SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                  FORM 10-QSB

         [X]           QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF
                       THE SECURITIES EXCHANGE ACT OF 1934

                         For the quarter ended September 30, 1996

                                       OR

         [ ]    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
                       THE SECURITIES EXCHANGE ACT OF 1934

          For the transition period from _____________ to ____________

Commission File Number:  1-12536

                      PACIFIC ANIMATED IMAGING CORPORATION
             (Exact name of Registrant as specified in its charter)


     Delaware                                            11-2964894
(State or other jurisdiction of            (I.R.S. Employer Identification  No.)
incorporation or organization)

326 First Street, Suite 100
Annapolis, Maryland                                                       21403
(Address of principal executive offices)                              (Zip Code)

Registrant's telephone number,
including area code:                                              (410) 263-7761

                                 Not applicable
(Former name, former address and former fiscal year if changed since last
report)

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
                                      ---      ---

1,518,900  Common Shares,  $.0001 par value were issued and outstanding at
September 30, 1996.


<PAGE>


                      PACIFIC ANIMATED IMAGING CORPORATION

                               TABLE OF CONTENTS
                                                                    Page No.


Part I - Financial Information

Consolidated Balance Sheets, September 30, 1996 (unaudited)
       and December 31, 1995                                             3

Consolidated Statements of Operations for the three and nine
       months ended September 30, 1996 and 1995 (unaudited)              4

Consolidated Statements of Cash Flows for the nine months
       ended September 30, 1996 and 1995 (unaudited)                     5

Notes to Consolidated Financial Statements (unaudited)                   6

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


Part II - Other Information

Items 1-6                                                               11

Signature                                                               12


                                       2

<PAGE>

             PACIFIC ANIMATED IMAGING CORPORATION AND SUBSIDIARIES
                          CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
                                                                                               September 30,         December 31,
                                                                                                  1996                  1995
                                                                                           ------------------    ------------------
                                                                                              (Unaudited)
                                                                           ASSETS
<S> <C>
         Current assets
               Cash and cash equivalents                                                   $       1,870,066     $       4,177,534
               Investment in U.S. government securities                                              474,144                  --
               Accounts receivable, net                                                              435,270               260,655
               Interest receivable                                                                    14,018                 3,939
               Inventory                                                                              24,093                  --
               Prepaid expenses and other current assets                                              56,721                82,719
                                                                                           ------------------    ------------------
                  Total current assets                                                             2,874,312             4,524,847
                                                                                           ------------------    ------------------

         Property and equipment, at cost
               Computers, furniture and equipment                                                  1,018,808               500,162
               Less accumulated depreciation                                                         448,510               218,593
                                                                                           ------------------    ------------------
                  Net property and equipment                                                         570,298               281,569
                                                                                           ------------------    ------------------

         Goodwill, net of accumulated amortization
               of $30,000 as of September 30, 1996                                                   562,317                  --
         Other assets                                                                                 84,156                62,708
                                                                                           ------------------    ------------------

                                                                                           $       4,091,083     $       4,869,124
                                                                                           ==================    ==================
                                                            LIABILITIES AND STOCKHOLDERS' EQUITY
         Current liabilities
               Accounts payable and accrued liabilities                                    $         548,330     $         274,313
               Deferred revenue                                                                       79,864                76,201
               Customer deposit                                                                       50,000                50,000
               Line of credit                                                                        338,333                  --
               Other current liabilities                                                             102,389                 7,781
                                                                                           ------------------    ------------------
                  Total current liabilities                                                        1,118,916               408,295

         Note payable to bank                                                                         28,192                  --
         Deferred rent and other                                                                     180,506                22,399
                                                                                           ------------------    ------------------

                  Total liabilities                                                                1,327,614               430,694
                                                                                           ------------------    ------------------

         Commitments and contingencies

         Stockholders' equity
               Common stock, $.0001 par value.  Authorized 5,000,000 shares;
                  issued and outstanding 1,518,900 shares as of September 30, 1996
                  and 1,441,024 shares as of December 31, 1995.                                          152                   144
               Additional paid-in capital                                                         11,872,324            11,280,624
               Accumulated deficit                                                                (8,944,187)           (6,842,338)
               Deferred compensation                                                                (164,820)                 --
                                                                                           ------------------    ------------------
                  Total stockholders' equity                                                       2,763,469             4,438,430
                                                                                           ------------------    ------------------
                                                                                           $       4,091,083     $       4,869,124
                                                                                           ==================    ==================
</TABLE>

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

                                       3

<PAGE>
             PACIFIC ANIMATED IMAGING CORPORATION AND SUBSIDIARIES
                     CONSOLIDATED STATEMENTS OF OPERATIONS
        For the three and nine months ended September 30, 1996 and 1995
                                  (Unaudited)

<TABLE>
<CAPTION>
                                                              Three months ended                          Nine months ended
                                                                 September 30,                              September 30,
                                                      ---------------------------------        ---------------------------------
                                                           1996              1995                  1996              1995
                                                      ---------------    --------------        ---------------   ---------------
<S> <C>
Revenue

      Custom software revenue                         $       97,053     $     139,893         $      449,764    $      469,226

      Service fees                                           398,092                --                398,092                --

      Product sales                                          275,410                --                290,776                --

      Royalties                                               13,487            12,021                 47,234            41,926

                                                      ---------------    --------------        ---------------   ---------------
               Total revenue                                 784,042           151,914              1,185,866           511,152
                                                      ---------------    --------------        ---------------   ---------------

Operating expenses

      Cost of custom software production                     187,085           191,330                667,102           559,517

      Cost of service fees                                   328,693                --                328,693                --

      Cost of product sales                                  119,346                --                124,937                --

      Research and development                                51,820            36,539                175,590           240,006

      Selling, general and administrative                    844,384           412,498              1,779,182         1,243,015

      Write-off of purchased research and development             --                --                289,330                --

                                                      ---------------    --------------        ---------------   ---------------
               Total operating expenses                    1,531,328           640,367              3,364,834         2,042,538

                                                      ---------------    --------------        ---------------   ---------------
Loss from operations                                        (747,286)         (488,453)            (2,178,968)       (1,531,386)

Other income (expense)                                        (4,927)           13,996                 77,119            38,343

                                                      ---------------    --------------        ---------------   ---------------
Net loss                                              $     (752,213)    $    (474,457)        $   (2,101,849)   $   (1,493,043)
                                                      ===============    ==============        ===============   ===============

Weighted average number of shares outstanding              1,515,113           521,003              1,472,020           520,865
                                                      ===============    ==============        ===============   ===============

Net loss per common share                             $        (0.50)    $       (0.91)        $        (1.43)   $        (2.87)
                                                      ===============    ==============        ===============   ===============
</TABLE>

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

                                       4

<PAGE>


             PACIFIC ANIMATED IMAGING CORPORATION AND SUBSIDIARIES
                     CONSOLIDATED STATEMENTS OF CASH FLOWS
             For the nine months ended September 30, 1996 and 1995
                                  (Unaudited)

<TABLE>
<CAPTION>
                                                                                                 1996                 1995
                                                                                           -----------------    -----------------
<S> <C>
     Cash flows from operating activities
        Net loss                                                                           $     (2,101,849)    $     (1,493,043)
        Adjustments to reconcile net loss to net cash
               used in operating activities, net of effects
               from purchase of Forsight and U.S. Technologies
            Depreciation and amortization                                                           166,539              109,590
            Amortization of unearned compensation                                                    29,086                   --
            Loss on disposal of assets                                                               21,916                7,122
            Write-off of purchased research and development                                         289,330                   --
            Decrease (increase) in assets
               Accounts receivable                                                                    1,194              (19,286)
               Interest receivable                                                                  (10,079)              30,087
               Inventory                                                                              7,264                   --
               Prepaid expenses and other current assets                                             25,998               97,333
               Other assets                                                                          (3,199)             (77,055)
            Increase (decrease) in liabilities
               Accounts payable and accrued liabilities                                             (85,017)             (11,669)
               Other liabilities                                                                    (98,116)             (35,774)

                                                                                           -----------------    -----------------
        Net cash used in operating activities                                                    (1,756,933)          (1,392,695)
                                                                                           -----------------    -----------------

     Cash flows from investing activities
        Purchase of U.S. government securities                                                     (474,144)                  --
        Proceeds from maturity of U.S. government securities                                             --            1,314,413
        Capital expenditures                                                                        (93,848)             (44,376)
        Proceeds from sale of property and equipment                                                  2,700               14,038
        Payment for purchase of Forsight, net of cash acquired                                     (180,562)                  --
        Cash acquired from purchase of U.S. Technologies,                                            12,771                   --

                                                                                           -----------------    -----------------
        Net cash provided by (used in) investing activities                                        (733,083)           1,284,075
                                                                                           -----------------    -----------------

     Cash flows from financing activities
        Proceeds from exercise of options                                                           199,997                2,250
        Payments on line of credit                                                                   (9,386)                  --
        Payments on long-term debt                                                                   (8,063)                  --

                                                                                           -----------------    -----------------
        Net cash provided by financing activities                                                   182,548                2,250
                                                                                           -----------------    -----------------

     Net decrease in cash and cash equivalents                                                   (2,307,468)            (106,370)

     Cash and cash equivalents, beginning of period                                               4,177,534              505,761

                                                                                           -----------------    -----------------
     Cash and cash equivalents, end of period                                              $      1,870,066     $        399,391
                                                                                           =================    =================
</TABLE>

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


                                       5

<PAGE>


             PACIFIC ANIMATED IMAGING CORPORATION AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                  (Unaudited)

1.       GENERAL

         The  consolidated  financial  statements  of Pacific  Animated  Imaging
Corporation (the "Company") as of and for the three and nine month periods ended
September  30,  1996  and  1995  are  unaudited;  however,  in  the  opinion  of
management, include all adjustments,  consisting of normal recurring adjustments
necessary for fair presentation of such financial  information.  These financial
statements should be read in conjunction with the audited  financial  statements
and notes thereto included in the consolidated financial statements for the year
ended  December 31, 1995 included in the Company's  Annual Report on Form 10-KSB
previously filed with the Securities and Exchange Commission.

2.       ACQUISITION OF FORSIGHT

         Effective February 2, 1996, the Company acquired  substantially all the
assets of Forsight, Inc. ("Forsight"), a closely held corporation engaged in the
business  of  developing  and  selling  interactive  multimedia  software to the
business  communications and the consumer publishing market for a total purchase
price of approximately  $317,000,  plus direct expenses of the acquisition which
totaled   approximately   $23,000.  The  Company  acquired  cash,  fixtures  and
equipment,  accounts receivable,  intellectual property, and other miscellaneous
assets for the  assumption  of certain  liabilities  of Forsight,  which totaled
approximately  $190,000,  and 20,000  unregistered shares of common stock of the
Company.  Other terms of the acquisition  included the employment by the Company
of  certain  of  Forsight's  key  employees,  who will  continue  as part of the
Company's  senior  management  team; and the acquisition of all of the shares of
Series A Convertible  Preferred  Stock of Forsight  from Circa  Pharmaceuticals,
Inc. in an amount equal to thirty  percent of the net income each year for three
years of Forsight's  operations  up to a maximum  value of $600,000,  payable in
unregistered  shares of common  stock of the Company.  The Series A  Convertible
Preferred  Stock of Forsight was  canceled  after the  acquisition.  The Company
allocated  approximately  $109,000 to identifiable tangible assets and wrote-off
approximately  $289,000 as in process  research and  development  on the date of
acquisition.  The acquisition did not meet  materiality  thresholds for separate
pro forma disclosure.

3.       ACQUISITION OF U.S. TECHNOLOGIES, INC.

         Effective   July  19,  1996,   U.S.   Technologies   Inc.   Acquisition
Corporation, a wholly owned subsidiary of the Company, merged with and into U.S.
Technologies,  Inc. ("UST"), in a transaction accounted for as a purchase,  with
UST being the surviving corporation. As a result of the merger, the Company owns
100% of UST.  Consideration  at the time of purchase  amounted to $592,317 which
represents  the excess of UST's  liabilities  over its assets as of the date of
the merger. In addition,  under the terms of the merger, the former 100% owner
of UST has the ability to earn up to 31,068  shares of common stock in the
Company  (the market  value of which was $400,000 as of the date of the merger),
provided certain financial  milestones are met. In addition,  the Company made a
commitment  to provide  capital to UST of $500,000 over an  eight-month  period,
beginning in July 1996.  The Company also  established a Phantom Stock Plan (the
"Plan") for key employees of UST. Pursuant to the Plan, UST's key employees have
the  ability to earn up to 46,602  shares of common  stock of the  Company,  the
market value of which was $600,000 as of the date of the merger.  The ability to
earn these shares is subject to the same financial milestones as above.

         In connection with the acquisition of UST, the former 100% owner of UST
entered into an employment  agreement  with the Company for a three year period,
automatically  renewable for one year periods  following the termination date at
the option of either party.  This  agreement  requires  annual  compensation  of
$100,000.

                                       6

<PAGE>

          Management's Discussion and Analysis of Financial Condition
                           and Results of Operations

Results of Operations

         Historically,  the Company's  principal source of revenue has been from
the development of custom multimedia software for electronic performance support
systems,  training,  marketing  and corporate  communications.  The Company also
derives  revenue in the form of royalties paid by customers who resell copies of
software developed by the Company for such customers. During the last quarter of
1995,  in  connection  with the  implementation  of a marketing  initiative  for
consumer  off-the-shelf  software products,  the Company began to derive revenue
from the sale of these  products,  however,  to date,  these  revenues have been
insignificant.

         Effective  July 19,  1996,  the  Company  completed  a merger with U.S.
Technologies,  Inc. ("UST"), resulting in the Company owning 100% of UST. UST is
a full service computer  systems  integration  company whose activities  include
sales  of  computer  equipment,   integration  and  support  services,  and  the
development of client specific software products, primarily using Lotus Notes as
a work  group  computing  solution.  UST's  client  base  is  located  primarily
throughout the state of Florida.  Consideration at the time of purchase amounted
to $592,317 which  represents the excess of UST's  liabilities  over its assets
as of the date of the merger. In addition, under the terms of the merger, the
former  100% owner of UST has the  ability  to earn up to 31,068  shares of
common  stock in the Company  (the market  value of which was $400,000 as of the
date of the merger), provided certain financial milestones are met in a 37-month
period pursuant to a Performance  Standard Agreement.  In addition,  the Company
made a  commitment  to  provide  capital  to the  Company  of  $500,000  over an
eight-month period,  beginning in July 1996, of which $75,000 was advanced prior
to the closing date.

         Total revenues for the three month period ended September 30, 1996 were
$784,042 as compared  to  $151,914  for the same period of 1995,  an increase of
approximately $632,000. This increase was primarily attributable to the addition
of UST revenues of approximately $673,000,  offset by a decrease in sales of the
Company's custom software  products of approximately  $43,000.  The net loss and
net loss per share  were  $752,213  and $0.50 per share,  respectively,  for the
three month  period ended  September  30, 1996 as compared to a net loss and net
loss per  share of  $474,457  and $0.91 per  share,  respectively,  for the same
period of the prior year.

         Total revenues for the nine month period ended  September 30, 1996 were
$1,185,866  as compared to $511,152 for the same period of 1995,  an increase of
approximately $675,000. This increase was primarily attributable to the addition
of UST  revenues of  approximately  $673,000,  as well as  increases in sales of
off-the-shelf   software   products  and  an  increase  in  royalty  revenue  of
approximately $15,000 and $5,000, respectively, offset by a decrease in sales of
the Company's custom software  products of approximately  $20,000.  The net loss
and net loss per share were  $2,101,849 and $1.43 per share,  respectively,  for
the nine month period ended September 30, 1996 as compared to a net loss and net
loss per share of  $1,493,043  and $2.87 per share,  respectively,  for the same
period of the prior year.

         During the three and nine  month  periods  ended  September  30,  1996,
custom software revenue was $97,053 and $449,764,  respectively,  as compared to
$139,893 and $469,226,  respectively, for the same periods of 1995. During 1995,
the Company  refocused its sales efforts  toward  securing  larger  contracts in
selected industries in which it has had previous success,  including  automotive
and packaging.  These refocused efforts have not yet resulted in the increase in
revenue that the Company has planned.  In addition,  the Company recognized less
revenue than anticipated during the three and nine month periods ended September
30, 1996 due to ongoing delays in certain contracts with customers. These delays
are expected to last at least through the end of 1996.

                                       7

<PAGE>

         During the three and nine  month  periods  ended  September  30,  1996,
revenue from services  fees was  $398,092,  as compared to $0 in the prior year.
These revenues represent systems integration and software  development  services
provided by UST. These revenues are expected to increase as UST increases  sales
efforts  of their  services  in  conjunction  with the IBM  Industry  Remarketer
program described below which is expected to significantly expand UST's customer
base.

         During the three and nine  month  periods  ended  September  30,  1996,
revenue from sales of products was $275,410 and  $290,776,  as compared to $0 in
the prior year.  Approximately $275,000 of these revenues for the three and nine
month period ended September 30, 1996,  represent sales of computer  hardware by
UST. UST routinely sells computer hardware as part of their systems  integration
services. These revenues are expected to increase as UST increases sales efforts
for these  products.  Specifically,  UST has been  approved  as an IBM  Industry
Remarketer  for both the AS/400 and RS/6000  midrange  computer  platforms to be
sold as a part of UST's groupware,  I-net, data  warehousing,  and client/server
solutions  delivered to their clients.  The remaining $15,000 in revenue for the
nine  month  period  ended  September  30,  1996  represents  sales of  consumer
off-the-shelf products which the Company began marketing during the last quarter
of 1995 when it initiated two test market mailing programs for certain products.
Both mailings  generated low response rates;  accordingly,  the Company does not
plan to perform any additional mailings for these products.  The Company has not
entered into any additional agreements with developers to market their products;
however,  the Company may enter into other agreements and may perform additional
test mailings for other products in the future.

         The Company has entered into agreements that allow certain customers to
resell  copies of the  Company's  software  products  in  exchange  for  royalty
payments. Royalties were $13,487 and $47,234, respectively, during the three and
nine months ended September 30, 1996, as compared to $12,021 and $41,926 for the
same  periods in the prior year.  Currently,  the Company is entitled to receive
royalties  from one customer in connection  with the sale of education  programs
developed by the Company in prior years, as well as, from the resale of software
by another  customer.  The Company generally expects royalty revenue to decrease
due to the aging shelf life of products for which the Company currently receives
royalties.  However,  the Company continually  explores additional marketing and
development partners to increase revenues generated from royalty arrangements.

         During  the three and nine  months  ended  September  30,  1996,  total
operating expenses were $1,531,328 and $3,364,834,  respectively, as compared to
$640,367  and  $2,042,538  in the same  periods of the prior year,  increases of
approximately $891,000 and $1.3 million,  respectively. The addition of Forsight
and UST,  which were  acquired  in  February  1996 and July 1996,  respectively,
accounted  for  approximately  $884,000 and $1.2 million,  respectively,  of the
increases in total  operating  expenses.  The increase for the nine month period
ended  September  30, 1996 also  includes a write-off of purchased  research and
development,  which  totaled  approximately  $289,000,  in  connection  with the
acquisition of Forsight.

         During the three and nine months ended  September  30, 1996,  the gross
margins for custom  software  products were  approximately  (93%) and (48%),  as
compared to (37%) and (19%) for the same  periods in 1995.  The  negative  gross
margins  for the 1996  period are  primarily  due to the lower than  anticipated
level of sales of the Company's  custom software  services.  The Company expects
gross margins in custom software to improve as revenues  increase.  In addition,
as discussed under Strategy to Achieve Profitable  Operations below, the Company
is implementing  plans,  including the consolidation of certain  operations,  to
reduce and better control production and development costs so that they are more
consistent with the level of sales.

         Cost of service fees was approximately  $328,693 for the three and nine
month  periods  ended  September  30,  1996,  resulting  in a  gross  margin  of
approximately  17%, as compared to $0 in the same periods of 1995. These are the
costs  associated  with systems  integration and software  development  services
provided by UST.  In future  periods,  the  margins for  services is expected to
increase  as the  level

                                       8

<PAGE>

of revenue  from service  fees increases and as the employees who  provide these
services become more efficient.

         Cost of product  sales was $119,346 and $124,937 for the three and nine
month periods ended September 30, 1996, as compared to $0 in the same periods of
1995.  Approximately,  $119,000  of these  costs for the  three  and nine  month
periods  ended  September  30,  1996 was from  the sale of  products  by UST and
resulted in a gross margin of approximately 57%, an unusually high margin due to
an  unusual  one-time  transaction  recognized  during  this  period.  In future
periods,  typical  gross  margins  are  expected  to range  between 10% and 15%.
Approximately  $5,600 of these costs are the costs  associated with the consumer
off-the-shelf marketing initiative discussed above.

         During the three and nine  month  periods  ended  September  30,  1996,
research and development  expenses were $51,820 and $175,590,  respectively,  as
compared to $36,539 and  $240,006  for the same  periods of 1995.  Research  and
development  expenses  for the nine month period  ended  September  30, 1996 are
lower than the same period of 1995 due to  improvements  made to the utility and
functionality of the Company's software made during 1995.  However,  the Company
continues to improve on existing tools as needed and, in addition,  is currently
developing  modified versions of traditional custom software products to be sold
to a broad range of commercial customers.  Accordingly, research and development
expenses  increased during the three months ended September 30, 1996 as compared
to the prior year and are expected to be at a consistent  level at least for the
remainder of 1996.

         During the three and nine  month  periods  ended  September  30,  1996,
selling,  general and  administrative  expenses  were  $844,384 and  $1,779,182,
respectively,  as compared to $412,498 and $1,243,015 in the same periods of the
prior year,  increases of  approximately  $432,000 and  $536,000,  respectively.
Approximately $380,000 and $456,000,  respectively,  of the increases are due to
the  additions  of Forsight  and UST.  The  remaining  increases  are due to the
Company's increased sales and marketing efforts.

         During the three month period  ended  September  30, 1996,  total other
income (expense) decreased by approximately  $19,000 from the same period of the
prior year due to a loss recognized during the period related to the sublease of
excess facilities as well as interest expense on UST's  line-of-credit  and bank
note.  During the nine month period ended September 30, 1996, total other income
(expense)  increased by approximately  $39,000 from the same period of the prior
year primarily due to an increase in funds  available for investment as compared
to the prior year,  offset by the loss on the sublease of excess  facilities and
the addition of UST's interest expense.

Strategy to Achieve Profitable Operations

         During the fourth quarter of 1996,  the Company  expects to implement a
number of actions  intended to address the slow sales  growth and the  continued
losses. The Company intends to expand current sales efforts of modified versions
of traditional  custom software products that it has developed and targeted to a
broad  range of  commercial  customers;  expand  UST's  sales  efforts  of their
services and products  outside of Florida,  where a majority of their market has
historically  been;  and cut costs  related to  production  and  development  by
consolidating  the  Redmond,  WA office into the  Annapolis,  MD  location.  The
consolidation  is expected to be  completed by December 31, 1996 and the Company
expects to maintain key employees to help  minimize  disruption to operations as
projects are transferred to the Annapolis office.  In addition,  the Company has
formed a task force to look at certain  aspects of  operations,  such as ways to
improve  sales  and  reduce  costs,   including  the   possibility   of  further
consolidation of offices.

         Management  believes that with expanded  sales  efforts,  the Company's
revenues will increase based upon the current  volume of outstanding  proposals;
the Company's existing  technology and marketing base; and the recent entry into
new markets,  including  corporate  communications,  web-site  development,  and
systems  integration  services.  In addition,  the Company  believes that it can
increase

                                       9

<PAGE>


revenues with sales of its modified versions of custom software products that it
has  developed which management  believes  leverage its proprietary products and
developmental  skills to appeal to a wider market. In addition, the Company will
seek  to  establish  ongoing  arrangements  with  larger  companies that need to
integrate a  multimedia  software  solution for work group computing, electronic
performance support, training, marketing or corporate communication projects.

         Management  believes that its strategy for increasing revenues combined
with the impact of cost control measures will enhance the Company's  probability
of achieving profitable operations during 1997. Management's estimates are based
upon information currently available to management and may not necessarily prove
accurate.

Cash Flow, Liquidity and Capital Resources

         For the nine month period ended  September  30, 1996,  the Company used
cash of approximately $1,750,000 in operations, primarily due to the net loss of
$2,101,849,  net of the write-off of purchased  research and development,  which
totaled approximately  $289,000, in connection with the acquisition of Forsight.
During the nine month period ended September 30, 1996, net cash of approximately
$733,000 was used for investing  activities  for the purchase  Forsight and UST,
U.S. government  securities,  and equipment.  During the nine month period ended
September  30,  1996,  net cash of  approximately  $200,000  was provided by the
exercise of 28,571 common stock options, offset by approximately $17,000 used to
make payments on UST's obligations to a bank.

         For the nine month period ended  September  30, 1995,  the Company used
cash of approximately $1,400,000 in operations, primarily due to the net loss of
$1,493,043.  The Company  also  experienced  decreases  in accounts  payable and
liabilities,  offset by decreases in interest  receivable,  prepaid expenses and
other current assets. During the nine month period ended September 30, 1995, net
cash of approximately  $1,284,000 was provided by investing activities primarily
from proceeds received from the maturity of liquid investment securities.

         The Company's  existing general working capital of  approximately  $1.8
million  at  September  30,  1996,  together  with  funds to be  generated  from
investment  income and future sales of custom software,  services,  and products
are expected to provide sufficient liquidity to meet anticipated cash needs on a
short-term  and  long-term  basis.  As  discussed  above,  the Company  plans to
implement  certain actions to increase sales and reduce  expenditures;  however,
the Company can make no assurances that operations will generate sufficient cash
flow or that additional  financing will be obtained from any sources to meet the
long-term  obligations  of the Company.  Management has not attempted to arrange
any long-term debt financing or seek additional financing through further equity
offerings at this time,  in the belief that the Company's  liquid  resources and
anticipated revenue growth will support operations for the foreseeable future.


"Safe Harbor"  Statement under the Private  Securities  Litigation Reform Act of
1995: The statements  contained in this section and other  statements  which are
not  historical  facts are forward  looking  statements  that involve  risks and
uncertainties, including, but not limited to, the effect of economic conditions;
the success of newly implemented  sales  strategies;  product and service demand
and market acceptance risks; the ability to obtain a larger number of and larger
size of contracts;  the timing of contract awards,  customer response,  and work
performance;  the impact of  competitive  products  and  pricing;  technological
developments or difficulties in the Company's research and development  efforts;
actual  purchases under  agreements and other risks as detailed in the Company's
Securities and Exchange Commission filings.


                                       10

<PAGE>


                          PART II - OTHER INFORMATION


Item 1.       Legal Proceedings:     None

Item 2.       Changes in Securities:             None

Item 3.       Defaults Upon Senior Securities:     None

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

Proposal  No. 2 for the  adoption  of  Incentive  Stock  Option Plan No. 3 first
submitted to a vote at the Company's  annual meeting of shareholders on June 21,
1996 was  adjourned  due to a lack of votes to July 15, 1996,  then  extended to
August 12, 1996 and further extended to September 23, 1996. The Proposal did not
pass. The final results were as follows:
                                                 For    Against Abstain/Nonvotes
        2. Approval of adoption of Incentive
           Stock Option Plan No. 3             429,361  66,216      647,936

Item 5.       Other Information:     None

Item 6.       Exhibits and Reports on Form 8-K:

              (a)    Exhibits:     None

              (b)    The following report on Form 8-K was filed during the three
               months ended September 30, 1996:

                     July 19, 1996 - Acquisition or Disposition of Assets - U.S.
                     Technologies, Inc. Merger


                                       11
<PAGE>




                      PACIFIC ANIMATED IMAGING CORPORATION


                                   SIGNATURE


Pursuant  to the  requirements  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.


                                          PACIFIC ANIMATED IMAGING CORPORATION
                                               (Registrant)

Dated:      November  14, 1996




                                          BY: /s/ Suzanne C. Brown
                                          --------------------------------------
                                          Suzanne C. Brown
                                          Chief Financial and Accounting Officer