<PAGE>   1


                       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 June 30, 1999

OR

[ ]      TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
         ACT OF 1934. For the transition period from _______ to _______.

                        Commission File Number 000-23415

                           Princeton Video Image, Inc.
           (Name of Small Business Issuer as Specified in its Charter)

                  New Jersey                              22-3062052
         (State or Other Jurisdiction of               (I.R.S. Employer
          Incorporation or Organization)              Identification No.)

                15 Princess Road, Lawrenceville, New Jersey 08648
               (Address of Principal Executive Offices) (Zip Code)

                                  609-912-9400
                (Issuer's Telephone Number, Including Area Code)

           Securities registered pursuant to Section 12(b) of the Act:

                                                     Name of Each Exchange
              Title of Each Class                     on Which Registered

                     None                                     None

          Securities registered pursuant to Section 12(g) of the Act:

                           Common Stock, no par value
                               Title of Each Class

         Check whether the issuer: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 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.

Yes [X]   No [ ]

         Check if there is no disclosure of delinquent filers pursuant 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. [ ]

         State issuer's revenue for its most recent fiscal year: $1,222,213 for
the fiscal year ended June 30, 1999.

         State the aggregate market value of the voting and non-voting common
equity held by non-affiliates computed by reference to the price at which the
common equity was sold, or the average bid and asked price of such common
equity, as of a specified date within the past 60 days: $38,902,505, based upon
the last sales price on September 10, 1999.

         State the number of shares outstanding of each of the issuer's classes
of common equity, as of the latest practicable date: 8,213,805 shares of Common
Stock, $.01 par value per share, were outstanding on September 10, 1999.

                       DOCUMENTS INCORPORATED BY REFERENCE

         The definitive Proxy Statement for the Annual Meeting of Shareholders
to be held on December 3, 1999, is incorporated by reference in Part III of this
Form.


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                                     PART I

ITEM 1.  DESCRIPTION OF BUSINESS.

GENERAL

         Princeton Video Image, Inc. ("PVI" or the "Company") developed and is
marketing a real-time video insertion system that, through patented pattern
recognition technology, places computer-generated electronic advertising images
into live and pre-recorded television broadcasts of sporting and other events.
These electronic images range from simple corporate names or logos to
sophisticated multi-media 3-D animated productions. During the broadcast of a
sporting event, for example, these images can be placed to appear to be
physically located in various high visibility locations in the stadium or even
on the playing field. As part of its development program, the Company is also
exploring the use of its technology on the Internet and in interactive
television. The Company is developing a series of products based on our patented
pattern recognition technology which are being designed to allow viewers to
interact with live or recorded video programming delivered to the home via the
Internet or through interactive television. These applications are being
developed to allow the viewer to influence the on-screen presentation of a
broadcast which utilizes PVI's Live Video Insertion System (the "L-VIS(TM)
System") technology by using a mouse or other pointer, for example, to indicate
areas of interest.

         PVI believes that its L-VIS System, which is an integrated hardware and
software system, can benefit (i) advertisers, through the placement of their ads
in new, high visibility locations and the ability to "narrow cast" by region and
brand; (ii) broadcasters and program producers, through a new revenue stream
from additional inventory of advertising space; and (iii) teams and leagues,
through increased revenue streams and greater flexibility and control over
in-stadium advertising. In the future, viewers may be able to customize their
viewing experience by interacting with images inserted by PVI's L-VIS System.
The L-VIS System has been used to insert images into live and pre-recorded
television broadcasts including baseball games, soccer matches, football games,
motor sports, horse races, tennis matches, telethons and entertainment programs.

         The Company's objective is to become the leading provider of electronic
advertising to the television advertising market worldwide. The key elements of
the Company's strategy are (i) developing relationships with sports rights
owners such as the National Football League ("NFL"), National Basketball
Association ("NBA"), Major League Baseball ("MLB"), FIFA (soccer's international
governing body) and specific teams and other sports governing bodies; (ii)
developing relationships with non-sports rights owners of syndicated and first
run entertainment programming; (iii) developing relationships with national
network broadcasters such as NBC, CBS, ABC, ESPN, and FOX; (iv) working with
high-profile advertisers to assist them in understanding and capitalizing on the
use of the L-VIS System; and (v) developing L-VIS System software for additional
sporting and other applications.

         This document includes certain forward-looking statements made pursuant
to the safe harbor provisions of the Private Securities Litigation Reform Act of
1995. Such forward-looking statements are identified by use of forward-looking
words such as "anticipates", "believes", "plans", "estimates", "expects", and
"intends" or words or phrases of similar expression. These forward-looking
statements are subject to various assumptions, risks and uncertainties that
could cause actual results to differ materially from those anticipated by the
statements made by the Company. Factors described in this Annual Report on Form
10-KSB, including without limitation those identified in this Item 1, "Business"
and in Item 6, "Management's Discussion and Analysis


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of Financial Conditions and Results of Operations" could cause the Company's
actual results to differ materially from those expressed in any forward-looking
statement by the Company.

         The Company was incorporated in New Jersey on July 23, 1990.

OVERVIEW OF THE TELEVISION ADVERTISING AND SPONSORSHIP MARKET

         Sports advertising and sponsorship is a significant market both inside
and outside the United States. Advertisers in the United States spent an
aggregate of approximately $9.56 billion to purchase television advertising and
sponsorship rights with respect to sporting events in 1998, according to
information from the following industry sources. The 1998 network and cable
television sports advertising markets in the United States were reported by Paul
Kagan Associates, Inc. ("Kagan Associates") to be approximately $3.7 billion and
$1.3 billion, respectively. The January 1999 IEG Sponsorship Report, a sports
newsletter published biweekly by IEG, Inc., projected that $5.09 billion would
be spent to sponsor specific teams, stadium locations and sporting events in
1998.

         The cost of a television commercial spot is normally a function of the
nature and size of the expected audience of the event to be broadcast. A spot in
a national broadcast of a major sporting event, such as the Super Bowl or a
World Series game, sells for a price many times that of a spot in a regular
season game broadcast only locally or regionally. For example, the costs of a
30-second spot in the broadcast of a local 1998 regular season San Francisco
Giants baseball game, a 1998 nationally broadcast Monday night NFL football game
and the 1998 Super Bowl were approximately $5,000, $340,000 and $1,300,000,
respectively. Television broadcasters (including national television and cable
networks, regional cable networks, and local television and cable operators)
purchase television broadcast rights to sporting events from the holders of
those rights, which include individual teams as well as various leagues,
federations, associations and other organizations representing both professional
and amateur sports. Rights to specific games or events may be held by teams,
leagues, associations, or any combination thereof, depending on the arrangements
under which each sport is organized.

         The Company believes that the growth of sports sponsorship is largely
driven by the desire on the part of advertisers to be "in the game" by having
their brands and products visible during the broadcast of televised live events.
The development of video insertion technology has created a new method of
advertising in which the electronically inserted brand or message can appear, to
the television viewer, to be a part of the stadium where the event is taking
place. The L-VIS System can increase the signage capacity of the stadium or
venue from the television viewer's perspective. By exposing the television
viewer to the brand or message during the event, the advertiser is "in the game"
and can be more confident that its message will actually be seen by the viewer,
as the advertisement can be placed strategically to appear on the television
screen where traditional signage may not be practical or available.

         Sponsorship generally entails associating the sponsor's name with the
event or stadium as well as "signage rights," i.e., the prominent display of the
sponsor's name and products in specified locations in the stadium or broadcast.
Sponsors purchase sponsorship rights from the holders of those rights. Like
broadcast rights, the ownership of sponsorship rights depends on the specific
sport and the event or location. In some cases, the owner of the venue at which
an event is staged holds the sponsorship rights to the event. In other cases,
the team owner may own the sponsorship rights, including signage. Advertisers or
their representatives negotiate sponsorship arrangements directly with
sponsorship rights holders and not with broadcasters. Since broadcasters
historically have not shared in sponsorship revenue, they traditionally have not
assisted sponsorship programs.



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         The success of the L-VIS System requires satisfactory commercial
arrangements among the advertisers, rights holders, broadcasters and the
Company. To date, only a limited number of broadcasters, broadcast rights
holders and advertisers have agreed to use the L-VIS System during live sports
broadcasts. Some press coverage of the Company's technology has raised concerns
about its desirability and potential misuse relating to subliminal advertising,
television tampering, ethics, and over commercialization. There can be no
assurance that the use of the Company's system will be accepted by television
viewers or that the Company will be able to combat effectively potential future
negative publicity regarding its or similar technology.

ABILITIES OF THE L-VIS SYSTEM

         The Company believes that the L-VIS System provides advantages when
compared to traditional 30-second advertising spots and other forms of
advertising because the L-VIS System:

         -        Allows for "in the game" advertising. The L-VIS System allows
                  an advertiser to be "in the game" by having their brands and
                  products visible during the broadcast of televised live
                  events;

         -        Reduces the effect of channel surfing and viewer muting.
                  Because the L-VIS System allows for "in the game" advertising,
                  the negative effect of "channel surfing," which often occurs
                  during traditional 30-second advertising spots, may be
                  reduced;

         -        Allows placement of advertising in high visibility locations.
                  The L-VIS System allows for the insertion of images without
                  affecting the actual playing surface or other areas where
                  advertising is inserted;

         -        Creates new inventory for advertising rights holders. The
                  L-VIS Systems allows for new advertising by providing for the
                  insertion of images in locations that are unavailable for
                  conventional billboards, such as the space in the vicinity of
                  football goal posts;

         -        Allows "narrow casting" of specific advertising to specific
                  geographical regions. The L-VIS System also allows for "narrow
                  casting" specific advertising to specific geographical
                  regions. Thus, where desired, a rights holder can sell the
                  same advertising space to different advertisers in different
                  markets; for instance, the New York broadcast of a San
                  Francisco Giants-New York Mets MLB game can include a
                  different inserted advertisement than the San Francisco
                  broadcast;

         -        Provides for animation and audio-video advertising. The L-VIS
                  System may be used, when appropriate, to insert animation and
                  audio-video advertising within the program to enhance the
                  impact of the advertising;

         -        Allows branding of an event. Insertions made during a live
                  broadcast will be captured, or branded, on recordings of the
                  event and may then be shown around the world in re-broadcasts
                  and highlight films of the event. An advertiser will benefit
                  from every re-broadcast, such as re-broadcasts which occur
                  during the sports segment of most news programs; and

         -        Provides advertising to otherwise advertising-free
                  environments. The Company's technology can be used to insert
                  advertising into otherwise advertising-free


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                  environments, e.g., pay-per-view sports events. To date, the
                  L-VIS System has not been used for such purpose, and there can
                  be no assurance that it will ever be so used.

THE L-VIS SYSTEM TECHNOLOGY

         The L-VIS System is a system of proprietary hardware and software which
has been designed by the Company to insert electronic images into live televised
sports broadcasts. The inserted images may be two or three dimensional, static
or animated, opaque or semi-transparent and may be placed so that the inserted
images appear to exist on the playing field or in the stadium or venue where the
game or event is being played. If a player or other object moves in front of an
image that is inserted on a wall or a playing field, the L-VIS System is
programmed so that the passing object occludes that portion of the inserted
image. The L-VIS System can also be used to insert a free standing image so that
the image will occlude a player or other object which "passes behind" it.

         The Company's L-VIS System is based upon patented pattern recognition
technology. The Company's "Vision" version of the L-VIS System may be located
anywhere in the television distribution chain, including the stadium where a
broadcast typically originates, the television studio to which a broadcast is
relayed and the microwave links or satellite ground stations where the broadcast
is relayed for distribution to the viewing public. A suitably configured L-VIS
System could insert images in the television picture seen by individual viewers.
In this case, each viewer would receive advertising specifically intended for
their viewing.

         The L-VIS System and its operator may be located at the site of the
event, at the network studios of the broadcaster or at an individual station or
cable system head-end carrying the broadcast. Before the broadcast, the
advertising images to be inserted are prepared and the operator identifies the
location in the broadcast scene where the images will be inserted. The L-VIS
System is designed to recognize the broadcast scene in real time during the
broadcast and to insert the image as instructed each time the broadcast scene
containing the insert location appears. The operator controls which of several
images is selected for insertion and when it will be inserted.

         The Company has designed software that allows for the live use of the
"Vision" L-VIS System in football, baseball and soccer. A camera sensor enhanced
version of the system can be used on most events including horseracing, tennis
and automobile racing broadcasts. For instance, in baseball the Company's
software allows images to be inserted on the wall behind home plate, the
outfield wall or the area above the outfield wall. To the television viewer, a
non-animated advertisement inserted with the L-VIS System, such as an
advertisement on the wall behind home plate, appears to be part of the original
scene, in proper perspective and fixed in the scene as the camera pans, tilts
and zooms, and as players move in front of the image. Furthermore, because an
inserted image is not present at the actual site of a sporting event, any
distraction caused to the players by other advertising such as scrolling
billboards will not be present.

STRATEGY

         The Company's objective is to become the leading provider of electronic
advertising to the television advertising market worldwide. The key elements of
the Company's strategy include:

         -        Developing relationships with rights owners. The Company
                  intends to develop relationships with rights owners such as
                  the NFL, MLB, NBA, FIFA, and specific teams and other sports
                  governing bodies as well as the owners of first run and


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                  syndicated entertainment programs;

         -        Developing relationships with broadcasters. The Company
                  intends to continue to develop relationships with national
                  network broadcasters such as NBC, CBS, ABC, ESPN and FOX;

         -        Working with high-profile advertisers. To promote acceptance
                  of the L-VIS System, the Company has actively discussed the
                  L-VIS System's benefits and unique uses with a limited number
                  of high-profile sporting event advertisers and continues to
                  expand this effort significantly; and

         -        Enhancing and developing additional L-VIS System software. In
                  addition to enhancing existing software for use of the L-VIS
                  System during football games, baseball games, soccer games,
                  tennis matches and motor sports events, the Company is
                  developing, or intends to develop, software to permit use of
                  the L-VIS System during the broadcast of additional sports and
                  other events, including basketball games and golf. The Company
                  is also exploring the use of its technology on the Internet
                  and in interactive television in order to allow a viewer to
                  influence the on-screen presentation of PVI inserted images.
                  This type of interactivity may become particularly interesting
                  when used with advertising insertions.

OWNERSHIP OF VIDEO INSERTION RIGHTS IN THE NFL, COLLEGE FOOTBALL AND MLB

         In the NFL, all television, video insertion and national sponsorship
rights are controlled by the league for all regular season games, the playoffs,
the Super Bowl and the Pro-Bowl. Such rights are controlled by individual NFL
teams with respect to all pre-season games. The NFL is under contract with ABC,
CBS, FOX and ESPN for the rights to broadcast various NFL football games during
the 1999 NFL season. Kagan Associates estimated that the national network
broadcasters holding rights to NFL games in 1998 generated an aggregate of
approximately $1.2 billion in revenues through the sale of television
advertisements with respect to their broadcast of regular season and playoff
games, including the 1998 Super Bowl on NBC.

         In college football, the television advertising, sponsorship and video
insertion rights to regular season games are held by various college football
conferences. The rights to the various college bowl games are owned by bowl
committees which are often non-profit corporations established to host a bowl
game. Both the conferences and the committees, like other rights holders,
contract with broadcasters for the national or local broadcast of their games.
Kagan Associates estimated that in 1998, ABC, NBC and CBS generated
approximately $167 million, $16.0 million and $63.6 million, respectively, in
advertising revenues relating to their regular season and college bowl game
broadcast rights.

         MLB holds all television, sponsorship and video insertion advertising
rights with respect to regular season nationally broadcast games, the All Star
Game, playoff games, the World Series and the international distribution of
regular season games. Kagan Associates estimated that the advertising revenues
received by the four major over-the-air broadcast networks with respect to MLB
totaled approximately $223 million in 1993, $37 million in 1994 (a strike
shortened season), $150 million in 1995, $303 million in 1996, $322 million in
1997 and $271 million in 1998. Generally, the local television rights, video
insertion and sponsorship rights to regular season baseball games are held
individually by each of the 30 MLB teams. Typically, each team sells to
over-the-air and cable broadcasters the broadcast and television advertising
rights to individual games or packages of multiple games for a fixed fee and
solicits potential sponsors using a media sales group. The


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broadcasters earn revenues through the sale of 30-second spots to local and
national advertisers.

SALES AND MARKETING

         The Company expects to continue to generate revenues from the sharing
of advertising revenue among the Company, rights holders and broadcasters and,
in certain circumstances, through the licensing of the Company's technology. As
discussed above, the right to insert electronic images for advertising purposes
into a live broadcast, and hence the right to sell advertising using the L-VIS
System, is held by different groups depending, in most cases, on the sport
involved and the status of the game, i.e., pre-season, regular season or
post-season, and whether the game is to be broadcast internationally, nationally
or locally. These rights may be sold for specific games and/or entire seasons to
another party, most notably a broadcaster who pays the rights holder an up-front
fee for such rights. In each case, the Company must negotiate for the use of the
L-VIS System with the rights holder or holders, typically in exchange for a
percentage of the advertising revenue generated using the L-VIS System. Because
the L-VIS System uses the live feed from the broadcaster to insert its
electronic images, such broadcaster must also approve the use of the L-VIS
System. Accordingly, arrangements with several parties including the rights
holder and the broadcaster must be established. The L-VIS System has been used
during the broadcast of, among other events, (i) the international broadcast of
Super Bowls XXXIII and XXXII in January 1999 and 1998, (ii) numerous NFL
pre-season games in the 1999, 1998 and 1997 seasons, (iii) 1999, 1998 and 1997
MLB home games of the San Francisco Giants and the San Diego Padres, and (iv)
1999 and 1998 MLB home games of the Philadelphia Phillies. There can be no
assurance, however, that the Company will be successful in establishing or
maintaining a relationship with any party.

         The ultimate customers of the Company's L-VIS System are expected to
continue to be advertisers, sponsors, broadcaster and rights holders. Revenues
flow from the advertisers and sponsors to the rights holders who will pay a
share of those revenues to the Company. The Company expects to provide the L-VIS
System and support services to the rights holders and to be paid by the rights
holders a percentage of the advertising revenues derived from use of the L-VIS
System. The Company further expects that the rights holders will enter into
agreements with broadcasters to provide the services necessary for use of the
L-VIS System. The Company expects that advertising space using the L-VIS System
will be sold either by the rights owner or by the broadcaster, depending on the
specific arrangement between such parties, and that advertising revenues will be
shared among the rights owner, the broadcaster and the Company. As a result, the
Company relies, and will continue to rely, upon the marketing and advertising
staffs of these rights holders and broadcasters, which typically target the
manufacturers or producers of nationally distributed products.

         The Company also promotes the advantages of the L-VIS System directly
to major advertisers. The Company believes that promotion is important in
influencing market acceptance of the L-VIS System among potential advertisers.
Certain press coverage of electronic image insertion technology has raised
concerns about its desirability and potential misuse. For instance, an article
has described inserted advertising as subliminal and the technology has been
described as tampering with the television picture in a manner which may not be
ethical. A danger of over commercialization has also been voiced.

         The Company has initially focused its sales and marketing efforts on
those sports that account for a significant amount of the United States or
worldwide advertising and sponsorship expenditures. Following is an explanation
of the Company's sales and marketing strategy for several of its target markets:



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         FOOTBALL

         In football, the Company has developed several different applications
for advertising and game enhancement. In one application the L-VIS System
software has been designed to insert images in the vicinity of the goal posts
either as a lead-in to commercial breaks or during field goal and extra-point
attempts. Insertions in the vicinity of the goal posts offer rights holders the
ability to sell advertising for a high visibility location where advertising was
not previously located. In another application, a line indicating the first down
line is inserted into the live event. In this case, the Company provides this
service to the broadcaster for a fee. This line can also be sponsored and the
sponsors' logo can appear on the line. The Company expects these applications to
account for substantially all of the Company's football revenue.

         During NFL pre-season in August 1998, the L-VIS System was used in
games of the Arizona Cardinals, Baltimore Ravens, Chicago Bears, New York Giants
and San Francisco 49ers to insert promotional material and advertising in the
broadcasts. The L-VIS System was also used to insert electronic images on behalf
of The Coca-Cola Company, as the exclusive sponsor, during the international
broadcast of Super Bowl XXXII in January 1998. Super Bowl XXXIII in January 1999
featured PVI inserts in both the domestic and international feeds: player
introductions in the domestic feed and three custom advertising feeds for
Mexico, Canada and the world feed in international broadcasts.

         During the regular NFL season in 1998, the Company used its L-VIS
technology to insert a first down line in 7 CBS national broadcasts, including
post season playoff games. The first down line appears to be popular with the
viewing audience and similar technology could be used to put advertising on the
field if the rights owner permits it. At present, the NFL does not permit
signage in the broadcasts of its regular season games. In 1999, PVI signed an
agreement with the NFL International giving PVI exclusive electronic insertion
rights to the NFL Europe League, the international broadcast of the domestic NFL
games including the Super Bowl game and the domestic broadcast of the Europe
League games.

         The ESPN sports network first used the L-VIS System in the broadcast of
football games during the 1995 fall college football season. The most prominent
uses by ESPN were in its December 1995 broadcasts of the Holiday Bowl and the
Peach Bowl. ABC used the L-VIS System to insert ABC logos into its New Year's
Eve 1995 broadcast of the Sugar Bowl from New Orleans. Since then, ESPN and
ESPN2 have used the L-VIS System to make insertions in more than a dozen college
football broadcasts. During the 1996 college football season, ESPN used the
L-VIS System in approximately 80% of its Western Athletic Conference football
broadcasts. The L-VIS System was not used during the broadcast of any 1997 or
1998 college football season games.

         The Company intends to pursue additional arrangements for the use of
the L-VIS System with respect to the broadcast of NFL and college football
games. However, there can be no assurance that the Company will be successful in
creating greater interest for use of the L-VIS System with respect to the
broadcast of either NFL or college football games.

         BASEBALL

         The Company focused its initial marketing efforts on the local MLB
market because the advertising rights in each local market are typically held by
the individual teams in that market. This provides a greater number of potential
customers than are available in many other sports. Because a normal baseball
game is divided into 18 half-innings, advertisements can be sold by the rights
holder using a half-inning advertising unit, which enables the rights holder to
know exactly how many


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advertising units may be sold and what its revenues will be from the sale of
such advertising. The Company has negotiated and intends to continue negotiating
for the right to consent to any pricing model before its implementation.

         In 1995, the Company introduced the L-VIS System to broadcast
television, inserting advertisements into broadcasts of the Trenton Thunder
minor league baseball games broadcast by Comcast Cable of New Jersey. In 1996,
the Company contracted with the San Francisco Giants for use of the L-VIS System
for broadcasts of Giants home games on San Francisco station KTVU and
SportsChannel. In addition, FOX carried one of the Giants home games on its
"Game of the Week" program during which the L-VIS System was used. The Giants
pay a fee to the broadcaster for use of the video feed required by the L-VIS
System and to facilitate its utilization.

         Through the use of the L-VIS System by the San Francisco Giants, the
Company gained access to other MLB teams. The Giants and the San Diego Padres
used the L-VIS System throughout the 1997 and 1998 MLB season and are using the
L-VIS System during the 1999 MLB season. In order to interest more teams in the
Company's technology, PVI installed a second system in San Diego during the 1997
season for use by visiting teams in broadcasts to their home cities. The Company
entered into an agreement with the Philadelphia Phillies pursuant to which the
L-VIS System was used throughout the 1998 and 1999 MLB season for broadcasts of
home games.

         In 1998, the Company entered into an agreement with ESPN whereby ESPN
used the L-VIS System to insert advertising in selected Sunday Night national
broadcasts of MLB games. The first interleague game in 1998 between the New York
Mets and the New York Yankees featured advertising inserted by the Company. This
agreement with ESPN was renewed for the 1999 season and L-VIS was used in the
broadcast of the 1999 opening day game of the MLB season.

         There can be no assurance, however, that the Company will be successful
in creating greater interest for use of the L-VIS System in MLB.

         SOCCER

         Although revenues from soccer television advertising in the United
States historically have been very small, the Company has marketed, and intends
to continue marketing, the L-VIS System for use in soccer matches in Europe,
Latin America and Asia, where the popularity of soccer is significantly greater
than in the United States.

         The basic L-VIS System was designed to insert an image onto the center
circle of a soccer field. The Company first used the L-VIS System to insert
advertising logos during live international broadcasts of the Parmalat Cup
soccer tournament in August 1995. RTBF, the French language national broadcaster
in Belgium, successfully used the L-VIS System in May 1996 to insert three-
dimensional images into the broadcast of the Belgian Cup. The Company also used
the L-VIS System to insert logos during the December 1996 World Cup qualifying
match between the Dutch and Belgian national teams and, through Publicidad
(discussed below), to insert advertisements in more than 200 soccer matches in
Mexico. Another application is the insertion of advertising on sideboards at the
event. No uses of this application have taken place for the reasons discussed
below.

         It is the Company's understanding that FIFA is currently re-evaluating
its position on the insertion of advertising on to the field of play. The L-VIS
System has not been used in FIFA-sanctioned matches to insert images on the
field of play while a match is in progress. Instead, the L-VIS System has been
used before and after a match. The Company continues to explore ways


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to encourage FIFA to grant permission to use the L-VIS System in FIFA-sanctioned
matches. For example, the Company has discussed using the L-VIS System to insert
advertising on sideboards during FIFA-sanctioned matches. Without this
permission, the Company's potential revenue from soccer will be substantially
reduced. There can be no assurance that FIFA will give such permission.

         OTHER SPORTS

         Kagan Associates estimated that in 1998, 20.7% and 6.7% of the combined
sports advertising revenues generated by ABC, CBS, NBC and FOX were for
basketball and golf, respectively. Motor sports have also generated significant
revenues worldwide. In August 1998 the L-VIS System was used for the first time
in the broadcast of a motor sport event, the Brickyard 400. ESPN used the L-VIS
System in international broadcasts of the 1997 and 1998 X-Games, which were
taped in San Diego.

INTERNATIONAL BUSINESS STRATEGY

         The Company's strategy with respect to sporting and other events
originating outside of the United States is to enter into joint ventures and
licensing transactions principally with foreign broadcast and sports marketing
experts. The Company expects that the largest international market for the L-VIS
System initially will be for soccer matches and motor sports.

         In 1993, the Company entered into a 50/50 joint venture with Presencia
en Medios, pursuant to which the parties formed Publicidad Virtual, S.A. de
C.V., a Mexican limited liability company ("Publicidad"), which was granted an
exclusive, royalty-free license to use, market and sub-license the L-VIS System
throughout Mexico, Central and South America and the Spanish-speaking markets in
the Caribbean basin. In March 1999, the Company sold its interest in Publicidad
and renegotiated the terms of the License Agreement with Publicidad such that
the Company will receive royalties from Publicidad based on net revenues. The
L-VIS System has been used to place insertions into broadcasts of more than 200
soccer matches, plus tennis matches and bullfights on behalf of clients of
Publicidad.

         In 1999, the Company entered into an exclusive licensing agreement with
Sasani Limited, one of South Africa's leading companies in the entertainment,
media and communication industries. The Company received an up-front licensing
fee and will receive annual royalties from Sasani Limited based on use of the
L-VIS System in South Africa. The L-VIS System has been used to place insertions
into broadcasts of soccer matches on behalf of clients of Sasani Limited.

         There can be no assurance that the Company will be able to enter into
or maintain favorable relationships with any partners or licensees, that any
partners or licensees will establish a market for the L-VIS System, that any
relationships will generate any revenue for the Company, or that any partners or
licensees will act in good faith and perform their obligations to the Company.
To the extent the Company enters into an exclusive arrangements in any market,
such partners or licensees' failure to generate revenues for the Company could
preclude the Company from generating any revenues in such geographical area or
with respect to a specific sport, as the case may be.

         There are certain risks inherent in doing business in international
markets, such as unexpected changes in regulatory requirements, tariffs and
other trade barriers, difficulties in staffing and managing foreign operations,
political instability, fluctuations in currency exchange rates, reduced
protection for intellectual property rights in some countries, seasonal
reductions in business activity during the summer months in Europe and certain
other parts of the world, and potentially


                                       9
<PAGE>   11

adverse tax consequences, any of which could have a material adverse impact upon
the success of the Company's international operations.

RESEARCH AND DEVELOPMENT

         The Company redesigned the L-VIS System operating software onto a new
"Flex-Card" hardware platform. This platform is more powerful than the Company's
prior platform and allows re-configuration. The Company has designed the
Flex-Card L-VIS System to provide multiple insertion capability, multiple camera
capability, an expanded zoom range and has created a simplified graphical
user-based interface. See Item 6, "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Research and Development",
regarding costs of research and development in each of the last two fiscal
years.

         The Company is continuing to improve existing software for use of the
L-VIS System during the broadcast of football games, baseball games, soccer
games, tennis matches and motor sports. Further, the Company is developing, or
intends to develop, software to permit use of the L-VIS System during the
broadcast of basketball games and golf. The Company also intends to make the
L-VIS System available for use with other events such as pay-per-view boxing and
concerts and award shows. The Company also believes that there may be important
applications of the Company's technology as it relates to these sports and
entertainment programs when viewed with interactive television and/or the
Internet. There can be no assurance that the Company will be able to prepare
such software applications or if prepared, that a successful business will
result.

COMPETITION

         PVI knows of three other organizations that have developed and are
continuing to develop processes and equipment to pursue an advertising business
similar to the Company's. These organizations are Symah Vision-SA ("Symah"),
Orad Hi Tech Systems Ltd. ("Orad") and SciDel Technologies Ltd. ("SciDel").
Symah is owned by the LaGardere Group, which controls Matra-Hachette, a large
French defense and publishing company. Symah has demonstrated its system
publicly and is actively marketing its system in Europe. The Company believes
that Symah's system has been used in Europe during the broadcast of at least 60
sporting events. Orad was founded in 1993 as part of the ORMAT Group, an Israeli
company originally established to create alternative energy power stations.
Orad, which is partly owned by ISL, a Swiss sports-marketing firm, has two
subsidiaries, Orad Inc. in the U.S. and Orad GmbH based in Germany. Orad's
primary business is virtual sets and Orad Inc. is responsible for the worldwide
marketing of Orad's virtual advertising system, "ImADgine". SciDel is a
subsidiary of Scitex, a large Israeli corporation that provides services in the
electronic imaging area primarily for the printing and publishing industries.
Both the Orad and SciDel systems have been used during some live commercial
broadcasts. Apart from the patents or patent applications that the Company owns
or licenses, the Company believes each of these competitors has one or more
patents or patent applications relating to real-time video insertion. Although
the Company believes that use of the L-VIS System does not infringe the United
States or other patents of third parties, there can be no assurance that
competitors will not initiate a patent infringement action against the Company.
The Company believes that the SciDel system violates its basic patents, and in
June 1999, filed suit for patent infringement in U.S. District Court in Delaware
against Scidel USA Ltd., the U.S. subsidiary of the Israeli Company, Scidel
Technologies Ltd. Scidel has responded by denying the charges and claiming that
the Company's patents are invalid.

         In addition, the Company is aware of one other U.S. company,
SportVision, which is using technology similar to that of the Company for
putting enhancements, such as a first down line in


                                       10
<PAGE>   12

football, into live broadcasts. SportVision has not been active in the
advertising part of the business.

         In addition to these known competitors, the Company also expects
substantial competition from established broadcast business participants, if the
market for video insertion technology, including virtual advertisements, proves
successful. These potential competitors will likely have substantially greater
financial, technical, marketing and other resources and many more highly skilled
individuals than does the Company. Furthermore, such potential competitors may
have greater name recognition and extensive customer bases that could be
utilized to gain significant market share, to the Company's detriment. The
Company's competitors may be able to produce superior products, including
products with new features, undertake more extensive promotional activities,
offer more attractive terms to customers and adopt more aggressive pricing
policies than the Company. There is no assurance that the Company will be able
to compete effectively with current or future competitors.

         In addition to the products of these competitors, the L-VIS System will
compete with advertisers' use of traditional 30-second advertising spots, which
remain the standard in the television advertising industry, and traditional
signage and sponsorship programs. The Company's revenues will be partially
dependent upon television sports advertisers allocating a portion of their
advertising budgets to use the L-VIS System. There can be no assurance that
advertisers will allocate their advertising expenses in the manner currently
anticipated by the Company.

         The L-VIS System will also compete with advertisers' use of
conventional billboard products, including advertising placed on playing
surfaces (such as outfield walls, football fields and soccer fields) and
scrolling billboards, physically located at the site of an event, which can
display sequentially a series of static advertisements. These scrolling
billboards are currently marketed and used in professional baseball, basketball
and other sports. These products achieve an effect that is similar to those
L-VIS System insertions that are static and two-dimensional, and their use
generally does not require broadcaster participation.

         During the 1999 MLB season, 24 MLB teams had scrolling billboards
located behind home plate. The existence of these scrolling billboards and other
advertising behind home plate currently limits the marketability of the L-VIS
System in baseball. The Company believes that one manufacturer of scrolling
billboards used in stadiums has included restraints in its contracts that
inhibit or prohibit the use of video insertion technology in television
broadcasts. Other agreements among advertisers, sponsors, syndicators,
promoters, broadcasters and cable operators may include similar provisions.
These restrictions may have a material adverse effect on the Company's business,
financial condition and results of operations.

         In the sports advertising arena, the Company expects to continue to
generate revenue primarily by attracting new advertisers and sponsors to the
sports advertising and sponsorship market and by causing existing advertisers
and sponsors to use the L-VIS System. There can be no assurance that total
advertising and sponsorship expenditures will increase as a result of the
availability of the L-VIS System. As the Company continues to compete for
television advertising and sponsorship dollars that are currently allocated to
traditional media, such as 30-second spots or scrolling billboards, the
competition is likely to become more intense. The Company will be able to
compete effectively with existing advertising and sponsorship alternatives only
with the cooperation of broadcasters and the advertising sales departments of
team owners and broadcasters, on which the Company must sometimes rely for sales
to advertisers. Because certain L-VIS System rights holders may also own
traditional television advertising rights or sponsorship rights, which may
provide such rights holders with a greater percentage of the revenues received
from the sale of such advertising or sponsorship rights than does the sale of
L-VIS System


                                       11
<PAGE>   13

advertisements, incentives may exist in some cases to sell alternative
advertising or sponsorship inventory prior to the sale of L-VIS System
advertising.

         With regard to placing images in syndicated and first run television
programs, the Company expects to generate revenue through agreements with the
program rights holders and distributors to place advertising logos or products
within the programs themselves, prior to distribution. Advertising imbedded in
the program may create conflicts with the broadcasters of the programs as it may
compete with traditional 30-second spot advertising sold by the broadcasters.
This in turn may affect the Company's ability to develop a robust business in
this area.

         In the case of program enhancements, the Company intends to make
available to the broadcasters a series of program enhancements which the
broadcaster can use to increase the audience appeal of its programs. The Company
expects to get a negotiated fixed fee for each use by the broadcaster of such
enhancements. There is no assurance that the enhancements which the Company has
developed or may develop in the future will be of sufficient value to the
broadcasters for the Company to generate substantial revenue therefrom.
Furthermore, competitors may drive down the fees to levels where the Company
cannot cover its costs of providing the enhancement services.

         The Company's development of products related to the Internet and
potential interactive television business is an area where a large number of
creative new companies and existing well financed companies have a significant
interest. PVI believes that its intellectual property offers an opportunity to
participate effectively in these new businesses. The Company's ability to play a
meaningful role will depend, in part, on its forming appropriate relationships
with existing industry players. There is no assurance that the Company's
potential products will be embraced by the industry or that the Company can
develop relationships necessary to create a successful business.

MANUFACTURING AND SUPPLY

         The Company has built 31 L-VIS System units (each, an "L-VIS Unit"), of
which approximately 22 are being used from time-to-time by customers, potential
customers or foreign marketing partners. An L-VIS Unit consists of standard
electronic equipment racks, containing both standard purchased components and
the Company's proprietary circuit boards, assembled and tested by Company
personnel. The Company is dependent upon a sole supplier, Lucent Technologies,
for certain of the hardware components. Although such hardware components are
stock items which are readily available to the public, there can be no assurance
that Lucent will continue to manufacture and sell the components. The Company is
not a party to any agreement with Lucent.

REGULATIONS

         The Company believes that no federal or state regulations currently
directly relate to or restrict the use of the L-VIS System. However, there can
be no assurance that there will not be any regulations or restrictions in the
future, which either directly, or indirectly through broadcaster regulations,
will adversely affect the use of the L-VIS System. Further, there can be no
assurance that regulatory agencies in foreign jurisdictions have not adopted, or
will not adopt in the future, regulations or restrictions affecting the use of
the L-VIS System. Such regulations or restrictions could have a material adverse
effect on the Company's business, financial condition and results of operation.



                                       12
<PAGE>   14

INTELLECTUAL PROPERTY

         PATENTS

         The Company has been assigned five issued U.S. patents. Patent No.
5,264,933, which relates to the Company's basic pattern recognition video
insertion technology, was issued on November 23, 1993, will expire on November
23, 2010 and was assigned to the Company on January 22, 1992. Patent No.
5,543,856, which relates to the use of remote insertion of images that might be
useful in a narrow casting application, was issued on August 6, 1996, will
expire on August 6, 2013 and was assigned to the Company on October 22, 1993.
Patent No. 5,627,915, which relates to a pattern recognition system using
templates, was issued on May 6, 1997, will expire on January 31, 2015 and was
assigned to the Company on January 30, 1995. Patent No. 5,808,695, which relates
to a method of tracking scene motion for live video insertion systems, was
issued on September 15, 1998 and will expire on December 29, 2015 and was
assigned to the Company on December 27, 1995. Patent No. 5,892,554, which
relates to inserting live and moving objects in to scenes, was issued to the
Company on April 6, 1999 and will expire on November 28, 2015, and was assigned
to the Company on March 31, 1998. The Company owns all right, title and interest
in each of the patents.

         To date, the Company has filed counterpart patent applications for the
five issued U.S. patents in the European Patent Office and in various
non-European countries around the world where it expects to do business. Three
patents have been allowed by the European Patent Office. Five new patent
applications are pending in various countries, including the United States, and
several more patent applications are in preparation.

         The Company believes its patents will be important in its future
business dealings, since it believes that any system that is able to deliver the
technical capabilities of the L-VIS System will depend on pattern recognition
technology and will, therefore, fall within the scope of PVI's issued patents.

         The validity and/or breadth of the Company's owned and licensed patents
generally may be tested in post-allowance court proceedings. There has been no
court test of any of the issued patents, the allowed patents or any of the
pending applications or foreign counterparts of the Company. The Company is
aware of other companies that have patents or patent applications in the field
of electronic video insertion technology. These companies or others may claim
that the Company infringes the patents or rights of such third parties, or these
third parties may infringe the Company's patents. In either event, if the
Company's patents or rights are brought before a court, litigation would involve
complex legal and factual issues, and the outcome, consequently, would be highly
uncertain. Furthermore, any patent litigation would entail considerable cost to
the Company, which would divert resources that otherwise could be used for its
operations and might be resolved in a manner that is unfavorable to the Company.
No assurance can be given that the Company or its licensors would be successful
in enforcing such rights, or that the Company's products or processes do not or
will not infringe the patent or intellectual property rights of a third party.
An adverse outcome in the defense of a patent infringement action could subject
the Company to significant liabilities to third parties, require the Company to
license disputed technology from third parties, if possible, or require it to
cease selling its products. In the event the Company's owned or licensed patents
were successfully challenged in court, its business, financial condition and
results of operations would be materially adversely affected.

         It is possible that one or more products developed by a competitor may
be marketed or used in a territory where the Company has patent protection.
Because an image inserted through use of


                                       13
<PAGE>   15

video insertion technology often appears as if it exists as a physical
advertisement at the site of a sporting event, it may be difficult to know
whether, and which, video insertion technology is being used with respect to any
televised sporting event. Thus, infringement of the Company's patents may be
difficult to monitor. The Company's failure to detect such an infringement may
have a material adverse effect on its business, financial condition and results
of operations. In the event the Company becomes aware of a potential patent
infringement, it may be forced to litigate to enforce its patent rights. Such a
situation exists with the SciDel company, which the Company believes is using
technology that infringes its patents and the Company has instituted a suit
against SciDel. Engaging in such an enforcement action may be protracted and
expensive and may have a material adverse effect on the Company's business,
financial condition and results of operations.

         Although the Company has no cause for belief that use of the L-VIS
System would infringe the United States or other patents of third parties, there
can be no assurance that competitors will not initiate a patent infringement
action against the Company. GDM, a Spanish media company that licensed the L-VIS
System for use in broadcasts in Spain and Portugal during a trial period which
ended December 1996, received a letter from a Symah affiliate asserting that use
of the L-VIS System in Spain would infringe one of Symah's patents. Although the
Company and GDM have been advised that use of the L-VIS System would not
infringe Symah's patent, there can be no assurance that Symah will not assert
infringement claims against the Company or its European licensees in the future.
One of the patents of which the Company is aware is U.S. Patent 5,353,392 (the "
'392 Patent"). The '392 Patent derives from the same patent application as does
the patent asserted by the Symah affiliate against the L-VIS System in Spain.
The '392 patent has not been asserted against the Company. The Company believes
that the L-VIS System does not infringe the '392 Patent. However, the Company
has not received during the past two years an opinion as to the non-infringement
of the '392 Patent. There can be no assurance that changes in the L-VIS System,
changes in applicable patent law or rulings by the U.S. Patent and Trademark
Office or the courts would not cause the L-VIS System to be found to infringe
the '392 Patent, which could have a material adverse effect on the Company's
business, financial condition and results of operations. If the L-VIS System
were found to infringe the '392 Patent or any other patent, the Company may be
required to modify the L-VIS System or enter into an arrangement to license such
patent, if possible. There can be no assurance that the Company would be able,
under such circumstances, to modify the L-VIS System or enter into a license
arrangement.

         If the L-VIS System were found to infringe any patent, the Company may
be required to modify the L-VIS System or enter into an arrangement to license
such patent, if possible. There can be no assurance that the Company would be
able, under such circumstance, to modify the L-VIS System or enter into a
license arrangement. The Company also relies in large part on unpatented trade
secrets, improvements and proprietary technology. Despite the Company's efforts
to safeguard and maintain its proprietary rights, there can be no assurance that
it will be successful in doing so or that its competitors will not independently
develop, reverse engineer or patent technologies that are substantially
equivalent or superior to its technologies.

         LICENSE GRANTS TO PVI

         The Company has entered into the following license agreements relating
to the L-VIS System:

         David Sarnoff Research Center, Inc. David Sarnoff Research Center, Inc.
("Sarnoff") has granted the Company a worldwide license to practice Sarnoff's
technology related to the electronic recognition of landmarks, including an
exclusive license covering the specific fields of television advertising and
television sports. The Company has also been granted a non-exclusive license for


                                       14
<PAGE>   16

use of the Sarnoff technology in all other fields relating to sports or
advertising, including video production, local video insertion, private
networks, medical and scientific applications and uses by the United States
Department of Defense or any other United States government agency. The Sarnoff
license will remain in effect until terminated by the Company, provided that the
Company remains current with respect to its royalty obligations to Sarnoff. The
Company may terminate the license at any time.

         During the term of the exclusive license for television advertising and
television sports applications, the Company is obligated to pay Sarnoff
royalties based upon a percentage of the Company's gross revenues. Royalties
accrue as earned, but the Company was not required to make any royalty payments
until January 1, 1999. These accrued royalties became due in January 1999 and
the first required payment was made to Sarnoff in April 1999. Under terms of
this agreement, commencing in January 1999, minimum quarterly royalties of
$100,000 became due in order to maintain the license. During the calendar years
1999 and 2000, the Company has the option of paying these minimum royalties in
cash or with the common stock of the Company and, accordingly, elected to issue
stock for royalties due for both the first and second quarter 1999.

         General Electric Company. General Electric Company ("GE") granted the
Company a five-year non-exclusive, worldwide license relating to all GE patents
on equipment for electronic recognition of selected landmarks; altering images
in television programs for advertising purposes; or any purpose in television
programs the principal focus of which is sports, as of July 1996.

         Theseus Research, Inc. Theseus Research, Inc. ("Theseus") has granted
the Company a non-exclusive, worldwide license to use and sell Theseus' patented
technology for the warping of images in real time. During the term of the
Theseus license, the Company is required to pay Theseus a royalty on net sales
of products, if any, that incorporate the Theseus technology. The Company has
paid Theseus an up front license fee of $50,000, which is creditable against
future obligations. The Company may terminate the Theseus license at any time.

         TRADEMARKS

         L-VIS(TM) is a trademark of the Company. The Company has filed a U.S.
trademark registration application for L-VIS, the mark under which the Company
is marketing its live video insertion products. The Company has settled an
opposition filed against the L-VIS trademark application. As soon as the U.S.
Patent and Trademark Office issues a Notice of Allowance, the Company will file
a Statement of Use with respect to the L-VIS mark. The Company believes that
trademark registration should issue shortly thereafter.

         C-TRAK(TM) is a trademark of the Company. The Company has filed a U.S.
trademark registration application for C-TRAK, the mark under which the Company
is marketing its electronic imaging system in which a part of the picture or
image in a prerecorded or live video signal is scanned, digitized, stored and
tracked to thereby maintain the position of one or more inserted images relative
to other parts of the main picture or image. On April 13, 1999, publication of
this application occurred, in response to which no oppositions were filed.
Accordingly, on July 6, 1999 a Notice of Allowance issued on this application.
Registration of this trademark will be completed upon the formal filing by the
Company of its Statement of Use for this mark. This filing has a pending January
6, 2000 due date, which date may be extended if necessary.

         COPYRIGHT AND TRADE SECRET

         The Company relies upon copyright and trade secret protection to
maintain the proprietary


                                       15
<PAGE>   17

nature of the computer software it develops that is not patented.

EMPLOYEES

         As of September 10, 1999, the Company had 54 full-time employees, 23 of
whom were engaged in, or directly supported, the Company's hardware and software
research, development and product engineering activities, 9 of whom assemble and
operate L-VIS Systems, 10 of whom were engaged in marketing activities and 12 of
whom were engaged in administrative activities. In addition, the Company
utilizes part-time employees and outside contractors and consultants as needed.
None of the Company's employees are represented by a labor union, and the
Company believes that its relations with its employees are good. The Company's
success depends on its ability to attract and retain qualified financial,
technical, marketing and other personnel for which it faces competition. The
loss of personnel could materially and negatively affect the Company's
operations.

         Currently, each of the Company's employees is required to execute an
agreement pursuant to which he or she assigns to the Company all patent rights
and technical or other information which pertain to the Company's business and
are developed by the employee during his or her employment with the Company, and
agrees not to disclose any trade secret or confidential information without the
prior consent of the Company.

ITEM 2.  DESCRIPTION OF PROPERTY.

         The Company leases 21,000 square feet of office space in Lawrenceville,
New Jersey, and 4,300 square feet of office space in New York City. The
Lawrenceville facility is the main operations center of the Company, including
product, hardware and software design, manufacturing and product assembly,
product test and documentation, post production and graphics, customer training
and customer technical support. The New York City office is the corporate
marketing center. The leases in Lawrenceville expire in September 2002, and the
New York City lease expires in May 2000.

ITEM 3.  LEGAL PROCEEDINGS.

         On June 18, 1999, the Company sued for patent infringement in U.S.
District Court in Delaware against Scidel USA Ltd., the U.S. subsidiary of the
Israeli company, Scidel Technologies Ltd. Scidel USA Ltd. has responded by
denying the charges and claiming that the Company's patents are invalid. The
Company is seeking a permanent injunction prohibiting infringement of its
patents.

ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF THE SECURITIES HOLDERS.

         Not Applicable.

                                     PART II

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

         (a) Prior to December 1997 there was no market for the Company's Common
Stock. Since December 16, 1997 the Common Stock has traded on the Nasdaq
National Market under the symbol "PVII." The following table sets forth, for the
calendar periods indicated, the range of high and low sale prices for the Common
Stock of the Company on the Nasdaq National Market:



                                       16
<PAGE>   18

<TABLE>
<CAPTION>
Period                                                       High           Low
------                                                       ----           ---
<S>                                                         <C>           <C>
1997
         4th Quarter (commencing December 16, 1997) ...     $9 1/2        $7 1/8

1998
         1st Quarter ..................................     $9 1/2        $6 1/4
         2nd Quarter ..................................      8 3/4         4 1/4
         3rd Quarter ..................................      6             2 5/16
         4th Quarter ..................................      6 5/16        1 15/16

1999
         1st Quarter ..................................     $5 31/32      $3 1/16
         2nd Quarter ..................................      8 3/4         4 1/2
</TABLE>



         As of September 10, 1999, there were 381 holders of record of the
Common Stock, with beneficial shareholders in excess of 400. On September 10,
1999, the last sale price reported on the NASDAQ National Market for the Common
Stock was $5.75 per share. The market prices of equity securities of technology
companies, such as PVI, have experienced substantial price volatility in recent
years for reasons both related and unrelated to the individual performance of
specific companies. Future sales of restricted securities (as defined under Rule
144 of the Securities Act of 1933 as amended), common stock under the Company's
Stock Option Plan, and outstanding warrants, in the public market could
adversely affect the stock price and the ability of the Company to raise funds
in new stock offerings. To date, there has been a relatively small number of
shares of Common Stock trading publicly. Shareholders may experience difficulty
selling or otherwise disposing of shares of Common Stock at favorable prices, or
at all.

         The continued listing of the Common Stock on the NASDAQ National Market
will be conditioned upon the Company's meeting certain asset, stock price and
other criteria set forth by such quotation system. If the Company fails any
listing criteria, the Common Stock may be delisted from quotation on such
system. The effects of delisting include the limited release of the market
prices of the Company's securities and limited news coverage of the Company. In
addition to the risk of possible delisting, low price stocks are subject to the
additional risks of federal and state regulatory requirements and the potential
loss of effective trading markets, including the "penny stock" rules under the
Securities Enforcement and Penny Stock Reform Act of 1990. In particular, if the
Common Stock were delisted from trading on an appropriate market, including the
NASDAQ National Market, and the trading price of the Common Stock were less than
$5.00 per share, the Common Stock could be subject to Rule 15g-9 under the
Exchange Act, which requires that broker-dealers satisfy special sales practice
requirements, including making individualized written suitability determinations
and receiving any purchaser's written consent, prior to any transaction.
Delisting and such additional regulatory requirements may restrict investors'
interest in the Common Stock and materially adversely affect the trading market
and prices for the Common Stock and the Company's ability to issue additional
securities or to secure additional financing.

         The Company has neither paid nor declared any dividends on the Common
Stock since its inception. The Company expects that it will retain all earnings,
if any, generated by its operations for the development and growth of its
business and does not anticipate paying any cash dividends to its shareholders
in the foreseeable future. The payment of future dividends on the Common


                                       17
<PAGE>   19

Stock and the rate of such dividends, if any, will be determined in light of any
applicable contractual restrictions limiting the Company's ability to pay
dividends, the Company's earnings, financial condition, capital requirements and
other factors deemed relevant by the Company's Board of Directors. Furthermore,
pursuant to its Restated Certificate of Incorporation, the Company is prohibited
from paying any dividends on the Common Stock until all accumulated dividends in
respect of the Series A Preferred Stock and Series B Preferred Stock have been
paid. As of June 30, 1999, the accrued dividends with respect to the shares of
Series A Preferred Stock and Series B Preferred Stock totaled $117,500 and
$139,750, respectively.

         The Company is required to redeem the Series A Preferred Stock on a pro
rata basis, at a price of $4.50 per share plus all accrued but unpaid dividends,
out of 30% of the amount, if any, by which the Company's annual net income after
taxes in any year exceeds $5 million, as shown on its audited financial
statements. Subject to the prior redemption of all of the Series A Preferred
Stock, the Company is required to redeem the Series B Preferred Stock, on a pro
rata basis, at a price of $5.00 per share plus all accrued but unpaid dividends
out of 20% of the amount, if any, by which the Company's annual net income after
taxes in any year exceeds $5 million, as shown on its audited financial
statements. See Note 12 of Notes to Financial Statements.

         (b) The Company commenced an initial public offering of its Common
Stock pursuant to a registration statement on Form SB-2 (Registration No.
333-37725) (the "Registration Statement"), which was declared effective by the
Securities and Exchange Commission on December 16, 1997. From the effective date
of the Registration Statement to June 30, 1999, the approximate amount of net
offering proceeds used was $5,206,000 for L-VIS System manufacturing and
deployment, $1,982,000 for research and development, $3,329,000 for repayment of
indebtedness and expenses related thereto (see Note 11 of Notes to Financial
Statements), $3,019,000 for capital expenditures, $2,346,000 for sales and
marketing, and $1,390,000 for working capital and general corporate purposes.

ITEM 6.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
         OF OPERATIONS.

OVERVIEW

         Since its inception in 1990, the Company has devoted substantially all
of its resources to developing and marketing its L-VIS(TM) System, an electronic
video insertion system based on patented proprietary technology that was
designed to modify broadcasts to television viewers by inserting electronic
video images, primarily advertisements. The Company has incurred substantial
operating losses since its inception and as of June 30, 1999, the Company had an
accumulated deficit of approximately $38,280,000. This deficit is the result of
research and development expenses incurred in the development and
commercialization of the Live Video Insertion System ("L-VIS(TM) System"),
expenses related to field testing of the L-VIS System and its deployment
pursuant to customer contracts, operating expenses relating to manufacturing,
sales and marketing activities of the Company, and general administrative costs.
The Company expects to incur losses in the next fiscal year as it continues to
roll out its business strategy of developing new products and increasing its
penetration of both the domestic and international markets in the field of
real-time virtual image insertion.

         The Company intends to focus its efforts on increasing market
acceptance of the L-VIS System by continuing to develop software applications,
such as animated insertions in event video streams, the virtual first-down line
in football and the virtual finish-line in horseracing, virtual product
placement in pre-recorded programming and Internet applications. In order to
increase its revenue


                                       18
<PAGE>   20

generating user base and to expand into national and international markets, the
Company continues to transition from a technology company to a marketing
company. The Company plans to increase its sales and marketing staff during the
fiscal year ending June 2000 and, accordingly, has hired an additional vice
president of marketing and sales. The Company's sales and marketing staff is
responsible not only for reaching agreements with teams, leagues and
broadcasters, but also for promoting the L-VIS System to advertisers in order to
create market awareness and acceptance. While purchases of advertising will
typically be done through the rights holder or the broadcaster, the Company
hopes to create advertiser interest and demand by promoting the L-VIS System
directly to potential advertisers. Therefore, the Company expects to incur
substantial additional losses and to experience substantial negative cash flow
from operating activities through the next 12 months or until such later time as
it achieves revenues sufficient to finance its ongoing capital expenditures and
operating expenses. The Company's ability to produce positive cash flow will be
determined by numerous factors, including its ability to reach agreements with,
and retain, customers for use of the L-VIS System, as well as various factors
outside of its control.

         The Company expects to continue generating revenue from ads sold by
rights holders that use the L-VIS System. These revenues are expected to be
shared with the rights holders. Accordingly, in order to generate revenues from
the use of the L-VIS System, the Company will need to enter into agreements with
rights holders. The agreements can take various forms, including revenue sharing
agreements under which the Company receives a percentage of the fee paid by the
advertisers and contractual arrangements whereby the Company receives an agreed
upon fee for its services. The Company realizes revenues when the advertisement
runs over the air. Due to the seasonal nature of the sporting events themselves,
the Company's revenue will fluctuate seasonally. However, this seasonality may
be moderated by the multi-sport capabilities of the L-VIS System and its use in
non-sporting events.

         In addition to the revenue arising from advertising and contractual
arrangements, a second revenue source is the strategic licensing of the L-VIS
System to third parties. These licenses may be territorial in nature or they may
cover individual major broadcast events. In the case of a territorial license,
the licensee is responsible for generating business within the territory and the
Company will share in the business through one or more means including
royalties, license fees, and/or equity participation in the licensee. In the
case of individual events, the Company may receive a flat fee or a fee based on
revenues generated by the licensee, depending on the nature of the license.

         During the fiscal year ended June 30, 1999, the Company expanded the
services provided by the L-VIS System to include the electronic insertion of
visual aids in live sporting events, such as a virtual first-down line in
football games, a virtual finish-line in horse races and animated graphics in
the broadcast of Super Bowl XXXIII. The Company also offers an advanced
post-production product whereby the L-VIS System technology can place products
within existing, pre-recorded television programs or movie scenes. The Company
expects to realize revenues through contractual arrangements to provide these
visual enhancements.

RESULTS OF OPERATIONS

COMPARISON OF FISCAL YEAR ENDED JUNE 30, 1999 AND FISCAL YEAR ENDED JUNE 30,
1998

         REVENUES. Revenues include receipts from advertising use of the L-VIS
System, contractual arrangements made with customers for visual aids and program
enhancements, and license and royalty fees earned from use of the L-VIS System
outside the United States. Total revenue increased 76% to $1,222,213 during the
fiscal year ended June 30, 1999 ("Fiscal 1999")


                                       19
<PAGE>   21

from $696,012 for the fiscal year ended June 30, 1998 ("Fiscal 1998"). Of this
total, advertising and production revenue increased 114% to $694,528 in Fiscal
1999 from $324,789 in Fiscal 1998 as a result of several factors including (i)
an increase in the number of major league baseball teams using the L-VIS System
and the amount of advertising revenues produced from each team, (ii) the initial
use of the L-VIS System for the electronic insertion of the virtual first-down
market in various NFL football games broadcast live by CBS Sports and the
virtual finish-line in several NTRA events, (iii) an increase in the number of
NFL football teams using the L-VIS System and the amount of advertising revenues
produced from each team during the 1998 pre-season, (iv) the initial use of the
L-VIS System in the NFL Europe World Bowl, and (v) increased usage of the L-VIS
System for post-production activities by inserting electronic images into taped
programming. Revenues from license and royalty fees increased 42% to $527,685 in
Fiscal 1999 from $371,223 in Fiscal 1998 as a result of increased international
activity, the restructuring of a licensing agreement with Publicidad Virtual
S.A. de C.V. allowing the Company to share in revenues generated by Publicidad,
and the signing of Sasani Limited as the Company's exclusive licensee in South
Africa.

         SELLING, GENERAL AND ADMINISTRATIVE. Selling, general and
administrative expenses include selling and marketing expenses, including
salaries of sales and marketing personnel, their travel expenses, advertising
and expenses associated with customer support, and general and administrative
expenses, including salaries of support personnel, allocated rent and operating
costs and legal and accounting fees. Selling, general and administrative
expenses increased 27% to $5,911,427 in Fiscal 1999 from $4,652,384 in Fiscal
1998, as a result of numerous factors including (i) hiring of executive,
accounting and marketing personnel, (ii) increased market research, trade show
and public relations activity to support the Company's increased focus on the
sales and marketing of the L-VIS System, (iii) increased investor relations
activity, (iv) license fees paid to obtain certain international broadcast and
programming rights, and (v) increased legal and accounting expenses relating to
the preparation of the Company's post-effective amendment filed with the
Securities and Exchange Commission in November 1998. These increases were
partially offset by a decrease in charges associated with option and warrant
grants.

         RESEARCH AND DEVELOPMENT. Research and development expenses include the
costs associated with all personnel, materials and contract personnel engaged in
research and development activities to increase the capabilities of the L-VIS
System hardware platforms, including platforms for overseas use, and to create
improved software programs for individual sports and program enhancements.
Research and development expenses decreased 12% to $1,508,875 in Fiscal 1999
from $1,719,703 in Fiscal 1998 as a result of the continued shift in spending
from the development of an enhanced search system for the basic L-VIS System
platform and other ongoing research and development projects to product costs.
This shift was due to the December 1997 attainment of technological feasibility
of a flex board based L-VIS System, resulting in the capitalization of flex
board purchases made in Fiscal 1999 to upgrade all existing L-VIS Systems. Flex
related purchases had been expensed in Fiscal 1998 during the development phase.
Research and development expenses incurred during Fiscal 1999 continue to
reflect the Company's efforts to develop new software and hardware platforms for
the L-VIS System through the integration of newly available technologies
including the Internet and High Definition Television or HDTV.

         L-VIS SYSTEM COSTS. L-VIS System costs include the costs associated
with the material production, depreciation and operational support of the L-VIS
System units, including training costs for operators and the shipping of L-VIS
System units to international and domestic venues. L-VIS System costs increased
80% to $4,431,759 in Fiscal 1999 from $2,456,019 in Fiscal 1998 for several
reasons, including (i) an increase in depreciation expense associated with the
purchase of L-VIS System components for system upgrades and newly constructed
systems to be used in both domestic and international venues, (ii) costs
associated with the testing and initial use of the L-VIS


                                       20
<PAGE>   22

System for the electronic insertion of the virtual first-down marker in various
NFL games broadcast by CBS Sports and the virtual finish-line in several NTRA
events, (iii) use of the L-VIS System in both the international and domestic
broadcast of Super Bowl XXXIII, and (iv) an increase in personnel and related
overhead expenses. In addition, license fees which the Company has to pay based
on revenues earned, or contractual minimums, have increased.

         INTEREST AND OTHER FINANCIAL EXPENSE. Interest and other financial
expense decreased to $0 in Fiscal 1999 from $1,814,178 in Fiscal 1998 as the
interest costs incurred in connection with the Company's October 1997 bridge
loan financing were paid in full in December 1997.

         INTEREST AND OTHER INCOME. Interest and other income increased 13% to
$975,850 in Fiscal 1999 from $861,948 in Fiscal 1998 as a result of the full
year effect of increased funds available to invest from the proceeds of the
Bridge Loan in October 1997 and the initial public offering of common stock in
December 1997. Also included in Fiscal 1999 were net proceeds in the amount of
$96,800 from the Stock Purchase Agreement settlement between the Company,
Presencia and Eduardo Sitt.

         NET LOSS. As a result of the foregoing factors, the Company's net loss
increased 6% to $9,698,048 in Fiscal 1999 from $9,128,374 in Fiscal 1998.

YEAR 2000 RISK COMPLIANCE

         Many currently installed computer systems have been programmed to use a
two-digit number to represent the year (e.g. "99" for "1999"). To ensure that
automated processes will correctly identify "00" as the year "2000" rather than
"1900", all date code fields need to recognize four digit entries in order to
identify correctly dates in the 21st century. If not corrected, many computer
applications could fail or create erroneous results at the year 2000. This
potential problem has been termed "Y2K".

         The Company realizes that Y2K planning is essential to its continued
success and in November 1998 created a detailed Y2K project plan (the "Project")
to identify potential issues with date sensitive processes. The Project
encompasses all computer hardware and software systems, all electrical and
communication systems and all external dependencies on services provided by
companies to PVI as well as services PVI provides to its customers. The Project
was led by the Manager of Management Information Systems ("MIS") with personnel
from each of the other Company departments assisting. The Project has the
complete support and commitment of executive management and the Board of
Directors who have been kept current on the progress of the Y2K Project.

         The Y2K Project was formulated to identify, correct, implement and test
all internal and external systems for full Y2K compliance and was divided into
the following six phases:

                  I.       Identification of Systems affected by the Y2K Event
                           and submission of such a list to the Project leader.

                  II.      Development of a testing, checking and certification
                           mechanism for all systems identified in 1 above.

                  III.     Implementation of testing plans according to a
                           specific time-line.

                  IV.      Development and implementation of remedial action for
                           all systems found to be non-Y2K compliant.

                  V.       Intermediate reporting

                  VI.      Issuance of final report



                                       21
<PAGE>   23

         Initial efforts were heavily focused in the information technology area
and the Y2K team spent a considerable amount of time performing an inventory of
all computer systems that support PVI's business processes. As of March 31,
1999, a comprehensive list of all systems and services affected by the Y2K event
had been prepared. This list included communication and satellite lines,
computers manufactured by third parties as well as specialized and embedded
hardware designed by the Company. Also included were electric, heating, security
and communications systems, and all software produced by the Company, both
internally and for use by our customers. This list was reviewed and prioritized
by the Project leader and Company department heads, completing Phase I.

         A diagnostic software package, designed to analyze Y2K compliance
programs, was selected and installed on all in-house computer systems and
distributed to all remote L-VIS locations. This application enabled the Company
to determine both hardware and software Y2K compliance. In order to be labeled
"Y2K Certified" verification that the following tests were performed and passed
was required:

                  1.       BIOS Certification: to ensure computer hardware is
                           capable of handling year 2000 dates as well as leap
                           years through the year 2015.

                  2.       OS Certification: to ensure Y2K compliance of the
                           computer's operating system.

                  3.       Application and Data Certification: to ensure
                           specific application and data compliance. This
                           includes internally developed software as well as
                           vendor-supplied software. A custom database was
                           developed to store the results of all tests
                           performed. This completed Phase II.

         As of June 30, 1999, all in-house computers as well as all remote L-VIS
Systems had been tested. Both BIOS Certification and OS Certification tests have
been completed and the hardware has been certified as Y2K compliant. Several
computer systems were found to be "non-upgradable" and have been replaced. All
core software applications have been tested for full Y2K compliance, remedied
and/or upgraded as necessary. All accounting and financial reporting systems
used by the Company have been upgraded and tested and are certified as Y2K
compliant. All data has been scanned and full documentation has been recorded
and is stored in a custom database used to track compliance.

         With respect to the status of building and maintenance systems, all
electrical and communications systems used by the Company have been certified as
Y2K compliant either by internal review (i.e. voice mail, fax and telephone
systems) or by verification from the service provider (i.e. security system,
heat and air conditioning, electrical and satellite communication systems).

         The Company's proprietary L-VIS System relies on time (i.e. hour and
minute) sensitive software coding, but it is not date sensitive and is,
therefore, not believed by the management of the Company to be subject to Y2K
compliance problems. The manufacture and use of the L-VIS System, however,
requires the cooperation of external suppliers and outside broadcasters. As part
of the Company's formal review process of the Y2K readiness of these external
parties, the Company began a program in the second quarter of 1999 for
determining the Y2K readiness of our vendors, service providers and major
customers and the compatibility of system interfaces for electronic business
transactions. We identified all vendors, service providers and customers and
prioritized them according to their significance to our operations. We then
wrote to all significant


                                       22
<PAGE>   24

parties to determine their Y2K readiness. To date, we have received responses
from approximately 80% of those requested stating they are currently compliant
or will be compliant before Year 2000. Although no assurance can be given that
all of the Company's major suppliers' systems will be Y2K compliant, based on
these communications, we do not anticipate any significant interruptions in the
flow of goods and services from our major suppliers or disruptions in the
planned operations of the Company.

         Costs related to the identification and remediation of Y2K compliance
issues for internal software, information systems, databases and programs have
not been material. The costs of internal staff working on modifying, upgrading
and testing systems, as well as new or upgraded software including Y2K
diagnostic software are being expensed as incurred. The cost of replacement
computer systems are being capitalized and depreciated in accordance with the
Company's normal accounting policies as Y2K compliance is an incidental benefit
expected from these systems. The primary reasons for installing these
replacement systems include productivity gains and improved customer service.
Total costs related to Y2K compliance, including actual costs incurred to date,
are expected to be less than $100,000.

         Contingency planning is a critical component in the Company's Y2K
planning. As part of this planning, we will continue to watch and test for
software and hardware problems. The Company has identified and is currently
developing procedures whereby all accounting functions can continue by manual
processing, if necessary, in order to continue operations if there are any Y2K
disruptions. Of critical importance to the Company is access to its e-mail
system which requires continuous service from external Internet service
providers ("ISP's"). In order to minimize this risk, the Company has developed
plans to maintain accounts with multiple ISP's so that e-mail access will not
been curtailed, even on a temporary basis. The Company also has plans to set up
extensive backup systems including tape and disk backup systems and servers
whose sole responsibility will be to act as a mail server or to mirror other
servers to ensure data is not lost and processing continues. These backup
procedures will be performed to ensure that the Company's internal development
software and source code will be stored locally on certain select machines and
accessible even if problems occur with the Company's main network system.

         The Company will continue its assessment of the readiness of its
vendors, suppliers, customers and business partners and will develop appropriate
contingency plans that address the most reasonably likely worst case scenarios
resulting from a Y2K failure.

         The Company's goal is to enter the year 2000 without interrupting or
degrading the services we provide our clients. It is our intention to use the
remainder of 1999 to continue our testing processes and perform quality
assurance checks on all systems. To the extent that the Company's suppliers and
broadcast partners prove to have Y2K compliance problems, however, the planned
operations of the Company could be significantly disrupted. The Company may not
be able to provide customers with the services requested. This could have a
material adverse effect on the Company's business, financial condition and
planned results of operations. Although management is currently unable to
quantify the impact of this potential disruption on its future earnings, the
Company is making its best effort to minimize the risks associated with Y2K
problems.

LIQUIDITY AND CAPITAL RESOURCES

         The Company has incurred significant operating losses and negative cash
flows in each year since it commenced operations, due primarily to (i) start-up
costs, (ii) the costs of developing, testing and building L-VIS Systems, and,
(iii) operating expenses relating to sales and marketing activities of the
Company. Since its inception, the Company has primarily financed its operations


                                       23
<PAGE>   25

from (i) the net proceeds of approximately $19,700,000 from private placements
of Common Stock, warrants and redeemable preferred stock, (ii) the payment of a
$2,000,000 licensing fee by Presencia in consideration of the license granted by
the Company to Publicidad, (iii) the proceeds of a bridge loan financing which
closed in October 1997, (iv) the proceeds from the initial public offering of
its Common Stock which closed in December 1997, (v) revenues and license fees
relating to use of the L-VIS System, and (vi) investment income earned on cash
balances and short term investments.

         As of June 30, 1999, the Company had cash and cash equivalents of
$12,494,373, a decrease of $9,058,254 from June 30, 1998. Net cash used in
operating activities decreased to $6,018,113 in Fiscal 1999 from $8,483,778 in
Fiscal 1998, however, due in large part to increased non-cash expenses including
depreciation, amortization and unearned revenue. Depreciation expense increased
a significant 58% to $1,249,235 in Fiscal 1999 from $793,043 in Fiscal 1998 as a
result of the increased number of L-VIS Systems built for both domestic and
international use. Amortization of intangibles increased to $911,103 in Fiscal
1999 from $76,143 in Fiscal 1998 due to the purchase by the Company of certain
electronic imaging license rights which are being amortized over their term.
Unearned revenue increased due to increased international activity in Latin
America and South Africa. Charges associated with option and warrant grants
decreased in Fiscal 1999 to $129,973 from $473,562 in Fiscal 1998.

         Net cash used in investing activities increased 30% to $3,045,978 for
the year ended June 30, 1999 from $2,336,324 during the prior year period as a
result of increased capital expenditures for the purchase of both components
used in the building of additional L-VIS Systems and the upgrade of existing
systems to the second generation flex-based L-VIS System. In addition, the
Company is required to make periodic payments during fiscal years ending June
30, 1999 and 2000 totalling approximately $2,000,000 as payment for certain
electronic imaging license rights. Of this total, $400,000 was paid during
Fiscal 1999.

         Net cash proceeds from financing activities decreased to $5,837 in
Fiscal 1999 from $31,597,036 in Fiscal 1998, for several reasons. Cash provided
during the year ended June 30, 1998 was the result of the collection of stock
subscriptions receivable, the exercise of warrants issued in connection with a
bridge financing and the proceeds from the Company's initial public offering of
Common Stock in December 1997. In Fiscal 1999 the Company used these cash
balances to fund operations and did not close any additional capital raising
activities.

         The Company believes that its existing available cash, cash equivalents
and short-term investments will be sufficient to meet its capital needs for a
period of fifteen months, although there can be no assurance that the Company
will not require additional funds sooner. The Company's actual working capital
requirements will depend on numerous factors, including the progress of the
Company's research and development programs, the Company's ability to maintain
its customer base and attract new customers to use the L-VIS System, the level
of resources the Company is able to allocate to the development of greater
marketing and sales capabilities, technological advances and the status of its
competitors. The Company expects to incur costs and expenses in excess of
expected revenues during the ensuing fiscal year as the Company continues to
execute its business strategy by adding to its sales and marketing management
force in its efforts to strengthen relationships with rights holders,
broadcasters and advertisers.

         There is no assurance the Company will generate sufficient cash flow
from product sales to liquidate liabilities as they become due. Accordingly, the
Company may require additional funds to meet planned obligations through June
30, 2000 and may seek to raise such amounts through a variety of options. These
include future cash from operations, proceeds from equity financings,


                                       24
<PAGE>   26

proceeds from equipment financing lease arrangements and the potential sale of
tax benefits relating to the Company's net operating losses. In the event the
Company is unable to liquidate its liabilities, planned operations may be scaled
back. Additional funding may not be available when needed or on terms acceptable
to us, which could have a material adverse effect on our business, financial
condition and results of operations. If adequate funds are not available we may
delay or eliminate some expenditures. The financial statements do not include
any adjustments that might result from the outcome of these uncertainties.

         As of June 30, 1999, the Company had net operating loss carryforwards
for federal income tax purposes of approximately $30,311,000 which expire in the
years 2006 through 2019. Based upon the Company's initial public offering of
Common Stock in December 1997, the Company has undergone an additional
"ownership change" within the meaning of Section 382 of the Internal Revenue
Code of 1986, as amended (the "Code"). Under Section 382 of the Code, upon
undergoing an ownership change, the Company's right to use its then existing net
operating loss carryforwards as of the date of the ownership change is limited
during each future year to a percentage of the fair market value of the
Company's then outstanding capital stock immediately before the ownership change
and if other ownership changes have occurred prior to this ownership change, the
utilization of such losses may be further limited. The timing and manner in
which the net operating loss carryforwards may be utilized in any year by the
Company will be limited by Section 382 of the Code.

EFFECT OF INFLATION

         Domestic inflation has not had a significant impact on the Company's
sales or operating results. However, inflation may have an impact upon business
in a number of international markets.

ITEM 7.  FINANCIAL STATEMENTS.

         The financial statements required to be filed pursuant to this Item 7
are appended to this Annual Report on Form 10-KSB. A list of the financial
statements filed herewith is found at "Index to Financial Statement and
Schedules" on page F-1.

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

         Not Applicable.

                                    PART III

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

         For information concerning this Item, see the information under
"Election of Directors," "Executive Officers" and "Section 16(a) Beneficial
Owner Reporting Compliance" in the Company's Proxy Statement to be filed with
respect to the Annual Meeting of Shareholders to be held on December 3, 1999,
which information is incorporated herein by reference.

ITEM 10. EXECUTIVE COMPENSATION.

         For information concerning this Item, see the information under
"Executive Compensation" in the Company's Proxy Statement to be filed with
respect to the Annual Meeting of Shareholders


                                       25
<PAGE>   27

to be held on December 3, 1999, which information is incorporated herein by
reference.

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

         For information concerning this Item, see the information under
"Security Ownership of Certain Beneficial Owners and Management" in the
Company's Proxy Statement to be filed with respect to the Annual Meeting of
Shareholders to be held on December 3, 1999, which information is incorporated
herein by reference.

ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

         For information concerning this Item, see the information under
"Certain Relationships and Related Transactions" in the Company's Proxy
Statement to be filed with respect to the Annual Meeting of Shareholders to be
held on December 3, 1999, which information is incorporated herein by reference.

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

         (a)      Exhibits.

                  The exhibits required to be filed pursuant to this Item 13(a)
are listed on the "Index to Exhibits" attached hereto, which is incorporated
herein by reference.

         (b)      Reports on Form 8-K.

         The Company filed a current report on Form 8-K dated April 5, 1999, a
Form 8-K which reported an Amendment Agreement, dated as of January 1, 1999,
with Publicidad Virtual, S.A. de C.V. ("Publicidad"), amending the terms of the
License Agreement dated March 1, 1994 between the Company and Publicidad. Also
reported was a Stock Purchase Agreement, dated as of January 1, 1999, with
Presencia en Medios, S.A. de C.V. ("Presencia") and Eduardo Sitt, a principal
shareholder of Presencia and director of the Registrant.




                                       26
<PAGE>   28

                                    SIGNATURE

         In accordance with Section 13 or 15(d) of the Securities Exchange Act
of 1934, as amended, the registrant caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.

                                   PRINCETON VIDEO IMAGE, INC.

                                   By: /s/ Brown F Williams
                                       -------------------------
                                           Brown F Williams
                                           Chairman of the Board

                                   Date: September 24, 1999

         In accordance with the Securities Exchange Act of 1934, as amended,
this report has been signed by the following persons on behalf of the registrant
and in the capacities and on the dates indicated.

<TABLE>
<CAPTION>
SIGNATURES                           TITLE                                         DATE
----------                           -----                                         ----
<S>                                  <C>                                           <C>
/s/ Brown F Williams                 Chairman of the Board                         September 24, 1999
-----------------------              (principal executive officer)
    Brown F Williams

/s/ Dennis P. Wilkinson              President, Chief Executive Officer            September 24, 1999
-----------------------                and Director
    Dennis P. Wilkinson

/s/ Lawrence L. Epstein              Chief Financial Officer and Treasurer         September 24, 1999
-----------------------              (principal financial officer and
    Lawrence L. Epstein                principal

/s/ John B. Torkelsen                Director                                      September 23, 1999
-----------------------
    John B. Torkelsen

/s/ Lawrence Lucchino                Director                                      September 24, 1999
-----------------------
    Lawrence Lucchino

/s/ Jerome J. Pomerance              Director                                      September 23, 1999
-----------------------
    Jerome J. Pomerance

/s/ Enrique B. Senior                Director                                      September 24, 1999
-----------------------
    Enrique B. Senior

/s/ Eduardo Sitt                     Director                                      September 14, 1999
-----------------------
    Eduardo Sitt
</TABLE>



                                       27
<PAGE>   29

                                INDEX TO EXHIBITS

Exhibit
Number                     Description

3.1 --            Restated Certificate of Incorporation (Incorporated by
                  reference to Exhibit 3.1 to the Company's Registration
                  Statement on Form SB-2 (Registration No. 333-37725) which
                  became effective on December 16, 1997).

3.2 --            Restated Bylaws, as amended (Incorporated by reference to
                  Exhibit 3.2 to the Company's Quarterly Report on Form 10-QSB
                  for the quarter ended December 31, 1998, filed on February 12,
                  1999).

10.1+ --          Amended 1993 Stock Option Plan (Incorporated by reference to
                  Exhibit 10.1 to the Company's Registration Statement on Form
                  SB-2 (Registration No. 333-37725) which became effective on
                  December 16, 1997).

10.2 --           Form of Employee Confidentiality, Invention Assignment and
                  Non-Compete Agreement (Incorporated by reference to Exhibit
                  10.2 to the Company's Registration Statement on Form SB-2
                  (Registration No. 333-37725) which became effective on
                  December 16, 1997).

10.3 --           Form of Consultant Confidentiality, Invention Assignment and
                  Non-Compete Agreement (Incorporated by reference to Exhibit
                  10.3 to the Company's Registration Statement on Form SB-2
                  (Registration No. 333-37725) which became effective on
                  December 16, 1997).

10.4* --          Research Agreement dated November 1, 1990 between the Company
                  and David Sarnoff Research Center, Inc., as amended by
                  Agreement dated August 9, 1991, letter dated July 1, 1992,
                  Letter Agreement dated July 9, 1992, letter dated November 30,
                  1992 and Agreement dated June 26, 1995 and effective as of
                  December 31, 1993 (Incorporated by reference to Exhibit 10.4
                  to the Company's Registration Statement on Form SB-2
                  (Registration No. 333-37725) which became effective on
                  December 16, 1997).

10.5* --          License Agreement dated as of July 24, 1996 between the
                  Company and the General Electric Company (Incorporated by
                  reference to Exhibit 10.5 to the Company's Registration
                  Statement on Form SB-2 (Registration No. 333-37725) which
                  became effective on December 16, 1997).

10.6 --           Letter Agreement dated May 1, 1993 between the Company and
                  Grupo Sitt, as amended by Letter Agreement dated June 25, 1993
                  (Incorporated by reference to Exhibit 10.6 to the Company's
                  Registration Statement on Form SB-2 (Registration No.
                  333-37725) which became effective on December 16, 1997).

10.7 --           License Agreement dated as of March 1, 1994 between the
                  Company and Publicidad Virtual, S.A. de C.V. (Incorporated by
                  reference to Exhibit 10.7 to the Company's Registration
                  Statement on Form SB-2 (Registration No. 333-37725) which
                  became effective on December 16, 1997).

                                       28
<PAGE>   30

10.8 --           Letter Agreement dated February 3, 1995 between the Company
                  and Capital Cities/ABC, Inc., as amended by Letter Agreement
                  dated August 29, 1996 between the Company and ESPN, Inc. and
                  by letter dated April 22, 1996 (Incorporated by reference to
                  Exhibit 10.8 to the Company's Registration Statement on Form
                  SB-2 (Registration No. 333-37725) which became effective on
                  December 16, 1997).

10.9 --           License Agreement dated December 18, 1995 between the Company
                  and Theseus Research, Inc. (Incorporated by reference to
                  Exhibit 10.9 to the Company's Registration Statement on Form
                  SB-2 (Registration No. 333-37725) which became effective on
                  December 16, 1997).

10.10 --          Second Amended and Restated Registration Rights Agreement
                  dated as of February 2, 1996, as amended by agreement dated
                  October 20, 1997 and by agreement dated October 30, 1997
                  (Incorporated by reference to Exhibit 10.10 to the Company's
                  Registration Statement on Form SB-2 (Registration No.
                  333-37725) which became effective on December 16, 1997).

10.11+ --         Employment Agreement dated January 24, 1997 between the
                  Company and Brown F Williams (Incorporated by reference to
                  Exhibit 10.11 to the Company's Registration Statement on Form
                  SB-2 (Registration No. 333-37725) which became effective on
                  December 16, 1997).

10.12+ --         Employment Agreement dated January 24, 1997 between the
                  Company and Douglas J. Greenlaw (Incorporated by reference to
                  Exhibit 10.12 to the Company's Registration Statement on Form
                  SB-2 (Registration No. 333-37725) which became effective on
                  December 16, 1997).

10.13+ --         Employment Agreement dated March 4, 1997 between the Company
                  and Samuel A. McCleery (Incorporated by reference to Exhibit
                  10.13 to the Company's Registration Statement on Form SB-2
                  (Registration No. 333-37725) which became effective on
                  December 16, 1997).

10.14 --          Lease Agreement dated April 21, 1997 between the Company and
                  1325 Limited Partnership (Incorporated by reference to Exhibit
                  10.14 to the Company's Registration Statement on Form SB-2
                  (Registration No. 333-37725) which became effective on
                  December 16, 1997).

10.15 --          Lease Agreement dated July 16, 1997 between the Company and
                  Princeton South at Lawrenceville One (Incorporated by
                  reference to Exhibit 10.20 to the Company's Registration
                  Statement on Form SB-2 (Registration No. 333-37725) which
                  became effective on December 16, 1997).

10.16 --          Nonrecourse Promissory Note dated July 31, 1997 of Brown F
                  Williams in favor of the Company (Incorporated by reference to
                  Exhibit 10.21 to the Company's Registration Statement on Form
                  SB-2 (Registration No. 333-37725) which became effective on
                  December 16, 1997).

10.17 --          Pledge Agreement dated July 31, 1997 between the Company and
                  Brown F Williams (Incorporated by reference to Exhibit 10.22
                  to the Company's Registration Statement on Form SB-2
                  (Registration No. 333-37725) which became effective on
                  December 16, 1997).



                                       29
<PAGE>   31

10.18 --          Nonrecourse Promissory Note dated July 31, 1997 of Samuel A.
                  McCleery in favor of the Company (Incorporated by reference to
                  Exhibit 10.23 to the Company's Registration Statement on Form
                  SB-2 (Registration No. 333-37725) which became effective on
                  December 16, 1997).

10.19 --          Pledge Agreement dated July 31, 1997 between the Company and
                  Samuel A. McCleery (Incorporated by reference to Exhibit 10.24
                  to the Company's Registration Statement on Form SB-2
                  (Registration No. 333-37725) which became effective on
                  December 16, 1997).

10.20 --          Assignment dated January 22, 1992 by Roy Jonathon Rosser and
                  Martin Leach to the Company regarding a patent (Incorporated
                  by reference to Exhibit 10.25 to the Company's Registration
                  Statement on Form SB-2 (Registration No. 333-37725) which
                  became effective on December 16, 1997).

10.21 --          Assignment dated October 22, 1993 by Roy Jonathon Rosser and
                  Brown F Williams to the Company regarding a patent
                  (Incorporated by reference to Exhibit 10.26 to the Company's
                  Registration Statement on Form SB-2 (Registration No.
                  333-37725) which became effective on December 16, 1997).

10.22 --          Assignment dated January 30, 1995 by Roy Rosser, Subhodev Das,
                  Yi Tan and Peter von Kaenel to the Company regarding a patent
                  (Incorporated by reference to Exhibit 10.27 to the Company's
                  Registration Statement on Form SB-2 (Registration No.
                  333-37725) which became effective on December 16, 1997).

10.23+ --         Employment Agreement, dated as of February 5, 1998, between
                  the Company and Lawrence Epstein (Incorporated by reference to
                  Exhibit 10.1 to the Company's Current Report on Form 8-K filed
                  with the Securities and Exchange Commission on February 11,
                  1998).

10.24+ --         Letter Agreement dated May 22, 1998 between the Company and
                  Douglas J. Greenlaw amending Employment Agreement dated
                  January 24, 1997 (Incorporated by reference to Exhibit 10.24
                  to the Company's Annual Report on Form 10-KSB filed with the
                  Securities and Exchange Commission on September 28, 1998).

10.25* --         Letter Agreement dated November 5, 1998 between the Company
                  and CBS Sports, a division of CBS Broadcasting, Inc.
                  (Incorporated by reference to the Company's Current Report on
                  Form 8-K filed with the Securities and Exchange Commission on
                  November 17, 1998).

10.26 --          Employment Agreement dated November 23, 1998 between the
                  Company and Dennis P. Wilkinson (Incorporated by reference to
                  the Company's Current Report on Form 8-K filed with the
                  Securities and Exchange Commission on December 2, 1998).

10.27 --          Amendment Agreement dated January 1, 1999 between the Company
                  and Publicidad Virtual, S.A. de C.V. amending the License
                  Agreement dated March 1, 1994 (Incorporated by reference to
                  the Company's Current Report on Form 8-K filed with the
                  Securities and Exchange Commission on April 5, 1999).

10.28 --          Stock Purchase Agreement dated January 1, 1999 between the
                  Company, Presencia en Medios, S.A. de C.V. and Eduardo Sitt.
                  (Incorporated by reference to the


                                       30
<PAGE>   32

                  Company's Current Report on Form 8-K filed with the Securities
                  and Exchange Commission on April 5, 1999).

10.29* --         Binding Letter of Intent between NFL International, a division
                  of NFL Enterprises L.P., and the Company, executed on January
                  6, 1999 (Incorporated by reference to Exhibit 10.2 to the
                  Company's Quarterly Report on Form 10-QSB for the quarter
                  ended December 31, 1998, filed on February 12, 1999).

10.30* --         System License Agreement dated January 19, 1999 between Sasani
                  Limited and the Company (Incorporated by reference to Exhibit
                  10.3 to the Company's Quarterly Report on Form 10-QSB for the
                  quarter ended December 31, 1998, filed on February 12, 1999).

23.1 --           Consent of Independent Accountants

27.1 --           Financial Data Schedule.

-----------

         * Confidentiality has been granted with respect to a portion of this
           exhibit.

         + Denotes a management contract or compensation plan or arrangement
           required to be filed as an exhibit pursuant to Item 13(a) of this
           Form 10-KSB.




                                       31
<PAGE>   33

REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and
Shareholders of Princeton Video Image, Inc. :

In our opinion, the accompanying balance sheet and the related statements of
operations, changes in shareholders' (deficit)/equity, and cash flows for each
of the two years in the period ended June 30, 1999 present fairly, in all
material respects, the financial position of Princeton Video Image, Inc. at June
30, 1999, and the results of its operations and its cash flows for each of the
two years in the period ended June 30, 1999 in conformity with generally
accepted accounting principles. These financial statements are the
responsibility of the Company's management; our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these statements in accordance with generally accepted auditing
standards, which require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.




September 24, 1999




                                      F-1
<PAGE>   34
PRINCETON VIDEO IMAGE, INC.
BALANCE SHEET

<TABLE>
<CAPTION>
                                                                                                            June 30,
                                                                                                             1999
                                                                                                          ------------
<S>                                                                                                       <C>
ASSETS
Current Assets:
   Cash and cash equivalents                                                                              $ 12,494,373
   Restricted marketable securities held to maturity                                                           138,000
   Trade accounts receivable                                                                                   378,652
   License rights                                                                                            1,166,667
   Other current assets                                                                                        177,097
                                                                                                          ------------
              Total current assets                                                                          14,354,789
Property and equipment, net                                                                                  3,806,718
Intangible assets, net                                                                                         547,546
Other assets                                                                                                   182,065
                                                                                                          ------------
              Total assets                                                                                $ 18,891,118
                                                                                                          ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
   Accounts payable and accrued expenses                                                                   $ 4,300,499
   Unearned revenue                                                                                            436,162
                                                                                                          ------------
              Total current liabilities                                                                      4,736,661
Unearned revenue                                                                                             1,019,472
                                                                                                          ------------
              Total liabilities                                                                              5,756,133
                                                                                                          ------------
Commitments and contingencies (Note 14)
Redeemable preferred stock:
   Cumulative, Series A, conditionally redeemable, $4.50 par value, authorized
     167,000 shares; issued and outstanding 67,600 shares at June 30, 1999,
     redemption value equal to carrying value
     (par plus all accrued but unpaid dividends)                                                               421,700
   Cumulative, Series B, conditionally redeemable, $5.00 par value,
     authorized 93,300 shares; issued and outstanding 86,041 shares at June 30,
     1999, redemption value equal to carrying value
     (par plus all accrued but unpaid dividends)                                                               569,955
                                                                                                          ------------
              Total redeemable preferred stock                                                                 991,655
Shareholders' Equity:
   Common stock, no par value; $.005 stated value; authorized 40,000,000
     shares; 8,199,379 shares issued and outstanding at June 30, 1999                                           40,996
   Additional paid-in capital                                                                               51,535,488
   Less:      Related party notes receivable                                                                (1,153,278)
   Accumulated deficit                                                                                     (38,279,876)
                                                                                                          ------------
              Total shareholders' equity                                                                    12,143,330
                                                                                                          ------------
                          Total liabilities, redeemable preferred stock and
                             shareholders' equity                                                         $ 18,891,118
                                                                                                          ============
</TABLE>

                See accompanying notes to financial statements.

                                      F-2
<PAGE>   35
PRINCETON VIDEO IMAGE, INC.
STATEMENT OF OPERATIONS

<TABLE>
<CAPTION>
                                                                                For the years ended
                                                                                     June 30,
                                                                      -------------------------------------------
                                                                           1999                       1998
                                                                           ----                       ----
<S>                                                                   <C>                         <C>
License fees                                                          $       527,685             $       371,223
Advertising and production revenue                                            694,528                     324,789
                                                                      -------------------------------------------
              Total revenue                                                 1,222,213                     696,012
Costs and expenses:
   Selling, general and administrative                                      5,911,427                   4,652,384
   Research and development                                                 1,508,875                   1,719,703
   L-VIS System costs                                                       4,431,759                   2,456,019
                                                                      -------------------------------------------
              Total costs and expenses                                     11,852,061                   8,828,106
Operating loss                                                            (10,629,848)                 (8,132,094)
Interest and other financial (expense)                                              -                  (1,814,178)
Interest and other income                                                     975,850                     861,948
                                                                      -------------------------------------------
Net loss                                                                   (9,653,998)                 (9,084,324)
Accretion of preferred stock dividends                                        (44,050)                    (44,050)
                                                                      -------------------------------------------
Net loss applicable to common stock                                   $    (9,698,048)            $    (9,128,374)
                                                                      ===========================================
   Basic and diluted net loss per share
     applicable to common stock                                               ($1.18)                     ($1.55)
                                                                      ===========================================
     Weighted average number of shares
        of common stock outstanding                                         8,186,207                   5,890,530
                                                                      ===========================================
</TABLE>

                See accompanying notes to financial statements.

                                      F-3
<PAGE>   36
PRINCETON VIDEO IMAGE, INC.
STATEMENT OF CASH FLOWS

<TABLE>
<CAPTION>
                                                                                     For the years ended
                                                                                          June 30,
                                                                            ------------------------------------
                                                                                1999                  1998
                                                                                ----                  ----
<S>                                                                         <C>                   <C>
Cash flows from operating activities:
   Net loss                                                                  $  (9,653,998)        $  (9,084,324)
   Adjustments to reconcile net loss to net
     cash used in operating activities
              Amortization of unearned income                                       34,190              (371,223)
              Depreciation expense                                               1,249,235               793,043
              Amortization of intangibles/license rights                           911,103                76,143
              Charges associated with stock, warrant  and option
                 grants and related party notes receivable                         129,973               473,562
              Increase (decrease) in cash resulting from changes in:
                   Trade accounts receivable                                      (185,390)             (106,269)
                   Other current assets                                             53,151              (192,715)
                   Other assets                                                     89,127              (142,074)
                   Accounts payable and accrued expenses                         1,400,934               418,340
                   Unearned revenue                                                278,200                53,500
                   Customer deposits                                                     -              (425,000)
                   Related party notes receivable                                 (328,780)                    -
                   Miscellaneous other                                               4,142                23,239
                                                                            ------------------------------------
                   Net cash used in operating activities                        (6,018,113)           (8,483,778)
                                                                            ------------------------------------

Cash flows from investing activities:
   Purchase of held-to-maturity investments                                              -               (61,997)
   Purchases of property and equipment                                          (2,513,898)           (2,093,702)
   Purchases of license rights                                                    (400,000)                    -
   Increase in intangible assets                                                  (132,080)             (180,625)
                                                                            ------------------------------------
                 Net cash used in investing activities                          (3,045,978)           (2,336,324)
                                                                            ------------------------------------
</TABLE>

                See accompanying notes to financial statements.

                                      F-4
<PAGE>   37
PRINCETON VIDEO IMAGE, INC.
STATEMENT OF CASH FLOWS


<TABLE>
<CAPTION>
                                                                                     For the years ended
                                                                                          June 30,
                                                                            ------------------------------------
                                                                                1999                  1998
                                                                                ----                  ----
<S>                                                                         <C>                   <C>

Cash flows from financing activities:
   Proceeds from Bridge Financing promissory notes                                       -             1,353,000
   Repayments of Bridge Financing promissory notes                                       -            (1,353,000)
   Proceeds from sale of Bridge Financing warrants, net                                  -             1,479,822
   Proceeds from sales of common stock, net                                          5,837            29,022,227
   Cash advanced for related party notes receivable                                      -              (169,498)
   Collections of stock subscriptions receivable                                         -             1,264,485
                                                                            ------------------------------------
              Net cash provided by
                 financing activities                                                5,837            31,597,036
                                                                            ------------------------------------
              Net increase (decrease) in cash and
                 cash equivalents                                               (9,058,254)           20,776,934

Cash and cash equivalents at beginning of
   period                                                                       21,552,627               775,693
                                                                            ------------------------------------
Cash and cash equivalents at end of period                                   $  12,494,373         $  21,552,627
                                                                            ====================================

Supplemental cash flow information:
  Interest paid in connection with Bridge
    Financing loan                                                                                 $   1,647,000
  Fair value of warrants/stock issued in settlement
    of accrued obligation                                                     $    100,445          $     97,074
  Exercise of warrants in exchange for
    related party notes receivable                                                                  $    655,000
</TABLE>

                 See accompanying notes to financial statements.

                                      F-5
<PAGE>   38
Princeton Video Image, Inc.
Statement of Changes in Shareholders' (Deficit)/Equity
For the years ended June 30, 1998 and 1999

<TABLE>
<CAPTION>

                                                                                Common Stock              Additional
                                                                             Number of                       Paid-In
                                                                                Shares       Amount          Capital
--------------------------------------------------------------------------------------------------------------------
<S>                                                                          <C>          <C>           <C>
Balance at June 30, 1997                                                     2,938,440    $  14,692     $ 19,910,396

Receipt of proceeds from stock subscriptions

Exercise of warrants at $2.50 per share, July 1997                             262,000        1,310          653,690

Compensation expense in connection with notes receivable
                                                                                                             360,250
Compensation expense related to issuance of 20,000 options,
  September 30, 1997, exercise price of $2.50 per share                                                       80,000

Exercise of warrants at $1.13 per share, July 1997                              51,062          255           57,189

Issuance of 36,970 shares with respect to anti-dilution in July 1997            36,970          185             (185)

Issuance of 20,000 warrants for services performed during 1997,
  exercise price of $4.50 per share                                                                           90,000

Issuance of 1,572 warrants for services performed during 1997,
  exercise price of $8.00 per share                                                                            7,074

Exercise of warrants at $2.50 per share, July 1997                              20,000          100           49,900

Issuance of 300,000 warrants in connection with October 1997
  Bridge Financing, net                                                                                    1,479,822

Issuance of 4,600,000 shares of common stock at $7.00 per share
  in connection with the initial public offering, net of offering costs      4,600,000       23,000       28,889,033

Cash advanced for related party note receivable, December 1997

Exercise of bridge warrants in January 1998                                    275,000        1,375            1,375

Compensation expense associated with the issuance of 9,600 options
  for consulting services in January 1998                                                                     33,312

Accretion of preferred stock dividends                                                                       (44,050)

Shares reacquired in connection with related party note receivable              (9,920)         (50)        (123,950)
Net Loss

--------------------------------------------------------------------------------------------------------------------
Balance at June 30, 1998                                                     8,173,552       40,867       51,443,856

Exercise of bridge warrants in July 1998                                        10,000           50               50

Issuance of common stock for license rights, April 1999, $7.031 per share       14,286           71          100,374

Exercise of options at $3.25 per share, May 1999                                   375            2            1,217

Exercise of options at $3.875 per share, June 1999                               1,166            6            4,512

Compensation expense associated with the issuance of 8,279 options
  for consulting services from October 1998 to June 1999                                                      29,529

Related party notes receivable issued in connection with
  delivery of L-VIS Systems to licensee

Accretion of preferred stock dividends                                                                       (44,050)

Net Loss
--------------------------------------------------------------------------------------------------------------------
Balance at June 30, 1999                                                     8,199,379     $ 40,996     $ 51,535,488
=====================================================================================================================
</TABLE>


<PAGE>   39
<TABLE>
<CAPTION>
                                                                               Related Party                          Total
                                                                                    Note and                  Shareholders'
                                                                                 Stock Subsc     Accumulated         Equity
                                                                                  Receivable         Deficit      (Deficit)
--------------------------------------------------------------------------------------------------------------------------
<S>                                                                            <C>            <C>             <C>
Balance at June 30, 1997                                                       $ (1,388,485)  $ (19,541,554)  $ (1,004,951)

Receipt of proceeds from stock subscriptions                                      1,264,485                      1,264,485

Exercise of warrants at $2.50 per share, July 1997                                 (655,000)                             -

Compensation expense in connection with notes receivable                                                           360,250

Compensation expense related to issuance of 20,000 options,
  September 30, 1997, exercise price of $2.50 per share                                                             80,000

Exercise of warrants at $1.13 per share, July 1997                                                                  57,444

Issuance of 36,970 shares with respect to anti-dilution in July 1997                                                     -

Issuance of 20,000 warrants for services performed during 1997,
  exercise price of $4.50 per share                                                                                 90,000

Issuance of 1,572 warrants for services performed during 1997,
  exercise price of $8.00 per share                                                                                  7,074

Exercise of warrants at $2.50 per share, July 1997                                                                  50,000

Issuance of 300,000 warrants in connection with October 1997
  Bridge Financing, net                                                                                          1,479,822

Issuance of 4,600,000 shares of common stock at $7.00 per share
  in connection with the initial public offering, net of offering costs                                         28,912,033

Cash advanced for related party note receivable, December 1997                     (169,498)                      (169,498)

Exercise of bridge warrants in January 1998                                                                          2,750

Compensation expense associated with the issuance of 9,600 options
  for consulting services in January 1998                                                                           33,312

Accretion of preferred stock dividends                                                                             (44,050)

Shares reacquired in connection with related party note receivable                  124,000

Net Loss                                                                                         (9,084,324)    (9,084,324)
--------------------------------------------------------------------------------------------------------------------------
Balance at June 30, 1998                                                           (824,498)    (28,625,878)    22,034,347

Exercise of bridge warrants in July 1998                                                                               100

Issuance of common stock for license rights, April 1999, $7.031 per share                                          100,445

Exercise of options at $3.25 per share, May 1999                                                                     1,219

Exercise of options at $3.875 per share, June 1999                                                                   4,518

Compensation expense associated with the issuance of 8,279 options
  for consulting services from October 1998 to June 1999                                                            29,529

Related party notes receivable issued in connection with
  delivery of L-VIS Systems to licensee                                            (328,780)                      (328,780)

Accretion of preferred stock dividends                                                                             (44,050)

Net Loss                                                                                         (9,653,998)    (9,653,998)
--------------------------------------------------------------------------------------------------------------------------
Balance at June 30, 1999                                                      $  (1,153,278)   $(38,279,876)  $ 12,143,330
==========================================================================================================================
</TABLE>

See accompanying notes to financial statements.

                                      F-6
<PAGE>   40
                           PRINCETON VIDEO IMAGE. INC.
                          NOTES TO FINANCIAL STATEMENTS

1.   ORGANIZATION:

Princeton Video Image, Inc. ("the Company"), was incorporated on July 23, 1990
in the State of New Jersey. The Company has developed and is marketing a
real-time video insertion system (the "L-VIS(TM) System") that through patented
pattern recognition technology places computer-generated electronic images into
television broadcasts of sporting and other events. These electronic images
range from simple corporate names or logos to sophisticated multi-media 3-D
animated productions. The L-VIS System has been used to insert images, including
advertising images and visual aids, into live and pre-recorded television
broadcasts. The Company is also marketing its systems on a worldwide basis
through licensing and royalty agreements. Prior to the fiscal year ended June
30, 1999, the Company was considered a development stage company for financial
reporting purposes.

2.  SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

CASH AND CASH EQUIVALENTS
Cash and cash equivalents consist of petty cash on hand, checking accounts,
money market funds, and all highly liquid debt instruments purchased with a
maturity of three months or less.

INVESTMENTS
Investments in and the operating results of joint ventures in which the Company
had a 50% interest or otherwise exercises significant influence were accounted
for on the basis of the equity method of accounting.

PROPERTY AND EQUIPMENT
Property and equipment are stated at cost, less accumulated depreciation.
Depreciation is provided using the straight-line method over the estimated
useful lives of the respective assets, principally three to seven years. Gains
or losses on depreciable assets retired or sold are recognized in the statement
of operations in the year of disposal.

In accordance with Statement of Financial Accounting Standards No. 121,
"Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
be Disposed of", all long-lived assets held and used by the Company are reviewed
for impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable.

LICENSE RIGHTS
License rights are amortized over the shorter of the license term or the
estimated useful life of the rights and reviewed for impairment whenever events
or circumstances occur which indicate recorded cost might not be recoverable.

INTANGIBLE ASSETS
Legal costs and filing fees incurred to apply for patents are capitalized and
amortized using the straight line method over an estimated useful life of 7
years.

INCOME TAXES
The Company accounts for income taxes by recognizing deferred tax assets and
liabilities for the expected future tax consequences of temporary differences
between the financial statement and tax bases of assets and liabilities using
enacted tax rates in effect for the years in which the differences are expected
to reverse.

REVENUE
Non-refundable license fees are recognized as revenue when earned, which is when
all related commitments have been satisfied (see Note 6). Additionally, under
the terms of certain existing agreements, the Company retains title to the L-VIS
System and receives a non-refundable fee which

                                        F-7

<PAGE>   41
                           PRINCETON VIDEO IMAGE. INC.
                          NOTES TO FINANCIAL STATEMENTS

reflects reimbursement for the construction cost of the system delivered to the
licensee. These fees are recorded as license revenue on a straight-line basis
over the shorter of the license term or useful life of the equipment.

Advertising revenue is recognized when earned, which is when the respective
advertisements are inserted into a television broadcast.

Production revenue is earned from fees paid by broadcasters for static and
animated visual enhancements of sporting and other events. This type of revenue
is recognized when earned, which is when the enhancement is inserted into a
television broadcast.

RESEARCH AND DEVELOPMENT COSTS
Research and development costs are expensed as incurred. Costs associated with
the development of the Company's proprietary computer system which are incurred
prior to technological feasibility are recorded as research and development
expenses.

PER SHARE DATA
In December 1997, the Company adopted Statement of Financial Accounting
Standards No. 128, "Earnings Per Share" ("SFAS 128") to calculate net loss per
share applicable to common stock. SFAS 128 requires the presentation of basic
and diluted per share amounts. Basic per share amounts are computed by dividing
net loss applicable to common stock by the weighted average number of common
shares outstanding during the period. Diluted per share amounts are computed by
dividing net loss applicable to common stock by the weighted average number of
common shares outstanding plus the dilutive effect of common share equivalents.

Since the Company incurred net losses for all periods presented, both basic and
diluted per share calculations are the same. Accordingly, options and warrants
to purchase 2,765,315 and 2,519,637 shares of common stock that were outstanding
at June 30, 1999 and 1998, respectively, were not included in diluted per share
calculations, as their effect would be antidilutive.

RISKS AND UNCERTAINTIES
The Company is subject to a number of risks common to companies in similar
stages of operations including, but not limited to, the lack of assurance of the
marketability of the product, the need to raise additional funds, the risk of
technological obsolescence and the limited source of supply of certain
components of the L-VIS System. The Company has completed a review to determine
if its internally designed software applications, computer systems and
operations are Year 2000 compliant. To the extent its external suppliers and
outside broadcasters are not Year 2000 compliant, however, the planned
operations of the Company could be significantly disrupted. This disruption
could have a material adverse effect on the Company's business, financial
condition and planned results of operations.

The Company believes that its existing available cash, cash equivalents and
short-term investments will be sufficient to meet its capital needs for a period
of fifteen months, although there can be no assurance that the Company will not
require additional funds sooner. The Company's actual working capital
requirements will depend on numerous factors, including the progress of the
Company's research and development programs, the Company's ability to maintain
its customer base and attract new customers to use the L-VIS System, the level
of resources the Company is able to allocate to the development of greater
marketing and sales capabilities, technological advances and the status of its
competitors. The Company expects to incur costs and expenses in excess of
expected revenues during the ensuing fiscal year as the Company continues to
execute its business strategy by adding to its sales and marketing management
force in its efforts to strengthen relationships with rights holders,
broadcasters and advertisers.


                                   F-8

<PAGE>   42
                           PRINCETON VIDEO IMAGE. INC.
                          NOTES TO FINANCIAL STATEMENTS

There is no assurance the Company will generate sufficient cash flow from
product sales to liquidate liabilities as they become due. Accordingly, the
Company may require additional funds to meet planned obligations through June
30, 2000 and may seek to raise such amounts through a variety of options. These
include future cash from operations, proceeds from equity financings, proceeds
from equipment financing lease arrangements and the potential sale of tax
benefits relating to the Company's net operating losses. In the event the
Company is unable to liquidate its liabilities, planned operations may be scaled
back. Additional funding may not be available when needed or on terms acceptable
to us, which could have a material adverse effect on our business, financial
condition and results of operations. If adequate funds are not available we may
delay or eliminate some expenditures. The financial statements do not include
any adjustments that might result from the outcome of these uncertainties.

USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the dates of the financial statements and
the reported amounts of revenues and expenses during the reporting periods.
Actual results could differ from those estimates. Significant estimates made by
management include the future recoverability of the L-VIS System costs.

NEW PRONOUNCEMENTS
The Company adopted Statement of Financial Accounting Standards No. 130,
"Reporting Comprehensive Income" ("SFAS 130") during the quarter ended September
30, 1998. SFAS 130 establishes standards for reporting and display of an
alternative income statement and its components (revenue, expenses, gains and
losses) in a full set of general purpose financial statements. For the years
ended June 30, 1999 and 1998, the Company had no items of other comprehensive
income.

The Company adopted Statement of Financial Accounting Standards No. 131,
"Disclosures about Segments of an Enterprise and Related Information" ("SFAS
131") during the quarter ended September 30, 1998. SFAS 131 requires that a
business enterprise report certain information about operating segments,
products and services, geographic areas of operation, and major customers in
complete sets of financial statements and in condensed financial statements for
interim periods. (see Note 15).

In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities" ("SFAS No. 133").
This statement establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities. It requires recognition of all
derivatives as either assets or liabilities on the balance sheet and measurement
of those instruments at fair value. If certain conditions are met, a derivative
may be designated specifically as: (a) a hedge of the exposure to changes in the
fair value of a recognized asset or liability or an unrecognized asset or firm
commitment (a fair value hedge); (b) a hedge of the exposure to variable cash
flows of a forecasted transaction (a cash flow hedge); or (c) a hedge of the
foreign currency exposure of net investment in a foreign operation, an
unrecognized firm commitment, an available-for-sale security, or a
foreign-currency-denominated-transactions. This statement is effective for all
fiscal quarters of fiscal years beginning after June 15, 2001. The effect of
adopting SFAS No. 133 is not expected to be material.

3.        RESTRICTED MARKETABLE SECURITIES HELD TO MATURITY:

At June 30, 1999 the Company had investments in U.S. Treasury Notes which, at
the time of purchase, had a maturity greater than three months but less than one
year and are restricted as to use under the terms of two existing letters of
credit. The Company intends to hold these debt instruments to maturity and has,
accordingly, classified them as marketable securities held to maturity at their
amortized cost basis. Unrealized holding losses totaled $2,334 at June 30, 1998
and $900 at June 30, 1999.

                                        F-9

<PAGE>   43
                           PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)


4.       INVESTMENTS IN JOINT VENTURES:

In 1993, the Company formed a joint venture, Publicidad Virtual S.A. de C.V.,
("Publicidad"), with Presencia en Medios, S.A. de C.V. ("Presencia"), a Mexican
corporation, for purposes of marketing the Company's technology in Latin America
and the Spanish language markets in the Caribbean basin. In March 1999, the
Company entered into a Stock Purchase Agreement, dated as of January 1, 1999,
with Presencia, a principal shareholder of the Company, and Eduardo Sitt, the
President and a principal shareholder of Presencia and a director of the
Company. Under the terms of the Stock Purchase Agreement, the Company sold its
interest in Publicidad to Presencia and Eduardo Sitt at a gain of $121,000, the
aggregate purchase price. The proceeds received by the Company, net of Mexican
withholding tax, were $96,800 and have been recorded in other income. (see Note
6).

5.  LICENSE RIGHTS

In January 1999, the Company signed a binding letter of intent with NFL
International whereby the Company was named the exclusive provider of electronic
imaging services for worldwide, non-U.S. telecasts of Super Bowl XXXIII and
XXXIV, as well as international telecasts of 1999 NFL regular season and playoff
games and the 1999 NFL Europe League season. The Company is obligated to pay
certain fees in connection with these rights. In January 1999 the Company
recorded an intangible asset and a corresponding liability on its balance sheet
for the acquisition of the license rights. These rights will be amortized on a
straight line basis and payments will be made over the term of the license (one
year) according to a pre-determined payment schedule. As of June 30, 1999,
amortization expense included $833,333 of these license rights, and a total of
$400,000 in cash payments had been made.

6.  LICENSE AND ROYALTY FEES:

In 1994, Publicidad, through additional contributions made by Presencia, paid
the Company $2,000,000 for an exclusive, royalty-free license granting
Publicidad the right to commercially market the Company's technology in Latin
America and the Spanish-speaking Caribbean. The Company recognized 50% of this
fee ($1,000,000 based upon its percentage ownership in Publicidad) in 1996 when
all the deliverables as defined in the agreement were met. The Company
recognized an additional $100,000 of license fees as revenue in both 1998 and
1999. The remaining $700,000 of unearned revenue, of which $100,000 is included
in current liabilities and the remainder in long-term at June 30, 1999, is being
amortized into income over a 10 year period, consistent with the terms of the
license agreement, which began on July 1, 1996.

In March 1999, the Company entered into an Amendment Agreement, dated as of
January 1, 1999, with Publicidad Virtual S.A. de C.V. ("Publicidad") which
amended the terms of the License Agreement, dated March 1, 1994, between the
parties. Under the terms of the amended License Agreement, Publicidad maintained
its exclusive license to use, market and sub-license the Company's L-VIS System
throughout Mexico, Central America, South America and the Spanish speaking
markets in the Caribbean basin and will pay to the Company a royalty on annual
net revenues as follows: (i) a 17% royalty on net revenues of up to $3,000,000,
(ii) a 25% royalty on incremental annual net revenues exceeding $3,000,000 and
up to $6,000,000, and (iii) a 20% royalty on incremental annual net revenues
exceeding $6,000,000. Publicidad paid the Company a minimum royalty, as required
under the amended License Agreement, for the first six months of calendar year
1999. The amount due the Company, net of withholding tax was $112,500, and was
received in July 1999.

In January 1999, the Company entered into an exclusive licensing agreement with
Sasani Limited, one of South Africa's leading companies in the entertainment,
media and communication industries. Under the terms of the agreement, the
Company received an up-front, nonrefundable licensing fee and will


                                        F-10

<PAGE>   44
                           PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)

receive annual royalties from Sasani Limited based on use of the L-VIS System in
South Africa. The initial term of the license is five years.

Under the terms of certain existing agreements, the Company retains title to the
L-VIS System and receives a non-refundable fee which reflects the construction
cost of the L-VIS system delivered to the licensee. These fees are recorded as
license revenue on a straight-line basis over the shorter of the license term or
the useful life of the equipment. Amortization of license revenue related to
these agreements amounted to $340,185 and $271,223 for the years ended June 30,
1999 and 1998, respectively. The remaining unearned revenue related to these
agreements was $1,455,634 at June 30, 1999, of which $436,162 is current,
inclusive of the $100,000 mentioned above related to Publicidad.

7.  PROPERTY AND EQUIPMENT:

The costs and accumulated depreciation of property and equipment at June 30,
1999 is summarized as follows:

<TABLE>
<S>                                                                                 <C>
          Furniture and fixtures                                                    $    221,446
          Leasehold improvements                                                          29,053
          Office equipment                                                             1,195,292
          L-VIS Systems                                                                2,041,504
          Research and development equipment and software                                505,010
          Equipment under construction                                                 2,648,387
                                                                             --------------------
               Total property and equipment                                            6,640,692
          Less:  accumulated depreciation                                             (2,833,974)
                                                                             ---------------------
          Property and equipment, net                                               $  3,806,718
                                                                             ====================
</TABLE>

Depreciation expense amounted to $1,249,235 and $793,043 for the years ended
June 30, 1999 and 1998, respectively.

8.  INTANGIBLE ASSETS:

The costs and accumulated amortization at June 30, 1999 is summarized as
follows:

<TABLE>
<S>                                                                                  <C>
          Patents                                                                    $   313,391
          Patent Applications in Progress                                                454,756
                                                                             --------------------
               Total Intangible Assets                                                   768,147
          Less:  accumulated amortization                                               (220,601)
                                                                             ---------------------
          Intangible Assets, net                                                     $   547,546
                                                                             ====================
</TABLE>

Amortization expense amounted to $77,770 and $76,143 for the years ended June
30, 1999 and 1998, respectively. On September 15, 1998 the Company was granted a
patent relating to a method of tracking scene motion for live video insertion
systems.


                                        F-11
<PAGE>   45
                           PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)


9.  ACCOUNTS PAYABLE AND ACCRUED EXPENSES

Accounts payable and accrued expenses consist of the following:

<TABLE>
<CAPTION>
                                                                                    June 30,
                                                                                      1999
                                                                                  --------------
<S>                                                                               <C>
                       Accounts payable                                              $1,747,178
                       License fees and royalties                                     1,769,221
                       Other                                                            784,100
                                                                                  ==============
                            Total                                                    $4,300,499
                                                                                  ==============
</TABLE>

10.  INCOME TAXES:

Temporary differences which give rise to significant deferred tax assets and
liabilities at June 30, 1999 are as follows:

<TABLE>
<CAPTION>
        Deferred tax assets:                                         1999
                                                                     ----
<S>                                                           <C>
          Capitalized start-up costs                          $   211,523
          Fixed assets                                                668
          Deferred revenue and other                              612,264
          NOL Carryforward - Federal                           10,305,628
          NOL Carryforward - State taxes                        2,891,905
          Valuation allowance - Federal                       (10,947,747)
          Valuation allowance - State                         ( 2,891,905)
                                                              -----------

                  Total deferred tax assets                       182,337

        Deferred tax liabilities:
          Intangibles                                             182,337
                                                              -----------
                  Total deferred tax liabilities                  182,337
                                                              -----------

                    Net deferred taxes                        $         0
                                                              -----------
</TABLE>

Due to the uncertainty of the realization of the deferred tax assets, a full
valuation allowance has been provided. See Note 17 for additional information
regarding the potential sale of tax benefits by the Company.

As of June 30, 1999, the Company has net operating loss carryforwards for U.S.
federal income tax purposes of approximately $30,311,000 which expire in the
years 2006 through 2019. The timing and manner in which the net operating loss
carryforward may be utilized in any year by the Company will be limited by
Internal Revenue Code Section 382.

11.  BRIDGE FINANCING:

In October 1997, the Company entered into a $3,000,000 Bridge Financing
arrangement whereby the Company issued 30 units, each unit consisting of i) one
promissory note payable with a principal


                                        F-12

<PAGE>   46
                           PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)

amount of $100,000 and bearing interest at 10% and ii) warrants with a five year
term to purchase 10,000 shares of common stock at an exercise price of $.01 per
share. The promissory notes matured and warrants became fully vested upon the
consummation of the initial public offering of the Company's common stock in
December 1997. The fair value of the warrants, which approximated $1,647,000 at
the closing date, was recorded as an increase to additional paid-in capital.
Upon maturity of the promissory notes, the Company remitted the $3,000,000
principal balance and approximately $59,000 of accrued interest. The difference
between the $3,000,000 of proceeds received from the Bridge Financing and the
$1,353,000 of the proceeds allocated to the promissory notes was amortized to
interest expense over the term of the promissory notes. Additionally, the
Company incurred approximately $270,000 of commissions and fees in connection
with the Bridge Financing which were deferred and amortized over the term of the
promissory notes.

12.  COMMON AND PREFERRED STOCK:

COMMON STOCK

Pursuant to its Restated Certificate of Incorporation, the Company is prohibited
from paying any dividends on the Common Stock until all accumulated dividends in
respect of the Series A Preferred Stock and Series B Preferred Stock have been
paid.

In May 1997, in order to raise funds to meet current obligations, the Company
issued 587,514 shares of common stock in a special rights offering ("the Rights
Offering") whereby existing shareholders could purchase one share of common
stock at $3.75 per share for every four shares of common stock held. The Company
received proceeds of $910,465 and stock subscriptions receivable totaling
$1,264,485. Prior to the Rights Offering, warrantholders exercised 97,930
warrants at $1.13 per share in order to increase their participation in the
Rights Offering. All outstanding stock subscriptions receivable were remitted to
the Company in the first fiscal quarter of 1998.

In July 1997, certain investors in the Company, which included a member of the
Company's current Board of Directors signed notes ("the July Notes") for $60,263
in consideration for amounts owed under the Rights Offering stock subscription
agreement. The July Notes which bore an interest rate of 9% and a maturity date
of July 1997, contained no recourse provisions by which the Company could
enforce collection. However, no charge was recorded in July 1997, as the fair
value of the Company's common stock in July 1997 approximated the purchase price
of the common stock associated with the Rights Offering subscription agreement.
The July Notes plus all accrued interest were repaid in full in December 1997.

On September 3, 1997, in preparation for the planned initial public offering of
the Company's common stock, the Board of Directors of the Company declared a 2
for 1 stock split of the Company's common stock. All references in the financial
statements to share and per share numbers and amounts and warrant and option
data have been restated to give retroactive effect to the stock split.

On December 16, 1997, the Company completed its initial public offering of
4,000,000 shares of its common stock at a price of $7.00 per share (the
"Offering"). The net proceeds from the Offering, after deducting underwriting
discounts and commissions and estimated expenses payable by the Company were
approximately $25,050,000. Additionally, in connection with the underwriting
services provided in the Offering, the underwriters received warrants with a
five year term to purchase 400,000 shares of common stock at an exercise price
of $8.40.

On December 31, 1997, the Company issued 600,000 shares of common stock at $7.00
per share to the underwriters of the Offering pursuant to the exercise of an
over-allotment option granted in connection with the Offering. The net proceeds
from the exercise of this option, after deducting underwriting discounts and
commissions and estimated expenses payable by the Company were approximately
$3,900,000.

                                             F-13
<PAGE>   47
                           PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)

In April 1999 the Company issued 14,286 shares of common stock as payment for
royalties due under a research agreement between the Company and a third party
(see Note 14).

PREFERRED STOCK

The Company is authorized to issue up to 1,000,000 shares of the preferred stock
in one or more series. The Company's Board of Directors is authorized to fix the
relative rights, preferences, privileges and restrictions thereof, including
dividend rights, dividend rates, conversion rights, terms of redemption,
redemption prices, liquidation preferences, the number of shares constituting
any series and the designation of such series. The issuance of preferred stock
with voting and conversion rights may adversely affect the voting power of the
holders of the Company's Series A Preferred Stock, Series B Preferred Stock,
Series C Preferred Stock and Common Stock, including the loss of voting control.
Other than the shares of Series A Preferred Stock and Series B Preferred Stock,
there are no shares of preferred stock currently issued and outstanding.

Series A Preferred Stock

The Company has issued a total of 67,600 shares of Series A Redeemable Preferred
Stock with a par value of $4.50 per share and a six percent per annum dividend
rate. Dividends shall be paid either in cash or common stock of the Company. The
Company has the right at any time after the date of original issuance of the
Series A Preferred Stock to redeem the Series A Preferred Stock in whole or in
part at a price of $4.50 per share plus all accrued but unpaid dividends. The
Company is required to redeem this preferred stock in cash at par plus all
accrued but unpaid dividends from thirty percent of the amount by which the
Company's annual net income after taxes exceeds $5,000,000.

Dividends on the shares of Series A Preferred Stock are cumulative and must be
paid in the event of liquidation and before any distribution to holders of
common stock. Cumulative dividends in arrears at June 30, 1999 totaled $117,500
(or $1.74 per share).

The Series A Preferred Stock has no liquidation preference, no conversion rights
and no registration rights.

Series B Preferred Stock

The Company has issued a total of 86,041 shares of Series B Redeemable Preferred
Stock with a par value of $5.00 per share and a six percent per annum dividend
rate. Dividends shall be paid either in cash or common stock of the Company. The
Company has the right at any time after the date of original issuance of the
Series B Preferred Stock, but subject to the prior redemption of all of the
Series A Preferred Stock, to redeem the Series B Preferred Stock in whole or in
part at a price of $5.00 per share plus all accrued but unpaid dividends. The
Company is required, subject to the prior redemption of all of the Series A
Preferred Stock, to redeem this preferred stock in cash at par plus all accrued
but unpaid dividends from twenty percent of the amount by which the Company's
annual net income after taxes in any year exceeds $5,000,000.

Dividends on the shares of Series B Preferred Stock are cumulative and must be
paid in the event of liquidation and before any distribution to holders of
common stock. No dividends may be paid with respect to this stock until all
cumulative dividends in respect of Series A Preferred Stock have been paid.
Cumulative dividends in arrears at June 30, 1999, totaled $139,750 (or $1.62 per
share).

The Series B Preferred Stock has no liquidation preference, no conversion rights
and no registration rights.

                                   F-14
<PAGE>   48
                           PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)

Changes in the preferred stock accounts were as follows:

<TABLE>
<CAPTION>
                                               Series A                     Series B
                                         Number of                   Number of
                                            Shares       Amount         Shares        Amount          Total
<S>                                      <C>           <C>           <C>            <C>            <C>
Balance at June 30, 1997                    67,600     $385,200         86,041      $518,355       $903,555
                                     ---------------------------  --------------------------- --------------
Accretion of preferred stock
dividends                                                18,250                       25,800         44,050
                                     ---------------------------  --------------------------- --------------
Balance at June 30, 1998                    67,600      403,450         86,041       544,155        947,605
                                     ---------------------------  --------------------------- --------------
Accretion of preferred stock
dividends                                                18,250                       25,800         44,050
                                     ---------------------------  --------------------------- --------------
BALANCE AT JUNE 30, 1999                    67,600     $421,700         86,041      $569,955       $991,655
                                     ===========================  =========================== ==============
</TABLE>

ANTI-DILUTION RIGHTS

In connection with an August 1993 Offering, the Company granted anti-dilution
rights to Presencia with respect to any offering of common stock issued at a
price less than the per share purchase price paid by Presencia in the August
1993 Offering. Such rights allowed Presencia to receive a sufficient number of
shares of common stock to allow Presencia to maintain its percentage ownership
interest in the Company for no additional consideration. Pursuant to these
anti-dilution rights and the Rights Offering in May 1997, Presencia was entitled
to be issued an additional 36,970 shares of common stock for no additional
consideration. These shares were issued to Presencia in July 1997 and were
accounted for as a cost of the Rights Offering. This anti-dilution right
terminated upon the initial public offering of the Company's common stock in
December 1997.

13.  WARRANTS AND OPTIONS:

WARRANTS

The Company had outstanding a total of 1,192,130 warrants to purchase common
stock at June 30, 1999. The exercise prices range from $2.50 to $20.00 per share
and the expiration of such warrants range from 1999 to 2006. The following is a
description of warrant activity for the fiscal years ended June 30, 1998 and
1999:

In November 1991, warrants with a five year term to purchase 80,800 shares of
common stock at an exercise price of $2.50 per share were granted to an employee
of the Company. These warrants vested as follows: (i) 20,000 in November 1991,
(ii) 13,600 each in November 1992, November 1993 and November 1994 and (iii)
20,000 in September 1993. Each series of warrants expires five years after the
applicable vesting date. 20,000 and 13,600 of these warrants expired in November
1996 and 1997, respectively. In May 1998 the Board of Directors approved the
issuance of five year, contingent warrants to purchase up to 47,200 shares of
common stock at an exercise price of $8.00 per share, to the extent the warrants
issued in November 1991 expire unexercised. As of June 30, 1999, 33,600 such
warrants had been issued at $8.00 and 13,600 of the original warrants remain
outstanding and unexercised.

In July 1992, warrants with a five year term to purchase 262,000 shares of
common stock at an exercise price of $2.50 per share were issued to two
employees of the Company. These warrants were exercised in July 1997 (see Note
16).

In July 1992, warrants with a five year term to purchase 20,000 shares of common
stock at an exercise price of $2.50 per share were issued to a financial advisor
in connection with the August 1992 and

                                        F-15

<PAGE>   49
                           PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)

December 1992 equity offerings. These warrants were exercised in July 1997.

In July 1992, warrants with a five year term to purchase 30,000 shares of common
stock at an exercise price of $1.13 per share were issued to a financial advisor
in connection with August and December 1992 equity offerings. In May 1997 and
July 1997, respectively, warrants for 14,850 and 15,150 shares of common stock
were exercised.

In connection with the April 1994 issuance of common stock, the Company issued
warrants with a five year term to purchase 450,000 shares of common stock at an
exercise price of $12.50 per share. In May 1998 the Board of Directors of the
Company approved a modification of the terms of the warrants, reducing the
exercise price to $8.00 per share and extending the exercise period for five
years.

In connection with a July 1994 issuance of common stock to Blockbuster
Entertainment Corporation ("Blockbuster"), the Company issued warrants with a
five year term to purchase 70,000 shares of common stock at an exercise price of
$15.00 per share. Additionally, the Company granted warrants to purchase 70,000
shares of common stock at an exercise price of $20.00 per share. These warrants
vest upon the future occurrence of any of the following events: (i) Blockbuster
provides consulting services to the Company which materially enhance the
Company's technology relating to real time insertion; (ii) Blockbuster and the
Company enter into a joint venture for the purpose of exploiting the Company's
system in the entertainment industry for non-television applications; or (iii)
the Miami Dolphins are the first National Football League team to support the
use of the Company's system in connection with broadcast of its games. These
warrants expire three years after the vesting date.

In April 1995, warrants with a five year term to purchase 29,200 shares of
common stock at an exercise price of $13.75 per share were issued to a financial
advisor in connection with the February 1994 equity offering. Additionally,
warrants with a five year term to purchase 6,000 shares of common stock at an
exercise price of $16.50 per share were issued to the same financial advisor in
connection with the April 1994 equity offering. In May 1998 the Board of
Directors of the Company approved a modification of the terms of the warrants,
reducing the exercise price to $8.00 per share and extending the exercise period
for five years.

In October 1995, the Company issued to Presencia warrants with a five year term
to purchase 10,932 shares of common stock at an exercise price of $12.50 per
share. In May 1998 the Board of Directors of the Company approved a modification
of the terms of these warrants, reducing the exercise price to $8.00 per share
and extending the exercise period for five years.

In February 1996, warrants with a five year term to purchase 28,226 shares of
common stock at an exercise price of $19.25 per share were issued to the
underwriter of the February 1996 equity offering. In May 1998 the Board of
Directors of the Company approved a modification of the terms of these warrants,
reducing the exercise price to $8.00 per share and extending the exercise period
for five years.

In March 1996, warrants with a five year term to purchase 24,000 shares of
common stock at an exercise price of $15.00 were issued to Presencia as
consideration for costs incurred by Presencia relating to the License Agreement
between the Company and Presencia. The estimated fair value of the warrants of
$120,000 was recorded as general and administrative expense in fiscal year 1996.
In May 1998 the Board of Directors of the Company approved a modification of the
terms of these warrants, reducing the exercise price to $8.00 per share and
extending the exercise period for five years.

During 1997 and 1996, respectively, the Company issued warrants with a five year
term to purchase 4,206 and 15,794 shares of common stock at an exercise price of
$15.00 as consideration for consulting services provided to the Company. The
estimated fair value of the warrants of $18,927 and

                                             F-16

<PAGE>   50

                           PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)

$71,075 was recorded as general and administrative expense in fiscal year 1997
and 1996, respectively. In May 1998 the Board of Directors of the Company
approved a modification of the terms of these warrants, reducing the exercise
price to $8.00 per share and extending the exercise period for five years.

In September 1997, warrants with a five year term to purchase 1,572 shares of
common stock at an exercise price of $15.00 per share were issued in settlement
of an obligation of $7,074 accrued at June 30, 1997 relating to consulting
services provided to the Company. In May 1998 the Board of Directors of the
Company approved a modification of the terms of these warrants, reducing the
exercise price to $8.00 per share and extending the exercise period for five
years.

In September 1997, warrants with a three year term to purchase 20,000 shares of
common stock at an exercise price of $4.50 per share were issued in settlement
of an obligation of $90,000 accrued during 1996, when the consulting services
were provided to the Company.

In October 1997, the Company issued warrants with a five year term to purchase
300,000 shares of common stock at an exercise price of $0.01 per share in
connection with a Bridge Financing (see Note 11). As of June 30, 1999, 285,000
of these warrants had been exercised.

On May 28, 1998, the Board of Directors of the Company approved a modification
of the terms of certain outstanding warrants, some of which are referred to
above. The modification, which affected approximately 548,358 warrants, reduced
the exercise price of such warrants to $8.00 per share and extended the exercise
period for an additional five years.

STOCK OPTION PLAN

The Company adopted a Stock Option Plan (the "Plan") in July 1993 for employees,
officers, directors, consultants and independent contractors of the Company. The
Plan initially reserved 360,000 shares of common stock for issuance upon the
exercise of stock options. The Plan was amended in 1995, 1996, 1997 and 1998 to
reserve additional shares. As of June 30, 1999, 2,160,000 shares were reserved
for the Plan.

The Plan is administered by the Board of Directors, which determines the
distribution of all options. The Plan provides for the granting of options
intended to qualify as incentive stock options ("ISOs") as defined in Section
422A of the Internal Revenue Code of 1986, as amended, and non-qualified stock
options ("NQSOs") to key employees of the Company as well as NQSOs to
non-employee directors, independent contractors and consultants who perform
services for the Company. The exercise price of all ISOs granted under the Plan
may not be less than the fair market value of the shares at the time the option
is granted. Options may be for a period of not more than ten years from the date
of grant and generally vest ratably over a three year period. Options are not
assignable or otherwise transferable except by will or the laws of descent and
distribution.




                                                  F-17
<PAGE>   51

                           PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)

Information with respect to options under the Plan is as follows:

<TABLE>
<CAPTION>
                                                                                 Wtd Avg      Wtd Avg
                                                  Number of                     Exercise   Fair Value
                                     Available      Options     Option Price    Price per   per Option
                                     for Grant   Outstanding          Range        Share      Granted
------------------------------------------------------------------------------------------------------
<S>                                  <C>        <C>           <C>               <C>        <C>



Balance at June 30, 1997               459,076    1,100,924       $10.00-       $16.38
                                                                  $20.00
------------------------------------------------------------
  Authorized                                 -            -
  Granted                             (356,290)     356,290

  Exercised                                  -            -

  Forfeitures                          139,707     (139,707)
------------------------------------------------------------
Balance at June 30, 1998               242,493    1,317,507    $2.50-$17.50        $8.35
------------------------------------------------------------

  Authorized                           600,000            -

  Granted                             (413,873)     413,873                        $4.86        $3.08

  Exercised                                  -      (1,541)                        $3.72

  Forfeitures                          156,654    (156,654)                        $5.88
------------------------------------------------------------
BALANCE AT JUNE 30, 1999               585,274   1,573,185    $2.50-$17.50         $5.77
============================================================

EXERCISABLE AT JUNE 30, 1999                     1,038,428                         $5.86
EXERCISABLE AT JUNE 30, 1998                       850,938                         $8.60
</TABLE>

The options outstanding at June 30, 1999 and 1998, by price range, are as
follows:
<TABLE>
<CAPTION>
<S>                            <C>                <C>
                  1999            $2.50-$7.50                  623,391
                                 $7.51-$12.50                  911,626
                                $12.51-$17.50                   38,168
                                                  --------------------
                                        Total                1,573,185
                                                  =====================
                  1998            $2.50-$7.50                  262,293
                  ----           $7.51-$12.50                  994,492
                                $12.51-$17.50                   60,722
                                                  --------------------
                                        Total                1,317,507
                                                  =====================

</TABLE>

The weighted average remaining contractual lives of outstanding options at June
30, 1999 was 6.3 years.

The Company applies the provisions of Accounting Principles Board Opinion No. 25
"Accounting for Stock Issued to Employees" and related interpretations in
accounting for its stock-based compensation plans. Accordingly, no compensation
has been recognized in the financial statements with respect to options and
warrants issued with an exercise price at or above the fair market value of the
stock on the grant date. Had compensation costs for such options and warrants
been determined based on the fair value approach promulgated by Statement of
Financial Standards No. 123 "Accounting for Stock Based Compensation", the
Company's net loss applicable to Common Stock would have been increased to
$(10,121,514) ($(1.24) per share) and $(14,098,692) ($(2.39) per share) for the
years ended June 30, 1999 and June 30, 1998, respectively.

The pro forma compensation expense of $423,466 and $4,970,318 for 1999 and 1998,
respectively, was calculated on the fair value of each option using the minimum
value method for those options issued prior to October 17, 1997 (the date of
initial filing with the SEC) and using the Black Scholes method for those
options issued on October 17, 1997 and later. The following weighted average

                                        F-18

<PAGE>   52
                          PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)

assumptions were used in the calculations:


<TABLE>
<CAPTION>
                                                1999                   1998
                                         ----------------        ---------------
<S>                                      <C>                     <C>
  Risk free interest rate                      5.87%                  6.10%

  Expected option lives                      8.6 years              6.1 years

  Expected volatility                          62.0%               62.0% **
</TABLE>

  ** For options granted October 17, 1997 and later

During 1997, the Company extended the terms of certain options issued to
employees. As a result, the Company recorded a charge of $208,335, which
represents the fair value of the Company's common stock at the new measurement
date in excess of the exercise price of the underlying option.

In September 1997, the Company granted 20,000 fully vested options with an
exercise price of $2.50 per share to an employee to replace certain warrants
which had expired in 1996. As a result, the Company recorded a charge of $80,000
in September 1997 which represents the fair value of the stock in excess of the
exercise price of the option.

On October 1, 1997, the Board of Directors of the Company approved a
modification of the terms of all stock options held by individuals who, as of
that date, were current employees of the Company, except executive officers. The
modification, which affected approximately 320,380 options, reduced the exercise
price of such options to $8.00 per share. No compensation expense was recorded
in connection with this transaction as the exercise price of such options
exceeded the fair market value of the Company's stock on the date of this
transaction.

In January 1998, the Board of Directors of the Company approved the creation of
an employee bonus pool of 100,000 incentive stock options, pursuant to the
Company's Stock Option Plan to be awarded during calendar year 1998, on a
discretionary basis, in recognition of extraordinary performance. In December
1998, 82,000 incentive stock options from this pool were awarded to certain
employees of the Company at an exercise price of $3.875, the fair market value
of the underlying stock as of the date of issuance.

In January 1998, the Board of Directors of the Company approved the grant of
options with a ten year term to purchase up to 59,600 shares of common stock to
a third party consultant. Of those options granted, 9,600 were fully vested upon
grant in consideration for consulting services previously rendered. Accordingly,
the Company recorded a charge of $33,312 in the third quarter of 1998 which
represents the fair value of the vested options. The remaining 50,000 options
will vest upon the earlier of (i) the consultant providing ten years of
continued consulting services, or (ii) the attainment of certain performance
criteria. Charges for such unvested options will be recorded in proportion to
progress made on such performance criteria. There was no charge recorded in
fiscal year 1998 or 1999 for the unvested portion of this option grant.

In January 1998, the Board of Directors of the Company approved the grant of
options with a ten year term to purchase up to 100,000 shares of common stock at
an exercise price of $7.25 to the Company's Treasurer and CFO. No compensation
expense was recorded in connection with this

                                        F-19

<PAGE>   53

                          PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)

transaction as the exercise price of such options was equal to the fair market
value of the Company's stock on the date of the transaction.

On May 28, 1998, the Board of Directors of the Company approved a modification
of the terms of certain stock options held by individuals who, as of that date,
were current officers or directors of the Company. The modification, which
affected approximately 350,000 options, reduced the exercise price of such
options to $8.00 per share. No compensation expense was recorded in connection
with this transaction as the exercise price of such options exceeded the fair
market value of the Company's stock on the date of the transaction.

In November 1998, the Board of Directors of the Company approved the granting of
two stock options to the Company's President and CEO. The first such option is
for 200,000 shares of Common Stock at an exercise price of $4.563 and shall vest
and become exercisable over a three-year period. No compensation expense was
recorded in connection with this transaction as the exercise price of such
option was not less than the fair market value of the Company's stock on the
date of this transaction. The second option is for the purchase of an additional
200,000 shares of Common Stock at an exercise price equal to $7.00 per share and
will vest upon the attainment of certain performance criteria based on the
revenues from operations during the fiscal years ending June 30, 1999 through
June 30, 2002. Both option grants are for a term of 10 years. No options were
earned under the performance criteria in the fiscal year ended June 30, 1999.

In December 1998, the Shareholders of the Company ratified an amendment to the
Stock Option Plan to increase the number of shares of Common Stock reserved for
issuance upon the exercise of options granted under the Plan from 1,560,000 to
2,160,000.

In April 1999, the Board of Directors of the Company approved the grant of
options with a one year term to purchase up to 10,000 shares of common stock at
an exercise price of $8.00 to each of two board members.

In December 1998, the Board of Directors of the Company approved the issuance of
five year, fully vested options to a third party consultant. Under the terms of
an agreement with the consultant, the number of options to be granted would be
calculated and priced as of the last day of each month of service, based on the
number of days of service to the Company. Between October 1998 and June 1999 the
Company granted options to purchase 7,829 shares of common stock with exercise
prices ranging from $2.40 to $5.57.

In June 1999, the Board of Directors of the Company approved the creation of an
employee bonus pool of 100,000 incentive stock options, pursuant to the
Company's Stock Option Plan to be awarded during calendar year 1999, on a
discretionary basis, to individuals who are employees of the Company at the time
of grant (other than officers), either as an incentive or in recognition of
extraordinary performance. As of June 30, 1999, 10,200 of these options had been
issued.

14.  COMMITMENTS AND CONTINGENCIES:

GE AGREEMENT
In July 1991, the Company entered into a license agreement with General Electric
Company ("GE") granting to the Company a non-exclusive license for use of
certain of GE's intellectual property. This agreement expired in July 1996 and
in November 1997 the Company negotiated a new agreement with GE. This agreement,
which is retroactive to July 1996, has a five-year term.

Under the terms of the license agreement, the Company is required to pay
royalties to GE based upon the Company's gross revenues. All royalties accrue as
earned and are payable semi-annually. As of June 30, 1999, the amount accrued
under this agreement was not material.

                                        F-20
<PAGE>   54
                          PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)

SARNOFF AGREEMENT
The Company entered into an agreement with David Sarnoff Research Center, Inc.
("Sarnoff") in November 1990, which was amended in August 1991 and June 1995,
granting the Company an exclusive, worldwide license for use of the proprietary
Pyramid Image Processing technology developed by Sarnoff in the fields of
television advertising and for any purpose for television programming involving
sports. The Company may terminate this agreement at any time.

Under terms of this agreement, the Company will pay royalties of between 3% and
5% to Sarnoff, based upon the Company's gross revenues. All royalties shall
accrue as earned, but no payments are required to be made until the earlier of
the date on which cumulative gross revenues reach twenty million dollars or
January 1, 1999. Payments for all accrued royalties became due in January 1999
and the first required payment was made to Sarnoff in April 1999.

 Under terms of this agreement, commencing in January 1999, minimum quarterly
royalties of $100,000 become due in order to maintain the license. For the
calendar years 1999 and 2000, the Company has the option of paying these minimum
royalties in cash or with Company stock at its last issue price. The Company
elected to issue stock for royalties due for both the first and second quarter
1999 and, accordingly, recorded total royalty expense in the amount of $152,232
reflecting the issuance of 28,572 shares of common stock.

THESEUS AGREEMENT
In December 1995, the Company entered into a license agreement with Theseus
Research, Inc. ("Theseus") whereby the Company was granted a non-exclusive
worldwide license, without the right of sublicense, to use Theseus technology in
its system. During the term of the license, the Company will pay royalties of
between .05% and .20% of net sales on a quarterly basis. The agreement
terminates with the expiration of the last of the patents included in the
licensed technology. At June 30, 1999 the amount accrued under this agreement
was not material.

GDM AGREEMENT
In December 1995, the Company entered into a license and association agreement
with Gerencia de Medios, S.A., ("GDM"), a subsidiary of Prisa, a Spanish media
company. The purpose of this association was to allow GDM to market and use the
Company's system in sports broadcasts in Spain and Portugal throughout a trial
period, which expired in December 1996.

Under the terms of the association, GDM paid the Company $500,000 in license and
royalty fees, $200,000 of which was refundable if GDM was unable to use the
Company's system during the trial period because of patent infringement on third
parties. The remaining $300,000 was a deposit paid by GDM for use of the
Company's system which must be refunded to GDM. GDM sought a refund of the
license and royalty fee it previously paid to the Company asserting, as one
reason, its receipt of a letter from an affiliate of Symah Vision-SA ("Symah"),
a competitor of the Company, asserting that use of the L-VIS System in Spain
would infringe one of Symah's patents. Both GDM and the Company were advised by
European patent counsel that use of the L-VIS System would not infringe Symah's
patent.

In November 1997 the Company settled its dispute with GDM concerning amounts
owed by the Company to GDM under the terms of their association agreement. GDM
returned the L-VIS system equipment to the Company in January 1998 in exchange
for a $365,000 payment to GDM from the Company. The remaining $135,000 of the
original $500,000 received from GDM was recorded as license revenue by the
Company in the second quarter 1998.

D&D ENTERTAINMENT

In May 1997, the Company signed a non-binding letter of intent with D&D
Entertainment Group N.V. of


                                   F-21
<PAGE>   55

                          PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)

Belgium ("D&D") for purposes of marketing the Company's technology in the
Benelux region of Europe. Under the terms of this letter of intent, the Company
received $250,000 of advanced licensing fees which were held as customer
deposits pending the decision of D&D and the Company to enter into a definitive
agreement. Between May 1997 and May 1998, D&D used the L-VIS System on a trial
marketing basis in connection with a subsidiary company of D&D called Mobilis.

In May 1998 the Company entered into a definitive agreement with D&D under the
terms of which the Company paid D&D $250,000 held on deposit, in exchange for
the return of the L-VIS System. The Company agreed to pay an additional $50,000
as consideration for the purchase of certain assets of D&D pending a
determination of their fair market value, use of office space for a period of
six months, and the rights to hire two D&D technicians trained in the operation
of the L-VIS System. Upon further evaluation, the fair market value of the
assets purchased was determined to be $11,000, and D&D and the Company agreed to
a reduction in the amount due D&D. The Company paid D&D $11,000 in July 1999.

LEASES

The Company leases its primary office space under operating leases. In July
1997, the Company entered into a three-year operating lease for office space in
New York City. In October 1997, the Company entered into a five-year operating
lease agreement for its office headquarters in Lawrenceville, New Jersey. Rent
and equipment lease expense for the years ended June 30, 1999 and 1998 was
$400,956 and $395,979, respectively.

Future minimum rent and lease payments are as follows:
<TABLE>
<CAPTION>
                                  Year                        Amount
                                  ----                        ------
<S>                                                    <C>
                                  2000                      $342,632
                                  2001                       218,714
                                  2002                       205,032
                                  2003                        51,258
                          Thereafter                               -
                                                       -------------
                     Total minimum lease payments     $       817,636
                                                       ==============
</TABLE>

Under the terms of the three year lease signed in 1997 for the New York
facility, the Company is required to maintain an irrevocable, unconditional
$70,000 letter of credit throughout the term of the lease. Under the terms of
the five year lease signed in October 1997 for the Lawrenceville, New Jersey
headquarters, the Company is required to maintain an irrevocable, unconditional
$51,258 letter of credit throughout the term of the lease.

LEGAL CONTINGENCIES

In June 1999 the Company filed suit for patent infringement in U.S. District
Court in Delaware against Scidel USA Ltd., the U.S. subsidiary of the Israeli
Company, Scidel Technologies Ltd. The Company contends that Scidel's video
imaging system for electronically inserting advertising into live television
broadcasts infringes on PVI's U.S. Patents No. 5,264,933 and 5,892,554. PVI
seeks a permanent injunction prohibiting infringement of its patents. Although
it is not possible to determine the ultimate outcome of this matter, it is
management's opinion that the resolution of this issue will not have a material
adverse effect on the financial position, results of operations or cash flows of
the Company.

                                        F-22
<PAGE>   56
                          PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)

15.  INDUSTRY SEGMENT, GEOGRAPHIC AND CUSTOMER INFORMATION

The Company operates in one industry segment, real-time video imaging.

The Company markets its L-VIS System worldwide through licensing agreements. One
licensee, Publicidad Virtual S.A. de C.V. accounted for 37% and 53% of net sales
for fiscal years ended June 30, 1999 and 1998, respectively.

Geographic information is as follows:
<TABLE>
<CAPTION>
                                                           U.S.           Mexico          Other
                                                      ---------------- --------------  -------------
<S>                                                   <C>              <C>             <C>
      1998
      Advertising and  production revenue              $  324,789        $     -        $        -
      License and royalty fees                                               371,223
                                                      ================ ==============  =============
                 Total                                 $  324,789        $   371,223    $        -
                                                      ================ ==============  =============

      1999
      Advertising and  production revenue              $  694,528        $         -    $        -
      License and royalty fees                                  -            450,185        77,500
                                                      ================ ==============  =============
                 Total                                 $  694,528        $   450,185    $   77,500
                                                      ================ ==============  =============
</TABLE>

All Company assets are based in the US with the exception of certain L-VIS
Systems which are being used by the Company's licensees in connection with
foreign operations. The approximate value of these L-VIS Systems located in
foreign countries is as follows:
<TABLE>
<CAPTION>

          1998                             Mexico            Other             Total
<S>                                      <C>               <C>              <C>
          L-VIS Systems                  $343,244                0          $343,244
                                 ====================================================

          1999
          L-VIS Systems                  $620,634          135,000          $755,634
                                 ====================================================
</TABLE>

16.  RELATED PARTY TRANSACTIONS:

A member of the Board of Directors of the Company is also the President of J.J.
Pomerance & Co., Inc., a corporation that furnished consulting services to the
Company from time to time through the initial public offering in December 1997.

A member of the Board of Directors of the Company is also a principal
shareholder and the President of the Board of Directors of Presencia, which has
made several equity investments in the Company and is the Company's former joint
venture partner and current licensee.

A member of the Board of Directors of the Company is formerly the sole
shareholder and President of Princeton Venture Research, Inc. ("PVR."). PVR
entered into an arrangement with the Company regarding the services of a
consultant that PVR provided to the Company for several months in 1995. In
connection with such arrangement, in September 1997, the Company granted PVR a
warrant to purchase 20,000 shares of common stock at an exercise price of $4.50
per share. Additionally, of the $124,000 of Notes received in consideration for
amounts owed under a stock subscription agreement (see Note 11), $80,000 relates
to the member of the Board of Directors, $20,000 relates to the wife of the
member of the Board of Directors and $24,000 relates to PVR. Commencing in July
1997, PVR

                                        F-23

<PAGE>   57
                          PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)

furnished the Company with extensive consulting services in connection with
financial structuring, negotiations with various major shareholders and
preparation of the Bridge Financing. In connection with such services, the
Company has paid PVR a fee of $100,000. In consideration for financial advisory
services rendered to the Company in connection with the Bridge Financing, the
Company paid PVR Securities, Inc., an affiliate of PVR, a fee of $70,000, or
five percent of the gross proceeds of the Bridge Financing obtained from
investors introduced to the Company by PVR Securities, Inc. In connection with
the purchase of Common Stock under the Company's 1997 rights offering, the wife
of the member of the Board of Directors and PVR executed promissory notes in
favor of the Company in the amounts of $9,720 and $50,543, respectively. Such
notes and the related accrued interest, were repaid in full in December 1997.
The member of the Board of Directors of the Company is also the Manager and a
member of Acorn Technology Partners, L.L.C., the general partner of Acorn
Technology Fund, L.P., which purchased 1.5 units in the Bridge Financing in
October 1997. Each unit consisted of one Bridge Note in the principal amount of
$100,000 and Bridge Warrants to purchase 10,000 shares of Common Stock at an
exercise price of $0.01 per share. The purchase price of each unit was $100,000.
The member of the Board of Directors transferred his holdings in the Company
from PVR to The Acorn Technology Fund during the fiscal year ended June 30,
1999.

A member of the Board of Directors of the Company is also a Managing Director
and Executive Vice President of Allen & Company Incorporated, which is a
principal shareholder of the Company and furnishes financial advisory services
to the Company from time to time. Allen, as a Representative, received
underwriting discounts and commissions, as well as Representatives' Warrants
initially exercisable for 380,000 shares of Common Stock, with respect to
services rendered on behalf of the Company with respect to the initial public
offering of its Common Stock in December 1997.

In July 1997, two employees of the Company signed notes (the "Employee Notes")
for $655,000 as consideration for the exercise of warrants to purchase 262,000
shares of common stock at an exercise price of $2.50 per share. Accordingly, a
$360,250 charge to general and administrative expense was recorded in July 1997
for the excess of the fair value of the Company's stock in July 1997 over the
exercise price of the underlying warrants. In December 1997, these two employees
signed notes (the "Tax Notes") for $169,498 as consideration for funds received
for the express purpose of paying the tax liabilities incurred by each of them
in connection with the exercise of their warrants. The Employees concurrently
signed Pledge Agreements pursuant to which the 262,000 shares of common stock
purchased were pledged to the Company. Both the Employee Notes and the Tax Notes
bear interest at a rate of 8.5% and contain no recourse provisions by which the
Company can enforce collection. The Employee Notes mature in July 2002 and the
Tax Notes become due and payable upon the earlier of (i) the first anniversary
of the date on which all of the Pledged Shares become freely transferable, and
(ii) the date on which the employee sells, assigns or otherwise disposes of, for
consideration, any interest in any share of capital stock of Company stock.

In April 1999 and May 1999, Publicidad Virtual signed promissory notes to the
Company for $114,300 and $260,075, respectively as consideration for the
equipment charge associated with two L-VIS Systems delivered to Publicidad for
use in operations. The notes bear interest at the rate of 15% and have a term of
one (1) and three (3) years, respectively.

CONCENTRATION OF CREDIT RISK:

The Company maintains its cash and cash equivalents with major financial
institutions. Held to maturity securities consist of U.S. government Treasury
securities.

17.  SUBSEQUENT EVENTS:

In July 1999, the Company filed an application with the New Jersey Economic
Development Authority ("NJEDA")to sell its approximately $2.1 million of its
unused Net Operating Loss carryover ("NOL") and


                                        F-24
<PAGE>   58
                          PRINCETON VIDEO IMAGE. INC.
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)

unused Research and Development ("R&D") Tax credits for 75% of the value of the
tax benefits. Under the terms of the application, the proceeds of the sale must
be used by the Company for the purchase of fixed assets, working capital and any
other expenses determined by the NJEDA to be in conformity with the NJ Emerging
Technology and Biotechnology Financial Assistance Act. The final determination
of the amount to be received by the Company is subject to adjustment by the
State of New Jersey based on the amount of the total applications received and
may be less than the entire $2.1 million applied for, in which case, the NOL
would be available for the Company to use (or sell) in the future.

In July 1999, the Company entered into an operating lease agreement for
additional office space in Lawrenceville, New Jersey. This lease is co-terminus
with the operating lease for its primary office space and will terminate in
September 2002. Total minimum lease payments over the term of the lease are
$192,375.

In July 1999, the Company signed a two-year agreement with CanWest Global
Communications Corporation ("CanWest"), an international media company and
Canadian broadcaster. Under the terms of the agreement, CanWest will use the
Company's L-VIS System to insert electronic images into live sports events and
entertainment programming, including Canadian telecasts of NFL games. The
Company will receive a share of the revenue received by CanWest based on the use
of the L-VIS System.

In August 1999, the Company signed a five-year license agreement with Sistemas
de Publicidad Virtual, S.L., ("Sistemas") under which Sistemas will use the
Company's L-VIS System to insert electronic images into television broadcasts in
Spain and Portugal. The Company will receive a share of the revenue received by
Sistemas based on the use of the L-VIS System. Sistemas is required to meet
certain performance criteria and revenue targets in order to maintain the
license in effect.

In September 1999, the Company entered into a multiyear agreement with CBS
Sports under which CBS Sports will use PVI's technology to insert a virtual
first-down line in NFL regular and playoff season football games as well as
Super Bowl XXXV in January 2001. The agreement also names PVI as the exclusive
provider of virtual imaging for college football games broadcast on CBS. The
Company will receive a share of the revenue received by CBS Sports based on the
use of the Company's L-VIS System.

                                        F-25