to $58.9 million in 1999 . The increase in marketing costs was primarily
attributable to an increase of $5.6 million in production, media and other
costs associated with Prodigy's "There is a Choice" and "Are you a Prodigy?"
advertising campaigns that appeared during 1999. In early 1998, Prodigy
postponed certain of its marketing programs in response to network performance
issues encountered during the transition period accompanying the initial
rollout of the Splitrock network. Additionally, Prodigy spent $4.4 million in
establishing Prodigy's Business Solutions division and marketing its product
offerings and $1.4 million in marketing Prodigy's Hispanic Internet offering.
Sales and marketing expense also reflects increased bad debt provisions of $2.8
million related to amounts due from subscribers for contractual early
termination penalties. As a result of the significant increase in contract
subscribers during the period, Prodigy experienced a corresponding increase in
accounts receivable and the related provision for doubtful accounts associated
with the penalty fees charged on terminated subscriber contracts.

Product Development

   Product development expense includes research and development costs and
other product development costs. Product development expense increased $1.4
million, or 13%, from $10.9 million in 1998 to $12.3 million in 1999. Product
development activities in 1999 centered on implementing the billing,
provisioning and customer service infrastructure to support Prodigy's small
business Web hosting business, improving the system infrastructure supporting
the Prodigy Internet de Telmex subscriber base, including Year 2000 remediation
efforts, developing a new home page for Prodigy Internet and developing future
Prodigy Internet product offerings and service enhancements.

General and Administrative

   General and administrative expense increased $17.1 million, or 38%, from
$44.6 million in 1998 to $61.7 million in 1999. The increase was primarily
attributable to substantially higher customer service charges incurred in
connection with the 125% increase of billable Prodigy Internet subscribers
achieved in the year, especially the heavy volume of enrollments emanating from
the contract subscriber acquisition program during the second half of 1999.
This increase primarily reflected a $10.2 million increase in customer service
charges, a $2.7 million increase in 800 number charges, and a $2.1 million
increase in billing and credit card interchange fees. General and
administrative expense also increased in 1999 due to increased charges for
accounting and legal fees, recruiting, office temporary workers and
compensation expense resulting from the issuance of stock options priced below
market.

Depreciation and Amortization

   Depreciation and amortization expense increased $5.7 million, or 35%, from
$16.1 million in 1998 to $21.8 million in 1999. The increase was primarily due
to $4.0 million of goodwill, tradename and other intangibles' amortization
incurred in connection with the BizOnThe.Net acquisition. In addition, the 1999
period reflects depreciation attributable to a new accounting system as well as
subscriber management software implemented during 1999.


                                       30
<PAGE>

Amortization of Subscriber Acquisition Costs

   In May 1999, Prodigy entered into an agreement with Cable & Wireless to
purchase the dial-up access Internet subscriber base of that entity. At the
closing on July 20, 1999, Prodigy paid Cable & Wireless $40.9 million in cash.
Upon settlement of the transaction during the first quarter of 2000, Prodigy
received a purchase price reduction of $10.1 million from the original payment
due to fewer subscribers transitioning to the Prodigy Internet service than
originally projected. During 1999, Prodigy also entered into agreements with
major retailers of personal computers for the purpose of stimulating Prodigy
Internet enrollments. Under these agreements, Prodigy made payments to the
retailers in exchange for the retailers enrolling a customer onto Prodigy
Internet, obtaining a signed contractual commitment from the customer to a term
subscription of one, two or three years, and committed marketing of Prodigy
Internet by the retailers in connection with the retailers' other product
advertisements. These payments amounted to $100, $250, or $400, respectively,
for a term subscription of one, two or three years at Prodigy's standard
monthly rates. Payments pursuant to these agreements amounted to $161.7 million
through December 31, 1999. Prodigy has accounted for these payments, and the
purchase price paid for the acquired Cable & Wireless subscribers that migrated
to Prodigy Internet, as subscriber acquisition costs and amortizes these costs
over the term of the underlying subscriber contract or 36 months, respectively.

   During 1999, Prodigy incurred amortization of subscriber acquisition costs
of $20.4 million consisting of $15.6 million related to the subscriber
acquisition contracts and $4.8 million related to the acquired Cable & Wireless
subscribers.

Interest and Other Income

   Interest income, increased $3.6 million, from $1.5 million in 1998 to $5.1
million in 1999. The increase is primarily due to the investment of the cash
proceeds of Prodigy's initial public offering in February 1999 in short-term
money market instruments. These increases were offset by interest expense of
$2.9 million incurred to service notes payable during 1999.

   During the year ended December 31, 1999, Prodigy recognized a gain of $3.3
million upon the sale of an equity investment. In addition, Prodigy recognized
a gain of $1.7 million when it paid $.75 million in full settlement of a
promissory note in the principal amount of $2.0 million plus all accrued
interest.

Income Taxes

   Prodigy has evaluated the positive and negative evidence bearing on the
realizability of its deferred tax assets, which are comprised principally of
net operating loss carry forwards. Under the applicable accounting standards,
Prodigy has considered its history of losses and concluded that it is more
likely than not that Prodigy will not realize these favorable tax attributes.
Accordingly, the related deferred tax assets have been fully reserved.

Operating Loss

   As a result of the foregoing factors, Prodigy's operating loss increased
$17.8 million, or 25%, from $70.5 million in 1998 to $88.2 million in 1999 and
its net loss increased $15.4 million, or 24%, from $65.1 million in 1998 to
$80.5 million in 1999.

Year Ended December 31, 1998 Compared to Year Ended December 31, 1997

Revenue

   Subscription revenues from Prodigy Internet increased $51.2 million, or
174%, from $29.5 million in 1997 to $80.7 million in 1998. The number of
Prodigy Internet billable subscribers increased 284,000, or 129%, from 221,000
at December 31, 1997 to 505,000 billable subscribers at December 31, 1998,
representing 36%

                                       31
<PAGE>

and 75% of total billable subscribers at December 31, 1997 and December 31,
1998, respectively, Prodigy Internet subscribers accounted for 44% and 80% of
total network usage during 1997 and 1998, respectively. Subscription revenues
from Prodigy Classic decreased $50.6 million, or 51%, from $98.8 million in
1997 to $48.2 million in 1998 as the number of Prodigy Classic billable
subscribers decreased from 392,000 at December 31, 1997 to 166,000 at December
31, 1998. Total billable subscribers increased by 58,000, or 9% from 613,000 at
December 31, 1997 to 671,000 at December 31, 1998. Time usage revenues
decreased $7.8 million, or 65%, from $12.0 million in 1997 to $4.2 million in
1998. The decrease in revenues attributable to decreases in the total number of
billable subscribers and in timed usage revenues associated with Prodigy
Classic was offset, in part, by an increase in average revenue per billable
subscriber primarily due to the higher-priced plans for unlimited usage
associated with Prodigy Internet. Other revenues increased by $1.3 million, or
22%, from $5.9 million in 1997 to $7.2 million in 1998 primarily due to
increased sales by Prodigy's African Internet operations which were sold on
October 1, 1998. For the years 1997 and 1998, the other revenues derived from
Prodigy's former international operations consisted primarily of fees for
Internet access and online services provided primarily to businesses in Africa
and China. As a result of the foregoing factors, total revenues increased by
$1.9 million from $134.2 million in 1997 to $136.1 million in 1998.

Cost of Revenues

   Cost of revenues increased from $92.0 million in 1997 to $93.4 million in
1998. This increase was primarily attributable to increased network charges
incurred by Prodigy in 1998. Network usage increased 74% in 1998 compared to
1997 primarily due to the shift of the subscriber base from timed usage to
unlimited usage plans, but network charges increased only 40% because of a
monthly cap, based on average hourly usage by subscribers, contained in the
network agreement between Prodigy and Splitrock. This increase was offset in
part by a reduction in content expense, which declined as a result of the
renegotiation and/or termination of content contracts associated with Prodigy
Classic and Prodigy's content outsourcing agreement with Excite.

Sales and Marketing

   Sales and marketing expense decreased from $59.6 million in 1997 to $41.7
million in 1998, a decrease of $17.9 million, or 30%. The 1997 period reflected
spending related to the launch of Prodigy Internet in October 1996 which
continued through the post-Christmas selling season. In addition, in early
1998, Prodigy temporarily deferred sales and marketing programs in response to
network performance issues encountered during the transition period
accompanying the initial roll-out of the new Splitrock network.

Product Development

   Product development expense decreased from $11.4 million in 1997 to $10.9
million in 1998, a decrease of $.5 million, or 4%. During 1997, product
development efforts were primarily focused on stabilization and enhancement of
Prodigy Internet and on migration of Prodigy Classic content to the Prodigy
Internet platform. As a result of the completion of these activities in 1997,
product development activities and spending were subsequently reduced. In 1998,
product development activities centered on integration and stabilization of the
Splitrock network, transition to the co-branded Prodigy/Excite content platform
for Prodigy Internet, and development of commercial application and value-added
services.

General and Administrative

   General and administrative expense decreased from $56.3 million to 1997 to
$44.6 million in 1998, a decrease of $11.7 million, or 21%. The decrease in
general and administrative expense was attributable to significantly lower
personnel costs resulting from a decrease in average headcount and lower
incentive compensation expense combined with lower occupancy expense due to the
relocation to a new headquarters facility in White Plains, New York as of
January 1, 1998. As a result of the grant of employee stock options with
exercise prices deemed to be below fair market value, Prodigy recorded
compensation expense of $.7 million in 1998.

                                       32
<PAGE>

Depreciation and Amortization

   Depreciation and amortization expense decreased $5.3 million, or 25%, from
$21.4 million in 1997 to $16.1 million in 1998. During the second half of 1997,
Prodigy entered into a third party network agreement realizing the cash
benefits of reduced capital expenditures for telecommunications equipment.
Moreover, during 1997 the remaining Prodigy Internet capitalized product
development costs were amortized whereas 1998 was a year of product
stabilization and integration into the new network.

Interest and Other Income

   Interest income/expense, net improved from an expense of $1.3 million in
1997 to income of $.2 million in 1998. This improvement was due to higher cash
balances and reduced levels of borrowing during 1998.

   In 1997, Prodigy recorded a loss of $12.1 million on an equity investment in
a joint venture, restructuring and other special costs of $9.9 million, a $2.4
million write-down of its investment in its African Internet operations to the
net realizable value, and an $.8 million loss on the sale of its African
cellular telephone operations. In 1998, Prodigy recognized a gain of $2.9
million from the sale of its African Internet operations and a gain of $2.3
million from the sale of internally developed customer service and content
applications.

Operating Loss

   As a result of the foregoing factors, Prodigy's operating loss decreased
from $119.6 million in 1997 to $70.5 million in 1998. Its net loss decreased
from $132.8 million in 1997 to $65.1 million in 1998.

Restructuring Charges

   In response to changes in its business environment, and to decrease cash
outflows and more efficiently manage its business, Prodigy has incurred
restructuring and other special costs. The table below presents restructuring
and other special costs incurred and/or expended by Prodigy from January 1,
1997 through December 31, 1999:

                                       33
<PAGE>

<TABLE>
<CAPTION>
                                                   Year Ended December 31,
                                                   --------------------------
                                                     1997     1998     1999
                                                   --------  -------  -------
                                                        (in millions)
<S>                                                <C>       <C>      <C>
Accrued Restructuring Costs beginning of period... $   11.5  $   7.9  $   4.7
                                                   --------  -------  -------
Restructuring Accrual:
Network termination costs (A).....................      4.7      --       --
Reductions-in-force (B)...........................      2.9      --       --
Content production (C)............................      0.6      --       --
Facility closing (D)..............................      1.6      --       --
Headquarters lease termination....................      --       --       --
Idle leased space at former headquarters'
 location.........................................      --       --       --
                                                   --------  -------  -------
Subtotal, period accruals.........................      9.8      --       --
                                                   --------  -------  -------
Restructuring expenditures:
Network termination costs.........................      --      (0.8)    (0.1)
Reductions-in-force...............................     (3.1)    (1.0)     --
Content production................................      --      (0.6)     --
Facility closing..................................      --      (0.8)    (0.8)
Headquarters lease termination....................     (7.8)     --       --
Idle leased space at former headquarters'
 location.........................................     (2.5)     --       --
                                                   --------  -------  -------
Subtotal, period expenditures.....................    (13.4)    (3.2)    (0.9)
                                                   --------  -------  -------
Accrued restructuring costs at period end......... $    7.9  $   4.7  $   3.8
                                                   ========  =======  =======
</TABLE>
--------
(A)  In connection with the sale of its network, Prodigy incurred liabilities
     related primarily to early termination payments and other contractual
     obligations for certain non-cancelable network related agreements. Prodigy
     expects to use this reserve in full during the year ending December 31,
     2001.

(B)  In 1997, Prodigy implemented a restructuring plan to reduce costs through
     job elimination and, as a result, recorded a charge of $2.9 million.
     Approximately 80 employees throughout Prodigy were terminated. The entire
     reserve was used in 1997 and 1998 to make severance payments to employees
     identified as part of the original plan.

(C)  Prodigy decided to discontinue the production of its own content and, as a
     result, recorded a charge of $.6 million to account for the employee
     termination costs and the costs to settle content related contractual
     obligations. Approximately 25 employees were terminated. The entire
     reserve was used in 1997 and 1998 to make severance payments to employees
     identified as part of the original plan.

(D)  Prodigy's Medford, Massachusetts facility has been closed and a charge of
     $1.6 million recorded in 1997 to account for the costs of employee
     terminations and lease cancellation. This reserve was fully utilized at
     December 31, 1999.

 Former International Operations

   The historical results discussed above include the operating results of
Prodigy's Africa and China operations, which began in late-1995 and mid-1996,
respectively. The revenue and net loss from Prodigy's Africa and China
operations were as follows:

<TABLE>
<CAPTION>
                                                                  Year Ended
                                                                 December 31,
                                                                ----------------
                                                                1997   1998 1999
                                                                -----  ---- ----
                                                                 (in millions)
   <S>                                                          <C>    <C>  <C>
   Revenue..................................................... $ 3.2  $4.4  --
   Net loss....................................................  (8.5)  0.2  --
</TABLE>


                                       34
<PAGE>

   Prodigy sold its African cellular telephone operations in January 1997,
determined to terminate its Chinese operations in December 1997, terminated its
Chinese operations in March 1998 and sold its African Internet operations in
October 1998. In 1997, the Prodigy recorded a $0.8 million loss on the sale of
its African cellular telephone operations and a $2.4 million write-down of its
investment in its African Internet operations to the estimated net realizable
value.

Liquidity and Capital Resources

   Since formation, Prodigy has relied on private sales of equity securities
(totaling $294.1 million through December 31, 1999), borrowings and its initial
public offering in February 1999 with net proceeds of $157.2 million to fund
its operations. Prodigy has incurred significant losses since inception and, at
December 31, 1999, had an accumulated deficit of $373.3 million and a working
capital deficit of $128.1 million comprised of current liabilities of $179.9
million offset by current assets of $51.8 million. For the years ended December
31, 1997, 1998 and 1999, Prodigy incurred negative cash flow from operations of
$114.0 million, $68.0 million and $40.1 million, respectively.

   The decrease in cash used in operating activities from 1997 to 1998 resulted
from decreased net losses partially offset by the timing of payable
settlements. The increase in cash used in operating activities from 1998 to
1999 resulted from timing of payable settlements and increased amortization
expense which offset the increased net losses.

   Net cash from investing activities increased to $2.6 million provided from
investing activities in 1998 from $15.3 million used in 1997 due to the cash
proceeds of $5.2 million from the sale of assets and equity investments
combined with decreased capital expenditures. Net cash from investing
activities decreased in 1999 to $212.6 million used in investing activities due
to cash payments related to the acquisition of BizOnThe.Net, the acquisition of
subscribers from Cable & Wireless USA, subscriber contract acquisition programs
and increased capital expenditures.

   In May 1999, Prodigy entered into an agreement with Cable & Wireless USA,
Inc. to purchase the dial-up Internet access subscriber base of that entity for
a purchase price of approximately $41.6 million in cash as determined by the
number of qualified Cable & Wireless subscribers who transitioned to Prodigy
Internet.

   Commencing in July 1999 through the end of the year Prodigy paid
approximately $154.6 million in consideration for subscribers obtained through
its subscriber contract acquisition programs. Prodigy has $7.1 million accrued
related to these programs as of December 31, 1999. Prodigy has capitalized
these costs and will amortize these costs over the terms of the underlying
subscriber contracts (one, two or three years). At December 31, 1999, Prodigy
had capitalized related subscriber contract acquisition costs of $161.7 million
and had recognized amortization expense of $15.6 million. In February 2000,
Prodigy entered into a similar program with another retailer. Total amounts to
be paid under this program will depend on the number of subscriber contracts
received and could be material.

   Prodigy's capital expenditures for the year ended December 31, 1999 were
$11.3 million, primarily for the purchase of data processing equipment,
compared to capital expenditures of $2.6 million in 1998. Prodigy anticipates
that its capital expenditures will be approximately $25 million in 2000.

   Net cash from financing activities in 1998 and 1999 and future financing
requirements are discussed in the following paragraphs.

   To fund operations, Prodigy borrowed $16.4 million from Banco Inbursa, S.A.,
an affiliate of Carso Global Telecom, in February 1998 and $5.7 million from
Banco Inbursa in July 1998. The Banco Inbursa loans bore 9% interest and were
due December 31, 1999. In July 1998, Prodigy borrowed $30.0 million from Bank
of America National Trust and Savings Association and used the proceeds to
repay $30.0 million of the $32.1 million then owed to Banco Inbursa. The Bank
of America loan bore 6.5% interest, was guaranteed by Carso

                                       35
<PAGE>

Global Telecom and was due August 14, 1998. The Bank of America loan was repaid
with interest with a portion of the proceeds from the sales of common stock
described below.

   In August 1998, Telmex purchased 6,125,000 shares of common stock from
Prodigy for gross proceeds of $49.0 million, and in July 1998 Carso Global
Telecom purchased 1,375,000 shares of common stock from Prodigy for gross
proceeds of $11.0 million. Prodigy used a portion of the proceeds to repay
amounts owed to Banco Inbursa and Bank of America in the aggregate amount of
$32.1 million.

   In August 1998, Prodigy obtained a $35.6 million line of credit commitment
from Carso Global Telecom. This credit facility, originally due to expire on
December 31, 1999, was cancelled in August 1999 when it was replaced by the
larger credit facility described below.

   In February 1999, Prodigy sold 11,200,000 shares of common stock in its
initial public offering, including 2,000,000 shares of common stock sold to
Telmex, for aggregate net proceeds of $157.2 million.

   In August 1999, Prodigy obtained a $130 million revolving line of credit
from Carso Global Telecom to fund its subscriber contract acquisition programs
during the third and fourth quarter of 1999. The terms of this line of credit
allow Prodigy to borrow, repay and reborrow amounts in minimum increments of $1
million. Advances are due 30 days after borrowing, but Prodigy is permitted to
rollover advances into new advances at its election. Advances are
uncollateralized and, during the third and fourth quarters of 1999 bore
interest of 9% and 12%, respectively. During the fourth quarter, Prodigy
borrowed the maximum amount permitted under this line of credit. At December
31, 1999, the line of credit had been paid down to $110.2 million. Prodigy
repaid $13.8 million of these notes in January 2000 and the remaining $96.4
million is due on April 7, 2000.

   At December 31, 1999, Prodigy had available cash and cash equivalents of
$35.5 million ($21.1 million at March 31, 2000). Prodigy is currently
experiencing substantial negative cash flow each month and expects to continue
to experience negative cash flows through 2000. Telmex has unconditionally
committed to provide financing, either through capital and/or debt financing,
of up to $200 million to fund Prodigy's operations through February 2001. The
terms of this financing will be determined at the time such financing, if any,
is provided.

   On March 16, 2000, Prodigy and Citibank signed a letter agreement which
contemplates that Citibank will structure and arrange financing of $200 million
secured by the future service fees payable by contract subscribers to the
Prodigy Internet service. The letter agreement includes a preliminary summary
of principal terms and conditions, estimated expenses and the structuring fee
due Citibank at closing. The letter agreement does not constitute a firm
financing commitment from Citibank, and Prodigy cannot assure that the Citibank
financing will be completed. The Citibank financing is subject to the issuance
by SBC of a performance guarantee and satisfaction of the following conditions:

  .  satisfactory completion of Citibank's due diligence review of Prodigy;

  .  in Citibank's determination, the absence of any material adverse change
     in the financial markets or in the financial condition of operations of
     Prodigy;

  .  negotiation and execution of mutually satisfactory documentation for the
     financing;

  .  the receipt of specified ratings from ratings agencies; and

  .  the receipt of internal Citibank credit approval and any other approvals
     and legal opinions as Citibank may deem necessary or advisable.

   In connection with the Citibank financing, Prodigy and SBC have agreed in
principle that SBC will provide a contingent performance guarantee in exchange
for which Prodigy will grant SBC a contingent warrant to purchase 537,924
shares of Prodigy common stock for $1.00 per share. The performance guarantee
to be provided by SBC requires that, in the event Prodigy becomes unable to
continue to perform its service obligations under the subscriber contracts, SBC
will either perform Prodigy's service obligations directly or

                                       36
<PAGE>

replace Prodigy with a substitute Internet service provider. See "Transactions
with SBC" at page 93. Management believes that the Citibank financing or, if
not completed, the Telmex financing will be sufficient to enable Prodigy to
meet its planned expenditures through at least February 2001. Prodigy cannot
assure that the Citibank financing will be completed. If the Citibank financing
or other comparable third party financing is completed, Prodigy does not expect
to obtain financing through the Telmex commitment.

   Prodigy's future financing requirements will depend on a number of factors,
including Prodigy's operating performance and increases in operating expenses
associated with growth in Prodigy's business. Based upon its current operating
plan, Prodigy believes that it will require significant external financing in
order to continue to expand its consumer business. Prodigy is considering a
number of alternatives to raise additional financing, including public or
private equity or debt financing, bank loans, strategic partner and joint
venture arrangements, vendor financing, leasing arrangements or a combination
of these sources. There can be no assurance that Prodigy will be able to obtain
sufficient financing on acceptable terms.

Year 2000 Compliance

   The year 2000 issue was the cause of great concern before January 1, 2000.
The concern was that computer programs that have time-sensitive software may
not recognize the date "00" as the year 2000 but rather as the year 1900.

   Currently, most computer systems are functioning properly and the compliance
and remediation work effected prior to January 1, 2000 was effective in
preventing Year 2000 problems. Computer experts still warn, however, of
residual consequences from the year 2000 issue. Although Prodigy currently
believes that its computer systems are Year 2000 compliant, its operations and
financial condition could suffer if Prodigy experiences any residual Year 2000
problems.

   Prodigy maintains its Internet operations and internal operating systems.
Furthermore, Prodigy relies on third party vendors for the provision of
computerized billing and network operations and services. Residual Year 2000
problems experienced by Prodigy and its third party vendors could negatively
impact Prodigy's internal operating systems, as well as the computer systems of
the third party vendors and ultimately affect Prodigy's ability to provide
customer and business services.

   Prodigy has evaluated its internal systems and programs related to both the
delivery of the Prodigy Internet service and the daily operations of the
business and has made any necessary changes. In addition, Prodigy has contacted
all vendors to verify Year 2000 compliance. Any application that was not
compliant by December 1999 was deactivated and removed.

Recently Issued Accounting Pronouncements

   In November 1999, the Securities and Exchange Commission ("SEC") issued
Staff Accounting Bulletin ("SAB") No. 100, "Restructuring and Impairment
Charges." In December 1999, the SEC issued SAB No. 101, "Revenue Recognition in
Financial Statements." SAB No. 100 expresses the views of the SEC staff
regarding the accounting for and disclosure of certain expenses not commonly
reported in connection with exit activities and business combinations. This
includes the accrual of exit and employee termination costs and the recognition
of impairment charges. SAB No. 101 expresses the views of the SEC staff in
applying generally accepted accounting principles to certain revenue
recognition issues. Prodigy has concluded that these SABs do not have a
material impact on its financial position or its results of operations.

Certain Factors That May Affect Future Operating Results

   This report on Form 10-K/A contains "forward-looking statements" relating
to, without limitation, future economic performance, plans and projections of
revenue and other financial items, that are based on the beliefs of,
assumptions made by and information currently available to Prodigy. The words
"expect", "estimate",

                                       37
<PAGE>

"anticipate", "believe", "intend", "plan" and similar expressions and
variations thereof are intended to identify forward-looking statements. The
cautionary statements set forth in this "Certain Factors That May Affect Future
Operating Results" section and elsewhere in this report on Form 10-K/A identify
important factors with respect to such forward-looking statements, including
certain risks and uncertainties, that could cause actual results to differ
materially from those expressed in or implied by such forward-looking
statements.

   Prodigy has yet to generate positive cash flows and has incurred significant
losses and may incur losses in the future. If Prodigy does not achieve and
sustain profitability, Prodigy's financial condition and stock price could
decline.

   Prodigy cannot assure that it will achieve or sustain profitability. Since
inception, Prodigy has incurred significant losses. The following table shows
Prodigy's revenues and net losses during the three years ended December 31,
1997, 1998 and 1999:

<TABLE>
<CAPTION>
                                              Year Ended December 31,
                                    --------------------------------------------
                                         1997           1998           1999
                                    -------------- -------------- --------------
<S>                                 <C>            <C>            <C>
Revenues........................... $134.2 million $136.1 million $189.0 million
Net Losses......................... $132.8 million $ 65.1 million $ 80.5 million
</TABLE>

   At December 31, 1999, Prodigy had:

  .  an accumulated deficit of $373.3 million;

  .  a working capital deficit of $128.1 million;

  .  current liabilities of $179.9 million; and

  .  current assets of $51.8 million.

   As a result of these losses, Prodigy has never generated positive cash flow
from operations and has relied on private and public sales of equity securities
and borrowings to fund its operations. The following table shows Prodigy's
negative cash flows from operations during the last three years.

<TABLE>
<CAPTION>
                               Year Ended December 31,
          -------------------------------------------------------------------------------
               1997                       1998                                  1999
          --------------              -------------                         -------------
         <S>                          <C>                                   <C>
          $114.0 million              $68.0 million                         $40.1 million
</TABLE>

   Prior to its acquisition by Prodigy on June 17, 1996, Prodigy's predecessor
incurred significant net losses and sustained negative cash flow from
operations that required continued funding by the predecessor's former owners,
IBM and Sears. The funding totaled $1.3 billion as of June 16, 1996.

   Prodigy operates in a highly competitive market and faces significant
competition from a variety of current and potential sources, including
EarthLink and America Online, as well as companies that provide broadband
services. Prodigy may also face additional competitive pressures from strategic
alliances or consolidations among other Internet service providers. Many of
Prodigy's current and future competitors have greater financial, marketing and
technical resources. Thus, Prodigy may fail to compete effectively in its
market.

   Prodigy's industry is intensely competitive and some of Prodigy's current
and future competitors have substantially greater financial, marketing and
technical resources than Prodigy. Increased competition could also adversely
affect Prodigy's ability to develop new service offerings and interfere with
Prodigy's efforts to maintain or grow its subscriber base. There can be no
assurance Prodigy will compete effectively. Increasing competition could
adversely affect Prodigy's future revenues and liquidity.

   Prodigy's industry includes many significant participants, including:

  .  Internet service providers;

  .  proprietary online service providers;

                                       38
<PAGE>

  .  major international telecommunications companies;

  .  Internet-search services; and

  .  various other telecommunications companies.

   Prodigy also faces competition from companies that provide broadband
service to households, including:

  .  local and long-distance telephone companies;

  .  cable television companies; and

  .  electric utility companies.

   Among the larger Internet service providers that Prodigy competes with are
EarthLink, which has merged with MindSpring, Microsoft Network, AT&T WorldNet,
MCI Internet, IBM Internet Connection, PSINet, GTE Internetworking and
Concentric Network. Microsoft's ownership of the dominant PC operating system
and the Microsoft Internet Explorer browser may give Microsoft Network
competitive advantages, including distribution and marketing synergies.
Prodigy also competes with America Online, which offers the America Online and
CompuServe proprietary online services over closed networks and Internet
access.

   Broadband technologies offer significantly faster Internet access than
conventional modems. Broadband companies could include Internet access in
their basic service packages, offer access for a nominal additional charge or
prevent Prodigy from delivering Internet access through the cable or wire
connections that these companies own.

   The federal Telecommunications Act of 1996 contains provisions that remove,
or establish procedures for removing, restrictions on regional Bell operating
companies and others that may permit them to engage directly in the Internet
access business. This act also makes it possible for national long-distance
carriers, such as AT&T, to offer local telephone service, which would permit
these carriers to offer direct local Internet access. The federal
Telecommunications Act and strategic alliances or consolidation among Internet
service providers may result in additional competitive pressures.

   Prodigy may be subject to increasing pricing pressures due to increasing
competition, the introduction of free service and unlimited usage plans and
the elimination of most hourly access charges in the industry, which could
result in lower revenues.

   Because of Prodigy's historically low operating margins, any decrease in
revenues or increase in marketing expenses would diminish the likelihood of
Prodigy becoming profitable. The introduction of free service and unlimited
usage plans and the elimination of most hourly access charges by Internet
service providers, as well as increasing competition in Prodigy's industry,
have placed further pressure on Prodigy's revenues and profit margins.

   Subscriber cancellations are common in Prodigy's industry and the cost of
acquiring and retaining new subscribers is high. A high rate of customer
turnover may thus adversely affect Prodigy's future revenues.

   The failure to attract and retain subscribers to Prodigy's services, or an
increase in or a failure to slow the rate of subscriber cancellations, would
adversely affect Prodigy's future revenues. Prodigy's industry is
characterized by a high rate of customer turnover. Customer acquisition
expenses and the administrative expenses of enrolling and assisting new
subscribers are substantial.

   Prodigy relies on Splitrock's network to carry Prodigy's subscriber
traffic. Splitrock's failure to provide network services as required could
damage Prodigy's business.

   Splitrock was formed in 1997 and has a limited operating history, and
Prodigy currently is Splitrock's principal customer. The failure by Splitrock
for any reason to provide network services as required, or any

                                      39
<PAGE>

significant disruption in these services, whether for technical, operational or
financial reasons, could adversely affect Prodigy's service quality, reputation
and customer base.

   Telecommunications networks are subject to security problems, such as break-
ins and viruses, and other network failures. The occurrence of a network
problem could result in breach of confidentiality lawsuits, the loss of
subscribers and substantial costs.

   Security problems represent an ongoing threat to the telecommunications
networks used in Prodigy's business. Splitrock's network and Prodigy's data
hosting center are potentially vulnerable to computer viruses, break-ins and
similar disruptions that could lead to service interruptions. Break-ins could
jeopardize the confidentiality of information stored or transmitted by
Prodigy's customers. The security measures employed by Splitrock and Prodigy
cannot assure complete protection from security problems. The occurrence of
these problems may result in claims against Prodigy and could adversely affect
it or its ability to attract and retain customers.

   Prodigy's operations are also dependent on the protection of Splitrock's
network and its data hosting center against damage from fire, power loss,
telecommunications failures and similar events. Technical problems and network
failures can occur from time to time in the ordinary course of operating a
telecommunications network. Prodigy's host configuration for Prodigy Internet
is unique and, for cost reasons, has not been replicated off site. The
occurrence of a natural disaster or other unanticipated problems in Splitrock's
network or Prodigy's data hosting center, or the failure of telecommunications
providers to provide required data communications capacity due to a natural
disaster or for any other reason, could cause interruptions in Prodigy's
services. These service interruptions could adversely affect Prodigy's
business.

   Prodigy relies on third-party providers, including local phone companies,
for essential business services. The inability or unwillingness of these
companies to continue to provide telecommunications, customer service, billing
and other services to Prodigy or to provide these services at reasonable prices
could negatively affect Prodigy's business.

   In addition to its network arrangements with Splitrock, Prodigy has
outsourced aspects of its content, customer service and billing functions to
several providers. Outsourcing makes Prodigy reliant on third-party providers
for critical functions. The failure of these providers to provide services as
required, or any significant disruption of or deterioration in services, could
require Prodigy to obtain alternative suppliers at a higher cost and result in
customer cancellations.

   Prodigy also relies on local telephone and other companies to provide data
communications capacity via local telecommunications lines and leased long-
distance lines. The federal Telecommunications Act of 1996 is expected to lead
to increased competition in the provision of local and other telephone service.
However, Prodigy cannot predict the timing or extent of any developments or
their effect on pricing or supply. Prodigy's suppliers and telecommunications
carriers also sell or lease products and services to its competitors and
possibly current or future competitors. Prodigy's suppliers and
telecommunications carriers could enter into exclusive arrangements with its
competitors or stop selling or leasing their products or services to Prodigy at
commercially reasonable prices or at all.

   Carlos Slim Helu currently controls Prodigy. Mr. Slim can determine the
outcome of all matters submitted to shareholders irrespective of the votes of
other shareholders.

   Carlos Slim Helu can control the management and affairs of Prodigy. Mr Slim
and members of his immediate family beneficially own a majority of the voting
equity securities of Carso Global Telecom. Carso Global Telecom may be deemed
to control Telmex through the shares of Telmex that it owns directly and
indirectly. Mr. Slim is also chairman of the board of Carso Global Telecom and
Telmex. Thus, Mr. Slim and members of his immediate family may be deemed to
control Prodigy and can currently determine the outcome of all matters
submitted to a vote of Prodigy shareholders, including the election of all
members of Prodigy's

                                       40
<PAGE>

board of directors. The voting control of Mr. Slim could be used as a means or
have the effect of delaying or preventing a change in control or acquisition of
Prodigy.

   Carso Global Telecom, Telmex and Prodigy's directors have engaged in
transactions that were not necessarily arms' length. Prodigy cannot assure that
its directors will act solely in the interests of Prodigy and its shareholders.

   Circumstances may arise in which the interests of Carso Global Telecom or
Telmex, as shareholders, could conflict with the interests of the other
shareholders of Prodigy. Carso Global Telecom and its affiliates have engaged
in numerous transactions with Prodigy in the past that were not necessarily a
result of arms'-length negotiations. For example, an affiliate of Carso Global
Telecom provides Prodigy with a $130,000,000 revolving line of credit, and
Telmex has committed to provide financing of up to $200,000,000 to fund
Prodigy's operations through February 2001. Prodigy has outsourced its network
operations to Splitrock, a company that is 30% owned by Carso Global Telecom.
Carso Global Telecom and its affiliates may engage in additional related-party
transactions with Prodigy in the future, and there can be no assurance these
transactions will be on arms'-length terms. Samer F. Salameh, Prodigy's
chairman of the board and chief executive officer, who formerly served on
Splitrock's board of directors, holds stock options to purchase shares of
Splitrock common stock. Mr. Salameh also serves as an advisor to the chief
executive officer of Telmex. In addition to Mr. Salameh, Alfredo Sanchez,
Arturo Elias and James M. Nakfoor, directors of Prodigy, are affiliated with
Carso Global Telecom or Telmex, and Allen Craft, an executive officer and
director of Prodigy, is employed by SBC. Mr. Salameh is married to Mr. Slim's
niece, and Mr. Elias is married to Mr. Slim's daughter.

   The law requires Prodigy's directors to make all decisions in accordance
with their fiduciary duties and in the best interests of Prodigy and its
shareholders. Messrs. Salameh, Elias, Nakfoor and Sanchez, directors of
Prodigy, owe similar duties to the other companies for which they serve as
directors or officers or with which they are otherwise affiliated. Due to the
nature of the potential conflicts of interest presented on an ongoing basis by
these arrangements, and potential future arrangements, Prodigy cannot assure
that the directors involved have acted or will act in a manner that takes into
account solely the interests of Prodigy and its shareholders.

   Prodigy cannot fund its operations with the cash generated from its business
and is seeking third-party financing to fund its operations. Additional
financing may result in dilution to existing stockholders and additional
operating restrictions.

   Prodigy is currently experiencing substantial negative cash flow each month
and expects to continue to experience negative cash flow through 2000. Prodigy
had $21,100,000 of cash available at March 31, 2000. Telmex has committed to
provide financing of up to $200,000,000 to fund Prodigy's operations through
February 2001. In addition, Prodigy is in the process of seeking third party
financing of $200,000,000 secured by the future service fees payable by
contract subscribers to the Prodigy Internet service. Any additional equity
financing may cause investors to experience dilution. Any additional debt
financing may result in restrictions on Prodigy's operations.

   Enrollments from PC bundling are declining. If future enrollments from PC
bundling are not fully replaced by enrollments from other acquisition programs,
Prodigy's financial condition may decline.

   Prodigy's financial condition may decline if it does not continue to
increase its subscriber base. Historically a majority of Prodigy Internet
enrollments have arisen from bundling arrangements with PC manufacturers. In
1998, 44% of total enrollments to Prodigy Internet were obtained through PC
bundling, including 32% from Prodigy's PC bundling relationship with Packard
Bell/NEC. In 1999 the percentage of total enrollments to Prodigy Internet
obtained through PC bundling declined to 15% but the percentage obtained
through contract acquisition programs, in which Prodigy makes payments of up to
$400 to major PC retailers who enroll subscribers to term subscriptions of at
least one year, increased from zero in 1998 to 34%. Prodigy's contract
acquisition program with Best Buy accounted for approximately 33% of total
enrollments during 1999.

                                       41
<PAGE>

Prodigy's contract acquisition program with Best Buy terminated on November 30,
1999, except in 32 stores where the program is still in effect. Prodigy has
other, less significant, contract acquisition programs with other retailers and
entered into an additional contract acquisition program in February 2000.
However, Prodigy cannot predict whether future contract acquisition programs
will generate as many enrollments as in the past.

   The number of Prodigy Internet subscribers decreased from 1,138,000 at
December 31, 1999 to 1,115,000 at March 31, 2000, primarily due to the
termination of Prodigy's contract acquisition program with Best Buy on November
30, 1999.

   If Prodigy does not manage the integration of acquired companies
successfully, it may be unable to achieve desired results of the acquisitions
and may experience increased operating losses.

   As a part of its business strategy, Prodigy has completed several
acquisitions to date and may enter into additional business combinations,
acquisitions and strategic relationships. These transactions are typically
accompanied by risks similar to those posed by the SBC transaction.

   Prodigy may not succeed in addressing these risks or any other problems
encountered in connection with these potential business combinations and
acquisitions potentially disrupting Prodigy's business and causing increased
losses.

   Prodigy's expansion strategy and future success depends on its ability to
anticipate and adapt to new services and markets.

   Prodigy's business strategy includes the introduction of new services and
entry into new markets. Prodigy may be unsuccessful in offering new services
and entering new markets as planned. Prodigy's new services may not achieve
market acceptance. In particular, Prodigy is:

  .  expanding its Web hosting activities and other Internet-based services;

  .  expanding beyond its existing consumer market to include small and
     medium-sized businesses; and

  .  targeting Internet services to Spanish-speaking and Hispanic customers
     in the United States.

   Prodigy historically has focused on the consumer market and has only limited
experience in developing and marketing services in these markets.

   Prodigy's business is subject to seasonality which causes Prodigy's
quarterly results to fluctuate. If Prodigy's quarterly results fail to meet the
expectations of public market analysts and investors, the market price of
Prodigy's stock will decline.

   Although Prodigy's strategy of contracting with third parties to provide
services such as network access, billing and customer service enables it to tie
many variable costs to variable revenue sources, Prodigy bases its fixed
expenses, in part, on its expectations of future revenues. If revenues are
below expectations, Prodigy may be unable to reduce fixed costs proportionately
which may adversely effect its operating results.

   Prodigy experiences quarterly fluctuations in its operating results due to
many factors, including:

  .  pricing changes;

  .  changes in the level of consumer spending during business cycles;

  .  the timing of introduction of new and enhanced services by Prodigy; and

  .  competitive factors.

                                       42
<PAGE>

   In addition, Prodigy historically has experienced seasonality in its
business, with:

  .  higher expenses during the last and first fiscal quarters, corresponding
     to the Christmas and post-Christmas selling season; and

  .  lower timed usage revenues, meaning revenues from hourly usage charges,
     typically occurring during Prodigy's second and third fiscal quarters
     resulting from reduced usage of its services during the summer months.

   Accordingly, Prodigy believes that quarter-to-quarter comparisons of
operating results may not be meaningful or indicative of future results.

   The failure to protect Prodigy's proprietary technology adequately would
adversely affect Prodigy's competitive position.

   Failure to protect Prodigy's proprietary technology could adversely affect
its competitive position. Prodigy attempts to protect its proprietary
technology through copyright and trade secrets laws, employee and third-party
confidentiality agreements and other methods. Prodigy grants customers a
license to use its services under agreements that contain terms and conditions
prohibiting unauthorized reproduction. Despite these precautions, unauthorized
third parties may be able to copy portions of Prodigy's services or reverse
engineer or obtain and use information Prodigy regards as proprietary.

   Prodigy's business plan requires it to continue to grow its subscriber base.
If Prodigy is unable to manage growth effectively and maintain consistent
network performance, its business could be harmed.

   Prodigy anticipates that the network assets and resources to be acquired
upon the consummation of the SBC transaction and the FlashNet merger will
alleviate the network performance deterioration which has accompanied the
increase in Prodigy's subscriber base. The failure to close either the SBC
transaction or the FlashNet merger in a timely fashion or at all or the failure
to integrate the network assets and resources acquired through the SBC
transaction and the FlashNet merger could adversely affect Prodigy's network
performance, service quality, reputation and customer base.

   Prodigy's ability to exploit the market for its products and services and
increase its subscriber base requires an effective planning and management
process. Prodigy's ability to plan and manage effectively will require Prodigy
to continue to implement and improve its operational, financial and management
information systems. Prodigy will also be required to attract and retain
skilled managers and other personnel, including its current executive officers.
These challenges are exacerbated during periods of rapid growth. For example,
as Prodigy increased the number of billable Prodigy Internet subscribers by 87%
from June 30, 1999 to December 31, 1999, network performance deteriorated and
customer service costs increased. The network performance deterioration did not
materially affect Prodigy's results of operations or significantly alter the
services offered by Prodigy.

   If Prodigy is unable to attract and retain key personnel in an intensely
competitive environment, its operations could be adversely effected.

   Competition for key personnel is intense, and there can be no assurance that
Prodigy will be successful in attracting and retaining necessary personnel to
maintain and support its business. Although Prodigy has entered into non-
competition agreements with some executive officers, the agreements may not be
enforceable. Prodigy does not maintain insurance on the lives of any of its
officers or directors.

   Prodigy may not be able to complete proposed acquisitions, which could
adversely affect Prodigy's competitive position.

   Prodigy's failure to expand its business through acquisitions may materially
adversely affect its competitive position. Prodigy may be unable to identify,
finance and complete acquisitions on acceptable terms.

                                       43
<PAGE>

The Internet services industry is highly fragmented, consisting of more than
5,000 Internet service providers in the United States, and is expected to
undergo substantial consolidation over the next few years.

   Prodigy depends on the continued use and expansion of the Internet.

   Prodigy's business and revenues depend on the continued use and expansion of
the Internet. A decrease in the demand for Internet services or a reduction in
the currently anticipated growth for Internet services could adversely affect
Prodigy's future revenues and liquidity. Only recently has the commercial
sector begun significant use of the Internet and, more recently still, have
consumers begun using the Internet. Use of the Internet has grown dramatically,
but Prodigy cannot assure the continued use and expansion of the Internet as a
medium of communications and commerce.

   Prodigy's attraction and retention of customers depends on its ability to
anticipate and adapt to rapidly changing technology and on the compatibility of
its technology with the technology of others.

   Prodigy's industry is characterized by rapid technological change resulting
in dynamic customer demands and frequent new product and service introductions.
As a result of these technical improvements, markets can change rapidly.
Prodigy's future results will depend in part on its ability to make timely and
cost-effective enhancements and additions to its services. For example,
competitors have introduced, or announced plans to introduce, high-speed
Internet access utilizing broadband technology through cable lines, integrated
services digital network, or ISDN, telephone service and digital subscriber
line, or DSL, telephone service. While Prodigy offers high-speed Internet
access through DSL, Prodigy may not have sufficient resources to provide DSL
access when introducing new services that meet customer demands on a timely
basis. Prodigy's new service introductions may not achieve market acceptance.

   Prodigy's ability to compete successfully is also dependent upon the
continued compatibility of its services with the technologies of others.
Although Prodigy intends to support emerging standards in the market for
Internet access, its products may not conform to new standards in a timely
fashion. Services or technologies developed by others could render Prodigy's
services or technology noncompetitive or obsolete.

   Changes in government regulation, which are likely in the rapidly evolving
Internet-related industries, could adversely affect Prodigy's business.

   Internet access and online services are not subject to direct regulation in
the United States. Changes in the regulatory environment relating to the
telecommunications and media industry could adversely affect Prodigy's
business, financial condition, results of operations or prospects. As the law
in this area develops, Prodigy's potential liability for information available
through its services could require Prodigy to implement measures to reduce its
exposure to this liability. Regulation of the Internet and online services
industry could result in increased telecommunications costs or competition for
participants in the Internet industry, including Prodigy. Prodigy cannot
predict whether, or to what extent, any new regulation will occur, or what
effect any new regulation would have on it. Due to the increasing use of the
Internet, additional laws may be adopted covering issues such as content, user
privacy, pricing, libel, intellectual property protection and infringement and
technology export and other controls.

Risks Associated With the Pending SBC Transaction

   If Prodigy is unable to expand its network and operations to accommodate
SBC's customers, Prodigy may lose subscribers and thus not realize the expected
benefits of the SBC transaction.

   As a result of the SBC transaction, Prodigy will rapidly take on management
of a significant number of new customers. This will require Prodigy to expand
its operations, especially its network and customer service operations, in
order to accommodate these new customers. Any failure of Prodigy to
successfully expand its operations and a resulting deterioration of service
could make it difficult for Prodigy to attract and retain customers, including
the customers resulting from the SBC transaction.

                                       44
<PAGE>

   If the SBC transaction's benefits do not meet the expectations of financial
or industry analysts or if Prodigy is unable to retain the customers resulting
from the SBC transaction, the market price of Prodigy Class A common stock may
decline.

   The market price of Prodigy Class A common stock may decline as a result of
the SBC transaction if:

  .  Prodigy does not achieve the perceived benefits of the SBC transaction
     as rapidly as, or to the extent, anticipated by financial or industry
     analysts;

  .  the effect of the SBC transaction on Prodigy's financial results is not
     consistent with the expectations of financial or industry analysts; or

  .  Prodigy is unable to retain the customers resulting from the SBC
     transaction.

   Upon the closing of the SBC transaction, each share of Prodigy common stock
will be automatically converted into one share of Prodigy Class A common stock.
Prodigy Class A common stock will continue to be traded on the Nasdaq National
Market under the same trading symbol as Prodigy common stock.

   Prodigy's officers and directors hold options that will accelerate as a
result of the SBC transaction. These benefits are in addition to the benefits
to be derived generally by Prodigy's shareholders and may have influenced them
to support or approve the SBC transaction. There can be no assurance Prodigy's
officers and directors would have supported the merger absent this option
acceleration.

   Prodigy's officers and directors hold options to purchase 154,791 shares
representing an aggregate potential gain of $878,522 based on the closing
market price of Prodigy's common stock on March 31, 2000 that will accelerate
and become fully vested and exercisable upon completion of the SBC transaction.

   There are business relationships among Prodigy, Prodigy's principal
stockholders and SBC that may have influenced the willingness of Prodigy's
board of directors to approve the SBC transaction.

   The following business relationships among Prodigy, Prodigy's principal
stockholders and SBC exist:

  .  Carlos Slim Helu controls Prodigy and Carso Global Telecom and is a
     director of SBC;

  .  Carso Global Telecom controls Telmex, and SBC owns an equity interest of
     approximately 8.9% in Telmex;

  .  Carso Global Telecom and SBC have formed other joint ventures in the
     past and may do so in the future;

  .  Samer F. Salameh, Alfredo Sanchez, Arturo Elias and James M. Nakfoor,
     directors of Prodigy, have affiliations with Carso Global Telecom or
     Telmex; and

  .  Allen Craft, an executive officer and director of Prodigy, is employed
     by SBC.

   The Prodigy board of directors was aware of and took into account these
business relationships when it approved the SBC transaction. It is possible
that these relationships may have influenced the members of the Prodigy board
to approve the SBC transaction when they may not have otherwise.

   It is possible that these interests may have influenced the members of the
Prodigy board to vote to approve the SBC transaction when they may not have
otherwise. Prodigy stockholders should consider whether these interests may
have influenced these directors and officers to support or recommend the SBC
transaction.

   On March 16, 2000, Prodigy and Citibank signed a letter agreement which
contemplates that Citibank will structure and arrange financing of $200 million
secured by the future service fees payable by contract subscribers to the
Prodigy Internet service. The letter agreement does not constitute a firm
financing commitment from Citibank. The Citibank financing is subject to the
issuance by SBC of a performance

                                       45
<PAGE>

guarantee and satisfaction of other conditions, and Prodigy cannot assure that
the financing will be completed. Prodigy and SBC have agreed in principle that
SBC will provide a performance guarantee that, in the event Prodigy becomes
unable to continue to perform its service obligations under the subscriber
contracts, SBC will either perform Prodigy's service obligations directly or
replace Prodigy with a substitute Internet service provider. In exchange for
this guarantee, Prodigy and SBC have agreed in principle that SBC will receive
a contingent warrant to purchase 537,924 shares of Prodigy common stock for
$1.00 per share, expiring 3.5 years after the closing date of the Citibank
financing and exercisable only if:

  .  SBC's performance guarantee is triggered;

  .  Prodigy's chief executive officer is not then an SBC appointee; and

  .  SBC, Carso Global Telecom and Telmex then collectively own, on a fully-
     diluted basis, securities representing less than 50% of the voting power
     of Prodigy's then outstanding securities.

   The SBC transaction may cause Prodigy to lose key personnel if they
experience uncertainty about their future roles following the transaction.

   SBC will have considerable influence over the management of Prodigy. As a
result of this change in ownership and management structure, current and
prospective Prodigy employees may experience uncertainty about their future
roles with Prodigy following the SBC transaction. This uncertainty may
adversely affect Prodigy's ability to attract and retain key management,
sales, marketing and technical personnel. Any failure to attract and retain
key personnel could affect the condition of Prodigy's business.

   After the SBC transaction is implemented, all major corporate actions will
require the unanimous approval of the executive steering committee. The
existence and authority of the executive steering committee may decrease the
willingness of some potential directors to serve on the board of directors.

   As part of the SBC transaction, Prodigy will establish an executive
steering committee, consisting of two directors selected by SBC and two
directors selected by Carso Global Telecom and Telmex. All major corporate
actions will require the unanimous approval of the executive steering
committee prior to being submitted for the approval of the board of directors
of Prodigy. A potential director who does not anticipate being appointed to
the steering committee could perceive the authority of the steering committee
as diminishing the authority of the full board. This could make it more
difficult for Prodigy to attract and retain qualified directors.

   SBC will retain its interest in Prodigy if the strategic and marketing
agreement expires or is terminated.

   As part of the SBC transaction, Prodigy and SBC will enter into a strategic
and marketing agreement governing the marketing of the Prodigy Internet
service and related matters. The agreement has an initial term of three years
and automatically renews for additional three-year terms unless terminated by
Prodigy or SBC. In addition, SBC may terminate the agreement if Prodigy fails
to meet specified performance standards or in other specified circumstances.
If the agreement expires or is terminated, SBC will retain its interest in
Prodigy. As a result, there is a possibility that Prodigy will issue an
approximate 43% interest to SBC and not realize the benefits it anticipates
receiving in exchange for the interest.

Risks Associated With the Pending FlashNet Transaction

   Prodigy's stock price is volatile and the value of the Prodigy common stock
issued in the merger will depend on its market price at the time of the
merger, and no adjustment will be made as a result of changes in the market
price of Prodigy's common stock.

   The market price of Prodigy common stock, like that of the shares of many
other high technology and Internet companies, has been and may continue to be
volatile. For example, from February 11, 1999 to May 4, 2000, Prodigy common
stock traded as high as $50.625 per share and as low as $8.25 per share.

                                      46
<PAGE>

   At the closing of the merger, holders of FlashNet common stock will exchange
each of their shares for 0.35 share of Prodigy common stock. This exchange
ratio will not be adjusted for changes in the market price of Prodigy common
stock or of FlashNet common stock. In addition, neither Prodigy nor FlashNet
may terminate or renegotiate the merger agreement, and FlashNet may not
resolicit the vote of its shareholders solely because of changes in the market
price of Prodigy common stock or of FlashNet common stock. Any reduction in
Prodigy common stock price will result in you receiving less value in the
merger at closing. You will not know the exact value of Prodigy common stock to
be issued to you in the merger at the time of the special meeting of FlashNet
shareholders.

   The complex process of integrating Prodigy and FlashNet may disrupt the
business activities of Prodigy and affect employee morale, thus affecting
Prodigy's ability to retain key employees.

   Integrating the operations and personnel of Prodigy and FlashNet will be a
complex process, and Prodigy is uncertain that the integration will be
completed rapidly or will achieve the anticipated benefits of the merger. Since
FlashNet is located in Texas, it will be more difficult to retain employees of
FlashNet if after the merger, some of the activities and management of FlashNet
move from Texas to New York. The successful integration of Prodigy and FlashNet
will require, among other things, integration of their finance, human resources
and sales and marketing groups and coordination of development efforts. The
diversion of the attention of Prodigy's management and any difficulties
encountered in the process of combining the companies could cause the
disruption of the business activities of Prodigy. Further, the process of
combining Prodigy and FlashNet could negatively affect employee morale and the
ability of Prodigy to retain some of its key employees after the merger.

   If the merger's benefits do not meet the expectations of financial or
industry analysts, the market price of Prodigy common stock may decline.

   The market price of Prodigy common stock may decline as a result of the
merger if:

  .  Prodigy does not achieve the perceived benefits of the merger as rapidly
     as, or to the extent, anticipated by financial or industry analysts; or

  .  the effect of the merger on Prodigy's financial results is not
     consistent with the expectations of financial or industry analysts.

   Failure to complete the merger may impede alternative mergers or alternative
business combinations and may further result in FlashNet paying substantial
termination fees to Prodigy. This failure may also dilute the value of
FlashNet's stock, decrease its market price and cause FlashNet to nevertheless
incur legal and accounting fees.

   If the merger is not completed for any reason, FlashNet may be subject to a
number of material risks, including:

  .  Prodigy may require FlashNet to pay a termination fee of $5,000,000
     and/or reimburse Prodigy for expenses of up to $500,000;

  .  FlashNet shareholders may experience dilutive effects to their stock
     ownership because Prodigy may exercise an option to acquire up to 19.9%
     of the outstanding shares of FlashNet common stock;

  .  the market price of FlashNet common stock may decline to the extent that
     the current market price of FlashNet common stock reflects a market
     assumption that the merger will be completed; and

  .  costs related to the merger, such as legal and accounting fees, must be
     paid even if the merger is not completed.

   If the merger is terminated and the FlashNet board of directors seeks
another merger or business combination, you cannot be certain that FlashNet
will be able to find a partner willing to pay an equivalent or

                                       47
<PAGE>

more attractive price than the price Prodigy will pay in the merger. In
addition, Prodigy's option to acquire up to 19.9% of the outstanding shares of
FlashNet common stock, which may become exercisable upon termination of the
merger agreement, may impede an alternative merger or business combination.

   FlashNet's officers and directors may have been influenced to approve the
merger because of their ownership of options to purchase FlashNet stock, their
ownership as a group of a substantial interest in FlashNet, their possible
receipt of significant severance packages or employment agreements and
Prodigy's agreement to indemnify them against future liability. Also, two
FlashNet directors may have been influenced by their ownership interest in
Prodigy to support and approve the merger. There can be no assurance that
FlashNet's officers and directors would have supported the merger absent these
interests.

   The directors and officers of FlashNet participate in arrangements and have
continuing indemnification against liabilities that provide them with interests
in the merger that are different from, or in addition to, yours, including the
following:

  .  as of the date of this prospectus, the executive officers and directors
     of FlashNet owned stock options to purchase an aggregate of 432,946
     shares of FlashNet common stock, all of which are vested;

  .  directors and officers and their affiliates, who together own
     approximately 28% of the outstanding shares of FlashNet common stock as
     of December 31, 1999, have agreed to vote in favor of the merger;

  .  several officers of FlashNet are entitled to benefits, including
     substantial severance packages, under their employment agreements with
     FlashNet if their employment is terminated upon FlashNet's change of
     control, such as the merger;

  .  upon completion of the merger, Prodigy and FlashNet may enter into
     employment agreements with some executive officers of FlashNet;

  .  Prodigy has agreed to cause the surviving corporation in the merger to
     indemnify present and former FlashNet officers and directors against
     liability arising out of their service as an officer or director.
     Prodigy will cause the surviving corporation to maintain officers' and
     directors' liability insurance to cover against this liability for the
     next six years; and

  .  Mr. Thurburn, a FlashNet director, owns 1,000 shares of Prodigy common
     stock. In addition, subsequent to the November 5, 1999 meeting at which
     the merger was approved by the FlashNet board of directors, Global
     Undervalued Securities Fund, L.P., which is controlled by Mr.
     Kleinheinz, a FlashNet director, acquired Prodigy common stock. Global
     Undervalued Securities Fund owned 87,800 shares of Prodigy common stock
     on December 20, 1999 and 266,700 shares of Prodigy common stock on April
     18, 2000.

   It is possible that these interests may have influenced members of the
FlashNet board to vote to approve and support the merger agreement and the
merger when they would not have if they did not have these interests. No
committee of independent directors was appointed to consider the approval and
recommendation of the merger. FlashNet cannot determine whether an independent
board committee would have approved the merger.

   The merger may cause FlashNet to lose key personnel which could materially
affect FlashNet's business and require FlashNet to incur substantial costs to
recruit replacements for lost personnel.

   As a result of FlashNet's change in ownership, current and prospective
FlashNet employees may experience uncertainty about their future roles with
Prodigy. This uncertainty may adversely affect FlashNet's ability to attract
and retain key management, sales, marketing and technical personnel. Any
failure to attract and retain key personnel could have a material adverse
effect on the business of FlashNet and Prodigy.

                                       48
<PAGE>

   Customers of Prodigy and FlashNet may terminate service as a result of
concerns over future service offerings and integration support of current
services following the merger.

   The announcement and closing of the merger could cause customers and
potential customers of Prodigy and FlashNet to cancel service. In particular,
customers could be concerned about future service offerings and integration
support of current services. Subscriber cancellations could have a material
adverse effect on the future revenues and competitive portion of Prodigy and
FlashNet.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

   Not applicable.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

                         INDEX TO FINANCIAL STATEMENTS

<TABLE>
<S>                                                                         <C>
PRODIGY COMMUNICATIONS CORPORATION
  Three years ended December 31, 1999, 1998 and 1997 Report of Independent
   Accountants.............................................................  50
  Consolidated Balance Sheets..............................................  51
  Consolidated Statement of Operations.....................................  52
  Consolidated Statements of Stockholders' Equity (Deficit)................  53
  Consolidated Statements of Cash Flows....................................  55
  Notes to Consolidated Financial Statements...............................  57
</TABLE>

                                       49
<PAGE>

                       REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Shareholders of
Prodigy Communications Corporation:

   In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of operations, stockholders' equity (deficit) and cash
flows present fairly, in all material respects, the financial position of
Prodigy Communications Corporation and its subsidiaries (the "Company") at
December 31, 1998 and 1999, and the results of its operations and its cash
flows for each of the three years in the period ended December 31, 1999 in
conformity with accounting principles generally accepted in the United States
of America. These financial statements are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits of these statements in
accordance with auditing standards generally accepted in the United States of
America, which require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.

PricewaterhouseCoopers LLP

New York, New York
March 3, 2000

                                       50
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

                          CONSOLIDATED BALANCE SHEETS
               (in thousands except share and per share amounts)

<TABLE>
<CAPTION>
                                                               December 31,
                                                            --------------------
                                                              1998       1999
                                                            ---------  ---------
<S>                                                         <C>        <C>
                          ASSETS:
Current assets:
  Cash and cash equivalents................................ $  12,180  $  35,473
  Trade accounts receivable, net of allowances for doubtful
   accounts of $367 and $3,380 at December 31, 1998 and
   1999, respectively......................................       966     10,314
  Due from affiliate.......................................       --       1,801
  Prepaid expenses.........................................     1,691      2,793
  Other current assets.....................................       106      1,437
                                                            ---------  ---------
    Total current assets...................................    14,943     51,818
Restricted cash............................................     5,420      4,692
Property and equipment, net................................    12,998     18,201
Other intangibles, net.....................................       --       1,748
Tradename, net.............................................    26,579     26,330
Goodwill, net..............................................    11,587     55,680
Deferred network costs, net................................     5,939      3,563
Subscriber acquisition costs, net..........................       --     182,838
Other assets...............................................       866      1,118
                                                            ---------  ---------
    Total assets........................................... $  78,332  $ 345,988
                                                            =========  =========
           LIABILITIES AND STOCKHOLDERS' EQUITY:
Current liabilities:
  Notes payable............................................ $   2,000  $ 110,154
  Accounts payable.........................................    10,442     24,351
  Accrued compensation.....................................     3,000      3,095
  Accrued restructuring and other special costs............     4,705      3,849
  Other accrued expenses...................................    18,193     16,847
  Accrued subscriber acquisition costs.....................       --       7,144
  Unearned revenue.........................................    10,200     14,062
  Capital lease obligation--short term.....................       --         412
                                                            ---------  ---------
    Total current liabilities..............................    48,540    179,914
Capital lease obligation--long term........................       --         983
                                                            ---------  ---------
    Total liabilities......................................    48,540    180,897
                                                            ---------  ---------
Commitments and contingencies (Note 14)
Stockholders' equity:
  Preferred stock, $.01 par value; 10,000,000 shares
   authorized; none issued or outstanding..................       --         --
  Contingent convertible notes.............................    30,500        --
  Common stock, $.01 par value; 150,000,000 shares
   authorized; 45,034,297 and 64,502,608 shares issued and
   outstanding at December 31, 1998 and 1999,
   respectively............................................       450        645
  Additional paid-in capital...............................   294,296    539,054
  Accumulated deficit......................................  (292,787)  (373,275)
  Note receivable from stockholder.........................    (2,667)    (1,333)
                                                            ---------  ---------
    Total stockholders' equity.............................    29,792    165,091
                                                            ---------  ---------
    Total liabilities and stockholders' equity............. $  78,332  $ 345,988
                                                            =========  =========
</TABLE>

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

                                       51
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

                      CONSOLIDATED STATEMENT OF OPERATIONS
                    (in thousands except per share amounts)

<TABLE>
<CAPTION>
                                                    Year Ended December 31,
                                                  -----------------------------
                                                    1997       1998      1999
                                                  ---------  --------  --------
<S>                                               <C>        <C>       <C>
Revenues:
  Internet and online service revenues:
    Prodigy Internet............................  $  29,459  $ 80,696  $154,211
    Prodigy Classic.............................     98,793    48,212    15,599
                                                  ---------  --------  --------
                                                    128,252   128,908   169,810
  Other.........................................      5,940     7,232    19,228
                                                  ---------  --------  --------
    Total revenues..............................    134,192   136,140   189,038
                                                  ---------  --------  --------
Operating costs and expenses:
  Costs of revenue..............................     91,998    93,355   102,199
  Sales and marketing...........................     59,624    41,678    58,854
  Product development...........................     11,407    10,880    12,341
  General and administrative....................     56,254    44,640    61,652
  Depreciation and amortization.................     21,444    16,072    21,792
  Amortization of subscriber acquisition costs..        --        --     20,448
  Restructuring and other special costs.........      9,854       --        --
  Write-down of assets held for sale............      2,400       --        --
  Loss on sale of cellular assets...............        848       --        --
                                                  ---------  --------  --------
    Total operating costs and expenses..........    253,829   206,625   277,286
                                                  ---------  --------  --------
Operating loss..................................   (119,637)  (70,485)  (88,248)
  Gain on sale of assets/equity investments.....        250     5,176     3,319
  Gain on settlement of note payable............        --        --      1,714
  Gain on settlement of note receivable.........        --        --        500
  (Loss) on equity investment in joint venture..    (12,101)      --        --
  Interest income...............................        272     1,541     5,121
  Interest expense..............................     (1,559)   (1,315)   (2,859)
  Other.........................................        --        --        (35)
                                                  ---------  --------  --------
    Net loss....................................  $(132,775) $(65,083) $(80,488)
                                                  =========  ========  ========
Basic and diluted loss per share................  $   (7.66) $  (1.60) $  (1.34)
                                                  =========  ========  ========
Weighted average number of common shares
 outstanding used in computing basic and diluted
 net loss per share.............................     17,337    40,746    59,958
                                                  =========  ========  ========
</TABLE>


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

                                       52
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

           CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
                    (in thousands except per share amounts)

<TABLE>
<CAPTION>
                              Contingent  Common Stock   Additional
                              Convertible --------------  Paid-in   Accumulated
                                 Notes    Shares  Amount  Capital     Deficit
                              ----------- ------  ------ ---------- -----------
<S>                           <C>         <C>     <C>    <C>        <C>
Balance at December 31,
 1996.......................   $ 30,500   12,310   $123   $ 52,883   $ (94,929)
Issuance of common stock for
 cash.......................              14,913    149     71,890
Issuance of common stock on
 conversion of advances from
 stockholders...............               8,547     86    102,565
Acquisition and retirement
 of treasury shares.........              (1,966)   (20)    (8,602)
Comprehensive loss:
  Net loss..................                                          (132,775)
Other comprehensive losses:
  Translation adjustment....
  Comprehensive loss........
                               --------   ------   ----   --------   ---------
Balance at December 31,
 1997.......................     30,500   33,804    338    218,736    (227,704)
                               --------   ------   ----   --------   ---------
Issuance of common stock for
 cash.......................              11,254    112     74,926
Issuance of common stock on
 conversion of advances from
 stockholders...............
Options granted below fair
 market value...............                                   730
Acquisition and retirement
 of treasury shares.........                 (24)              (96)
Comprehensive loss:
  Net loss..................                                           (65,083)
  Comprehensive loss........
                               --------   ------   ----   --------   ---------
Balance at December 31,
 1998.......................     30,500   45,034    450    294,296    (292,787)
                               --------   ------   ----   --------   ---------
Issuance of common stock for
 cash.......................              12,373    124    164,409
Issuance of common stock in
 connection with the
 acquisition of
 BizOnThe.Net...............               2,841     28     48,411
Convertible securities
 redemption.................    (30,500)   4,255     43     30,457
Options granted below fair
 market value...............                                 1,481
Comprehensive loss:
  Net loss..................                                           (80,488)
  Comprehensive loss........
                               --------   ------   ----   --------   ---------
Balance at December 31,
 1999.......................   $    --    64,503   $645   $539,054   $(373,275)
                               ========   ======   ====   ========   =========
</TABLE>

                                       53
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

     CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)--(Continued)
                    (in thousands except per share amounts)

<TABLE>
<CAPTION>
                              Accumulated     Note
                                 Other     Receivable
                             Comprehensive    From                Comprehensive
                             (Loss) Profit Stockholder   Total        Loss
                             ------------- ----------- ---------  -------------
<S>                          <C>           <C>         <C>        <C>
Balance at December 31,
 1996......................      $ (30)                $ (11,453)
Issuance of common stock
 for cash..................                  $(4,000)     68,039
Issuance of common stock on
 conversion of advances
 from stockholders.........                              102,651
Acquisition and retirement
 of treasury shares........                               (8,622)
Comprehensive loss:
  Net loss.................                             (132,775)   $(132,775)
Other comprehensive losses:
  Translation adjustment...       (159)                     (159)        (159)
                                                                    ---------
  Comprehensive loss.......                                         $(132,934)
                                 -----       -------   ---------    =========
Balance at December 31,
 1997......................       (189)       (4,000)     17,681
                                 -----       -------   ---------
Issuance of common stock
 for cash..................                               75,038
Issuance of common stock on
 conversion of advances
 from stockholders.........                    1,333       1,333
Options granted at below
 fair market value.........                                  730
Acquisition and retirement
 of treasury shares........                                  (96)
Comprehensive loss:
  Net loss.................                              (65,083)   $ (65,083)
Other comprehensive losses:
  Translation adjustment...        189                       189          189
                                                                    ---------
  Comprehensive loss.......                                         $ (64,894)
                                 -----       -------   ---------    =========
Balance at December 31,
 1998......................      $ --         (2,667)     29,792
                                 -----       -------   ---------
Issuance of common stock
 for cash..................                    1,334     165,867
Issuance of common stock on
 acquisition of
 BizOnThe.Net..............                               48,439
Convertible securities
 redemption................
Options granted below fair
 market value..............                                1,481
Comprehensive loss:
  Net loss.................                              (80,488)   $ (80,488)
                                                                    ---------
  Comprehensive loss.......                                         $ (80,488)
                                 -----       -------   ---------    =========
Balance at December 31,
 1999......................      $ --        $(1,333)  $ 165,091
                                 =====       =======   =========
</TABLE>


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

                                       54
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

                     CONSOLIDATED STATEMENTS OF CASH FLOWS
               (in thousands except share and per share amounts)

<TABLE>
<CAPTION>
                                                    Years Ended December 31,
                                                  ------------------------------
                                                    1997       1998      1999
                                                  ---------  --------  ---------
<S>                                               <C>        <C>       <C>
Cash flows from operating activities:
Net loss......................................... $(132,775) $(65,083) $ (80,488)
Adjustments to reconcile net loss to net cash
 used in operating activities:
  Loss on equity investment in joint venture.....    12,101       --         --
  Recovery of equity investments.................      (250)      --         --
  Write-down of assets held for sale.............     2,400       --         --
  Gain on sale of assets.........................       --     (5,176)    (3,319)
  Gain on settlement of note payable.............       --        --      (1,714)
  Gain on settlement of note receivable..........       --        --        (500)
  Option grants at below fair value..............       --        730      1,481
  Loss on sale of cellular assets................       848       --         --
  Depreciation and amortization of property and
   equipment.....................................    11,997     7,896      8,429
  Amortization of goodwill.......................     1,551     1,551      5,505
  Amortization of tradename......................     3,455     3,667      3,849
  Amortization of other intangibles..............       --        --         152
  Amortization of deferred network asset.........     1,335     2,228      2,376
  Amortization of subscriber acquisition costs...       --        --      20,448
  Amortization of deferred software development
   costs.........................................     1,159       --         --
  Write-down of deferred software development
   costs to net realizable value.................     1,946       --         --
  Provision for doubtful accounts................      (342)      (49)    (3,200)
  Change in operating assets and liabilities, net
   of effects of acquisitions and disposals:
  Trade accounts receivable......................     1,935       823     (4,711)
  Due from affiliate.............................       --        --      (1,801)
  Prepaid expenses...............................     1,340      (312)    (1,078)
  Other assets...................................    (1,690)    1,320     (1,083)
  Assets held for sale...........................    (5,325)    1,650        --
  Accounts payable and other accrued expenses....   (11,650)  (20,359)    12,997
  Accrued compensation...........................    (1,089)      652         95
  Accrued restructuring and other special costs..    (2,178)   (3,170)      (856)
  Unearned revenue...............................     1,193     5,648      3,271
                                                  ---------  --------  ---------
    Net cash used in operating activities........  (114,039)  (67,984)   (40,147)
                                                  ---------  --------  ---------
Cash flows from investing activities:
  Acquisition of property and equipment..........    (8,556)   (2,567)    (9,907)
  Acquisition of subscribers.....................       --        --    (196,142)
  Acquisition of Web hosting business............       --        --      (9,829)
  Proceeds from sale of assets/equity
   investments...................................       --      5,176      3,319
  Investment in joint venture....................    (7,006)      --         --
  Increase in other assets.......................       308       --         --
                                                  ---------  --------  ---------
    Net cash used in investing activities........   (15,254)    2,609   (212,559)
                                                  ---------  --------  ---------
</TABLE>

                                       55
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

               CONSOLIDATED STATEMENTS OF CASH FLOWS--(Continued)
               (in thousands except share and per share amounts)

<TABLE>
<CAPTION>
                                                   Years Ended December 31,
                                                  ----------------------------
                                                    1997      1998      1999
                                                  --------  --------  --------
<S>                                               <C>       <C>       <C>
Cash flows from financing activities:
  Proceeds from issuance of common stock......... $ 68,039  $ 74,942  $164,533
  Repayment of notes payable to related parties..  (46,000)  (32,100)  (19,846)
  Proceeds from notes payable to related
   parties.......................................      --     22,100   130,000
  Repayment of borrowings........................      --    (30,000)     (750)
  Proceeds from borrowings.......................  102,651    30,000       --
  Payment of note receivable from stockholder....      --      1,333     1,334
  (Increase)/decrease in restricted cash.........   (4,148)   (1,272)      728
  Other..........................................     (161)      189       --
                                                  --------  --------  --------
    Net cash provided by financing activities....  120,381    65,192   275,999
                                                  --------  --------  --------
Net increase (decrease) in cash and cash
 equivalents.....................................   (8,912)     (183)   23,293
                                                  --------  --------  --------
Cash and cash equivalents, beginning of period...   21,275    12,363    12,180
                                                  --------  --------  --------
Cash and cash equivalents, end of period......... $ 12,363  $ 12,180  $ 35,473
                                                  ========  ========  ========
Supplementary Cash Flow Information:
  Cash paid for interest......................... $  1,177  $  1,164  $  1,823
Noncash investing and financing activities:
  Conversion of advances from stockholder to
   common stock..................................  102,651       --        --
  Contingent convertible notes and contingent
   warrants issued in exchange for contingent
   convertible note..............................   30,500       --        --
  Conversion of contingent convertible notes into
   common stock..................................      --        --    (30,500)
  Sale of network assets in exchange for service
   agreement.....................................    9,502       --        --
  Issuance of common stock in connection with
   acquisition of Web hosting business...........      --        --    (48,439)
  Contingent convertible note received as
   settlement for sale of International Wireless
   cellular communications business..............      --        --       (875)
  Capital lease obligations......................      --        --      1,395
  Option grants at below fair value..............      --        730     1,481
</TABLE>


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

                                       56
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
               (in thousands except share and per share amounts)

1. Organization and Basis of Presentation

   Prodigy Communications Corporation (the "Company" or "Prodigy") is a leading
nationwide Internet Service Provider ("ISP"). The Company is controlled by
Carso Global Telecom, S.A. de C.V. ("Carso Global Telecom") through a 64.1%
direct and indirect majority voting equity interest in the Company's common
stock. The Company was formed in June 1996, under the name Prodigy, Inc., to
acquire Prodigy Services Company ("PSC") and to hold International Wireless
Incorporated ("IW") and other communications interests. IW was incorporated on
May 23, 1994, to develop and operate cellular telephone systems in Africa. IW's
other communications interests consisted of Africa Online, Inc., a wholly-owned
subsidiary engaged in Internet access and online services in Africa, and an
equity investment in a start-up joint venture in China.

   Since the acquisition of PSC, the Company has been in the midst of a major
transformation, both domestically and internationally. In the United States,
the Company launched its open standards based Internet access service ("Prodigy
Internet") in October 1996. The Company's cellular telephone assets and
operations were sold in January 1997. In 1997, the Company determined that its
primary focus would be as an ISP and decided to discontinue the production of
its own content for Prodigy Internet. In 1998, the Company sold its African
operations and negotiated a settlement of its liabilities in connection with
the closing of its Asian operations (see Note 5--Dispositions).

   Since formation, Prodigy has relied on private sales of equity securities
(totaling $294,100 through December 31, 1999), borrowings and the initial
public offering in February 1999 (with net proceeds of $157,200) to fund its
operations. Prodigy has incurred significant losses since inception and, at
December 31, 1999, had an accumulated deficit of $373,275 and a working capital
deficit of $128,096 comprised of current liabilities of $179,914 offset by
current assets of $51,818. For the years ended December 31, 1997, 1998 and
1999, Prodigy incurred negative cash flow from operations of $114,039, $67,984
and $40,147, respectively. To the extent the Company is unable to fund its
current obligations as they become due from its operating cash flows, Carso
Global Telecom, through its subsidiary Telmex, has committed to provide
additional financing, either through capital and/or debt financing, of up to
$200,000 through February, 2001. Specific terms of this financing will be
determined at the time such financing, if any, is provided. Management believes
that this additional funding will be sufficient to enable the Company to meet
its planned expenditures through at least December 31, 2000.

2. Acquisitions

 Acquisition of BizOnThe.Net

   On October 5, 1999, Prodigy acquired the BizOnThe.Net Web hosting business
of U.S. Republic Communications, Inc. an indirect majority owned subsidiary of
VarTec including the subscribers of the BizOnThe.Net Web hosting business. At
the closing, Prodigy repaid a $9,000 loan from VarTec to U.S. Republic and
issued 2,840,993 shares of Prodigy common stock to U.S. Republic including
727,272 shares held in an escrow account to secure the indemnification
obligations of U.S. Republic and its shareholders. Some or all of the escrowed
shares will be released to U.S. Republic at various times over the two year
period following the closing. In addition to the shares and amounts paid at
closing, in 2001 Prodigy may be required to issue up to 727,272 additional
shares, contingent on the attainment by the acquired business of set earn-out
targets.

   The acquisition of BizOnThe.Net has been accounted for under the purchase
method of accounting and accordingly the cost to acquire BizOnThe.Net was
allocated to the assets acquired and liabilities assumed based on their
respective fair values with the excess allocated to goodwill. The total
purchase price is subject to

                                       57
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

change based on the calculation of the amount by which the net book value of
the acquired assets and assumed liabilities as of October 5, 1999 exceeded or
was less than the net book value as of July 31, 1999, which is expected to be
finalized in the second quarter of 2000, and earn-out adjustments to be
finalized over the next two years. Changes in the purchase price based on these
adjustments will be recorded as corresponding increases or decreases in
goodwill at the time the related items are resolved and are not expected to
exceed $10,000. Based on the value of the 2,840,993 shares of common stock
currently issued in connection with the BizOnThe.Net acquisition and the $9,000
cash used to repay the loan, the total purchase price is approximately $58,000.
The excess of the purchase price over the fair value of tangible and intangible
assets acquired and liabilities assumed of $49,598 has been allocated to
goodwill and will be amortized on a straight-line basis over 3 years.

 Pro Forma (Unaudited)

   The unaudited condensed pro forma results of operations presented below
assume that the Combination occurred at the beginning of each period presented.
The pro forma information is not necessarily indicative of the combined results
of operations of Prodigy and BizOnThe.Net that would have resulted if the
transaction had occurred on the dates indicated and they are not necessarily
indicative of the future operating results of the combined company.

<TABLE>
<CAPTION>
                                                              Twelve Months
                                                                  Ended
                                                              December 31,
                                                            ------------------
                                                              1999      1998
                                                            --------  --------
<S>                                                         <C>       <C>
Revenues................................................... $208,107  $143,246
Net loss................................................... $(95,236) $(91,385)
Pro forma net loss per common share........................ $  (1.53) $  (2.10)
</TABLE>

3. Significant Accounting Policies

 Principles of Consolidation

   The accompanying consolidated financial statements include the accounts of
the Company and its subsidiaries. All significant intercompany accounts and
transactions have been eliminated.

 Estimates and Assumptions

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

 Foreign Currency Translation

   The functional currencies of the Company's foreign subsidiaries, which were
disposed of in 1998, were the local currencies. Accordingly, assets and
liabilities of foreign subsidiaries were translated to U.S. dollars at period-
end exchange rates and revenues and expenses were translated using the average
rates during the period. The effects of foreign currency translation
adjustments have been accumulated and are included as a separate component of
stockholders' equity. Foreign currency transaction gains and losses, arising
from

                                       58
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

exchange rate fluctuations on transactions denominated in currencies other than
the functional currencies, were immaterial for all periods presented.

 Revenue Recognition

   Internet and on-line service revenues encompass subscription and usage fees
and are earned over the period services are provided. Other revenues,
consisting principally of subscriber management fees, Web hosting fees and
marketing services, are recognized as fees are earned or services are provided.
Unearned revenue consists primarily of subscription fees billed in advance.

 Subscriber Acquisition Costs

   Costs of acquisition programs which result in subscriber enrollments without
further effort required by the Company are capitalized and amortized over the
estimated life of the acquired subscriber (See Note 8-- Subscriber Acquisition
Costs). General marketing costs, as well as all other costs related to the
acquisition of subscribers, are expensed as incurred.

 Advertising Costs

   Advertising costs are included in marketing expenses and are expensed as
incurred.

 Research and Development

   Research and development costs are expensed as incurred.

 Cash and Cash Equivalents

   The Company considers all highly liquid investments with original maturities
at date of purchase of three months or less to be cash equivalents. Cash and
cash equivalents are stated at cost, which approximates fair value because of
the short maturity of these instruments.

 Restricted Cash

   Restricted cash represents collateral for outstanding letters of credit, the
escrow portion of proceeds related to the Company's sale of a subsidiary and
collateral for a surety bond filed with a state government.

 Property and Equipment

   Property and equipment are recorded at cost and depreciated using the
straight-line method over the estimated useful lives of the assets.
Expenditures for major renewals and betterments that extend the useful lives of
property and equipment are capitalized. Expenditures for maintenance and
repairs are charged to expense as incurred. When assets are sold or otherwise
disposed of, the cost and related accumulated depreciation are relieved and any
resulting gain or loss is recognized.

 Internal Use Software

   The Company capitalizes the cost of acquiring internal use software once the
application development stage has begun and ceases to capitalize costs once the
software is put into use. Training, maintenance and data conversion costs are
expensed as incurred.

                                       59
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)


  Equipment Under Capital Leases

   The Company leases certain computer equipment under capital lease
agreements. The assets and liabilities under capital leases are recorded at the
lower of the present value of the minimum lease payments or the fair value of
the asset. The assets are being depreciated over their related lease terms.
Depreciation of assets under capital leases is included in depreciation
expense.

 Intangible Assets

   Intangible assets consist principally of tradenames and goodwill.
Amortization of these assets is computed on a straight-line basis over
estimated useful lives. Tradenames are amortized over a period of 3 to 10 years
and goodwill, which represents the excess of the purchase price over the
estimated fair values of net assets acquired, is amortized over a period of 3
to 10 years.

 Long-Lived Assets

   The Company periodically reviews the recoverability of the carrying value of
these assets using the methodology prescribed in SFAS No. 121, Accounting for
the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed
of. The Company reviews long-lived assets and the related intangible assets for
impairment whenever events or changes in circumstances indicate the carrying
amounts of such assets may not be recoverable. Recoverability of these assets
is determined by comparing the forecasted undiscounted net cash flows of the
operation to which the assets relate, to the carrying amount, including
associated intangible assets, of such operation. If the operation is determined
to be unable to recover the carrying amount of its assets, then intangible
assets are written down first, followed by the other long-lived assets of the
operation, to fair value. Fair value is determined based on discounted cash
flows or appraised values, depending upon the nature of the assets.

 Income Taxes

   Deferred tax liabilities and assets are recognized based on temporary
differences between the financial statement and tax bases of assets and
liabilities using current statutory rates. A valuation allowance is applied
against net deferred tax assets if, based on the weighted available evidence,
it is more likely than not that some or all of the deferred tax assets will not
be realized.

 Accounting for Stock-Based Compensation

   The Company adopted Statement of Financial Accounting Standards No. 123
(SFAS No. 123), "Accounting for Stock-Based Compensation," in 1996. As
permitted by SFAS No. 123, the Company has elected to continue to apply the
intrinsic value methodology provisions of Accounting Principles Board Opinion
No. 25 (APB 25), "Accounting for Stock Issued to Employees," for the grants or
awards of equity instruments to employees. In accordance with APB 25 no expense
was recorded during 1997. During 1998 and 1999 approximately $730 and $1,481 of
compensation expense was recorded. As required by SFAS No. 123, the Company has
disclosed the pro forma effect on net loss of using a fair value approach to
measure compensation for grants or awards of equity instruments (see Note 13--
Stock Option and Purchase Plan).

 Net Loss Per Share

   The Company computes basic and diluted earnings per share in accordance with
Statement of Financial Accounting Standards No. 128 ("SFAS 128"), "Earnings per
Share." SFAS 128 requires the Company to

                                       60
<PAGE>

                      PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

report both basic earnings per share, which is based on the weighted average
number of common shares outstanding, and diluted earnings per share, which is
based on the weighted average number of common shares outstanding and all
dilutive potential common shares outstanding. As the Company incurred losses
for all periods presented, there is no difference between basic and diluted
earnings per share.

 Concentrations of Credit Risk

   Financial instruments which potentially subject the Company to
concentrations of credit risk consist principally of cash and trade
receivables. Concentration of credit risk with respect to cash is limited as
the Company invests its cash in deposits with several financial institutions.
Concentration of credit risk with respect to trade receivables is limited as
the outstanding total represents a large number of customers with individually
small balances. The Company does not require collateral or other security
against trade receivable balances; however, it does maintain reserves for
potential credit losses and such losses have been within management's
expectations.

 Reclassifications

   Certain amounts from prior periods have been reclassified to conform with
the current year presentation.

 Recent Accounting Pronouncements

   In November 1999, the Securities and Exchange Commission ("SEC") issued
Staff Accounting Bulletin ("SAB") No. 100, "Restructuring and Impairment
Charges." In December 1999, the SEC issued SAB No. 101, "Revenue Recognition
in Financial Statements." SAB No. 100 express the views of the SEC staff
regarding the accounting for and disclosure of certain expenses not commonly
reported in connection with exit activities and business combinations. This
includes the accrual of exit and employee termination costs and the
recognition of impairment charges. SAB No. 101 expresses the views of SEC
staff in applying generally accepted accounting principles to certain revenue
recognition issues. Prodigy has concluded that these SABs do not have a
material impact on its financial position or its results of operations.


                                      61
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

4. Restructuring and Other Special Costs

   During 1997, in an effort to decrease cash outflows and more efficiently
manage its business, the Company decided to restructure its operations and
outsource its network and content production functions. The Company's
provisions, expenditures and remaining balances to be paid are detailed below:

<TABLE>
<CAPTION>
                                                  Accrued               Accrued               Accrued
                                                  Costs at              Costs at              Costs at
                                 1997    1997   December 31,   1998   December 31,   1999   December 31,
                                 Cost  Payments     1997     Payments     1998     Payments     1999
                                ------ -------- ------------ -------- ------------ -------- ------------
 <C> <S>                        <C>    <C>      <C>          <C>      <C>          <C>      <C>
 (A) Network termination
      costs..................   $4,740             $4,740     $  849     $3,891      $ 42      $3,849
 (B) Employee severance......    2,900  $1,979        921        921
 (C) Discontinuance of
      content production.....      585                585        585
 (D) Medford, MA Facility
      Closing................    1,629              1,629        815        814       814
                                ------  ------     ------     ------     ------      ----      ------
                                $9,854  $1,979     $7,875     $3,170     $4,705      $856      $3,849
                                ======  ======     ======     ======     ======      ====      ======
</TABLE>
--------
(A)  In connection with the sale of its network (see Note 5--Dispositions, Sale
     of Network), the Company incurred liabilities related primarily to early
     termination payments and other contractual obligations for certain non-
     cancelable network related agreements. Management expects to use this
     reserve in full by the year ending December 31, 2001.

(B)  The Company implemented a restructuring plan to reduce costs through job
     elimination and as a result recorded a charge of $2,900. Approximately 80
     employees throughout the Company were terminated. The entire reserve was
     used in 1997 and 1998 to make severance payments to employees identified
     as part of the original plan.

(C)  The Company decided to discontinue the production of its own content and
     as a result recorded a charge of $585 to account for the employee
     termination costs and the costs to settle content related contractual
     obligations. Approximately 25 employees were terminated. The entire
     reserve was used in 1997 and 1998 to make severance payments to employees
     identified as part of the original plan.

(D)  The Company's Medford, Massachusetts location has been closed and a charge
     of $1,629 was recorded to account for the costs of employee terminations
     and lease cancellation. The entire reserve has been utilized by December
     31, 1999. The terminated employees were involved with the Company's
     international operations and/or former headquarters management.
     Approximately 20 employees were terminated.

5. Dispositions

 Sale of International Wireless

   Effective January 1997, the Company sold all issued outstanding capital
stock of IW to a company (the "Buyer") formed by a former executive and
shareholder of the Company (the "Executive"). The selling price consisted of
(i) the surrender of 1,392,857 shares of common stock of the Company, (ii) a
Promissory Note (the "Note") in the amount of $21,500 due in full on July 27,
1997, including $1,500 in reimbursement of capital expenditures made by the
Company for the benefit of IW, secured by a pledge of 67% of the shares of IW
purchased from the Company, and bearing interest at 9% until April 27, 1997 and
12% thereafter, and (iii) the termination of the Executive's fully vested
options to purchase 125,000 shares of common stock for $1.00 per share and
125,000 shares of common stock for $8.00 per share.


                                       62
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

   In October 1997, the Company and the Buyer modified the Note including the
following: (i) the due date was extended to January 31, 1999, (ii) the Note was
changed to make it unsecured, (iii) the interest rate was reduced to 8%, (iv)
the Note was subject to mandatory repayment out of the net proceeds from an
acquisition of IW. The Buyer also surrendered an additional 573,580 shares of
common stock of the Company in exchange for a reduction in IW's unpaid
obligations at October 31, 1997 to $16,148. As a result of the restructuring of
the Note and revaluation of the Company's stock from $12.00 to $4.00 per share,
a loss on the sale of IW of $848,000 was recorded in 1997.

   In October 1999 the note was restructured for a cash settlement of $500,000
and an 8% convertible note for $875,000 due in October 2006. The Note is
convertible into 1 million shares of common stock of Wireless Communications
Technology, which purchased the cellular division of IW. At December 31, 1997,
1998 and 1999 the respective notes receivable were valued at zero.

 Sale of Network

   Prodigy owned and operated its own network in the United States until July
1, 1997. Effective July 1, 1997, the Company sold to Splitrock Services, Inc.
("Splitrock"), an affiliate of Carso Global Telecom, certain of its network
assets. Splitrock agreed to: (i) assume equipment leases, maintenance and
license liabilities related to network assets, and (ii) enter into a Full
Service Agreement whereby Splitrock will provide certain network services to
the Company, including commitments to meet certain capacity and performance
requirements.

   As a result of the sale of the network effective July 1, 1997, the Company
sold property and equipment with a net book value of approximately $9,500 and
did not record any gain or loss upon the sale of these assets. The net book
value of the equipment was removed from property and equipment on the balance
sheet and classified as a "Deferred Network Asset" and is being amortized over
the four year term of the Splitrock contract on a straight-line basis.

 Exit of International Operations

   In December 1997, management decided to exit its international operations in
order to focus on its domestic internet service business. The Company recorded
a charge of $2,400 in 1997 to reduce the carrying value of Africa Online, Inc.
long lived assets, including goodwill, to their estimated net realizable value.

   In March 1998, the Company terminated its Chinese joint ventures and
operations. On October 1, 1998, Africa Online, Inc. was sold for gross cash
proceeds of $2,815, of which $750 was placed in escrow to collateralize certain
indemnification obligations of the Company for a six month period. The sale
resulted in a gain to the Company of approximately $2,900.

 Sale of Equity Investment

   During 1997 the Company sold a subsidiary which eventually became part of
TCI Music. As a result of the sale, the Company acquired shares of TCI Music.
During April of 1999, TCI Music announced its merger with Liberty Media. As a
result, the value of the Company's investment increased and was sold for
$3,325, generating a gain of $3,319 which was recognized in 1999.


                                       63
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

6. Property and Equipment

   Property and equipment consisted of the following at December 31:

<TABLE>
<CAPTION>
                                                       Useful
                                                        Life     1998    1999
                                                      --------- ------- -------
<S>                                                   <C>       <C>     <C>
Computer equipment................................... 3-5 years $24,711 $33,109
Capitalized software................................. 3-5 years   2,126   5,862
Leasehold improvements............................... 5-7 years   4,778   4,836
Furniture and equipment.............................. 5-8 years   1,590   1,696
Property under capital lease......................... 39 months           1,538
                                                                ------- -------
                                                                 33,205  47,041
Less accumulated depreciation and amortization.......            20,207  28,840
                                                                ------- -------
                                                                $12,998 $18,201
                                                                ======= =======
</TABLE>

   Depreciation and amortization of fixed assets was approximately $11,997,
$7,896 and $8,429 for the years ended December 31, 1997, 1998 and 1999,
respectively.

7. Intangible Assets

   The cost and accumulated amortization of intangible assets was as follows at
December 31:

<TABLE>
<CAPTION>
                                                                 1998    1999
                                                                ------- -------
<S>                                                             <C>     <C>
Tradename:
  Cost......................................................... $35,668 $39,217
  Less: accumulated amortization...............................   9,089  12,887
                                                                ------- -------
                                                                $26,579 $26,330
                                                                ======= =======
Goodwill:
  Cost......................................................... $15,529 $65,127
  Less: accumulated amortization...............................   3,942   9,447
                                                                ------- -------
                                                                $11,587 $55,680
                                                                ======= =======
Deferred network costs:
  Cost......................................................... $ 9,502 $ 9,502
  Less: accumulated amortization...............................   3,563   5,939
                                                                ------- -------
                                                                $ 5,939 $ 3,563
                                                                ======= =======
Other Intangibles:
  Cost......................................................... $   --  $ 1,900
  Less: accumulated amortization...............................     --      152
                                                                ------- -------
                                                                $   --  $ 1,748
                                                                ======= =======
</TABLE>

8. Subscriber Acquisition Costs

   In May 1999, the Company entered into an agreement with Cable & Wireless
USA, Inc. to purchase the dial-up access Internet subscriber base of that
entity. At the closing on July 20, 1999, the Company paid Cable & Wireless USA,
Inc. $40,900 in cash and anticipates finalizing the purchase price in the first
quarter of 2000.


                                       64
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

   The purchase price is expected to decrease by approximately $10 million from
the original payment due to fewer subscribers transitioning to the Prodigy
service than originally projected. The Company has capitalized the costs of the
subscribers purchased under this agreement and is amortizing these costs over
36 months representing the estimated weighted average term of the subscribers
acquired.

   During 1999, the Company entered into agreements with major retailers of
personal computers (the "Retailers") to make specified payments to the
Retailers in exchange for the Retailers enrolling customers onto Prodigy
Internet and obtaining a signed contractual commitment from these customers to
term subscriptions to Prodigy Internet of one, two or three years at the
Company's standard monthly rates. The Company has capitalized these payments
and is amortizing them over the term of the individual subscriber contract. The
company reviews subscriber terminations on a quarterly basis and any
unamortized acquisition costs related to such terminations are written off.

   Capitalized subscriber acquisition costs at December 31, 1999 are as
follows:

<TABLE>
<CAPTION>
                                                                         1999
                                                                       --------
<S>                                                                    <C>
Cable & Wireless
  Cost................................................................ $ 41,612
  Less: accumulated amortization......................................   (4,818)
                                                                       --------
                                                                       $ 36,794
                                                                       ========
Subscriber Contract Acquisition
  Cost................................................................ $161,674
  Less: accumulated amortization......................................  (15,630)
                                                                       --------
                                                                       $146,044
                                                                       ========
</TABLE>

   The amortization expense for subscriber acquisition costs for the year ended
December 31, 1999 is $20,448.

9. Notes Payable

   Notes payable consisted of the following at December 31:

<TABLE>
<CAPTION>
                                                                 1998    1999
                                                                ------ --------
<S>                                                             <C>    <C>
Notes payable to related party................................. $    0 $110,154
                                                                ------ --------
Loan payable to corporate lender............................... $2,000 $      0
                                                                ------ --------
</TABLE>

   In March 1996, the Company borrowed $2,000 from a network company (the
"Corporate Lender") pursuant to an 8.25% convertible note. Principal and
interest were due on March 31, 1997. The note had not been formally extended.
The Corporate Lender had the right within 30 days after the completion of a
private placement and prior to March 31, 1997 to convert the principal and
interest into common stock at the price per share at which the Company's common
stock is issued in the private placement. In January 1999, the Company paid the
Corporate Lender $750 in full settlement of its 8.25% convertible note in the
principal amount of $2,000 and all accrued interest. As a result the Company
recognized a gain of $1,714 in 1999.

   In August 1998, the Company obtained a $35,600 line of credit from Carso
Global Telecom. This credit facility expired on December 31, 1999 and bore
interest at the LIBOR rate plus between one and five percentage points. There
were no outstanding amounts on this facility as of December 31, 1998 or 1999.


                                       65
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

   In August 1999, the Company obtained a $130,000 line of credit from Banco
Inbursa to fund its various subscriber acquisition programs during the third
and fourth quarter of 1999. The interest rate on this facility fluctuates based
on market conditions at the time of each drawdown. These borrowings reached a
maximum of $130,000 during 1999 at interest rates between 9% and 12%. At
December 31, 1999 the line had been paid down to $110,154. In January 2000,
Prodigy repaid $13,800 of these notes. The remaining $96,400 is due April 7,
2000.

10. Contingent Convertible Notes and Warrants

   The Contingent Convertible Notes ("Contingent Notes") valued at $30,500,
were issued to International Business Machines Corporation ("IBM") and Sears
Roebuck and Co. ("Sears") in 1996 in connection with the acquisition of PSC and
had an interest rate of 8% annually commencing on December 17, 1997.

   In November 1997, IBM and Sears (i) agreed that the consideration receivable
upon conversion of the Contingent Notes would be based on the valuation of the
Company in excess of $250,000 (with the aggregate consideration payable to IBM
and Sears still limited to $200,000 plus interest from June 17, 1996) and (ii)
were granted Contingent Stock Purchase Warrants (the "Contingent Warrants") to
purchase shares of Common Stock of the Company at 130% of the fair market value
thereof at the time of conversion of the Contingent Notes. The aggregate number
of shares of Common Stock issuable to IBM and Sears upon conversion of the
Contingent Notes and exercise of the Contingent Warrants could not exceed 15%
of the number of shares outstanding upon completion of the IPO. As a condition
to these arrangements, Carso Global Telecom prepaid (on behalf of and as an
advance to the Company) the balance due on the Company's former White Plains
lease ($5,831) and established a $4,000 letter of credit, declining quarterly
over three years, to collateralize certain payment obligations of the Company
under PSC contracts for which IBM and Sears remain liable.

   Upon the completion of the Company's initial public offering both IBM and
Sears acquired an interest in the Company's outstanding common stock in
accordance with the terms of the Contingent Convertible Notes. IBM and Sears
each received approximately 2,127,500 shares for a combined total of
approximately 4,255,000. Additionally, IBM and Sears each received warrants
which allow them to purchase 2,409,145 additional shares each at $19.50 per
share. Those warrants are exercisable for three years from the conversion date.

11. Income Taxes

   The Company had no income tax expense for the years ended December 31, 1997,
1998 and 1999 as a result of net losses. As of December 31, 1998 and 1999, the
Company's deferred tax assets were as follows:

<TABLE>
<CAPTION>
                                                              1998      1999
                                                            --------  ---------
<S>                                                         <C>       <C>
Domestic net operating loss carryforwards.................. $ 84,991  $ 114,840
Intangible assets..........................................    6,382      6,133
Restructuring and other nonrecurring reserves..............    3,838      1,844
Other......................................................      979      5,026
Valuation allowance........................................  (96,190)  (127,843)
                                                            --------  ---------
Net deferred tax asset..................................... $    --   $     --
                                                            ========  =========
</TABLE>

   At December 31, 1999, the Company had net operating loss carryforwards for
federal income tax purposes of approximately $280,098 which may be used to
offset future taxable income, beginning to expire in 2010. The utilization of
the federal income tax loss carryforwards is subject to limitation as a result
of a change of ownership.

                                       66
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)


   Management of the Company has evaluated the positive and negative evidence
bearing upon the realizability of its deferred tax assets, which are comprised
principally of net operating loss carryforwards. Under the applicable
accounting standards, management has considered the Company's history of losses
and concluded that it is more likely than not that the Company will not realize
these deferred tax assets.

12. Stockholders' Equity

 Authorized Shares of Common Stock

   In 1997, the Board of Directors and the stockholders approved an increase in
the authorized shares of common stock to 280,000,000 shares.

 Reverse Stock Split

   On January 25, 1999, the Board of Directors effected a one-for-four reverse
common stock split. The share information in the accompanying consolidated
financial statements has been retroactively restated to reflect the effect of
the reverse stock split.

 Reduction in Authorized Shares

   On January 25, 1999, the Company effected a reduction in the number of
authorized shares from 280,000,000 to 150,000,000.

 Private Placements

   In October 1996, the Company offered up to 2,000,000 shares of its common
stock in a private placement, resulting in net proceeds to the Company from
investors of approximately $1,843. In February 1997, the Company increased the
size of the offering from 2,000,000 shares to 4,000,000 shares of common stock
and reduced the offering price to $12.00 per share from $28.00 per share. As a
result of the reduction in the offering price, the Company offered to each
investor the choice of either (i) receiving additional shares to reduce their
average purchase price to $12.00 or (ii) rescinding their subscriptions and
receiving refunds without interest upon the closing. The Company received
aggregate gross proceeds of $88,843 and issued 7,403,603 shares of common
stock.

   In November 1997, the Company made a Rights Offering whereby each eligible
stockholder was entitled to purchase at a price of $4.00 per share, one share
of the Company's common stock for each share held. The Company issued
12,640,478 additional shares and received $46,554 in cash and a $4,000 note
receivable from Carso Global Telecom for the issuance of the IBM/Sears letter
of credit (see Note 10--Contingent Convertible Notes and Warrants). On a
quarterly basis, Carso Global Telecom will contribute $333 less any draws on
the letter of credit until the $4,000 has been paid to the Company.

   In August 1998, the Company sold 6,125,000 shares of common stock at a price
of $8.00 per share to Telefonos de Mexico, S.A. de C.V. ("Telmex"), an
affiliate of Carso Global Telecom, resulting in proceeds of $49,000 to the
Company. At the same time Carso Global Telecom purchased an additional
1,375,000 shares of common stock at a price of $8.00 per share, resulting in
proceeds of $11,000 to the Company. These proceeds were used to repay a $30,000
note payable to Bank of America and a remaining $2,100 in notes payable to
Banco Inbursa, with the balance used for general corporate purposes.


                                       67
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

 Initial Public Offering

   On February 11, 1999, the Company completed an initial public offering
("IPO") under the Securities Act of 1933. This resulted in the sale of 11.2
million shares of common stock for gross proceeds of approximately $168,000 and
net proceeds of approximately $157,200.

 IBM and Sears Conversion of Contingent Notes

   Upon the completion of the Company's IPO both IBM and Sears acquired 7.5% of
the Company's outstanding common stock in accordance with the Contingent Notes
Conversion feature (see Note 10--Contingent and Convertible Notes and
Warrants). IBM and Sears each received approximately 2,127,500 shares for a
combined total of approximately 4,255,000 or 15% of the Company.

   Additionally, IBM and Sears each received warrants which allow them to
purchase up to 15% of the Company at 130% of the fair market value at the date
of conversion of the Contingent Notes. Those warrants are exercisable for three
years from the conversion date. IBM and Sears each received approximately
2,409,000 warrants or approximately 4,818,000 in total.

 Stock Warrants

   A warrant to purchase 250,000 shares issued to Carso Global Telecom in 1996
was canceled in March 1997, at which time the Company granted Carso Global
Telecom and another shareholder warrants to purchase 3,250,000 shares and
500,000 shares, respectively, of common stock for $12.00 per share, exercisable
prior to or on November 12, 1997. In October 1997, in consideration for
arranging interim financing for the Company, the exercise price was reduced
from $12.00 per share to $4.00 per share.

   At December 31, 1997, the Company had warrants outstanding with various
shareholders, including Carso Global Telecom, to purchase 3,859,347 shares of
the Company's common stock at an average price of $4.20 per share. During 1998,
3,750,000 warrants were exercised at $4.00 per share. At December 31, 1998, the
Company had warrants outstanding with various shareholders to purchase 122,402
shares of the Company's common stock at an average price of $11.09 per share.
All the outstanding warrants were exercisable as of December 31, 1998. At
December 31, 1999 the Company had warrants outstanding with various
shareholders to purchase 117,402 shares of the Company's common stock at an
average price of $11.05 per share. During 1999, 5,000 warrants were exercised
at a price of $12.00 per share.

13. Stock Option and Purchase Plans

   In 1996, the Board of Directors and the stockholders approved a Stock Option
Plan (the "1996 Plan"). Under the 1996 Plan, options to purchase up to
2,375,000 shares of common stock may be granted to employees, directors,
consultants and advisors of the Company. Options granted may be either
"incentive stock options" or "nonqualified options." All options issued under
the 1996 Plan are exercisable over periods determined by the Board of
Directors, not to exceed 10 years from the date of grant. Options generally
vest over periods ranging from 3-5 years. In September 1997, the Board of
Directors and the stockholders approved an increase of 750,000 to the number of
shares of common stock available for future grants. These options have the same
terms and conditions as the shares initially authorized under the 1996 Plan.

 1999 Outside Directors Stock Option Plan

   In January 1999, Prodigy's Board of Directors and stockholders adopted
Prodigy's 1999 outside director stock option plan. The director plan permits
the issuance of up to 250,000 shares of common stock on the

                                       68
<PAGE>

                      PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

exercise of options granted under the director plan. All options granted under
the director plan are non-statutory stock options. Pursuant to the director
plan, each director of Prodigy who was not then employed by Prodigy received
on the closing of Prodigy's initial public offering an option to purchase
30,000 shares of common stock at an exercise price equal to the price per
share at which shares were sold in the initial public offering. Thereafter,
each new non-employee director will receive, on his or her initial election to
the board of directors, an option to purchase 30,000 shares of common stock at
an exercise price equal to the fair market value of the common stock on the
date of grant. All options granted under the director plan vest in four equal
annual installments, based on continued service as a director, and expire
three months after termination of service as a director.

 1999 Stock Option Plan

   The Board of Directors has adopted, subject to shareholder approval, the
1999 Stock Option Plan (the "1999 Plan"). Under the 1999 Plan, options to
purchase up to 5,600,000 shares of common stock, subject to adjustment in the
event of stock splits, may be granted to employees, directors, consultants and
advisors of the Company. Options granted may be either incentive stock options
or nonqualified options. All options issued under the 1999 Plan are
exercisable over periods determined by the Board of Directors, not to exceed
10 years from the date of grant. No options were granted under the 1999 Plan
as of December 31, 1999.

   The Company's stock option plans are administered by the Board of
Directors.

 Repricing of Stock Options

   In June 1997, the Board approved a plan to reprice employee stock options
under the 1996 Plan to restore the long-term employee retention and
performance incentives of the stock options outstanding. In accordance with
the repricing plan, all stock options held by then current, active full-time
employees, with exercise prices above $12.00 per share, were canceled and
replaced by the same number of options exercisable at $12.00 per share, the
fair value of the Company's common stock as determined by the Board on the
date of the repricing.

   In May 1998, the Board approved a plan to reprice employee stock options
under the 1996 Plan to restore the long-term employee retention and
performance incentives of the stock options outstanding. In accordance with
the repricing plan, all stock options held by then current, active full-time
employees, with exercise prices above $4.00 per share, were canceled and
replaced by the same number of options exercisable at $4.00 per share. The
Company records compensation expense for these repriced options over the
vesting periods based upon a fair value of $7.00 per share. The deferred
compensation expense amounted to $3,123 at December 31, 1998.

   The exercise and vesting periods of the outstanding options were not
altered by the repricings.

   Stock option plan activity for the years ended December 31, 1997, 1998 and
1999 follows (in thousands):

<TABLE>
<CAPTION>
                                                          1997    1998    1999
                                                          -----  ------  ------
<S>                                                       <C>    <C>     <C>
Outstanding at January 1................................. 2,286   2,299   2,370
  Options granted........................................   828   1,441   1,093
  Options exercised......................................            (3) (1,092)
  Options canceled/forfeited.............................  (815) (1,367)   (464)
                                                          -----  ------  ------
Outstanding at December 31............................... 2,299   2,370   1,907
                                                          =====  ======  ======
  Exercisable at December 31.............................   867     691     413
                                                          =====  ======  ======
  Available for grant at December 31.....................   825     752     373
                                                          =====  ======  ======
</TABLE>


                                      69
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

   Weighted average option exercise price information for the years ended
December 31, 1997, 1998 and 1999 follows:

<TABLE>
<CAPTION>
                                                            1997   1998   1999
                                                           ------ ------ ------
<S>                                                        <C>    <C>    <C>
Outstanding at January 1.................................. $12.48 $10.72 $ 5.83
  Options granted......................................... $10.04 $ 5.84 $16.63
  Options exercised....................................... $    0 $11.46 $ 6.24
  Options canceled........................................ $ 9.32 $10.64 $ 8.06
Outstanding at December 31................................ $10.72 $ 5.83 $11.17
                                                           ====== ====== ======
  Exercisable at December 31.............................. $10.96 $ 6.87 $ 5.83
                                                           ====== ====== ======
</TABLE>

   The following table summarizes information about stock options outstanding
at December 31, 1999:

<TABLE>
<CAPTION>
                        Options Outstanding            Options Exercisable
                ------------------------------------ -----------------------
                                Weighted-
                                 Average   Weighted-
   Range of         Number      Remaining   Average      Number     Average
   Exercise      Outstanding   Contractual Exercise   Exercisable   Exercise
    Prices      (In Thousands)    Life       Price   (In Thousands)  Price
   --------     -------------- ----------- --------- -------------- --------
<S>             <C>            <C>         <C>       <C>            <C>
    $4.00             596       8.0 years   $ 4.00        272        $ 4.00
$ 8.00-$ 8.60         336       8.6 years   $ 8.06         95        $ 8.07
$ 9.00-$12.00         286       8.8 years   $11.21         41        $ 9.30
$15.00-$25.63         689       9.6 years   $18.87          5        $21.72
                    -----       ---------   ------        ---        ------
$4.00 to 25.63      1,907       8.4 years   $11.17        413        $ 5.83
                    =====       =========   ======        ===        ======
</TABLE>

   Had compensation cost for the Company been determined based upon the fair
value at the grant date for awards under the plan consistent with the
methodology prescribed under SFAS No. 123, the Company's net losses for the
years ended December 31, 1997, 1998, and 1999 would have been approximately
$136,921, $65,872 and $83,977, respectively, and basic and diluted net loss per
share would have been approximately $7.90, $1.62 and $1.40, respectively. The
weighted average fair value of the options granted during the years ended
December 31, 1997, 1998, and 1999 was estimated at $1.12, $4.15, and $8.18 per
share, respectively, on the date of grant using the Black-Scholes option-
pricing model and the following assumptions:

<TABLE>
<CAPTION>
                                                   1997      1998       1999
                                                 ---------  -------  ----------
<S>                                              <C>        <C>      <C>
Dividend yield..................................         0        0           0
Volatility......................................        55%      60%         60%
Risk free rate..................................      5.99%     5.4%       5.34%
Expected option life............................ 4.6 years  3 years  3.35 years
</TABLE>

   In determining the fair value of the common stock at the date of grant, the
Board considered a broad range of factors including the liquid nature of an
investment in the Company's common stock, transactions in the Company's common
stock, the Company's historical financial performance relative to that of
comparable companies and its future prospects.

 1999 Employee Stock Purchase Plan

   In January 1999, Prodigy's Board of Directors and stockholders adopted the
1999 Employee Stock Purchase Plan (the "purchase plan"). The purchase plan
authorizes the issuance of up to 500,000 shares of

                                       70
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

Prodigy's common stock to eligible employees of Prodigy and its subsidiaries.
Under the purchase plan, eligible employees may purchase shares of the
Company's common stock, subject to certain limitations, at a price equal to the
lower of 85% of the fair market value of the shares on the first date of the
offering period and 85% of the fair market value of the shares on the purchase
date. The purchase plan permits shares to be purchased at the end of the
purchase periods occurring during each offering period. Unless otherwise
provided by the Board prior to commencement, an offering period will begin on
each May 16 and November 16, and continue for a period of 24 months. A purchase
period will begin on each May 16 and November 16, and will continue for a
period of six months, ending on the following November 15 or May 15,
respectively. The first offering period and the first purchase period commenced
on Prodigy's initial public offering. The last day of each purchase period is
the date on which shares are actually purchased. Purchases are limited to 10%
of an employee's eligible compensation up to a maximum of $25 per year. During
1999 Prodigy issued 83,880 new shares to its employees at an average price of
$12.75 per share under the purchase plan.

14. Commitments and Contingencies

 Commitments

   At December 31, 1999, the Company's minimum rental commitments under
noncancelable operating leases with initial or remaining terms of more than one
year were as follows:

<TABLE>
<S>                                                                      <C>
Year ended December 31,
  2000.................................................................. $ 3,432
  2001..................................................................   2,710
  2002..................................................................   2,727
  2003..................................................................   2,529
  2004 and thereafter...................................................   2,490
                                                                         -------
                                                                         $13,888
                                                                         =======
</TABLE>

   The Company's rent expense in the years ended December 31, 1997, 1998, and
1999 was approximately $9,192, $2,302 and $2,970, respectively.

   During 1999 the Company entered into capital leases for certain computer
equipment. Minimum future lease payments under the capital leases as of
December 31, 1999 are:

<TABLE>
<S>                                                                      <C>
  2000.................................................................. $  569
  2001..................................................................    585
  2002..................................................................    526
                                                                         ------
  Total minimum lease payments..........................................  1,680
  Less--amounts representing interest...................................   (285)
                                                                         ------
  Present value of minimum lease payments............................... $1,395
                                                                         ======
</TABLE>

   In December 1993, PSC entered into a noncancelable agreement with a
telephone company to provide certain services at the Company's White Plains, NY
and Yorktown, NY facilities. The agreement has a term ("service period") of ten
years. The agreement calls for line charges totaling $510 per year. The Company
has the right to terminate the agreement for certain services at any time at a
cost of 80% of the line charges over the remaining services period.


                                       71
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

   The Company is party to a contract for a subscription management system
through June 2001. This contract requires minimum annual payment of processing
fees of $1,116. For the years ended 1997, 1998 and 1999, the Company paid
$3,628, $3,039 and $3,723, respectively.

   Under the Company's four-year agreement with Splitrock, the Company is
obligated to minimum annual payments of $45,000 in 1999, $51,000 in 2000 and
$54,000 in 2001 and maximum monthly charges based on the number of the
Company's subscribers for the month. The agreement provides for early
termination charges of $7,000 in the first year, declining thereafter on an
annual basis. The agreement is automatically renewed for successive 12-month
periods unless terminated by either party upon 12-months notice.

   In August 1999, the Company entered into an agreement with a vendor to
provide network licensing and technical support. This agreement requires an
annual payment of $730 in 2000. Upon 30-day prior written notice, the Company
can terminate the agreement without penalty. The agreement can be extended for
an additional 12 months.

   As of December 31, 1997, the Company was contractually obligated to pay IBM
a network termination penalty of $7,500 resulting from the sale of the
Company's network. The Company has negotiated with IBM to settle this liability
through a defined purchasing plan, whereby the Company will be obliged to
purchase services from IBM through December 31, 2000, up to $7,500 in value,
with any shortfall being paid as a penalty. The Company has accrued $3,849 as
of December 31, 1999, representing management's best estimate of the amount of
the purchase commitment that will not be used as of December 31, 2000. This
amount is included in the Company's accrued network termination cost (see Note
4--Restructuring and Other Special Costs).

   In February 1998 the Company contracted with a vendor to provide various
data communications services. The contract has a term of 36 months and requires
minimum annual payments to the vendor of $7,300. If the minimum annual payment
is not reached, the Company is subject to an underutilization charge equal to
50% of the difference between the minimum annual payment and the actual usage.
The Company can terminate the agreement upon written notice to the vendor and
the payment of a penalty equal to 50% of the minimum annual payment due for the
remaining term.

   In May 1998 the Company contracted with a vendor to provide customer service
and technical support to its members. The contract is for 12 months expiring
April 1999. In March 1999 the Company extended this contract for an additional
12 months through April 2000. The agreement requires minimum monthly payments
to the vendor of $91.

   In October 1999, the Company entered into an agreement with a telephone
company to provide certain network services for the Yorktown data center. These
services are due to commence during the first quarter of 2000. This agreement
has an initial term of seven years and requires minimum payments of $1,225 per
year. The agreement has termination and cancellation charges which would be
defined by New York's FCC Tariffs in effect at the time of cancellation.

   In February 2000, the Company entered into an agreement with another major
electronics retailer to make specified payments to the retailer in exchange for
the retailer enrolling customers and obtaining a signed contractual commitment
from these customers to term subscriptions to Prodigy Internet at the Company's
standard monthly rates. The payments, amounting to $100, $225 or $400 per
subscriber (in whole dollars) for a one-year, two-year, or three-year Prodigy
Internet service contract, respectively, are required at the time the contract
is received and will be capitalized and amortized over the respective
contractual terms.


                                       72
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

 Contingencies

   The Company is a defendant in various lawsuits arising in the ordinary
course of business. It is the opinion of management that any liability to the
Company which may arise as a result of these matters will not have a material
adverse effect on the Company's financial condition or results of operations.

15. Defined Contribution Plan

   On June 17, 1996, as part of the Company's acquisition of PSC, the Company
took on responsibility for the administration and sponsorship of the Prodigy
Services Corporation Capital Accumulation Plan (the "Plan").

   The Plan is a defined contribution plan covering all employees of the
Company. Employees can participate in the Plan from their first day of
employment.

   Each year, active participants may contribute up to 12 percent of their pre-
tax base salaries, up to the maximum amount allowed by the Plan. The Company
contributes a matching contribution equal to 100 percent of an employee's pre-
tax contributions, limited to a maximum of 3 percent of a participant's
compensation. The Plan also has an after-tax savings feature that permits
employees to contribute from 1 percent to 10 percent of their base salaries
subject to Internal Revenue Code limitations.

   The Company's contributions were $569, $469 and $698 in 1997, 1998 and 1999,
respectively.

16. Valuation and Qualifying Accounts

   The following table sets forth activity in the Company's allowance for
doubtful accounts:

<TABLE>
<CAPTION>
                                                                         Balance
                                        Balance At                         at
                                        Beginning  Charges to            End of
                                        of Period  Operations Deductions Period
                                        ---------- ---------- ---------- -------
<S>                                     <C>        <C>        <C>        <C>
Year ended:
  December 31, 1997....................    $930      $  342      $587    $  685
  December 31, 1998....................     685          49       367       367
  December 31, 1999....................     367       3,200       187     3,380
</TABLE>

17. Related Party Transactions

 Telmex Agreement

   On January 25, 1999, Prodigy and Telmex, a subsidiary of Carso Global
Telecom, executed an agreement under which: (i) Prodigy will assist Telmex in
the negotiation of agreements with service providers for Telmex's IDP service
in Mexico pertaining to network/Internet access, Web hosting, customer service,
content hosting, billing, marketing, sales and data collection services; (ii)
Prodigy will advise Telmex on customer service, administrative functions and
technical operations, including marketing, Internet connection and other
network services, content, customer support, pricing and service composition,
billing and collection, inbound telemarketing and other aspects of the ISP
business; (iii) the parties will discuss the potential migration of certain IDP
infrastructure functions, including email, subscriber management and
authentication systems, for Telmex's IDP subscriber to the Prodigy
infrastructure platform, and the advisability of offering a co-branded
IDP/Prodigy service in Mexico; and (iv) the parties will pursue additional
opportunities, such as providing

                                       73
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

services to one another and the joint acquisitions of subscribers. In exchange
for Prodigy's services, Telmex will pay Prodigy a management fee, on a monthly
basis, equal to 15% of the net subscriber revenue (defined as the invoiced
sales price less discounts, excise taxes and credits for returns) on the first
200,000 IDP subscribers and 10% of the net subscriber revenue (as defined
above) on additional IDP subscribers. The agreement has a term of five years
and may be terminated by Telmex if Prodigy undergoes a change of control. The
Company earned subscriber management fees from Telmex of $6,833 during 1999, of
which $1,801 was receivable at December 31, 1999.

 Splitrock Agreement

   Carso Global Telecom owns a minority interest in Splitrock. As part of the
sale of its network operations, the Company also entered into a Sublease
Agreement pursuant to which Splitrock subleases a portion of the Company's
leased space in Yorktown Heights, New York, effective July 1, 1997 through
February 28, 2001.

   Pursuant to the Full Service Agreement with Splitrock, effective July 1,
1997, Splitrock provides to the Company network services consisting primarily
of end-to-end connection services from subscriber dial-up lines to the
Company's data center. Splitrock charges Prodigy at a fixed rate per
subscriber, subject to a monthly maximum usage limit, after which an
incremental hourly rate is charged, and certain minimum charges (see Note 14--
Commitments and Contingencies). The Company incurred network charges to
Splitrock of approximately $22,700, $64,100 and $76,600 for the years ended
December 31, 1997, 1998 and 1999, respectively.

   Additionally, the Company's accounts payable to Splitrock for the years
ended December 31, 1998 and December 31, 1999 was approximately $2,500 and
$8,800, respectively.

   Under a transition services agreement, Prodigy agreed to pay for certain of
Splitrock's operating expenses and to provide temporary network-related
services to Splitrock, including accounting, human resources and purchasing
functions. Splitrock agreed to reimburse Prodigy for expenses incurred and the
cost of providing these support services (excluding termination penalties under
existing network contracts). The total of the reimbursed expenses and service
costs in 1997 was $27,532. The reimbursed amounts have been offset against the
corresponding expenses and costs in the statements of operations. The
transition services agreement terminated on December 31, 1997, although the
Company continued to provide certain incidental services and make payments on
behalf of Splitrock through June 30, 1998.

   Under the Full Service Agreement, Splitrock is required to meet specified
service level objectives. Splitrock's failure to meet the service level
objectives results in financial penalties. If Splitrock fails to meet the
service level objectives for an extended period of time, Prodigy may terminate
the Full Service Agreement. In addition, if there is a system-wide failure, or
Splitrock breaches specified financial covenants, Prodigy has the right to
terminate the Full Service Agreement or assume responsibility for operating the
network at Splitrock's expense.

18. Subsequent Events

 Pending Acquisition of FlashNet Communications

   On November 5, 1999, the Company announced a definitive agreement to acquire
FlashNet Communications, Inc. in a stock-for-stock merger. Under the terms of
the merger agreement, Prodigy will issue 0.35 shares of Prodigy common stock
for each share of FlashNet common stock outstanding on the closing date

                                       74
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)

of the transaction. Based on the number of shares of FlashNet currently
outstanding, Prodigy will issue approximately 5,000,000 shares to complete the
acquisition. The acquisition is expected to be completed in the second quarter
of 2000, subject to FlashNet shareholder approval. The acquisition will be
accounted for under the purchase method of accounting.

 Pending Transaction with SBC Communications

   During November 1999, Prodigy announced a proposed transaction with SBC
Communications Inc. ("SBC"). In the proposed transaction, SBC will acquire an
approximate 43% indirect interest in Prodigy. Prodigy will be the exclusive
retail Internet service marketed by SBC in the United States and SBC will
purchase the Prodigy Internet service from Prodigy on wholesale terms and
provide it to SBC's approximately 690,000 existing Internet subscribers. SBC
has committed to obtain for Prodigy an additional 1,200,000 Internet
subscribers over a three year period in exchange for a fee of $40 to $75 (in
whole dollars) for each subscriber obtained. SBC will pay Prodigy a penalty for
shortfalls in the number of subscribers delivered over the three year period,
with the size of the penalty based on the number of subscribers actually
obtained. The agreement also includes provisions under which SBC and Prodigy
can purchase other services from each other, including telecommunications and
network services.

   In order to implement the transaction with SBC: (i) Prodigy will contribute
substantially all its assets and liabilities and transfer its employees to the
operating partnership; (ii) SBC will contribute to the operating partnership
routers, servers and associated hardware used in connection with its consumer
and small business Internet operations that are selected by Prodigy and
intangible assets consisting primarily of brand assets and subscriber
relationships; (iii) Prodigy will receive an initial interest in the operating
partnership of approximately 57%; (iv) SBC will receive an initial interest in
the operating partnership of approximately 43% and (v) SBC may convert its
interest in the operating partnership into a direct equity interest in Prodigy
at any time, or may require the operating partnership to be merged into Prodigy
at any time.

   Prodigy will recognize the contribution of the assets by SBC to the
operating partnership at fair value in exchange for the partnership units
issued. As a result of the partnership units issued, Prodigy will consolidate
the operating partnership and will recognize the SBC minority interest in the
operating partnership. The contribution of the intangible assets at fair value
will result in a substantial amount of amortization which will reduce Prodigy's
future earnings or increase its future losses.

 (Unaudited)

   On March 16, 2000, Prodigy and Citibank signed a letter agreement which
contemplates that Citibank will structure and arrange financing of $200,000
secured by the future service fees payable by contract subscribers to the
Prodigy Internet service. The letter agreement includes a preliminary summary
of principal terms and conditions, estimated expenses and the structuring fee
due Citibank at closing. The letter agreement does not constitute a firm
financing commitment from Citibank, and Prodigy cannot assure that the Citibank
financing will be completed. The Citibank financing is subject to the issuance
by SBC of a performance guarantee and satisfaction of the following conditions:

  .  satisfactory completion of Citibank's due diligence review of Prodigy;

  .  in Citibank's determination, the absence of any material adverse change
     in the financial markets or in the financial condition or operations of
     Prodigy;

  .  negotiation and execution of mutually satisfactory documentation for the
     financing;

                                       75
<PAGE>

                       PRODIGY COMMUNICATIONS CORPORATION

            NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
               (in thousands except share and per share amounts)


  .  the receipt of specified ratings from ratings agencies; and

  .  the receipt of internal Citibank credit approval and any other approvals
     and legal opinions as Citibank may deem necessary or advisable.

   In connection with the Citibank financing, Prodigy and SBC have agreed in
principle that SBC will provide a contingent performance guarantee in exchange
for which Prodigy will grant SBC a contingent warrant to purchase 537,924
shares of Prodigy common stock for $1.00 per share. The performance guarantee
to be provided by SBC requires that, in the event Prodigy becomes unable to
continue to perform its service obligations under the subscriber contracts, SBC
shall either perform Prodigy's service obligations directly or replace Prodigy
with a substitute Internet service provider.

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

   Not applicable.

                                       76
<PAGE>

                                   PART III.

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.

   The current executive officers and directors of Prodigy and their ages and
positions with Prodigy are as follows:

<TABLE>
<CAPTION>
 Name                     Age                      Position
 ----                     ---                      --------
 <C>                      <C> <S>
 Samer F. Salameh........  35 Chairman of the Board and Chief Executive Officer
 Alfredo Sanchez.........  44 Vice Chairman of the Board
 David C. Trachtenberg...  37 President and Chief Operating Officer
 Allen Craft.............  44 Executive Vice President of Finance, Chief
                              Financial Officer, Treasurer and Director
 Andrea S. Hirsch........  42 Executive Vice President, Business Development
                              and General Counsel
 James R. Adams(1)(2)....  60 Director
 Arturo Elias(1).........  33 Director
 James M. Nakfoor(1)(2)..  36 Director
</TABLE>
--------
(1)  Member of the Compensation Committee

(2)  Member of the Audit Committee

   Mr. Salameh has served as chief executive officer and a director of Prodigy
since September 1997, as chairman of the board since August 1998, and served as
president from September 1997 to December 1998. From July 1994 until joining
Prodigy, Mr. Salameh served as director, long distance division of SBC,
responsible for marketing, strategy, positioning, product management and
product development with respect to Telmex. Mr. Salameh was employed by MCI
Telecommunications as a product manager in 1994 and as a strategic marketing
manager from 1991 to 1993. Mr. Salameh holds a Master's degree from the
Fletcher School of Law and Diplomacy, a B.S. degree in Management and
Technology Transfer from Polytechnic University of New York and a Baccalaureate
degree with a concentration in Math and Physics from Lycee Fenelon in Paris. He
also serves as an advisor to the chief executive officer of Telmex.

   Mr. Sanchez joined Prodigy's board of directors in June 1996 and became vice
chairman in August 1998. Mr. Sanchez has served as president of Uninet, S.A. de
C.V., a wholly-owned subsidiary of Telmex through which Telmex provides data
transmission services and Internet access to customers, since January 1996. He
has also served as president of Consorcio Red Uno, S.A. de C.V., a network
company founded by Mr. Sanchez and now owned by Telmex, since March 1991. From
1985 to March 1991, he was president of Onyx Systems, a Unix microcomputer
manufacturer with operations in the United States, Europe and Mexico. Mr.
Sanchez previously held various communications and transportation positions in
the Mexican government. Mr. Sanchez holds a degree in Electronics Engineering
from the Metropolitan Autonomous University of Mexico.

   Mr. Trachtenberg joined Prodigy as president and chief operating officer in
December 1998. Prior to joining Prodigy, Mr. Trachtenberg was employed for more
than eight years by MCI Communications Corporation and then MCI WorldCom, Inc.
From September 1997 to December 1998, Mr. Trachtenberg was executive director
of online marketing, responsible for residential and small business Internet
operations, and from January 1997 to September 1997, he served as executive
director of Brand Marketing, responsible for the MCI One brand portfolio,
including domestic and international long distance products, calling card
services and advanced services for the consumer and small business segments.
Between March 1990 and January 1997, he held various other marketing and
business development positions, including director of Customer Marketing and
director of International Marketing. Prior to joining MCI, Mr. Trachtenberg was
employed for four years by Bain & Company, an international consulting firm.
Mr. Trachtenberg received a B.A. degree, summa cum laude, from Tufts
University, and received an M.B.A. degree from the Wharton School of Business
at the University of Pennsylvania, where he also received a Masters in
International Affairs and was a Fellow at the Lauder Institute.

                                       77
<PAGE>

   Mr. Craft joined Prodigy as executive vice president of finance, chief
financial officer, treasurer and a director in March 2000. He has been employed
by SBC since 1993, serving as director of finance of SBC International from
March 1998 until March 2000, director of corporate financial planning from
August 1996 to February 1998 and manager of financial planning from June 1993
to August 1996. Previously, Mr. Craft was manager of financial planning at the
Permea division of Air Products from April 1990 to May 1993 and a plant
controller for Monsanto from December 1986 to March 1990. He holds a B.B.A.
degree from the University of Central Florida and an M.B.A. degree from the
University of Texas.

   Ms. Hirsch joined Prodigy in September 1998 as executive vice president,
business development and general counsel. Prior to joining Prodigy, Ms. Hirsch
served as vice president, corporate development counsel for Simon & Schuster,
Inc., a publishing company, from March 1994 to September 1998, and as Assistant
General Counsel for Macmillan, Inc., a publishing company, from June 1991 to
January 1994. Ms. Hirsch holds a B.A. degree from Queens College and a J.D.
degree from Washington College of Law at American University.

   Mr. Adams joined Prodigy's board of directors in May 1999. Mr. Adams served
as chairman of the board of Texas Instruments Inc. from July 1996 to May 1998.
From November 1989 to August 1995, he served as president and chief executive
officer of Southwestern Bell Telephone Company, before becoming group president
of SBC. He currently serves as a director of Texas Instruments, Inet
Technologies and Storage Tek Corp.

   Mr. Elias joined Prodigy's board of directors in September 1997. He served
as consulting advisor to the president of Telmex from September 1996 to May
1998 and has since served as head of commercial new technologies and regulation
for Telmex. Since 1994, he has also been a private investor in Mexican real
estate, textile and retail businesses. Mr. Elias is also a director of Carso
Global Telecom, Telmex, Sears Roebuck de Mexico and several privately-held
companies. Mr. Elias studied Business Administration at Anahuac University and
received a Master in Business Management degree from the Instituto Panamericano
de Alta Direccion de Empresa.

   Mr. Nakfoor joined Prodigy's board of directors in September 1997. Since
1991, Mr. Nakfoor has served as vice president of securities trading for
Inversora Bursatil, S.A. de C.V., a wholly-owned subsidiary of Grupo Financiero
Inbursa, S.A. de C.V., which is engaged in the securities brokerage, investment
banking and money management businesses in Mexico. Grupo Financiero, which is
affiliated with Carso Global Telecom, is a Mexican financial group whose
businesses include banking, brokerage, insurance, leasing, factoring and other
financial services. Mr. Nakfoor holds a B.A. degree in Economics and an M.B.A.
degree from the University of Texas at Austin.

   Messrs. Salameh, Sanchez, Elias and Nakfoor were elected directors of
Prodigy pursuant to a voting agreement between Carso Global Telecom and a
former principal stockholder of Prodigy. The voting agreement was terminated in
August 1998.

   Officers of Prodigy serve at the discretion of the board of directors and
hold office until their successors are duly elected and qualified or until
their earlier resignation or removal.

   Carlos Slim Helu, a Mexican citizen, and members of his immediate family,
beneficially own a majority of the outstanding voting equity securities of
Carso Global Telecom. Carso Global Telecom may be deemed to control Telmex
through the regular-voting shares of Telmex that it owns directly and its
interest in a trust which owns a majority of Telmex's outstanding regular-
voting shares. Thus, Mr. Slim and members of his immediate family may be deemed
to control Carso Global Telecom, Telmex and Prodigy. Mr. Salameh is married to
Mr. Slim's niece, and Mr. Elias is married to Mr. Slim's daughter. There are no
other family relationships among Prodigy's directors, executive officers and
principal shareholders and their affiliates.

                                       78
<PAGE>

Nominees for Director

   At each annual meeting of stockholders, Prodigy's directors are elected to
serve until the sooner of the next annual meeting of stockholders or until
their respective successors are elected and qualified.

   Upon completion of the SBC transaction:

  .  SBC will have the right to appoint three Prodigy directors;

  .  Carso Global Telecom and Telmex will have the right to appoint three
     Prodigy directors;

  .  Prodigy's other three directors will be its chief executive officer and
     two independent directors;

  .  Prodigy's board will establish a new executive steering committee, which
     must approve all major corporate actions prior to being submitted to the
     board for consideration; and

  .  SBC will have the right to appoint two members of the executive steering
     committee and Carso Global Telecom and Telmex will have the right to
     appoint the other two members of the executive steering committee.

   Prodigy's current directors are Samer F. Salameh, Alfredo Sanchez, James R.
Adams, Allen Craft, Arturo Elias and James M. Nakfoor. They each have indicated
their willingness to serve if elected. However, if any nominee becomes unable
to serve, the proxies may be voted for substitute nominees selected by the
board of directors or for a reduction in the number of directors, as determined
by the board of directors.

Directors of Prodigy Following the SBC Transaction

   Samer F. Salameh, as Prodigy's current chief executive officer, will remain
a director upon completion of the SBC transaction. Carso Global Telecom and
Telmex have indicated to Prodigy that two of their designees to Prodigy's board
will be James M. Nakfoor and Jaime Chico Pardo, whose biography appears below,
but that they have not yet selected their third designee. SBC has indicated to
Prodigy that its three designees to Prodigy's board will be James D. Gallemore,
James S. Kahan and Charles J. Roesslein, whose biographies appear below. Carso
Global Telecom, Telmex and SBC have not yet indicated to Prodigy who their
representatives on the executive steering committee will be. Prodigy expects
that Allen Craft, Arturo Elias and Alfredo Sanchez will resign as directors
upon completion of the SBC transaction. Prodigy intends to appoint two
independent directors within ninety days after completion of the SBC
transaction. As a result, Prodigy stockholders should understand that the
composition of the Prodigy board of directors following completion of the SBC
transaction will be significantly different than the directors elected at the
annual meeting.

   Jaime Chico Pardo, age 50, currently serves as vice chairman and chief
executive officer of Telmex, which he joined as chief executive officer in
1995. From 1993 to 1995, Mr. Chico Pardo was president and chief executive
officer of Grupo Condumex, a manufacturer of products for the construction,
automobile and telecommunications industries. Mr. Chico Pardo is also vice
chairman of Carso Global Telecom and a director of Grupo Carso and Grupo
Financiero Inbursa, both of which are affiliated with Carso Global Telecom. He
also serves as a director of Honeywell International, a diversified technology
and manufacturing company.

   James D. Gallemore, age 48, has served as executive vice president--SBC
strategic marketing and planning of SBC Operations since April 1997.
Previously, he was vice president--marketing for Southwestern Bell Operations
from 1995 until April 1997. He served as vice president--marketing of
Southwestern Bell Telephone from 1994 to 1995 and as its assistant vice
president--marketing from 1992 to 1994. From 1973 to 1992, he held various
marketing and sales positions with SBC companies.

   James S. Kahan, age 52, has been employed by various SBC affiliates since
1983. He has served as SBC's senior executive vice president--corporate
development since October 1999. He was SBC's senior vice president--corporate
development from 1992 to October 1999. Previously, he was managing director--
corporate development from 1988 to 1992. Mr. Kahan is also a director of Bell
Canada and Amdocs Ltd., a leading provider of product-driven information
systems solutions to major telecommunications companies.

                                       79
<PAGE>

   Charles J. Roesslein, age 51, has served as a senior vice president of SBC
since March 2000. From October 1999 to March 2000, he was president--SBC CATV,
responsible for SBC's cable television operations at Ameritech and Southern New
England Telephone. From 1997 to 1999, Mr. Roesslein was president and chief
executive officer of SBC Technology Resources, responsible for the development
of SBC's long-term technology strategies. He was vice president--information
services of Southwestern Bell Telephone Company and vice president--chief
information officer for SBC Services from 1995 to 1997, except for the period
from October 1996 to August 1997, when he served as SBC's vice president--
strategic planning. From 1990 to 1994, Mr. Roesslein served as vice president--
chief financial officer and treasurer for Southwestern Bell Telephone Company.
Previously, he held a variety of network, strategic planning, corporate
development, and finance positions with SBC companies, dating back to 1970.

                                       80
<PAGE>

ITEM 11. EXECUTIVE COMPENSATION

   The following lists the total compensation earned in the years ended
December 31, 1997, 1998 and 1999 for Prodigy's chief executive officer, its two
other most highly compensated executive officers in 1999 who were serving as
executive officers on December 31, 1999, and four former executive officers who
were not serving as executive officers on December 31, 1999. These current and
former executive officers are sometimes referred to as the named executive
officers.

                           Summary Compensation Table

<TABLE>
<CAPTION>
                                 Annual Compensation               Long-Term Compensation
                         --------------------------------------  --------------------------
                                                                 Securities
Name and Principal                                 Other Annual  Underlying    All Other
Position                 Year  Salary   Bonus      Compensation  Options(1) Compensation(2)
------------------       ---- -------- --------    ------------  ---------- ---------------
<S>                      <C>  <C>      <C>         <C>           <C>        <C>
Current Executive
 Officers:
Samer F. Salameh........ 1999 $241,667 $127,250           --          --        $4,800
 Chairman of the Board
  and                    1998 $200,000 $ 65,084(3)        --          --        $6,000
 Chief Executive Officer 1997 $ 50,000 $ 90,000           --      156,250       $1,250

David C.
 Trachtenberg(4)........ 1999 $224,000 $115,828(3)        --          --        $4,200
 President and Chief     1998 $ 11,056      --            --      125,000          --
 Operating Officer       1997      --       --            --          --           --

Andrea S. Hirsch(5)..... 1999 $201,083      --            --          --        $4,800
 Executive Vice
  President,             1998 $ 56,878 $180,000           --       93,750          --
 Business Development,
  General                1997      --       --            --          --           --
 Counsel and Acting
  Chief
 Financial Officer

Former Executive
 Officers:
James P. Dougherty(6)... 1999 $126,667 $ 49,876      $148,346(7)      --        $3,978
 Former General Manager, 1998 $171,138 $ 44,904           --          --        $4,404
 Business Services       1997 $ 15,385      --            --       93,750       $  462

David R. Henkel(8)...... 1999 $201,083 $ 80,898           --          --        $4,800
 Former Executive Vice
  President,             1998 $ 79,167      --            --      187,500       $2,375
 Finance and Chief
  Financial Officer      1997      --       --            --          --           --

James L'Heureux(9)...... 1999 $149,686 $ 60,000      $ 12,423(7)      --           --
 Former Executive Vice
  President,             1998 $190,000 $ 11,756           --       43,750          --
 Consumer Services       1997 $ 86,474 $ 40,000           --       50,090          --

Carena M. Pooth(10)..... 1999 $174,167 $ 87,875           --          --        $4,800
 Former Executive Vice
  President,             1998 $181,250 $ 26,250           --       68,750       $4,313
 Technology              1997 $161,458 $ 22,500           --          --        $4,800
</TABLE>
--------
(1)  Represents the number of shares covered by options to purchase shares of
     Prodigy's common stock. Prodigy has never granted any stock appreciation
     rights.

(2)  Represents company matching contributions under Prodigy's 401(k) plan.

(3)  Includes payments for car and housing expenses.

(4)  Commenced employment with Prodigy in December 1998.

(5)  Commenced employment with Prodigy in September 1998.

(6)  Ceased employment with Prodigy in August 1999.

(7)  Represents severance payments and vacation payouts.

                                       81
<PAGE>

(8)  Resigned as an executive officer of Prodigy in December 1999.

(9)  Ceased employment with Prodigy in January 1999.

(10)  Ceased employment with Prodigy in February 1999.

Option Grants During 1999

   Prodigy did not grant stock options to any of the named executive officers
during the year ended December 31, 1999.

1999 Year-End Option Values

   The following table sets forth information about option exercises during
1999 by the named executive officers and the number and value of unexercised
options held by each of the named executive officers on December 31, 1999.

   Aggregated Option Exercises in Last Fiscal Year and Fiscal Year-End Option
                                     Values

<TABLE>
<CAPTION>
                                                Number of Securities
                                               Underlying Unexercised     Value of Unexercised
                          Shares               Options at Fiscal Year     In-The-Money Options
                         Acquired                        End              at Fiscal Year End(2)
                            on       Value    ------------------------- -------------------------
Name                     Exercise Realized(1) Exercisable Unexercisable Exercisable Unexercisable
----                     -------- ----------- ----------- ------------- ----------- -------------
<S>                      <C>      <C>         <C>         <C>           <C>         <C>
Current Executive
 Officers:
Samer F. Salameh........  68,750  $1,489,844    43,750       43,750      $672,656    $  672,656
David C. Trachtenberg...     --   $      --     41,666       83,334      $592,701    $1,185,424
Andrea S. Hirsch........   5,000  $  109,998    26,250       62,500      $298,594    $  710,938
Former Executive
 Officers:
James P. Dougherty......  68,750  $1,561,792       --           --       $    --     $      --
David R. Henkel.........  84,085  $1,486,052     9,323       94,092      $106,049    $1,070,296
James L'Heureux.........  27,083  $  706,241       --           --       $    --     $      --
Carena M. Pooth.........  93,750  $1,577,475       --           --       $    --     $      --
</TABLE>
--------
(1)  Represents the difference between the exercise price and the fair market
     value of Prodigy common stock on the date of exercise.

(2)  Represents the difference between the fair market value of Prodigy common
     stock at December 31, 1999 ($19.375) and the option exercise price.

Employment Agreements

 Current Executive Officers

   Mr. Salameh is employed under an employment agreement that expires on
December 31, 2000 under which he currently receives an annual base salary of
$200,000. Mr. Salameh received a sign-on bonus of $90,000 and is eligible to
receive an annual performance bonus of up to 50% of his base salary, contingent
on the successful completion of mutually established personal and corporate
goals. Mr. Salameh is also eligible to participate in all of Prodigy's fringe
benefit programs. Prodigy has agreed to provide Mr. Salameh with a monthly
housing allowance of $4,000, a monthly car allowance of $1,050 and monthly
round-trip airfare between New York and Mexico City. Mr. Salameh was also
entitled to accelerated vesting of stock options as a result of the closing of
Prodigy's initial public offering in February 1999. In the event Prodigy
terminates Mr. Salameh's employment other than for cause, or does not offer by
November 1, 2000 to renew his employment agreement for at least one year, Mr.
Salameh will continue to receive his base salary and fringe benefits for a
period of 12 months and will receive a severance payment equal to one week's
base salary for each six months of completed service with Prodigy. If Mr.
Salameh is terminated for any reason, Prodigy is required to pay up to $40,000
of Mr. Salameh's expenses to relocate out of the New York City area.

                                       82
<PAGE>

   Mr. Trachtenberg is employed under an employment agreement that expires on
December 31, 2001 under which he currently receives an annual base salary of
$224,000. Mr. Trachtenberg received a sign-on bonus of $74,000 and is eligible
to receive an annual performance bonus of up to 50% of his base salary,
contingent on the successful completion of personal and corporate goals as
mutually established. Mr. Trachtenberg is also eligible to participate in all
of Prodigy's fringe benefit programs. Prodigy has agreed to provide Mr.
Trachtenberg with a monthly car allowance of $2,166 and up to $5,000 to
terminate his previous car lease. For the first six months of employment,
Prodigy agreed to reimburse his reasonable temporary housing expenses and
weekly commuting expenses between New York and Washington, D.C., and thereafter
Prodigy will reimburse his relocation expenses and provide a monthly housing
allowance of $3,500. Prodigy has also agreed to reimburse Mr. Trachtenberg's
reasonable legal fees for review of his employment agreement. In the event
Prodigy terminates Mr. Trachtenberg's employment other than for cause, he will
continue to receive his base salary for a length of time based on his length of
service and will receive accelerated vesting of options.

   Ms. Hirsch is employed under an employment agreement that expires on
September 13, 2001 and under which she currently receives an annual base salary
of $203,000. Prodigy paid Ms. Hirsch a sign-on bonus of $180,000. Ms. Hirsch is
eligible to receive an annual performance bonus of up to 50% of her base
salary, contingent on the successful completion of personal and corporate goals
as mutually established. Ms. Hirsch is also eligible to participate in all of
Prodigy's fringe benefit programs. In the event Prodigy terminates Ms. Hirsch's
employment other than for cause after Ms. Hirsch's third month of service with
Prodigy, Ms. Hirsch will continue to receive her base salary and fringe
benefits for six months and will be entitled to accelerated vesting of stock
options. In the event that Prodigy has not offered to renew her employment
agreement prior to its expiration, Ms. Hirsch will continue to receive her base
salary and fringe benefits for six months and will be entitled to receive a
performance bonus for the six-month period. In the event Prodigy terminates
Ms.Hirsch's employment other than for cause, she will continue to receive her
base salary for a length of time based on her length of service and will
receive accelerated vesting of options.

   Mr. Craft is employed by SBC but serves as executive vice president of
finance, chief financial officer, treasurer and a director of Prodigy. SBC pays
the salary of and provides employee benefits to Mr. Craft. Prodigy provides Mr.
Craft with a monthly housing allowance, a monthly car allowance and the use of
a cellular phone.

 Former Executive Officers

   Mr. Dougherty was employed under an employment agreement scheduled to expire
on November 24, 2001 providing for an annual base salary of $190,000, a sign-on
bonus of $20,000 and an annual performance bonus of up to 50% of his base
salary, customary fringe benefits and other customary provisions. Effective
August 31, 1999, Mr. Dougherty resigned, and Prodigy agreed to pay him a lump
sum severance payment equal to nine months of base salary. Prodigy also agreed
that 25,000 of Mr. Dougherty's options would vest on termination of employment.

   Mr. Henkel was employed under an employment agreement providing for an
annual base salary of $190,000 subject to annual review and increase, an annual
performance bonus of up to 50% of his base salary, a monthly housing allowance
of $3,000, allowances for airfare between New York City and Dallas for Mr.
Henkel and members of his family during the first year of his employment,
relocation expenses of up to $3,000, customary fringe benefits and other
customary provisions. Effective December 31, 1999, Mr. Henkel resigned as a
director and officer but agreed to work as a part time employee of Prodigy for
one fifth of his annual base salary until February 28, 2000. Prodigy agreed to
pay him an annual performance bonus of up to 50% of his annual base salary for
1999 and continued fringe benefits through the end of his part time employment.
Prodigy also agreed that 93,408 of his stock options would remain vested and
exercisable through June 30, 2000 and that an additional 47,046 of his options
would vest upon the closing of the SBC transaction and would remain vested and
exercisable for three months from the closing of the SBC transaction.

                                       83
<PAGE>

   Mr. L'Heureux was employed under an employment agreement scheduled to expire
on May 31, 2000 providing for an annual base salary of $190,000 subject to
annual review and increase, a sign-on bonus of $40,000, an annual performance
bonus of up to 50% of his base salary, customary fringe benefits and other
customary provisions. Effective January 13, 1999, Mr. L'Heureux resigned, and
Prodigy agreed to pay him a performance bonus of $60,000 for 1998 and severance
consisting of a lump sum payment of $11,000 and continued salary and fringe
benefits for nine months. Prodigy also agreed that 27,083 of Mr. L'Heureux's
options would remain vested and exercisable through September 30, 1999.

   Ms. Pooth was employed under an employment agreement scheduled to expire on
May 31, 2000 providing for an annual base salary of $190,000. Ms. Pooth was
eligible to receive an annual performance bonus of up to 50% of her base
salary, contingent on the successful completion of personal and corporate goals
as mutually established. Ms. Pooth was eligible to participate in all of
Prodigy's fringe benefit programs, and was entitled to accelerated vesting of
stock options on a change in control of Prodigy. Effective February 28, 1999,
Ms. Pooth resigned from Prodigy, and pursuant to her employment agreement, she
was entitled to salary continuation for nine months and all of her options
accelerated and remained exercisable through December 31, 1999.

Board and Committee Meetings

   The board of directors has an audit committee and compensation committee.
There is no standing nominating committee of the board of directors. The audit
committee, which is composed of Messrs. Adams and Nakfoor:

  .  reviews the annual financial statements of Prodigy prior to their
     submission to the board;

  .  consults with Prodigy's independent accountants to review financial
     results, internal financial controls and procedures, audit plans and
     recommendations; and

  .  recommends to the board the selection, retention or termination of
     independent accountants and approve services provided by independent
     accountants.

   The compensation committee, composed of Messrs. Adams, Elias and Nakfoor,
makes recommendations to the board regarding the compensation of executive
officers, key managers and directors and administers Prodigy's stock plans.

   During 1999, the board of directors held 13 meetings, including regular,
special and telephonic meetings. During 1999, the audit committee held two
meetings and the compensation committee held six meetings. In 1999, each
current director attended at least 75% of the meetings of the board of
directors and of the committees on which he serves held while he was a member,
except that Mr. Elias attended four of the six meetings of the compensation
committee.

Director Compensation

   All directors are reimbursed for their expenses in attending board and
committee meetings in accordance with Prodigy's expense reimbursement policies.
Directors who are also employees of Prodigy do not receive additional
compensation for serving as directors.

   In January 1999, Prodigy's board of directors and stockholders adopted
Prodigy's 1999 outside director stock option plan. The director plan permits
the issuance of up to 250,000 shares of common stock on the exercise of options
granted under the director plan. All options granted under the director plan
are non-statutory stock options. Pursuant to the director plan, each director
of Prodigy who was not then employed by Prodigy received on the closing of
Prodigy's initial public offering an option to purchase 30,000 shares of common
stock at an exercise price equal to the price per share at which shares were
sold in the initial public offering. Accordingly, Messrs. Sanchez, Elias and
Nakfoor each received 30,000 options on the closing of the initial

                                       84
<PAGE>

public offering at an exercise price of $15.00 per share. Thereafter, each new
non-employee director will receive, on his or her initial election to the
board of directors, an option to purchase an option to purchase 30,000 shares
of common stock at an exercise price equal to the fair market value of the
common stock on the date of grant. As a result, Mr. Adams received an option
to purchase 30,000 shares at an exercise price of $25.625 on his initial
election to the board of directors on May 17, 1999. All options granted under
the director plan vest in four equal annual installments based on continued
service as a director, and expire three months after termination of service as
a director. In the event of an acquisition of Prodigy, 50% of all then
unvested options will accelerate and become exercisable.

Compensation Committee Interlocks and Insider Participation

   The current members of the compensation committee of the board of directors
are Messrs. Adams, Elias and Nakfoor. Mr. Salameh makes recommendations and
participates in discussions regarding executive compensation, but he does not
participate directly in discussions regarding his own compensation. No
executive officer of Prodigy has served as a director or member of the
compensation committee or other committee serving an equivalent function of
any other entity, whose executive officers served as a director of or member
of the compensation committee of the board of directors.

Compensation Committee Report on Executive Compensation

 Overview

   The compensation committee makes recommendations to the board of directors
regarding the compensation of executive officers and directors and administers
Prodigy's stock plans. Prodigy's executive compensation program is intended to
promote the achievement of Prodigy's business goals and, thereby, to maximize
corporate performance and stockholder returns. Compensation consists of a
mixture of base salary, performance bonuses and stock-based incentives. The
compensation committee utilizes base salaries and bonuses to tie an
individual's compensation to individual and corporate performance and utilizes
stock incentives to help align the long-term interests of executives and
stockholders.

   In determining levels of compensation, the compensation committee considers
a number of factors, such as:

  .  competitive positioning, including compensation of executives and
     managers at comparable companies;

  .  present compensation levels;

  .  individual performance, including expected future contributions to
     Prodigy; and

  .  Prodigy's need to attract, retain and reward key management personnel.

   The compensation committee, in determining Mr. Salameh's compensation,
reviewed compensation for chief executives of publicly-held companies of
similar size, particularly those in the ISP and similar businesses, Mr.
Salameh's individual performance against quantitative and qualitative goals
and the performance of Prodigy.

 Base Salary

   The base salary of each executive officer is reviewed annually. In setting
base salaries, the compensation committee considers the factors described
above. For 2000, the compensation committee has established Mr. Salameh's
annual base salary at $268,750.

 Performance Bonuses

   The payment of bonuses to executive officers is directly related to their
achievement of corporate and individual performance goals and Prodigy's
performance in relation to an industry peer group. The amount of

                                      85
<PAGE>

the bonus paid, if any, varies among executive officers depending on their
success in achieving individual performance goals, their contribution to the
achievement of corporate performance goals and Prodigy's performance compared
to its peers.

   At the beginning of each year, Mr. Salameh proposes base salary and bonus
parameters for the year to the compensation committee for consideration and
approval. This proposal incorporates corporate-wide goals as well as goals
jointly established by Mr. Salameh and each of the bonus plan participants for
their individual areas of responsibility. For 1999, the compensation committee
and the board of directors approved a target bonus based on the percentage of
the base salary of each executive officer specified in his or her employment
agreement, ranging from 30% to 50%. Depending upon each person's performance
during the year, actual bonuses may range from 0% to 120% of the bonus
percentage specified in his or her employment agreement. The individual and
corporate goals generally represent objective measures of performance. These
goals include quantifiable financial objectives, such as the achievement of
revenue or operating cash flow targets, and milestones in subscriber levels and
other areas. Prodigy's performance in relation to industry peers is based on
quantifiable financial measures and stock price information.

   Throughout the year, Mr. Salameh meets with executive officers to review
their progress in achieving these goals. After the end of the year, Mr. Salameh
performs a final performance review with the compensation committee and
presents proposed bonus award levels for consideration and approval. The
compensation committee approved Mr. Salameh's proposals for bonuses for 1999.
In recognition of the achievement of corporate and his individual goals, the
compensation committee awarded Mr. Salameh a bonus of $150,000 in February
2000.

 Equity-Based Compensation

   Grants of options under Prodigy's stock option plans are intended to relate
executive compensation to corporate performance and to help align long-term
interests of Prodigy's executive officers and stockholders. The compensation
committee considers options to be an important method of providing an incentive
for executive officers to remain with, and to continue to make significant
contributions to, Prodigy. Therefore, in granting options the compensation
committee considers the number and value of options held by each executive
officer which will vest in future periods, in addition to the other factors
described above. The compensation committee also seeks to maintain equitable
relationships among executive officers who have similar levels of
responsibility.

   During 1999, no options were granted to Mr. Salameh or any of the other
named executive officers.

Compliance With Internal Revenue Code Section 162(m)

   Section 162(m) of the Internal Revenue Code generally disallows a tax
deduction to public companies for compensation over $1,000,000 paid to the
corporation's chief executive officer and other named executive officers.
Qualifying "performance-based" compensation is not subject to the deduction
limit if certain requirements are met. Prodigy intends to structure the stock
options granted to its executive officers under its option plans in a manner
that complies with Section 162(m) so as to mitigate any disallowance of
deductions.

                                        THE COMPENSATION COMMITTEE

                                        James M. Nakfoor, Chairman
                                        James R. Adams
                                        Arturo Elias

                                       86
<PAGE>

Comparative Stock Performance

   The graph below compares the cumulative stockholder return on Prodigy's
common stock for the period from February 11, 1999 (the date on which it began
to trade on the Nasdaq National Market) through December 31, 1999 with the
cumulative total return on the Media General Market Weighted NASDAQ Index and a
peer group index comprised of Cavion, Concentric Network, E.Spire
Communications, EarthLink, Euro909.com, Euroweb Internet, Frontline
Communications, GlobalNet Financial, GRIC Communications, IDT Corporation,
Interactive Pictures, Internet Network Services, Internet America, Internet
Commerce, Internet Initiative, Internet.com, Juno Online Services, Korea
Thrunet, MindSpring Enterprises, Navisite, OneMan.com, Pacific Internet,
PSINet, RMI.Net, Satyam Infoway, Softnet Systems, Terra Networks, Verio,
Voyager.Net and Ziplink. The comparison below assumes the investment of $100 on
February 11, 1999 in Prodigy's common stock, the Media General Market Weighted
NASDAQ Index and the peer group index. In each case, the comparison assumes
reinvestment of all dividends. Measurement points are on February 11, 1999,
March 31, 1999, June 30, 1999, September 30, 1999 and December 31, 1999.

                     COMPARISON OF CUMULATIVE TOTAL RETURN
                   AMONG PRODIGY COMMUNICATIONS CORPORATION,
        MEDIA GENERAL MARKET WEIGHTED NASDAX INDEX AND PEER GROUP INDEX


                              [GRAPH APPEARS HERE]


                   ASSUMES $100 INVESTED ON FEBRUARY 11, 1999
                          ASSUMES DIVIDEND REINVESTED
                      FISCAL YEAR ENDED DECEMBER 31, 1999

<TABLE>
<CAPTION>
                          February 11, March 31, June 30, September 30, December 31,
                              1999       1999      1999       1999          1999
                          ------------ --------- -------- ------------- ------------
<S>                       <C>          <C>       <C>      <C>           <C>
Prodigy Communications
 Corporation............     100.00     136.44     92.00      63.11         68.89
Peer Group Index........     100.00     160.81    124.22     117.00        177.06
Media General Market
 Weighted NASDAQ Index..     100.00      98.18    106.83     108.57        160.35
</TABLE>


                                       87
<PAGE>

Section 16(a) Beneficial Ownership Reporting Compliance

   Section 16(a) of the Securities Exchange Act of 1934 requires Prodigy's
directors and executive officers, and persons who beneficially own more than
10% of Prodigy's common stock, to file reports of beneficial ownership and
changes in beneficial ownership with the Securities and Exchange Commission.

   Except as described below, and based solely on its review of the copies of
such forms received or written representations from certain reporting persons,
Prodigy believes that during 1999 its directors, executive officers and 10%
stockholders complied with all applicable Section 16(a) filing requirements.

   Mr. Elias failed to file a timely Form 4 for the purchase of 45,000 shares
and the acquisition of an option to purchase 30,000 shares in February 1999,
Mr. Sanchez failed to file a timely Form 4 for the purchase of 5,000 shares in
April 1999, Mr. Henkel failed to file a timely Form 4 for the purchase of 5,000
shares upon exercise of stock options and the simultaneous sale of such shares
in September 1999 and Mr. Dougherty failed to file a timely Form 4 for the
purchase of 25,000 shares upon exercise of stock options and the simultaneous
sale of such shares in October 1999. All such transactions were reported in
subsequent filings.

                                       88
<PAGE>

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

   The following table illustrates the beneficial ownership of the Prodigy
common stock as of March 31, 2000 by:

  .  each person or entity known to Prodigy to own beneficially more than 5%
     of Prodigy common stock;

  .  each of the directors of Prodigy;

  .  each of the named executive officers of Prodigy; and

  .  all current executive officers and directors of Prodigy as a group.

   In addition, the table depicts the shares beneficially owned if the SBC
transaction is not completed, as illustrated in the first column, and the
shares beneficially owned if the SBC transaction is completed, as illustrated
in the second column. If the pending FlashNet merger is completed, all
percentages will be diluted by approximately 4.5%.

<TABLE>
<CAPTION>
                                     Shares beneficially   Shares beneficially
                                     owned prior to the    owned after the SBC
                                     SBC transaction(1)      transaction(1)
                                    --------------------- ---------------------
Name                                  Number   Percentage   Number   Percentage
----                                ---------- ---------- ---------- ----------
<S>                                 <C>        <C>        <C>        <C>
Current directors, executive
 officers and 5% stockholders:
  Carlos Slim Helu(2).............. 41,413,111    64.1    41,413,111    35.6
  Carso Global Telecom(3).......... 29,396,911    45.5    29,396,911    25.3
  Telmex(4)........................ 12,016,200    18.6    12,016,200    10.3
  Samer F. Salameh(5)..............    112,500       *       134,375       *
  James R. Adams...................        --        *        15,000       *
  Allen Craft(6)...................        --        *           --        *
  Arturo Elias(5)..................     45,000       *        60,000       *
  James M. Nakfoor(5)..............     10,000       *        25,000       *
  Alfredo Sanchez(5)...............     47,000       *        62,000       *
  David C. Trachtenberg............     41,666       *        83,333       *
  Andrea S. Hirsch.................     26,250       *        57,500       *
  All current executive officers
   and directors as a group
   (8 persons)(5)(7)...............    282,416       *       437,208       *
Other 5% stockholders:
  SBC(8)...........................        --      --     51,821,505    44.5
  Sears(9).........................  4,536,778     7.0     4,536,778     3.8
Former executive officers:
  James P. Dougherty...............     43,750       *        43,750       *
  David R. Henkel..................        323       *        47,369       *
  James L'Heureux..................        --      --            --      --
  Carena M. Pooth..................        --      --            --      --
</TABLE>
--------
*  Denotes ownership of less than 1% of the outstanding shares of Prodigy
   common stock.

(1)  Beneficial ownership is determined in accordance with the rules of the
     Securities and Exchange Commission, and is not necessarily indicative of
     beneficial ownership for any other purpose. Under these rules, beneficial
     ownership includes any shares as to which the individual or entity has
     sole or shared voting power or investment power and any shares which the
     individual or entity has the right to acquire within 60 days after March
     31, 2000 through the exercise of any stock option, warrant or other right.
     Beneficial ownership also includes the shares subject to options held by
     current executive officers and directors that will accelerate and become
     exercisable upon completion of the SBC transaction. However, these shares
     are not deemed outstanding for purposes of calculating the percentage
     ownership of any other person. The inclusion in this table of any shares
     does not constitute an admission that the named stockholder is a direct or
     indirect beneficial owner of the shares. Unless otherwise indicated, each
     person

                                       89
<PAGE>

   or entity named in the table has sole voting power and investment power with
   respect to all shares of capital stock listed as owned by the person or
   entity.

(2)  Consists of the listed shares held by Carso Global Telecom and Telmex. Mr.
     Slim and members of his immediate family, beneficially own a majority of
     the outstanding voting equity securities of Carso Global Telecom. Thus,
     Mr. Slim and members of his immediate family may be deemed to control
     Carso Global Telecom, Telmex and Prodigy. The business address of Carso
     Global Telecom and Mr. Slim is Paseo de las Palmas, #736, Col. Lomas de
     Chapultepec, Mexico City, Mexico 11000.

(3)  Excludes the listed shares held by Telmex. Carso Global Telecom may be
     deemed to control Telmex though the regular-voting shares of Telmex that
     it owns directly and its interest in a trust which owns a majority of
     Telmex's outstanding regular-voting shares. Carso Global Telecom is a
     Mexican holding company.

(4)  Telmex's business address is Parque Via 190, Oficina 1016, Colonia
     Cuauhtemoc, Mexico City, Mexico 06599.

(5)  Excludes the listed shares held by Carso Global Telecom, and Telmex and
     SBC.

(6)  Excludes the shares held by SBC.

(7)  Includes 169,792 shares that are subject to options that will become
     exercisable on completion of the SBC transaction.

(8)  Consists of shares issuable on conversion of Prodigy Class B common stock
     and units in the operating partnership to be issued to SBC on completion
     of the SBC transaction. Does not include a contingent warrant to purchase
     537,924 shares of Prodigy common stock for $1.00 per share which Prodigy
     and SBC have agreed in principle SBC will receive in exchange for
     guaranteeing Prodigy's ongoing performance obligations under its customer
     contracts in connection with a proposed third party financing. See Item 7
     "Management's Discussion and Analysis of Financial Condition and Results
     of Operations." SBC's business address is 175 East Houston, San Antonio,
     Texas 78205.

(9)  Ownership is based on a Schedule 13G/A filed by Sears with the Securities
     and Exchange Commission on February 10, 2000. Includes 2,409,145 shares
     issuable on exercise of a warrant. Sears' business address is 3333 Beverly
     Road, Hoffman Estates, Illinois 60179.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS.

Transactions with IBM and Sears

   On June 17, 1996, Prodigy's predecessor business, Prodigy Services Company,
was acquired from IBM and Sears for $46,950,000 in cash plus the issuance of
convertible promissory notes valued at $30,500,000. In connection with the
acquisition:

  .  IBM and Sears assumed Prodigy Services Company's four existing
     retirement plans and all obligations thereunder;

  .  IBM received sole ownership of six patents jointly-owned with Prodigy
     Services Company, Prodigy received sole ownership of two other jointly-
     owned patents, and IBM and Prodigy entered into patent cross-license
     agreements; and

  .  Prodigy is obligated to indemnify IBM and Sears for claims and
     liabilities arising out of Prodigy Services Company's business, whether
     arising before or after the closing of the acquisition of Prodigy
     Services Company, except with respect to the retirement plans assumed by
     IBM and Sears.

   Upon the closing of Prodigy's initial public offering in February 1999, IBM
and Sears each surrendered its convertible promissory note and received:

  .  2,127,633 shares of common stock, and

                                       90
<PAGE>

  .  a warrant to purchase 2,409,145 shares of common stock at an exercise
     price of $19.50 per share at any time prior to February 16, 2002.

   IBM and Sears have customary piggyback and demand registration rights for
their shares. IBM and Sears have agreed to vote their shares of common stock in
accordance with the voting recommendations of Prodigy's board of directors.

   In October 1998, Prodigy sold to IBM a version of Prodigy's service provider
platform software enabling an Internet service provider to manage subscriber
data. IBM paid Prodigy $2,000,000, and Prodigy retained a perpetual, royalty-
free license to use and upgrade the software for its own use. Prodigy does not
use this software to manage its own subscriber data.

   Between June 1996 and October 1997, IBM and Sears paid the State of New York
$3.4 million for sales and use taxes assessed against Prodigy Services Company
for periods ended prior to the acquisition of Prodigy Services Company. In
October 1997, Prodigy, IBM and Sears agreed that each of them would be liable
for one-third of all sales and use taxes assessed against Prodigy Services
Company for periods ended prior to the acquisition of Prodigy Services Company,
and Carso Global Telecom paid $567,000 to each of IBM and Sears in light of
prior payments of these taxes by IBM and Sears.

   Prior to outsourcing its network to Splitrock, Prodigy utilized a network
backbone and local phone access sites provided by Advantis and subsequently by
IBM Global Services after IBM acquired Sears' interest in Advantis during 1997.
Prodigy also purchases computer equipment from IBM on normal commercial terms.
For network services and equipment purchases, Prodigy paid IBM/Advantis
$15,091,000 during 1996, $33,244,000 during 1997, $8,742,000 during 1998 and
$6,770,000 during 1999.

   At the time of outsourcing its network to Splitrock, Prodigy had non-
cancelable commitments to purchase network services from Advantis/IBM Global
Services. In December 1998, to satisfy these commitments, Prodigy agreed to
purchase from IBM, on normal commercial terms, maintenance and voice-related
network services in the amount of $7,500,000 prior to December 31, 2000. If the
amount of these purchases does not equal $7,500,000 by December 31, 2000,
Prodigy must pay the balance in cash on or before December 31, 2000.

Transactions with Carso Global Telecom and Telmex

   Stock Purchases by Carso Global Telecom. Pursuant to a funding agreement
entered into in connection with the acquisition of Prodigy Services Company,
Carso Global Telecom granted Prodigy a stock put giving Prodigy the right to
require Carso Global Telecom to purchase up to $125,000,000 of common stock at
a price of $24.00 per share. The dollar amount of the stock put was subject to
reductions. On October 31, 1996, the exercise price of the stock put was
reduced to $12.00 per share.

   Carso Global Telecom purchased the following shares of Prodigy in private
transactions prior to Prodigy's initial public offering in February 1999:

<TABLE>
<CAPTION>
                                         Total
                           Number of    Purchase
Date                         Shares      Price         Type of Transaction
----                       ---------- ------------ ---------------------------
<S>                        <C>        <C>          <C>
February 1996-September
 1996.....................  1,007,750 $ 12,057,750 Purchases from stockholders
March 1996-September
 1996.....................  1,750,000 $ 21,000,000      Purchases from Prodigy
October 1996..............    291,667 $  3,500,000       Purchase from Prodigy
December 1996.............    675,000 $  8,100,000            Warrant exercise
March 1997-October 1997...  8,661,538 $103,938,467      Purchases from Prodigy
December 1997............. 12,385,956 $ 49,543,822       Purchase from Prodigy
April 1998................  3,250,000 $ 13,000,000            Warrant exercise
July 1998.................  1,375,000 $ 11,000,000       Purchase from Prodigy
</TABLE>

   The warrants reflected in the above table were granted by Prodigy to Carso
Global Telecom in connection with its financing commitments to Prodigy.

                                       91
<PAGE>

   Private Stock Purchases by Telmex. In August 1998, Telmex purchased
6,125,000 shares of common stock from Prodigy for $8.00 per share for a
purchase price of $49,000,000. Pending regulatory approval of the investment,
Telmex made an unsecured, interest-free loan of $49,000,000 to Prodigy. In
August 1998, Telmex also purchased 3,287,500 shares of common stock from two
stockholders of Prodigy for $8.00 per share for a total purchase price of
$26,300,000. In February 1999, Telmex purchased 2,000,000 shares of common
stock from Prodigy for $15.00 per share for a purchase price of $30,000,000.

   Subscriber Management Agreement With Telmex. In January 1999, Prodigy and
Telmex signed an agreement under which Prodigy manages Telmex's Prodigy
Internet de Telmex subscribers in Mexico for a monthly management fee. The fee
is equal to 15% of the invoiced sales price minus discounts, excise taxes and
credits for returns on the first 200,000 subscribers and 10% on additional
subscribers. The agreement expires in January 2004 and may be terminated by
Telmex if Prodigy undergoes a change of control.

   Loans from Carso Global Telecom, Telmex and Banco Inbursa. n June 1996,
Prodigy borrowed $48,000,000 from Banco Inbursa, an affiliate of Carso Global
Telecom, in order to pay the cash portion of the purchase price for the
acquisition of Prodigy Services Company and related expenses and subsequently
borrowed an additional $2,000,000. These loans bore interest at the prime rate
plus one-half percentage point. In March 1997, Prodigy repaid $40,000,000 to
Banco Inbursa. Between February 1998 and July 1998, Banco Inbursa loaned
$22,100,000 to Prodigy to fund operations. These loans bore 9% interest and
were due December 31, 1999. In July 1998, Prodigy repaid the $32,100,000 then
owed to Banco Inbursa. Pending regulatory approval of some of the stock put
exercises described above, Carso Global Telecom loaned $71,500,000 to Prodigy
on an interest-free basis, and Banco Inbursa loaned Prodigy $13,650,000 at 9%
interest. These loans were unsecured, and the proceeds were used to finance
Prodigy's operations.

   In August 1999, Carso Global Telecom agreed to provide Prodigy with a $130
million revolving line of credit. Advances are due 30 days after borrowing, but
Prodigy is permitted to roll over advances into new advances at its election.
Advances are uncollateralized and bear interest at the LIBOR rate plus between
one and five percentage points as negotiated on a case-by-case basis. As of
February 29, 2001, $96.4 million was outstanding under this line of credit.

   In February 2000, Telmex committed to provide Prodigy with financing of up
to $200 million to fund its operations through February 2001.

Transactions with SBC

   On March 16, 2000, Prodigy and Citibank signed a letter agreement which
contemplates that Citibank will structure and arrange financing of $200 million
secured by the future service fees payable by contract subscribers to the
Prodigy Internet service. The letter agreement includes a preliminary summary
of principal terms and conditions, estimated expenses and the structuring fee
due Citibank at closing. The letter agreement does not constitute a firm
financing commitment from Citibank, and Prodigy cannot assure that the Citibank
financing will be completed. The Citibank financing is subject to the issuance
by SBC of a performance guarantee and satisfaction of the following conditions:

  .  satisfactory completion of Citibank's due diligence review of Prodigy;

  .  in Citibank's determination, the absence of any material adverse change
     in the financial markets or in the financial condition or operations of
     Prodigy;

  .  negotiation and execution of mutually satisfactory documentation for the
     financing;

  .  the receipt of specified ratings from ratings agencies; and

  .  the receipt of internal Citibank credit approval and any other approvals
     and legal opinions as Citibank may deem necessary or advisable.

                                       92
<PAGE>

   In connection with this financing, SBC has agreed in principle to guarantee
Prodigy's ongoing performance obligations under its customer contracts. Prodigy
and SBC have not fully negotiated the terms of the guarantee. In exchange for
this guarantee, Prodigy and SBC have agreed in principle that SBC will receive
a contingent warrant to purchase 537,924 shares of Prodigy common stock for
$1.00 per share, expiring 3.5 years after the closing date of the Citibank
financing and exercisable only if:

  .  SBC's performance guarantee is triggered;

  .  Prodigy's chief executive officer is not then an SBC appointee; and

  .  SBC, Carso Global Telecom and Telmex then collectively own, on a fully-
     diluted basis, securities representing less than 50% of the voting power
     of Prodigy's the outstanding securities.

   If the financing were to close on the date hereof, the condition specified
in the last bullet point above would not be satisfied, and Prodigy cannot
predict when, or if, the SBC warrant would become exercisable.

   Allen Craft, an executive officer and director of Prodigy, is employed by
SBC. SBC pays the salary of and provides employee benefits to Mr. Craft.

Splitrock Transaction

   Prodigy has outsourced its network operations to Splitrock. Carso Global
Telecom owns 30% of Splitrock. Samer F. Salameh, Prodigy's chairman and chief
executive officer, is a former director of Splitrock and holds stock options to
purchase Splitrock common stock. During the years ended December 31, 1997, 1998
and 1999, Prodigy incurred network charges to Splitrock of $22,700,000,
$64,100,000 and $76,600,000 respectively.

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

 (a) See Item 8 of this report on Form 10-K.

 (b) Reports on Form 8-K

   On November 18, 1999, Prodigy filed a Current Report on Form 8-K dated
November 16, 1999 to report under Item 5 (Other Events) the execution of a
definitive agreement to acquire FlashNet Communications, Inc. No financial
statements were required to be filed with such report.

   On October 20, 1999 Prodigy filed a Current Report on Form 8-K dated October
5, 1999 to report under Item 2 (Acquisition or Disposition of Assets) the
acquisition of the BizOnThe.Net web hosting business and subscribers of U.S.
Republic Communications, an indirect majority-owned subsidiary of VarTec
Telecom. At the closing, Prodigy issued to U.S. Republic 2,113,721 shares of
Prodigy common stock and repaid a $9 million loan from VarTec to U.S. Republic.
Prodigy also issued an additional 727,272 shares into an escrow account. In
addition to the amounts paid at closing, in 2001 Prodigy will be required to
issue up to 727,272 shares, contingent upon the attainment by the acquired
business of specified earn-out targets. Prodigy utilized cash proceeds raised
in its initial public offering to pay the cash portion of the purchase price.

   On December 2, 1999, Prodigy filed a Current Report on Form 8-K dated
November 24, 1999 to report under Item 5 (Other Events) the execution of a
definitive agreement to enter into a strategic relationship with SBC
Communications Inc. pursuant to which SBC will acquire a 43% interest in
Prodigy, Prodigy will be the exclusive provider of Internet service to SBC's
690,000 existing Internet subscribers, SBC will exclusively market Prodigy's
Internet service to U.S. consumers and small businesses and SBC will agree to
obtain for Prodigy 1,200,000 additional Internet subscribers over a three-year
period. No financial statements were required to be filed with such report.

   On December 20, 1999, Prodigy filed Amendment No. 1 to Current Report on
Form 8-K/A filing the financial statements required to be filed with the
Current Report on Form 8-K filed on October 20, 1999.

                                       93
<PAGE>

   On December 29, 1999, Prodigy filed Amendment No. 2 to Current Report on
Form 8-K/A refiling the financial statements required to be filed with the
Current Report on Form 8-K filed on October 20, 1999.

 (a) 3. and (c)--Exhibits

<TABLE>
 <C>        <S>
 2.1(1)+    Asset Purchase Agreement, dated as of May 26, 1999, by and among
            Cable & Wireless USA, Inc., Cable & Wireless USA Internet, L.L.C.
            and the Registrant.

 2.2(2)     Asset Purchase Agreement, dated as of September 7, 1999, by and
            among the Registrant, U.S. Republic Communications, Inc., VarTec
            Telecom, Inc., VarTec Telecom Holding Company, T. Gary Remy and Tom
            D. Johnson.

 2.3(3)*    Agreement and Plan of Merger, dated as of November 5, 1999 and as
            amended as of March 15, 2000, among the Registrant, PUCKnut
            Corporation and FlashNet Communications, Inc.

 2.4(3)     Stock Option Agreement, dated as of November 5, 1999, among the
            Registrant and FlashNet Communications, Inc.

 2.5(3)     Stockholder Agreement, dated as of November 5, 1999, among the
            Registrant, Applied Telecommunications Technologies, Inc., James B.
            Francis, Jr., Global Undervalued Securities Fund, L.P., Andrew N.
            Jent, John B. Kleinheinz, Kleinheinz Capital Partners LDC, Michael
            Scott Leslie, Kevin A. Stadtler, Albert Lee Thurburn and Russell A.
            Wiseman.

 3.1(4)     Certificate of Incorporation of the Registrant, as amended.

 3.2(4)     By-laws of the Registrant, as amended.

 3.3(5)     Form of Amended and Restated Certificate of Incorporation of the
            Registrant, to be effective following the closing of the SBC
            transaction.

 3.4(5)     Form of Amended and Restated By-laws of the Registrant, to be
            effective following the closing of the SBC transaction.

 3.5(5)     Form of Amended and Restated Limited Partnership Agreement for
            Prodigy Communications Limited Partnership by and among the
            Registrant, SBC Internet Communications, Inc. and Prodigy
            Transition Corporation, to be effective following the closing of
            the SBC transaction.

 4.1(4)     Specimen certificate for shares of Common Stock.

 10.1(4)**  1996 Stock Option Plan of the Registrant, as amended.

 10.2(4)**  1999 Employee Stock Purchase Plan of the Registrant.

 10.3(6)**  1999 Stock Option Plan of the Registrant.

 10.4(4)**  1999 Outside Director Stock Option Plan of the Registrant.

 10.5(4)+   Software License and Services Agreement, dated April 16, 1997,
            between Prodigy Services Corporation and ORACLE Worldwide Tech
            Support.

 10.6(6)++  Amended and Restated Splitrock Full Service Agreement, dated
            February 16, 2000, between Splitrock Services, Inc. and Prodigy
            Services Corporation.

 10.7(4)    Agreement of Sublease, dated June 24, 1997, between Splitrock
            Services, Inc. and Prodigy Services Corporation.

 10.8(4)**  Employment Agreement, dated September 1, 1998, between the
            Registrant and Samer F. Salameh.

 10.9(4)**  Employment Agreement, dated September 14, 1998, between the
            Registrant and Andrea S. Hirsch.

 10.10(4)** Employment Agreement, dated December 14, 1998, between the
            Registrant and David C. Trachtenberg.
</TABLE>

                                       94
<PAGE>

<TABLE>
 <C>        <S>
 10.11(4)   Lease, dated August 14, 1997, between Prodigy Services Corporation
            and Westchester One LLC, as amended.

 10.12(4)+  Promotion & Distribution Agreement, effective October 7, 1996,
            between Microsoft Corporation and Prodigy Services Corporation, as
            amended.

 10.13(4)+  Distribution and Licensing Agreement, effective October 1, 1996,
            between Packard Bell NEC, Inc. and Prodigy Services Corporation.

 10.14(4)+  Excite Services Distribution and Co-Branded Area Agreement, dated
            January 20, 1998, between Excite, Inc. and Prodigy Services
            Corporation.

 10.15(4)   Lease Agreement, dated June 6, 1998, between Prodigy Services
            Company and Crow-Kelly#1, as amended.

 10.16(7)+  Microsoft Windows 98 "Get Connected" Co-Marketing Agreement, dated
            July 2, 1998, between Prodigy Services Corporation and Microsoft
            Corporation.

 10.17(6)   Amendment No. 1 to Microsoft Windows 98 "Get Connected" Co-
            Marketing Agreement, dated October 1, 1998, by and between
            Microsoft Corporation and Prodigy Services Corporation.

 10.18(6)++ Renewal and Amendment to that certain Microsoft Windows 98 "Get
            Connected" Co-Marketing Agreement, dated June 1, 1999, by and
            between Microsoft Corporation and Prodigy Services Corporation.

 10.19(6)   Amendment No. 3 to that certain Microsoft Windows 98 "Get
            Connected" Co-Marketing Agreement, dated January 19, 2000, by and
            between Microsoft Corporation and Prodigy Services Corporation.

 10.20(4)+  Software Development and processing Services Agreement, dated
            January 1, 1992, between Prodigy Services Company and CSG Systems,
            Inc., as amended.

 10.21(4)   Form of Prodigy Service Member Agreement.

 10.22(4)   Agreement, dated January 25, 1999, among the Registrant, Telefonos
            de Mexico, S.A. de C.V. and others.

 10.23(7)   Microsoft Internet Explorer Logo License Agreement, dated July 2,
            1998, by and between Prodigy Services Corporation and Microsoft
            Corporation.

 10.24(7)   Microsoft Internet Explorer License and Distribution Agreement,
            dated July 2, 1998, by and between Prodigy Services Corporation and
            Microsoft Corporation.

 10.25(5)*  Investment, Issuance, Contribution and Assumption Agreement, dated
            as of November 19, 1999 and as amended as of April 19, 2000, by and
            among SBC Communications Inc., SBC Internet Communications, Inc.,
            the Registrant, Prodigy Transition Corporation and Prodigy
            Communications Limited Partnership.

 10.26(5)   Strategic and Marketing Agreement, dated as of November 19, 1999,
            by and among SBC Communications Inc., SBC Internet Communications,
            Inc., the Registrant and Prodigy Communications Limited
            Partnership.

 10.27(8)   Voting Agreement, dated as of November 19, 1999, by and among SBC
            Communications Inc., Carso Global Telecom, S.A. de C.V. and
            Telefonos de Mexico, S.A. de C.V.

 10.28(5)   Form of Registration Rights Agreement by and among the Registrant,
            SBC Communications Inc. and SBC Internet Communications, Inc., to
            be effective following the closing of the SBC transaction.

 10.29(3)   Letter, dated February 28, 2000, from Telefonos de Mexico, S.A. de
            C.V., committing to provide up to $200 million in financing to
            Prodigy.
</TABLE>

                                       95
<PAGE>


<TABLE>
<S>       <C>
10.30(3)  Promissory Note of FlashNet Communications, Inc., dated April 26, 2000, in favor of the Registrant.

10.31(3)  Letter Agreement, dated March 13, 2000, by and between the Registrant and Citibank, N.A.

21(6)     Subsidiaries of the Registrant.

23.3      Consent of PricewaterhouseCoopers LLP.

27(6)     Financial Data Schedule.
</TABLE>
--------
(1)  Incorporated by reference to the Registrant's Current Report on Form 8-K
     filed on August 3, 1999.
(2)  Incorporated by reference to the Registrant's Current Report on Form 8-K
     filed on October 21, 1999.
(3)  Incorporated by reference to the Registrant's Registration Statement on
     Form S-4, as amended (File No. 333-36394).
(4)  Incorporated by reference to the Registrant's Registration Statement on
     Form S-1, as amended (File No. 333-64233).
(5)  Incorporated by reference to the Registrant's Definitive Proxy Statement
     on Schedule 14A filed on May 5, 2000.
(6)  Previously filed.
(7)  Incorporated by reference to the Registrant's Annual Report on Form 10-
     K405 filed on March 31, 1999.
(8)  Incorporated by reference to the Schedule 13D/A filed on March 9, 2000 by
     Carlos Slim Helu, Carlos Slim Domit, Marco Antonio Slim Domit, Patrick
     Slim Domit, Maria Soumaya Slim Domit, Vanessa Paula Slim Domit, Johanna
     Monique Slim Domit, Carso Global Telecom, S.A. de C.V. and Telefonos de
     Mexico, S.A. de C.V.
+  Confidential treatment granted as to certain portions.
++  Confidential treatment requested as to certain portions.
*  The exhibits and schedules to this agreement were omitted from the agreement
   by the Registrant. The Registrant agrees to furnish any exhibit or schedule
   to this agreement supplementally to the Securities and Exchange Commission
   upon written request.
**  Management contract or compensation plan or arrangement filed in response
    to Item 14(c) of Form 10-K.

 (b) Financial Statement Schedules

   All schedules for which provision is made in the applicable accounting
regulations of the Securities and Exchange Commission are not required under
the related instructions or are not applicable, and, therefore, have been
omitted.

                                       96
<PAGE>

                                   SIGNATURES

   Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized, in the city of
White Plains, state of New York, on the 15th day of May, 2000.

                                     PRODIGY COMMUNICATIONS CORPORATION

                                     By /s/ Andrea S. Hirsch
                                         --------------------------------------
                                                    Andrea S. Hirsch
                                              Executive Vice President and
                                                    General Counsel

                                       97
<PAGE>

                                 EXHIBIT INDEX

<TABLE>
 <C>        <S>
 2.1(1)+    Asset Purchase Agreement, dated as of May 26, 1999, by and among
            Cable & Wireless USA, Inc., Cable & Wireless USA Internet, L.L.C.
            and the Registrant.

 2.2(2)     Asset Purchase Agreement, dated as of September 7, 1999, by and
            among the Registrant, U.S. Republic Communications, Inc., VarTec
            Telecom, Inc., VarTec Telecom Holding Company, T. Gary Remy and Tom
            D. Johnson.

 2.3(3)*    Agreement and Plan of Merger, dated as of November 5, 1999 and as
            amended as of March 15, 2000, among the Registrant, PUCKnut
            Corporation and FlashNet Communications, Inc.

 2.4(3)     Stock Option Agreement, dated as of November 5, 1999, among the
            Registrant and FlashNet Communications, Inc.

 2.5(3)     Stockholder Agreement, dated as of November 5, 1999, among the
            Registrant, Applied Telecommunications Technologies, Inc., James B.
            Francis, Jr., Global Undervalued Securities Fund, L.P., Andrew N.
            Jent, John B. Kleinheinz, Kleinheinz Capital Partners LDC, Michael
            Scott Leslie, Kevin A. Stadtler, Albert Lee Thurburn and Russell A.
            Wiseman.

 3.1(4)     Certificate of Incorporation of the Registrant, as amended.

 3.2(4)     By-laws of the Registrant, as amended.

 3.3(5)     Form of Amended and Restated Certificate of Incorporation of the
            Registrant, to be effective following the closing of the SBC
            transaction.

 3.4(5)     Form of Amended and Restated By-laws of the Registrant, to be
            effective following the closing of the SBC transaction.

 3.5(5)     Form of Amended and Restated Limited Partnership Agreement for
            Prodigy Communications Limited Partnership by and among the
            Registrant, SBC Internet Communications, Inc. and Prodigy
            Transition Corporation, to be effective following the closing of
            the SBC transaction.

 4.1(4)     Specimen certificate for shares of Common Stock.

 10.1(4)**  1996 Stock Option Plan of the Registrant, as amended.

 10.2(4)**  1999 Employee Stock Purchase Plan of the Registrant.

 10.3(6)**  1999 Stock Option Plan of the Registrant.

 10.4(4)**  1999 Outside Director Stock Option Plan of the Registrant.

 10.5(4)+   Software License and Services Agreement, dated April 16, 1997,
            between Prodigy Services Corporation and ORACLE Worldwide Tech
            Support.

 10.6(6)++  Amended and Restated Splitrock Full Service Agreement, dated
            February 16, 2000, between Splitrock Services, Inc. and Prodigy
            Services Corporation.

 10.7(4)    Agreement of Sublease, dated June 24, 1997, between Splitrock
            Services, Inc. and Prodigy Services Corporation.

 10.8(4)**  Employment Agreement, dated September 1, 1998, between the
            Registrant and Samer F. Salameh.

 10.9(4)**  Employment Agreement, dated September 14, 1998, between the
            Registrant and Andrea S. Hirsch.

 10.10(4)** Employment Agreement, dated December 14, 1998, between the
            Registrant and David C. Trachtenberg.

 10.11(4)   Lease, dated August 14, 1997, between Prodigy Services Corporation
            and Westchester One LLC, as amended.
</TABLE>


                                       98
<PAGE>

<TABLE>
 <C>        <S>
 10.12(4)+  Promotion & Distribution Agreement, effective October 7, 1996,
            between Microsoft Corporation and Prodigy Services Corporation, as
            amended.

 10.13(4)+  Distribution and Licensing Agreement, effective October 1, 1996,
            between Packard Bell NEC, Inc. and Prodigy Services Corporation.

 10.14(4)+  Excite Services Distribution and Co-Branded Area Agreement, dated
            January 20, 1998, between Excite, Inc. and Prodigy Services
            Corporation.

 10.15(4)   Lease Agreement, dated June 6, 1998, between Prodigy Services
            Company and Crow-Kelly#1, as amended.

 10.16(7)+  Microsoft Windows 98 "Get Connected" Co-Marketing Agreement, dated
            July 2, 1998, between Prodigy Services Corporation and Microsoft
            Corporation.

 10.17(6)   Amendment No. 1 to Microsoft Windows 98 "Get Connected" Co-
            Marketing Agreement, dated October 1, 1998, by and between
            Microsoft Corporation and Prodigy Services Corporation.

 10.18(6)++ Renewal and Amendment to that certain Microsoft Windows 98 "Get
            Connected" Co-Marketing Agreement, dated June 1, 1999, by and
            between Microsoft Corporation and Prodigy Services Corporation.

 10.19(6)   Amendment No. 3 to that certain Microsoft Windows 98 "Get
            Connected" Co-Marketing Agreement, dated January 19, 2000, by and
            between Microsoft Corporation and Prodigy Services Corporation.

 10.20(4)+  Software Development and processing Services Agreement, dated
            January 1, 1992, between Prodigy Services Company and CSG Systems,
            Inc., as amended.

 10.21(4)   Form of Prodigy Service Member Agreement.

 10.22(4)   Agreement, dated January 25, 2999, among the Registrant, Telefonos
            de Mexico, S.A. de C.V. and others.

 10.23(7)   Microsoft Internet Explorer Logo License Agreement, dated July 2,
            1998, by and between Prodigy Services Corporation and Microsoft
            Corporation.

 10.24(7)   Microsoft Internet Explorer License and Distribution Agreement,
            dated July 2, 1998, by and between Prodigy Services Corporation and
            Microsoft Corporation.

 10.25(5)*  Investment, Issuance, Contribution and Assumption Agreement, dated
            as of November 19, 1999 and as amended as of April 19, 2000, by and
            among SBC Communications Inc., SBC Internet Communications, Inc.,
            the Registrant, Prodigy Transition Corporation and Prodigy
            Communications Limited Partnership.

 10.26(5)   Strategic and Marketing Agreement, dated as of November 19, 1999,
            by and among SBC Communications Inc., SBC Internet Communications,
            Inc., the Registrant and Prodigy Communications Limited
            Partnership.

 10.27(8)   Voting Agreement, dated as of November 19, 1999, by and among SBC
            Communications Inc., Carso Global Telecom, S.A. de C.V. and
            Telefonos de Mexico, S.A. de C.V.

 10.28(5)   Form of Registration Rights Agreement by and among the Registrant,
            SBC Communications Inc. and SBC Internet Communications, Inc., to
            be effective following the closing of the SBC transaction.

 10.29(3)   Letter, dated February 28, 2000, from Telefonos de Mexico, S.A. de
            C.V., committing to provide up to $200 million in financing to
            Prodigy.

 10.30(3)   Promissory Note of FlashNet Communications, Inc., dated April 26,
            2000, in favor of the Registrant.
</TABLE>

                                       99
<PAGE>

<TABLE>
 <C>      <S>
 10.31(3) Letter Agreement, dated March 13, 2000, by and between the Registrant
          and Citibank, N.A.

 21(6)    Subsidiaries of the Registrant.

 23.3     Consent of PricewaterhouseCoopers LLP.

 27(6)    Financial Data Schedule.
</TABLE>
--------
(1)  Incorporated by reference to the Registrant's Current Report on Form 8-K
     filed on August 3, 1999.
(2)  Incorporated by reference to the Registrant's Current Report on Form 8-K
     filed on October 21, 1999.
(3)  Incorporated by reference to the Registrant's Registration Statement on
     Form S-4, as amended (File No. 333-36394).
(4)  Incorporated by reference to the Registrant's Registration Statement on
     Form S-1, as amended (File No. 333-64233).
(5)  Incorporated by reference to the Registrant's Definitive Proxy Statement
     on Schedule 14A filed on May 5, 2000.
(6)  Previously filed.
(7)  Incorporated by reference to the Registrant's Annual Report on Form 10-
     K405 filed on March 31, 1999.
(8)  Incorporated by reference to the Schedule 13D/A filed on March 9, 2000 by
     Carlos Slim Helu, Carlos Slim Domit, Marco Antonio Slim Domit, Patrick
     Slim Domit, Maria Soumaya Slim Domit, Vanessa Paula Slim Domit, Johanna
     Monique Slim Domit, Carso Global Telecom, S.A. de C.V. and Telefonos de
     Mexico, S.A. de C.V.
+  Confidential treatment granted as to certain portions.
++  Confidential treatment requested as to certain portions.
*  The exhibits and schedules to this agreement were omitted from the agreement
   by the Registrant. The Registrant agrees to furnish any exhibit or schedule
   to this agreement supplementally to the Securities and Exchange Commission
   upon written request.
**  Management contract or compensation plan or arrangement filed in response
    to Item 14(c) of Form 10-K.

                                      100
<PAGE>

                                                                    EXHIBIT 23.3

                       CONSENT OF INDEPENDENT ACCOUNTANTS

   We hereby consent to the incorporation by reference in the Registration
Statements on Form S-8 (No. 333-72179, No. 333-72181 and No. 333-72183) of
Prodigy Communications Corporation of our report dated March 3, 2000 relating
to the financial statements which appear in this Form 10-K/A.

PricewaterhouseCoopers LLP

New York, New York
May 15, 2000
<PAGE>

                               HALE AND DORR LLP
                                60 State Street
                          Boston, Massachusetts 02109
                        617-526-6000 * Fax 617-526-5000

                                  May 15, 2000

VIA ELECTRONIC SUBMISSION

Securities and Exchange Commission
450 Fifth Street, N.W.
Judiciary Plaza
Washington, D.C. 20549

  Re: Prodigy Communications Corporation
    Amendment No. 2 to Annual Report on Form 10-K
    Commission File No. 000-25333

Ladies and Gentlemen:

   Transmitted herewith for filing under the reporting requirements of the
Securities Exchange Act of 1934, as amended, is Amendment No. 2 to the Annual
Report on Form 10-K/A of Prodigy Communications Corporation (the "Company") for
the fiscal year ended December 31, 1999.

   Please contact the undersigned with any questions or comments regarding this
filing.

                                          Very truly yours,

                                          /s/ Emily F. Hayes

                                          Emily F. Hayes