<PAGE>   1
                                  UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION

                              WASHINGTON, DC 20549

                                    FORM 10-K/A

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

                   For the fiscal year ended January 3, 1998.

                        Commission file number: 1-12375

                           THE LEARNING COMPANY, INC.
             ------------------------------------------------------
             (Exact name of registrant as specified in its charter)

<TABLE>
<S>                                                  <C>       
                   DELAWARE                                     94-2562108
----------------------------------------------       ---------------------------------
(State or other jurisdiction of incorporation)       (IRS Employer Identification No.)

            ONE ATHENAEUM STREET        
          CAMBRIDGE, MASSACHUSETTS                                 02142
   ----------------------------------------                      ----------
   (Address of principal executive offices)                      (Zip Code)
</TABLE>

       Registrant's telephone number, including area code: (617) 494-1200
                                                           --------------

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

        TITLE OF EACH CLASS              NAME OF EXCHANGE ON WHICH REGISTERED
    ----------------------------         ------------------------------------

    Common Stock, $.01 par value                New York Stock Exchange

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

                                      None

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

                                Yes   X        No
                                    -----         -----

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. ___

The aggregate market value of voting stock of the registrant held by
non-affiliates of the registrant as of February 2, 1998 was approximately
$779,986,631. As of February 2, 1998, 49,919,124 shares of the registrant's
common stock were outstanding.

                       DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Proxy Statement for the Annual Meeting of Stockholders expected
to be held in May 1998 are incorporated by reference into Part III.


<PAGE>   2

                                TABLE OF CONTENTS

                                     PART II

                                                                           Page
                                                                           ----

8.       Consolidated Financial Statements and Supplementary Data             4



                                     PART IV

14.      Exhibits, Financial Statement Schedules and Reports on Form 8-K     30




                                       2
<PAGE>   3
   
     Items 8 and 14 in this Annual Report on Form 10-K are amended in their
entirety as set forth below.
    



                                       3


<PAGE>   4
ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

(a)  See Index to Consolidated Financial Statements set forth on page 33 hereof.

(b)  See Supplementary Data set forth below:

QUARTERLY RESULTS OF OPERATIONS


     The following table sets forth unaudited statement of operations data for
each quarterly period of the Company's last two fiscal years. The unaudited
quarterly financial information has been prepared on the same basis as the
annual information presented elsewhere in this report and in management's
opinion, reflects all adjustments (consisting of normal recurring entries)
necessary for a fair presentation of the information provided. The results of
the quarters ended March 31, 1997 and June 30, 1997 have been restated to
reflect the acquisitions of Skills Bank Corporation, Learning Services, Inc.
and Microsystems Software, Inc. which were accounted for using the
pooling-of-interest method of accounting. The operating results for any quarter
are not necessarily indicative of results for any future period.

<TABLE>
<CAPTION>
                                                                Quarters Ended
                                                  (in thousands, except per share amounts)
                                           -----------------------------------------------------
                                             March 31,   June 30,   September 30,   December 31,
                                               1997        1997         1997           1997
                                           -----------  ---------   -------------   ------------
<S>                                        <C>          <C>           <C>           <C>
Revenues                                   $  86,881    $  89,305     $ 96,051      $ 120,201
Operating expenses:      
  Costs of production                         24,020       25,819       25,573         36,291
  Sales and marketing                         20,859       20,366       19,425         25,971
  General and administrative                   8,577        8,368        6,892          7,298
  Development and software costs              10,751       10,094        9,189         10,984
  Amortization, merger and other      
    charges                                  124,721      122,468      126,930        140,897
                                           ---------    ---------     --------      ---------

Operating loss                              (102,047)     (97,810)     (91,958)      (101,240)

Interest expense, net                          5,521        4,995        5,847          5,015
                                           ---------    ---------     --------      ---------

Loss before taxes                           (107,568)    (102,805)     (97,805)      (106,255)

Provision for income taxes                      (250)        (250)          --         61,734
                                           ---------    ---------     --------      ---------

Net loss                                   $(107,318)   $(102,555)    $(97,805)     $(167,989)
                                           =========    =========     ========      =========

Weighted average number of shares
  outstanding                                 48,742       48,982       49,315         50,141

Net loss per share -- basic and diluted    $   (2.20)   $   (2.09)    $  (1.98)     $   (3.35)
                                           =========    =========     ========      =========
</TABLE>


<TABLE>
<CAPTION>

                                                                Quarters Ended
                                                  (in thousands, except per share amounts)
                                           -----------------------------------------------------
                                             March 31,   June 30,   September 30,   December 31,
                                               1996        1996         1996           1996
                                           -----------  ---------   -------------   ------------
<S>                                         <C>         <C>           <C>            <C>
Revenues                                    $ 71,133    $  76,120     $ 90,055       $106,013
Operating expenses:      
  Costs of production                         20,455       20,249       23,095         27,246
  Sales and marketing                         15,380       15,870       17,061         19,379
  General and administrative                   6,862        6,888        7,044          7,756
  Development and software costs               7,897        8,850        9,710          9,561
  Amortization, merger and other      
    charges                                   90,512      162,077      120,818        127,923
                                            --------    ---------     --------       --------

Operating loss                               (69,973)    (137,814)     (87,673)       (85,852)

Interest expense, net                          6,348        6,371        5,506          5,914
                                            --------    ---------     --------       --------

Loss before taxes                            (76,321)    (144,185)     (93,179)       (91,766)

Provision for income taxes                        --           --           --             --
                                            --------    ---------     --------       --------

Net loss                                    $(76,321)   $(144,185)    $(93,179)      $(91,766)
                                            ========    =========     ========       ========

Weighted average number of shares
  outstanding                                 32,874       39,687       44,798         45,751

Net loss per share -- basic and diluted     $  (2.32)   $   (3.63)    $  (2.08)      $  (2.01)
                                            ========    =========     ========       ========
</TABLE>



                                       4
<PAGE>   5



                           THE LEARNING COMPANY, INC.
                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

                                                                            Page
                                                                            ----

Report of Independent Accountants..........................................   6

Consolidated Balance Sheets as of December 31, 1997 and 1996 ..............   7

Consolidated Statements of Operations for the Years Ended
     December 31, 1997, 1996 and 1995......................................   8

Consolidated Statements of Stockholders' Equity (Deficit) for the
     Years Ended December 31, 1997, 1996 and 1995..........................   9

Consolidated Statements of Cash Flows for the Years Ended
     December 31, 1997, 1996 and 1995......................................  10

Notes to Consolidated Financial Statements.................................  12

Financial Statement Schedule of Valuation and Qualifying Accounts
     for the Years Ended December 31, 1997, 1996 and 1995..................  29





                                       5
<PAGE>   6







                        REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and Stockholders of
     The Learning Company, Inc.:

         We have audited the accompanying consolidated balance sheets of The
Learning Company, Inc. as of January 3, 1998 and January 4, 1997 and the related
consolidated statements of operations, stockholders' equity (deficit) and cash
flows for each of the three fiscal years in the period ended January 3, 1998.
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 referred to above present
fairly, in all material respects, the consolidated financial position of The
Learning Company, Inc. as of January 3, 1998 and January 4, 1997 and the related
consolidated results of its operations and its cash flows for each of the three
fiscal years in the period ended January 3, 1998 in conformity with generally
accepted accounting principles.

         In connection with our audits of the financial statements referred to
above, we have also audited the related financial statement schedule of
valuation and qualifying accounts. In our opinion, this financial statement
schedule for each of the three fiscal years in the period ended January 3, 1998,
when considered in relation to the basic financial statements taken as a whole,
presents fairly, in all material respects, the information required to be
included therein.




                                                        COOPERS & LYBRAND L.L.P.

Boston, Massachusetts
February 9, 1998
(except as to Note 12 which is
as of March 6, 1998)




                                       6
<PAGE>   7






                           THE LEARNING COMPANY, INC.
                           CONSOLIDATED BALANCE SHEETS
               (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)

<TABLE>
<CAPTION>
                                                                              December 31,            December 31, 
                                                                                  1997                    1996
                                                                              ------------            -----------
<S>                                                                           <C>                      <C>      
ASSETS

CURRENT ASSETS:
    Cash and cash equivalents                                                 $    95,137              $ 110,120
    Accounts receivable, less allowances of $29,226
      and $15,191, respectively                                                    99,677                 79,610
    Inventories                                                                    29,600                 15,894
    Other current assets                                                           32,590                 20,349
                                                                              -----------              ---------
                                                                                  257,004                225,973
                                                                              -----------              ---------
Fixed assets and other, net                                                        32,306                 22,975
Goodwill and other intangible assets, net                                         127,481                544,570
                                                                              -----------              ---------
                                                                              $   416,791              $ 793,518
                                                                              ===========              =========

LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)

CURRENT LIABILITIES:
    Trade accounts payable and accrued expenses                               $    41,209              $  49,723
    Other current liabilities                                                      52,851                 16,935
    Line of credit                                                                 35,150                 25,000
    Merger related accruals                                                        12,533                 10,667
    Current portion of long-term obligations                                       10,717                  8,083
    Purchase price payable                                                          7,896                  3,245
                                                                              -----------              ---------
                                                                                  160,356                113,653
                                                                              -----------              ---------

LONG-TERM OBLIGATIONS:
    Long-term debt                                                                294,356                332,930
    Related party debt                                                                 --                150,000
    Accrued and deferred income taxes                                              59,746                 86,920
    Other                                                                           6,119                  5,078
                                                                              -----------              ---------
                                                                                  360,221                574,928
                                                                              -----------              ---------

COMMITMENTS AND CONTINGENCIES (NOTE  7)

STOCKHOLDERS' EQUITY (DEFICIT):
    Series A Preferred Stock, $.01 par value - Authorized 750,000
         shares, issued and outstanding 750,000 shares at December
         31, 1997 (liquidation value of $150,000)                                       8                     --
    Common stock, $0.01 par value - Authorized - 120,000,000
         shares; issued and outstanding 48,868,659 and 44,379,781
         shares at December 31, 1997 and 1996, respectively                           489                    444
    Special voting stock - Authorized and issued - one share
         representing the voting rights of 1,478,929 and 1,551,428
         outstanding Exchangeable Shares (for common stock) at
         December 31, 1997 and 1996,  respectively                                     --                     --
    Additional paid-in-capital                                                  1,012,273                733,229
    Accumulated deficit                                                        (1,099,907)              (618,047)
    Cumulative translation adjustment                                             (16,649)               (10,689)
                                                                              -----------              ---------
                                                                                 (103,786)               104,937
                                                                              -----------              ---------
                                                                              $   416,791              $ 793,518
                                                                              ===========              =========
</TABLE>




   THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
                                   STATEMENTS

                                       7
<PAGE>   8





                           THE LEARNING COMPANY, INC.
                      CONSOLIDATED STATEMENTS OF OPERATIONS
               (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)

<TABLE>
<CAPTION>
                                                                      Years Ended December 31,
                                                     -----------------------------------------------------------
                                                         1997                    1996                    1995
                                                     -----------             -----------             -----------

<S>                                                  <C>                     <C>                     <C>        
REVENUES                                             $   392,438             $   343,321             $   167,042

COSTS AND EXPENSES:

   Costs of production                                   111,703                  91,045                  53,070
   Sales and marketing                                    86,621                  67,690                  38,370
   General and administrative                             31,135                  28,550                  20,813
   Development and software costs                         41,018                  36,018                  12,487
   Amortization, merger and other charges                515,016                 501,330                 103,172
                                                     -----------             -----------             -----------
        Total operating expenses                         785,493                 724,633                 227,912
                                                     -----------             -----------             -----------

OPERATING LOSS                                          (393,055)               (381,312)                (60,870)
                                                     -----------             -----------             -----------

INTEREST INCOME (EXPENSE):

    Interest income                                        1,104                   2,564                   6,020
    Interest expense                                     (22,482)                (26,703)                 (5,315)
                                                     -----------             -----------             -----------
        Total interest income (expense)                  (21,378)                (24,139)                    705
                                                     -----------             -----------             -----------

LOSS BEFORE TAXES                                       (414,433)               (405,451)                (60,165)

PROVISION FOR INCOME TAXES                                61,234                      --                   5,795
                                                     -----------             -----------             -----------
NET LOSS                                             $  (475,667)            $  (405,451)            $   (65,960)
                                                     ===========             ===========             ===========

NET LOSS PER SHARE:
        Basic and Diluted                            $     (9.59)            $     (9.94)            $     (2.65)

WEIGHTED AVERAGE NUMBER OF
SHARES OUTSTANDING:
        Basic and Diluted                             49,613,000              40,801,000              24,855,000
</TABLE>




   THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
                                   STATEMENTS

                                       8


<PAGE>   9


                           THE LEARNING COMPANY, INC.
           CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
                                 (IN THOUSANDS)

                                                                
<TABLE>
<CAPTION>
                                  Series A                                                                              Total    
                                  Preferred      Common Stock     Additional                Cumulative              Stockholders'
                               --------------   ---------------    Paid-In    Accumulated  Translation   Treasury      Equity    
                               Shares  Amount   Shares   Amount    Capital      Deficit     Adjustment     Stock      (Deficit)
                               ------  ------   ------   ------  -----------  -----------  -----------   --------   -------------
<S>                             <C>     <C>     <C>       <C>    <C>          <C>            <C>           <C>        <C>       
BALANCE, DECEMBER 31, 1994       --     $--     16,697    $167   $  191,390   $  (142,792)   $ (9,651)   $(1,629)     $  37,485
Acquisition of Future Vision     --      --      1,135      11        8,455        (3,608)         --         --          4,858
Acquisition of tewi              --      --         99       1        3,639            --          --         --          3,640
Acquisition of  The Former                   
  Learning Company               --      --         --      --       43,369            --          --         --         43,369
Acquisition of Compton's         --      --      5,053      51       86,634            --          --         --         86,685
Other acquisitions               --      --        262       3        2,673          (236)         --         --          2,440
Sale of common stock             --      --      2,713      27       73,584            --          --         --         73,611
Stock issued under exercise                                                                                       
  of options and warrants        --      --      1,898      19       28,171            --          --         --         28,190
Treasury stock retirement        --      --         --      --       (1,629)           --          --      1,629             --
Conversion of Exchangeable                   
  Shares to common stock         --      --      2,508      25          (25)           --          --         --             --
Translation adjustments          --      --         --      --           --            --         201         --            201
Net loss                         --      --         --      --           --       (65,960)         --         --        (65,960)
                                ---     ---     ------    ----   ----------   -----------    --------      -----      ---------
BALANCE, DECEMBER 31, 1995       --      --     30,365     304      436,261      (212,596)     (9,450)        --        214,519
Acquisition of MECC              --      --      9,214      92      240,670            --          --         --        240,762
Other acquisitions               --      --        899       9       15,247            --          --         --         15,256
Conversion of debt to common                                                                                          
  stock                          --      --        158       2        3,051            --          --         --          3,053
Stock issued under exercise                  
  of options                     --      --      3,198      32       24,985            --          --         --         25,017
Conversion of Exchangeable                   
  Shares to common stock         --      --         45      --           --            --          --         --             --
Stock issued for settlement                  
  of expenses                    --      --        500       5       13,015            --          --         --         13,020
Translation adjustments          --      --         --      --           --            --      (1,239)        --         (1,239)
Net loss                         --      --         --      --           --      (405,451)         --         --       (405,451)
                                ---     ---     ------    ----   ----------   -----------    --------      -----      ---------
BALANCE, DECEMBER 31, 1996       --      --     44,379     444      733,229      (618,047)    (10,689)        --        104,937
Issuance of Series A                                                                                                   
  Preferred Stock               750       8         --      --      202,025            --          --         --        202,033
Issuance of special warrants     --      --         --      --       57,462            --          --         --         57,462
Conversion of Exchangeable                                                                                         
  Shares to common stock         --      --         73      --           --            --          --         --             --
Stock issued under exercise                  
  of stock options               --      --      1,116      11        8,959            --          --         --          8,970
Stock issued to settle                       
  earn-outs                      --      --        135       2        2,021            --          --         --          2,023
Other acquisitions               --      --      3,165      32        8,577        (6,193)         --         --          2,416
Translation adjustments          --      --         --      --           --            --      (5,960)        --         (5,960)
Net loss                         --      --         --      --           --      (475,667)         --         --       (475,667)
                                ---     ---     ------    ----   ----------   -----------    --------      -----      --------- 
BALANCE, DECEMBER 31, 1997      750       8     48,868    $489   $1,012,273   $(1,099,907)   $(16,649)     $  --      $(103,786)
                                ===     ===     ======    ====   ==========   ===========    ========      =====      ========= 
</TABLE>

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

                                       9
<PAGE>   10



                           THE LEARNING COMPANY, INC.
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (In thousands)

<TABLE>
<CAPTION>
                                                                                   Years Ended December 31,
                                                                      -------------------------------------------------
                                                                         1997                1996                1995
                                                                      ---------           ---------           ---------
<S>                                                                   <C>                 <C>                 <C>      
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss                                                              $(475,667)          $(405,451)          $ (65,960)
Adjustments to reconcile net loss to net cash provided
  by operating activities:
    Depreciation and amortization                                       531,206             451,133              29,802
    Charge for incomplete technology                                      1,050              56,688              60,483
    Provision for returns and doubtful accounts                          67,773              38,112              22,358
    Provision for income taxes                                           61,234                  --                  --
Change in assets and liabilities (net of acquired assets and
  liabilities):
    Accounts receivable                                                 (89,396)            (91,413)            (39,811)
    Inventories                                                         (10,954)              3,332              (4,441)
    Other current assets                                                 (2,035)              4,203               8,865
    Other long-term assets                                               (8,625)             (4,308)             11,990
    Accounts payable and accrued expenses                                15,488              13,359               9,942
    Other long-term obligations                                              --                  --              (2,294)
                                                                      ---------           ---------           ---------
NET CASH PROVIDED BY OPERATING ACTIVITIES                                90,074              65,655              30,934
                                                                      ---------           ---------           ---------

CASH FLOWS FROM INVESTING ACTIVITIES:
  Businesses acquired, net of cash on-hand                              (55,592)             21,518            (547,889)
  Purchases of property and equipment, net                               (4,685)             (4,939)             (7,811)
  Software development costs                                            (27,299)            (12,344)             (2,410)
  Merger related accruals                                               (53,021)            (38,091)             (7,341)
  Payments to stockholders of The Former Learning Company                    --             (25,025)                 --
                                                                      ---------           ---------           ---------
NET CASH USED FOR INVESTING ACTIVITIES                                 (140,597)            (58,881)           (565,451)
                                                                      ---------           ---------           ---------

CASH FLOWS FROM FINANCING ACTIVITIES:
  Net proceeds from sale of stock, options and warrants                   8,970              27,905             106,616
  Borrowings under line of credit                                        10,150              25,000               3,150
  Payments on term notes                                                     --              (4,832)             (8,815)
  Payments on capital lease obligations                                  (2,676)             (1,874)             (1,008)
  Sale (repurchase) of senior  notes                                    (28,000)            (18,350)            500,000
  Costs incurred to issue Series A Preferred Stock                      (10,701)                 --                  --
  Proceeds from issue of  special warrants                               57,462                  --                  --
  Other                                                                   1,821              (1,092)                 --
                                                                      ---------           ---------           ---------
NET CASH PROVIDED BY FINANCING ACTIVITIES                                37,026              26,757             599,943
                                                                      ---------           ---------           ---------

EFFECT OF EXCHANGE RATE CHANGES ON NET CASH                              (1,486)             (1,243)                201
                                                                      ---------           ---------           ---------

NET CHANGE IN CASH AND CASH EQUIVALENTS                                 (14,983)             32,288              65,627

CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD                        110,120              77,832              12,205
                                                                      ---------           ---------           ---------

CASH AND CASH EQUIVALENTS AT END OF PERIOD                            $  95,137           $ 110,120           $  77,832
                                                                      =========           =========           =========
</TABLE>



   THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
                                   STATEMENTS

                                       10
<PAGE>   11






                           THE LEARNING COMPANY, INC.
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                   (CONTINUED)
                                 (IN THOUSANDS)

<TABLE>
<CAPTION>
                                                                                  YEARS ENDED DECEMBER 31,
                                                                        ----------------------------------------------
                                                                          1997               1996                1995
                                                                        --------           --------            -------
<S>                                                                     <C>                <C>                 <C>    
SUPPLEMENTAL SCHEDULING OF NON-CASH
INVESTING AND FINANCING ACTIVITIES:
Issuance of Series A Preferred Stock to retire debt                     $202,033           $     --            $    --
Common stock issued to settle earn-out agreements                          2,023                 --                 --
Common stock issued to acquire MECC                                           --            221,319                 --
Increase in APIC due to value of in-the-money employee
   stock options acquired in connection with acquisitions                  2,969             19,444             43,369
Common stock issued for acquisitions                                          --             15,255             95,292
Conversion of debt to equity                                                  --              3,053              3,471
Common stock issued for settlement of expenses                                --             10,132                111
Equipment acquired under capital leases                                       --              1,262                627

SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid (refunded) during period for:

Interest paid                                                           $ 29,876           $ 28,466            $   524
Income taxes paid  (refunded)                                              1,583             (7,886)               (12)
</TABLE>


   THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL
                                   STATEMENTS

                                       11
<PAGE>   12





                           THE LEARNING COMPANY, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
               (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)

(1)  DESCRIPTION  OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

     The Business

         The Learning Company, Inc. ("TLC" or the "Company") develops, publishes
and markets consumer software in the education and reference category and, to a
lesser extent, productivity, lifestyle and entertainment categories. The Company
sells its products in the retail channel through mass merchants, consumer
electronic stores, price clubs, office supply stores, software specialty stores
and distributors; to original equipment manufacturers ("OEMs"); to schools and
to end-users through direct response methods. The Company also develops and
distributes income tax software products and offers computerized processing of
income tax returns in Canada. The Company's principal market is in the United
States and Canada. The Company has international operations in Germany, Ireland,
France, Holland, the United Kingdom, Japan and Australia. On October 24, 1996,
SoftKey International Inc. changed its name to The Learning Company, Inc.

         The Company's fiscal year is the 52 or 53 weeks ending on or after
December 31. For clarity of presentation herein, all references to December 31,
1997 relate to balances as of January 3, 1998, references to December 31, 1996
relate to balances as of January 4, 1997, the period from January 5, 1997 to
January 3, 1998 is referred to as the "Year Ended December 31, 1997", the period
from January 7, 1996 to January 4, 1997 is referred to as the "Year Ended
December 31, 1996" and the period from January 1, 1995 to January 6, 1996 is
referred to as the "Year Ended December 31, 1995".

     Basis of Presentation

         The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make assumptions regarding
items such as return reserves and allowances, net realizable value of intangible
assets and valuation allowances for deferred tax assets that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Significant estimates in
these financial statements include: return reserves, inventory reserves,
valuation of deferred tax assets and valuation and useful lives of intangible
assets. Actual results could differ from these estimates.

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

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

     Revenue Recognition

         Revenues are primarily derived from the sale of software products and
from software licensing and royalty arrangements. The Company recognizes revenue
in accordance with the Statement of Position ("SOP") No. 91-1, Software Revenue
Recognition. The Financial Accounting Standards Board recently issued SOP No.
97-2, Software Revenue Recognition. The most significant changes to SOP No.
91-1, relate to multiple deliverables and "when and if available" products. The
new SOP No. 97-2 is effective for transactions entered into in fiscal years
beginning after December 15, 1997 and will be adopted by the Company for the
fiscal year ending December 31, 1998. The adoption of this new standard is not
expected to have a material effect on the Company's financial statements.

         Revenues from the sale of software products are recognized upon
shipment, provided that no significant obligations remain outstanding and
collection of the receivable is probable. Costs related to insignificant post
shipment obligations are accrued when revenue is recognized for the sale of the
related products. Allowances for estimated returns are provided at the time of
sale and allowances for price protection are provided at the time of commitment
and charged against revenues. The Company evaluates the adequacy of allowances
for returns and doubtful accounts primarily based upon its evaluation of
historical and expected sales experience and by channel of distribution. The
estimates determined for reserves for returns and allowances are based upon
information available at the reporting date. To the extent the future market,
sell-through experience, customer mix, channels of 


                                       12


<PAGE>   13


distribution, product pricing and general economic conditions change, the
estimated reserves required for returns and allowances may also change. Revenues
from royalty and license arrangements are recognized as earned based upon
performance or product shipments.

     Advertising and Marketing Costs

         The Company charges direct response advertising costs to sales and
marketing expense as incurred. Direct response costs eligible for capitalization
are not material at December 31, 1997 or 1996. Co-operative advertising and
other channel marketing programs are expensed in the period the programs are run
or over the period of specific contract for services and are included in sales
and marketing expense. The Company offers various coupon rebate programs to its
end-user customers. The Company provides for the expected cost of the coupon
redemption at the time of sale under sales and marketing expense. The cost is
estimated based upon the expected coupon redemption rate on a product-by-product
basis and is adjusted at each reporting period for actual results. Fees for
preferred shelf space are expensed as incurred as sales and marketing expense.

     Cash Equivalents

         Cash equivalents are valued at cost, which approximates market value,
and consist principally of commercial paper, bankers' acceptances, short-term
government securities and money market accounts. The Company considers all such
investments having maturities at purchase of less than 90 days to be cash
equivalents. At year end the Company  has approximately $20,000 of cash on
deposit under compensating balances that are not legally restricted with the
Company's bank to provide for credit enhancement under the receivables purchase
agreement. The amount of the compensating balances varies based upon the amount
of eligible accounts receivable under the agreement and the credit rating of
each account receivable.
 

     Accounting for Transfers and Servicing Financial Assets

         The Company follows Statement of Financial Accounting Standards No.
125, Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities ("FAS 125"). FAS 125 applies a control-oriented,
financial-components approach to financial asset transfer transactions whereby
the Company (1) recognizes the financial and servicing assets it controls and
the liabilities it has incurred, (2) derecognizes financial assets when control
has been surrendered, and (3) derecognizes liabilities once they are
extinguished. The Company, through its wholly owned subsidiary The Learning
Company Funding, Inc. (a separate special purpose corporation), is party to a
receivables purchase agreement whereby it can sell without recourse undivided
interests in eligible pools of trade accounts receivable of up to $75,000 on a
revolving basis during a five year period ending September 30, 2002. The Company
acts as servicing agent for the sold receivables in the collection and
administration of the accounts.

     Inventories

         Inventories are stated at the lower of weighted average cost or net
realizable value and include third-party assembly costs, CD-ROM discs, manuals
and an allocation of fixed overhead.


                                              December 31,
                                         ---------------------
                                           1997          1996
                                         -------       -------
                  Components             $ 4,243       $ 1,213
                  Finished goods          25,357        14,681
                                         -------       -------
                                         $29,600       $15,894
                                         =======       =======



     Property and Equipment

         Property and equipment are stated at the lower of cost, net of
accumulated depreciation or net realizable value. Depreciation is calculated
using accelerated and straight-line methods over the following useful lives:


                  Building                      40 years
                  Computer equipment            3-5 years
                  Furniture and fixtures        3-5 years
                  Leasehold improvements        Shorter of the life of the lease
                                                or the estimated useful life



         Betterments and major renewals are capitalized and included in
property, plant, and equipment accounts while expenditures for maintenance and
repairs and minor renewals are charged to expense. When assets are retired or
otherwise disposed of, the assets and related allowances for depreciation and
amortization are eliminated from the accounts and any resulting gain or loss is
reflected in income.

     Goodwill and Intangible Assets

         The excess cost over the fair value of net assets acquired, goodwill,
is amortized on a straight-line basis over 2 years, except for the goodwill
associated with the Company's Canadian income tax software business, which is
being 


                                       13

<PAGE>   14

amortized on a straight-line basis over its estimated useful life of 40 years
(balance of $22,341 at the end of fiscal 1997 and $23,352 at the end of fiscal
1996). The cost of identified intangible assets is generally amortized on a
straight-line basis over their estimated useful lives of 2 to 10 years. Deferred
financing costs are being amortized on a straight-line basis over the term of
the related debt financing.

         The carrying value of goodwill and intangible assets is reviewed on a
quarterly and annual basis for the existence of facts or circumstances both
internally and externally that may suggest impairment. To date no such
impairment has occurred. The Company determines whether an impairment has
occurred based on gross expected future cash flows and measures the amount of
the impairment based on the related future estimated discounted cash flows. The
cash flow estimates that are used to determine the amount of an impairment, if
any, contain management's best estimates, using appropriate and customary
assumptions and projections at the time. Goodwill and other intangible assets
have been presented net of accumulated amortization of $905,425 at the end of
fiscal 1997 and $444,967 at the end of fiscal 1996.

<TABLE>
<CAPTION>
      Description                                  Estimated
      -----------                                useful life in               Net balance
                                                     years                  at December 31,
                                                 --------------      ----------------------------
                                                                       1997                1996
                                                                     --------            --------
      <S>                                           <C>              <C>                 <C>     
      Goodwill                                      2 to 40          $ 55,199            $397,459
      Acquired technology                              2               16,662             126,763
      Brands and related content rights             7 to 10            51,453              10,061
      Deferred financing costs                         5                3,828               9,423
      Other intangible assets                          3                  339                 864
                                                                     --------            --------
                                                                     $127,481            $544,570
                                                                     ========            ========
</TABLE>

     Development and Software Costs

         Development and software costs are expensed as incurred. Development
costs for new software products and enhancements to existing software products
are expensed as incurred until technological feasibility has been established.
Capitalized software development costs on a product-by-product basis are being
amortized using the straight-line method over the remaining estimated economic
life of the product, which is generally twelve months beginning when launched,
which approximates the ratio that current gross revenues for a product bear to
the total of current and anticipated future gross revenues for that product. At
December 31, 1997 and 1996, the Company had capitalized software development
costs of $13,665 and $6,140, respectively which are included in other current
assets. Amortization of software development costs was $12,052, $9,904 and
$2,368 in each of the Years Ended December 31, 1997, 1996 and 1995,
respectively.

     Income Taxes

         Deferred tax liabilities and assets are determined based on the
differences between the financial statement basis and tax basis of assets and
liabilities, using enacted tax rates in effect for the year in which the
differences are expected to reverse. FAS 109 also requires a valuation allowance
against net deferred tax assets if based upon the available evidence it is more
likely than not that some or all of the deferred tax assets will not be
realized.

     Foreign Currency

         The functional currency of each foreign subsidiary is the local
currency. Accordingly, assets and liabilities of foreign subsidiaries are
translated to U.S. dollars at period end exchange rates. Revenues and expenses
are translated using the average rates during the period. The effects of foreign
currency translation adjustments have been accumulated and are included as a
separate component of stockholders' equity (deficit).

     Computation of Earnings Per Share

         For the year ended December 31, 1997, the Company adopted Statement of
Accounting Standards No. 128 ("FAS 128"), which requires the presentation of
Basic and Dilutive earnings per share, which replaces primary and fully diluted
earnings per share. Earnings per share have been restated for all periods
presented to reflect the adoption of FAS 128. Basic net loss per share is
computed using the weighted average number of common shares outstanding during
the period. Dilutive net loss per share is computed using the weighted average
number of common shares outstanding during the period, plus the dilutive effect
of common stock equivalents. Common stock equivalent shares consist of
convertible debentures, preferred stock, stock options and warrants. The
dilutive computations do not include common stock equivalents for the years
ended December 31, 1997, 1996 and 1995 as their inclusion would be antidilutive.




                                       14


<PAGE>   15

(2)    BUSINESS COMBINATIONS

     Creative Wonders

         On October 23, 1997, the Company acquired control of Creative Wonders,
L.L.C. ("Creative Wonders"), an educational software company that publishes,
among other titles, the Sesame Street line of products. The purchase price was a
total of $37,799 including the value of employee stock options assumed and
estimated transaction costs. The purchase price included cash payments of
$33,883.

     Other 1997 Combinations

         On September 19, 1997, the Company acquired Learning Services Inc.
("Learning Services"), a national school software catalog for teachers, in
exchange for the issuance of 709,976 shares of common stock. On September 29,
1997, the Company acquired Skills Bank Corporation ("Skills Bank"), a developer
of educational and remedial software products for adult, adolescent and K to 12
students, in exchange for the issuance of 1,069,286 shares of common stock. On
October 2, 1997, the Company acquired Microsystems Software, Inc.
("Microsystems"), a developer of Internet filtering software, in exchange for
the issuance of 955,819 shares of common stock. On December 30, 1997, the
Company acquired TEC Direct, Inc. ("TEC Direct"), an educational consumer
software catalog, in exchange for the issuance of 429,733 shares of common
stock. Each of these transactions was accounted for using the
pooling-of-interests method of accounting. The consolidated financial statements
of the Company for the years prior to December 31, 1997 do not include the
results and balances of these companies as they were deemed to be immaterial to
the consolidated financial statements for those periods.

     MECC

         On May 17, 1996, the Company acquired Minnesota Educational Computing
Corporation (MECC) ("MECC"), a publisher and developer of high quality
children's educational software sold to consumers and schools, in exchange for
9,214,007 shares of the Company's common stock. The total purchase price was
$284,631, including estimated transaction costs, value of stock options assumed
and deferred income taxes related to certain identifiable intangible assets
acquired. Approximately 1,048,000 MECC employee stock options were converted
into stock options to purchase approximately 1,198,000 shares of TLC common
stock. This transaction was accounted for as a purchase.

     Compton's

         On December 28, 1995, the Company acquired Compton's New Media, Inc.
and Compton's Learning Company (collectively, "Compton's"), developers and
publishers of multimedia software titles. In and in connection with the
acquisition, the Company issued a total of 5,052,697 shares of the Company's
common stock, which included 587,036 shares of common stock to settle $14,000 of
intercompany debt due to Tribune Company and executed a promissory note for
$3,000 in cancellation of the remaining intercompany debt. The total purchase
price was $104,394, including estimated transaction costs, deferred income taxes
related to certain identifiable intangible assets acquired, settlement of
certain intercompany debt to Tribune Company and the fair value of net
liabilities assumed. The promissory note was repaid in 1996. This transaction
was accounted for as a purchase.

     The Learning Company

         On December 22, 1995, the Company acquired control of The Learning
Company (the "The Former Learning Company"), a leading developer of educational
software products for use at home and school. Under the terms of the merger
agreement, the Company acquired, in a two-step business combination, all of the
outstanding shares of The Former Learning Company for total consideration of
approximately $684,066, including the value of stock options assumed, estimated
transaction related costs and deferred income taxes related to certain
identifiable intangible assets acquired. Approximately 1.1 million unvested
employee stock options of The Former Learning Company were converted into
options to purchase 3,123,000 shares of the Company's common stock, based on the
merger consideration of $67.50 per share and were vested on or before January
26, 1996. Approximately $543,163 of the purchase price was settled in cash. This
transaction was accounted for as a purchase.


                                       15



<PAGE>   16

     tewi Verlag GmbH

         On July 21, 1995, the Company acquired tewi Verlag GmbH ("tewi"), a
publisher and distributor of CD-ROM software and computer-related books, located
in Munich, Germany. The purchase price was settled by a combination of cash and
issuance of common stock. The Company issued 99,045 shares of common stock
valued at $3,640 and may issue additional shares of common stock to a former
shareholder of tewi pursuant to an earn-out agreement. The Company paid cash
consideration of $12,688 for tewi. The additional shares issuable under the
earn-out agreement have been treated as contingent consideration and will be
recorded if and when certain future conditions are met. During 1997 and 1996,
$498 and $540, respectively, of consideration related to the contingent
consideration was earned and recorded as expense by the Company. This
transaction was accounted for as a purchase.


         The purchase price for the 1997 acquisition of Creative Wonders has
been allocated based on fair values as follows:

Purchase price                                                         $ 37,799
Less: fair value of net liabilities assumed                              (7,257)
                                                                       --------
Excess to allocate                                                       45,056
Less: excess allocated to
      Incomplete technology                                               1,050
      Brands and related content rights                                  44,006
                                                                       --------
Goodwill                                                               $     --
                                                                       ========



         The purchase price for the 1996 acquisitions has been allocated based
on fair values as follows:

<TABLE>
<CAPTION>
                                                 MECC           Others           Total
                                              ---------       ---------        ---------
<S>                                           <C>             <C>              <C>      
Purchase Price                                $ 284,631       $  15,681        $ 300,312
Less: fair value of net tangible assets
    (liabilities)                                13,990         (15,424)          (1,434)
                                              ---------       ---------        ---------
                                                270,641          31,105          301,746
Excess to allocate to:
Less: excess to allocate
    Incomplete technology                        56,688              --           56,688
    Completed technology                         88,501             285           88,786
    Brands and related content rights               894              --              894
                                              ---------       ---------        ---------
                                                146,083             285          146,368
                                              ---------       ---------        ---------
Goodwill                                      $ 124,558       $  30,820        $ 155,378
                                              =========       =========        =========
</TABLE>







                                       16
<PAGE>   17






         The Company engaged a nationally recognized independent appraiser to
express an opinion with respect to the estimated fair value of a substantial
portion of the assets acquired, to serve as a basis for the allocation of the
purchase price for Creative Wonders and MECC. The Company primarily used the
income approach to determine the fair value of the identified intangible assets
acquired. The debt-free cash flows, net of provision for operating expenses,
were discounted to a net present value. The value of certain completed
technology was based upon comparable fair values in the open market. The value
of software technology and products under development not considered to have
reached technological feasibility and having no future alternative use was
expensed on acquisition.

         Unaudited pro forma results of operations for the transactions
accounted for using the purchase method of accounting as though the acquisitions
had occurred at the beginning of the Years Ended December 31, 1996 and 1995 are
below. The pro forma adjustments detailed below include the effect of
amortization of intangible assets and goodwill related to the acquisitions over
their estimated useful lives of two years and the interest expense related to
the issue of the $500,000 of debt for the period prior to 1995 and 1996
acquisitions or issuance, net of any related income tax effects. Pro forma
results for the 1997 acquisitions were immaterial.

<TABLE>
<CAPTION>
                                                                     The Former  
        Year Ended                                                    Learning                   Pro forma         Pro forma 
    December 31, 1996          TLC           tewi        Compton's    Company        MECC        Adjustment        Combined
------------------------    -------------------------------------------------------------------------------------------------
<S>                         <C>            <C>           <C>          <C>           <C>          <C>               <C>      
Revenues                    $343,321       $     --      $     --     $    --       $ 7,800      $      --         $ 351,121
Operating loss              (381,312)            --            --          --        (9,212)       (41,128)         (431,652)
Net loss                    (405,451)            --            --          --        (7,021)       (34,009)         (446,481)
Net loss per share             (9.94)            --            --          --            --             --            (10.12)


<CAPTION>
        Year Ended
    December 31, 1995
------------------------
<S>                         <C>            <C>           <C>          <C>           <C>          <C>               <C>      
Revenues                    $167,042       $ 3,720       $ 23,204     $60,698       $33,815      $      --         $ 288,479
Operating loss               (60,870)       (3,589)       (13,904)     10,874         6,079       (428,239)         (489,649)
Net loss                     (65,960)       (3,643)        (9,626)      7,398         5,070       (398,195)         (464,956)
Net loss per share             (2.65)            --             --         --            --              --           (12.01)
</TABLE>


     Future Vision Holding, Inc.

         On August 31, 1995, the Company acquired all of the issued and
outstanding capital stock of Future Vision Holding, Inc. ("Future Vision"), a
multimedia software company, in exchange for the issuance of 1,088,149 shares of
common stock of the Company. This acquisition has been accounted for using the
pooling-of-interests method of accounting. The financial statements for periods
prior to the Year Ended December 31, 1995 do not include amounts for this
acquisition as they were deemed to be immaterial to the consolidated financial
statements for those periods.


                                       17
<PAGE>   18






(3)   FIXED ASSETS AND OTHER

                                                             December 31,
                                                      -------------------------
                                                        1997             1996
                                                      --------         --------

Building, land and leasehold improvements             $  6,127         $  4,516
Computer equipment                                      30,707           26,362
Furniture and fixtures                                   7,820            9,062
                                                      --------         --------
                                                        44,654           39,940
Less:  accumulated depreciation
       and amortization                                (24,065)         (22,273)
                                                      --------         --------
                                                        20,589           17,667
Other                                                   11,717            5,308
                                                      --------         --------
                                                      $ 32,306         $ 22,975
                                                      ========         ========

         Included in computer equipment is equipment under capital lease of
$1,952 and $2,207 at December 31, 1997 and 1996, respectively. Depreciation
expense was $4,966, $6,491 and $6,767 in each of the Years Ended December 31,
1997, 1996 and 1995, respectively.

(4)   LINE OF CREDIT

         TLC Multimedia, Inc., a wholly-owned subsidiary of the Company, has a
revolving line of credit (the "Line"), to provide for a maximum availability of
$50,000, of which $35,150 was utilized at December 31, 1997. Borrowings under
the Line become due on July 1, 1999 and bear interest at the prime rate (8 1/2%
at December 31, 1997). The Line is subject to certain financial covenants, is
secured by a general security interest in the assets of The Learning Company,
Inc. and certain other subsidiaries of the Company and by a pledge of the stock
of certain of its subsidiaries. The Line is guaranteed by the Company.


(5)   LONG-TERM DEBT

                                                          December 31,
                                                   --------------------------
                                                     1997              1996
                                                   --------          --------

Senior Convertible Notes                           $303,650          $331,650
Obligations under capital leases                      1,423             2,099
                                                   --------          --------
                                                    305,073           333,749
Less: current portion                               (10,717)             (819)
                                                   --------          --------
                                                   $294,356          $332,930
                                                   ========          ========

         The Company has outstanding $303,650 principal amount 5 1/2% Senior
Convertible Notes due 2000 (the "Notes"), which are unsecured. The Notes will be
redeemable by the Company on or after November 2, 1998 at redemption prices of
102.2% on November 2, 1998, 101.1% on November 1, 1999 and 100% on or after
November 1, 2000 and are convertible into common stock at a price of $53 per
share. Interest is payable on the Notes semi-annually on May 1 and November 1
each year. The long-term principal portion of the Notes declined by a total of
$38,000 and $18,350 during the years Ended December 31, 1997 and 1996,
respectively. Current portion of long-term debt includes $10,000 of the Notes as
the Company intends to repurchase the amount before December 31, 1998.


                                       18
<PAGE>   19






(6)   RELATED PARTY TRANSACTIONS

         On December 28, 1995, Tribune Company made an investment in the Company
in the form of $150,000 principal amount 5 1/2% Senior Convertible/Exchangeable
Notes due 2000 (the "Private Notes"). The Private Notes were redeemable by the
Company on or after November 2, 1998 at redemption prices of 102.2% on November
2, 1998, 101.1% on November 1, 1999 and 100% on November 1, 2000 and were
convertible into common stock at a price of $53 per share. The Private Notes
were sold during 1997 in a private transaction to an investor group prior to
issuance by the Company of 750,000 shares of Series A Convertible Participating
Preferred Stock (the "Preferred Stock") and were surrendered by the investor
group for issue of the Preferred Stock. In connection with the issuance of the
Preferred Stock, the Company paid a transaction fee to the investor group
totaling $1,845, of which $1,125 was paid to one of the investors where a
director of the Company is an officer. The loss resulting from the exchange of
the Private Notes for the Preferred Stock, net of tax benefit, was immaterial.

(7)   COMMITMENTS AND CONTINGENCIES

     Lease Obligations

         The Company leases office facilities and equipment under operating and
capital leases. Rental expense for operating leases was approximately $4,523,
$3,234 and $2,308 and for the Years Ended December 31, 1997, 1996 and 1995,
respectively. Future annual payments under capital and operating leases are as
follows:


                                                      Capital        Operating 
                                                      Leases          Leases
                                                      -------        --------

                  1998                                 $  788        $ 7,424
                  1999                                    601          6,280
                  2000                                    142          5,467
                  2001                                      2          4,643
                  2002                                      2            909
                  Thereafter                               --          8,070
                                                       ------        -------
                                                        1,535        $32,793
                                                                     =======
                  Less:   interest                       (112)
                  Less:   current portion                (717)
                                                       ------
                                                       $  706
                                                       ======


(8)  COMMON AND PREFERRED STOCK
  
     Common Stock

         The Company has reserved 19,279,847 shares of its common stock for
issuance related to the Exchangeable Shares, employee stock options and warrants
at year end. The Exchangeable Shares are represented by the one share of Special
Voting Stock. In addition, the Company has reserved a total of 20,729,245 shares
of its common stock for issuance related to the Notes and the Preferred Stock at
year end.

     Exchangeable Shares

         On February 4, 1994, the Company completed a three-way business
combination (the "Three-Party Combination") among SoftKey Software Products Inc.
("Former SoftKey"), WordStar International Incorporated ("WordStar") and
Spinnaker Software Corporation ("Spinnaker"). In connection with the Three-Party
Combination, Former SoftKey stockholders were entitled to elect to receive
shares of the Company's common stock or Exchangeable Non-Voting Shares (the
"Exchangeable Shares") of SoftKey Software Products Inc. ("SoftKey Software"),
the successor by amalgamation to Former SoftKey. The Company also issued a
special voting share (the "Voting Share") which has a number of votes equal to
the number of Exchangeable Shares outstanding. The holder of the Voting Share is
not entitled to dividends and shall vote with the common stockholders as a
single class. The Exchangeable Shares may be exchanged 



                                       19


<PAGE>   20

for the Company's common stock on a one-for-one basis until February 4, 2005, at
which time any outstanding Exchangeable Shares automatically convert to shares
of the Company's common stock. At year end there were 1,478,929 Exchangeable
Shares outstanding and not held by the Company and its subsidiaries.

         On November 6, 1997, SoftKey Software issued in a private placement
4,072,000 special warrants for net proceeds of $57,462, each of which is
exercisable without additional payment for one Exchangeable Share.

     Preferred Stock

         On December 4, 1997, the Company issued an aggregate of 750,000 shares
of Series A Convertible Participating Preferred Stock (the "Preferred Stock") to
an investor group in exchange for the Private Notes. Each share of the Preferred
Stock has an initial liquidation preference of $200 and is initially convertible
into 20 shares of common stock, or 15,000,000 shares of common stock in the
aggregate on an as-converted basis, subject to adjustment for certain minimum
returns on investment. The Preferred Stock is non-redeemable, bears no dividend,
is subject to restrictions on resale for a period of at least eighteen months
and is manditorily convertible into common stock upon satisfaction of certain
conditions.

         The Company estimated the extraordinary loss for financial reporting
purposes to be approximately $61,000 as at the date the Company entered into and
announced the agreement on August 25, 1997. The Company also estimated that the
resulting benefit for income tax purposes was approximately $61,000 as at the
date of issuance of the Preferred Stock on December 5, 1997. As a result, the
extraordinary loss, net of tax, was determined to be immaterial.

(9)    STOCK OPTIONS AND WARRANTS

     Stock Option Plans

         1990 Long-Term Equity Incentive Plan

         The Company has a Long-Term Equity Incentive Plan (the "LTIP"). The
LTIP allows for incentive stock options, non-qualified stock options and various
other stock awards. Administration of the LTIP is conducted by the Company's
Compensation Committee of the Board of Directors. The Compensation Committee
determines the amount and type of option or award and terms and conditions and
vesting schedules (generally 3 years) of the award or option. The maximum term
of an option is 10 years. Upon a change of control, as defined, awards and
options then outstanding become fully vested, subject to certain limitations.

         On December 4, 1997, the stockholders of the Company approved an
amendment to increase the maximum number of shares of common stock issuable
under the LTIP to 9,000,000 from 7,000,000. The total number of shares of common
stock reserved for issuance under the LTIP at year end was 6,538,716 shares,
2,039,645 of which remained available for grant.

         1996 Non-Qualified Stock Option Plan

         The Company initiated a non-qualified stock option plan (the "1996
Plan") that was approved by the Company's Board of Directors on February 5,
1996. The 1996 Plan allows for non-qualified stock options and various other
stock awards. Administration of the 1996 Plan is conducted by the Company's
Compensation Committee of the Board of Directors. The administrator determines
the amount and type of option or award and terms and conditions and vesting
schedules (generally 3 years) of the award or option. The maximum term of an
option is 10 years. Upon a change of control, as defined, awards and options
then outstanding become fully vested, subject to certain limitations. The
maximum number of shares issuable under the 1996 Plan is 5,000,000. The total
number of shares of common stock reserved under the 1996 Plan at year end was
4,612,949 shares, 585,183 of which remained available for grant.

         1994 Non-Employee Director Stock Option Plans

         On April 26, 1994, the Board of Directors approved a non-employee
director stock option plan (the "1994 Non-Employee Director Plan"). The 1994
Non-Employee Director Plan provides for an initial grant of 20,000 options at
fair market value to be issued to each non-employee director who first became a
director of the Company after February 1, 1994 ("Initial Grants"). During the
Year Ended December 31, 1995, a further 100,000 options were granted to each of



                                       20



<PAGE>   21

the non-employee directors. During the Year Ended December 31, 1996, a further
26,667 options were granted to each of the non-employee directors. The maximum
number of common shares issuable under the 1994 Non-Employee Director Plan is
500,000, all of which were granted at year end. Options granted to non-employee
directors as Initial Grants were 100% exercisable at the time of grant and
options issued as subsequent grants become exercisable over a three-year period.
All such options are exercisable for a period of 10 years from date of grant.

         1996 Non-Employee Director Stock Option Plan

         On July 31, 1996, Board of Directors approved the Company's 1996
Non-Employee Director Option Plan (the "1996 Non-Employee Director Plan"), which
was approved by stockholders on December 4, 1997. Under the 1996 Non-Employee
Director Plan, certain directors who are not officers or employees of the
Company or any affiliate of the Company (the "Non-Employee Directors") are
eligible to receive stock options. The 1996 Non-Employee Director Plan provides
that each Non-Employee Director who became a director after May 16, 1996, but
prior to August 16, 1996 ( the "Effective Date") was entitled to receive a
non-statutory stock option (the "Initial Option") to purchase 50,000 shares of
common stock on the Effective Date. The 1996 Non-Employee Director Plan further
provides that each Non-Employee Director who becomes a director after the
Effective Date is entitled to receive the Initial option to purchase 50,000
shares of common stock on the date that he or she first becomes a member of the
Board of Directors. In addition, the 1996 Non-Employee Director Plan provides
that each Non-Employee Director is entitled to receive a non-statutory option to
purchase 25,000 shares of common stock upon initial appointment to a committee
of the Board of Directors (the "Committee Option"). The Board of Directors may
also grant additional non-statutory options (the "Discretionary Options") to
Non-Employee Directors in its or the Committee's sole discretion. Initial
options, Committee Options and Discretionary Options are exercisable in eight
quarterly installments, with the first of such installments becoming exercisable
three months after the date grant (provided that, for each such installment, the
optionee continues to serve as a director). The total number of shares of common
stock reserved for issuance under the 1996 Non-Employee Director Plan as of year
end was 500,000, 100,000 of which remain available for grant.


                                       21
<PAGE>   22






         The following table summarizes the stock option activity under the
LTIP, the 1996 Plan, the 1996 Non-Employee Director Plan and the 1994
Non-Employee Director Plan:

<TABLE>
<CAPTION>
                            December 31, 1997                  December 31, 1996                 December 31, 1995
                       ---------------------------        ---------------------------        --------------------------
                                          Weighted                           Weighted                          Weighted  
                                          Average                            Average                           Average   
                                          Exercise                           Exercise                          Exercise  
                         Shares            Price            Shares            Price            Shares           Price    
                       ----------         --------        ----------         --------        ----------        --------  
                                                                                             
<S>                    <C>                 <C>            <C>                 <C>            <C>                <C>   
Beginning              10,077,951          $17.22          6,663,769          $14.30          2,599,980         $11.62
Assumed in                                                                                
  acquisitions            716,856            4.78          1,197,852            8.39          3,123,938           8.10
Granted                 6,617,773           10.57          7,202,103           17.79          2,446,996          25.72
Exercised              (1,116,050)           8.03         (3,198,476)           7.73         (1,394,035)         28.76
Canceled               (5,621,075)          17.61         (1,787,297)          19.77           (113,110)         19.81
                       ----------          ------         ----------          ------         ----------         ------
Ending                 10,675,455          $12.96         10,077,951          $17.22          6,663,769         $14.30
                       ==========          ======         ==========          ======         ==========         ======
</TABLE>


         The following table summarizes information about stock options
outstanding at year end:

<TABLE>
<CAPTION>
                                      Options Outstanding                   Options Exercisable
                           ----------------------------------------     ---------------------------
                                            Weighted                                      
                                            Average        Weighted                       Weighted 
                              Number       Remaining        Average        Number          Average 
                           Outstanding    Contractual      Exercise     Exercisable       Exercise
Range of Exercise Prices   at 12/31/97        Life           Price      at 12/31/97         Price 
------------------------   -----------    -----------      --------     -----------       --------
                                                       
<S>        <C>               <C>              <C>           <C>            <C>             <C>   
$   0.05 - $ 9.8750          2,496,383        8.66          $ 7.17         769,409         $ 6.63
   10.21 -  15.8750          4,156,021        7.86           10.58       2,865,111          10.62
 16.0625 -   28.750          4,023,051        7.45           19.00       1,344,569          23.09
--------   --------         ----------        ----          ------       ---------         ------
$   0.05 - $ 28.750         10,675,455        7.89          $12.96       4,979,089         $13.37
========   ========         ==========        ====          ======       =========         ======
</TABLE>

         Options to purchase 4,979,089, 4,035,729 and 1,697,054 shares of common
stock were exercisable at December 31, 1997, 1996 and 1995, respectively.

         The Company applies Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees", in accounting for its plans. The
Company has adopted the disclosure-only provisions of Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS
123"). Accordingly, no compensation expense has been recognized for the stock
option plans as calculated under SFAS 123. Had compensation cost for the
Company's stock option plans been determined based on the fair value at the
grant date for awards in 1997, 1996 and 1995 consistent with the provisions of
SFAS 123, the Company's net loss and basic and diluted net loss per share would
have been increased to the pro forma amounts indicated below:

<TABLE>
<CAPTION>
                                                   1997                  1996                 1995
                                                ----------            ----------           ---------

<S>                                             <C>                   <C>                  <C>      
Net loss - as reported                          $(475,667)            $(405,451)           $(65,960)
Net loss - pro forma                             (511,575)             (430,765)            (80,670)
Net loss per share - as reported                    (9.59)                (9.94)              (2.65)
Net loss per share - pro forma                     (10.07)               (10.56)              (3.25)
</TABLE>


         The above compensation cost does not include the fair value of the
stock options assumed in connection with the acquisitions, as the fair value of
such options have been included in the purchase price of the acquired companies.




                                       22


<PAGE>   23

         The fair value of each option grant is estimated on the date of grant
using the Black-Scholes option-pricing model with the following weighted-average
assumptions used for grants in 1997, 1996 and 1995:

<TABLE>
<CAPTION>
                                            1997                    1996                     1995
                                           ------                  ------                   ------

<S>                                       <C>                      <C>                      <C>   
Dividend yield                                --                       --                       --
Expected volatility                        .7500                    .7857                    .6827
Risk free interest rate                     6.00%                    5.47%                    5.31%
Expected lives                             4 yrs                    4 yrs                    4 yrs
Weighted average grant-date
  fair value of options granted           $10.57                   $10.79                   $15.61
</TABLE>


         The effects of applying SFAS 123 in this disclosure are not indicative
of future amounts. Additional grants in future years are anticipated.

         On March 13, 1997, in order to continue to provide a competitive
employment environment for staff retention and hiring, the Company instituted an
Option Exchange Program under which certain employees (other than employees who
are directors) with options exercisable at $10.40 per share or higher were given
the opportunity to exchange such options for options with an exercise price of
$10.40 per share. A total of 3,627,020 employee stock options were exchanged and
are included in the cancelled and re-granted employee stock options in the above
table.

     1997 Employee Stock Purchase Plan

         On December 4, 1997, the Company's stockholders approved the 1997
Employee Stock Purchase Plan, which provides for six offerings, one beginning
every six months commencing December 1, 1997 until and including November 30,
2000, that provides certain eligible employees with the opportunity to purchase
shares of the Company's common stock at a price of 85% of the price listed on
the New York Stock Exchange at various specified purchase dates. A maximum of
1,000,000 shares of common stock has been authorized for issuance under the 1997
Employee Stock Purchase Plan.

     Warrants

         On November 6, 1997, the Company's Canadian subsidiary, SoftKey
Software issued in a private placement in Canada 4,072,000 special warrants for
net proceeds of approximately $57,462. Each special warrant is exercisable
without additional payment for one Exchangeable Share and automatically was
exercised in accordance with their provisions subsequent to year end. The
Exchangeable Shares are exchangeable at the option of the holder on a
one-for-one basis for common stock of the Company without additional payment.

         On July 31, 1995, the Company announced that it would redeem all of its
2,925,000 publicly traded warrants for $0.10 per warrant on August 31, 1995 in
accordance with the terms and conditions of the warrants. Holders of such
warrants received in exchange for the warrants an aggregate of 289,959 shares of
common stock. The remaining 25,410 warrants were redeemed by the Company.




                                       23
<PAGE>   24






(10)     AMORTIZATION, MERGER AND OTHER CHARGES

During the Year Ended December 31, 1997, the Company completed the acquisition
of Creative Wonders using the purchase method of accounting and the acquisitions
of Learning Services, Skills Bank, TEC Direct and Microsystems using the
pooling-of-interests method of accounting. During the year ended December 31,
1996 the Company completed the acquisitions of MECC and Edusoft S.A. using the
purchase method. During the Year Ended December 31, 1995, the Company completed
the acquisitions of The Former Learning Company, Compton's and tewi using the
purchase method of accounting and Future Vision using the pooling-of-interest
method of accounting. Amortization, merger and other charges were expensed as
incurred or were recorded when it became probable that the transaction would
occur and the expense could be reasonably estimated. Amortization, merger and
other related charges are as follows:

<TABLE>
<CAPTION>
                                                                          Years Ended December 31,
                                                              --------------------------------------------------
                                                                1997                 1996                 1995
                                                              --------             --------             --------

<S>                                                           <C>                  <C>                  <C>     
Amortization of goodwill and other intangible assets          $457,393             $434,866             $ 31,968
Exit and restructuring costs                                    48,571                4,260                1,304
Charge for incomplete technology                                 1,050               56,688               60,483
Provision for earn-outs                                          5,497                2,917                   --
Professional fees and other costs                                2,505                2,599                9,417
                                                              --------             --------             --------
                                                              $515,016             $501,330             $103,172
                                                              ========             ========             ========
</TABLE>


         The amortization of goodwill and other intangible assets in 1997, 1996
and 1995 represents primarily the amortization of the goodwill and acquired
intangible assets in connection with the acquisitions of Creative Wonders, MECC,
The Former Learning Company and Compton's.

         Exit and restructuring costs related to charges during the year for
employee severance of $10,936, discontinued products of $19,242, termination of
certain supplier relations of $10,229 and other charges related to the Company's
acquisition strategy and integration of the acquired Companies of $8,164. The
charge has increased in the Year Ended December 31, 1997 as compared to the Year
Ended December 31, 1996 due to the change in strategy related to the school
channel and product discontinuation due primarily to the 1997 acquisitions. A
total of 59 employees were terminated in the areas of development, marketing,
operations, sales and administration as part of the integration process. The
plan was consummated during the year. There were no separately identifiable
operations that will not be continued. Employee severance costs in the Year
Ended December 31, 1996 related to termination of employees of the Company in
connection with the acquisitions of The Former Learning Company and MECC and the
related changes in strategy. A total of 108 employees were terminated in the
areas of operations, marketing, sales, technical support and product
development. Employee severance costs in the Year Ended December 31, 1995
related to termination of employees in connection with the acquisitions of
Future Vision and certain severances related to changes in the Company's
operations related to the acquisitions and changes in strategy. A total of 63
employees were terminated in the areas of operations, product development and
administration. Accrued exit and restructuring costs at December 31, 1997 are
not material.

         The charge for incomplete technology in the Year Ended December 31,
1997 related to products being developed by Creative Wonders, in the Year Ended
December 31, 1996 related to products being developed by MECC and in the Year
Ended December 31, 1995 related to products being developed by The Former
Learning Company and Compton's. In each case the Company believes the products
in development had not reached technological feasibility at the date of
acquisition, had no alternative future use and additional development would be
required to complete the software technology.

         The provision for earn-outs related to the amounts earned by the former
owners of certain acquisitions based upon the achievement of certain revenue and
operating goals achieved. These amounts are expected to be paid in common stock
of the Company prior to December 31, 1998.

         Professional fees and other costs in the Year Ended December 31, 1997
related to investment banking, legal, accounting fees and other transaction
related costs incurred in connection with the acquisitions of Skills Bank,
Learning Services, TEC Direct and Microsystems. Professional fees and other
transaction related costs in the Year Ended December 31, 1996 relate to
additional legal and accounting costs incurred in connection with the
acquisition of MECC. 




                                       24



<PAGE>   25

Professional fees and other transaction related costs in the Year Ended December
31, 1995 relate to the investment banking, legal and accounting costs incurred
to such date for the proposed merger with MECC and the professional fees
associated with the acquisition of Future Vision on August 31, 1995.

         At December 31, 1997, the Company had merger related accruals of
$12,533. The accruals consisted of amounts due for legal and accounting fees,
employee severance and lease termination costs related to the acquisitions. The
Company expects to substantially pay the remaining amounts prior to December 31,
1998.

(11) INCOME TAXES

         The Company's net loss for the years ended December 31, 1997, 1996 and
1995 includes amortization, merger and other charges of $515,016, $501,330, and
$103,172, respectively, certain of which are not deductible for income tax
purposes. The Company's loss before income taxes consisted of the following:

                                            Years Ended December 31,
                              --------------------------------------------------
                                 1997                1996                1995
                              ---------           ---------           ---------

United States                 $(433,842)          $(420,905)          $ (64,987)
Foreign                          19,409              15,454               4,822
                              ---------           ---------           ---------
                              $(414,433)          $(405,451)          $ (60,165)
                              =========           =========           =========



The provision for income taxes consists of the following:

                                               Years Ended December 31,
                                       --------------------------------------
                                         1997           1996            1995
                                       -------        --------        -------
Current income taxes:
     Federal                           $37,498        $ 16,777        $ 6,000
     State                               6,687           2,868          1,500
     Foreign                             1,512           4,000            250
                                       -------        --------        -------
                                        45,697          23,645          7,750
                                       -------        --------        -------

Deferred income taxes (benefit):
     Federal                            15,537         (23,645)        (1,955)
     State                                  --              --             --
     Foreign                                --              --             --
                                       -------        --------        -------
                                        15,537         (23,645)        (1,955)
                                       -------        --------        -------
                                       $61,234        $     --        $ 5,795
                                       =======        ========        =======

         The significant components of deferred income tax expense are primarily
from changes in deferred tax liabilities related to the acquired technology,
depreciation, certain allowances and reserves not currently deductible, and
changes in the deferred tax asset valuation reserve.


                                       25
<PAGE>   26
         The Company's actual tax as compared to the 1997, 1996 and 1995
statutory tax rate reported on income is as follows:

<TABLE>
<CAPTION>
                                                                                       Years Ended December 31,
                                                                           ----------------------------------------------
                                                                             1997                1996              1995
                                                                           ---------          ---------          --------

<S>                                                                        <C>                <C>                <C>      
Tax provision (benefit) at statutory federal income tax rate (35%)         $(145,052)         $(141,908)         $(21,058)
State income tax, net of federal benefit                                       5,834              5,571             2,500
Net foreign earnings taxed at rates different than federal tax rate            1,700              2,319               700
Non deductible amortization, merger and other charges                        121,461            175,465            36,110
Effect of change in valuation allowance                                       61,234                 --                --
Utilization of prior year tax benefits                                            --            (41,447)          (12,457)
Other                                                                         16,057                 --                --
                                                                           ---------          ---------          --------
                                                                           $  61,234          $      --          $  5,795
                                                                           =========          =========          ========
</TABLE>


         The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and liabilities are as follows:

                                                      Years Ended December 31,
                                                     -------------------------
                                                        1997            1996
                                                     ---------        --------
Deferred tax assets:
          Net operating losses and credits           $ 112,196        $ 49,582
          Other reserves and accruals                   25,918           8,104
                                                     ---------        --------
                                                       138,114          57,686
Less:  valuation allowance                            (131,269)        (53,350)
                                                     ---------        --------
                                                         6,845           4,336
                                                     ---------        --------
Tax liabilities:
          Deferred intangible assets                    (8,732)        (54,429)
          Deferred foreign taxes                            --          (3,941)
          Other deferred taxes                          (7,008)             --
                                                     ---------        --------
                                                       (15,740)        (58,370)
                                                     ---------        --------
Net deferred tax liability                           $  (8,895)       $(54,034)
                                                     ---------        --------
Accrued tax liabilities                                (50,581)        (32,886)
                                                     ---------        --------
                                                     $ (59,746)       $(80,920)
                                                     =========        ========


         The valuation allowance relates to uncertainties surrounding the
recoverability of deferred tax assets. In assessing the realizability of
deferred assets, management considers whether it is more likely than not that
some or all of the deferred tax assets will not be realized. The ultimate
realization of deferred tax assets is dependent upon the generation of future
taxable income during periods in which benefits from net operating loss
carryforwards are available and temporary differences become deductible. The
Company considers the scheduled reversal of deferred tax liabilities, projected
future taxable income, and other matters in making this assessment. As a result
of its evaluation of these factors at December 31, 1997 the Company recorded a
valuation reserve for deferred tax assets of $131,269 (including $16,600 for
items related to additional paid-in-capital in the Year Ended December 31,
1997). At December 31, 1997, the Company had worldwide net operating loss
carryforwards and other tax benefits of approximately $280,400 for income tax
purposes, expiring from the year 2000 through 2012. The Company expects to
reduce its deferred tax liability in proportion to the amortization taken on
certain intangible assets established in the acquisitions. The reduction of the
intangible assets and the deferred tax liability will not impact future cash
flows of the Company. The utilization of tax loss carryforwards is subject to
limitations under Section 382 of the U.S. Internal Revenue Code, the U.S.
consolidated tax return provisions, and foreign country tax regulations. Accrued
income tax liabilities relates to identified federal, state and foreign accrued
income tax liabilities that are not currently due.

(12)  SUBSEQUENT EVENTS

         On March 6, 1998, the Company announced that it had entered into an
agreement to acquire Mindscape, Inc. and its subsidiaries for a total purchase
price of $150,000,000, payable in cash and the remainder through the issuance of
shares of common stock. The transaction will be accounted for using the purchase
method of accounting. The Company 



                                       26


<PAGE>   27

has not yet completed its allocation of the purchase price related to the
transaction. The closing of the transaction is subject to certain conditions,
including expiration of applicable waiting periods under pre-merger
notification.

         On March 6, 1998, the Company also announced that its Canadian
subsidiary, SoftKey Software Products Inc., agreed to sell to certain Canadian
institutional investors approximately 6.25 million special warrants for
aggregate proceeds of approximately U.S. $104 million. Each special warrant is
exercisable without additional payment for one SoftKey Exchangeable Share.
SoftKey's Exchangeable Shares are exchangeable on a one-for-one basis for common
stock of the Company without additional payment. The private placement is
ultimately subject to certain conditions, including receipt of certain
regulatory approvals.




                                       27
<PAGE>   28



(13)     GEOGRAPHIC INFORMATION

         The Company operates primarily in one business segment - software for
use with microcomputers. The following table presents information concerning the
Company's United States, and International (including Canada) operations during
the Years Ended December 31, 1997, 1996 and 1995.

<TABLE>
<CAPTION>
                                United 
                                States         International      Eliminations      Consolidated
                               ---------       -------------      ------------      ------------

<S>                            <C>                 <C>               <C>               <C>                   
DECEMBER 31, 1997

Revenues:
     Customers                 $ 295,513          $ 96,925          $     --          $ 392,438
     Inter-company                    59            11,325           (11,384)                --
                               ---------          --------          --------          ---------
           Total               $ 295,572          $108,250          $(11,384)         $ 392,438
                               =========          ========          ========          =========

Loss from
       operations              $(422,432)         $ 29,377          $     --          $(393,055)
                               =========           =======          ========          =========

Identifiable  assets           $ 246,800          $169,991          $     --          $ 416,791
                               =========          ========          ========          =========

DECEMBER 31, 1996

Revenues:
     Customers                 $ 261,816          $ 81,505          $     --          $ 343,321
     Inter-company                   383             6,698            (7,081)                --
                               ---------          --------          --------          ---------
           Total               $ 262,199          $ 88,203          $ (7,081)         $ 343,321
                               =========           =======          ========          =========

Loss from
       operations              $(396,697)         $ 15,385          $     --          $(381,312)
                               =========          ========          ========          =========

Identifiable  assets           $ 708,320          $ 85,198          $     --          $ 793,518
                               =========          ========          ========          =========

DECEMBER 31, 1995

Revenues:
    Customers                  $ 121,357          $ 48,061          $ (2,376)         $ 167,042
    Inter-company                    696            (3,072)            2,376                 --
                               ---------          --------          --------          ---------
           Total               $ 122,053          $ 44,989          $     --          $ 167,042
                               =========          ========          ========          =========

 Loss from
       operations              $ (69,195)         $  8,295          $     --          $ (60,870)
                               =========          ========          ========          =========

Identifiable assets            $ 835,760          $ 64,653          $     --          $ 900,413
                               =========          ========          ========          =========
</TABLE>


         The Company conducts a portion of its operations outside the United
States. At December 31, 1997, $20,209 of cash and cash equivalents were subject
to foreign currency fluctuations. Sales and transfers between geographic areas
are generally priced at market less an allowance for marketing costs. No single
customer accounted for greater than 10% of revenues for any of the periods
presented.



                                       28
<PAGE>   29






                                                                     Schedule II
                                                                     -----------

                           THE LEARNING COMPANY, INC.
                        VALUATION AND QUALIFYING ACCOUNTS
              FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
                                 (IN THOUSANDS)

<TABLE>
<CAPTION>
                                                         Additions
                                        ------------------------------------------
                                                          Charged
                                        Balance at        to cost         Charged                             Balance
                                        beginning           and           to other                             at end
                                        of period         expenses        accounts      Deductions(1)        of period
                                        ----------       ----------       --------      -------------        ---------

<S>                                      <C>               <C>               <C>          <C>                 <C>    
YEAR ENDED DECEMBER 31, 1997
     Allowance for returns and
      doubtful accounts                  $15,191           $67,773           --           $(53,738)           $29,226

YEAR ENDED DECEMBER 31, 1996
     Allowance for returns and
      doubtful accounts                  $ 6,851           $38,112           --           $(29,772)           $15,191

YEAR ENDED DECEMBER 31, 1995
     Allowance for returns and
      doubtful accounts                  $ 6,744           $22,358           --           $(22,251)           $ 6,851
</TABLE>





(1)  Deductions relate to credits issued for returns and allowances against
     accounts receivable.



                                       29
<PAGE>   30


PART IV

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

(a)     Documents filed as part of this report

        (1)     FINANCIAL STATEMENTS
                                                                            PAGE
                                                                            ----

                CONSOLIDATED FINANCIAL STATEMENTS:

                    Report of Independent Accountants                         6

                    Consolidated Balance Sheets as of December 31, 
                    1997 and 1996                                             7

                    Consolidated Statements of Operations for the 
                    Years Ended December 31, 1997, 1996 and 1995              8

                    Consolidated Statements of Stockholders' Equity 
                    (Deficit) for the Years Ended December 31, 1997, 
                    1996 and 1995                                             9

                    Consolidated Statements of Cash Flows for the 
                    Years Ended December 31, 1997, 1996 and 1995             10

                    Notes to Consolidated Financial Statements               12

        (2)     FINANCIAL STATEMENT SCHEDULE

                CONSOLIDATED SUPPLEMENTARY FINANCIAL SCHEDULE:

                    Schedule II - Valuation and Qualifying Accounts          29




                                       30
<PAGE>   31





        (3)     EXHIBITS

Exhibit
Number                              Description
-------                             -----------

   3.1      Restated Certificate of Incorporation, as amended(1)

   3.2      Certificate of Designation of Series A Convertible Participating
            Preferred Stock Setting Forth the Powers, Preferences, Rights,
            Qualifications, Limitations and Restrictions of such Series of
            Preferred Stock (15)
   3.3      Bylaws of the Company, as amended (17)

   4.1      Indenture dated as of October 16, 1995 between the Company and State
            Street Bank and Trust Company, as Trustee, for 5 1/2% Senior
            Convertible Notes due 2000 (the "Indenture")(2)

   4.2      First Supplemental Indenture to the Indenture, dated as of November
            22, 1995, by and between the Company and State Street Bank and Trust
            Company, as Trustee(3)

   4.3      Note Resale Registration Rights Agreement dated as of October 23,
            1995 by and between the Company, on the one hand, and the Initial
            Purchasers set forth therein, on the other hand (the "Registration
            Rights Agreement")(3)

   4.4      Letter Agreement dated November 22, 1995 amending the Registration
            Rights Agreement(3)

   4.5      Form of Securities Resale Registration Rights Agreement by and among
            the Company and Tribune Company(4)

   4.6      Voting and Exchange Trust Agreement dated as of February 4, 1994
            among the Company and SoftKey Software Products Inc. and R-M Trust
            Company, as Trustee(5)

   4.7      Plan of Arrangement of SoftKey Software Products Inc. under Section
            182 of the Business Corporations Act (Ontario)(5)
   4.8      Form of Special Warrant dated November 6, 1997 of SoftKey Software
            Products Inc. (17)

   4.9      Special Warrant Indenture dated November 6, 1997 between SoftKey
            Software Products Inc. and CIBC Mellon Trust Company (17)

   4.10     Registration Rights Agreement dated as of August 26, 1997 among the
            Company and Thomas H. Lee Company, Thomas H. Lee Equity Fund III,
            L.P., Thomas H. Lee Foreign Fund III, L.P., Bain Capital Fund V,
            L.P., Bain Capital V-B. L.P., BCIP Associates, L.P., BCIP Trust
            Associates, L.P., Centre Capital Investors II, L.P., Centre Capital
            Tax-Exempt Investors II, L.P., Centre Capital Offshore Investors II,
            L.P. , State Board of Administration of Florida, Centre Parallel
            Management Partners, L.P. and Centre Partners Coinvestment, L.P.(17)

  10.1      Employment Agreement dated as of April 9, 1997 by and between the
            Company and Michael Perik(6)*

  10.2      Employment Agreement dated as of April 9, 1997 by and between the
            Company and Kevin O'Leary (6)*

  10.3      Employment Agreement dated as of May 22, 1997 by and between the
            Company and R. Scott Murray (7)*

  10.4      Employment Agreement dated October 8, 1993 by and between SoftKey
            Software Products Inc. and David E. Patrick (8)*

  10.5      Employment Agreement dated March 1, 1994 by and between SoftKey
            Software Products Inc. and Robert Gagnon (13)*


                                       31


<PAGE>   32
  10.6      Employment Agreement dated as of February 6, 1997 by and between the
            Company and Neal S. Winneg* (17)

  10.7      Employment Agreement dated as of March 5, 1997 by and between the
            Company and Anthony Bordon (14)*

  10.8      Credit Agreement dated as of September 30, 1994 between SoftKey Inc.
            and Fleet Bank of Massachusetts, N.A. (10)

  10.9      Second Amendment dated as of May 17, 1995 by and between SoftKey
            Inc. and Fleet Bank of Massachusetts, N.A. to Credit Agreement dated
            as of September 30, 1994 (11)

  10.10     Third Amendment dated as of December 22, 1995 by and among SoftKey
            Inc. and Fleet Bank of Massachusetts, N.A. to Credit Agreement dated
            as of September 30, 1994 (9)

  10.11     Fourth Amendment dated as of February 28, 1996 by and among SoftKey
            Inc. and Fleet Bank of Massachusetts, N.A. to Credit Agreement dated
            as of September 30, 1994 (9)

  10.12     Fifth Amendment dated as of October 4, 1996 by and among SoftKey
            Inc. and Fleet National Bank, as successor in interest to Fleet Bank
            of Massachusetts, to Credit Agreement dated as of September 30,
            1994 (12)

  10.13     Sixth Amendment dated December 31, 1997 by and among SoftKey Inc.
            and Fleet National Bank, as successor in interest to Fleet Bank of
            Massachusetts, NA to Credit Agreement dated September 30, 1994 (17)
  10.14     Sublease Agreement dated as of January 5, 1995 by and between Mellon
            Financial Services Corporation #1 and SoftKey Inc. (13)

  10.15     Continuing Guaranty of Lease dated as of January 5, 1995 by the
            Company in favor of Mellon Financial Services Corporation #1 (13)

  10.16     1994 Non-Employee Director Stock Option Plan, as amended and
            restated effective February 5, 1996 (9)*

  10.17     Form of Stock Option Agreement under 1994 Non-Employee Director
            Stock Option Plan (9)*
  10.18     1990 Long Term Equity Incentive Plan, as amended through December 4,
            1997* (17)

  10.19     Form of Stock Option Agreement under 1990 Long Term Equity Incentive
            Plan (9)*

  10.20     1996 Stock Option Plan, as amended and restated through October 31,
            1996 (14)*

  10.21     Form of Stock Option Agreement under 1996 Stock Option Plan (9)*

  10.22     1996 Non-Employee Director Stock Option Plan (15)*

  10.23     Form of Stock Option Agreement under 1996 Non-Employee Director
            Stock Option Plan* (17)

  10.24     1997 Employee Stock Purchase Plan (15)*

  10.25     Form of Standstill Agreement by and between the Company and Tribune
            Company (4)

  10.26     Securities Purchase Agreement dated as of August 26, 1997 among the
            Company and Thomas H. Lee Company, Thomas H. Lee Equity Fund III,
            L.P. and Thomas H. Lee Foreign Fund III, L.P. (16)

  10.27     Securities Purchase Agreement dated as of August 26, 1997 among the
            Company and Bain Capital Fund V, L.P., Bain Capital V-B. L.P., BCIP
            Associates, L.P. and BCIP Trust Associates, L.P. (16)

  10.28     Securities Purchase Agreement dated as of August 26, 1997 among the
            Company and Centre Capital Investors II, L.P., Centre Capital
            Tax-Exempt Investors II, L.P., Centre Capital Offshore Investors II,
            L.P. , State Board of Administration of Florida, Centre Parallel
            Management Partners, L.P. and Centre Partners Coinvestment, L.P. 
            (16)



                                       32

<PAGE>   33

  10.29     Receivables Purchase Agreement dated as of June 30, 1997 by and
            among The Learning Company Funding, Inc. ("Funding"), Lexington
            Partner Capital Company ("Lexington"), Fleet National Bank
            ("Fleet"), TLC Multimedia Inc. and the Company (7)

  10.30     Receivables Sales Agreement dated as of June 30, 1997 by and between
            TLC Multimedia Inc. and Funding (7)

  10.31     Capital Contribution Agreement dated as of June 30, 1997 by and
            among TLC Multimedia Inc., Funding and the Company (7)
  21.1      Subsidiaries of the Company (17)

  23.1      Written Consent of Coopers & Lybrand L.L.P.
  27.1      Financial Data Schedule (17)
-------------------------

*        Denotes management contract or compensatory plan or arrangement.

(1)      Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended July 6,
         1996.

(2)      Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended September
         30, 1995.

(3)      Incorporated by reference to exhibits filed with the Company's
         Registration Statement on Form S-3 (Reg . No. 333-145) filed January
         26, 1996.

(4)      Filed as exhibits to the Agreement and Plan of Merger dated November
         30, 1995 by and among the Company, Cubsco I, Inc., Cubsco II, Inc.,
         Tribune Company, Compton's NewMedia, Inc. and Compton's Learning
         Company, incorporated by reference to exhibits filed with the Company's
         Current Report on Form 8-K dated December 11, 1995.

(5)      Incorporated by reference to exhibits filed with the Company's
         Registration Statement on Form S-3 (Reg . No. 333-40549) filed December
         3, 1997.

(6)      Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended April 5,
         1997.

(7)      Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended July 5,
         1997.

(8)      Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended April 2,
         1994.

(9)      Incorporated by reference to exhibits filed with the Company's Annual
         Report on Form 10-K for the year ended January 6, 1996.

(10)     Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended October 1,
         1994.

(11)     Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended July 1,
         1995.

(12)     Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended October 5,
         1996.

(13)     Incorporated by reference to exhibits filed with the Company's Annual
         Report on Form 10-K for the year ended December 31, 1994.




                                       33


<PAGE>   34

(14)     Incorporated by reference to exhibits filed with the Company's Annual
         Report on Form 10-K for the year ended January 4, 1997.

(15)     Incorporated by reference to exhibits filed with the Company's
         Definitive Proxy Statement filed October 24, 1997.

(16)     Incorporated by reference to exhibits filed with the Company's Current
         Report on Form 8-K dated August 26, 1997.
(17)     Incorporated by reference to exhibits filed with the Company's Annual
         Report on Form 10-K for the year ended January 3, 1998.

(b)     REPORTS ON FORM 8-K

The registrant filed a Current Report on Form 8-K reporting that, on November 6,
1997, it sold 4,072,000 special warrants to certain Canadian institutional
investors pursuant to Regulation S under the Securities Act of 1933, as amended.



                                       34
<PAGE>   35





                                   SIGNATURES

         Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, the Registrant has duly caused this Amendment
No. 2 to be signed on its behalf by the undersigned, thereunto duly authorized.

                                          THE LEARNING COMPANY, INC.

                                          By:  /s/ R. Scott Murray
                                               ----------------------------- 
                                               R. Scott Murray
                                               Executive Vice President and
                                               Chief Financial Officer

Date:  June 19, 1998


                                       35



<PAGE>   36



                                  EXHIBIT INDEX

Exhibit
Number                            Description
-------                           -----------

   3.1      Restated Certificate of Incorporation, as amended (1)

   3.2      Certificate of Designation of Series A Convertible Participating
            Preferred Stock Setting Forth the Powers, Preferences, Rights,
            Qualifications, Limitations and Restrictions of such Series of
            Preferred Stock (15)

   3.3      Bylaws of the Company, as amended (17)

   4.1      Indenture dated as of October 16, 1995 between the Company and State
            Street Bank and Trust Company, as Trustee, for 5 1/2% Senior
            Convertible Notes due 2000 (the "Indenture") (2)

   4.2      First Supplemental Indenture to the Indenture, dated as of November
            22, 1995, by and between the Company and State Street Bank and Trust
            Company, as Trustee (3)

   4.3      Note Resale Registration Rights Agreement dated as of October 23,
            1995 by and between the Company, on the one hand, and the Initial
            Purchasers set forth therein, on the other hand (the "Registration
            Rights Agreement") (3)

   4.4      Letter Agreement dated November 22, 1995 amending the Registration
            Rights Agreement(3)

   4.5      Form of Securities Resale Registration Rights Agreement by and among
            the Company and Tribune Company (4)

   4.6      Voting and Exchange Trust Agreement dated as of February 4, 1994
            among the Company and SoftKey Software Products Inc. and R-M Trust
            Company, as Trustee (5)

   4.7      Plan of Arrangement of SoftKey Software Products Inc. under Section
            182 of the Business Corporations Act (Ontario) (5)

   4.8      Form of Special Warrant dated November 6, 1997 of SoftKey Software
            Products Inc. (17)

   4.9      Special Warrant Indenture dated November 6, 1997 between SoftKey
            Software Products Inc. and CIBC Mellon Trust Company (17)

   4.10     Registration Rights Agreement dated as of August 26, 1997 among the
            Company and Thomas H. Lee Company, Thomas H. Lee Equity Fund III,
            L.P., Thomas H. Lee Foreign Fund III, L.P., Bain Capital Fund V,
            L.P., Bain Capital V-B. L.P., BCIP Associates, L.P., BCIP Trust
            Associates, L.P., Centre Capital Investors II, L.P., Centre Capital
            Tax-Exempt Investors II, L.P., Centre Capital Offshore Investors II,
            L.P. , State Board of Administration of Florida, Centre Parallel
            Management Partners, L.P. and Centre Partners Coinvestment, L.P.
            (17)

  10.1      Employment Agreement dated as of April 9, 1997 by and between the
            Company and Michael Perik (6)*

  10.2      Employment Agreement dated as of April 9, 1997 by and between the
            Company and Kevin O'Leary (6)*

  10.3      Employment Agreement dated as of May 22, 1997 by and between the
            Company and R. Scott Murray (7)*

  10.4      Employment Agreement dated October 8, 1993 by and between SoftKey
            Software Products Inc. and David E. Patrick (8)*



                                       36


<PAGE>   37

  10.5      Employment Agreement dated March 1, 1994 by and between SoftKey
            Software Products Inc. and Robert Gagnon (13)*

  10.6      Employment Agreement dated February 6, 1997 by and between the
            Company and Neal S. Winneg* (17)

  10.7      Employment Agreement dated March 5, 1997 by and between the Company
            and Anthony Bordon (14)*


  10.8      Credit Agreement dated as of September 30, 1994 between SoftKey Inc.
            and Fleet Bank of Massachusetts, N.A. (10)

  10.9      Second Amendment dated as of May 17, 1995 by and between SoftKey
            Inc. and Fleet Bank of Massachusetts, N.A. to Credit Agreement dated
            as of September 30, 1994 (11)

  10.10     Third Amendment dated as of December 22, 1995 by and among SoftKey
            Inc. and Fleet Bank of Massachusetts, N.A. to Credit Agreement dated
            as of September 30, 1994 (9)

  10.11     Fourth Amendment dated as of February 28, 1996 by and among SoftKey
            Inc. and Fleet Bank of Massachusetts, N.A. to Credit Agreement dated
            as of September 30, 1994 (9)

  10.12     Fifth Amendment dated as of October 4, 1996 by and among SoftKey
            Inc. and Fleet National Bank, as successor in interest to Fleet Bank
            of Massachusetts, to Credit Agreement dated as of September 30,
            1994 (12)

  10.13     Sixth Amendment dated December 31, 1997 by and among SoftKey Inc.
            and Fleet National Bank, as successor in interest to Fleet Bank of
            Massachusetts, NA to Credit Agreement dated September 30, 1994 (17)

  10.14     Sublease Agreement dated as of January 5, 1995 by and between Mellon
            Financial Services Corporation #1 and SoftKey Inc. (13)

  10.15     Continuing Guaranty of Lease dated as of January 5, 1995 by the
            Company in favor of Mellon Financial Services Corporation #1 (13)

  10.16     1994 Non-Employee Director Stock Option Plan, as amended and
            restated effective February 5, 1996 (9)*

  10.17     Form of Stock Option Agreement under 1994 Non-Employee Director
            Stock Option Plan (9)*

  10.18     1990 Long Term Equity Incentive Plan, as amended through December 4,
            1997* (17)

  10.19     Form of Stock Option Agreement under 1990 Long Term Equity Incentive
            Plan (9)*

  10.20     1996 Stock Option Plan, as amended and restated through October 31,
            1996 (14)*

  10.21     Form of Stock Option Agreement under 1996 Stock Option Plan (9)*

  10.22     1996 Non-Employee Director Stock Option Plan (15)*

  10.23     Form of Stock Option Agreement under 1996 Non-Employee Director
            Stock Option Plan* (17)

  10.24     1997 Employee Stock Purchase Plan (15)*

  10.25     Form of Standstill Agreement by and between the Company and Tribune
            Company (4)

  10.26     Securities Purchase Agreement dated as of August 26, 1997 among the
            Company and Thomas H. Lee Company, Thomas H. Lee Equity Fund III,
            L.P. and Thomas H. Lee Foreign Fund III, L.P. (16)

  10.27     Securities Purchase Agreement dated as of August 26, 1997 among the
            Company and Bain Capital Fund V, L.P., Bain Capital V-B. L.P., BCIP
            Associates, L.P. and BCIP Trust Associates, L.P. (16)



                                       37



<PAGE>   38

  10.28     Securities Purchase Agreement dated as of August 26, 1997 among the
            Company and Centre Capital Investors II, L.P., Centre Capital
            Tax-Exempt Investors II, L.P., Centre Capital Offshore Investors II,
            L.P. , State Board of Administration of Florida, Centre Parallel
            Management Partners, L.P. and Centre Partners Coinvestment, L.P. 
            (16)

  10.29     Receivables Purchase Agreement dated as of June 30, 1997 by and
            among The Learning Company Funding, Inc. ("Funding"), Lexington
            Partner Capital Company ("Lexington"), Fleet National Bank
            ("Fleet"), TLC Multimedia Inc. and the Company (7)

  10.30     Receivables Sales Agreement dated as of June 30, 1997 by and between
            TLC Multimedia Inc. and Funding (7)

  10.31     Capital Contribution Agreement dated as of June 30, 1997 by and
            among TLC Multimedia Inc., Funding and the Company (7)
  21.1      Subsidiaries of the Company (17)

  23.1      Written Consent of Coopers & Lybrand L.L.P.
  27.1      Financial Data Schedule (17)

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

*        Denotes management contract or compensatory plan or arrangement.

(1)      Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended July 6,
         1996.

(2)      Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended September
         30, 1995.

(3)      Incorporated by reference to exhibits filed with the Company's
         Registration Statement on Form S-3 (Reg . No. 333-145) filed January
         26, 1996.

(4)      Filed as exhibits to the Agreement and Plan of Merger dated November
         30, 1995 by and among the Company, Cubsco I, Inc., Cubsco II, Inc.,
         Tribune Company, Compton's NewMedia, Inc. and Compton's Learning
         Company, incorporated by reference to exhibits filed with the Company's
         Current Report on Form 8-K dated December 11, 1995.

(5)      Incorporated by reference to exhibits filed with the Company's
         Registration Statement on Form S-3 (Reg . No. 333-40549) filed December
         3, 1997.

(6)      Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended April 5,
         1997.

(7)      Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended July 5,
         1997.

(8)      Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended April 2,
         1994.

(9)      Incorporated by reference to exhibits filed with the Company's Annual
         Report on Form 10-K for the year ended January 6, 1996.

(10)     Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended October 1,
         1994.

(11)     Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended July 1,
         1995.




                                       38


<PAGE>   39

(12)     Incorporated by reference to exhibits filed with the Company's
         Quarterly Report on Form 10-Q for the quarterly period ended October 5,
         1996.

(13)     Incorporated by reference to exhibits filed with the Company's Annual
         Report on Form 10-K for the year ended December 31, 1994.

(14)     Incorporated by reference to exhibits filed with the Company's Annual
         Report on Form 10-K for the year ended January 4, 1997.

(15)     Incorporated by reference to exhibits filed with the Company's
         Definitive Proxy Statement filed October 24, 1997.

(16)     Incorporated by reference to exhibits filed with the Company's Current
         Report on Form 8-K dated August 26, 1997.
(17)     Incorporated by reference to exhibits filed with the Company's Annual 
         Report on Form 10-K for the year ended January 3, 1998.







                                       39