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                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

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

                                   FORM 10-KSB
                   ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF
                       THE SECURITIES EXCHANGE ACT OF 1934

For the Fiscal Year Ended June 30, 1997 Commission File No. 0-23396

                               Skyline Multimedia
                               Entertainment, Inc.
                 (Name of Small Business Issuer in Its Charter)

                New York                               11-3182335
     -------------------------------             ----------------------
     (State or Other Jurisdiction of             (I.R.S. Employer
     Incorporation or Organization)              Identification Number)

350 Fifth Avenue, New York, New York                      10118
---------------------------------------          ----------------------
(Address of principal executive offices)                (Zip Code)

                                 (212) 564-2224
                ------------------------------------------------
                (Issuer's Telephone Number, Including Area Code)

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

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

     Units consisting of Common Stock, Class A Warrants and Class B Warrants
                     Common Stock, $.001 Par Value Per Share
                           Redeemable Class A Warrants
                           Redeemable Class B Warrants

Check whether the Issuer: (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding
12 months (or for such shorter period that the registrant was required to file
such reports), and (2) has been subject to such filing requirements for the past
90 days:

                         Yes  /X/                No  / /

Check if there is no disclosure of delinquent filers pursuant to Item 405 of
Regulation S-B contained herein, 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.


                                       /X/

The Company's revenues for its most recent fiscal year were $8,774,000.

The aggregate market value of the voting stock held by non-affiliates of the
Company was $2,814,000 as of September 30, 1997 based on the average bid and
asked prices of such stock as of that date.

There were 2,345,000 shares of Common Stock, $.001 par value, outstanding as of
September 30, 1997. Additionally, there were 1,090,909 shares of Series A
Convertible Participating Preferred Stock, $.001 par value per share,
outstanding as of September 30, 1997.

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                       DOCUMENTS INCORPORATED BY REFERENCE

         1. Proxy Statement for the annual meeting of shareholders to be filed
with the Securities and Exchange Commission within 120 days following the
Company's fiscal year ended June 30, 1997. Certain information to be included
therein is incorporated by reference into Part III hereof.



<PAGE>

                                     PART I

Item 1. DESCRIPTION OF BUSINESS.

General

         Skyline Multimedia Entertainment, Inc. (the "Company") is a holding
company incorporated under the laws of the State of New York on November 2,
1993, which owns all of the outstanding stock of its operating subsidiaries, New
York Skyline, Inc. ("Skyline"), Skyline Virtual Reality, Inc. ("SVR"), Skyline
Chicago, Inc. ("SCI") and Skyline Magic, Inc. ("SMI"). The Company is engaged in
the development and operation of state-of-the-art simulator attractions and
high-technology and family entertainment at established tourist sites and other
popular locations primarily in the United States. The Company's operating
strategy is to capture a large portion of the existing tourist traffic at these
sites and to expand its operations throughout the world. All references to the
"Company" contained herein include Skyline, SVR, SCI and SMI, except where
specifically noted.

         On December 22, 1994, the Company commenced operations of its first
attraction, New York Skyride, which is located in the Empire State Building in
New York City. New York Skyride is an exhilarating simulated "aerial tour" of
New York City in a futuristic "spacecopter". New York Skyride features two 40
passenger state-of-the-art flight simulators and related computer-controlled
film projection technologies to provide visitors with a complete "New York"
experience, including an extensive pre-show area featuring interactive
multimedia exhibits depicting the various tourist sites and attractions in and
around the New York Metropolitan area, and culminating in a seven and a half
minute aerial "adventure" in and around New York City. Passengers will not only
experience the sensations of an actual aerial flight, but will also experience
visual images projected on screens within the simulator that envelop the viewer
with a variety of sights and sounds. New York Skyride is intended to provide
visitors with a sensation of taking a "once in a lifetime" aerial flight around
New York City. The Company believes that New York Skyride is identified with the
focal point of the tourism industry in New York City and one of the world's most
famous "must-see" attractions.

         On December 27, 1996, the Company commenced operations, through SVR, of
an interactive virtual reality entertainment center, XS New York, which is
located in the heart of Times Square in New York City. XS New York features
state-of-the-art entertainment technology, including the latest in virtual
reality hardware and software, simulation technology and interactive
participation game experiences. Additionally, the facility includes a
"cybercafe" which offers light food and refreshments and computer terminals
which are linked to the World Wide Web and the Internet. XS New York was opened
on a preview basis until March 20, 1997, the date of its official Grand Opening.
Accordingly, revenues generated by XS New York during the 1997 fiscal year are
disproportionate to the expenses incurred to commence operations and the normal
overhead expenses attributable to such operations during such fiscal year.

         During September 1996, the Company entered into a 15 year lease for
approximately 21,000 square feet of space in the Woodfield Mall outside of

Chicago in Schaumberg, Illinois. The Company, through SCI, plans to develop a
state-of-the-art interactive virtual reality entertainment

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center, XS Chicago, similar to the XS New York project. The XS Chicago location
will be situated near the Rainforest Cafe, a successful themed restaurant, and
other retail establishments that attract tourists and regional area residents.
The Woodfield Mall, one of the largest and most heavily visited malls in the
United States, boasts annual attendance in excess of 18 million people. The
Company expects to open its XS Chicago facility during the Summer/Fall of 1998.
The previous sentence is considered a forward-looking statement and is based on
estimates by the Company that include assumptions with respect to availability
of funding and seasonal construction issues, either or both of which may affect
the proposed opening of a particular site. For example, unavailability of
adequate funding will result in delays in commencement or suspension of
construction. Additionally, construction may also be hampered by adverse weather
conditions in the winter months, as well as increases in prices for raw
materials and equipment, strikes, work-stoppages, unanticipated events and
regional, national and international economic trends. Accordingly, there can be
no assurances that the Company will be able to open such facility as
anticipated.

         During December 1996, the Company signed a letter of intent to develop
a simulator attraction, similar to New York Skyride, to be located in the
Centrepoint Shopping Center which adjoins the world famous Sydney Tower (the
"Tower") in Sydney, Australia. Centrepoint is the leading shopping and tourist
attraction in Sydney, Australia, and will be the merchandising and promotional
center for the 2000 Olympics, which will take place in Sydney. The Tower alone
attracts approximately 1,300,000 visitors per year and an additional 20,000,000
people visit the adjoining shopping center annually. The letter of intent
provides for an eight year renewable lease (currently being negotiated) for
approximately 16,500 square feet of space located on the promenade level of the
Tower, which is the entry point to the Tower.

         The Company hopes to finalize lease negotiations and documentation
during the Fall of 1997 and expects to pattern the Tower project after New York
Skyride, but with a uniquely Australian theme. The Company anticipates that it
will open its "Sydney Skyride" during Fall/Winter of 1998. The previous sentence
is considered a forward-looking statement and is based on estimates by the
Company that include assumptions with respect to availability of funding and
seasonal construction issues, either or both of which may affect the proposed
opening of a particular site. For example, unavailability of adequate funding
will result in delays in commencement or suspension of construction.
Additionally, construction may also be hampered by adverse weather conditions in
the winter months, as well as increases in prices for raw materials and
equipment, strikes, work-stoppages, unanticipated events and regional, national
and international economic trends. Accordingly, there can be no assurances that
the Company will be able to open such facility as anticipated. Additionally,
there can be no assurance that the Company will be able to successfully finalize
lease negotiations with the landlord of the Tower and the Centrepoint Shopping
Center, or, if finalized, that it will be able to arrange for adequate financing

of this project and complete construction of the "Sydney Skyride" by the date
anticipated, if at all.

         The Company intends to use the expertise and experience which it gained
from the operation of New York Skyride and XS New York to develop these and
similar attractions at other locations in the United States and abroad. However,
there can be no assurance that the Company will be successful in developing
these attractions or other attractions at additional locations.

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         The Company, through its subsidiary, Skyline Magic, Inc., entered into
a 50/50 joint venture in order to produce and manage a "Broadway-style" show
featuring the talents of an internationally renowned magician. The show, "Magic
on Broadway", was showing at the Lambs Theater in New York City from September
1996 to July 1997. The Company remained involved with the show until April 1997.
According to the terms of the joint venture, the Company's investment was
limited to its initial contribution of $250,000, which amount has previously
been written-off.

         The Company's revenues are generated primarily from ticket sales, with
additional revenues generated from the sale of food, beverages and souvenir
merchandise. The Company has entered into corporate sponsorship and advertising
arrangements with major international corporations which provide additional
revenue and marketing exposure.

         The Company's principal executive office is located at the Empire State
Building, 350 Fifth Avenue, New York, New York 10118 and its telephone number is
(212) 564-2224.

The New York Skyride Experience

         New York Skyride is an adventure that is directly related to the New
York City tourist experience. The Company believes that New York Skyride
enhances a visit to the Empire State Building and to New York City by providing
an exciting, bird's-eye view of the landmarks and sites that cannot be seen from
any other vantage point.

         Upon entering New York Skyride, visitors, who will be treated as
first-class passengers about to depart on a futuristic helicopter flight aboard
the "Zalman 2100 Spacecopter", will proceed into the Pre-Show Heliport area
(approximately 7,500 sq. ft.) where they are introduced to multimedia displays
depicting major New York City tourist attractions as well as informational and
entertaining film clips. These displays have been designed and installed by
certain of the Company's sponsors.

         The Pre-Show area has interactive multimedia exhibits which provide the
background of certain tourist attractions in the New York City area. These
exhibits provide the visitor with useful knowledge about New York City and its
many popular tourist sites and a feeling of participation in the New York
Skyride experience.


         Following a preflight briefing about "spacecopter" travel, passengers
will enter into one of the two "Zalman 2100 Spacecopters", which are 40
passenger computer-controlled flight simulators. At the front of each simulator
is a large 18' x 18' screen upon which a fast-paced film is displayed. The
simulator also contains an advanced 8-channel digital sound system, with 4 dual
amplifiers, 400 watts per channel each (or 3,200 watts of total sound), to
provide passengers with an enhanced audio/visual experience.

         Once the passengers are seated in the spacecopter, they begin a seven
and a half minute simulated flight that treats them to an array of New York City
scenes. Spectacular adventures await the passengers throughout their excursion.
For example, the spacecopter crashes into FAO Schwarz, the world's largest toy
store, passes directly under the Brooklyn Bridge, "dives" into a tunnel, crashes
into the East River, has a run-in with a New York City traffic cop, among other
exciting adventures.

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The spacecopter also visits many of New York City's other tourist attractions,
including Fifth Avenue, the World Trade Center Towers, Central Park, Times
Square and the Statue of Liberty. Since New York Skyride is intended to be a
family-oriented attraction, the film is designed to appeal to the broadest
audience and not purely the most adventurous thrill-seekers. The film makes the
Empire State Building the focal point of the attraction, with a liftoff and
landing taking place from atop the Empire State Building.

         Once the spacecopter flight has been completed, passengers exit the
simulators and proceed to the exit lobby which contains a beverage, food and
souvenir concession area. All passengers are able to purchase souvenirs of their
visit to New York Skyride.

The XS New York Experience

         The Company's latest project includes an interactive virtual reality
entertainment center, "XS New York", which is located in the heart of Times
Square in New York City. XS New York presents the latest in state-of-the-art
entertainment technology, featuring cutting-edge virtual reality hardware and
software. Upon entering XS New York, guests will immediately become immersed in
heavily themed "environments" that display futuristic graphics, lighting, audio
and video treatments. Presented in a first class, professional format, guests
will be led through an expertly designed layout that introduces them to
interactive show action equipment and special effects areas into virtual
"worlds" that offer each guest an opportunity to experience the latest in
virtual reality and related technologies.

         Each virtual world features a unique type of virtual reality
hardware and software display. Some offer competition between players while
others provide exploratory experiences. Tickets are purchased from a centrally
located ticket area which also serves as the launching point for most guest
experiences. One of the virtual worlds includes a "Cybercafe" which offers light
food and refreshments and computer terminals which are linked to the World Wide
Web and Internet.


         Other themed environments feature attractions such as the newly 
created Mag-Ball(TM) competition arena, which allows guests to participate in 
the very popular Mag-Ball(TM) game, and the internationally recognized 
Virtuality 2000 series interactive entertainment equipment. Some environments
include a 3-dimensional action and visual presentation allowing guests to view
their own activity, the activity of competitors and the attractions' vital
statistics on giant overhead monitors and projection screens. Simultaneously,
guests waiting to participate in a particular virtual world and those seated in
the Cybercafe are also able to view the fast-paced action and sound effects of
certain themed environments. Some environments include interactive virtual
reality equipment that can be programmed to function as stand alone units or in
conjunction with other players at other locations. See  "Management's Discussion
and Analysis of Financial Condition and Results of Operations--Liquidity and
Capital Resources" for more information concerning the "XS" locations, including
capital expenditures, capital commitments and profit-sharing arrangements.

                                        5

<PAGE>

The XS Chicago Experience

         In September 1996, the Company entered into a lease for approximately
21,000 square feet of space in the Woodfield Mall outside of Chicago in
Schaumberg, Illinois. The Company, through SCI, is developing a
state-of-the-art interactive virtual reality entertainment center, XS Chicago,
similar to the XS New York project currently under development. The XS Chicago
location will be situated near the Rainforest Cafe, a successful themed
restaurant, and other retail establishments that attract tourists and regional
area residents. The Company will have to obtain additional financing in
connection with the development of XS Chicago and is currently in the process of
identifying potential sources or alternative arrangements, although there can be
no assurance that such financing or alternative arrangements will be available
on acceptable terms, or at all. See "Management Discussion and Analysis of
Financial Condition and Results of Operations--Liquidity and Capital Resources."

Simulator and Virtual Reality Technologies

         The Company's motion simulator attractions utilize state-of-the-art,
computer-controlled aircraft flight simulators. Simex, Inc. (formerly
Interactive Simulation, Inc.), a Canadian company experienced in simulation
technology, provided the sophisticated computer hardware and software that
coordinates the movements of the simulator platform with the images projected on
the screen. The range of motion for the simulators is along six axes (that is,
the simulators can create up and down motions, right and left motions, angled
motions to simulate turning or banking while climbing or descending at varying
degrees and a spin motion, or some combination of the above). The movable
platforms on which the simulators rest and which move in synchronization with
the film were developed by Moog, Inc., a large defense contractor experienced in
the adaptation of flight simulator technology to the entertainment market.


         A key component of the simulator technology is the "show control
system", which is a PC-based computer program that coordinates and manages the
motion and gyration of the simulator with the film and audio elements of the
program. For example, when the film image shows the spacecopter banking to the
right, there must be a precise, coordinated movement of the simulator in that
direction to both convince the passengers' senses that they are flying in a
spacecopter and prevent passenger disorientation. The speed of the film through
the projection system is faster than normal film, television or video footage,
which enhances the passengers' perception of motion and movement. The film is in
state-of-the-art super 35mm format projected at 30 frames per second rather than
standard 24 frames per second, which provides a sharper, more intense image. The
projection equipment is a fully automated system that eliminates the need for a
projector operator. The film was developed in conjunction with Chromavision
Corp., a production studio with extensive experience in fast-paced concept
films.

         XS New York features (and, in the future, XS Chicago will feature) a 
wide assortment of the latest in entertainment and virtual reality hardware and
software technologies. The state-of-the-art interactive virtual reality
technologies which are showcased at XS New York include: a dogfight simulation
experience created by Evans and Sutherland, which allows direct competition with
other participants and provides each participant the opportunity to engage their

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opponent and navigate through a canyon at high speed; the "Mag-Ball" experience
developed by Greystone Technology, a southern California defense contractor,
provides an interactive competition that can be linked with players at other
venues across the country; Virtual Reality game experiences, including Total
Recoil, manufactured by Virtuality Ltd., a British company, a simulated skeet
shoot contest that provides all the sensations of firing a shot gun in a
completely safe environment, and many other 3-dimensional software packages,
including Alpine Racer - a simulated slalom ski race, Daytona Speedway - a
simulated car racing experience, and Full Swing Golf - a simulated golf
experience featuring the most famous golf courses in the world; and a virtual
PC-based game and sports "battle ground" where players compete on-line and in
person, for scholarships and prizes, on a three-tiered pyramid stage, which will
combine the excitement of a Hollywood game show and the intensity of a PC action
game, in the latest unique spectator event. XS New York also features a 
contemporary Cybercafe which serves food and beverages while providing access to
the World Wide Web and Internet from table-based PC computer stations.

         XS New York also features, and future "XS" locations will feature, a
uniquely themed retail area. XS New York's retail area provides (and in the case
of XS Chicago, will provide) "XS" related merchandise as well as specialty
souvenirs. Since attractions at XS New York and XS Chicago require the use of
magnetic debit cards, a comprehensive database will be created indicating
customer demographics and preferences, which information the Company will use
for future software development, special event promotions and merchandise
selection.


The Empire State Building Location

         New York Skyride is located on the second and third floors of the
Empire State Building, in a 21,800 square foot site that wraps around the south
and west sides of the building with an entrance situated adjacent to the main
lobby escalator that takes all visitors to the waiting area for the Observatory
elevators. Signs and video monitor displays in the Empire State Building's lobby
and in the Observatory ticket purchase area make visitors to the Empire State
Building aware of New York Skyride. Most importantly, visitors who purchase
tickets to the Observatory are offered the choice of purchasing a combined
Observatory/New York Skyride ticket at a reduced price from separate purchases
of tickets to both attractions. The cost of a ticket to New York Skyride is
$11.50, and the cost of a combined ticket with the Observatory is $14.00 (the
cost of a ticket to the Observatory is $6.00). Children's rates, group rates and
senior discounts are also offered along with other promotional discounts.

         The Empire State Building is a focal point for the tourism industry in
New York City. The Observatory, which opened in 1933 and is located on both the
102nd and the 86th floors, has achieved worldwide recognition and publicity, and
is a primary destination for a large percentage of New York City's tourist
traffic. Estimated paid attendance figures provided by management of the Empire
State Building for the last five years for the Observatory are summarized below.

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                        EMPIRE STATE BUILDING OBSERVATORY
                         ADMISSION TICKET SALES (000'S)

         YEAR      1992     1993     1994     1995     1996
                   ----     ----     ----     ----     ----

TOTAL ATTENDANCE   2,391    2,650    2,915    3,350    3,350

         The Company believes that combined ticket sales at the Observatory's
ticket facilities together with the Company's marketing and promotional
campaigns will enable New York Skyride to attract approximately 20-25% of all
visitors to the Observatory; however, there can be no assurance that these
levels will be achieved. For the year ended June 30, 1997, the Company's capture
rate of Observatory visitorship averaged approximately 19%, down from an average
of approximately 21% for the year ended June 30, 1996. The Company believes that
the decrease in the capture rate is temporary resulting from internal issues
involving management of the Empire State Building. The Company is currently
having discussions with management of the Empire State Building to correct this
situation. However, there can be no assurance that satisfactory resolution of
any issues will be achieved or that the capture rate will increase to previous
levels. The Company anticipates that with additional marketing and promotional
activities to further public awareness of New York Skyride, both inside and
outside the Empire State Building, the Company's capture rate should increase to
anticipated levels.

The Times Square Location


         The Company has leased approximately 13,000 square feet of space at
1457-1463 Broadway (at 42nd Street), New York, New York in the Business
Improvement District Entertainment Zone located in Times Square in New York
City. This space is being utilized for the Company's latest attraction, XS New
York, a state-of-the-art interactive virtual reality entertainment center.
Ideally situated in the heart of Times Square, XS New York is part of the
exciting revitalization of Times Square along with such other notable names as
Disney's New Amsterdam Theater, Madame Tussaud's Wax Museum and AMC's 26-Plex
Movie Theater, and is located directly across from the World Famous Disney
Store. The Times Square area is visited by approximately 20 to 30 million
tourists annually, employs 250,000 people and accommodates 1.5 million commuters
every day. This incredible density of people with significant disposable income
continues to grow each year and is expected to grow at a more significant rate
as a result of the revitalization efforts mentioned above. In addition, Times
Square in New York City is the most popular place in the world on New Year's
Eve, particularly so as the millennium approaches.

The Woodfield Mall Location

         The Company leased approximately 21,000 square feet of space in the
Woodfield Mall located outside of Chicago in Schaumberg, Illinois. The Woodfield
Mall is the fourth largest shopping mall in the United States with over 2
million square feet of retail space and annual visitorship in excess of 18
million. The Company's premises are located near "The Rainforest Cafe"

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and other retail establishments which attract large numbers of visitors to the
mall. The Company expects to draw tourists who visit the mall and residents
from the surrounding geographic region.

Advertising and Promotional Plans

          The Company intends to capitalize on the strength of its existing
locations with a multifaceted marketing, public relations and advertising
program that will heighten awareness about New York Skyride (including the fact
that it is the first such motion simulator attraction in New York City) and XS
New York among the more than 25 million persons, including tourists and
residents from the surrounding New York area, who visit New York City every
year. Advertising and promotional activities include a careful mix of paid
advertising and promotional and public relations activities.

         In connection with New York Skyride, efforts to attract attendees from
the Observatory are focused within the Empire State Building itself. The
management of the Observatory has agreed to sell combined Observatory and New
York Skyride discounted admission tickets and to identify other opportunities
for shared promotional programs and other joint marketing activities. Pursuant
to the terms of the license agreement with the Observatory, any discount as a
result of combined ticket sales are deducted from the admission price of a New
York Skyride ticket. The non-discounted price of a New York Skyride ticket is
$11.50 for adults and $9.50 for children under the age of 12 years.


         Promoting New York Skyride and XS New York to tourist boards (such as
The New York Convention & Visitors Bureau), travel agents, managers of group
activities and visitors to New York City represents a primary focus of the
Company's marketing efforts for these attractions. Since tourists and visitors
are a primary target, special volume discounts are offered to groups such as
conventions and trade associations, as well as through travel agent packages.
School groups are also a significant market for New York Skyride and XS New
York, and special programs are being implemented to target these audiences,
especially during the slower tourist periods in the fall and winter months.

         The Company will continue to market and promote its activities through
traditional print advertising in publications that go to New York City tourists
and others, as well as broaden its advertising and promotional programs to the
general public through local radio and newspaper advertising. The Company is in
the process of developing its marketing plans for its XS Chicago attraction to
be located in the Woodfield Mall and expects to employ similar advertising and
promotional programs throughout the Chicago Metropolitan area and other
surrounding regions.

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Corporate Sponsors

         Management expects to continue to supplement revenue from ticket sales
to its attractions by soliciting corporate sponsorships from a number of key
consumer product companies. It is expected that these sponsorships will generate
additional revenue for the Company through joint marketing and promotional
programs with these leading consumer product companies. To date, the Company has
entered into three major sponsorship agreements in connection with New York
Skyride, one involving JVC Company of America, a major electronics manufacturer,
one with Pepsi-Cola Bottling Company of New York, Inc., a major soft drink
manufacturer, and one with Fuji Photo Film U.S.A., a major distributor of
photographic and magnetic imaging merchandise. The agreements range in their
terms from three to five years and provide for annual fees, capital improvements
and cross promotions for the Company. The Company believes that such
arrangements will result in greater market awareness and acceptance through the
association of New York Skyride with such corporate sponsors and their products.
Corporate sponsorships in connection with XS New York are being developed and
the Company expects such sponsorships to be a significant source of revenue and
provide significant marketing exposure.

Leases and License Agreements

         The Company, through Skyline, entered into both a lease (the "Lease")
and an exclusive license agreement (the "License Agreement") with the Empire
State Building Company, the operator of the Empire State Building in New York
City, on February 26, 1993. The Lease of the premises located at the Empire
State Building is for a term of 20 years and contains rent escalation provisions
as described under "Description of Property" below and certain other provisions
relating to additional rent, taxes, utilities, prohibition against assignment
and cross-default provisions in the event of a default under the License

Agreement. The Company has negotiated a modification to the Lease extending the
term of the Lease to coincide with a new lease for an additional 35,000 square
feet of space adjacent to the New York Skyride location. The modification
extends the termination date of the Lease from May 1, 2013 through and including
June 30, 2016. The term of the License Agreement has also been extended to
coincide with the new lease for additional space.

         The License Agreement provides for the joint sale of tickets to the
Observatory and New York Skyride provided payments by the Company are made
monthly at an annual rate of $150,000 from April 1, 1995 through March 31, 1998;
$175,000 from April 1, 1998 through March 31, 2002; $200,000 from April 1, 2002
through March 31, 2006; $225,000 from April 1, 2006 through April 30, 2013, and
$186,000 from May 1, 2013 through June 30, 2016. The License Agreement also
provides for the reimbursement by the Company of certain costs and expenses
relating to the joint ticket sales and contains cross-default provisions in the
event of a default under the Lease.

         During April 1996, the Company signed a 20 year renewable lease for an
additional 35,000 square feet of space within the Empire State Building adjacent
to the New York Skyride facility. The lease term commenced July 1, 1997 and
provides for rental payments by the Company at an annual rate of $529,000
through July 31, 1997; $565,000 from August 1, 1997 through July 31, 1998;
$600,000 from August 1, 1998 through July 31, 1999; $619,000 from August 1, 1999
through July 31, 2000; $741,000 from August 1, 2000 through July 31, 2004;
$811,000 from August 1, 2004

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through July 31, 2007; $882,000 from August 1, 2007 through July 31, 2010;
$953,000 from August 1, 2010 through July 31, 2013; and $1,023,000 from August
1, 2013 through July 31, 2016. This lease contains rent escalation provisions as
described under "Description of Property" below and certain other provisions
relating to additional rent, taxes, utilities, and prohibitions against
assignment. Included in the lease is a rent credit of $1,363,000 to be applied
in equal monthly installments against the base rent over the first 60 months of
the lease. The Company has not yet taken occupancy of this additional space and
is in the process of determining how best to develop this space given the
Company's current financial condition. See "Description of Property" and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources."

         Additionally during April 1996, the Company signed a ten year renewable
lease for approximately 13,000 square feet of space in the Business Improvement
District Entertainment Zone located in Times Square in New York City. The rent
commencement date was February 1, 1997 and the lease provides for annual rental
payments of $560,345 for each of the first five years of the lease and $644,000
for each of the last five years of the lease. During June 1997 the Company
negotiated a lease amendment which included additional space of 5,760 square
feet at an annual rental of approximately $29,000. The lease contains a
cancellation clause exercisable at any time in the event the landlord commences
construction of office buildings on the site at some future date. Should the
landlord exercise the cancellation clause, the Company would be required to

vacate the space within six months after notice, but would be entitled to
reimbursement during the first five years of the lease of a portion of its
out-of-pocket construction costs, not to exceed $125 per square foot. In the
event the lease is cancelled, the Company will incur a charge to earnings equal
to the unamortized portion of its investment (other than assets which are sold
in the ordinary course) at the time of such lease cancellation.

         During September 1996 the Company entered into a fifteen year lease
with Woodfield Associates for approximately 21,000 square feet of space in the
Woodfield Mall located outside of Chicago in Schaumberg, Illinois. The lease
term commenced on September 1, 1997. The lease provides for monthly payments at
an annual rate of $420,000 from the commencement of the lease continuing through
the fifth lease year, $630,000 beginning with the sixth lease year through the
tenth lease year, and $839,000 beginning with the eleventh lease year through
the balance of the lease term. In addition, the lease provides for annual
percentage rent equal to 10% of gross sales which exceed $5,597,000 through year
five, $8,395,000 through year ten, and $11,194,000 thereafter. Included in the
lease is a rent credit of $944,325 to be applied in equal monthly installments
against the base rent over the first 60 months of the lease. Additional charges
under the lease for common area maintenance charges aggregate $15 per square
foot beginning with the first year of the Lease and are subject to annual
percentage increases based on increases in tax assessments and other costs and
expenses. As a condition to the execution of the lease, the Company was required
to provide a $200,000 irrevocable letter of credit as security for the
performance of the Company's obligations under the lease. As a result of
construction delays due to the lack of sufficient funding, the Company will not
be able to commence operation of XS Chicago on the date required in the lease.
The Company does not believe that the landlord will declare a default under the
lease provided construction is continuing. However, the Company has temporarily
suspended construction while the Company attempts to identify alternative
sources of financing. Additionally, the Company did not make certain rent
payments claimed by the landlord as owed and the landlord is applying the
Company's security deposit against such rents due. The Company is in the process
of negotiating with the landlord with respect to the rent commencement date. The
landlord may only
                                       11
<PAGE>

use the security deposit to offset rent, other charges and damages as a result
of the Company's breach. The Company believes this situation will ultimately be
resolved in its favor; however, there can be no assurance that such resolution
will be favorable, in which event the Company will continue to be in default 
under the lease, and, if such lease is terminated, such termination would have a
material adverse effect on the Company. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations--Liquidity and Capital
Resources."

Patents and Trademarks

         The Company does not hold any patents relating to New York Skyride or
XS New York and their related technologies. Accordingly, the Company's concept
is not proprietary and is subject to duplication and competition from entities
with greater resources and strengths than the Company. The success of the

Company's business relies heavily on the strength of its location and lease
terms. The Company has obtained a registered trademark for the name "New York
Skyride" and has a trademark application in process for "XS".

Competition

         New York Skyride and XS New York compete with all other New York City
tourist attractions and cultural events such as museums, Broadway shows and
other landmarks. These attractions are quite different "experiences" from that
of a trip aboard the Zalman 2100 Spacecopter (which the Company believes is the
first attraction of its type in New York City) or an experience encompassing the
latest in virtual reality and simulator technologies, but they present intense
competition for attendance and visitor dollars. These other attractions are
generally more established, and are owned and operated by entities that have
greater financial resources and managerial expertise than the Company.
Additionally, a major entertainment complex is being developed at Times Square
which will include entertainment attractions from companies such as Disney,
American Cinema, Madame Tussaud and other large entertainment companies.
Additionally, in September 1996, a simulator attraction opened in Times Square,
and a high-tech Laser Park opened on 45th Street and Broadway. Further, a
simulator attraction opened in March 1997 at the World Trade Center Towers and a
non-New York related simulator opened in October 1996 on the lower level of the
Empire State Building. The Company believes that the simulator attraction on the
lower level of the Empire State Building will not have a material impact on the
Company or the operations of New York Skyride since such attraction is not a
uniquely "New York" experience, has much less capacity than New York Skyride and
will be unable to sell tickets jointly with the Observatory. There can be no
assurance that other virtual reality and simulator attractions will not commence
operations in the New York area at some future point in time.

         Insofar as motion simulation technologies, including show control
systems (and related projection and audio technologies), are subject to
improvements and enhancements, it is possible that competitive attractions will
be able to offer a more technologically advanced "experience" to a customer than
the experience offered by New York Skyride. Also, the Company believes that a
number of attractions, which includes the simulator attraction which opened in
Times Square, utilizing so-called "virtual reality" imaging technologies, or
large film format technologies with enhanced 3-dimensional projection
technologies, are likely to open in the New York area within the

                                       12

<PAGE>

near future. These attractions do not depend on motion simulators for their
special effects, and they are also likely to be developed and operated by
companies that have significantly greater financial, managerial and promotional
experience and resources than the Company. While these attractions may not offer
a directly competitive "product" to New York Skyride (i.e., an aerial adventure
in New York City) or XS New York, their presence will certainly create
significant competition for the Company to attract visitors to New York Skyride
and XS New York. The Company will compete with these entities primarily on the
basis of location, uniqueness of product, marketing and price.


         To the extent the Company develops similar attractions at landmark
locations in other cities, it is likely to face intense competition from
established cultural and historical attractions owned and operated by entities
with significantly greater resources than the Company. The Company is also
likely to face intense competition for the right to operate at other landmark
locations.

Employees

         As of September 30, 1997, the Company employed twelve management
persons (other than the Company's President) on a full time basis. The Company
also employs approximately 180 non-management personnel who typically work one
of three shifts during an approximate 95 hour workweek. In August 1997, the
employees of XS New York voted in favor of union representation. Accordingly,
the Company is currently negotiating with representatives of the union with
respect to a variety of issues to be embodied in a formal contract upon
conclusion of negotiations. The Company does not believe that such union
representation or contract negotiations will have a material adverse effect on
the Company's financial condition or results of operations.

Item 2. DESCRIPTION OF PROPERTY.

         The Company's executive offices are located at the Empire State
Building at 350 Fifth Avenue, New York, New York. These offices consist of 4,400
square feet leased at an annual base rental of $101,000, beginning September 1,
1994, escalating to $110,000 over the five year term of the lease.

         On February 26, 1993, the Company entered into an agreement with the
operator of the Empire State Building for the lease of approximately 17,800
square feet of space on the second floor of the Empire State Building for a term
of 20 years. However, the Company negotiated a modification of the lease term to
coincide with its lease for additional space as described below. The
modification extends the original lease term from May 1, 2013 through and
including June 30, 2016. This space is being fully utilized for the Company's
New York Skyride attraction. Annual base rent through March 31, 1998 is
$338,371; from April 1, 1998 through March 31, 2002 is $391,798; from April 1,
2002 through March 31, 2006 is $445,225; from April 1, 2006 through March 31,
2009 is $498,642; from April 1, 2009 through April 30, 2013 is $534,270; from
May 1, 2013 through June 30, 2016 is $441,663. Such annual rent is payable
monthly and subject to additional amounts for taxes and utilities. The Company
was not required to pay the first 21 months rent which is being amortized over
the term of the Lease.

                                       13

<PAGE>

         The Company also leases an additional 4,000 square feet of space
located above the primary leased premises. The Company uses such additional
space to accommodate a larger screen (18' X 18') on which to show the New York
Skyride film. The term of this lease coincides with the term of the Lease and
License Agreement, as modified, at an annual base rental for such additional
space of $76,000 escalating to $120,000 over the term of the lease.


         During April 1996, the Company signed a 20 year renewable lease for an
additional 35,000 square feet of space adjacent to and above the current
location of New York Skyride. The lease term commenced July 1, 1997 and the
annual base rent over the term of the lease begins at $529,000 and escalates 
over the term of the lease to $1,023,000. Included in the lease terms is a rent
credit of $1,363,000 to be applied in equal installments against the base rent
over the first 60 months of the lease. In conjunction with the signing of this
new lease, the terms of both the Lease and License Agreement signed February 26,
1993 were amended to coincide with the new lease. The Company had intended to
utilize the additional space in the Empire State Building to create a mixed use
location based entertainment center which would likely require a partner with
significantly greater financial resources than the Company. However, development
plans for the additional space have been deferred until such time as the XS New
York project is operating profitably and further assessment is made with respect
to the cost and funding of the XS Chicago and Sydney Skyride projects. It is
likely, however, that the Company will be unable to develop this additional
space in the near term, in which event, the Company will be forced to surrender
this space to the Empire State Building or assign or sublet such space. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources."

         Additionally during April 1996 the Company entered into a ten year
renewable lease with the owners of 1457-1463 Broadway, New York, New York for
approximately 13,000 square feet of space. The Company currently occupies the
ground floor and mezzanine level and commenced full operations of its
interactive virtual reality entertainment center in March 1997. See "The XS New
York Experience". The rent commencement date is February 1, 1997 and annual
rental payments are $560,345 for each of the first five years and $644,000 for
each of the last 5 years of the lease. During June 1997 the Company amended the
lease to include additional space in the basement of 5,760 square feet at an
annual rental of approximately $29,000. Such annual rent is payable monthly and
subject to additional amounts for taxes.

         During September 1996 the Company entered into a fifteen year lease
with Woodfield Associates for approximately 21,000 square feet of space in the
Woodfield Mall located outside of Chicago in Schaumberg, Illinois. The lease
term commenced on September 1, 1997. The lease provides for monthly payments at
an annual rate of $420,000 from the commencement of the lease continuing through
the fifth lease year, $630,000 beginning with the sixth lease year through the
tenth lease year, and $839,000 beginning with the eleventh lease year through
the balance of the lease term. In addition, the lease provides for a percentage
rent equal to 10% of Gross sales which exceed $5,597,000 through year five,
$8,395,000 through year ten, and $11,194,000 thereafter. Included in the lease
is a rent credit of $944,325 to be applied in equal monthly installments against
the base rent over the first 60 months of the lease. Additional charges under
the lease for common area maintenance charges aggregate $15 per square foot
beginning with the first year of the Lease and are subject to annual percentage
increases based on increases in tax assessments and other costs

                                       14

<PAGE>

and expenses. As a condition to the execution of the lease, the Company was

required to provide a $200,000 irrevocable letter of credit as security for the
performance of the Company's obligations under the lease. As a result of
construction delays due to the lack of sufficient funding, the Company will not
be able to commence operation of XS Chicago on the date required in the lease.
The Company does not believe that the landlord will declare a default under the
lease provided construction is continuing . However, the Company has temporarily
suspended construction while the Company attempts to identify alternative
sources of financing. Additionally, the Company did not make certain rent
payments claimed by the landlord as owed and the landlord is applying the
Company's security deposit against such rents due. The Company is in the process
of negotiating with the landlord with respect to the rent commencement date. The
landlord may only use the security deposit to offset rent, other charges and
damages as a result of the Company's breach. The Company believes this situation
will ultimately be resolved in its favor, however, there can be no assurance
that such resolution will be favorable, in which event the Company will be in
default under the lease, and, if such lease is terminated, would have a material
adverse effect on the Company. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Liquidity and Capital Resources."

         The Company believes that its facilities are adequate for its current
and expected future levels of operations.

Item 3. LEGAL PROCEEDINGS.

         The Company is not a party to any material legal proceedings. However,
the Company is a defendant in a lawsuit filed by Knightsbridge, Ltd., a
construction contractor hired by the Company in connection with its XS New York
project. The action, commenced in June, 1997, is currently pending in Supreme
Court of the State of New York. Plaintiff alleges, among other things,
non-payment of approximately $1,500,000 due under a construction contract with
the Company plus costs and fees. The Company has denied plaintiff's claims and
has counterclaimed for damages as a result of breach of contract in an amount in
excess of $1,000,000. The Company believes it has meritorious defenses and
intends to vigorously defend this action and pursue its claims against
plaintiff. The Company also believes that it has established an adequate reserve
with respect to the ultimate outcome of this action and that such outcome will
not have a material adverse effect on the Company's financial condition or
results of operations.

         Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITYHOLDERS.

         Not Applicable.


                                     PART II

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

                          PRICE RANGE OF COMMON EQUITY

                                       15

<PAGE>


         Prior to February 14, 1994, the date of the Company's initial public
offering, there was no public market for the Units, Common Stock, Class A
Warrants or Class B Warrants (as defined below). Each of these classes of
securities are currently quoted on the Nasdaq Small-Cap Market under the symbols
"SKYLU," "SKYL," "SKYLW" and "SKYLZ," respectively. The following table sets
forth the high and low sales prices for the Units, Common Stock, Class A
Warrants and Class B Warrants for the fiscal periods indicated as reported by
Nasdaq. The quotations shown represent inter-dealer prices without adjustment
for retail mark-ups, mark-downs or commissions, and may not necessarily reflect
actual transactions.

<TABLE>
<CAPTION>
UNITS                                                               Fiscal 1996                    Fiscal 1997
-----                                                               -----------                    -----------
                                                                High            Low            High           Low
                                                                ----            ---            ----           ---
<S>                                                             <C>            <C>            <C>            <C>
                  1st Quarter.............................      6 1/8          4 1/4           6 5/8          3 3/8
                  2nd Quarter.............................      6 7/8          4 1/2           6 1/4          4 1/2
                  3rd Quarter.............................      6 1/2          4               8              4 1/2
                  4th Quarter.............................      5 3/4          3 3/4           6 7/16         3 1/2

<CAPTION>
COMMON STOCK
------------
                                                                High            Low            High           Low
                                                                ----            ---            ----           ---
<S>                                                             <C>            <C>             <C>            <C>
                  1st Quarter.............................      4 1/2          2 3/4           5 1/8          2 3/4
                  2nd Quarter.............................      4              2 3/4           4 7/8          3 1/2
                  3rd Quarter.............................      4 7/8          3               5 3/4          3 7/8
                  4th Quarter.............................      4 1/8          2 1/2           4 3/8          2 7/8


<CAPTION>
CLASS A WARRANTS
----------------
                                                                High            Low            High           Low
                                                                ----            ---            ----           ---
<S>                                                             <C>            <C>            <C>            <C>
                  1st Quarter.............................      1 1/8            3/4           1 1/4           3/4
                  2nd Quarter.............................      2 1/8          1 1/8           1 1/4           5/8
                  3rd Quarter.............................      1 3/4            3/4           2 1/16          5/8
                  4th Quarter.............................      1 1/8            5/8           1 9/16          5/16

<CAPTION>
CLASS B WARRANTS
----------------
                                                                High            Low            High           Low
                                                                ----            ---            ----           ---
<S>                                                             <C>             <C>            <C>            <C>
                  1st Quarter.............................       1/2            1/4            3/4             1/4

                  2nd Quarter.............................       9/16           3/8            7/16            1/4
                  3rd Quarter.............................       7/8            9/16           3/4             3/8
                  4th Quarter.............................       5/8            3/8            7/16           17/64
</TABLE>

                                       16

<PAGE>

         The per share closing sales price of the Common Stock as reported by
Nasdaq on September 29, 1997 (the date of the last reported sale) was $1.875. As
of September 29, 1997, the Company had in excess of 400 beneficial shareholders
and 15 shareholders of record.

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

Operational Overview

         From its inception until December 22, 1994, the Company's primary
activities consisted of developmental activities, including the preparation of
plans relating to the design of New York Skyride; negotiation of a lease and a
license agreement with the operators of the Empire State Building (the location
for New York Skyride); working with engineers, architects, contractors,
designers, and other parties in connection with the construction and operation
of New York Skyride; developing software and video films in connection with New
York Skyride; developing marketing strategies; initiating marketing and
corporate sponsorship activities by identifying and contacting potential
strategic alliances; selecting a management team; and obtaining financing.

         On December 22, 1994, the Company commenced operations of New York
Skyride and began generating revenue from ticket sales to the attraction and the
sale of merchandise at its souvenir/concession area. New York Skyride was opened
on a preview basis until February 21, 1995, the date of its official Grand
Opening.

         During the fiscal years ended June 30, 1997 and 1996, the facility was
visited by approximately 670,000 and 700,000 customers, respectively. Revenues
generated during the year ended June 30, 1997 and June 30, 1996 aggregated
$8,774,000 and $5,978,000, respectively, consisting of $7,223,000 and
$4,609,000, respectively, from ticket sales, $1,200,000 and $1,049,000,
respectively, from the sale of food and merchandise at its souvenir/concession
area, and $351,000 and $320,000, respectively, from sponsorship income. During
the year ended June 30, 1996, the Company earned net income of $1,046,000. The
net loss from operations of ($2,551,000) for the year ended June 30, 1997,
resulted from a decrease in attendance to New York Skyride (partially offset by
increased ticket prices) and an increase of approximately $400,000 in overhead
expenses of which approximately $200,000 is non-recurring in nature.
Additionally, as a result of the official opening of XS New York on March 20,
1997 the Company incurred certain start-up expenses including, among other
things, payroll and related expenses of approximately $1,288,000 real estate
taxes of approximately $76,000, consulting and promotional expenses of
approximately $232,000 and an allocation of corporate overhead and
administrative expenses of approximately $300,000.


         During the year ended June 30, 1997 the Company expended $250,000 in
connection with its involvement in "Magic On Broadway" and as a result of an
increase in the Company's valuation allowance on its deferred tax asset,
reversed $ 340,000 of previously recognized deferred tax income.

         Additionally, during the first quarter of the fiscal year, the Company
advanced an aggregate of $526,000 to its President, pursuant to several demand
notes at an annual interest rate of 8%. The Company received payment of $341,000
against these advances during such quarter. During the

                                       17

<PAGE>

second quarter of the fiscal year, an additional $200,000 was advanced to the
Company's President offset by approximately $150,000 in bonuses during such
second quarter. During the third quarter of the fiscal year, an additional
$365,000 was advanced to the Company's President (aggregating approximately
$600,000 due from officer as of March 31, 1997). The Company forgave such
indebtedness for the reasons described below under "--Liquidity and Capital
Resources." As a result of the foregoing, certain federal, state, and local
withholding tax and other obligations were incurred aggregating $279,000, which
amount was accrued by the Company and was due from such officer as of June 30,
1997. 

         During fiscal 1997, in order to complete the construction of its XS New
York facility the Company raised additional secured and unsecured debt with its
institutional investors and lenders as described below.

         During fiscal 1996, in order for the Company to be able to pay its
creditors, engage in a significant marketing and promotional campaign and
provide capital for future growth and expansion, management raised additional
proceeds from the sale of equity capital and through a loan from a financial
institution as described below.

Liquidity and Capital Resources

         In February 1994, the Company consummated an initial public offering of
1,495,000 Units (the "Units") (including exercise of the over-allotment option
in April 1994), each Unit consisting of one share of Common Stock, $.001 par
value (the "Common Stock"), one Redeemable Class A Warrant (the "Class A
Warrants") and one Redeemable Class B Warrant (the "Class B Warrants"). Each
Class A Warrant entitles the holder thereof to purchase, at any time until
February 14, 1999, one share of Common Stock and one Class B Warrant at an
exercise price of $6.01, as adjusted. Each Class B Warrant entitles the holder
thereof to purchase, at any time until February 14, 1999, one share of Common
Stock at an exercise price of $7.91 per share, as adjusted. The Class A Warrants
and Class B Warrants are subject to redemption under certain conditions. The
Company received aggregate net proceeds of approximately $6,200,000 in

connection with this offering, which proceeds were used principally for the
development of New York Skyride.

         Further, 670,000 shares of the Company's issued and outstanding Class A
Common Stock (which is identical to the Common Stock in all respects, except
that each share of Class A Common Stock is entitled to five votes per share and
is currently held by the Company's President) are subject to forfeiture,
pursuant to an escrow arrangement entered into between the Company and the
Company's President in the event certain pretax earnings targets or per share
market price targets are not met. In the event any of the shares are released
from escrow, the release will be treated, for financial reporting purposes, as
compensation expense to the Company. The Company, however, will not be allowed a
deduction for such charges for income tax purposes. Accordingly, the Company
will recognize, during the period in which the earnings or market price targets
are met, what could be a substantial charge to earnings, which would increase
the Company's loss or reduce or eliminate earnings. The amount of this charge
will be equal to the difference between the

                                       18

<PAGE>

aggregate market price of such shares on the date of release from escrow and the
original value assigned to such shares. The amount of compensation expense
recognized by the Company will not affect the Company's total shareholders'
equity.

         In order to pay the Company's creditors, provide capital for future
growth and expansion and allow for an extensive promotional and marketing
campaign, the Company consummated a private placement with an institutional
investor on July 7, 1995 whereby 1,090,909 shares of Series A Convertible
Participating Preferred Stock (the "Preferred Stock") were sold for gross
proceeds of $2.75 per share aggregating $3,000,000. The Preferred Stock is
convertible into common stock of the Company at any time on a share-for-share
basis. The holders of the Preferred Stock are entitled to an aggregate of up to
24.9% of the outstanding voting power of the Company on all matters which come
before the shareholders. Additionally, so long as 272,727 shares of Preferred
Stock remain outstanding, the holders thereof will have the ability to obtain up
to 50.1% of the outstanding voting power of the Company and elect a majority of
the Board of Directors in the event the holders of the Preferred Stock determine
in good faith that such action is reasonably necessary for the protection of
their investment. Since the institutional investor is a Small Business
Investment Company subject to the regulatory oversight of the Small Business
Administration ("SBA"), the exercise of this control provision cannot be made
arbitrarily and is subject to SBA review. The Preferred Stock is subject to a
Registration Rights Agreement granting both demand and piggyback registration
rights. In order to consummate the above investment, the president of the
Company agreed to personally guarantee the Company's obligations under the
Preferred Stock purchase agreement, subject his shares of stock to limitations
on transfer or disposition, provide the institutional investor with an
irrevocable proxy and adjust the earnings targets required to release the
670,000 Class A Common Stock subject to escrow upwards as a result of the
Preferred Stock issuance. Accordingly, in order to ensure that the sale of
Preferred Stock would be consummated, the Board of Directors approved the

issuance of an option to purchase 1,250,000 shares of Common Stock, exercisable
at $3.75 per share (the market price on the date of grant) only in the event
that the targets for the release of the shares subject to escrow are not
achieved, and which are subject to different earnings and equity targets which
are more in line with the intent of the original escrow provisions. The Company
will recognize a charge to earnings during the period in which such options are
exercised, equal to the difference between the aggregate market price of such
shares on the date such options are exercised and the exercise price paid
therefor.

         The Company used a portion of the net proceeds from the Preferred Stock
sale to repay certain indebtedness incurred in connection with the New York
Skyride project and used the balance of the proceeds for working capital, which
included expansion of the Company's business through development of the XS New
York project.

         As of June 30, 1997, the Company had a working capital deficiency of
approximately ($4,210,000) compared to working capital of $1,623,000 at June 30,
1996 which was due primarily to costs incurred in connection with the opening of
XS New York and losses incurred from operations. Since inception, the Company
spent approximately $6,050,000 related to capital expenditures with respect to
New York Skyride and approximately $7,369,000 related to capital expenditures
and leasing costs with respect to the XS New York Times Square project.
Additionally,

                                       19

<PAGE>

the Company had expenditures of approximately $438,000 for security deposits,
financing costs and leasing costs associated with the XS New York project.

         The Company is currently involved in a dispute with a subcontractor
regarding amounts billed for work allegedly performed in connection with the XS
New York project. The Company believes that it has adequately reserved for such
contingency and does not believe that the resolution of the dispute will have a
material impact on the Company's financial position. Such contingency represents
leasehold improvements which, when amortized over the remaining term of the
Company's lease, will not have a material effect on the Company's results from
operations.

         As a result of the Company's development of XS New York, the Company
incurred capital expenditures of approximately $7,369,000, consisting of
$794,000 in design and consulting fees, $4,691,000 in construction and theming,
$253,000 for signage and approximately $1,631,000 for equipment purchases. In
order to complete the construction of XS New York and provide additional working
capital for growth and expansion, the Company raised additional secured and
unsecured debt through its relationships with its institutional investors and
lenders as described below.

         The Company entered into a revenue-sharing arrangement with the major
equipment supplier of the games and attractions at XS New York. Under the
arrangement, the Company is obligated to pay 40% of net profits from such
equipment to the supplier. The Company did not anticipate that the machines

installed by such supplier would account for such a significant portion of the
Company's revenues from XS New York. For the period ended June 30, 1997, amounts
earned to such supplier under the revenue-sharing arrangement aggregated
approximately $500,000. Accordingly, the Company is presently engaged in
negotiations to modify the current revenue-sharing arrangement with this
supplier. However, there can be no assurance that the Company will be successful
in such negotiations, in which event the Company will have to re-evaluate its
operations and projections for the XS New York locations and develop new
strategies for future XS sites.

         As a result of construction delays due to the lack of sufficient
funding, the Company will not be able to commence operation of XS Chicago on the
date required in the lease. The Company does not believe that the landlord will
declare a default under the lease provided construction is continuing. However,
the Company has temporarily suspended construction while the Company attempts to
identify alternative sources of financing. Additionally, the Company did not
make certain rent payments claimed by the landlord as owed and the landlord is
applying the Company's security deposit against such rents due. The Company is
in the process of negotiating with the landlord with respect to the rent
commencement date. The landlord may only use the security deposit to offset
rent, other charges and damages as a result of the Company's breach. The Company
believes this situation will ultimately be resolved in its favor; however, there
can be no assurance that such resolution will be favorable, in which event the
Company will continue to be in default under the lease, which default may 
result in loss of such lease and liability for damages incurred by the landlord,
which events would have a material adverse effect on the Company's operations.
The loss of expected revenues from such site would have an adverse effect on the
Company's business plans and could seriously damage the Company's reputation
making it more difficult to obtain leases at premier locations.

                                       20

<PAGE>

         On October 23, 1996, the Company signed a letter of intent with
Prospect Street to obtain up to $4,100,000 in senior unsecured subordinated debt
which accrues interest at an annual rate of 14% and requires the payment of both
principal and interest 5 years from the date of issuance. The amount of the
subordinated debt was subsequently increased to $4,450,000. In connection with
this subordinated debt financing, the lenders received warrants to purchase up
to 434,146 shares of common stock at an exercise price of $4.25 per share. A
purchase price of $1.00 per warrant was allocated from the subordinated debt
proceeds received by the Company. As part of this financing, on November 6,
1996, Prospect Street provided the Company with a bridge loan of $1,500,000, at
an annual interest rate of 14%, which bridge loan was exchanged for a portion of
the subordinated debt described above during December 1996. On June 30, 1997,
the Company received an additional loan in the principal amount of $500,000 from
Prospect Street.

         During November 1996, an institutional lender agreed to finance the
acquisition of certain of the equipment for the Company's XS New York site up to
an aggregate of $1,327,000. Pursuant to this transaction, the Company received
proceeds of approximately $832,000 and an additional $495,000 is being held by
the lender as security. Such security is to be released after 24 months subject

to a satisfactory payment history by the Company. The lender has a first
security interest in all equipment financed and the Company's president has
personally guaranteed up to $750,000 of the loan amount. The amount financed
will bear annual interest at 11 1/2% and is to be repaid in 48 monthly
installments. In connection with this transaction, the Company issued to such
institutional lender warrants to purchase up to 50,000 shares of the Company's
common stock at an exercise price of $6.00 per share.

         During March 1997 the Company signed an agreement with its
institutional lender to finance the acquisition of additional equipment for XS
New York aggregating approximately $256,000. The terms of the loan are the same
as described in the previous paragraph except that the security amount withheld
by the lender is $51,000 and the personal guarantee from the Company's president
is $125,000.

         During December 1996, the Company refinanced its existing equipment
loan on the equipment located at its New York Skyride location for aggregate
proceeds of $1,500,000 of which approximately $491,000 was applied to satisfy
amounts due under the original loan. The loan bears annual interest at 11 1/2%
and is to be repaid in 48 monthly installments and is secured by a first lien on
all equipment at New York Skyride. The Company's president has guaranteed up to
$250,000 of this loan.

         During fiscal 1997, pursuant to the Company's stock buy-back program,
110,000 shares were purchased by the Company for an aggregate of approximately
$601,000. Such shares have been placed in treasury. The Company's stock buy-back
program, which authorized the purchase of up to 300,000 shares, has been
suspended.

         The Company estimates the capital expenditures required to develop each
of the XS Chicago and Sydney Skyride facilities to be approximately $5,500,000.
The Company expects to incur losses during the initial years of operation of
each new site primarily as a result of start-up expenses and costs associated
with commencement of operations. The previous sentences are considered
forward-

                                       21

<PAGE>

looking statements and are based on estimates by the Company that include the
construction of the facility, equipment hardware and software, and design and
theming costs, which estimates are each subject to, and may be increased by,
construction delays, increased prices for raw materials and equipment,
architectural redesigns, strikes and work-stoppages, unanticipated events and
regional, national and international economic trends. In order to develop these
attractions the Company will require additional debt or equity financing which
the Company is attempting to secure. However, there can be no assurance that
such financing will be available on terms acceptable to the Company, or at all.
Further there can be no assurance that demands placed on the Company's financial
resources by multiple projects, or any one project in particular, will not
affect the Company's ability to successfully complete or finance one or more of
such projects, which would adversely affect the Company's expansion and planned
growth strategy. In this regard, the Company has deferred development plans for

the additional space at the Empire State Building site until such time as the XS
New York project is operating profitably and further assessments are made with
respect to the source of the funds to finance the XS Chicago and Sydney Skyride
projects. Accordingly, there can be no assurance that the additional space at
the Empire State Building will be successfully developed without a strategic
partner, or at all. The Company is reviewing its options with respect to this
space, including surrendering, subletting or assigning such space.

         The Company had signed a letter of intent with Cowen & Company
("Cowen") on June 2, 1997 relating to a private placement to institutional
investors of up to $10 million of the Company's equity securities to be
consummated by August 1997. In reliance on representations made by principals of
Cowen relating to this equity financing, the Company commenced an exchange offer
to eliminate the potential dilutive effect of the warrants in order to make the
Company more attractive to investors. The Cowen financing would have resolved
the Company's capital requirements for the foreseeable future. However, in
August 1997, Cowen informed the Company that it was reluctant to proceed with
the proposed financing. The Company attempted to convince Cowen to reconsider,
and, in September 1997, realized its efforts were futile. The Company extended
the exchange offer and is currently seeking alternative sources of financing.
In the event the Company does not receive adequate financing in the near term, 
the Company will be forced to abandon certain of its proposed projects, 
possibly curtail current operations, or be forced to sell some or a 
significant portion of its assets in order to satisfy its obligations.

         The Company's independent auditors have included an explanatory
paragraph in their report on the Company's financial statements to the effect
that certain matters raise substantial doubt about the Company's ability to
continue as a going concern, which is contingent upon, among other things, the
Company's ability to secure financing and attain profitable operations. See
Financial Statements.

         The Company's long term goal is to develop simulator and other
location-based entertainment attractions in other major cities in the United
States and in other countries. There are, however, only a limited number of
locations in a small number of cities that are suitable for such attractions,
and there can be no assurance at all that the Company could obtain a lease at
any such locations or develop a successful attraction at such locations. Also,
development of additional

                                       22

<PAGE>

attractions will require the Company to obtain financing for such ventures, and
there can be no assurance that such financing will be available, or available on
terms and conditions that are acceptable to the Company. Additionally, it is
possible that the Company would find it necessary to have one or more local
partners involved in any additional attractions it might attempt to develop,
further limiting the revenues that the Company could generate from development
of simulator or entertainment attractions at other locations.


         The Company continually explores expansion opportunities both in the
United States and abroad. From time to time, the Company may be involved in
negotiations for additional sites or other entertainment-based projects,
however, current negotiations, if any, are too preliminary to warrant disclosure
at this time. The Company will keep investors informed as other projects mature.

Inflation

         The Company believes that the impact of inflation on its operations
since its inception has not been material.

Seasonality

         The Company's business is seasonal in nature, based in part, on higher
volumes of tourists in the New York City Metropolitan area during the spring and
summer months and during the December holiday season. Similar seasonal trends
are anticipated for the XS Chicago location. The Sydney Skyride, located in the
southern hemisphere is much less seasonal and provides for a relatively constant
flow of traffic with its peak months being November, January, March and July.
The Company will direct a portion of its marketing and promotional efforts in
the New York City Metropolitan area to (i) attracting a larger percentage of the
Observatory traffic at the Empire State Building, thereby increasing volume to
New York Skyride and (ii) attracting visitors to XS New York, particularly
during non-peak seasons. In addition, the Company will employ similar
advertising and promotional programs, during these periods, throughout the
Chicago Metropolitan area and other surrounding regions for its XS Chicago site
upon commencement of operations.

Item 7. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.

         The response to this item is set forth at the end of this report.


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

         NONE

                                    PART III

                                       23

<PAGE>

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

         Information concerning the directors and officers of the Company is
contained in the Company's definitive Proxy Statement to be filed with the
Securities and Exchange Commission pursuant to Regulation 14A no later than 120
days after the close of the fiscal year ended June 30, 1997. Such information is
hereby incorporated herein by reference.


Item 10. EXECUTIVE COMPENSATION.

         Information concerning Executive Compensation is contained in the
Company's definitive Proxy Statement to be filed with the Securities and
Exchange Commission pursuant to Regulation 14A no later than 120 days after the
close of the fiscal year ended June 30, 1997. Such information is hereby
incorporated herein by reference.

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

         Information concerning the security ownership of certain beneficial
owners and management is contained in the Company's definitive Proxy Statement
to be filed with the Securities and Exchange Commission pursuant to Regulation
14A no later than 120 days after the close of the fiscal year ended June 30,
1997. Such information is hereby incorporated herein by reference.

Item 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.

         Information concerning certain relationships and related transactions
is contained in the Company's Proxy Statement to be filed with the Securities
and Exchange Commission pursuant to Regulation 14A no later than 120 days after
the close of the fiscal year ended June 30, 1997. Such information is hereby
incorporated herein by reference.

Item 13. EXHIBITS, LIST, AND REPORTS ON FORM 8-K.

         (a) Exhibits are listed on the Index to Exhibits on page 23 of this
report. The Exhibits required by Item 601 of Regulation S-B are listed on such
Index in response to this Item and are incorporated herein by reference.

                  Financial Statements required by Regulation S-X are listed in
response to this Item and are set forth at the end of this report and are
incorporated herein by reference.

         (b) Reports on Form 8-K:

                  The registrant has not filed any reports on Form 8-K during
the last quarter of the period covered by this report.

                                       24


<PAGE>

            SKYLINE MULTIMEDIA ENTERTAINMENT, INC. AND SUBSIDIARIES

                       CONSOLIDATED FINANCIAL STATEMENTS

                             JUNE 30, 1997 AND 1996


<PAGE>

                          INDEPENDENT AUDITORS' REPORT
 
To the Board of Directors and Stockholders
Skyline Multimedia Entertainment, Inc.
 
We have audited the accompanying consolidated balance sheet of Skyline
Multimedia Entertainment, Inc. and subsidiaries as of June 30, 1997, and the
related consolidated statements of operations, changes in stockholders' equity
accounts and cash flows for each of the years in the two-year period then ended.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audits.
 
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
 
In our opinion, the financial statements enumerated above present fairly, in all
material respects, the consolidated financial position of Skyline Multimedia
Entertainment, Inc. and subsidiaries as of June 30, 1997, and the consolidated
results of their operations and their consolidated cash flows for each of the
years in the two-year period then ended in conformity with generally accepted
accounting principles.
 
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note A the Company
incurred a significant loss for the year ended June 30, 1997 and currently is in
a negative working capital position. These factors raise substantial doubt about
the Company's ability to continue as a going concern. Management's plans in
regard to these matters are also described in Note A. The financial statements
do not include any adjustments that might result from the outcome of this
uncertainty.
 
                                          RICHARD A. EISNER & COMPANY, LLP
 
New York, New York
August 20, 1997
 
                                      F-2

<PAGE>

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
                           CONSOLIDATED BALANCE SHEET
 
<TABLE>
<CAPTION>
                                                                                                       JUNE 30,
                                                                                                         1997
                                                                                                      -----------
<S>                                                                                                   <C>
                                              ASSETS
Current assets:
  Cash (Note C)....................................................................................   $ 1,119,000
  Inventory (Note B[3])............................................................................       168,000
  Prepaid expenses and other current assets........................................................       198,000
                                                                                                      -----------
     Total current assets..........................................................................     1,485,000
Property, equipment and leasehold improvements--net (Notes B[4] and D[1])..........................    12,148,000
Security deposits (Note I[1])......................................................................       952,000
Deferred project costs--net (Note D[2])............................................................       622,000
Due from officer (Note J[1]).......................................................................       279,000
Deferred financing costs...........................................................................       207,000
Certificate of deposit.............................................................................       209,000
Payments to contractor (Note N[1]).................................................................       400,000
Other assets--net..................................................................................        79,000
                                                                                                      -----------
                                                                                                      $16,381,000
                                                                                                      -----------
                                                                                                      -----------
 
                               LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
  Capital lease obligations--current portion (Note F[4])...........................................   $   716,000
  Note payable (Note G[2]).........................................................................       500,000
  Accounts payable.................................................................................     2,111,000
  Due to contractors (Note N[1])...................................................................     1,100,000
  Accrued expenses and other current liabilities (Note E)..........................................     1,193,000
  Deferred sponsorship income......................................................................        75,000
                                                                                                      -----------
     Total current liabilities.....................................................................     5,695,000
Capital lease obligations (less current portion) (Note F[4]).......................................     2,022,000
Note payable (Note G[1])...........................................................................     3,813,000
Deferred rent payable (Note B[5])..................................................................       990,000
                                                                                                      -----------
     Total liabilities.............................................................................   $12,520,000
                                                                                                      -----------
                                                                                                      -----------
Commitments and contingencies (Notes D[2], I, J, L, N and O)
  Stockholders' equity (Note K):
  Preferred stock, par value $.001 per share, 5,000,000 shares authorized, 1,090,909
     shares of Series A convertible participating preferred stock issued and outstanding
     (liquidating value $2.75 per share)...........................................................         1,000
  Common stock--$.001 par value; authorized 19,000,000 shares; one vote per share;

     issued and outstanding 1,385,000 shares.......................................................         2,000
  Class A common stock--$.001 par value; authorized 1,000,000 shares; five votes
     per share; issued and outstanding 960,000 shares; 670,000 shares in escrow....................         1,000
  Treasury stock, 110,000 shares at cost...........................................................      (601,000)
  Additional paid-in capital.......................................................................     9,989,000
  Accumulated deficit..............................................................................    (5,531,000)
                                                                                                      -----------
     Total stockholders' equity....................................................................     3,861,000
                                                                                                      -----------
                                                                                                      $16,381,000
                                                                                                      -----------
                                                                                                      -----------
</TABLE>
 
       See independent auditors' report and notes to financial statements
 
                                      F-3

<PAGE>

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
                     CONSOLIDATED STATEMENTS OF OPERATIONS
 
<TABLE>
<CAPTION>
                                                                                         YEAR ENDED JUNE 30,
                                                                                      --------------------------
                                                                                         1997           1996
                                                                                      -----------    -----------
<S>                                                                                   <C>            <C>
Revenues (Note A):
  Ticket sales.....................................................................   $ 7,223,000    $ 4,609,000
  Concession sales.................................................................     1,200,000      1,049,000
  Sponsorship income (Note J[3])...................................................       351,000        320,000
                                                                                      -----------    -----------
                                                                                        8,774,000      5,978,000
                                                                                      -----------    -----------
Operating expenses:
  Cost of merchandise sold.........................................................       508,000        410,000
  Selling, general and administrative..............................................     9,721,000      4,345,000
  Depreciation and amortization....................................................     1,096,000        502,000
                                                                                      -----------    -----------
                                                                                       11,325,000      5,257,000
                                                                                      -----------    -----------
Income (loss) from operations......................................................    (2,551,000)       721,000
  Interest income..................................................................        44,000        120,000
  Interest expense.................................................................      (522,000)      (100,000)
                                                                                      -----------    -----------
Income (loss) before provision (benefit) for income taxes..........................    (3,029,000)       741,000
  Income tax expense (benefit) (Note H)............................................       340,000       (305,000)
                                                                                      -----------    -----------
Net income (loss)..................................................................   $(3,369,000)   $ 1,046,000
                                                                                      -----------    -----------
                                                                                      -----------    -----------
Net income (loss) per share of common stock (Note B[2])............................   $     (1.94)   $       .37
                                                                                      -----------    -----------
                                                                                      -----------    -----------
Weighted average number of shares of common stock outstanding
  (excludes 670,000 escrow shares).................................................     1,734,000      2,858,000
                                                                                      -----------    -----------
                                                                                      -----------    -----------
</TABLE>
 
       See independent auditors' report and notes to financial statements
 
                                      F-4

<PAGE>

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
             STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY ACCOUNTS

<TABLE>
<CAPTION>
                                                                           CLASS A               SERIES A
                                                  COMMON STOCK          COMMON STOCK         PREFERRED STOCK
                                               -------------------    -----------------    --------------------    TREASURY
                                                SHARES      AMOUNT    SHARES     AMOUNT      SHARES      AMOUNT      STOCK
                                               ---------    ------    -------    ------    ----------    ------    ---------
 
<S>                                            <C>          <C>       <C>        <C>       <C>           <C>       <C>
Balance--July 1, 1995.......................   1,495,000    $2,000    960,000    $1,000
 
  Net proceeds from sale of stock...........                                                1,090,909    $1,000
 
  Net income for the year ended June 30,
    1996....................................
                                               ---------    ------    -------    ------    ----------    ------    ---------
 
Balance--June 30, 1996......................   1,495,000    2,000     960,000    1,000      1,090,909    1,000
 
  Warrants issued in connection
    with financings.........................
 
  Purchase of treasury stock................    (110,000)                                                          $(601,000)
 
  Net loss for the year ended
    June 30, 1997...........................
                                               ---------    ------    -------    ------    ----------    ------    ---------
 
Balance--June 30, 1997......................   1,385,000    $2,000    960,000    $1,000     1,090,909    $1,000    $(601,000)
                                               ---------    ------    -------    ------    ----------    ------    ---------
                                               ---------    ------    -------    ------    ----------    ------    ---------
 
<CAPTION>
 
                                              ADDITIONAL
                                               PAID-IN      ACCUMULATED
                                               CAPITAL        DEFICIT        TOTAL
                                              ----------    -----------    ----------
<S>                                            <C>          <C>            <C>
Balance--July 1, 1995.......................  $6,410,000    $(3,208,000)   $3,205,000

  Net proceeds from sale of stock...........   2,832,000                    2,833,000

  Net income for the year ended June 30,
    1996....................................                  1,046,000     1,046,000
                                              ----------    -----------    ----------

Balance--June 30, 1996......................   9,242,000     (2,162,000)    7,084,000


  Warrants issued in connection
    with financings.........................     747,000                      747,000

  Purchase of treasury stock................                                 (601,000)

  Net loss for the year ended
    June 30, 1997...........................                 (3,369,000)   (3,369,000)
                                              ----------    -----------    ----------

Balance--June 30, 1997......................  $9,989,000    $(5,531,000)   $3,861,000
                                              ----------    -----------    ----------
                                              ----------    -----------    ----------
</TABLE>
 
       See independent auditors' report and notes to financial statements
 
                                      F-5

<PAGE>

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
                     CONSOLIDATED STATEMENTS OF CASH FLOWS
 
<TABLE>
<CAPTION>
                                                                                         YEAR ENDED JUNE 30,
                                                                                      --------------------------
                                                                                         1997           1996
                                                                                      -----------    -----------
<S>                                                                                   <C>            <C>
Cash flows from operating activities:
  Net income (loss)................................................................   $(3,369,000)   $ 1,046,000
     Adjustments to reconcile net income (loss) to net cash
       provided by operating activities:
       Depreciation and amortization...............................................     1,106,000        502,000
       Deferred income taxes.......................................................       340,000       (340,000)
     Changes in operating assets and liabilities:
       Accounts payable and due to contractors.....................................     2,439,000       (633,000)
       Accrued liabilities and deferred rent payable...............................     1,001,000        (57,000)
       Inventory...................................................................       (38,000)            --
       Prepaid expenses and other assets...........................................      (114,000)      (163,000)
       Security deposits...........................................................      (580,000)      (229,000)
       Deferred sponsorship income.................................................        14,000         19,000
                                                                                      -----------    -----------
          Net cash provided by operating activities................................       799,000        145,000
                                                                                      -----------    -----------
Cash flows from investing activities:
  Purchase of fixed assets.........................................................    (4,494,000)      (283,000)
  Increase in certificate of deposit...............................................      (209,000)            --
  Increase in deferred project costs...............................................      (392,000)      (230,000)
  Advances to officer..............................................................      (341,000)            --
  Repayments from officer..........................................................       341,000             --
                                                                                      -----------    -----------
          Net cash used in investing activities....................................    (5,095,000)      (513,000)
                                                                                      -----------    -----------
Cash flows from financing activities:
  Proceeds from sale of preferred stock............................................            --      2,895,000
  Net proceeds from issuance of notes with warrants................................     5,384,000             --
  Repayment of notes payable and capital lease obligations.........................      (902,000)      (473,000)
  Financing costs..................................................................      (664,000)            --
  Purchase of treasury stock.......................................................      (601,000)            --
                                                                                      -----------    -----------
          Net cash provided by financing activities................................     3,217,000      2,422,000
                                                                                      -----------    -----------

Net increase (decrease) in cash....................................................    (1,079,000)     2,054,000
  Cash at beginning of year........................................................     2,198,000        144,000
                                                                                      -----------    -----------
Cash at end of year................................................................   $ 1,119,000    $ 2,198,000
                                                                                      -----------    -----------
                                                                                      -----------    -----------

Supplemental disclosures of cash flow information:
  Cash paid for interest during the year...........................................   $   296,000    $   101,000
                                                                                      -----------    -----------
  Equipment acquired under a capital lease agreement...............................     3,055,000             --
                                                                                      -----------    -----------
  Cash paid for taxes during the year..............................................        34,000         65,000
                                                                                      -----------    -----------
</TABLE>
 
       See independent auditors' report and notes to financial statements
 
                                      F-6

<PAGE>

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
                         NOTES TO FINANCIAL STATEMENTS

                             JUNE 30, 1997 AND 1996
 
NOTE A. THE COMPANY
 
     Skyline Multimedia Entertainment, Inc. ('SME') is a holding company engaged
in the development and operation of state-of-the-art entertainment attractions,
and together with its wholly owned subsidiaries, New York Skyline, Inc.
('NYSI'), Skyline Virtual Reality, Inc. ('SVR'), and Skyline Chicago, Inc.
('SCI') are referred to as the 'Company'. Its first site, which is located in
the Empire State Building in New York City, is owned and operated by NYSI which
commenced operations of its 'New York Skyride' facility on December 22, 1994.
The second site, which is located in Times Square ('XS') in New York City, is
owned and operated by SVR which commenced operations of its interactive virtual
reality entertainment center on December 27, 1996. The third site, which is
located in the Woodfield Mall outside of Chicago, Illinois, is owned and is to
be operated by SCI. SCI was incorporated in September 1996. The Company expects
that operations of its Woodfield Mall Center will commence during the second
half of 1998, if timely financing is able to be arranged to complete the
attraction.
 
     During December 1996, the Company signed a letter of intent with the
landlord to develop a simulator attraction, similar to New York Skyride, to be
located in the Centrepoint Shopping Center in Sydney, Australia. The Company is
in negotiation regarding the lease, however, there can be no assurance, that the
Company will be able to successfully finalize lease negotiations with the
landlord, or if finalized, that it will be able to arrange for adequate
financing of these projects and complete construction of the 'Sydney Skyride.'
 
     The Company's business is somewhat seasonal in nature, based in part, on
higher volumes of tourists during the spring and summer months and holiday
seasons.
 
     As reflected in the accompanying financial statements, the Company has
incurred a significant loss for the year ended June 30, 1997 and currently is in
a negative working capital position. The Company needs to achieve profitable
operations and raise a substantial amount of funds to complete the development
of the Chicago and Australian sites and its related equipment and to initiate
the marketing and sales effort, as well as to pay off various debts incurred
during the year. The Company is pursuing various sources of financing, however,
no assurance can be given that any such financing can or will be completed.
Accordingly, the Company can give no assurance as to its ability to raise the
necessary funds to enable it to conduct its business. The above factors give
rise to substantial doubt as to the ability of the Company to continue as a
going concern.
 
NOTE B. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
  [1] Principles of consolidation:
 

     The consolidated financial statements include the accounts of the Company
and its wholly owned subsidiaries. Material intercompany transactions and
account balances have been eliminated in consolidation.
 
  [2] Net income (loss) per share:
 
     Net income (loss) per share is based on the weighted average number of
shares outstanding during the period, excluding shares held in escrow. For the
year ended June 30, 1997, the common stock and Class A common stock was included
in the calculation of the weighted average number of shares outstanding, as the
1,090,909 shares of convertible participating preferred stock, warrants and
options were considered anti-dilutive. For the year ended June 30, 1996, the
weighted average number of common shares was calculated by including the
1,090,909 shares of convertible participating preferred stock as common stock
equivalents; warrants and options outstanding were not considered as their
effect was anti-dilutive (Note K[1]).
 
                                      F-7

<PAGE>

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
                   NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
 
                             JUNE 30, 1997 AND 1996
 
NOTE B. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES--(CONTINUED)

  [3] Inventory:
 
     Inventory consists of clothing, souvenirs and food sold in the Company's
gift shop and is valued at the lower of cost (first-in, first-out) or market.
 
  [4] Property, equipment and leasehold improvements:
 
     Property and equipment, including assets under capital leases are recorded
at cost and are depreciated on the straight-line method over the estimated
useful lives of the assets from three to twelve years. Leasehold improvements
are amortized using the straight-line method over the shorter of the lease term
or the estimated useful life of the asset.
 
  [5] Rent expense:
 
     The Company, for financial accounting purposes, spreads scheduled rent
increases and rent holidays over the term of the lease using the straight-line
method.
 
  [6] Management estimates:
 
     The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and the
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the reported

period. Actual results could differ from those estimates.
 
  [7] Stock-based compensation:
 
     During fiscal year ended June 30, 1997 the Company implemented Statement of
Financial Accounting Standards No. 123, 'Accounting for Stock-Based
Compensation' ('SFAS No. 123'). The provisions of SFAS No. 123 allow companies
to either expense the estimated fair value of employee stock options or to
continue to follow the intrinsic value method set forth in Accounting Principles
Board Opinion No. 25, 'Accounting for Stock Issued to Employees' ('APB 25') but
disclose the pro forma effects on net loss and net loss per share had the fair
value of the options been expensed. The Company has elected to continue to apply
APB 25 in accounting for its stock option incentive plans. (See Note K(11)).
 
  [8] Impairment of long-lived assets:
 
     The Company adopted Statement of Financial Accounting Standard No. 121
'Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
be Disposed of ('SFAS 121'), during the fiscal year end June 30, 1997. SFAS 121
established accounting standards for the impairment of long-lived assets,
certain identifiable assets and goodwill related to those assets. There was no
financial statement impact from the adoption of SFAS 121. The Company
periodically reviews all its long-lived assets whenever events or changes in
circumstances indicate that the carrying amount of such assets may not be
recoverable. When such circumstances occur, the Company will evaluate the
possible effects on the carrying amount of such assets.
 
  [9] Recent pronouncements:
 
     The Financial Accounting Standards Board has recently issued Statements of
Financial Accounting Standards No. 129, 'Disclosure of Information about Capital
Structure,' No. 130, 'Reporting Comprehensive Income,' and No. 131, 'Disclosures
about Segments of an Enterprise and Related Information.' The above
pronouncements will not have a significant effect on the information presented
in the consolidated financial statements.
 
                                      F-8

<PAGE>

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
                   NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
 
                             JUNE 30, 1997 AND 1996
 
NOTE C. CONCENTRATION OF CREDIT RISK
 
     The Company maintains all of its cash with highly capitalized financial
institutions. Such balances often exceed the FDIC limit and are not insured.
 
NOTE D. PROPERTY, EQUIPMENT AND LEASEHOLD IMPROVEMENTS
 
     [1] Property, equipment and leasehold improvements is summarized as
follows:

 
<TABLE>
<S>                                                           <C>
Equipment and fixtures.....................................   $ 1,954,000
Simulation equipment.......................................     2,736,000
Simulation film............................................     1,069,000
Leasehold improvements.....................................     8,126,000
                                                              -----------
                                                               13,885,000
Less accumulated depreciation and amortization.............    (1,737,000)
                                                              -----------
                                                              $12,148,000
                                                              -----------
                                                              -----------
</TABLE>
 
     [2] The Company has incurred project and leasing costs associated with the
development of its Time Square, Chicago and Australia sites. As of June 30,
1997, project and leasing costs of approximately $622,000 (of which $90,000
relates to the Times Square location) were incurred, which include construction,
architectural, commissions and other professional fees necessary to begin
development. It is expected that additional costs aggregating approximately
$5,500,000 will be incurred to complete each of the Chicago and Australia sites.
Upon commencement of operations, such costs will be amortized and depreciated
over their estimated useful lives.
 
NOTE E. ACCRUED EXPENSES AND OTHER CURRENT LIABILITIES
 
     Accrued expenses and other current liabilities include the following:
 
<TABLE>
<S>                                                            <C>
Interest payable............................................   $  304,000
Accrued expenses............................................      405,000
Accrued payroll and related taxes...........................      484,000
                                                               ----------
                                                               $1,193,000
                                                               ----------
                                                               ----------
</TABLE>
 
NOTE F. CAPITAL LEASE OBLIGATIONS
 
     [1] During November 1996 the Company entered into a loan agreement with an
institutional lender to finance the acquisition of certain equipment for its XS
New York site. The Company received approximately $1,024,000 with $495,000 held
by the lender as security. Such security is to be released after 24 months
subject to a satisfactory payment record by the Company. The amount financed
bears interest at 11 1/2% per annum compounded monthly and is to be repaid in 48
monthly installments. The institutional lender obtained a first security
interest in the equipment and up to $750,000 of the loan is personally
guaranteed by the Company's president. In connection with this transaction, the
Company issued five year warrants to purchase 50,000 shares of the Company's
common stock at an exercise price of $6.00 per share, which the Company valued

at $35,000.
 
     [2] On December 31, 1996, the Company refinanced its existing equipment at
its New York Skyride location with aggregate proceeds of $1,500,000. The new
note bears interest at 11 1/2% per annum compounded monthly and is to be repaid
in 48 monthly installments secured by a first security interest in all of the
equipment at the New York Skyride location. Additionally, up to $250,000 of the
loan is personally guaranteed by the Company's president.
 
                                      F-9

<PAGE>

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
                   NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
 
                             JUNE 30, 1997 AND 1996
 
NOTE F. CAPITAL LEASE OBLIGATIONS--(CONTINUED)

     [3] During March 1997, the Company entered into a loan agreement with an
institutional lender to finance the acquisition of additional equipment for XS
New York. Pursuant to this transaction, in April 1997 the Company received
$559,000 with an additional $51,000 held by the lender as security. Such
security is to be released after 24 months subject to a satisfactory payment
record by the Company. The amounts financed bear interest at 11 1/2% per annum
compounded monthly and is to be repaid in 48 monthly installments. The
institutional lender obtained a first security interest in the equipment and up
to $125,000 of the loan is personally guaranteed by the Company's president.
 
     [4] The future minimum lease payments required under capital lease
obligations as of June 30, 1997 are as follows:
 
<TABLE>
<CAPTION>
YEAR ENDING JUNE 30,
----------------------------------------------------------------------
<S>                                                                      <C>
1998..................................................................   $  987,000
1999..................................................................      987,000
2000..................................................................      987,000
2001..................................................................      362,000
2002..................................................................       11,000
                                                                         ----------
Total minimum lease payments..........................................    3,334,000
Less amount representing interest.....................................     (596,000)
                                                                         ----------
Present value of minimum lease payments...............................    2,738,000
Less current portion..................................................     (716,000)
                                                                         ----------
Long-term portion.....................................................   $2,022,000
                                                                         ----------
                                                                         ----------
</TABLE>

 
NOTE G. SUBORDINATED NOTE PAYABLE
 
     [1] The Company borrowed in the aggregate $4,450,000 from an institutional
investor which accrues interest at an annual rate of 14% and requires the
payment of both principal and interest five years from the date of issuance. In
connection with the subordinated debt, the lender received warrants to purchase
up to 434,146 shares of common stock at an exercise price of $4.25 per share
which the Company valued at approximately $278,000 using the Black Scholes
pricing model. A purchase price of $1.00 per warrant was allocated from the
subordinated debt proceeds received by the Company.
 
     Future annual principal payments on long-term debt exclusive of capital
lease obligations, as of June 30, 1997 are as follows:
 
<TABLE>
<CAPTION>
YEAR ENDING JUNE 30,
----------------------------------------------------------------------
<S>                                                                      <C>
2000..................................................................   $2,500,000
2001..................................................................    1,950,000
                                                                         ----------
                                                                          4,450,000
Less unamortized debt discount........................................     (637,000)
                                                                         ----------
                                                                         $3,813,000
                                                                         ----------
                                                                         ----------
</TABLE>
 
     [2] On June 30, 1997, the Company borrowed $500,000 from the institutional
investor referred to above. Terms of the borrowing are to be negotiated.
 
                                      F-10

<PAGE>

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
                   NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
 
                             JUNE 30, 1997 AND 1996
 
NOTE H. INCOME TAXES
 
     The Company accounts for income taxes in accordance with Statement of
Financial Accounting Standards No. 109, 'Accounting for Income Taxes.' Under
this method, deferred tax assets and liabilities are determined based on
differences between financial reporting and tax bases of assets and liabilities.
They are measured using the enacted tax rates and laws that will be in effect
when such differences are expected to reverse. The likelihood of realization of
the net deferred tax asset cannot be established.
 
     [1] Components of income tax expense (benefit) are as follows:


<TABLE>
<CAPTION>
                                                                             YEAR ENDED
                                                                        ---------------------
                                                                          1997        1996
                                                                        --------    ---------
<S>                                                                     <C>         <C>
Current:
  Federal............................................................   $      0    $       0
  State and local....................................................                  35,000
Deferred:
  Federal............................................................    211,000     (211,000)
  State and local....................................................    129,000     (129,000)
                                                                        --------    ---------
Income tax expense (benefit).........................................   $340,000    $(305,000)
                                                                        --------    ---------
                                                                        --------    ---------
</TABLE>
 
     [2] A reconciliation between the Company's effective income tax rate and
the U.S. Federal income tax rate is as follows:
 
<TABLE>
<CAPTION>
                                                                                   JUNE 30,
                                                                                ---------------
                                                                                1997      1996
                                                                                -----     -----
<S>                                                                             <C>       <C>
Statutory rate...............................................................   (34.0)%    34.0%
State and local capital tax, net of federal tax benefit......................              (8.4)
Nondeductible expenses.......................................................               2.8
Increase (reduction of) valuation allowance for
  federal deferred tax assets................................................    45.2     (69.6)
                                                                                -----     -----
Effective income tax rate (benefit)..........................................    11.2%    (41.2)%
                                                                                -----     -----
                                                                                -----     -----
</TABLE>
 
     [3] The principal components of deferred tax assets, liabilities and the
valuation allowance are as follows:
 
<TABLE>
<CAPTION>
                                                                            JUNE 30,
                                                                   --------------------------
                                                                      1997            1996
                                                                   -----------     ----------
<S>                                                                <C>             <C>
Deferred tax assets:
  Capitalization of start-up costs..............................   $   434,000     $  610,000
  Net operating loss carryforwards..............................     2,785,000        730,000

                                                                   -----------     ----------
                                                                     3,219,000      1,340,000
Valuation allowance.............................................    (2,639,000)      (670,000)
                                                                   -----------     ----------
                                                                       580,000        670,000
Deferred tax liabilities:
  Depreciation differences......................................       580,000        330,000
                                                                   -----------     ----------
Net deferred tax asset..........................................   $         0     $  340,000
                                                                   -----------     ----------
                                                                   -----------     ----------
</TABLE>
 
     Income tax expense results primarily from increasing the valuation
allowance on the net deferred tax asset due to estimates about the likelihood of
realization.
 
                                      F-11

<PAGE>

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
                   NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
 
                             JUNE 30, 1997 AND 1996
 
NOTE I. COMMITMENTS AND CONTINGENCIES
 
     [1]  The Company leases office premises and space for its entertainment
attractions from the Empire State Building Company pursuant to operating leases
expiring at various dates through 2016. Certain of the leases contain renewal
options. The leases provide for free rent or rent credits for various periods;
rental expense is recognized on a straight-line basis over the life of the
leases.
 
     During the year ended June 30, 1997 the Company entered into a ten-year
renewable lease for space to house its interactive virtual reality entertainment
center. The lease terms also provide for two five-year renewal options. In
addition, the lease contains a cancellation clause in the event that the
landlord commences construction of office buildings on the site during the lease
term. Should the landlord exercise the cancellation clause, the Company would be
required to vacate the space within six months after written notice, but would
be entitled to reimbursement during years 1-5 of a portion of its out-of-pocket
construction costs, not to exceed $125 per square foot. Rental expense will be
recognized by the Company on a straight-line basis over the initial ten-year
term of the lease.
 
     During September 1996, the Company entered into a 15 year lease commencing
September 1, 1997 for space to house its second interactive virtual reality
entertainment center. The lease provides for rent credits for various periods;
rental expense is recognized on a straight-line basis over the life of the
lease. The lease terms also provide for percentage rent to be paid in addition
to the base rent from all business conducted on the leased premises as follows:
 

           (i) Years 1-5, 10% of gross sales in excess of $5,597,000 ('minimum
     gross sales')
 
           (ii) Years 6-10, 10% of gross sales in excess of $8,395,000 ('minimum
     gross sales')
 
          (iii) Years 11-15, 10% of gross sales in excess of $11,194,000
     ('minimum gross sales')
 
     As of June 30, 1997, the Company provided a standby letter of credit in the
amount of $200,000 in favor of the landlord under the terms of the lease. Such
letter of credit is collateralized by a $209,000 deposit in an interest bearing
account. The letter of credit expires in September 1997. As a result of
construction delays due to the lack of sufficient funding, the Company will not
be able to commence operation of XS Chicago on the date required in the lease.
The Company has temporarily suspended construction while the Company attempts to
identify alternative sources of financing. Additionally, the Company did not
make certain rent payments claimed by the landlord as owed and the landlord is
applying the Company's security deposit against such rents due. The Company is
in the process of negotiating with the landlord with respect to the rent
commencement date. The landlord may only use the security deposit to offset
rent, other charges and damages as a result of the Company's breach. The Company
believes this situation will ultimately be resolved in its favor, however there
can be no assurance that such resolution will be favorable, in which event the
Company will be in default under the lease, and if such lease is terminated,
would have a material adverse effect on the Company.
 
     Minimum annual rental payments required for all leases are as follows:
 
<TABLE>
<CAPTION>
YEAR ENDING JUNE 30,
---------------------------------------------------------------------
<S>                                                                     <C>
1998.................................................................   $ 2,307,000
1999.................................................................     2,513,000
2000.................................................................     2,461,000
2001.................................................................     2,560,000
2002.................................................................     2,653,000
Thereafter...........................................................    33,914,000
                                                                        -----------
                                                                        $46,408,000
                                                                        -----------
                                                                        -----------
</TABLE>
 
                                      F-12

<PAGE>

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
                   NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
 
                             JUNE 30, 1997 AND 1996

 
NOTE I. COMMITMENTS AND CONTINGENCIES--(CONTINUED)

     The terms of the leases include escalation clauses for increases in real
estate taxes and certain cost of living adjustments.
 
     Security deposits pursuant to all the leases total $789,000 of which
$313,000 was paid at June 30, 1997. Rent expense for the years ended June 30,
1997 and 1996 was approximately $1,037,000 and $850,000, respectively (see Note
B[5]).
 
     The Company has a licensing agreement with the Empire State Building
Observatory (the 'Observatory') expiring on June 30, 2016, to have tickets to
its New York Skyride facility sold by the licensor's employees at the counter
where licensor's tickets to the observatory are sold. Under the terms of the
licensing agreement the following future payments are required:
 
<TABLE>
<CAPTION>
YEAR ENDING JUNE 30,
----------------------------------------------------------------------
<S>                                                                      <C>
1998..................................................................   $  156,000
1999..................................................................      175,000
2000..................................................................      175,000
2001..................................................................      175,000
2002..................................................................      181,000
Thereafter............................................................    2,934,000
                                                                         ----------
                                                                         $3,796,000
                                                                         ----------
                                                                         ----------
</TABLE>
 
     [2] The Company, has an agreement with an investment banker which provides
for a finder's fee, as defined, in connection with any business transaction
entered into by the Company with a party introduced by the investment banker.
The agreement expires in February 1999.
 
NOTE J. EMPLOYMENT AND OTHER AGREEMENTS
 
     [1] The Company is currently in negotiations with its President with
respect to an employment agreement. However, until such agreement is finalized
the annual salary of $275,000 as provided under the existing agreement will be
effective till June 30, 1998.
 
     During the year ended June 30, 1997, the Company advanced approximately
$1,091,000 to its President, pursuant to a demand note at an interest rate of
8%. The Company received payment of $341,000 against these advances. The
President was awarded bonuses aggregating $750,000 which have been applied
against these advances. In connection with such bonuses a 10% pretax bonus
pursuant to his employment contract was cancelled. At June 30, 1997, $279,000,
which relates to the payroll taxes on the bonuses granted, remains outstanding.
 

     [2] As at June 30, 1997 the Company has contracts with two other executives
providing for salaries aggregating approximately $215,000, subject to annual
increases after twelve months. Additionally, pursuant to one of the agreements,
the executive vice president is entitled to certain incentives in the event that
future locations are established or joint ventures are entered into as a result
of his efforts.
 
     [3] As at June 30, 1997 the Company has three sponsorship agreements. The
terms of the agreements range from three to five years, and provide for annual
fees, capital improvements and cross promotions for the Company. Sponsorship
revenue under these agreements aggregate approximately $1,300,000 over the
terms. The Company received from sponsors capital improvements and monetary fees
aggregating approximately $365,000 in the year ended June 30, 1997 and $339,000
in the year ended June 30, 1996, of which $75,000 was deferred as of June 30,
1997.
 
                                      F-13

<PAGE>

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
                   NOTES TO FINANCIAL STATEMENTS--(CONTINUED)

                             JUNE 30, 1997 AND 1996
 
NOTE K. STOCKHOLDERS' EQUITY
 
     [1] In connection with the Company's public offering of securities in 1994,
the underwriter required that an aggregate of 670,000 shares of the Company's
Class A common stock be placed into escrow. Some or all of such escrow shares
may be released up to the year ending June 30, 1998 if the Company meets certain
minimum earnings thresholds, as defined, or if certain minimum per share market
prices of its common stock are attained. For the years ended June 30, 1997 and
1996 none of such escrow shares were released. As shares are released from
escrow they will be accounted for as reissued for services rendered and the fair
value of such shares will be charged to operations as compensation expense. The
Company, however, would not be allowed a deduction for such charges for income
tax purposes. If the shares are not released from escrow, then such shares
revert back to the Company.
 
     [2] On July 7, 1995, the Company consummated a stock purchase agreement
with the Prospect Street NYC Discovery Fund, L.P. (the 'Fund'), pursuant to
which the Company sold 1,090,909 shares of Series A convertible participating
preferred stock, par value $.001 per share, for $3,000,000. Net proceeds from
such offering, aggregated approximately $2,833,000. The preferred stock issued
is convertible into common stock of the Company at any time on a share-for-share
basis. The preferred shares are subject to both demand and piggyback
registration rights. The preferred stock has a liquidation preference equal to
$2.75 per share, but does not pay any dividends unless declared by the Board of
Directors. The preferred stockholders are entitled to an aggregate of up to
24.9% of the outstanding voting power of the Company which, can increase to
50.1% of the voting power, if in their sole discretion, it becomes reasonably
necessary for the protection of their investment.
 

     [3] The Company has outstanding warrants for the purchase of its common
stock as follows:
 
<TABLE>
<CAPTION>
                                                 WARRANT    NUMBER OF     EXERCISE
WARRANTS ISSUED IN CONNECTION WITH                CLASS      SHARES        PRICE         EXPIRATION DATE
----------------------------------------------   -------    ---------    ----------    --------------------
<S>                                              <C>        <C>          <C>           <C>
Equipment financing...........................      A          14,931     (a) (b)      February 14, 1999
Bridge loan...................................      A         504,336     (a) (b)      February 14, 1999
Public offering...............................      A       1,653,470     (a) (b)      February 14, 1999
Public offering...............................      B       1,653,470       (b)        February 14, 1999
Officer.......................................      B         331,800       (b)        February 14, 1999
Sub-debt Financing............................                243,904       (c)        December 20, 2006
Sub-debt Financing............................                 48,780       (c)        December 31, 2006
Sub-debt Financing............................                 48,780       (c)        February 18, 2007
Sub-debt Financing............................                 43,902       (c)        March 14, 2007
Sub-debt Financing............................                 48,780       (c)        March 21, 2007
Equipment Financing...........................                 50,000       (d)        December 31, 2007
</TABLE>
 
------------------
(a) A Class A warrant is exchangeable for 1.106 shares of common stock and one
    Class B warrant, at an exercise price of $6.01.
(b) A Class B warrant is exchangeable for 1.106 shares of common stock at an
    exercise price of $7.91.
(c) The warrant is exercisable into one share of common stock at an exercise
    price of $4.25.
(d) The warrant is exercisable into one share of common stock at an exercise
    price of $6.00.
 
    The above warrants may be redeemed by the Company at a price of $.05 per
warrant assuming certain minimum per share market prices of its common stock, as
defined, are met.
 
     [4] On August 11, 1997 the Company announced that it had commenced its
exchange offer for all outstanding Class A and Class B warrants. The Company is
offering to exchange one newly issued share of its common stock for 3.5
outstanding Class A warrants and one newly issued share of its common stock for
seven outstanding Class B warrants. The exchange offers expire November 4, 1997
and will be conditioned on among
 
                                      F-14

<PAGE>

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
                   NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
 
                             JUNE 30, 1997 AND 1996
 
NOTE K. STOCKHOLDERS' EQUITY--(CONTINUED)


other things, minimum tender by the holders of at least 95% of outstanding
warrants of each class. If all warrants were redeemed, approximately 820,000
shares of common stock would be issued.
 
     [5] The Company has a stock option plan ('Plan A') which, as amended,
provides for the issuance of incentive stock options or nonqualified options to
key employees and officers to be determined by the Compensation Committee of the
Board of Directors. The aggregate number of shares which may be issued under
Plan A is 2,500,000. Incentive stock options under Plan A may not be granted at
less than the fair market value of the underlying shares at date of grant (110%
of fair market value for a 10% or greater stockholder). Incentive stock options
granted under Plan A will be exercisable for a period not to exceed ten years.
 
     A summary of stock option activity related to Plan A is as follows:
 
<TABLE>
<CAPTION>
                                                                                 OPTION
                                                               NUMBER OF          PRICE
                                                                SHARES          PER SHARE
                                                               ---------       -----------
<S>                                                            <C>             <C>
Outstanding--July 1, 1995...................................   1,537,500(a)    $3.50--$4.50
Granted.....................................................      15,000       $3.50--$4.00
                                                               ---------       -----------
Outstanding--June 30, 1996..................................   1,552,500       $2.75--$4.50
Granted.....................................................     119,000       $2.75--$4.50
                                                               ---------       -----------
Outstanding--June 30, 1997..................................   1,671,500       $2.75--$4.50
                                                               ---------       -----------
                                                               ---------       -----------
</TABLE>
 
------------------
(a) Includes an option to purchase 1,250,000 shares of common stock issued to
    the Company's president (see Note K[8]).
 
     At June 30, 1997 421,500 of the Plan A options were exercisable.
 
     [6] The Company has a stock option plan for nonemployee directors ('Plan
B'). The aggregate number of shares which may be issued under Plan B, as
amended, is 500,000.
 
     A summary of stock option activity related to Plan B is as follows:
 
<TABLE>
<CAPTION>
                                                                                 OPTION
                                                               NUMBER OF          PRICE
                                                                SHARES          PER SHARE
                                                               ---------       -----------
<S>                                                            <C>             <C>
Outstanding--July 1, 1995...................................     190,000       $3.50--$5.00
Cancelled...................................................     (10,000)      $  5.00

Granted.....................................................      25,000       $  3.75
                                                               ---------       -----------
Outstanding--June 30, 1996..................................     205,000       $3.50--$5.00
Granted.....................................................      35,000       $3.75--$5.00
                                                               ---------       -----------
                                                               ---------       -----------
Outstanding--June 30, 1997..................................     240,000       $3.50--$5.00
                                                               ---------       -----------
                                                               ---------       -----------
</TABLE>
 
     At June 30, 1997 all the Plan B options were exercisable.
 
     [7] In connection with its initial public offering, the Company granted the
underwriter an option, as adjusted, to purchase up to 143,082 units at $6.36 per
unit exercisable over a three-year period commencing February 1997.
 
     [8] During the fiscal year ended June 30, 1995 the Board of Directors
approved the issuance of options to the president of the Company to purchase
1,250,000 shares of common stock exercisable at $3.75 per share which expire on
June 28, 2005. These options are exercisable only in the event that the targets
for the release of the escrow shares are not achieved, and are subject to
certain adjusted earnings and equity targets, as defined. If
 
                                      F-15

<PAGE>

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
                   NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
 
                             JUNE 30, 1997 AND 1996
 
NOTE K. STOCKHOLDERS' EQUITY--(CONTINUED)

the options become noncontingent, the fair value of the underlying shares on
that date less the option price will be charged to operations as compensation
expense. The Company, however would not be allowed a deduction for such charges
for income tax purposes.
 
     [9] During the year ended June 30, 1997, the Company purchased at market
value 110,000 shares of common stock for approximately $601,000 pursuant to a
stock buy-back program. The Company is authorized by the Board of Directors to
acquire up to 300,000 shares.
 
     [10] At June 30, 1997 the Company has reserved shares of common stock for
issuance upon exercise of warrants, options and conversion of preferred stock as
follows:
 
<TABLE>
<CAPTION>
<S>                                                            <C>
Class 'A' warrants..........................................    4,345,474
Class 'B' warrants..........................................    1,985,270

Plan 'A' options............................................    1,671,500
Plan 'B' options............................................      240,000
Underwriter options.........................................      572,328
Preferred stock.............................................    1,090,909
Sub-debt financing..........................................      434,146
Equipment financing.........................................       50,000
                                                               ----------
                                                               10,389,627
                                                               ----------
                                                               ----------
</TABLE>
 
     [11] The Company has elected to follow APB 25 and related interpretations
in accounting for its employee stock options. Under APB 25, where the exercise
price of the Company's employee stock options equals the market price of the
underlying stock on the date of grant, no compensation is recognized.
 
     Pro forma information regarding net income and earnings per share as
required by SFAS No. 123 has been determined as if the Company had accounted for
its employee stock options under the fair value method of that statement. The
effect of applying SFAS No. 123 on 1997 and 1996 pro forma net loss is not
necessarily representative of the effects on reported net loss for future years
due to, among other things: (1) the vesting period of the stock options and the
(2) fair value of additional stock options in future years. Had compensation
cost for the Company's stock option plans been determined based upon the fair
value at the grant date for awards under the plans consistent with the
methodology prescribed under SFAS No. 123, the Company's net loss in 1997 and
net income in 1996 would have been approximately $(3,790,000) and $1,016,000 or
$(2.19) per share and $.36 per share, respectively. The weighted average fair
value of the option and warrants granted during 1997 and 1996 are estimated as
$.67 and $.75, respectively, on the date of grant using the Black-Scholes
option-pricing model with the following assumptions: expected dividend yield of
0% in both of the years, expected volatility of 40% in both of the years,
risk-free interest rate between 5.94% and 6.95% for 1997 and between 5.77% and
6.06% for 1996 and estimated life of 1 to 10 years in 1997 and 1996.
 
     The exercise price for warrants and options issued in connection with
services rendered by nonemployees or financing arrangements is determined by
negotiations between the Company and the third party. Generally, warrants and
options are issued to employees with an exercise price of not less than the
quoted market price of the stock.
 
NOTE L. RELATED PARTY TRANSACTIONS
 
     [1] During fiscal year 1997 the Company employed an individual related to
the president of the Company to manage the souvenir/concession area of the
attraction. The agreement provides for annual compensation of $66,000.
 
                                      F-16

<PAGE>

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.
                   NOTES TO FINANCIAL STATEMENTS--(CONTINUED)
 
                             JUNE 30, 1997 AND 1996
 
NOTE L. RELATED PARTY TRANSACTIONS--(CONTINUED)

     [2] The Company has an agreement with a marketing consulting firm, whose
principal is the Chairman of the Board of Directors of the Company, to act as
the Company's sales agent in soliciting and negotiating sponsorships and
commercial endorsements. Sponsorship commissions and consulting fees earned by
said firm for the years ended June 30, 1997 and June 30, 1996 aggregated $40,000
and $55,000, respectively.
 
     [3] The Company incurred legal fees to a law firm, one of whose employees
is a director of the Company. Such fees related primarily to general corporate
services. Legal fees for the year ended June 30, 1997 and June 30, 1996
aggregated $85,000 and $36,000, respectively.
 
NOTE M. REVENUE SHARING AGREEMENTS
 
     The Company has been provided with certain equipment for use in its XS
facility in exchange for a percentage of the revenues generated therefrom.
Pursuant to such agreements approximately $594,000 was earned by the vendors for
the year ended June 30, 1997, which amount is included in revenues and selling,
general and administrative expenses.
 
NOTE N. LITIGATION
 
     [1] The Company is disputing the general contractor's claim regarding
amounts billed for work performed on its interactive virtual reality
entertainment center ('XS') subsequent to year-end. The general contractor
commenced a lawsuit against the Company for approximately $1,550,000. The
Company is vigorously defending the lawsuit and has also filed a counterclaim
against the contractor. The Company believes that it has recorded an adequate
liability in connection therewith, and does not believe that the resolution of
the lawsuit will have a material adverse impact on the Company's financial
position or results of operations. The Company has made a $400,000 payment
directly to one of the project subcontractors which it is seeking to offset
against any future payments made in connection with the litigation. The
litigation is in the preliminary stage.
 
     [2] The Company is subject to two other lawsuits and claims totaling
approximately $110,000, with respect to matters arising out of the ordinary
conduct of its business. Management believes that it has meritorious defenses to
the above claims and is vigorously contesting them. Litigation counsel for the
Company has advised that at this time they cannot offer an opinion as to the
ultimate probable outcome of these matters. Both lawsuits are in the early
stages. In addition, in the ordinary course of business, the Company is involved
in various other matters and negotiations. In the opinion of management, the
resolution of these matters will not have a material adverse effect on the
Company's financial position or results of operations.

 
NOTE O. SUBSEQUENT EVENTS
 
     [1] On July 1, 1997 the Company entered into a purchase agreement with Game
Masters, Inc. to become the owner of a laser tag arena installed at the Times
Square site. The purchase price for the product is $420,000.
 
                                      F-17


<PAGE>
                                   SIGNATURES

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

                     SKYLINE MULTIMEDIA ENTERTAINMENT, INC.


Date:  October 14, 1997                      By: /s/ Zalman Silber
                                                  ----------------------------
                                                  Zalman Silber, President and
                                                  Chief Executive Officer

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

<TABLE>
<S>                                           <C>
Date:  October 14, 1997                       By: /s/ Jay Coleman
                                                  ----------------------------
                                                  Jay Coleman, Chairman of the
                                                  Board of Directors

Date:  October 14, 1997                       By: /s/ Zalman Silber
                                                  ----------------------------
                                                  Zalman Silber, President, Chief 
                                                  Executive Officer and Director

Date:  October 14, 1997                       By: /s/ Steven Schwartz
                                                  ----------------------------
                                                  Steven Schwartz, Executive Vice President - Finance, Chief
                                                  Financial Officer (Principal Financial and Accounting
                                                  Officer), Secretary and Treasurer

Date:  October 14, 1997                       By: /s/ David Shamilzadeh
                                                  ----------------------------
                                                  David Shamilzadeh, Director

Date:  October 14, 1997                       By: /s/ Neil S. Belloff
                                                  ----------------------------
                                                  Neil S. Belloff, Director

Date:  October 14, 1997                       By: /s/ Ronald D. Celmer
                                                  ----------------------------
                                                  Ronald D. Celmer, Director

Date:  October 14, 1997                       By: /s/ John F. Barry, III
                                                  ----------------------------
                                                  John F. Barry, III, Director
</TABLE>
                                       25

<PAGE>

                                INDEX TO EXHIBITS

<TABLE>
<CAPTION>
Exhibit
Number                           Description
------                           -----------
<S>             <C>
3.1             Certificate of Incorporation of the Company. (1)
3.2             By-laws of the Company. (1)
3.3             Certificate of Amendment of Certificate of Incorporation relating to the issuance
                of the Preferred Stock. (2)
4.1             See Exhibits 3.1 and 3.2
10.1            The Company's 1994 Stock Incentive Plan (as Amended and Restated). (9)
10.2            The Company's Stock Option Plan for Non-Employee Directors (as Amended and
                Restated). (9)
10.3            Employment Agreement dated October 1, 1993 between the Company and
                Zalman Silber. (1)
10.4            Lease Agreement dated February 26, 1993 between the Company and Empire
                State Building Company. (1)
10.5            License Agreement dated February 26, 1993 between the Company and the
                Empire State Building Company. (1)
10.6            Purchase Agreement dated February 14, 1994 between the Company and
                Interactive Simulation, Inc. (3)
10.7            Film Production Agreement dated April 7, 1994 between the Company and
                Empire Productions, Inc., and Chromavision Corp. (3)
10.8            Lease Agreement dated April 14, 1994 between the Company and the Empire
                State Building Company relating to the Company's executive offices. (3)
10.9            Lease Agreement dated February 8, 1994 between the Company and the Empire
                State Building Company relating to additional space. (3)
10.10           Construction contract dated July 5, 1994 between the Company and Signature
                Construction Group Inc. (4)
10.11           Loan and security agreement dated November 16, 1994 between the Company and
                PhoenixCor, Inc. (5)
10.12           Employment Agreement dated August 15, 1994 between the Company and Steven
                Schwartz. (5)
10.13           Sponsorship Agreement dated February 21, 1995 between the Company and
                Dentsu USA, Inc. on behalf of JVC Company of America. (6)
</TABLE>

                                       26

<PAGE>

<TABLE>
<CAPTION>
Exhibit
Number                           Description
------                           -----------
<S>             <C>
10.14           Stock Purchase Agreement, dated as of July 7, 1995, between the Company and
                Prospect Street Fund. (2)

10.15           Registration Rights Agreement dated as of July 7, 1995 between the Company and
                Prospect Street Fund relating to the Common Stock issuable upon conversion of
                the Preferred Stock. (2)
10.16           Guarantee of Zalman Silber dated as of July 7, 1995 relating to the guarantee of
                the Company's obligations under the Stock Purchase Agreement. (2)
10.17           Stockholders' Agreement dated as of July 7, 1995 between Zalman Silber and
                Prospect Street Fund. (2)
10.18           Amendment to Employment Agreement dated June 29, 1995 between the
                Company and Zalman Silber. (7)
10.19           Agreement dated March 16, 1995 by and between Skyline, PhoenixCor, Inc. and
                Zalman Silber relating to the release of certain security deposits; and the Rider
                dated March 16, 1995 to the Individual Guaranty of Zalman Silber. (7)
10.20           Lease amendment dated March 1996 between the Company and the Empire State
                Building relating to additional space. (8)
10.21           Amendment dated March 1996, to the Company's original lease and license
                agreement with the Empire State Building Company. (8)
10.22           Lease agreement dated March 1996 between the Company and One Times Square
                Center Partners, L.P., for space located at 1457-1463 Broadway, New York, N.Y.
                (8)
10.23           Lease agreement dated September 5, 1996 between the Company and Woodfield
                Associates, for space located at the Woodfield Mall in Schaumberg, Illinois. (9)
10.24           Letter of Intent relating to senior unsecured subordinated debt financing dated
                October 23, 1996, between the Company and Prospect Street. (10)
10.25           Note Purchase Agreement dated November 6, 1996, between the Company and
                Prospect Street. (10)
10.26           Guarantee of Zalman Silber dated November 6, 1996 relating to the Note Purchase
                Agreement. (10)
10.27           Senior Credit Agreement dated December 20, 1996, between the Company and
                Prospect Street and Bank of New York as Trustee for the Employees Retirement
                Plan of The Brooklyn Union Gas Company. (11)
10.28           Subsidiary Guaranty Agreement dated December 20, 1996, between the Company
                and Prospect Street. (11)
</TABLE>

                                       27

<PAGE>

<TABLE>
<CAPTION>
Exhibit
Number                           Description
------                           -----------
<S>             <C>
10.29           Indemnity, Subrogation and Contribution Agreement dated December 20, 1996,
                between the Company and Prospect Street. (11)
10.30           Amended and restated Registration Rights Agreement dated December 20, 1996,
                between the Company, Prospect Street, and Bank of New York as Trustee for the
                Employees Retirement Plan of The Brooklyn Union Gas Company. (11)
10.31           Senior Promissory Note dated December 20, 1996, between the Company and
                Prospect Street. (11)
10.32           Senior Promissory Note dated December 20, 1996 between the Company and
                Bank of New York as Trustee for the Employees Retirement Plan of The
                Brooklyn Union Gas Company. (11)

10.33           Stock Purchase Warrant Agreements dated December 20, 1996, between the
                Company, Prospect Street, and Bank of New York as Trustee for the Employees
                Retirement Plan of The Brooklyn Union Gas Company. (11)
10.34           Loan and Security Agreement dated December 4, 1996, between the Company and
                People's Bank. (11)
10.35           Loan and Security Agreement dated December 4, 1996, between the Company and
                Independent Resources Inc. (11)
10.36           Loan and Security Agreement dated December 4, 1996, between the Company and
                PhoenixCor, Inc. (11)
10.37           Guarantees of Zalman Silber dated December 4, 1996 relating to the Loan and
                Security Agreements with People's Bank and PhoenixCor, Inc. (11)
10.38           Senior Promissory Note dated February 18, 1997 between the Company and Bank
                of New York, as Trustee for the Employees Retirement Plan of The Brooklyn
                Union Gas Company. (12)
10.39           Senior Promissory Note dated March 14, 1997 between the Company and
                Prospect Street NYC Co-Investment Fund, L.P. (12)
10.40           Senior Promissory Note dated March 21, 1997 between the Company and Bank of
                New York, as Trustee for Brooklyn Union Gas Company Non-Bargaining Health
                VEBA. (12)
10.41           Stock Purchase Warrant Agreement dated February 18, 1997 between the
                Company and Bank of New York, as Trustee for the Employee Retirement Plan of
                The Brooklyn Union Gas Company. (12)
10.42           Stock Purchase Warrant Agreements dated March 14, 1997 between the Company
                and Prospect Street NYC Co-Investment Fund, L.P. (12)
</TABLE>

                                       28

<PAGE>

<TABLE>
<CAPTION>
Exhibit
Number                           Description
------                           -----------
<S>             <C>
10.43           Stock Purchase Warrant Agreement dated March 21, 1997 between the Company
                and Bank of New York, as Trustee for Brooklyn Union Gas Company Non-
                Bargaining Health VEBA. (12)
21              Subsidiaries of the Company. (9)
27.1            Financial Data Schedule.
</TABLE>

-------------------------------
(1)      Previously filed as an exhibit to Registration Statement on Form SB-2
         (Commission File No. 33-73276) declared effective on February 14, 1994.

(2)      Previously filed as an exhibit to the Company's current report on Form
         8-K filed on July 21, 1995.

(3)      Previously filed as an exhibit to the Company's annual report on Form
         10-KSB for the fiscal year ended June 30, 1994.

(4)      Previously filed as an exhibit to the Company's quarterly report on

         Form 10-QSB for the quarter ended September 30, 1994.

(5)      Previously filed as an exhibit to the Company's quarterly report on
         Form 10-QSB for the quarter ended December 31, 1994.

(6)      Previously filed as an exhibit to the Company's quarterly report on
         Form 10-QSB for the quarter ended March 31, 1995.

(7)      Previously filed as an exhibit to the Company's annual report on Form
         10-KSB for the fiscal year ended June 30 ,1995.

(8)      Previously filed as an exhibit to the Company's quarterly report on
         Form 10-QSB for the quarter ended March 31, 1996.

(9)      Previously filed as an exhibit to the Company's annual report on Form
         10-KSB for the fiscal year ended June 30, 1996.

(10)     Previously filed as an exhibit to the Company's quarterly report on
         Form 10-QSB for the quarter ended September 30, 1996.

(11)     Previously filed as an exhibit to the Company's quarterly report on
         Form 10-QSB for the quarter ended December 31, 1996.

(12)     Previously filed as an exhibit to the Company's quarterly report on
         Form 10-QSB for the quarter ended March 31, 1997.

                                       29