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                                 UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549
                            ------------------------

                                  FORM 10-KSB

(Mark One)

/X/  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF
   THE SECURITIES EXCHANGE ACT OF 1934

                  FOR THE FISCAL YEAR ENDED DECEMBER 31, 2000

/ /  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF
   THE SECURITIES EXCHANGE ACT OF 1934.

                        COMMISSION FILE NUMBER 1-15117.
                            ------------------------

                                  ON2.COM INC.

             (Exact name of registrant as specified in its charter)

<TABLE>
<S>                                                 <C>
                     DELAWARE                                           84-1280679
         (State or other jurisdiction of                   (I.R.S. Employer Identification No.)
          incorporation or organization)

         145 HUDSON STREET, NEW YORK, NY                                  10013
     (Address of principal executive offices)                           (Zip Code)
</TABLE>

                                 (917) 237-0500

              (Registrant's telephone number, including area code)
                            ------------------------

                    375 GREENWICH STREET, NEW YORK, NY 10013

   (Former name, former address and former fiscal year, if changed since last
                                    report)

          SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:

<TABLE>
<CAPTION>
               TITLE OF EACH CLASS:                     NAME(S) OF EACH EXCHANGE ON WHICH LISTED:
               --------------------                     -----------------------------------------
<S>                                                 <C>
                   Common Stock                                  American Stock Exchange
</TABLE>

          SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:

                                      None

    Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (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.  /X/ Yes  / / No

    Check if there is no disclosure of delinquent filers in response to Item 405
of Regulation S-B contained in this form, and no disclosure will be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-KSB or any
amendment to this Form 10-KSB. / /

    Issuer's revenues for the year ended December 31, 2000 were approximately
$1,003,566.

    The aggregate market value of the voting stock held by non-affiliates of the
registrant, based on the closing price on the American Stock Exchange on
March 23, 2001 was approximately $17,272,000.

                     APPLICABLE ONLY TO CORPORATE ISSUERS:

    State the number of shares outstanding of each of the issuer's classes of
common stock, $0.01 par value ("Common Stock"), as of the latest practicable
date:

                    29,668,309 shares as of March 23, 2001.

                      DOCUMENTS INCORPORATED BY REFERENCE

    Items 9, 10, 11, and 12 of Part III are incorporated by reference from the
Company's definitive Proxy Statement for the Annual Meeting of Stockholders, to
be held on May 22, 2001. Registrant's definitive Proxy Statement will be filed
with the Securities and Exchange Commission on or before 120 days after
December 31, 2000.

Transitional Small Business Disclosure Format (Check one):    / / Yes    /X/ No

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<PAGE>
                               TABLE OF CONTENTS

<TABLE>
<S>        <C>                                                           <C>
                                PART I

ITEM 1.    DESCRIPTION OF BUSINESS.....................................       1

ITEM 2.    DESCRIPTION OF PROPERTY.....................................       7

ITEM 3.    LEGAL PROCEEDINGS...........................................       7

ITEM 4.    SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.........       7

                                PART II

ITEM 5.    MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS....       8

ITEM 6.    MANAGEMENT'S DISCUSSION AND ANALYSIS........................       9

ITEM 6A.   QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET
             RISK......................................................      19

ITEM 7.    FINANCIAL STATEMENTS........................................      19

ITEM 8.    CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
             AND FINANCIAL DISCLOSURE..................................      19

                               PART III

ITEM 9.    DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL
             PERSONS; COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE
             ACT.......................................................      20

ITEM 10.   EXECUTIVE COMPENSATION......................................      20

ITEM 11.   SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
             MANAGEMENT................................................      20

ITEM 12    CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS..............      20

ITEM 13    EXHIBITS AND REPORTS ON FORM 8-K............................      20

SIGNATURES.............................................................      22
</TABLE>

                                       i
<PAGE>
                                     PART I

ITEM 1. DESCRIPTION OF BUSINESS

FORWARD-LOOKING STATEMENTS

    This document contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities
Exchange Act of 1934. These statements relate to future events or our future
financial performance and are not statements of historical fact. In some cases,
you can identify forward-looking statements by terminology such as "may,"
"will," "should," "expect," "plan," "anticipate," "believe," "estimate,"
"predict," "potential," "objective," "forecast," "goal" or "continue," the
negative of such terms, or other comparable terminology. These statements are
only predictions, and actual events or results may differ materially. Although
we believe that the expectations reflected in the forward-looking statements are
reasonable, we cannot guarantee future results, levels of activity, performance
or achievements, and in all cases, such statements are subject to the Company's
ability to secure additional financing or to increase revenues to support its
operations. If the Company cannot secure additional financing or increase its
revenues to support its operations, the Company's status as a going concern will
remain in doubt. In this regard, the business and operations of the Company are
subject to substantial risks that increase the uncertainty inherent in the
forward-looking statements contained in this Form 10-KSB. In evaluating the
Company's business, you should give careful consideration to the information set
forth below under the caption "Management's Discussion and Analysis--Risk
Factors That May Affect Future Operating Results," in addition to the other
information set forth herein.

    The inclusion of the forward-looking statements should not be regarded as a
representation by the Company, or any other person, that such forward-looking
statements will be achieved. We undertake no duty to update any of the
forward-looking statements, whether as a result of new information, future
events or otherwise. In light of the foregoing, readers are cautioned not to
place undue reliance on the forward-looking statements contained in this report.

OVERVIEW

    On2.com Inc. ("On2" or the "Company") is a leading technology firm for video
compression. We have developed a proprietary technology platform and video
compression/decompression software technology ("codecs") to deliver high quality
video at the lowest possible data rates via the Internet and over closed area
networks. We offer a suite of products and services, including high-level video
encoding, encoding workstations, hosting, streaming, interface design,
customized technical support, and consulting services. In addition, we license
our high quality video codecs for use in closed area networks such as set-top
boxes, electronic gaming devices and wireless applications.

    Founded in 1992 as The Duck Corporation, the Company originally developed
and marketed codecs that enabled developers of computer video games, video games
for dedicated video game consoles and multi-media presentations on computers to
convert an analog video signal to a digital video signal, and to compress the
signal for storage and playback on the required device. The Company also
developed its own video streaming technology, enabling delivery of high quality
video signals over high bandwidth networks, and technology allowing for
real-time captures, compression and storage of digital video signals.

    In June of 1999, The Duck Corporation was merged with and into a wholly
owned subsidiary of Applied Capital Funding, Inc., a public company whose name
was later changed to On2.com Inc. Through the first quarter of 2000, the Company
devoted substantially all of its efforts to building a proprietary content
network and developing the technology to operate a broadband content site. In
June of 2000, the Company made a strategic decision to de-emphasize the
development of its content site and redirected its strategic operating focus
toward providing its proprietary broadband technology

                                       1
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solutions to customers requiring television quality video signals for
distribution over the broadband Internet or to consumer electronic devices.

BUSINESS STRATEGY

    Our strategy is to be the premiere provider of video
compression/decompression software technology and compression tools. We are
striving to achieve our goals by implementing the following key strategies:

    - developing and expanding our expertise in video compression and streaming
      software;

    - continuing our research and development efforts to increase the quality of
      video technology in order to improve the experience for end users;

    - leveraging our existing products and services to support new products and
      services and to expand into multiple industries including the Internet,
      wireless applications and consumer electronics; and

    - expanding into selective international markets.

OUR TECHNOLOGY

    Our technology is designed to deliver the highest quality video at the
lowest possible data rates. We currently license and develop a number of
products for the Internet and consumer electronic industries related to our
TrueMotion line of codecs and TrueCast line of server products.

    TRUEMOTION VP3 SERIES

    Our TrueMotion VP3 series of codecs includes VP3, VP3.1 and VP3.2. VP3 was
introduced in January of 2000 and was the original codec used on our website at
data rates between 300 and 400 kbps. VP3.1 was launched in June of 2000 and
provided for full-motion, full-screen television quality video over the Internet
at data rates as low as 250 kbps, scaling dynamically to 500 kbps and more.
Introduced in August of 2000, VP3.2 is designed to offer the highest quality
video transmission over broadband Internet connections and supply television
quality at data rates as low as 200 kbps. VP3 files are encoded in multiple bit
rates and at optimum frame rates (usually 29.97 fps) within a single file. This
multiple bit rate file is designed to work optimally with both On2's TrueCast
server and Real servers running the VP3 plug-in for Real.

    TRUEMOTION VP4

    We anticipate the release of our next generation video compression
technology, VP4, in the second quarter of 2001. Initially optimized for set-top
boxes and closed environments, VP4 is expected to achieve near-DVD quality at
450 kbps and near-VHS quality at 150 kbps at full-screen and full-motion. VP4
will offer a 60-70% bandwidth reduction over some of our competitor's
technologies allowing for greatly reduced costs for comparable quality video.
VP4 will also offer video streamed at 56 kbps (narrowband) at 192x144 and 15-20
fps, to be one of the best possible streaming video products on the market for
narrowband users.

    Additional VP4 features will include an improved quantization strategy that
serves to improve overall sharpness and detail and improved frame reconstruction
and prediction to maintain video integrity at the lowest possible data rates.
VP4 will also introduce dynamic resolution adjustments as well as further
improvements to post processing techniques. VP4 is expected to be fully
backwards compatible so that all content encoded in previous versions of On2's
technology, including VP3.2, will be dramatically enhanced.

                                       2
<PAGE>
    TRUEMOTION 2X (TM2X)

    Originally developed as our state of the art video compression codec in
1998, the TM2X codec is optimized for hard-drive, Kiosk, or CD-ROM based video
playback. The TM2X video delivery algorithm was licensed for use in Sega's
Dreamcast and Saturn and is also licensed to gaming developers and manufacturers
interested in high quality video on machines with limited processing
capabilities.

    TM2X offers high resolutions (320x240, 640x480) and high bit-rates, that can
play back smoothly on a wide range of CPUs. The product was part of QuickTime
and Video for Windows, and can be used in programs such as Adobe Premiere and
Terran's Media Cleaner Pro. It is also a cross platform codec, with QuickTime
working on both MacIntosh computers and personal computers.

    ON2'S VP3 PLUG-INS FOR REAL AND QUICKTIME

    In order to allow our quality encoding to be viewed on non-VP3 players, we
developed VP3-based plug-ins for other media formats, like Apple's QuickTime and
RealNetworks' RealPlayer. Content providers gain access to our high quality
encoding algorithms and processes with an expanded choice of playback
mechanisms. These codecs enable us to encode content using state-of-the-art VP3
plug-in technology engineered to play back through these other popular
player-formats.

    The TrueMotion VP3.2 video format plug-in for RealNetworks' RealSystem
allows TrueMotion video to be streamed from a RealServer. The TrueMotion plug-in
to the RealPlayer became available for distribution via RealNetworks' AutoUpdate
Service in March of 2001. VP3.2 through the RealPlayer allows users looking for
broadcast-quality Internet video solutions to take advantage of our compression
technology to deliver full-screen, full-motion, TV quality video over
traditional IP networks.

    We have also developed a plug-in for Apple's QuickTime 5 that enables
Internet users to view full-screen, full-motion, television quality VP3 encoded
video through the QuickTime player. The On2 VP3 for QuickTime plug-in is
available on the On2 website, located at www.on2.com, and as part of QuickTime
5's component download feature. After installing the VP3 for QuickTime codec, it
becomes available with all QuickTime compatible applications. VP3 for QuickTime
encoded video files may be streamed from the QuickTime StreamServer or may be
served off a web server for progressive download.

OUR SERVICES AND PRODUCTS

    In addition to licensing our technology, we offer the following broadband
technology services to our customers:

    ENCODING SERVICES

    Our core competence is in the development and implementation of high-quality
video compression technology. We encode video assets into our proprietary VP3
format, or into a variety of other formats including RealNetworks' Real, Apple's
QuickTime, and Microsoft's Windows Media, in a range of data rates, from
narrowband to broadband. On2's quality video encoding service includes
remastering our clients' video files before they are compressed for frame rate
optimization, color correction and balancing, audio optimization and
scene-by-scene preprocessing.

    HOSTING AND STREAMING SERVICES

    On2 offers various hosting and streaming services to our clients for both
VP3 encoded assets and non-VP3 encoded assets. For VP3 encoded video assets, On2
offers installed multiple POP's (Points Of Presence) provisioned with its
TrueCast video server "farms" (numerous units in a single physical location,
remotely maintainable) across the United States. These "farms" can collectively
support many

                                       3
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thousands of simultaneous users, and can be scaled up quickly. The TrueCast
Server system contains the following features:

    - CONTENT REPLICATION:  To optimize the time it takes video files to reach
      all the appropriate servers, each video server replicates content to other
      servers, pushing out a single master copy, which is then replicated over
      the network.

    - SERVER STABILITY:  To enable files to be available to end users, once a
      file is published, the On2 content management system distributes the file
      completely across the network so that even if a particular server or
      server farm is down at the time, that file will be available as soon as it
      comes back online.

    - MEDIA TRACKING:  On2 has established a proprietary tracking system that
      keeps track of the publishing process.

    - SITE REPORTS:  On2 provides custom reports on video usage, encoding,
      storage, and streaming.

    To support the needs of clients who have chosen to encode in non-VP3
formats, On2 has entered into arrangements with Akamai Technologies, Inc. and
Globix Corporation, two of the largest hosting and streaming companies.

    CUSTOM ENGINEERING

    We provide custom engineering services designed to support customers that
are interested in licensing and porting On2's technologies and algorithm
libraries into set top boxes, gaming devices and other closed network
applications.

    CREATIVE SERVICES

    Our creative services team functions as our in-house creative, consulting,
strategy and production agency, providing customers with custom end-to-end
broadband solutions. Creative Services utilizes On2's suite of TrueMotion
products to produce a complete broadband experience, from concept to
implementation, utilizing the full range of Web, multimedia, video and design
technologies. Our creative services group has created branded, targeted and
fully integrated Web experiences for such clients as Showtime.

    THE ON2 ENCODING WORKSTATION

    We sell an encoding workstation that allows for the digital re-mastering and
compression of video files in On2's VP3.2 format. The encoding workstation
features On2 video capture and storage hardware, as well as On2's proprietary
encoding software for licensing. Beginning with capturing uncompressed video
through high quality SDI inputs, users can create an optimized digital file
using On2's proprietary re-mastering tools. These tools are geared toward the
video professional that wants exact control over the optimization process. Once
the raw file has been optimized, On2's compression software has the capability
of creating multiple data rate compressed files. Optional features of the
encoding workstation include frame rate control, video level adjustment and
cropping and scaling.

    Our encoding workstation features tools for the precise optimization of
digitized video. A combination of manual and automatic processes gives the user
exact control of the final pre-compressed file. The workstation comes with a
professional quality SDI (Serial Digital Interface) capture card for pristine
uncompressed raw video. Other input formats are available with the purchase of
an optional SDI converter.

                                       4
<PAGE>
    VIDEO-MAIL

    On2's V-Mail software is a program that enables non-technical users to
import video from a webcam. Once the video is captured, a user need only click
the mouse to compress the video into On2's VP3 format and upload the video onto
servers where the video is stored. From this central repository, the user can
send an email containing the link to the video to others over the Web, or post
the video to other sites on the Internet.

RESEARCH AND DEVELOPMENT

    The focus of our research and development activities is to improve and
expand upon our core codec technology to improve the video experience for end
users. Our research and development efforts have enabled us to provide quality
video compression and decompression at lower broadband data rates and certain
narrowband data rates. We believe that continuing to make advances in technology
is key to the success of our business. Consequently, we devote a substantial
portion of our resources to our research and development efforts. During the
fiscal years ended December 31, 2000 and December 31, 1999, we spent $11,758,024
and $4,713,209, respectively, on research and development activities. Most of
our technology is developed internally, but we also purchase and license
technologies from third parties.

SALES AND BUSINESS DEVELOPMENT

    The goal of our sales and business development departments is to build
relationships that fall into two basic categories: in-house encoding and product
licensing. In-house encoding focuses on large jobs for major clients where
quality is the customer's primary concern. Our sales team targets large studios
and television networks, sports leagues and large sports sites, and news sites
as potential customers for our in-house encoding. Product licensing focuses on
including our codec on chips that will be used in set top devices, wireless
devices and game devices. These arrangements typically require engineering
services and involve licensing of our codecs.

INTERNATIONAL

    We believe that we are well positioned to expand our business
internationally on a selective basis. We maintain operations in London, UK and
Seoul, Korea that focus on expanding our international business. One method of
expanding internationally that we are pursuing is to appoint resellers of our
technology, especially encoding, throughout Europe and Asia where such resellers
would pay us an annual license fee for some portion of a particular market,
geographic or otherwise, in exchange for access to our encoding workstations and
server software. In February of 2001, On2 appointed Ecoin as the exclusive
licensor of certain of our technology over the Internet in South Korea.

COMPETITION

    The Internet industry is highly competitive and affected by rapid change. We
believe that the principal competitive factors in our business include
technological innovation, versatility of products, pricing, customer service,
network quality, service offerings and the flexibility to adapt to changing
market conditions. In the broadband codec market, we compete with companies such
as Microsoft, Intel, RealNetworks, Apple and Sorenson and in the closed-area
networks market, we compete with MPEG2 and MPEG4 and several codecs that
position themselves as "MPEG4-based". We also compete with companies that
provide encoding services and companies that encode their content in-house. In
establishing our broadband strategy, we face a number of strong, firmly
entrenched competitors who are currently providing similar services to
low-bandwidth users and high-bandwidth users. These and other companies have
announced plans to provide broadband video-based services and technology. In
addition to competition from other Internet content and technology companies,

                                       5
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well-established media distribution companies, particularly in the cable
television and satellite markets, have established, and continue to seek to
establish, interactive, on-demand digital services through the development of
sophisticated digital set-top technology and related back-end server systems.
Many of our existing competitors have, and some future competitors may have,
significantly greater financial and technical resources than we have.

INTELLECTUAL PROPERTY

    We regard our copyrights, service marks, trademarks, trade secrets,
proprietary technology and similar intellectual property as critical to our
success, and we rely on trademark, copyright, trade secret and patent protection
to protect our proprietary rights. We currently hold several U.S. patents and
have some U.S. patent applications pending. While we try to assure that the
quality of the On2.com brand is maintained through such measures, there can be
no assurance that steps we have taken and continue to take to protect our
proprietary rights will be adequate or that third parties will not infringe on
our intellectual property. In addition, there can be no assurance that third
parties will not assert infringement claims against us which, even if not
meritorious, could result in the expenditure of substantial resources and
management effort.

    We regard much of our technology as proprietary and try to protect it by
relying on trademarks, copyrights, patents, trade secret laws and
confidentiality agreements. In connection with our license agreements with third
parties, we seek to control access to and distribution of our technology,
documentation and other proprietary information. Even with all of these
precautions, it could be possible for someone else to either copy or otherwise
obtain and use our proprietary information without our authorization or to
develop similar technology independently. Effective trademark, copyright and
trade secret protection may not be available in every country in which our
services are made available through the Internet, and policing unauthorized use
of our proprietary information is difficult and expensive. We cannot be sure
that the steps we have taken will prevent misappropriation of our proprietary
information. Any misappropriation could have a material adverse effect on our
business. In the future, we may need to go to court to either enforce our
intellectual property rights, to protect our trade secrets or to determine the
validity and scope of the proprietary rights of others. That litigation might
result in substantial costs and diversion of resources and management attention.

    We currently license from third parties technologies incorporated into some
of our products and services. As we continue to introduce new services that
incorporate new technologies, we may be required to license additional
technology from others. We cannot be sure that these third-party technology
licenses will continue to be available on commercially reasonable terms, if at
all.

GOVERNMENT REGULATION

    We are not currently subject to direct regulation by any governmental agency
other than rules and regulations that apply to businesses generally, except that
certain U.S. export controls and import controls of other countries, including
controls on the use of encryption technologies, which may apply to our products.
Laws and regulations specifically pertaining to the Internet are new and
developing. These laws or regulations govern matters such as online content,
intellectual property, user privacy, e-commerce, information security and
taxation. In addition, the applicability of existing laws to the Internet is
uncertain and evolving. As a result of this uncertainty, it is difficult to
predict the impact, if any, that future regulation or changes in regulation may
have on our operations.

    Moreover, we may be liable to third parties for any content that we encode,
distribute or make available on our website if that content violates a third
party's intellectual property rights or violates any applicable laws, such as
obscenity laws or defamation laws. Although we try to mitigate this risk by
seeking indemnification from our customers and suppliers, we may still be
subject to liability if

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indemnification is not obtained, is contested or does not provide us with enough
resources to cover any potential liability.

EMPLOYEES

    As of December 31, 2000, we had approximately 80 full-time employees. None
of our employees are represented by a labor union, and we consider our
relationship with our employees to be good. We supplement our work force from
time to time with contractors, administrative personnel through employment
agencies, and part time employees.

ITEM 2. DESCRIPTION OF PROPERTY.

    We do not own any real property. We lease approximately 12,200 square feet
of space where our principal executive and administrative offices are located at
145 Hudson Street, New York, NY 10013 at an annual rental of approximately
$480,000. This lease expires on March 31, 2002. We maintain an engineering
office in the Albany, New York area of 4,680 square feet at an annual rental of
approximately $62,000. This lease expires on November 30, 2002. In addition, we
leased approximately 6,300 square feet of office space at 375 Greenwich Street,
New York, NY at an annual rental of approximately $186,000. However, since we
have consolidated our New York City office spaces into one location at 145
Hudson Street, we are in the process of terminating the lease at 375 Greenwich
Street. Management believes these facilities are all in usable condition and
that these facilities are sufficient to meet our needs for the immediate future.

ITEM 3. LEGAL PROCEEDINGS.

    We were a defendant in a lawsuit regarding an alleged breach of contract
that sought damages in the millions of dollars. We denied the substantive
allegations and contested the case vigorously. During fiscal year 1998, the
court ruled that the plaintiff was entitled to $60,000 based on the contract,
plus interest. Accordingly, we accrued and paid $89,000 relating to this matter.
The plaintiff filed a notice of appeal with respect to the summary judgment and
trial decision. We opposed the appeal and cross-appealed with respect to
denomination of prevailing party. On appeal, the court held that we were the
prevailing party and we were thus entitled to recover reasonable counsel fees.
In April 2000, we were granted a judgment for $215,000 in legal fees, which
payment was received in May 2000.

    From time to time we have been named in other claims arising in the ordinary
course of business. In the opinion of management, the ultimate disposition of
these matters will not have a material adverse effect on the Company's
consolidated financial position, results of operations or liquidity.

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

    The Company held a special meeting of stockholders on November 17, 2000 to
seek the approval of the stockholders to amend the Company's certificate of
incorporation to increase the number of authorized shares of Common Stock from
50,000,000 to 100,000,000. This increase in authorized shares was approved by
the vote indicated:

<TABLE>
<S>                     <C>
For:                    22,407,956
Against:                   485,574
Abstain:..                  40,244
</TABLE>

                                       7
<PAGE>
                                    PART II

ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.

    Our Common Stock has been listed on the American Stock Exchange (the "Amex")
under the symbol "ONT" since June 30, 1999. From June 15, 1999 to June 30, 1999,
our Common Stock was quoted on the Over the Counter Bulletin Board ("OTCBB"),
operated by the National Association of Securities Dealers, but no material
trading occurred on that system. Prior to the merger on June 15, 1999 of The
Duck Corporation with and into a wholly owned subsidiary of Applied Capital
Funding, Inc. ("Applied Capital"), our predecessor, the common stock of Applied
Capital was quoted on the OTCBB, but only nominal trading occurred. During this
period, the common stock of The Duck Corporation was not traded on a public
exchange. The following table sets forth the high and low sales prices per share
for the Common Stock as reported to the Company by the Amex for the periods
indicated:

<TABLE>
<CAPTION>
                                                                HIGH       LOW
                                                              --------   --------
<S>                                                           <C>        <C>
FISCAL YEAR 2000
  First Quarter.............................................   $31.87     $13.00
  Second Quarter............................................   $14.88     $ 5.25
  Third Quarter.............................................   $ 6.75     $ 2.40
  Fourth Quarter............................................   $ 4.30     $ 0.33

FISCAL YEAR 1999
  June 15, 1999 to June 30, 1999............................   $ 6.38     $ 5.56
  Third Quarter.............................................   $15.00     $ 5.00
  Fourth Quarter............................................   $36.25     $10.63
</TABLE>

    There were approximately 235 stockholders of record of our common stock on
March 23, 2001. On March 23, 2001, the last reported closing price of our Common
Stock as reported by AMEX was $0.75.

    It is our present policy not to pay cash dividends and to retain future
earnings to support our growth. We do not anticipate paying any cash dividends
in the foreseeable future.

RECENT ISSUANCES OF UNREGISTERED SECURITIES

    On April 4, 2000, we issued 136,339 shares of our Common Stock and 34,100
shares of Series B Preferred Stock in a private placement in exchange for
substantially all of the assets of DVD Mags, Inc. The issuance was exempt from
registration pursuant to Section 4(2) of the Securities Act of 1933.

    On June 8, 2000, we issued 1,644,304 shares of Series C Preferred Stock and
warrants to purchase 411,076 shares of our Common Stock in a private placement
of securities with The Travelers Indemnity Company in exchange for
$10.0 million. The issuance was exempt from registration pursuant to
Section 4(2) of the Securities Act of 1933. The Series C Preferred Stock is
convertible into shares of our Common Stock on a one-for-one basis, subject to
certain anti-dilution adjustments. Half of the warrants have an exercise price
of $8.69 per share and the other half have an exercise price of $10.86 per
share, subject to certain anti-dilution adjustments. However, under the Deferred
Pricing Agreement, dated as of January 19, 2001, the Company shall, upon the
earlier of a change of control or December 31, 2001, (a) cancel the Series C
Preferred Stock and in its place issue 1,849,057 shares of Series C-IV Preferred
Stock (with terms substantially similar to the terms of the Series C-II
Preferred Stock), subject to anti-dilution provisions, and 4,099,678 shares of
Series C-V Preferred Stock (with terms substantially similar to the terms of the
Series C-III Preferred Stock), subject to anti-dilution provisions, and
(b) cancel the 411,076 warrants and in their place issue 462,264 warrants with
an exercise price of $2.65, subject to certain anti-dilution adjustments, and
1,024,920 warrants with an exercise price of $1.14, subject to certain
anti-dilution adjustments.

                                       8
<PAGE>
    On September 29, 2000, we issued 924,527 shares of our Series C-II Preferred
Stock and warrants to purchase 396,037 shares of our Common Stock in a private
placement of securities to three purchasers in exchange for $2.45 million. The
issuance was exempt from registration pursuant to Section 4(2) of the Securities
Act of 1933. The Series C-II Preferred Stock is convertible into shares of our
Common Stock on a one-for-one basis, subject to certain anti-dilution
adjustments. The warrants have an exercise price of $2.65, subject to certain
anti-dilution adjustments.

    On November 3, 2000, we issued 748,638 shares of our Common Stock and stock
options to acquire 897,642 shares of Common Stock in a private placement in
exchange for all of the outstanding common stock of Eight Cylinder
Studios, Inc. The issuance was exempt from registration pursuant to
Section 4(2) of the Securities Act of 1933.

    On December 8, we issued 2,049,839 shares of our Series C-III Preferred
Stock and warrants to purchase 635,450 shares of Common Stock in a private
placement of securities to two purchasers in exchange for $2.55 million. The
issuance was exempt from registration pursuant to Section 4(2) of the Securities
Act of 1933. The Series C-III Preferred Stock is convertible into shares of our
Common Stock on a one-for-one basis, subject to certain anti-dilution
adjustments. The warrants have an exercise price of $1.14, subject to certain
anti-dilution adjustments.

ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS.

    The following discussion and analysis of the Company's financial condition
and results of operations should be read in conjunction with the consolidated
financial statements, including the notes thereto, appearing elsewhere in this
report.

OVERVIEW

    The Company is a leading technology firm for video compression. We have
developed a proprietary technology platform and video compression/decompression
software technology ("codecs") to deliver high quality video at the lowest
possible data rates via the Internet and over closed area networks. We offer a
suite of products and services, including high-level video encoding, encoding
workstations, hosting, streaming, interface design, customized technical
support, and consulting services. In addition, we license our high quality video
codecs for use in closed area networks such as set-top boxes, electronic gaming
devices and wireless applications.

    Founded in 1992 as The Duck Corporation, the Company originally developed
and marketed codecs that enabled developers of computer video games, video games
for dedicated video game consoles and multi-media presentations on computers to
convert an analog video signal to a digital video signal, and to compress the
signal for storage and playback on the required device. The Company also
developed its own video streaming technology, enabling delivery of high quality
video signals over high bandwidth networks, and technology allowing for
real-time capture, compression and storage of digital video signals.

    In June of 1999, The Duck Corporation was merged with and into a wholly
owned subsidiary of Applied Capital Funding, Inc., a public company whose name
was later changed to On2.com Inc. Through the first quarter of 2000, the Company
devoted substantially all of its efforts to building a proprietary content
network and developing the technology to operate a broadband content site. In
June of 2000, the Company made a strategic decision to de-emphasize the
development of its content site and redirected its strategic operating focus
toward providing its proprietary broadband technology solutions to customers
requiring television quality video signals for distribution over the broadband
Internet or to consumer electronic devices.

    In December 2000, the Company completed certain cost savings initiatives
that included a reduction in workforce, the closing of certain offices in San
Francisco and Los Angeles and the sale of certain content-related, non-strategic
assets associated with acquisitions made in connection with the development of a
broadband content site. The Company's strategic focus is to provide the highest
level

                                       9
<PAGE>
of broadband technology services and products to customers for delivery of DVD
quality video over the Internet and to consumer electronic devices. The Company
believes that, subsequent to its restructuring and cost savings initiatives, its
has sufficient personnel to continue its research and development efforts as
well as to create products and perform services that encompass its proprietary
broadband technologies.

    In view of the rapidly evolving nature of its business and its limited
operating history, the Company has limited experience forecasting its revenues
and operating costs. Therefore, the Company believes that period-to-period
comparisons of financial results are not necessarily meaningful and should not
be relied upon as an indication of future performance. To date, the Company has
incurred substantial costs to create technology products and services. As of
December 31, 2000, the Company had an accumulated deficit of $78.0 million. The
Company will continue to incur costs to develop, introduce and enhance products
and services, build brand awareness and grow the business. The Company may also
incur significant additional costs related to technology, marketing or
acquisitions of businesses and technologies to respond to changes in this
rapidly developing industry. These costs may not correspond with any meaningful
increases in revenues in the near term, if at all. As such, these costs may
result in negative operating cash flows until such time as the Company generates
sufficient revenue to offset such costs.

RESULTS OF OPERATIONS

    REVENUES.  Revenues for the year ended December 31, 2000 were $1,003,566 as
compared to $178,112 for the year ended December 31, 1999. Revenues for the year
ended December 31, 2000 were derived primarily from encoding, streaming and
hosting services, engineering services and the licensing of DVD assets acquired
in connection with the acquisition of Quickband. Through the first quarter of
2000, the Company devoted substantially all its efforts to building the On2.com
network and developing the technology to operate a broadband content site.
Commencing with the second quarter of 2000, the Company made a strategic
decision to de-emphasize the development of its content site and re-directed its
strategic operating focus toward providing its proprietary broadband technology
solutions to customers requiring television quality video signals for
distribution over the broadband Internet or to consumer electronic devices.

    Historically, substantially all of the Company's revenue was derived from a
few large technology licensing agreements whereby the Company received
non-refundable advances against future royalties based on sales by the licensee,
or an outright license of certain elements of the Company's technology. The
majority of the Company's future revenue will be derived from broadband Internet
video encoding, streaming and hosting services, engineering and consulting
services and licensing its technology to video content owners and manufacturers
of consumer electronic devices who want to use the Company's technology to
distribute television quality video images to broadband Internet users and users
of consumer electronic devices.

    OPERATING EXPENSES

    The Company's operating expenses consist of research and development, sales
and marketing, general and administrative expenses, restructuring charges and
non-cash stock based compensation. Comparability between periods is
significantly affected by the rapid growth and development of the Company since
becoming publicly traded in June of 1999.

    RESEARCH AND DEVELOPMENT.  Research and development expenses consist
primarily of salaries and related expenses for personnel and consulting fees
associated with the development and enhancement of the Company's proprietary
broadband technology and products. Research and development expenses for the
year ended December 31, 2000 were $11,758,024 as compared to $4,713,209 for the
year ended December 31, 1999. The period-to-period increase in absolute dollars
is primarily attributable to an increase in internal personnel and consulting
fees associated with developing and enhancing the new

                                       10
<PAGE>
technology and products. A portion of research and development expenses to date
has been focused on the development of technology to deliver television quality
video signals to broadband Internet users. Additionally, the Company has
incurred expenses developing products that encompass its proprietary technology
for sale or license to third parties. Research and development expenses for the
year ended December 31, 2000 also included costs associated with the development
of a broadband content website and costs associated with producing, acquiring,
processing and distributing content for it. As a result of a strategic decision
to focus on providing services and products that include its proprietary
broadband technology solutions, the Company does not expect to incur such costs
in future periods. Additionally, the Company did not incur content development
and distribution costs for the year ended December 31, 1999. The Company
believes that continued investments in research and development are necessary to
maintain its competitive advantage and meet its strategic objectives. However,
as a result of the cost saving initiatives completed in December 2000, the
Company expects research and development costs to decrease in absolute dollars
in the near future periods.

    SALES AND MARKETING.  Sales and marketing expenses consist primarily of
salaries and related costs of sales, business development and marketing
personnel, tradeshow expenses, advertising costs, marketing and promotional
costs incurred to create brand awareness and public relations expenses. Sales
and marketing expenses for the year ended December 31, 2000 were $7,073,894 as
compared to $1,956,491 for the year ended December 31, 1999. The
period-to-period increase is primarily attributable to increased staffing to
sell and market the Company's technology products and services, increased
tradeshow costs, and advertising and marketing costs incurred to create brand
awareness for the Company's broadband technology solutions. The Company incurred
significant advertising costs in the first quarter of 2000 associated with the
creation of its broadband content site. As a result of a strategic decision to
focus on providing services and products that include its proprietary broadband
technology solutions, the Company does not expect to incur such costs in the
near future periods. The Company intends to continue to recruit and hire
experienced personnel, as necessary, to sell and market its products and
services.

    GENERAL AND ADMINISTRATIVE.  General and administrative expenses consist
primarily of salaries and related personnel costs for general corporate
functions including finance, human resources, legal and facilities, outside
legal and professional fees, amortization of goodwill and other intangible
assets and general operating overhead. General and administrative costs for the
year ended December 31, 2000 were $10,926,264 as compared to $3,816,073 for the
year ended December 31, 1999. The period-to-period increase is attributable to
increased salaries and related costs to build our basic infrastructure,
increased legal and accounting fees, increased amortization of goodwill and
other intangibles related to acquisitions, and increased costs associated with
operating a public company, such as investor relations costs and directors and
officers insurance. In addition, general and administrative expenses for the
year ended December 31, 2000 included severance costs associated with the
reduction in workforce resulting from the Company's cost savings initiatives.
The Company anticipates that general and administrative costs will decrease in
the near future periods as a result of its restructuring initiatives.

    RESTRUCTURING CHARGES.  In December 2000, in connection with certain cost
saving and corporate restructuring initiatives, the Company's Board of Directors
approved a plan that included the sale of certain content-related, non-strategic
assets that would no longer be used in the operations of the Company, closing
the Company's offices in San Francisco and Los Angeles, and a reduction in the
Company's workforce.

    As a result of these initiatives, the Company recorded a non-cash
restructuring charge of $2,968,665 for the year ended December 31, 2000. The
non-cash restructuring charge was comprised of the following: (1) $2,539,134
related to the write-off of goodwill and certain intangible assets associated
with the Company's acquisitions of content-related entities that are being
disposed of (2) $235,759 related to the write-off certain fixed assets,
consisting primarily of furniture and fixtures and leasehold

                                       11
<PAGE>
improvements, associated with the closing of the Company's offices in San
Francisco and Los Angeles and (3) $193,772 related to the write-off of certain
office security deposits and prepaid assets from which the Company would not
derive any future benefit.

    In addition to the charges recognized in 2000, the Company anticipates
recording non-cash charges in the first quarter of 2001 related to the
termination of the employment agreement described in part (b) of note 3 to the
consolidated financial statements and the termination of a lease for space the
Company rented in San Francisco. These obligations were satisfied through the
issuance of Common Stock in the first quarter of 2001. As such, the Company
could not quantify these charges as of December 31, 2000.

    NON-CASH STOCK BASED COMPENSATION.  Non-cash stock based compensation was
$12,324,781 for the year ended December 31, 2000. There were no similar charges
for the year ended December 31, 1999. Non-cash stock based compensation is
primarily the result of cashless exercises of stock options granted to employees
under the Company's 1999 Amended and Restated Incentive and Nonqualified Stock
Option Plan ("1999 Plan"). As the 1999 Plan was self-administered between
January 2000 and May 2000, generally accepted accounting principles required the
Company to recognize the full fair market value of all shares exercised under
the cashless provision during that period. The Company has now contracted a
third party to administer all stock option exercises. Thus, the Company does not
anticipate non-cash charges from cashless exercises in future periods. The
non-cash stock based charge related to these cashless exercises for the year
ended December 31, 2000 was $10,257,883. The Company also recorded a non-cash
stock based charge of $1,300,000 in connection with the issuance of a warrant to
a business partner who agreed to sponsor the Company's website and $766,898 in
connection with the acceleration of certain options granted to employees that
were terminated in 2000.

    INTEREST AND OTHER INCOME, NET.  Interest and other income, net primarily
consists of interest income earned on the Company's cash and cash equivalents
and interest expense incurred from the Company's capital lease obligations and a
note payable to a stockholder. Interest and other income, net for year ended
December 31, 2000 was $506,693 as compared to $243,052 for the year ended
December 31, 1999. The period-to-period increase is primarily attributable to an
increase in the average balance of our cash and cash equivalents during 2000 as
compared to 1999, offset by interest expenses related to our capital lease
obligations and interest paid on a note payable to a stockholder.

    INCOME TAXES.  Income taxes are based solely on state and local taxes on
business and investment capital. Income taxes for the year ended December 31,
2000 were $102,089 as compared to $22,933 for the year ended December 31, 1999.
The period-to-period increase is attributable to an increase in the Company's
investment capital.

    At December 31, 2000, the Company had approximately 80 full-time employees.
The Company expects to hire employees as necessary in order to attain its
strategic objectives.

LIQUIDITY AND CAPITAL RESOURCES

    At December 31, 2000, the Company had cash and cash equivalents of
$1,561,495 as compared to $15,083,419 at December 31, 1999.

    Net cash used in operating activities was $24,417,074 and $9,257,076 for the
years ended December 31, 2000 and 1999, respectively. The increase in net cash
used in operating activities is primarily attributable to an increase in the
Company's net operating losses, excluding depreciation and amortization,
non-cash stock based charges and restructuring charges and a decrease in
accounts payable and accrued expenses offset by a decrease in other assets.

    Net cash used in investing activities was $4,085,065 and $1,674,290 for the
years ended December 31, 2000 and 1999, respectively. The period-to-period
increase is primarily attributable to an increase in the purchases of property
and equipment and net cash paid for acquisitions.

                                       12
<PAGE>
    Net cash provided by financing activities was $14,983,922 and $24,787,338
for the years ended December 31, 2000 and 1999, respectively. The
period-to-period difference is primarily attributable to amounts received from
private issuances of convertible preferred stock and Common Stock and an
increase in the principal payments of notes to stockholders offset by proceeds
received from the exercise of options and warrants to purchase shares of Common
Stock.

    The Company currently has no material commitments other than those under our
capital and operating lease arrangements.

    The market for distribution of broadband technology services is highly
competitive and may require significant capital expenditures. The Company's
capital requirements depend on numerous factors, including market acceptance of
its technology and services, research and development costs and the resources it
spends on marketing and selling its technology and services. Additionally, the
Company continues to evaluate investments in complementary businesses, products
and services, some of which may be significant. The Company has experienced
increases in its capital expenditures, consistent with the growth of its
business, and significant operating losses and negative operating cash flows to
date.

    The Company will require additional funding during the next 12 months to
finance the growth of its current operations and fulfillment of its strategic
objectives. Additionally, the Company may require more financing to fund
acquisitions, develop new technologies or acquire strategic assets.

    In December 2000, the Company entered into a common stock purchase agreement
("Stock Purchase Agreement") with an accredited investor ("Investor"), for the
sale, from time to time, of the Company's Common Stock. Pursuant to the Stock
Purchase Agreement, the Investor has committed to purchase up to $23,000,000 of
Common Stock over a 36 month period. The Investor may be required to invest an
additional $17,000,000 upon the attainment of certain trading volumes and
weighted average market prices in the Company's Common Stock. However, the
Company's ability to procure funds through the Stock Purchase Agreement may also
be limited or prohibited based on certain trading volumes and weighted average
market prices in the Company's Common Stock.

    The Company has received a report from its independent accountants
containing an explanatory paragraph stating that the Company's recurring
operating losses raise doubt about the Company's ability to continue as a going
concern. Management is actively pursuing increases to cash flows and additional
sources of financing and believes that such increases and additional financing
will generate sufficient cash flow to fund the Company's operations through
fiscal year 2001. Management's plan to increase the Company's cash flows from
operations relies significantly on increases in revenue generated from its
broadband technology services, products and licenses and decreases in operating
expenses. However, there are no assurances that such matters will be
successfully consummated. See "Management's Discussion and Analysis--Risk
Factors That May Affect Future Operating Results."

EFFECTS OF INFLATION

    Due to the relatively low levels of inflation in recent years, inflation has
not had a significant effect on the Company's results of operations.

IMPACT OF RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

    In December 1999, the SEC issued Staff Accounting Bulletin No. 101 ("SAB
101"), "REVENUE RECOGNITION IN FINANCIAL STATEMENTS." SAB 101 provides guidance
on the recognition, presentation, and disclosure of revenue in financial
statements filed with the SEC. The Company has adopted the provisions of SAB
101. The adoption of this pronouncement has not had a material impact on the
Company's operating results or its financial position.

    In March 2000, the Financial Accounting Standards Board ("FASB") issued
Interpretation No. 44 ("FIN 44"), "ACCOUNTING FOR CERTAIN TRANSACTIONS INVOLVING
STOCK COMPENSATION, AN INTERPRETATION OF APB NO. 25." FIN 44 provides guidance
on certain aspects of applying APB No. 25. FIN 44 is effective

                                       13
<PAGE>
July 1, 2000, but is also effective for certain events that have occurred after
December 15, 1998. The Company has adopted the provisions of FIN 44 in its
consolidated financial statements (see note 7 to the consolidated financial
statements).

    In March 2000, the Emerging Issues Task Force of the FASB reached a
consensus on Issue No. 00-2, "ACCOUNTING FOR WEB SITE DEVELOPMENT COSTS" ("Issue
No. 00-2") which provides guidance on when to capitalize versus expense costs
incurred to develop a web site. The consensus is effective for web site
development costs in quarters beginning after June 30, 2000. Issue No.00-2 has
not had a material impact on the Company's consolidated financial statements.

LIMITATION ON USE OF NET OPERATING LOSS AND OTHER TAX CREDIT CARRY-FORWARDS

    At December 31, 2000, the Company had available net operating loss
carry-forwards of approximately $52.0 million for federal income tax purposes.
The net operating loss carry-forwards expire at various dates through 2020.

    Section 382 of the Internal Revenue Code provides that when a corporation
undergoes an "ownership change," the corporation's use of its net operating
losses is limited in each subsequent year. An "ownership change" occurs when, as
of any testing date, the sum of the increases in ownership of each shareholder
that owns five percent or more of the value of a company's stock as compared to
that shareholder's lowest percentage ownership during the preceding three-year
period exceeds fifty percentage points. For purposes of this rule, certain
shareholders who own less than five percent of a company's stock are aggregated
and treated as a single five-percent stockholder.

    The merger of The Duck Corporation with and into a wholly owned subsidiary
of Applied Capital Funding, Inc. may have involved an "ownership change" and
thus we may be unable to use a material portion of our available federal net
operating loss carry-forwards. Furthermore, in the ordinary course of the
Company's future business operations, it could become necessary to issue shares
in conjunction with acquisitions or additional financing, in order to meet the
Company's growth objectives and liquidity constraints. In addition, the exercise
of outstanding warrants and certain options to purchase shares of Common Stock
may require us to issue additional shares of Common Stock. The issuance of a
significant number of shares of Common Stock could result in an "ownership
change." If we were to experience such an "ownership change," we might not be
able to use a substantial amount of our available federal net operating loss
carry-forwards to reduce future taxable income.

    The extent of the actual future use of our federal net operating loss
carry-forwards is subject to inherent uncertainty because it depends on the
amount of otherwise taxable income we may earn. We cannot give any assurance
that we will have sufficient taxable income in future years to use any of our
federal net operating loss carry-forwards before they would otherwise expire.

RISK FACTORS THAT MAY AFFECT FUTURE OPERATING RESULTS

    In evaluating our business, prospective investors and shareholders should
carefully consider the following risks in addition to the other information in
this 10-KSB or in the documents referred to in this 10-KSB. Any of the following
risks could have a material adverse impact on our business, operating results
and financial condition and result in a complete loss of your investment.

WE NEED ADDITIONAL CASH TO OPERATE OUR BUSINESS AND OUR VIABILITY AS A GOING
CONCERN IS UNCERTAIN.

    Since our inception, we have incurred significant losses and negative cash
flow from operations, and as of December 31, 2000, we had an accumulated deficit
of approximately $78.0 million. Based on our present operating expenses, taking
into account available cash reserves, we will not be able to continue as a going
concern beyond the near future without an increase in cash flow from operations
and/or the infusion of addition capital to fund operations. During fiscal 2001,
we expect to meet our working capital obligations and other cash requirements
with cash derived from operations, from sales of our common stock under the
equity line of credit arrangement with Crossover Ventures, Inc., and

                                       14
<PAGE>
other financing as required. There can be no assurance however that we will be
able to continue as a going concern, that cash from operations and the other
sources described above will be achieved or will be sufficient for the Company's
operating needs or that the Company will be able to achieve profitability on a
consistent basis, if at all. In the event that cash flow from operations is less
than anticipated and we are unable to secure additional funding, in order to
preserve cash, we would be required to further reduce expenditures and effect
further reductions in our corporate infrastructure, either of which could have a
material adverse effect on our ability to continue our operations. Even if we
obtain additional working capital in the near future, to the extent that
operating expenses increase or we need additional funds to make acquisitions,
develop new technologies or acquire strategic assets, the need for additional
funding may be accelerated and there can be no assurances that any such
additional funding can be obtained on terms acceptable to us, if at all.

WE HAVE A HISTORY OF LOSSES AND NEGATIVE CASH FLOW AND ANTICIPATE CONTINUED
LOSSES.

    We have not achieved profitability, and we expect to continue to incur
operating losses for the foreseeable future as we fund operating and capital
expenditures in implementing our business plan. Our business model assumes that
consumers will be attracted to and use broadband-specific video compression
technology to access content available on customer Web sites that will, in turn,
allow us to provide our technology solutions to customers. Our business model is
not yet proven, and we cannot assure you that we will ever achieve or sustain
profitability or that our operating losses will not increase in the future. Our
business strategy may be unsuccessful and we may not be able to adequately
address all or any of these risks. Even if we are able to achieve profitability,
we may be unable to sustain or increase our profitability. In either case, our
business, financial conditions and results of operations will be materially and
adversely affected.

SINCE WE RECENTLY CHANGED OUR STRATEGIC OPERATING MODEL, WE ARE ESSENTIALLY A
NEW COMPANY AND ACCORDINGLY ARE SUBJECT TO THE RISKS ASSOCIATED WITH A NEW
COMPANY.

    Even though our business was founded in 1992, we have only recently
implemented our new business plan. As a result, our company is essentially a new
venture. Therefore, we do not have a significant operating history upon which
you can evaluate us and our prospects, and you should not rely upon our past
performance to predict our future performance. In transitioning to our new
business model, we are substantially changing our business operations, sales and
implementation practices, customer service and support operations and management
focus. We also face new risks and challenges, including a lack of meaningful
historical financial data upon which to plan future budgets, competition from a
new range of sources, the need to develop strategic relationships and other
risks described below. We cannot guarantee that we will be able to transition
successfully to our new business model.

    Our ability to generate profits, if any, will depend on our ability:

    - to attract customers to use our technology infrastructure and support
      services;

    - to generate revenues from software licensing and sales, broadband
      streaming services and consulting to developers of broadband content; and

    - to control costs.

WE ANTICIPATE CONTINUED SIGNIFICANT OPERATING LOSSES FOR THE FORESEEABLE FUTURE,
AND WE CANNOT ASSURE YOU THAT PROFITABILITY WILL EVER BE ATTAINED.

    In light of the rapidly evolving nature of our business and its limited
operating history, we have little experience forecasting our revenues and
believe that period-to-period comparisons of financial results are not
necessarily meaningful. Therefore, you should not rely on period-to-period
comparisons of our historical financial results as an indication of our future
financial results. Moreover, our financial results may vary from period to
period due to the uncertainties of our business.

                                       15
<PAGE>
OUR STOCK PRICE IS VOLATILE.

    The market for our common stock has experienced extreme price and volume
fluctuations and may continue to be volatile in response to various factors,
including:

    - quarterly variations in our operating results;

    - competitive announcements;

    - the operating and stock price performance of other companies that
      investors may deem comparable to us;

    - news relating to trends in our markets; and

    - changes in financial estimates by securities analysts or failure to meet
      analyst estimates.

    In addition, the stock market generally has experienced significant price
and volume fluctuations, and the market prices of companies in our industry have
been highly volatile. Due to the volatility of the stock market generally, the
price of our common stock could fluctuate for reasons beyond our control.

THE SALE OF SHARES ELIGIBLE FOR FUTURE SALE IN THE OPEN MARKET COULD DEPRESS OUR
STOCK PRICE.

    Sales of significant amounts of common stock in the public market in the
future, the perception that sales will occur or the registration of shares could
materially and adversely affect the market price of our common stock or our
future ability to raise capital through an offering of our equity securities. As
of March 23, 2001, there were outstanding approximately 15,222,154 shares of our
common stock that are freely tradable. As of March 23, 2001, we issued
approximately 29,668,309 shares of common stock, warrants to purchase up to
approximately 8,677,000 shares of our common stock upon exercise, 5,052,770
shares of preferred stock that are convertible under certain circumstances into
our common stock and debentures in a principal amount of $1,375,000 that are
convertible into 3,055,556 shares of our common stock, in private transactions
since June of 1999. We have granted the holders of those securities registration
rights. Therefore, these shares of common stock, warrants, preferred stock and
debentures can be sold in accordance with Rule 144 of the Securities Act or the
holders thereof can exercise their registration rights related thereto. In
addition, as of March 23, 2001, there were outstanding options to purchase
approximately 7,023,500 shares of common stock that become eligible for sale in
the public market from time to time depending on vesting. There are also
5,459,000 shares of common stock which are issuable under the common stock
purchase agreement and under the warrants previously granted and which may be
granted in the future to Crossover Ventures, Inc. ("Crossover Ventures"). We may
also issue additional shares in acquisitions and may grant additional stock
options to our employees, officers, directors and consultants under our stock
option plans.

    The issuance or even the potential issuance of shares under the common stock
purchase agreement, in connection with any other additional financing, and upon
exercise of warrants, options or rights will have a dilutive impact on other
stockholders and could have a negative effect on the market price of our common
stock. In addition, the shares issuable to Crossover Ventures under the common
stock purchase agreement will be issued at a discount to the daily volume
weighted average prices of our common stock prior to the issuance to Crossover
Ventures. This will further dilute the interests of other stockholders.
Moreover, on January 19, 2001, we entered into a Deferred Pricing Agreement with
The Travelers Indemnity Company ("Travelers"), pursuant to which, upon the
earlier of (i) a change of control or (ii) December 31, 2001, we will
(A) cancel Travelers' existing 1,644,304 shares of Series C Preferred Stock and
in its place issue 1,849,057 shares of Series C-IV Preferred Stock and 4,099,678
shares of Series C-V Preferred Stock, and (B) cancel Travelers' existing
warrants to purchase 205,538 shares of common stock at an exercise price of
$8.69 per share and warrants to purchase 205,538 shares of common stock at an
exercise price of $10.86 per share, and in their place issue warrants to
purchase 462,264 shares of common stock with an exercise price of $2.65 and
warrants to purchase 1,024,920 shares of common stock with an exercise price of
$1.14.

                                       16
<PAGE>
    As we sell shares of common stock to Crossover Ventures under the common
stock purchase agreement, and then Crossover Ventures sells the common stock to
third parties, our common stock price may decrease due to the additional shares
in the market. If we decide to draw down under the common stock purchase
agreement as the price of our common stock decreases, we will be required to
issue more shares of our common stock for any given dollar amount invested by
Crossover Ventures, subject to the minimum selling price we specify. The more
shares that are issued under the common stock purchase agreement, the more our
shares will be diluted and the more our stock price may decrease. This may
encourage short sales, which could place further downward pressure on the price
of our common stock.

WE DEPEND ON THE GROWTH OF BROADBAND INTERNET USAGE.

    Our technology works primarily over "broadband" Internet connections. The
main services we are building require high-bandwidth access to the Internet and
delivery of data volumes that are higher than most service providers are
presently delivering. While we are striving to overcome the technical and
business hurdles inherent in establishing a network of this nature, there can be
no assurance we will be successful in obtaining the bandwidth required to
provide our services, or obtain it at economical cost.

    Broadband web usage may be inhibited for a number of reasons, such as:

    - inadequate network infrastructure;

    - security concerns;

    - inconsistent quality of service; and

    - availability of cost-effective, high-speed service.

    Our business would be adversely affected if broadband web usage does not
continue to grow.

OUR SUCCESS DEPENDS ON OUR ABILITY TO CONTINUE TO ATTRACT, RETAIN AND MOTIVATE
HIGHLY SKILLED EMPLOYEES.

    Our ability to execute our growth plan and be successful depends on our
continuing ability to attract, retain and motivate highly skilled employees. As
we continue to grow, we will need to hire additional personnel in all
operational areas. Competition for personnel throughout the Internet industry is
intense. We may be unable to retain our key employees or attract, assimilate or
retain other highly qualified employees in the future. We have from time to time
in the past experienced, and we expect to continue to experience in the future,
difficulty in hiring and retaining highly skilled employees with appropriate
qualifications. If we do not succeed in attracting new personnel or retaining
and motivating our current personnel, our business will be adversely affected.

MUCH OF OUR TECHNOLOGY RELIES ON OWNED OR LICENSED INTELLECTUAL PROPERTY, AND WE
CANNOT BE SURE THAT SUCH RIGHTS ARE PROTECTED FROM THE USE OF OTHERS, INCLUDING
POTENTIAL COMPETITORS.

    We regard much of our technology as proprietary and try to protect it by
relying on trademarks, copyrights, patents, trade secret laws and
confidentiality agreements. In connection with our license agreements with third
parties, we seek to control access to and distribution of our technology,
documentation and other proprietary information. Even with all of these
precautions, it could be possible for someone else to either copy or otherwise
obtain and use our proprietary information without our authorization or to
develop similar technology independently. Effective trademark, copyright and
trade secret protection may not be available in every country in which our
services are made available through the Internet, and policing unauthorized use
of our proprietary information is difficult and expensive. We cannot be sure
that the steps we have taken will prevent misappropriation of our proprietary
information. Any misappropriation could have a material adverse effect on our
business. In the future, we may need to go to court to either enforce our
intellectual property rights, to protect our trade secrets or to determine the
validity and scope of the proprietary rights of others. That litigation might
result in substantial costs and diversion of resources and management attention.

                                       17
<PAGE>
    We currently license from third parties technologies incorporated into some
of our products and services. As we continue to introduce new services that
incorporate new technologies, we may be required to license additional
technology from others. We cannot be sure that these third-party technology
licenses will continue to be available on commercially reasonable terms, if at
all.

OUR INDUSTRY IS HIGHLY COMPETITIVE.

    The Internet industry is highly competitive and affected by rapid change. We
believe that the principal competitive factors in our business include
technological innovation, pricing, customer service, network quality, service
offerings and the flexibility to adapt to changing market conditions. In
establishing our broadband strategy, we face a number of strong, firmly
entrenched competitors who are currently providing similar services to
low-bandwidth users and high-bandwidth users. These and other companies have
announced plans to provide broadband video-based services and technology. In
addition to competition from other Internet content and technology companies,
well-established media distribution companies, particularly in the cable
television and satellite markets, have established, and continue to seek to
establish, interactive, on-demand digital services through the development of
sophisticated digital set-top technology and related back-end server systems.
Many of our existing competitors have, and some future competitors may have,
significantly greater financial and technical resources than we have.

WE MUST KEEP PACE WITH TECHNOLOGICAL CHANGE TO REMAIN COMPETITIVE.

    Our future success depends, in large part, on our ability to use leading
technologies effectively, to develop our technological expertise, to enhance our
existing services and to develop new services that meet changing customer needs
on a timely and cost-effective basis. We are unable to predict which
technological development will challenge our competitive position or the amount
of expenditures that will be required to respond to a rapidly changing
technological environment. Our failure to respond in a timely and effective
manner to new and evolving technologies could have a negative impact on our
operating results and financial condition.

INTERNET CAPACITY CONSTRAINTS MAY IMPAIR THE ABILITY OF CONSUMERS TO ACCESS OUR
WEB SITE OR OUR CUSTOMER'S WEB SITES, WHICH COULD HINDER OUR ABILITY TO GENERATE
REVENUE.

    Our success will depend, in large part, upon a robust communications
industry and infrastructure for providing Internet access and carrying Internet
traffic. The Internet may ultimately not prove to be a viable commercial medium
because of:

    - inadequate development of the necessary infrastructure such as a reliable
      network backbone;

    - failure to timely develop complementary products such as high speed modems
      that will enable broadband access for individuals;

    - delays in the development or adoption of new standards and protocols
      required to handle increased levels of Internet activity; or

    - increased government regulation.

    If the Internet continues to experience significant growth in the number of
users and the level of use, then the Internet infrastructure may not be able to
continue to support the demands placed on it.

WE FACE UNCERTAINTIES REGARDING GOVERNMENTAL REGULATION AND LEGAL UNCERTAINTIES.

    We are not currently subject to direct regulation by any governmental agency
other than rules and regulations that apply to businesses generally, except that
certain U.S. export controls and import controls of other countries, including
controls on the use of encryption technologies, which may apply to our products.
Laws and regulations specifically pertaining to the Internet are new and
developing. These laws or regulations govern matters such as online content,
intellectual property, user privacy, e-commerce, information security and
taxation. In addition, the applicability of existing laws to the

                                       18
<PAGE>
Internet is uncertain and evolving. As a result of this uncertainty, it is
difficult to predict the impact, if any, that future regulation or changes in
regulation may have on our operations.

    Moreover, we may be liable to third parties for any content that we encode,
distribute or make available on our website if that content violates a third
party's intellectual property rights or violates any applicable laws, such as
obscenity laws or defamation laws. Although we try to mitigate this risk by
seeking indemnification from our customers and suppliers, we may still be
subject to liability if indemnification is not obtained, is contested or does
not provide us with enough resources to cover any potential liability.

EFFECTS OF ANTI-TAKEOVER PROVISIONS COULD INHIBIT POTENTIAL INVESTORS.

    Some of the provisions of our certificate of incorporation, our bylaws and
Delaware law could, together or separately:

    - discourage potential acquisition proposals;

    - delay or prevent a change in control; and

    - limit the price that investors might be willing to pay in the future for
      shares of our common stock.

    In particular, our board of directors is authorized to issue up to
20,000,000 shares of preferred stock (less any outstanding shares of preferred
stock) with rights and privileges that might be senior to our common stock,
without the consent of the holders of the common stock.

WE HAVE NEVER PAID DIVIDENDS.

    We currently intend to retain earnings, if any, to support our growth
strategy. We do not anticipate paying dividends on our stock in the foreseeable
future.

ITEM 6A. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK

    COLLECTION RISK.  The Company's accounts receivables are subject, in the
normal course of business, to collection risks. Although the Company regularly
assesses these risks and has policies and business practices to mitigate the
adverse effects of collection risks, significant losses may result due to the
non-payment of receivables by its customers.

    INTEREST RATE RISK.  The Company's return on its investments in cash and
cash equivalents is subject to interest rate risks. The Company regularly
assesses these risks and has established policies and business practices to
manage the market risk of its cash and cash equivalents.

    FOREIGN CURRENCY RISK.  The Company transacts business in the United
Kingdom. Accordingly, the Company may be subject to exposure from the adverse
movements in foreign currency exchange rates. The effect of foreign currency
exchange rate fluctuations has not been material to date. The Company does not
use derivative financial instruments to limit its foreign currency risk
exposure.

ITEM 7. FINANCIAL STATEMENTS.

    The consolidated financial statements and related financial statement
schedule are included herein and filed as a part of this report. See Index on
page F-1.

ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
  FINANCIAL DISCLOSURE.

    None.

                                       19
<PAGE>
                                    PART III

ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE
        WITH SECTION 16(A) OF THE EXCHANGE ACT.

    The information required is incorporated by reference from the sections
entitled "Directors and Executive Officers", "The Board of Directors" and
"Compliance with Section 16(a) of the Exchange Act" contained in the Proxy
Statement for the Annual Meeting of Stockholders to be held on May 22, 2001 (the
"Proxy Statement"), which is to be filed with the Securities and Exchange
Commission.

ITEM 10. EXECUTIVE COMPENSATION.

    The information required is incorporated by reference from the section
entitled "Executive Compensation" contained in the Proxy Statement, which is to
be filed with the Securities and Exchange Commission.

ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.

    The information required is incorporated by reference from the sections
entitled "Security Ownership of Principal Stockholders" and "Security Ownership
of Executive Officers and Directors" contained in the Proxy Statement, which is
to be filed with the Securities and Exchange Commission.

ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

    The information required is incorporated by reference from the section
entitled "Certain Relationships and Related Transactions" contained in the Proxy
Statement, which is to be filed with the Securities and Exchange Commission.

ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K.

    (a) The following exhibits are to be filed as part of this report:

<TABLE>
<CAPTION>
EXHIBIT NO.                              IDENTIFICATION OF EXHIBIT
-----------                              -------------------------
<S>                     <C>
 3.1                    Certificate of Incorporation of the Company

 3.2*                   Bylaws of the Company

 4.1**                  Securityholders Agreement, dated as of December 1, 1999,
                        between the Company and thirteen securityholders party
                        thereto

 4.2**                  Form of Investor Rights Agreement, dated as of December 1,
                        1999, between the Company and each of nine investors

 4.3**                  Form of Warrant issued to the investors party to the
                        Investor Rights Agreement

 4.4                    Form of Investors' Rights Agreement between the Company and
                        the holders of Series C Preferred Stock, Series C-II
                        Preferred Stock and Series C-III Preferred Stock

 4.5                    Certificate of Designations for the Company's Series C
                        Preferred Stock, filed as part of Exhibit 3.1 hereto

 4.6                    Certificate of Designations for the Company's Series C-II
                        Preferred Stock, filed as part of Exhibit 3.1 hereto

 4.7                    Certificate of Designations for the Company's Series C-III
                        Preferred Stock, filed as part of Exhibit 3.1 hereto

 4.8                    Form of Warrant issued to the holders of Series C Preferred
                        Stock, Series C-II Preferred Stock and Series C-III
                        Preferred Stock

10.1***                 Employment Agreement with Douglas McIntyre

10.2***                 Employment Agreement with Mark Meagher
</TABLE>

                                       20
<PAGE>

<TABLE>
<CAPTION>
EXHIBIT NO.                              IDENTIFICATION OF EXHIBIT
-----------                              -------------------------
<S>                     <C>
10.3****                Common Stock Purchase Agreement, dated as of December 1,
                        2000, between the Company and Crossover Ventures, Inc.

10.4                    Deferred Pricing Agreement, dated as of January 19, 2001,
                        between the Company and The Travelers Indemnity Company

21                      Subsidiaries
</TABLE>

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

*   Filed as an exhibit to the Company's definitive proxy statement on
    Schedule 14A for the fiscal year 1999 annual shareholder meeting and
    incorporated by reference herein.

**  Filed as an exhibit to the Company's Annual Report on Form 10-KSB for the
    fiscal year ended December 31, 1999 and incorporated by reference herein.

*** Filed as an exhibit to the Company's Current Report on Form 10-QSB for the
    period ended June 30, 2000 and incorporated by reference herein.

****Filed as an exhibit to the Company Registration on Form S-3 (Registration
    Number 333-51558), filed with the SEC on December 8, 2000 and incorporated
    by reference herein.

    (b) The following Current Report on Form 8-K was filed during the three
       months ended December 31, 2000:

        Item 2: Acquisition of Eight Cylinder Studios, Inc., filed on
    November 20, 2000.

                                       21
<PAGE>
                                   SIGNATURES

    Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, the Company has duly caused this report to be
signed on its behalf by the undersigned, thereby duly authorized on March 30,
2001.

<TABLE>
<S>                                                    <C>  <C>
                                                       ON2.COM INC.

                                                       By:  /s/ DOUGLAS A. MCINTYRE
                                                            -----------------------------------------
                                                            Douglas A. McIntyre
                                                            PRESIDENT AND CHIEF EXECUTIVE OFFICER
</TABLE>

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

<TABLE>
<CAPTION>
                      SIGNATURE                                   TITLE                    DATE
                      ---------                                   -----                    ----
<C>                                                    <S>                          <C>
               /s/ DOUGLAS A. MCINTYRE
     -------------------------------------------       President, Chief Executive     March 30, 2001
                 Douglas A. McIntyre                     Officer and Director

                /s/ DANIEL B. MILLER
     -------------------------------------------       Founder, Chief Technology      March 30, 2001
                  Daniel B. Miller                       Officer and Director

                 /s/ MARK J. MEAGHER                   Executive Vice President
     -------------------------------------------         and Chief Financial          March 30, 2001
                   Mark J. Meagher                       Officer

                /s/ STEPHEN D. KLEIN
     -------------------------------------------       Director                       March 30, 2001
                  Stephen D. Klein

                /s/ WILLIAM A. NEWMAN
     -------------------------------------------       Director                       March 30, 2001
                  William A. Newman

                 /s/ JACK L. RIVKIN
     -------------------------------------------       Director                       March 30, 2001
                   Jack L. Rivkin

                 /s/ STRAUSS ZELNICK
     -------------------------------------------       Director and Non-Executive     March 30, 2001
                   Strauss Zelnick                       Chairman of the Board
</TABLE>

                                       22
<PAGE>
                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

<TABLE>
<CAPTION>
                                                                PAGE
                                                              --------
<S>                                                           <C>
Report of Independent Public Accountants....................    F-2

Consolidated Balance Sheets as of December 31, 2000 and
  1999......................................................    F-3

Consolidated Statements of Operations for the years ended
  December 31, 2000 and 1999................................    F-4

Consolidated Statements of Stockholders' Equity for the
  years ended December 31, 2000 and 1999....................    F-5

Consolidated Statements of Cash Flows for the years ended
  December 31, 2000 and 1999................................    F-6

Notes to Consolidated Financial Statements..................    F-8

Report of Independent Accountants...........................    S-1

Schedule II--Valuation and Qualifying Accounts..............    S-2
</TABLE>

                                      F-1
<PAGE>
                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

    To On2.com Inc.:

    We have audited the accompanying consolidated balance sheets of
On2.com Inc. and subsidiaries as of December 31, 2000 and 1999 and the related
consolidated statements of operations, stockholders' equity and cash flows for
the years then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.

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

    In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of On2.com Inc. and its
subsidiaries as of December 31, 2000 and 1999 and the results of their
operations and their cash flows for the years then ended in conformity with
accounting principles generally accepted in the United States.

    The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 1 to the
consolidated financial statements, the Company has suffered recurring losses
from operations that raise substantial doubt about its ability to continue as a
going concern. Management's plans in regard to this matter are also described in
Note 1. The financial statements do not include any adjustments that might
result from the outcome of this uncertainty.

                                              /s/ Arthur Andersen LLP

New York, New York
February 20, 2001

                                      F-2
<PAGE>
                                  ON2.COM INC.

                          CONSOLIDATED BALANCE SHEETS

<TABLE>
<CAPTION>
                                                                    DECEMBER 31,
                                                              -------------------------
                                                                 2000          1999
                                                              -----------   -----------
<S>                                                           <C>           <C>
                           ASSETS

Current assets:
  Cash and cash equivalents.................................  $ 1,561,495   $15,083,419
  Accounts receivable, less allowance for doubtful accounts
    of $25,000 and $-0- as of December 31, 2000 and 1999,
    respectively............................................      392,943       136,766
  Prepaid and other current assets..........................      566,540       753,919
                                                              -----------   -----------
    Total current assets....................................    2,520,978    15,974,104
Property and equipment, net.................................    2,522,188     1,322,690
Goodwill and other intangible assets, net...................    5,747,842     4,617,058
Other assets................................................      419,049       518,020
                                                              -----------   -----------
    Total assets............................................  $11,210,057   $22,431,872
                                                              ===========   ===========

            LIABILITIES AND STOCKHOLDERS' EQUITY

Current liabilities:
  Accounts payable and accrued expenses.....................  $ 1,509,401   $ 1,412,650
  Accrued compensation......................................      769,221         6,657
  Deferred revenue..........................................       72,604            --
  Notes payable.............................................      251,311            --
  Notes payable to stockholders.............................           --       649,624
  Capital lease obligations.................................       26,100            --
                                                              -----------   -----------
    Total current liabilities...............................    2,628,637     2,068,931

Commitments and contingencies...............................

Stockholders' equity:
  Preferred stock, $0.01 par value; 20,000,000 shares
    authorized; 5,052,770 and 2,000,000 shares issued and
    outstanding at December 31, 2000 and 1999,
    respectively............................................       50,528        20,000
  Common stock, $0.01 par value; 100,000,000 shares
    authorized; 27,684,171 and 24,286,596 shares issued and
    outstanding at December 31, 2000 and 1999,
    respectively............................................      276,842       242,866
  Additional paid-in capital................................   86,293,786    35,457,250
  Deferred compensation.....................................      (47,410)           --
  Accumulated other comprehensive loss......................       (3,966)         (259)
  Accumulated deficit.......................................  (77,988,360)  (15,356,916)
                                                              -----------   -----------
    Total stockholders' equity..............................    8,581,420    20,362,941
                                                              -----------   -----------
    Total liabilities and stockholders' equity..............  $11,210,057   $22,431,872
                                                              ===========   ===========
</TABLE>

          SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                                      F-3
<PAGE>
                                  ON2.COM INC.

                     CONSOLIDATED STATEMENTS OF OPERATIONS

<TABLE>
<CAPTION>
                                                                YEAR ENDED DECEMBER 31,
                                                              ---------------------------
                                                                  2000           1999
                                                              ------------   ------------
<S>                                                           <C>            <C>
Revenues....................................................  $  1,003,566   $    178,112

Operating expenses:
  Research and development..................................    11,758,024      4,713,209
  Sales and marketing.......................................     7,073,894      1,956,491
  General and administrative................................    10,926,264      3,816,073
  Restructuring charge......................................     2,968,665             --
  Non-cash stock based compensation.........................    12,324,781             --
                                                              ------------   ------------

Total operating expenses....................................    45,051,628     10,485,773
                                                              ------------   ------------

Loss from operations........................................   (44,048,062)   (10,307,661)

Interest and other income, net..............................       506,693        243,052
                                                              ------------   ------------

Loss before provision for income taxes......................   (43,541,369)   (10,064,609)

Provision for income taxes..................................       102,089         22,933
                                                              ------------   ------------

Net loss....................................................   (43,643,458)   (10,087,542)

Non-cash convertible preferred stock dividend...............    18,987,986             --
                                                              ------------   ------------

Net loss attributable to common stockholders................  $(62,631,444)  $(10,087,542)
                                                              ============   ============

Basic and diluted net loss per common share.................  $      (2.40)  $      (0.51)
                                                              ============   ============

Weighted average basic and diluted common shares
  outstanding...............................................    26,067,668     19,609,647
                                                              ============   ============
</TABLE>

          SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                                      F-4
<PAGE>
                                  ON2.COM INC.
                CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
                                             CONVERTIBLE
                                           PREFERRED STOCK          COMMON STOCK        ADDITIONAL
                                        ---------------------   ---------------------     PAID-IN       DEFERRED
                                          SHARES      AMOUNT      SHARES      AMOUNT      CAPITAL     COMPENSATION
                                        ----------   --------   ----------   --------   -----------   -------------
<S>                                     <C>          <C>        <C>          <C>        <C>           <C>
Balance at December 31, 1998..........          --   $    --    15,302,374   $153,023   $ 7,017,990     $     --
Net loss..............................
Foreign currency translation
  adjustment..........................
Comprehensive loss....................
Purchase and retirement of common
  stock...............................                            (302,374)    (3,024)     (336,976)
Reverse merger with the Duck
  Corporation.........................                           8,000,000     80,000       (45,880)
Issuance of Series A convertible
  preferred stock and warrants, net of
  expenses............................   2,000,000    20,000                             14,594,113
Issuance of common stock and warrants
  in connection with private
  placement...........................                             799,825      7,998    10,160,451
Issuance of common stock in connection
  with the exercise of stock
  options.............................                              20,750        208        46,480
Issuance of common stock in connection
  with the exercise of warrants.......                             114,263      1,143        (1,143)
Issuance of common stock in connection
  with acquisitions...................                             351,758      3,518     4,021,215
Issuance of warrant to purchase common
  stock...............................                                                        1,000
                                        ----------   -------    ----------   --------   -----------     --------
Balance at December 31, 1999..........   2,000,000    20,000    24,286,596    242,866    35,457,250           --
Net loss..............................
Foreign currency translation
  adjustment..........................
Comprehensive loss....................
Non-cash stock based compensation.....                             542,876      5,429    12,319,352
Issuance of common stock in connection
  with the exercise of stock
  options.............................                             369,722      3,697       490,746
Issuance of warrants to purchase
  common stock........................                                                      112,646     (112,646)
Amortization of deferred
  compensation........................                                                                    65,236
Conversion of Series A convertible
  preferred stock to common stock.....  (1,600,000)  (16,000)    1,600,000     16,000
Issuance of Series B convertible
  preferred stock in connection with
  an acquisition......................      34,100       341                                468,106
Issuance of common stock in connection
  with acquisitions...................                             884,977      8,850     3,538,062
Issuance of Series C convertible
  preferred stock and warrants, net of
  expenses............................   1,644,304    16,443                              9,974,382
Issuance of Series C-II convertible
  preferred stock and warrants, net of
  expenses............................     924,527     9,245                              2,440,755
Issuance of Series C-III convertible
  preferred stock and warrants, net of
  expenses............................   2,049,839    20,499                              2,529,501
Transaction costs paid in connection
  with equity credit line.............                                                      (25,000)
Non-cash convertible preferred stock
  dividends...........................                                                   18,987,986
                                        ----------   -------    ----------   --------   -----------     --------
Balance at December 31, 2000..........   5,052,770   $50,528    27,684,171   $276,842   $86,293,786     $(47,410)
                                        ==========   =======    ==========   ========   ===========     ========

<CAPTION>

                                            OTHER                           TOTAL
                                        COMPREHENSIVE    ACCUMULATED    STOCKHOLDERS'
                                             LOSS          DEFICIT         EQUITY
                                        --------------   ------------   -------------
<S>                                     <C>              <C>            <C>
Balance at December 31, 1998..........     $    --       $(5,235,254)    $ 1,935,759
Net loss..............................                                   (10,087,542)
Foreign currency translation
  adjustment..........................        (259)                             (259)
                                                                         -----------
Comprehensive loss....................                                   (10,087,801)
                                                                         -----------
Purchase and retirement of common
  stock...............................                                      (340,000)
Reverse merger with the Duck
  Corporation.........................                       (34,120)             --
Issuance of Series A convertible
  preferred stock and warrants, net of
  expenses............................                                    14,614,113
Issuance of common stock and warrants
  in connection with private
  placement...........................                                    10,168,449
Issuance of common stock in connection
  with the exercise of stock
  options.............................                                        46,688
Issuance of common stock in connection
  with the exercise of warrants.......                                            --
Issuance of common stock in connection
  with acquisitions...................                                     4,024,733
Issuance of warrant to purchase common
  stock...............................                                         1,000
                                           -------       ------------    -----------
Balance at December 31, 1999..........        (259)      (15,356,916)     20,362,941
Net loss..............................                   (43,643,458)    (43,643,458)
Foreign currency translation
  adjustment..........................      (3,707)                           (3,707)
                                                                         -----------
Comprehensive loss....................                                   (43,647,156)
                                                                         -----------
Non-cash stock based compensation.....                                    12,324,781
Issuance of common stock in connection
  with the exercise of stock
  options.............................                                       494,443
Issuance of warrants to purchase
  common stock........................                                            --
Amortization of deferred
  compensation........................                                        65,236
Conversion of Series A convertible
  preferred stock to common stock.....                                            --
Issuance of Series B convertible
  preferred stock in connection with
  an acquisition......................                                       468,447
Issuance of common stock in connection
  with acquisitions...................                                     3,546,912
Issuance of Series C convertible
  preferred stock and warrants, net of
  expenses............................                                     9,990,825
Issuance of Series C-II convertible
  preferred stock and warrants, net of
  expenses............................                                     2,450,000
Issuance of Series C-III convertible
  preferred stock and warrants, net of
  expenses............................                                     2,550,000
Transaction costs paid in connection
  with equity credit line.............                                       (25,000)
Non-cash convertible preferred stock
  dividends...........................                   (18,987,986)             --
                                           -------       ------------    -----------
Balance at December 31, 2000..........     $(3,966)      $(77,988,360)   $ 8,581,420
                                           =======       ============    ===========
</TABLE>

          SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                                      F-5
<PAGE>
                                  ON2.COM INC.

                     CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
                                                                YEAR ENDED DECEMBER 31,
                                                              ---------------------------
                                                                  2000           1999
                                                              ------------   ------------
<S>                                                           <C>            <C>
Cash flows from operating activities:
  Net loss..................................................  $(43,643,458)  $(10,087,542)
    Adjustments to reconcile net loss to net cash used in
      operating activities:
      Non-cash stock based charges..........................    12,324,781             --
      Restructuring charges.................................     2,968,665             --
      Depreciation and amortization.........................     3,588,905        609,714
      Deferred compensation.................................        65,236             --
      Reserve for bad debts.................................        25,000             --
      Loss on sale of assets................................        16,904             --
    Changes in operating assets and liabilities, net of
      effect of acquisitions:
      Accounts receivable, net..............................        (5,386)      (123,004)
      Prepaid and other current assets......................      (240,713)      (442,091)
      Other assets..........................................       (88,933)      (401,944)
      Accounts payable and accrued expenses.................       499,321      1,187,791
      Deferred revenue......................................        72,604             --
                                                              ------------   ------------
        Net cash used in operating activities...............   (24,417,074)    (9,257,076)
                                                              ============   ============
  Cash flows from investing activities:
    Purchases of property and equipment.....................    (2,392,271)    (1,233,575)
    Purchase of trademarks and patents......................            --        (50,000)
    Cash paid for acquisitions, net of cash acquired........    (1,692,794)      (390,715)
                                                              ------------   ------------
        Net cash used in investing activities...............    (4,085,065)    (1,674,290)
                                                              ------------   ------------
Cash flows from financing activities:
    Principal payments on capital lease obligations.........       (47,403)            --
    Principal payments on notes payable to stockholders.....      (355,000)       (42,912)
    Principal payments on notes payable.....................       (73,943)            --
    Financing costs.........................................       (25,000)            --
    Proceeds from the issuance of Series A Preferred Stock,
      net...................................................            --     14,614,113
    Proceeds from the sale of common stock, net.............            --     10,168,449
    Proceeds from the issuance of Series C Preferred Stock,
      net...................................................     9,990,825             --
    Proceeds from the issuance of Series C-II Preferred
      Stock, net............................................     2,450,000             --
    Proceeds from the issuance of Series C-III Preferred
      Stock, net............................................     2,550,000             --
    Proceeds from exercise of common stock options and
      warrants..............................................       494,443         47,688
                                                              ------------   ------------
      Net cash provided by financing activities.............    14,983,922     24,787,338
                                                              ------------   ------------
Net change in cash and cash equivalents.....................   (13,518,217)    13,855,972
Effect of exchange rate changes on cash and cash
  equivalents...............................................        (3,707)          (259)
Cash and cash equivalents, beginning of period..............    15,083,419      1,227,706
                                                              ------------   ------------
Cash and cash equivalents, end of period....................  $  1,561,495   $ 15,083,419
                                                              ============   ============
</TABLE>

          See accompanying notes to consolidated financial statements

                                      F-6
<PAGE>
                                  ON2.COM INC.

               CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)

SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION AND NON-CASH TRANSACTIONS:

<TABLE>
<CAPTION>
                                                              YEAR ENDED DECEMBER 31,
                                                              -----------------------
                                                                 2000         1999
                                                              ----------   ----------
<S>                                                           <C>          <C>
Cash paid during the period for:
  Interest..................................................  $   32,395   $      754
                                                              ==========   ==========
  Taxes.....................................................  $   82,027   $   22,441
                                                              ==========   ==========
Non-cash transactions:
  Acquisition of fixed assets under capital leases..........  $   72,750   $       --
                                                              ==========   ==========
  Issuance of Series B Preferred Stock in connection with
    acquisitions............................................  $  468,447   $       --
                                                              ==========   ==========
  Issuance of common stock in connection with
    acquisitions............................................  $3,546,912   $4,024,743
                                                              ==========   ==========
  Issuance of notes payable in connection with
    acquisitions............................................  $       --   $  350,000
                                                              ==========   ==========
</TABLE>

    On June 9, 1999, the Company entered into a Separation and Release Agreement
("Release Agreement") with an officer and shareholder. In connection with the
Release Agreement, the Company repurchased 302,374 shares of the its Common
Stock from the officer and shareholder at a price of $1.12 per share through the
issuance of a note payable to the shareholder. Under the terms of the Release
Agreement, on January 15, 2000, the Company offset the remaining balance of the
note payable, which amounted to $299,624, against certain notes and advances
receivable from the shareholder, which amounted of $294,624. The Company paid
the difference of $5,000 in cash to the former officer.

          See accompanying notes to consolidated financial statements.

                                      F-7
<PAGE>
                                  ON2.COM INC.

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

                           DECEMBER 31, 2000 AND 1999

(1) ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

    (A) ORGANIZATION AND DESCRIPTION OF THE BUSINESS

    On June 15, 1999, Applied Capital Acquisition Corp., a Delaware corporation
and a wholly owned subsidiary of Applied Capital Funding, Inc., merged with and
into The Duck Corporation ("Duck") (collectively, the "Merger"). Applied Capital
Funding, Inc. changed its name to On2.com Inc. ("On2" or the "Company")
concurrently with the Merger. In connection with the Merger, the Company issued
15,000,000 shares of its Common Stock to the shareholders of Duck in exchange
for 100% of the issued and outstanding common stock of Duck. Subsequent to the
Merger, the former Duck stockholders owned approximately 65% of the Company's
issued and outstanding Common Stock. The Merger has been accounted for as a
reverse merger in which Duck is the accounting acquirer. The historical records
of Duck became the historical records of the Company. Following the Merger, the
business conducted by the Company is the business conducted by Duck prior to the
Merger.

    Prior to the Merger, the Company was a non-operating "shell" corporation.
Pursuant to SEC rules, the merger of a private operating company (Duck) into a
non-operating public shell corporation with nominal net assets (On2) is
considered a capital transaction and has the consequences referred to in the
following paragraph. The accounting is identical to that of a reverse merger but
there are no material assets, liabilities or operations included with those of
Duck as of June 15, 1999.

    Historical operations of the Company include only those operations of Duck.
Historical stockholders' equity and loss per share prior to the Merger have been
retroactively restated for the equivalent number of shares received in the
Merger after giving effect to the difference in par value of Duck's common stock
($.001 par value) and the Company's Common Stock (no par value) at the time of
the Merger. Duck common stock outstanding prior to the Merger has been converted
to an equivalent number of shares of the Company's Common Stock that were issued
to Duck stockholders as a consequence of the Merger. Common stock acquired by
Duck prior to the Merger from an officer and stockholder, pursuant to a
Separation and Release Agreement (see note 4), was converted to equivalent
shares of the Company's Common Stock at December 31, 1998.

    On May 17, 2000, the Company effected an Amended and Restated Agreement and
Plan of Merger between On2.com Inc., a Colorado corporation, and On2.com Inc., a
Delaware corporation, that effectively reincorporated the Company in Delaware
(the "Reincorporation"). The Reincorporation did not materially affect the
Company's Certificate of Incorporation, the Bylaws, officers, directors or the
stock based compensation plans in effect immediately prior to the
Reincorporation. Each issued and outstanding share of the Company's Common
Stock, no par value, was exchanged for an equivalent share of Common Stock,
$0.01 par value. Each issued and outstanding share of Preferred Stock, no par
value (as defined in note 6), was exchanged for an equivalent share of Preferred
Stock, $0.01 par value. The Reincorporation does not affect the rights or
privileges of the Preferred Stockholders. No other property, shares, other
securities or considerations were issued in connection with the Reincorporation.

    The Company has developed proprietary video compression and streaming
technology that combines the classic elements of television with the
interactivity of the Internet or consumer electronic devices for delivery to
broadband end users. The Company's business model is to provide broadband
Internet video encoding, streaming and hosting services, broadband consulting
and engineering services and to license its proprietary broadband technology
solutions to owners of video content and consumer electronic devices who want to
distribute television quality video images to broadband end users.

                                      F-8
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(1) ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
    The Company's business is characterized by rapid technological change, new
product development and evolving industry standards. Inherent in the Company's
business model are various risks and uncertainties, including its limited
operating history, unproven business model and the limited history of broadband
technology services on the Internet. The Company's success may depend, in part,
upon the emergence of the Internet as a communications medium, prospective
product and service development efforts, and the acceptance of the Company's
broadband technology solutions by the marketplace.

    The Company's consolidated financial statements have been prepared assuming
that it will continue as a going concern. The Company has incurred recurring
operating losses and negative operating cash flows since its inception and will
require additional financing within the next 12 months. In addition, the Company
will need to increase cash flows from operations and/or obtain financing from
its equity line of credit (see note 10) or other sources in order to fund its
working capital requirements for fiscal year 2001. These factors raise doubt
about the Company's ability to continue as a going concern. Management is
actively pursuing increases to cash flows and additional sources of financing
and believes that such increases and additional financing will generate
sufficient cash flow to fund the Company's operations through fiscal year 2001.
Management's plan to increase the Company's cash flows from operations relies
significantly on increases in revenue generated from its broadband technology
services, products and licenses and decreases in operating expenses. However,
there are no assurances that such matters will be successfully consummated. See
"Management's Discussion and Analysis--Risk Factors That May Affect Future
Operating Results."

    (B) PRINCIPLES OF CONSOLIDATION

    The consolidated financial statements include the accounts of the Company
and its wholly owned-subsidiaries from their respective dates of acquisition.
All intercompany accounts and transactions have been eliminated in
consolidation.

    (C) CASH AND CASH EQUIVALENTS

    The Company considers all highly liquid investments with original maturities
of three months or less when purchased to be cash equivalents. There were no
cash equivalents at December 31, 2000. Cash equivalents at December 31, 1999
were $3.9 million and consisted primarily of certificates of deposit.

    (D) PROPERTY AND EQUIPMENT

    Property and equipment is stated at cost, net of accumulated depreciation
and amortization. Property and equipment is depreciated using the straight-line
method over the estimated useful lives of the related assets, generally three to
five years for equipment and software and five to seven years for furniture and
fixtures. Leasehold improvements are amortized using the straight-line method
over the shorter of the lease term or the estimated useful life of the asset.
Equipment under capital leases is stated at the present value of the minimum
lease payments and is amortized using the straight-line method over the
estimated useful life of the asset.

                                      F-9
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(1) ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
    (E) GOODWILL AND OTHER INTANGIBLE ASSETS

    Goodwill and other intangible assets relates primarily to the Company's
acquisitions accounted for under the purchase method of accounting or the
purchase of intangible assets. Under the purchase method of accounting, the
excess of the purchase price over the identifiable net tangible assets of the
acquired entity is recorded as identified intangible assets and goodwill.
Goodwill and other intangible assets is stated at cost, net of accumulated
amortization, and is being amortized using the straight-line method over the
expected period of benefit (3 to 4 years). As of December 31, 2000, accumulated
amortization was $1,232,943.

    (F) IMPAIRMENT OF LONG-LIVED ASSETS

    The Company evaluates the recoverability of its long-lived assets in
accordance with SFAS No. 121, "ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED
ASSETS AND FOR LONG-LIVED ASSETS TO BE DISPOSED OF" ("SFAS No. 121"). The
Company assesses the impairment of long-lived assets when events or changes in
circumstances indicate that the carrying value of an asset may not be
recoverable. SFAS No. 121 requires recognition of impairment of long-lived
assets in the event the net book value of such assets exceeds the future
undiscounted cash flows attributable to such assets. The Company has accounted
for the impairment of certain long-lived assets through its restructuring charge
(see note 7).

    (G) FAIR VALUE OF FINANCIAL INSTRUMENTS

    The fair value of cash and cash equivalents, accounts receivable and notes
payable approximate book value based on the short term maturities of these
financial instruments. The fair value of the Company's capital lease obligation
approximates book value based upon the implicit interest rate of the lease.

    (H) INCOME TAXES

    The Company accounts for income taxes using the asset and liability method.
Under this method, deferred tax assets and liabilities are recognized for the
future tax consequences attributable to differences between the consolidated
financial statement carrying amounts of existing assets and liabilities and
their respective tax bases for operating loss and tax credit carryforwards.
Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in the
consolidated results of operations in the period that the tax change occurs.
Valuation allowances are established, when necessary, to reduce deferred tax
assets to the amount expected to be realized.

    (I) REVENUE RECOGNITION

    The Company generates revenue primarily from (1) broadband technology
services and (2) licensing and selling broadband technology applications.

                                      F-10
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(1) ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
BROADBAND TECHNOLOGY SERVICES

    Encoding Services consist of services that convert video and audio content
into formats for delivery over the Internet. Encoding services are generally
provided under per unit or time and materials contracts. Under these contracts,
the Company recognizes revenue when services have been rendered and the Company
has no further interest or obligation in the goods and services, which is
generally the date on which the goods or services have been delivered to the
customer.

    Consulting and Engineering Services consist of services provided by the
Company that enable customers to utilize streaming media within intranets,
websites, Internet applications and consumer electronic devices. Consulting and
engineering services are generally provided under short-term contacts that are
primarily fixed price milestone-based or time and materials based. Under
milestone-based contracts with customer acceptance clauses, revenues are
recognized under the outputs method, with the outputs measured by completion and
acceptance of the milestones by the customer. Revenues under time and materials
based contracts are recognized when services have been rendered and no further
obligations exist. The Company records deferred revenue for arrangements in
which cash has been received prior to providing services or the achievement of
designated milestones.

    Creative Services consist of creating digital solutions for customers
utilizing streaming media. Revenues from creative services are recognized using
the percentage-of-completion method for fixed price contracts and as time is
incurred for time and materials contracts, provided that collection of the
receivable is reasonably assured. Receivables representing time and costs
incurred on projects in excess of the amounts billed are recorded as
work-in-process in the accompanying balance sheets. Amounts billed in excess of
costs incurred are recognized as deferred revenue in the accompanying balance
sheets. To the extent costs incurred and anticipated costs to complete a project
are in excess of anticipated billings, a loss is recognized in the period such
determination is made.

    Hosting Services consist of fees associated with hosting and streaming
content for customers. Hosting services are generally provided under guaranteed
minimum contracts, whereby the customer pays minimum fees on a recurring monthly
basis, or per unit contracts in which the customer pays monthly fees based on
bandwidth usage and content hosted.

BROADBAND TECHNOLOGY APPLICATIONS

    Broadband Technology Applications revenues are generated from licensing and
selling the Company's proprietary compression and streaming technologies. The
Company's revenue recognition policies are in accordance with SOP 97-2,
"SOFTWARE REVENUE RECOGNITION" ("SOP 97-2"), as amended by SOP 98-9, "SOFTWARE
REVENUE RECOGNITION". Under SOP 97-2, in general, license revenues are
recognized when a non-cancelable license agreement has been signed and the
customer acknowledges an unconditional obligation to pay, the products or
applications have been delivered, there are no uncertainties surrounding
customer acceptance, the fees are fixed and determinable, and collection is
considered probable. Revenues recognized from multiple-element software
arrangements are allocated to each element of the arrangement based on the fair
values of the elements, such as products, upgrades, enhancements, post-contract
customer support, or training. The determination of the fair value is based on
the objective evidence available to the Company. If such evidence of the fair
value of each element of the arrangement does not exist, all revenue from the
arrangement is deferred until

                                      F-11
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(1) ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
such time that evidence of the fair value does exist or until all elements of
the arrangement are delivered.

    The Company has adopted the provisions of Staff Accounting Bulletin
No. 101, "REVENUE RECOGNITION." The adoption of this pronouncement did not have
a material impact on the Company's operating results or its financial position.

    (J) SOFTWARE DEVELOPMENT

    The Company recognizes costs associated with new software or product
development and/or significant enhancements to current software or products in
accordance with SFAS No. 86, "SOFTWARE DEVELOPMENT COSTS" ("SFAS 86"). Under
SFAS 86, these costs are expensed until technological feasibility has been
established, at which time any additional costs are capitalized. The Company
essentially has completed its software development concurrently with
technological feasibility and, accordingly, has not capitalized any software
development costs to date.

    Software developed for internal use is recognized in accordance with SOP
98-1, "ACCOUNTING FOR THE COST OF COMPUTER SOFTWARE DEVELOPED OR OBTAINED FOR
INTERNAL USE" ("SOP 98-1"). SOP 98-1 requires all costs related to the
development of internal use software other than those incurred during the
application development stage to be expensed as incurred. Its also provides
guidance on the capitalization of costs incurred during the application
development stage for computer software developed or obtained for internal use.
SOP 98-1 has not had a material impact on the Company's operating results.

    (K) STOCK-BASED COMPENSATION

    The Company follows the provisions of SFAS No. 123, "ACCOUNTING FOR
STOCK-BASED COMPENSATION" ("SFAS 123"), which permits entities to recognize as
expense over the vesting period the fair value of all stock-based awards on the
date of grant. Alternatively, SFAS 123 allows entities to continue to apply the
provisions of APB Opinion No. 25 ("APB 25") and provide pro forma net earnings
disclosures for employee stock option grants as if the fair-value-based method
defined in SFAS 123 had been applied. The Company has elected to continue to
apply the provisions of APB Opinion 25 and provide the pro forma disclosure
provisions of SFAS 123.

    (L) NET LOSS PER COMMON SHARE

    The Company computes net loss per common share in accordance with Statement
of Financial Accounting Standard No. 128, "COMPUTATION OF EARNINGS PER SHARE,"
("SFAS 128"). In accordance with SFAS 128, basic earnings per share is computed
using the weighted average number of common shares outstanding during the
period. Common equivalent shares consist of the incremental common shares
issuable upon the conversion of the Convertible Preferred Stock (using the
if-converted method) and shares issuable upon the exercise of stock options and
warrants (using the Treasury Stock method); common equivalent shares are
excluded from the calculation if their effect is anti-dilutive.

    Diluted loss per share has not been presented separately, as the convertible
preferred stock and the outstanding stock options and warrants are anti-dilutive
for each of the periods presented.

                                      F-12
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(1) ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
    (M) USE OF ESTIMATES

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

    (N) CONCENTRATION OF CREDIT RISK

    Financial instruments which subject the Company to concentrations of credit
risk consist primarily of cash and cash equivalents and trade accounts
receivable. The Company invests its cash and cash equivalents primarily in money
market funds and certificates of deposits. The Company performs periodic
evaluations of these investments and the relative credit standings of the
institutions with which it invests. At certain times, the Company's cash
balances with any one financial institution may exceed Federal Deposit Insurance
Corporation insurance limits.

    The Company's customers are primarily concentrated in the United States. The
Company performs ongoing credit evaluations of its customers' financial
condition and establishes an allowance for doubtful accounts based upon factors
surrounding the credit risk of customers, historical trends and other
information; to date, such losses have been within management's expectations.

    (O) SEGMENT REPORTING

    The Company adopted the provisions of SFAS No. 131, "DISCLOSURES ABOUT
SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION" ("SFAS 131"). SFAS 131
establishes annual and interim reporting standards for operating segments of a
company. SFAS 131 requires disclosures of selected segment-related financial
information about products, major customers and geographic areas. The Company is
organized in a single operating segment for purposes of making operating
decisions and assessing performance. The chief operating decision maker
evaluates performance, makes operating decisions and allocates resources based
on financial data consistent with the presentation in the accompanying
consolidated financial statements.

    The Company's revenues have been earned primarily from customers in the
United States. In addition, all significant operations and assets are based in
the United States.

                                      F-13
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(1) ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

    (P) RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

    In December 1999, the SEC issued Staff Accounting Bulletin No. 101 ("SAB
101"), "REVENUE RECOGNITION IN FINANCIAL STATEMENTS." SAB 101 provides guidance
on the recognition, presentation, and disclosure of revenue in financial
statements filed with the SEC. The Company has adopted the provisions of SAB
101. The adoption of this pronouncement has not had a material impact on the
Company's operating results or its financial position.

    In March 2000, the Financial Accounting Standards Board ("FASB") issued
Interpretation No. 44 ("FIN 44"), "ACCOUNTING FOR CERTAIN TRANSACTIONS INVOLVING
STOCK COMPENSATION, AN INTERPRETATION OF APB NO. 25." FIN 44 provides guidance
on certain aspects of applying APB No. 25. FIN 44 is effective July 1, 2000, but
is also effective for certain events that have occurred after December 15, 1998.
The Company has adopted the principles of FIN 44 in its consolidated financial
statements (see note 8).

    In March 2000, the Emerging Issues Task Force of the FASB reached a
consensus on Issue No. 00-2, "ACCOUNTING FOR WEB SITE DEVELOPMENT COSTS" ("Issue
No. 00-2") which provides guidance on when to capitalize versus expense costs
incurred to develop a web site. The consensus is effective for web site
development costs in quarters beginning after June 30, 2000. Issue No.00-2 did
not have a material impact on the Company's consolidated financial statements.

    (Q) RECLASSIFICATIONS

    Certain reclassifications have been made to prior year's consolidated
financial statements to conform to current year's presentation.

(2) PROPERTY AND EQUIPMENT

<TABLE>
<CAPTION>
                                                              DECEMBER 31, 2000   DECEMBER 31, 1999
                                                              -----------------   -----------------
<S>                                                           <C>                 <C>
Furniture and fixtures......................................     $  277,997          $   86,102
Computer equipment..........................................      2,775,296           1,488,344
Leasehold improvements......................................        527,348             167,205
Licensed software...........................................        851,570             418,736
                                                                 ----------          ----------
                                                                  4,432,211           2,160,387
Less accumulated depreciation and amortization..............      1,910,023             837,697
                                                                 ----------          ----------
  Total.....................................................     $2,522,188          $1,322,690
                                                                 ==========          ==========
</TABLE>

    As of December 31, 2000, property and equipment included assets under
capital leases of $90,721 with related accumulated depreciation of $33,289.
There were no assets under capital leases as of December 31, 1999.

(3) ACQUISITIONS

    (A) METAVISUAL CREATIONS LIMITED

    On September 27, 1999, the Company acquired MetaVisual Creations Limited
("MetaVisual"), a foreign private issuer organized and incorporated under the
Small Companies Act of the United

                                      F-14
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(3) ACQUISITIONS (CONTINUED)
Kingdom, for a purchase price of $2,518,572. The purchase price consisted of
$400,000 cash, a $350,000 promissory note and 169,444 shares of the Company's
common stock valued at $1,768,572. The purpose of the acquisition was to obtain
video signal compression/decompression technology developed by MetaVisual's
majority shareholder and only employee. The Company is using the core technology
acquired as part of its software architecture platform for distribution of video
signals over the World Wide Web.

    Prior to the acquisition, MetaVisual generated limited revenue from
development contracts and licensing an earlier version of the technology.

    MetaVisual had no corporate facilities, distribution systems or sales force.
The Company did not acquire any customer base or trade names as part of the
acquisition. The historical results of operations, cash flows and financial
condition of MetaVisual were not material to the Company's and have no
relationship to the Company's future use of the technology.

    The purchase price was allocated to tangible assets and the identifiable
intangible asset, based on their fair values, as follows:

<TABLE>
<S>                                                           <C>
Purchase Price:.............................................  $2,518,572
                                                              ==========
Cash acquired...............................................  $    9,232
Fixed assets................................................       5,989
Accounts payable............................................      (5,936)
Intangible asset--software technology.......................   2,509,287
                                                              ----------
Total.......................................................  $2,518,572
                                                              ==========
</TABLE>

    The acquired software technology is being amortized under the straight-line
method over a period of 4 years, the expected period of benefit.

    (B) ASSET PURCHASE OF AUDIO MAGAZINES, INC.

    On November 11, 1999 the Company entered into a three-year employment
agreement with an executive to provide video interviews of celebrities for
distribution through the Company's broadband technology website. The purpose of
the transaction was to obtain the services of a well-known entertainment
syndication personality to build relationships in the entertainment community
and to create celebrity interview video programming for the Company's website.
The Company created Celebrity Interviews, Inc., a wholly owned subsidiary of the
Company, in order to record all operations related to the acquired assets of
Audio Magazines, Inc.

    The employment agreement provided for salary and benefits in exchange for
the exclusive rights to the executive's services during the term of the
agreement. In addition, the Company paid $250,000 in cash and issued 182,314
shares of its common stock, valued at $2,256,161. One third of the shares vested
immediately. The remainder is held in escrow and vests on each anniversary date
over the subsequent two years, unless either party terminates the employment
agreement. The Company also received title to video and audio tapes of celebrity
interviews acquired or produced by the executive prior to his employment by the
Company.

                                      F-15
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(3) ACQUISITIONS (CONTINUED)
    The purchase price was allocated to intangible assets and the employment
agreement, based on their fair values, as follows:

<TABLE>
<S>                                                           <C>
Purchase Price:.............................................  $2,506,161
                                                              ==========
Audio tapes acquired........................................  $  250,000
Intangible assets--employment agreement.....................   2,256,161
                                                              ----------
Total.......................................................  $2,506,161
                                                              ==========
</TABLE>

    The employment agreement and the audio tapes were being amortized under the
straight-line method over a three-year term, the expected period of benefit.

    The Company completed a restructuring of its operations in the fourth
quarter of 2000 that included the sale of the assets of Celebrity
Interviews, Inc. to the executive from whom they were originally purchased (see
note 7). As such, the Company recorded a non-cash charge of approximately
$1,531,461, which represented the difference between the aggregate net book
value of the of the audio tapes and the intangible assets and the fair value
received.

    (C) ASSET PURCHASE OF DVD MAGS, INC.

    On April 4, 2000, Quickband, Inc. ("Quickband"), a wholly owned subsidiary
of the Company, acquired substantially all of the assets of DVD Mags, Inc. ("DVD
Mags"), a California corporation in the business of aggregating and producing
short-form entertainment content for distribution across digital and traditional
channels (the "Quickband Acquisition"). The Quickband Acquisition was effected
pursuant to an Asset Purchase Agreement ("Purchase Agreement") dated as of
March 9, 2000 by and among the Company, Quickband and DVD Mags. The assets
acquired in connection with the Quickband Acquisition consisted primarily of a
short form entertainment content library and other physical property used in
connection with the production of the short-form entertainment content.

    The Company issued 136,339 shares of Common Stock, valued at $1,872,957, and
34,100 shares of Series B Convertible Preferred Stock (see note 6), valued at
$468,447, in connection with the Purchase Agreement. In addition to the issuance
of common and convertible preferred stock, the Company incurred $47,993 of
acquisitions costs.

    The Quickband Acquisition was accounted for under the purchase method of
accounting. The purchase price was allocated to tangible assets and the
identifiable intangible assets, based on their fair values, as follows:

<TABLE>
<S>                                                           <C>
Purchase Price:.............................................  $2,389,397
                                                              ==========
Accounts receivable.........................................  $  272,530
Fixed assets................................................     140,587
Other assets................................................     122,350
Assumed liabilities.........................................    (230,008)
Goodwill and library content................................   2,083,938
                                                              ----------
Total.......................................................  $2,389,397
                                                              ==========
</TABLE>

                                      F-16
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(3) ACQUISITIONS (CONTINUED)
    The historical carrying amounts of the net tangible assets acquired
approximated their fair market value on the date of acquisition. The goodwill
and library content was being amortized under the straight-line method over an
estimated useful life of three years, the expected period of benefit.

    As part of a restructuring plan approved by the Board of Director's in which
the Company would dispose of its non-strategic, content related assets, the
Company decided to sell the content acquired and created in connection with the
Quickband library. (see note 7). As part of the restructuring, the Company
recorded a non-cash charge of $1,007,673, which represented a write-down of the
Quickband library to fair market value and a write-off of the net book value of
the recorded goodwill.

    (D) EIGHT CYLINDER STUDIOS, INC.

    The Company agreed to acquire Eight Cylinder Studios, Inc. ("8CS"), a
California corporation pursuant to the terms of an Agreement and Plan of Merger,
dated as of July 13, 2000, as amended on September 29, 2000, October 26, 2000
and October 31, 2000 (as amended, the "8CS Merger Agreement"), by and among the
Company, 8C Acquisition Corp., a Delaware corporation and a wholly owned
subsidiary of the Company, 8CS and certain shareholders of 8CS whereby 8CS was
merged with and into 8C Acquisition Corp. The merger was completed on
November 3, 2000. 8CS is a California corporation that offers content
development and interface technologies solutions for the broadband Internet
market.

    Pursuant to the 8CS Merger Agreement, the Company issued approximately
598,428 shares of Common Stock. In addition, the Company issued approximately
150,210 shares of Common Stock in exchange for all outstanding shares of 8CS
preferred stock. The total Common Stock issued was valued at approximately
$1,673,955. Additionally, the Company incurred approximately $499,029 of
transaction costs.

    The merger will be accounted for under the purchase method of accounting.
The preliminary purchase price was allocated to tangible assets and the
identifiable intangible assets, based on their fair values, as follows:

<TABLE>
<S>                                                           <C>
Purchase Price:.............................................  $2,172,984
                                                              ==========
Cash........................................................  $   28,131
Fixed assets................................................     111,170
Other assets................................................      14,825
Assumed liabilities.........................................  (1,635,701)
Goodwill and other intangible assets........................   3,654,559
                                                              ----------
Total.......................................................  $2,172,984
                                                              ==========
</TABLE>

    The Company has preliminarily determined that the historical carrying
amounts of the net tangible assets acquired approximated their fair market value
on the date of acquisition. The goodwill and other intangible assets are being
amortized under the straight-line method over an estimated useful life of three
years, the expected period of benefit.

    The following unaudited pro forma consolidated financial information gives
effect to the 8CS merger and the Quickband Acquisition as if they had occurred
at the beginning of the earliest period

                                      F-17
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(3) ACQUISITIONS (CONTINUED)
presented by consolidating the results of operations of the Company, Quickband
and 8CS for the years ended December 31, 2000 and 1999.

<TABLE>
<CAPTION>
                                                   DECEMBER 31,   DECEMBER 31,
                                                       2000           1999
                                                   ------------   ------------
<S>                                                <C>            <C>
Revenue..........................................  $  1,018,139   $  1,038,695
Net loss attributable to common stockholders.....   (65,046,155)   (13,858,548)
Net loss per share--basic and diluted............  $      (2.47)  $      (0.68)
Weighted average--basic and diluted shares
  outstanding....................................    26,732,476     20,494,624
</TABLE>

(4) NOTES PAYABLE

    Pursuant to the acquisition of MetaVisual (see note 3), the Company issued
to the MetaVisual selling shareholders notes payable in the amount of $350,000
due September 27, 2000 and bearing interest at a rate of 8% per annum. The note
was paid in full in July 2000.

    In connection with the acquisition of 8CS, the Company assumed a note
payable in the amount of $325,254. Based upon terms of the note, the Company
paid $75,000 on December 15, 2000, at which time interest began to accrue at a
per diem rate of $66.04. Additionally, the Company is obligated to make a
payment of $65,000 on each of January 15, 2001, February 15, 2001 and March 15,
2001. Final payment of the note is due on or before April 15, 2001 and is to
include the remaining unpaid principal and any accrued and unpaid interest.

(5) INCOME TAXES

    The liability method is used in accounting for income taxes. Under this
method, deferred tax assets and liabilities are determined based on differences
between the financial reporting and tax bases of assets and liabilities and are
measured using the enacted tax rates and laws that will be in effect when the
differences are expected to reverse.

    For Federal income tax purposes, the Company has net operating loss
carryforwards of approximately $52,000,000 which expire at various dates through
2020.

    In accordance with SFAS 109 "ACCOUNTING FOR INCOME TAXES," the Company
recognized a deferred tax asset of $18,200,000, primarily resulting from the
above net operating loss carryforward. A full valuation allowance has been
recorded related to the deferred tax asset as a result of management's
uncertainty as to the realization of such asset. Accordingly, no provision for
federal income taxes has been recognized. There are no other significant
temporary differences. The tax provision of $102,089 for the year ended
December 31, 2000 relates primarily to various state and local taxes.

(6) STOCKHOLDERS' EQUITY

    (A) AUTHORIZED SHARES

    On November 17, 2000, the Company's shareholders agreed to increase the
Company's Common Stock authorized for issuance from 50,000,000 shares to
100,000,000 shares.

                                      F-18
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(6) STOCKHOLDERS' EQUITY (CONTINUED)
    (B) PREFERRED STOCK

    The Company has 20,000,000 shares of preferred stock authorized for issuance
and, as of December 31, 2000, five series of convertible preferred stock
(collectively "Preferred Stock") were issued and outstanding. Pursuant to its
Certificate of Incorporation, the Company may serially designate separate
classes of preferred stock up to the aggregate of its authorized limit. The
holders of the various series of Preferred Stock generally have similar rights
and privileges. Each class of the Preferred Stock is convertible into shares of
the Company's Common Stock based on a conversion rate and has rights and
preferences which are generally more senior to the Company's Common Stock and
are more fully described in the Company's Certificate of Incorporation.

SERIES A CONVERTIBLE PREFERRED STOCK

    Coincident with the Merger, the Company issued in a private offering
2,000,000 preferred stock purchase units (the "Units") pursuant to Rule 506
under the Securities Act of 1933, as amended, for $7.50 per unit. The Company
received proceeds, net of transaction costs, of $14,614,113.

    Each Unit consisted of one share of Series A Convertible Preferred Stock,
$0.01 par value, and a warrant to purchase 1.114404 shares of Common Stock of
the Company at an exercise price of $3.14 per share. Each share of Series A
Preferred Stock is non-voting and may be converted at the holder's option, at
any time, into one share of Common Stock of the Company. The conversion rate
will be adjusted for stock splits, stock dividends and similar events.

    The Series A Convertible Preferred Stock includes a liquidation preference.
In the event of any liquidation, dissolution or winding up of the Company,
either voluntary or involuntary, the holders of shares of Series A Convertible
Preferred Stock are entitled to receive an amount equal to $7.50 per share. The
liquidation price per share would be paid out of the assets of the Company
available for distribution prior to any payments made on any shares of the
Company's Common Stock or any other capital stock other than the Preferred
Stock.

    On May 25, 2000 and June 2, 2000, approximately 1,066,667 and 533,333 shares
of Series A Preferred Stock, respectively, were converted into equivalent shares
of the Company's Common Stock.

SERIES B CONVERTIBLE PREFERRED STOCK

    In April 2000, the Company designated and issued 34,100 shares of its
authorized preferred stock as Series B Preferred Stock, $0.01 par value
("Series B Preferred"), in connection with the Quickband Acquisition. Each share
of Series B Preferred converts into one share of the Company's Common Stock. The
fair market value of the Series B Preferred on the closing date of the Quickband
Acquisition was $468,447, as determined by the fair market value of the
Company's Common Stock on such date. In the event of any liquidation,
dissolution or winding up of the Company, either voluntary or involuntary, the
holders of the Series B Preferred are entitled to receive an amount equal to
$23.46875 per share. The liquidation price per share would be paid out of the
assets of the Company available for distribution prior to any payments made on
any shares of the Company's Common Stock or any other capital stock other than
the Preferred Stock.

                                      F-19
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(6) STOCKHOLDERS' EQUITY (CONTINUED)

SERIES C CONVERTIBLE PREFERRED STOCK

    In June 2000, the Company designated 4,285,715 shares of its authorized
preferred stock as Series C Preferred Stock, $0.01 par value ("Series C
Preferred"). On June 8, 2000, the Company completed a private placement of
1,644,304 shares of the Series C Preferred with detachable warrants for an
aggregate purchase price of $10,000,000, in connection with an investment by The
Travelers Indemnity Company ("Travelers"). The Company incurred transaction
costs of $9,175 in connection with the transaction. This investment was part of
an aggregate financing of $15,000,000. The additional $5,000,000 was received
and satisfied through the issuance of the Company's Series C-II and
Series C-III Convertible Preferred Stock as described below. In the event of any
liquidation, dissolution or winding up of the Company, either voluntary or
involuntary, the holders of the Series C Preferred are entitled to receive a
liquidation amount of $6.082 per share. The liquidation price per share would be
paid out of the assets of the Company available for distribution prior to any
payments made on any shares of the Company's Common Stock or any other capital
stock that ranks junior to the Preferred Stock.

    In addition to the Series C Preferred, Travelers received detachable
warrants which provide them the right to purchase 205,538 shares of the
Company's Common Stock at an exercise price of $8.69 and 205,538 shares at of
the Company's Common Stock at an exercise price of $10.86 (collectively
"Travelers' Warrants").

    The aggregate fair market value of the Series C Preferred on the closing
date of the Travelers private placement was $14,284,891 based upon the fair
market value of the Company's Common Stock on that date. Additionally, the fair
market value of the warrants issued, as calculated using the Black Scholes
pricing model, was $1,793,113. In accordance with EITF Issue No. 98-5,
"ACCOUNTING FOR CONVERTIBLE SECURITIES WITH BENEFICIAL CONVERSION FEATURES OR
CONTINGENTLY ADJUSTABLE CONVERSION RATIOS" ("EITF 98-5"), the Company allocated
the net proceeds between the Series C Preferred and the detachable warrants
based on the relative fair value method as described in APB Opinion No. 14,
"ACCOUNTING FOR CONVERTIBLE DEBT AND DEBT ISSUED WITH STOCK PURCHASE WARRANTS"
("APB No. 14"). The Company allocated $8,876,589 to the Series C Preferred and
recorded $1,114,236 of additional paid-in-capital to account for the issuance of
the warrants. The difference between the net proceeds allocated to, and the fair
market value of, the Series C Preferred on the closing date, which amounted to
$5,408,302, was recorded as a non-cash convertible preferred stock dividend in
accordance with EITF 98-5. Travelers was granted pricing protection on its
$10,000,000 investment regarding certain subsequent investments in the Company.
These pricing protections were triggered by the investments in the Series C-II
and Series C-III Preferred Stock described below and allows for the following:

    Upon the earlier of (i) a change of control or (ii) December 31, 2001, the
Company will (a) cancel the Series C Preferred and in its place issue 1,849,057
shares of Series C-IV Preferred Stock, par value $0.01 per share, with a
conversion price of $2.65, and 4,099,678 shares of Series C-V Preferred Stock,
par value $0.01 per share, with a conversion price of $1.244, and (b) cancel the
Travelers Warrants and in their place issue 462,264 warrants with an exercise
price of $2.65 and 1,024,920 warrants with an exercise price of $1.14. The
Company recorded a deemed non-cash convertible preferred stock dividend of
$12,757,019 for the additional benefit to be received by Travelers upon the
future issuance of the Series C-IV and Series C-V Preferred Stock and the
related warrants. Travelers is not entitled to any further pricing protections.

                                      F-20
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(6) STOCKHOLDERS' EQUITY (CONTINUED)
    Additionally, Travelers is entitled to certain anti-dilution protections.
The anti-dilution provisions primarily adjust the conversion price of the
Series C Preferred and the number and exercise price of the Travelers' Warrants.
The anti-dilution provisions with regard to the Series C-IV Preferred Stock and
related warrant issuance under Travelers' pricing protection was triggered by
the issuance of the Series C-III Preferred Stock described below. As a result,
the conversion price of the Series C-IV Preferred will be adjusted to $2.537,
the Company will issue 20,591 additional warrants and the exercise price of the
warrants issued in connection with the Series C-IV Preferred Stock will be
reduced to $2.537. The Company recorded a deemed non-cash convertible preferred
stock dividend of $165,657 to record the additional benefit to be received by
Travelers.

    Neither the pricing protection or the anti-dilution provision affect the
liquidation preference as defined in the original Series C Preferred Stock
agreement.

SERIES C-II CONVERTIBLE PREFERRED STOCK

    In September 2000, the Company designated 924,527 shares of its authorized
preferred stock as Series C-II Preferred Stock, $0.01 par value ("Series C-II
Preferred"). On September 29, 2000, the Company completed a private placement of
924,527 shares of the Series C-II Preferred with detachable warrants for an
aggregate purchase price of $2,450,000 with three investors (the "Series C-II
Investors"). The conversion price of the Series C-II Preferred is $2.65. In the
event of any liquidation, dissolution or winding up of the Company, either
voluntary or involuntary, the holders of the Series C-II Preferred are entitled
to receive an amount equal to $2.65 per share. The liquidation price per share
would be paid out of the assets of the Company available for distribution prior
to any payments made on any shares of the Company's Common Stock or any other
capital stock that ranks junior to the Preferred Stock.

    In addition to the Series C-II Preferred, the Series C-II Investors received
detachable warrants which provide them the right to purchase an aggregate of
396,037 shares of the Company's Common Stock at an exercise price of $2.65.

    The aggregate fair market value of the Series C-II Preferred on
September 29, 2000 was $2,302,072, based upon the fair market value of the
Company's Common Stock on that date. Additionally, the fair market value of the
warrants issued, as calculated using the Black Scholes pricing model, was
$504,706. In accordance with EITF 98-5, the Company allocated the net proceeds
between the Series C-II Preferred and the detachable warrants based on the
relative fair value method as described in APB No. 14. The Company allocated
$2,009,448 to the Series C-II Preferred and recorded $440,552 of additional
paid-in-capital to account for the issuance of the warrants. The difference
between the net proceeds allocated to, and the fair market value of, the
Series C-II Preferred on the closing date, which amounted to $292,624, was
recorded as a preferred stock dividend in accordance with EITF 98-5.

    The Series C-II Investors are entitled to certain anti-dilution protections,
triggered by certain subsequent issuances of equity by the Company. The
anti-dilution provision primarily adjusts the conversion price of the
Series C-II Preferred and the number and exercise price of the original warrants
issued. The anti-dilution provision was triggered by the Series C-III Preferred
investment described below. As a result, the conversion price of the
Series C-II Preferred was adjusted to $2.537,

                                      F-21
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(6) STOCKHOLDERS' EQUITY (CONTINUED)
the Company issued an additional 17,641 warrants to the Series C-II Investors
and the exercise price of the warrants originally issued to the Series C-II
Investors was reduced to $2.537. The Company recorded a deemed non-cash
convertible preferred stock dividend of $136,505 to record the additional
benefit received by the Series C-II Investors.

SERIES C-III CONVERTIBLE PREFERRED STOCK

    In December 2000, the Company designated 2,049,839 shares of its authorized
preferred stock as Series C-III Preferred Stock, $0.01 par value ("Series C-III
Preferred"). On December 8, 2000, the Company completed a private placement of
the 2,049,839 shares of the Series C-III Preferred with detachable warrants for
an aggregate purchase price of $2,550,000 with two investors (the "Series C-III
Investors"). The conversion price of the Series III Preferred is $1.244. In the
event of any liquidation, dissolution or winding up of the Company, either
voluntary or involuntary, the holders of the Series C-III Preferred are entitled
to receive an amount equal to $1.244 per share. The liquidation price per share
would be paid out of the assets of the Company available for distribution prior
to any payments made on any shares of the Company's Common Stock or any other
capital stock that ranks junior to the Preferred Stock.

    In addition to the Series C-III Preferred, the Series C-III Investors
received detachable warrants which provide them the right to purchase an
aggregate of 635,450 shares of the Company's Common Stock at an exercise price
of $1.14.

    The aggregate fair market value of the Series C-III Preferred on
December 8, 2000 was $2,459,807, based upon the fair market value of the
Company's Common Stock on that date. Additionally, the fair market value of the
warrants issued, as calculated using the Black Scholes pricing model, was
$350,458. In accordance with EITF 98-5, the Company allocated the net proceeds
between the Series C-III Preferred and the detachable warrants based on the
relative fair value method as described in APB No. 14. The Company allocated
$2,231,928 to the Series C-III Preferred and recorded $318,072 of additional
paid-in-capital to account for the issuance of the warrants. The difference
between the net proceeds allocated to, and the fair market value of, the
Series C-III Preferred on the closing date, which amounted to $227,879, was
recorded as a preferred stock dividend in accordance with EITF 98-5.

    The Series C-III Investors are entitled to certain anti-dilution protections
triggered by certain subsequent issuances of equity by the Company. The
anti-dilution provision primarily adjusts the conversion price of the
Series C-III Preferred and the number and exercise price of the original
warrants issued to the Series C-III Investors.

(7) RESTRUCTURING CHARGE

    In December 2000, in connection with certain cost saving and corporate
restructuring initiatives, the Company's Board of Director's approved a plan
that included the sale of certain content-related, non-strategic assets that
would no longer be used in the operations of the Company, closing the Company's
offices in San Francisco and Los Angeles and a reduction in the Company's
workforce.

    As a result of these initiatives, the Company recorded a non-cash
restructuring charge of $2,968,665 for the year ended December 31, 2000. The
non-cash restructuring charge was comprised of the following: (1) $2,539,134
related to the write-off of goodwill and certain intangible assets associated

                                      F-22
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(7) RESTRUCTURING CHARGE (CONTINUED)
with the Company's acquisitions of content-related entities that are being
disposed of (2) $235,759 related to the write-off of certain fixed assets,
consisting primarily of furniture and fixtures and leasehold improvements,
associated with the closing of the Company's offices in San Francisco and Los
Angeles and (3) $193,772 related to the write-off of certain office security
deposits and prepaid assets from which the Company would not derive any future
benefit.

(8) NON-CASH STOCK BASED COMPENSATION

    Pursuant to the Company's 1999 Amended and Restated Incentive and
Nonqualified Stock Option Plan (the "1999 Plan"), employees of the Company were
granted options to purchase shares of Common Stock. The terms of the options
granted to employees under the 1999 Plan, including exercise price and number of
shares granted, were fixed on the date of grant and remain the same throughout
the duration of the 1999 Plan. In June 2000, the Company contracted with a third
party to settle all exercises under the 1999 Plan.

    The Company accounts for stock-based compensation agreements in accordance
with the provisions of APB Opinion No. 25, "ACCOUNTING FOR STOCK ISSUED TO
EMPLOYEES," ("APB No. 25"). Under APB No. 25, fixed option plans for
employees--that is those plans whose terms, including price and number of shares
granted, remain the same throughout the duration of the plan--have no
compensation expense associated with the options when the exercise price is
equal to the fair value of the stock at the grant date. All options granted
under the 1999 Plan were at fair market value on the date of grant. Accordingly,
compensation expense was not recorded for options awarded to employees.

    For the period January 2000 through May 2000, the Company chose to
self-administer the 1999 Plan. Also during the period, various employees began
to exercise a vested portion of their options. Pursuant to the "cashless
exercise" provisions of the 1999 Plan, the employees were permitted to pay the
exercise price with cash, or "by surrendering, in addition to the options
representing the shares being purchased, unexercised, vested options with a net
fair market value equal to the price of the shares being purchased." The
employees chose to surrender unexercised options, from their fixed grant total,
with a fair market value equivalent to the cash exercise price.

    Under an interpretation of generally accepted accounting principles related
to stock-based compensation, the employees' surrendering of unexercised, vested
options in satisfaction of the exercise price, in lieu of cash, under a
self-administered plan, resulted in the requirement to recognize the entire
exercise value of the shares as non-cash stock based compensation expense.

    The number of shares, the range of exercise prices and the range of market
values for the cashless exercises for January through May 2000 are as follows:

<TABLE>
<CAPTION>
              NUMBER OF SHARES
        (INCLUDES SHARES SURRENDERED)          RANGE OF EXERCISE PRICES   RANGE OF MARKET VALUES
        -----------------------------          ------------------------   -----------------------
<S>                                            <C>                        <C>
                   586,359                      $       0.88 -- $2.25     $      10.75 -- $23.375
</TABLE>

    The total non-cash compensation charge related to these exercises for the
year ended December 31, 2000 was $10,257,883.

                                      F-23
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(8) NON-CASH STOCK BASED COMPENSATION (CONTINUED)
    On January 31, 2000, the Company issued a warrant to purchase 100,000 shares
of its Common Stock to a business partner, in exchange for the partner's
commitment to be a sponsor of the Company's Web site. The warrant has a
five-year life and is immediately exercisable at an exercise price of $19.8875.
The fair market value of the Company's Common Stock at the date of issue was
$19.75.

    The sponsorship agreement is renewable annually and may be terminated at
such time by either the Company or the business partner upon notice. The fair
market value of the warrant was $1,300,000, calculated under the Black-Scholes
pricing model using the following assumptions: risk-free interest rate of 6%,
volatility of 75% and a 5 year term. As the warrant is immediately exercisable,
the Company recorded a non-cash compensation charge of $1,300,000 during the
first quarter of 2000.

    In connection with the termination of certain employees during 2000, the
Company elected to accelerate the vesting schedule of certain stock options
granted to these employees. In accordance with FIN 44, a company must recognize
compensation expense if the vesting of a fixed award is modified such that,
under the original terms, the award would have expired unexerciseable.
Compensation expense is measured as the difference between the intrinsic value
on the date of termination and the intrinsic value on the original measurement
date. The Company recognized compensation expense of $766,898 for the year ended
December 31, 2000 in connection with these accelerated options.

(9) STOCK OPTION PLANS

    In June of 1999, the Company adopted the 1999 Stock Option Plan that
replaced all outstanding option plans to date. Under the 1999 Stock Option Plan,
all options issued under prior plans were recognized as issued and outstanding
under the original terms granted. The Company had originally reserved 4,000,000
shares of Common Stock for issuance under the 1999 Stock Option Plan.

    In February of 2000, the Company amended the 1999 Stock Option Plan to
create the 1999 Amended and Restated Incentive and Nonqualified Stock Option
Plan as defined in note 8. The 1999 Plan increased the shares of Common Stock
reserved for issuance from 4,000,000 to 5,500,000. The Company's stockholders
approved the 1999 Plan in May 2000. The 1999 Plan provides for the issuance of
incentive stock options, which are intended to qualify under section 422 of the
Internal Revenue Service Code, non-qualified stock options and restricted stock
grants. The granting of incentive stock options is subject to the limitations as
set forth in the 1999 Plan. Directors, officers, employees and consultants are
eligible to receive grants under the 1999 Plan. A committee selected by the
Company's Board of Directors has the authority to approve option grants and the
terms, which include the option price and the vesting terms. Options granted
under the 1999 Plan expire after a ten-year period and are subject to
acceleration upon the occurrence of certain events.

    In September 2000, the Board of Directors adopted the 2000 Nonqualified
Stock Option Plan (the "2000 Plan"). The 2000 Plan reserved for issuance
5,000,000 shares of the Company's Common Stock. The 2000 Plan authorizes the
Board of Directors to issue nonqualified stock options as provided in
section 422 of the Internal Revenue Code, restricted stock and stock
appreciation rights. Only employees, including officers, of the Company and its
subsidiaries are eligible to receive grants under the 2000 Plan. A committee
selected by the Company's Board of Directors has the authority to approve option
grants and the terms, which include the option price and the vesting terms.
Options granted

                                      F-24
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(9) STOCK OPTION PLANS (CONTINUED)
under the 2000 Plan expire after a ten-year period and are subject to
acceleration upon the occurrence of certain events.

    The following table summarizes the stock option activity under all plans
from inception:

<TABLE>
<CAPTION>
                                                                                WEIGHTED AVERAGE
                                                              OPTIONS GRANTED    EXERCISE PRICE
                                                              ---------------   ----------------
<S>                                                           <C>               <C>
Outstanding December 31, 1998...............................     1,031,627           $1.52

  Granted...................................................     1,854,352            7.30
  Exercised.................................................       (20,750)           2.25
  Canceled..................................................            --              --
                                                                ----------           -----
Outstanding December 31, 1999...............................     2,865,229            5.25

  Granted...................................................     6,491,698            7.34
  Exercised.................................................      (912,600)           1.28
  Canceled..................................................    (1,619,551)           9.58
                                                                ----------           -----
Outstanding at December 31, 2000............................     6,824,776           $6.79
                                                                ==========           =====
Vested at December 31, 1999.................................       896,057
                                                                ==========
Vested at December 31, 2000.................................     1,099,616
                                                                ==========
Options available for grant at December 31, 2000............     2,741,874
                                                                ==========
</TABLE>

    The following table summarizes information about stock options outstanding
as of December 31, 2000:

<TABLE>
<CAPTION>
                                                                               OPTIONS EXERCISABLE
                                                        WEIGHTED AVERAGE   ----------------------------
                           NUMBER         WEIGHTED         REMAINING         NUMBER         WEIGHTED
  RANGE OF EXERCISE       OF SHARES       AVERAGE       CONTRACTUAL LIFE    OF SHARES       AVERAGE
        PRICES           OUTSTANDING   EXERCISE PRICE      (IN YEARS)      OUTSTANDING   EXERCISE PRICE
----------------------   -----------   --------------   ----------------   -----------   --------------
<S>                      <C>           <C>              <C>                <C>           <C>
$    0.88--$2.99          2,670,441         $1.98           9.1               676,636         $1.41

$    3.13--$9.81          1,706,270         $5.71           9.5                 8,333         $9.81

$   10.44--$18.50         2,419,062        $12.63           9.2               410,314        $12.76

$   19.50--$34.00            29,003        $26.29           9.0                 4,333        $27.75
                          ---------        ------          ---------        ---------        ------

$   0.88--$34.00          6,824,776         $6.79           9.2             1,099,616         $5.81
                          =========        ======          =========        =========        ======
</TABLE>

    The Company applies APB No. 25 in accounting for its stock options granted
to employees and accordingly, no compensation expense has been recognized in the
consolidated financial statements. Had the Company determined compensation
expense based on the fair value at the grant date for its

                                      F-25
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(9) STOCK OPTION PLANS (CONTINUED)
stock options issued to its employees under SFAS 123, the net loss would have
been adjusted to the pro forma amounts indicated below:

<TABLE>
<CAPTION>
                                               YEAR ENDED       YEAR ENDED DECEMBER
                                            DECEMBER 31, 2000        31, 1999
                                            -----------------   -------------------
<S>                                         <C>                 <C>
Net loss, as reported.....................   $   (43,643,458)      $(10,087,542)
Net loss, pro forma.......................       (48,351,292)       (10,335,300)
Loss per share, as reported...............   $         (2.40)      $      (0.51)
Loss per share, pro forma.................   $         (2.58)      $      (0.53)

Weighted average risk free interest
  rate....................................               5.1%               5.5%
Volatility................................                75%                75%
Weighted average expected life............            3 yrs.             3 yrs.
</TABLE>

    The per share weighted average fair value of the stock options granted
during 2000 and 1999 was $3.73 and $1.44, respectively, on the date of grant
using the option-pricing method with the weighted average assumptions noted in
the table above.

(10) EQUITY CREDIT LINE

    In December 2000, the Company entered into a common stock purchase agreement
("Stock Purchase Agreement") with an accredited investor ("Investor"), for the
sale, from time to time, of the Company's Common Stock. Pursuant to the Stock
Purchase Agreement, the Investor has committed to purchase up to $23,000,000 of
Common Stock over a 36 month period. The Investor may be required to invest an
additional $17,000,000 upon the attainment of certain trading volumes and
weighted average market prices in the Company's Common Stock. However, the
Company's ability to procure funds through the Stock Purchase Agreement may also
be limited or prohibited based on certain trading volumes and weighted average
market prices in the Company's Common Stock.

    Under the Stock Purchase Agreement, shares of Common Stock are periodically
sold to the Investor at a discount from market value ranging from 6%-10%,
depending on the closing price of the Company's Common Stock. The amount of
Common Stock sold is at the sole discretion of the Company and at no time
throughout the term of the Stock Purchase Agreement is the Company obligated to
sell its Common Stock, unless the Company issues a draw-down notice. The Company
issued warrants to purchase 50,000 shares of the Company's Common Stock and
incurred $25,000 of transaction costs in connection with the Stock Purchase
Agreement. The Company had not sold any Common Stock under the Stock Purchase
Agreement as of December 31, 2000.

(11) COMMITMENTS AND CONTINGENCIES

    (A) OPERATING LEASES

    The Company has entered into several non-cancelable leases, primarily
related to the rental of certain facilities and equipment. Future minimum lease
payments, by year and in the aggregate, under

                                      F-26
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(11) COMMITMENTS AND CONTINGENCIES (CONTINUED)
operating leases with initial or remaining terms in excess of one year consisted
of the following at December 31, 2000:

<TABLE>
<CAPTION>
                                                               AMOUNT
YEAR ENDED DECEMBER 31,                                       --------
<S>                                                           <C>
2001........................................................  $671,248

2002........................................................   221,879
                                                              --------

  Total minimum lease payments..............................  $893,527
                                                              ========
</TABLE>

    Rent expense under operating leases amounted to $1,092,547 and $247,793 for
the years ended December 31, 2000 and 1999, respectively.

    (B) EMPLOYMENT AGREEMENTS

    The Company maintains employment agreements, expiring at various intervals,
with three executives and several non-executive employees of the Company. The
employment agreements provide for a minimum salary, incentive compensation and
certain benefits, among other items.

    (C) LITIGATION

    The Company was a defendant in a lawsuit regarding an alleged breach of
contract that sought damages in the millions of dollars. The Company denied the
substantive allegations and contested the case vigorously. During fiscal year
1998, the court ruled that the plaintiff was entitled to $60,000 based on the
contract, plus interest. Accordingly, the Company accrued and paid $89,000
relating to this matter. The Plaintiff filed a notice of appeal with respect to
the summary judgment and trial decision. The Company opposed the appeal and
cross-appealed with respect to denomination of prevailing party. The court held
that the Company was the prevailing party and was thus entitled to recover
reasonable counsel fees. In April 2000, the Company was granted a judgment for
$215,000 in legal fees, which payment was received in May 2000.

    From time to time the Company has been named in other claims arising in the
ordinary course of business. In the opinion of management, the ultimate
disposition of these matters will not have a material adverse effect on the
Company's consolidated financial position, results of operations or liquidity.

(12) RELATED PARTY TRANSACTIONS

    A former member of the Company's Board of Directors owns all of the
securities of Verus Capital Corporation ("Verus"), a diversified investment
group that is also a shareholder of Company. On June 15, 1999, the Company
entered into a two-year consulting contract with Verus whereby the Company
agreed to pay Verus $12,500 per month in exchange for management and consulting
services. The Company paid to Verus $150,000 and $75,000 in consulting fees for
the years ended December 31, 2000 and 1999, respectively.

                                      F-27
<PAGE>
                                  ON2.COM INC.

             NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

                           DECEMBER 31, 2000 AND 1999

(12) RELATED PARTY TRANSACTIONS (CONTINUED)
    During 2000, the Company purchased $377,500 of Internet advertising services
from an interactive media buying and marketing services company of which a
director of the Company is chairman. These services were used to purchase
advertising space on behalf of the Company on third party Internet publishers.

(13) SUBSEQUENT EVENTS

    In January 2001, the Company entered into a financing agreement with an
existing shareholder of the Company whereby the Company would receive up to
$2,000,000 in exchange for convertible debentures and warrants to purchase
shares of Common Stock. The amounts received under this financing arrangement
will be equal to those amounts received under the Stock Purchase Agreement, as
described in note 10, or any additional financings, up to a maximum of
$2,000,000.

                                      F-28
<PAGE>
                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

    We have audited in accordance with auditing standards generally accepted in
the United States, the consolidated financial statements of On2.com Inc.,
included in this Form 10-KSB and have issued our report thereon, dated
February 20, 2001. Our audit was made for the purpose of forming an opinion on
the basic financial statements taken as a whole. The schedule listed in the
Index to Consolidated Financial Statements is the responsibility of the
Company's management and is presented for purposes of complying with the
Securities and Exchange Commission's rules and is not part of the basic
financial statements. This schedule has been subjected to the auditing
procedures applied in the audit of the basic financial statements and, in our
opinion, fairly states, in all material respects, the financial data required to
be set forth in relation to the basic financial statements taken as a whole.

                                              /s/ Arthur Andersen LLP

New York, New York
February 20, 2001

                                      S-1
<PAGE>
                                  SCHEDULE II

                       VALUATION AND QUALIFYING ACCOUNTS
                        ALLOWANCE FOR DOUBTFUL ACCOUNTS

<TABLE>
<CAPTION>
                                  BALANCE AT BEGINNING   ADDITIONS CHARGED TO                BALANCE AT END OF
                                       OF PERIOD               EXPENSE          DEDUCTIONS        PERIOD
YEAR ENDED,                       --------------------   --------------------   ----------   -----------------
<S>                               <C>                    <C>                    <C>          <C>
December 31, 1999...............        $    --                 $    --           $    --         $    --
December 31, 2000...............        $    --                 $25,000           $    --         $25,000
</TABLE>

                                      S-2