<PAGE>
 
The Reader's Digest Association, Inc. and Subsidiaries

BUSINESS SEGMENT FINANCIAL INFORMATION
<TABLE>
<CAPTION>
 
                                                                                        Years ended June 30,
                                                                                 ----------------------------------
In millions                                                                        1997(3)      1996(4)      1995
-------------------------------------------------------------------------------------------------------------------
<S>                                                                              <C>          <C>          <C>
Revenues
     Reader's Digest Magazine                                                    $  729.2     $  739.8     $  732.9
     Books and Home Entertainment Products                                        1,850.5      2,099.4      2,099.8
     Special Interest Magazines                                                      81.9         91.9         95.6
     Other Businesses                                                               181.0        170.6        143.9
     Intersegment(1)                                                                 (3.6)        (3.6)        (3.7)
-------------------------------------------------------------------------------------------------------------------
                                                                                 $2,839.0     $3,098.1     $3,068.5
-------------------------------------------------------------------------------------------------------------------
Operating profit
     Reader's Digest Magazine                                                    $   42.7     $   11.2     $   78.3
     Books and Home Entertainment Products                                          175.6        192.0        339.3
     Special Interest Magazines                                                       0.4        (21.1)        (0.8)
     Other Businesses                                                                22.5         (9.9)        31.1
     Corporate Expense                                                              (48.4)       (62.9)       (56.0)
-------------------------------------------------------------------------------------------------------------------
                                                                                 $  192.8     $  109.3     $  391.9
-------------------------------------------------------------------------------------------------------------------
Identifiable assets
     Reader's Digest Magazine                                                    $  410.4     $  358.3     $  365.0
     Books and Home Entertainment Products                                          881.8        981.1        973.7
     Special Interest Magazines                                                      76.4         66.4         88.6
     Other Businesses                                                                75.1         76.9         51.0
     Corporate(2)                                                                   200.1        421.4        480.4
-------------------------------------------------------------------------------------------------------------------
                                                                                 $1,643.8     $1,904.1     $1,958.7
-------------------------------------------------------------------------------------------------------------------
Depreciation and amortization
     Reader's Digest Magazine                                                    $   11.2     $   11.8     $   11.6
     Books and Home Entertainment Products                                           27.8         30.4         27.8
     Special Interest Magazines                                                       2.0          1.6          2.4
     All other                                                                        5.7          5.0          2.9
-------------------------------------------------------------------------------------------------------------------
                                                                                 $   46.7     $   48.8     $   44.7
-------------------------------------------------------------------------------------------------------------------
Capital expenditures
     Reader's Digest Magazine                                                    $   22.9     $   14.7     $   13.6
     Books and Home Entertainment Products                                           75.9         36.8         32.9
     All other                                                                       11.8          8.1          3.8
-------------------------------------------------------------------------------------------------------------------
                                                                                 $  110.6     $   59.6     $   50.3
===================================================================================================================

GEOGRAPHIC FINANCIAL INFORMATION
                                                                                        Years ended June 30,
                                                                                 ----------------------------------
In millions                                                                          1997(3)      1996(4)      1995
Revenues
     United States                                                               $1,236.4     $1,278.9     $1,196.9
     Europe                                                                       1,172.2      1,379.7      1,455.8
     Pacific and Other Markets                                                      439.8        445.6        424.9
     Interarea                                                                       (9.4)        (6.1)        (9.1)
-------------------------------------------------------------------------------------------------------------------
                                                                                 $2,839.0     $3,098.1     $3,068.5
-------------------------------------------------------------------------------------------------------------------
Revenues interarea
     United States                                                               $    2.9     $    3.2     $    4.3
     Europe                                                                           5.3          2.4          3.2
     Pacific and Other Markets                                                        1.2          0.5          1.6
-------------------------------------------------------------------------------------------------------------------
                                                                                 $    9.4     $    6.1     $    9.1
-------------------------------------------------------------------------------------------------------------------
Operating profit
     United States                                                               $  133.8     $   16.6     $  151.7
     Europe                                                                          94.1        110.0        225.5
     Pacific and Other Markets                                                       13.3         45.6         70.7
     Corporate Expense                                                              (48.4)       (62.9)       (56.0)
-------------------------------------------------------------------------------------------------------------------
                                                                                 $  192.8     $  109.3     $  391.9
-------------------------------------------------------------------------------------------------------------------
Identifiable assets
     United States                                                               $  661.0     $  664.9     $  587.6
     Europe                                                                         542.2        563.4        669.4
     Pacific and Other Markets                                                      240.5        254.4        221.3
     Corporate(2)                                                                   200.1        421.4        480.4
-------------------------------------------------------------------------------------------------------------------
                                                                                 $1,643.8     $1,904.1     $1,958.7
===================================================================================================================
</TABLE>
(1)Intersegment sales are included in the company's Other Businesses segment.

(2)Corporate assets consist primarily of cash and cash equivalents, short-term
investments, marketable securities and other long-term investments.

(3)Operating profit for 1997 reflects the allocation of other operating items of
$35.0 to the business segment and geographic financial information as follows
(refer to note TWO in Notes to Consolidated Financial Statements for further
information):  Reader's Digest Magazine $5.6, Books and Home Entertainment
Products $25.5, Other Businesses $0.5, Corporate Expense $3.4, and United States
$15.3, Europe $7.4, and Pacific and Other Markets $8.9.

(4)Operating profit for 1996 has been restated in the current year to reflect
the allocation of other operating items of $235.0 to the business segment and
geographic financial information as follows (refer to note TWO in Notes to
Consolidated Financial Statements for further information):  Reader's Digest
Magazine $37.6, Books and Home Entertainment Products $130.1, Special Interest
Magazines $21.4, Other Businesses $42.1, Corporate Expense $3.8, and United
States $151.0, Europe $63.5, and Pacific and Other Markets $16.7.

12
<PAGE>
 
The Reader's Digest Association, Inc. and Subsidiaries

MANAGEMENT'S DISCUSSION AND ANALYSIS

Dollars in millions, except per share data

Management's discussion and analysis as it pertains to geographic and business
segment information has been written excluding the effects of the 1997 fourth
quarter charges of $35.0 and the 1996 third quarter charges of $245.0
(together, referred to as the operating charges) in order to analyze the results
on a comparable basis. In addition, in 1996 reported results include $10.0 of
savings recognized as a result of the finalization of the company's lease
termination program in the United Kingdom.

o Results of Operations

1997 v. 1996  Worldwide revenues for 1997 decreased to $2,839.0, or by 8%,
compared with $3,098.1 for 1996. Excluding the adverse effect of changes in
foreign currency exchange rates, revenues decreased 7%. Revenues declined in all
geographic areas, particularly in the company's European operations. The
decrease in revenues was principally due to lower unit sales, and, to a lesser
extent, lower-priced product offerings and sales of a lower-priced product mix
in Books and Home Entertainment Products. External factors, including weak
European economies and increased competitive pressures globally, impacted
revenues. Tactical implementation of many simultaneous strategic initiatives,
including varying the quantity and frequency of promotional mailings, moderating
product pricing and introducing greater promotion variety and less aggressive
sweepstakes, also contributed to lower worldwide revenues in 1997.

     Worldwide operating profit increased to $192.8 in 1997, compared with
$109.3 in 1996. The 1997 and 1996 results reflect operating charges of $35.0
($22.2 after tax, or $0.21 per share) and $245.0 ($169.8 after tax, or $1.57 per
share), respectively. Excluding the effects of the operating charges, worldwide
operating profit decreased by 36% in 1997, compared with the same period a year
ago. These operating results reflect the impact of lower revenues and higher
inventory write-offs as a result of lower customer response to third and fourth
quarter promotional mailings, partially offset by the benefits of cost-
containment initiatives.

     The company reported net income of $133.5, or $1.24 per share in 1997,
compared with $80.6, or $0.73 per share in 1996. Excluding the effects of the
operating charges, earnings per share decreased 37% to $1.45 in 1997, compared
with $2.30 in 1996, which includes the benefit of $0.09 per share due to the
savings recognized as a result of the finalization of the company's lease
termination program in the United Kingdom.

     1996 v. 1995  Worldwide revenues in 1996 were about even at $3,098.1,
compared with the prior year. Slightly higher prices and sales of a higher-
priced product mix were offset by slight declines in volume. Higher revenues in
the United States and Pacific and Other Markets were offset by lower revenues in
Europe.

     Worldwide operating profit decreased from $391.9 in 1995 to $109.3, or by
72%, in 1996. Excluding the effect of the third quarter charges, worldwide
operating profit decreased to $354.3, or by 10%, which includes $10.0 of savings
recognized as a result of the finalization of the company's lease termination
program in the United Kingdom. Operating profit decreased due to higher paper
and postage costs and unfavorable results in the company's European operations.

     Earnings per share declined 69% to $0.73 in 1996, compared with $2.35 in
1995. Excluding the effect of the third quarter charges, earnings per share
decreased to $2.30, or by 2%, in 1996, which includes the benefit of $0.09 per
share due to the savings recognized as a result of the finalization of the
company's lease termination program in the United Kingdom. Earnings per share
declined less than operating profit due to a lower effective tax rate, excluding
the effect of other operating items, and the reduction in outstanding shares due
to the company's share repurchase program.

Other Income, Net

1997 v. 1996  Other income, net for 1997 decreased to $17.4, compared with $28.4
a year ago. This decrease was primarily because of lower interest income ($11.4
in 1997, compared with $21.5 in 1996), lower gains on the sales of certain
investments ($7.0 in 1997, compared with $15.8 in 1996), and higher interest
expense ($7.0 in 1997, compared with $2.4 in 1996), which were partially offset
by higher gains on foreign exchange transactions and hedging activity ($8.5 in
1997, compared with a loss of $6.1 in 1996).

     1996 v. 1995 Other income, net decreased in 1996 to $28.4, compared with
$30.6 in 1995. The primary contributor to this decrease was lower interest
income ($21.5 in 1996, compared with $40.1 in 1995), partially offset by higher
gains on the sales of certain investments ($15.8 in 1996, compared with $8.9 in
1995) and lower expense related to losses on foreign exchange transactions and
hedging activity ($6.1 in 1996, compared with $10.3 in 1995).

Income Taxes

1997 v. 1996  The overall effective tax rate for 1997 was 36.5%, compared with a
reported rate of 41.5% for 1996. Excluding the effects of other operating items,
the effective tax rate was 36.5% and 35.5% in 1997 and 1996, respectively. The
lower effective rate in 1996 was primarily attributable to favorable settlements
relating to prior years.

     1996 v. 1995  The company reduced its overall effective tax rate, excluding
the effect of other operating items, to 35.5% in 1996 from 37.5% in 1995. This
decrease was primarily attributable to favorable settlements relating to prior
years, as well as effective tax planning.

o Geographic Areas

1997 OPERATING PROFIT BY GEOGRAPHIC AREA

                [PIE CHART]
Pacific and
Other Markets 8%
United States 55%
Europe 37%

Excludes other operating items and Corporate Expense.

                                                                              13
<PAGE>
 
Operating Profit by Geographic Area
<TABLE>
<CAPTION>
                                         Other
                                 As    operating    As
1997                          reported   items   adjusted
---------------------------------------------------------
<S>                          <C>         <C>     <C>
United States                   $133.8   $ 15.3    $149.1
Europe                            94.1      7.4     101.5
Pacific and Other Markets         13.3      8.9      22.2
Corporate Expense                (48.4)     3.4     (45.0)
---------------------------------------------------------
                                $192.8   $ 35.0    $227.8
=========================================================
<CAPTION> 
                                          Other
                                 As     operating    As
1996(1)                       reported    items   adjusted
---------------------------------------------------------
<S>                          <C>         <C>     <C>
United States                   $ 16.6   $151.0    $167.6
Europe                           110.0     63.5     173.5
Pacific and Other Markets         45.6     16.7      62.3
Corporate Expense                (62.9)     3.8     (59.1)
                                $109.3   $235.0    $344.3
=========================================================
</TABLE>

(1)Results for 1996 include the effects of third quarter charges ($245.0) and
fourth quarter savings on the finalization of the company's lease termination
program in the United Kingdom ($10.0).

United States

1997 v. 1996  Revenues in the United States decreased from $1,278.9 in 1996 to
$1,236.4, or by 3%, in 1997. This decrease was primarily attributable to lower
unit sales in Books and Home Entertainment Products. Revenues were also
adversely affected by the exclusion of revenues due to the sale of Travel
Holiday magazine in the third quarter of 1996. Within Books and Home
Entertainment Products, the lower unit sales were principally caused by declines
in Condensed Books and music products. The decrease in Condensed Books and music
products sales was caused by lower customer response to promotional offers.
Operating profit decreased 11% to $149.1 in 1997 compared with $167.6 in 1996
due to lower revenues and lower customer response to promotional mailings,
partially offset by lower paper costs and the benefit of cost-containment
initiatives.

     1996 v. 1995  Revenues in the United States increased in 1996 to $1,278.9,
or by 7%, compared with 1995. Books and Home Entertainment Products accounted
for 6% of this increase. Within Books and Home Entertainment Products, the
increase was attributable to higher revenues in general books, due to a higher-
priced product mix, the launch of a new illustrated book series and higher music
product revenues, which was partially attributable to increased membership in
music series. Revenues also increased in Other Businesses due to higher sales at
QSP. Operating profit increased 11% to $167.6 in 1996, compared with 1995, due
to higher revenues and the benefit of cost-containment initiatives, partially
offset by higher paper and postage costs.

Europe
1997 v. 1996  Revenues in Europe decreased from $1,379.7 in 1996 to $1,172.2, or
by 15%, in 1997. Excluding the adverse effect of changes in foreign currency
exchange rates, revenues decreased 12%. The decrease in revenues was primarily
due to lower unit sales, and, to a lesser extent, lower-priced product offerings
and sales of a lower-priced product mix within Books and Home Entertainment
Products. Revenues declined in all product lines within Books and Home
Entertainment Products, except for video products. Operating profit decreased
from $173.5 in 1996 to $101.5, or by 41%, in 1997. Current year results were
affected by increased competitive pressures, the continuing general weakness in
European economies, and the company's ongoing actions to restore long-term
growth in this region. These actions include the selective modification of the
number of promotional mailings and mail quantity in a given mailing, variation
of promotional formats, and moderation of product prices. The impact of these
items was partially offset by the benefit of lower product returns and bad
debts, and the implementation of cost-containment initiatives.

     1996 v. 1995  Revenues in Europe decreased from $1,455.8 in 1995 to
$1,379.7, or by 5%, in 1996. Excluding the favorable effects of foreign currency
exchange rates, revenues declined 8%. This decline was attributable primarily to
lower volume in Books and Home Entertainment Products, including Condensed
Books, general books and series books. Operating profit decreased from $225.5 in
1995 to $173.5, or by 23%, in 1996. These results reflect the company's
investment in restaging its European operations, lower customer response rates
to some of the company's promotional mailings in a number of markets and general
weakness in European economies. Higher paper costs also contributed to the
operating profit decline.

Pacific and Other Markets

1997 v. 1996  Revenues in Pacific and Other Markets decreased from $445.6 in
1996 to $439.8, or by 1%, in 1997. This decrease was caused by lower Books and
Home Entertainment Products revenues; however, increased Reader's Digest
Magazine circulation revenues in new countries offset almost three-quarters of
this decline. Within Books and Home Entertainment Products, the decline in
revenues was due to lower-priced product offerings and sales of a lower-priced
product mix, as well as lower unit sales in 1997, primarily in Condensed Books
and general books. Higher revenues in Latin America, reflecting product
expansion in Brazil and Argentina, were offset primarily by significant revenue
declines in South Africa, because of substantially lower mail quantities and
customer response rates and the country's economic climate, and in Australia,
due to lower customer response to promotional mailings, including the effect of
promotional mailing variations, and increased competitive pressures. Operating
profit decreased 64% in 1997 to $22.2, primarily because of higher proportionate
promotional spending, continuing investments in new country expansion, and
higher inventory write-offs as a result of the lower customer response rates.

14
<PAGE>
 
     1996 v. 1995  Revenues in Pacific and Other Markets increased from $424.9
in 1995 to $445.6, or by 5%, in 1996. Excluding the unfavorable effects of
foreign exchange, revenues increased 10%. This increase was attributable to
Books and Home Entertainment Products, Reader's Digest Magazine and Other
Businesses. Within Books and Home Entertainment Products, excluding the
unfavorable effects of foreign currency exchange rates, all product lines
reported revenue increases due primarily to higher prices and a higher-priced
product mix. For Reader's Digest Magazine the increase was primarily
attributable to increased circulation revenues. Revenues for Other Businesses
increased due to the acquisition of QSP Canada. Operating profit decreased 12%
in 1996 to $62.3. The decrease in operating profit was primarily attributable to
higher paper costs, lower response rates to promotional mailings and formats in
South Africa and investments in new countries.

o Business Segments

1997 OPERATING PROFIT BY BUSINESS SEGMENT

        [PIE CHART]

Other Business 8%
Readers Digest Magazine 18%
Books and Home
Entertainment
Products 74%

Excludes other operating items and Corporate Expense.


Operating Profit by Business Segment

<TABLE>
<CAPTION>
                                                    Other
                                            As    operating    As
1997                                     reported   items   adjusted
-------------------------------------------------------------------- 
<S>                                     <C>         <C>     <C> 
Reader's Digest Magazine                   $ 42.7   $  5.6    $ 48.3
Books and Home
     Entertainment Products                 175.6     25.5     201.1
Special Interest
     Magazines                                0.4       --       0.4
Other Businesses                             22.5      0.5      23.0
Corporate Expense                           (48.4)     3.4     (45.0)
-------------------------------------------------------------------- 
                                           $192.8   $ 35.0    $227.8
==================================================================== 
<CAPTION> 
                                                     Other
                                            As     operating    As   
1996(1)                                  reported    items   adjusted
--------------------------------------------------------------------- 
<S>                                     <C>         <C>     <C> 
Reader's Digest Magazine                   $ 11.2   $ 37.6     $ 48.8
Books and Home                                               
     Entertainment Products                 192.0    130.1      322.1
Special Interest                                             
     Magazines                              (21.1)    21.4        0.3
Other Businesses                             (9.9)    42.1       32.2
Corporate Expense                           (62.9)     3.8      (59.1)
--------------------------------------------------------------------- 
                                           $109.3   $235.0     $344.3
=====================================================================
</TABLE>

(1)Results for 1996 include the effects of third quarter charges ($245.0) and
fourth quarter savings on the finalization of the company's lease termination
program in the United Kingdom ($10.0).

Reader's Digest Magazine

1997 v. 1996  Revenues for Reader's Digest Magazine decreased from $739.8 in
1996 to $729.2, or by 1%, in 1997. Circulation revenues were about even year-
over-year, and advertising revenues increased slightly from the prior year,
excluding the adverse effect of changes in foreign currency exchange rates.
Increased circulation levels in Latin America, Eastern Europe and Thailand were
offset by lower paid copies in several European countries and the United States.
The increase in advertising revenues was attributable to a higher number of
advertising pages sold in Pacific and Other Markets and the United States,
offset by a lower number of pages in Europe, and, to a lesser extent, a higher
average price per page in the United States offset by a lower average price per
page in Pacific and Other Markets. Operating profit for Reader's Digest Magazine
decreased in 1997 to $48.3 compared with $48.8 in 1996. The decrease reflects
lower revenues, increased promotional spending and investments in new countries,
partially offset by lower paper costs and the benefit of cost-containment
initiatives.

     1996 v. 1995  Revenues for Reader's Digest Magazine remained about even at
$739.8 in 1996. The slight increase was primarily due to higher advertising
revenues. The increase in advertising revenues was attributable to higher rates,
and, to a lesser extent, higher advertising pages. Advertising pages increased
in the United States and Pacific and Other Markets but declined in Europe.
Circulation revenues remained even. Lower circulation levels were offset by
higher subscription pricing. Increased circulation levels in Pacific and Other
Markets were more than offset by decreased circulation levels in Europe.
Subscription price increases in Europe and Pacific and Other Markets were
partially offset by lower average subscription prices in the United States
consistent with the company's long-term growth strategy. Operating profit for
Reader's Digest Magazine decreased in 1996 to $48.8 compared with $78.3 in 1995
due primarily to higher paper and postage costs and increased promotional
spending to retain high-quality subscribers who purchase the company's other
products.

                                                                              15
<PAGE>
 
Books and Home Entertainment Products

1997 v. 1996  Revenues for Books and Home Entertainment Products decreased from
$2,099.4 in 1996 to $1,850.5, or by 12%, in 1997, principally attributable to
the company's European operations. Excluding the adverse effect of changes in
foreign currency exchange rates, revenues decreased 10%. Most product lines
reported significantly lower revenues, primarily due to lower unit sales, and,
to a lesser extent, lower-priced product offerings and sales of a lower-priced
product mix. External factors, including weak European economies and increased
competitive pressures globally, impacted revenues. Tactical implementation of
many simultaneous strategic initiatives, including varying the quantity and
frequency of promotional mailings, moderating product pricing and introducing
greater promotion variety and less aggressive sweepstakes, contributed to lower
revenues in 1997. Operating profit for Books and Home Entertainment Products
decreased in 1997 to $201.1 compared with $322.1 in 1996. These operating
results were affected by the impact of the company's strategic actions to
restore long-term growth in Europe, lower than anticipated responses to
promotional mailings in Pacific and Other Markets, higher inventory write-offs
as a result of lower customer response to promotional mailings in the third and
fourth quarter, and lower customer response to Condensed Books promotional
mailings.

     1996 v. 1995  Revenues for Books and Home Entertainment Products were even
at $2,099.4 in 1996, compared with 1995. Higher prices and sales of a higher-
priced product mix, and, to a lesser extent, the favorable effect of changes in
foreign currency exchange rates, were offset by a decrease in unit sales. Higher
unit sales in the United States and Pacific and Other Markets were more than
offset by lower unit sales in Europe. Globally, revenues for series books, music
and video products reported healthy gains, offset by substantially lower
revenues for general books and Condensed Books. Operating profit for Books and
Home Entertainment Products decreased in 1996 to $322.1 compared with $339.3 in
1995 principally due to lower levels of customer response in Europe offset by
strong performance in the United States. Higher paper and postage costs also
reduced profitability.

Special Interest Magazines

1997 v. 1996  Revenues for Special Interest Magazines decreased from $91.9 in
1996 to $81.9, or by 11%, in 1997. This decrease was primarily attributable to
the exclusion of revenues due to the sale of Travel Holiday magazine in the
third quarter of 1996. Excluding prior year revenues from Travel Holiday,
revenues increased 8% in 1997 compared with 1996. The acquisition of Walking
magazine in the third quarter of 1997 accounted for 3% of the increase in
revenues. Revenues also increased due almost equally to higher circulation
levels and advertising pages sold in 1997. Operating performance improved in
1997 compared with 1996 primarily reflecting the increases in circulation and
advertising revenues.

     1996 v. 1995  Revenues for Special Interest Magazines decreased in 1996 to
$91.9, or by 4%, compared with the prior year. This decrease was primarily
attributable to the exclusion of revenues due to the sale of Travel Holiday
magazine in the third quarter of 1996. Excluding results for Travel Holiday,
circulation revenues increased slightly due primarily to higher subscription
pricing while advertising revenues remained about even compared with the prior
year. Operating performance improved in 1996 compared with 1995 primarily due to
lower advertising sales expenses.

Other Businesses

1997 v. 1996  Revenues for Other Businesses, net of intersegment sales,
increased in 1997 to $177.4, or by 6%, compared with the prior year, primarily
due to growth in the merchandise catalog business in the United Kingdom, higher
sales at QSP in the United States and the introduction of a merchandise catalog
business in the United States. Operating profit decreased because of costs
associated with the launch of the company's World Wide Web navigation service,
LookSmart, in 1997 and higher proportionate promotional costs associated with
the launch of the catalog business in the United States, which were partially
offset by increased profits at QSP.

     1996 v. 1995 Revenues for Other Businesses, net of intersegment sales,
increased in 1996 to $167.0, or by 19%, compared with the prior year, primarily
due to higher sales at QSP in the United States and the acquisition of QSP
Canada. Operating profit increased because of magazine subscription growth at
QSP, offset by higher paper costs.

Corporate Expense

Corporate Expense in 1997 decreased 24% to $45.0 compared with $59.1 in 1996 due
principally to lower recruiting and relocation expenses and the benefit of cost-
containment initiatives. Corporate Expense in 1996 of $59.1 increased 6%
compared with $56.0 in the prior year primarily due to higher recruiting and
relocation expenses offset by the benefit of cost-containment initiatives.

16
<PAGE>
 
o Forward-Looking Information

In the third quarter of 1997, the company launched a strategic investment
program of initiatives to be completed over a three-year period. The majority of
this spending may negatively impact operating results, particularly in fiscal
1998; however, in fiscal 1999 and 2000 it is expected that operating results
should improve compared to 1998 as the effect of the spending will be offset by
the returns from these initiatives. The program comprises various projects,
including increased implementation of creative promotional programs, product
development initiatives, selective programs to moderate price increases,
innovative uses of technology, such as data mining, and the realignment of
business processes and operations. The investment program spending is being
adjusted as the company continues to move on specific initiatives.

     As part of the strategy associated with the investment program, the company
is internally emphasizing growth in number of customers, retention of customers,
conversion of customers to multi-product long-term buyers, generation of new
customers, and growth in revenues, operating profit and long-term cash flow.

     Operating results for fiscal 1998 are expected to be below 1997 levels, due
to spending related to the investment program and poor business performance in
the second half of 1997 that reduced the number of customers carried into 1998.
The company expects to record additional charges in fiscal 1998 associated with
the realignment of business processes and operations as the program is
finalized. Excluding the effect of charges, first quarter fiscal 1998 earnings
per share are forecast to be significantly lower than the first quarter of
fiscal 1997.

     The statements contained in this report, if not historical, are forward-
looking statements, which involve risks and uncertainties that could cause
actual results to differ materially from the financial results described in the
forward-looking statements. These risks and uncertainties include the ability of
the company to respond to competitive pressures, the level and rate of progress
in the company's program to stabilize and restore growth in its operations, the
effect of worldwide paper and postage costs, and the ability of the company to
achieve earnings per share growth through internal investment, strategic
alliances, joint ventures and other methods. The success of the company's
program is in turn dependent on factors such as the effectiveness of the
company's marketing strategies to stabilize and grow its customer base and
improve customer response rates, especially the impact of modified and varied
promotional formats on customer responses, the ability to identify customer
trends, the ability to expand into new channels of distribution, the
effectiveness of moderation of prices, the cost and effectiveness of the
realignment of business processes and operations, the evolution of the company's
organizational and structural capabilities, as well as the appeal of the
company's mix of products, the accuracy of management's assessment of the
current status of the company's business, and general economic conditions.

o Liquidity and Capital Resources

Cash and cash equivalents, short-term investments and marketable securities
decreased $271.8 to $102.4 at June 30, 1997, compared with $374.2 at June 30,
1996. This decrease was primarily due to dividend payments ($193.3), the
repurchase of 1.7 million shares of Class A nonvoting common stock ($66.3) and
capital expenditures ($110.6), exceeding cash provided by operations ($97.3).

     The 1997 full-year dividend payment increased to $1.80 per share, or by 3%
compared with 1996. In 1997, the company kept its quarterly dividend on common
stock at $0.45 per share, consistent with 1996 levels. On July 11, 1997, the
company announced a reduction in its quarterly dividend to $0.225 per share.

     Capital expenditures in 1997 amounted to $110.6 and were primarily for the
acquisition of new office facilities to consolidate premises in the United
Kingdom and for management information systems equipment.

     In the fourth quarter of 1997, the company entered into an agreement with
The Chase Manhattan Bank for a line of credit of $75.0 (the line of credit) for
a term of one year to be used for general corporate purposes. The loans under
the line of credit are payable on demand and bear interest at a floating rate
based on the cost of funds of the bank plus a margin.

     The company is a party to a Competitive Advance and Revolving Credit
Facility Agreement dated as of November 12, 1996, with a syndicate of domestic
and foreign banks (the credit agreement). The credit agreement, which has a term
of five years, permits competitive advance and revolving credit borrowings of up
to $400.0 by the company and its designated subsidiaries. Interest rates can be
based on:  the prime rate, the federal funds rate, the London Interbank Offered
Rate (LIBOR), and money market rates. The proceeds of the borrowings are to be
used for general corporate purposes, including acquisitions, share repurchases
and commercial paper backup. The credit agreement contains certain restrictions
on incurrence of debt, liens and guarantees of indebtedness. The company must
also comply with certain financial covenants, including a calculation of
consolidated tangible net worth. There were no borrowings outstanding under the
line of credit or the credit agreement.

     The company believes that its liquidity, capital resources, cash flow and
borrowing capacity are sufficient to fund normal capital expenditures, working
capital requirements, the payment of dividends, the company's share repurchase
program, and present plans to expand existing product lines in existing markets,
to identify and develop new products and markets, and to enter into strategic
alliances and make small acquisitions.

                                                                              17
<PAGE>
 
The Reader's Digest Association, Inc. and Subsidiaries

CONSOLIDATED STATEMENTS OF INCOME

<TABLE>
<CAPTION>
                                                        Years ended June 30,
                                                   ----------------------------
In millions, except per share data                     1997      1996      1995
-------------------------------------------------------------------------------
<S>                                                <C>       <C>       <C>
Revenues                                           $2,839.0  $3,098.1  $3,068.5
Product, distribution and editorial expense         1,026.7   1,079.8   1,049.7
Promotion, marketing and administrative expense     1,584.5   1,674.0   1,626.9
Other operating items                                  35.0     235.0        --
-------------------------------------------------------------------------------
Operating profit                                      192.8     109.3     391.9



Other income, net                                      17.4      28.4      30.6
-------------------------------------------------------------------------------
Income before provision for income taxes              210.2     137.7     422.5



Provision for income taxes                             76.7      57.1     158.5
-------------------------------------------------------------------------------

Net income                                         $  133.5  $   80.6  $  264.0
-------------------------------------------------------------------------------

Earnings per share                                 $   1.24  $   0.73  $   2.35
-------------------------------------------------------------------------------

Average common shares outstanding                     106.7     107.9     112.0
===============================================================================
</TABLE>

See accompanying notes to consolidated financial statements.

18
<PAGE>
 
The Reader's Digest Association, Inc. and Subsidiaries

CONSOLIDATED BALANCE SHEETS
<TABLE> 
<CAPTION> 
                                                                         June 30,
                                                                  -------------------
In millions                                                           1997       1996
-------------------------------------------------------------------------------------
<S>                                                               <C>        <C>
Assets
Current assets:
Cash and cash equivalents                                         $   69.1   $  258.1
Receivables, net                                                     426.3      412.4
Inventories                                                          167.8      204.4
Prepaid expenses and other current assets                            262.6      329.2
-------------------------------------------------------------------------------------
Total current assets                                                 925.8    1,204.1

Marketable securities                                                 30.7       97.2
Other long-term investments                                           42.3       39.8
Property, plant and equipment, net                                   314.8      261.5
Intangible assets, net                                                59.1       58.4
Other noncurrent assets                                              271.1      243.1
-------------------------------------------------------------------------------------

Total assets                                                      $1,643.8   $1,904.1
-------------------------------------------------------------------------------------

Liabilities and stockholders' equity
Current liabilities:
Accounts payable                                                  $  211.8   $  204.0
Accrued expenses                                                     373.6      457.3
Income taxes payable                                                  22.1       67.3
Unearned revenue                                                     356.5      354.9
Other current liabilities                                             49.1       45.0
-------------------------------------------------------------------------------------
Total current liabilities                                          1,013.1    1,128.5

Postretirement and postemployment benefits other than pensions       153.3      147.5
Other noncurrent liabilities                                         131.4      149.2
-------------------------------------------------------------------------------------

Total liabilities                                                  1,297.8    1,425.2
-------------------------------------------------------------------------------------

Stockholders' equity:
Capital stock                                                         29.0       28.4
Paid-in capital                                                      141.8      138.3
Retained earnings                                                    924.2      984.0
Foreign currency translation adjustment                              (33.4)     (14.2)
Net unrealized losses on certain investments                          (0.3)      (1.3)
Treasury stock, at cost                                             (715.3)    (656.3)
-------------------------------------------------------------------------------------

Total stockholders' equity                                           346.0      478.9
-------------------------------------------------------------------------------------

Total liabilities and stockholders' equity                        $1,643.8   $1,904.1
=====================================================================================
</TABLE>

See accompanying notes to consolidated financial statements.

                                                                              19
<PAGE>
 
The Reader's Digest Association, Inc. and Subsidiaries

CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
 
                                                         Years ended June 30,
                                                     ---------------------------
In millions                                             1997      1996      1995
--------------------------------------------------------------------------------
<S>                                                  <C>       <C>       <C>
Cash flows from operating activities
Net income                                           $ 133.5   $  80.6   $ 264.0
Depreciation and amortization                           46.7      48.8      44.7
Gain on marketable securities and investments           (7.0)    (15.8)     (8.9)
Changes in assets and liabilities:
     Accounts receivable, net                          (27.5)    (26.1)      6.8
     Inventories                                        20.2     (25.7)    (15.7)
     Unearned revenue                                    7.7       5.3      (5.4)
     Accounts payable and accrued expenses             (33.7)    157.0      23.7
     Other, net                                        (42.6)   (111.9)    (56.9)
--------------------------------------------------------------------------------
Net change in cash due to operating activities          97.3     112.2     252.3
--------------------------------------------------------------------------------

Cash flows from investing activities
Proceeds from maturities and sales of marketable
     securities and short-term investments             107.3     393.1     405.8
Purchases of marketable securities and short-term
     investments                                       (23.1)   (194.3)   (144.2)
Capital expenditures                                  (110.6)    (59.6)    (50.3)
Proceeds from other long-term investments, net           2.1      13.3       4.3
Other, net                                              (8.1)     (2.1)    (10.0)
--------------------------------------------------------------------------------

Net change in cash due to investing activities         (32.4)    150.4     205.6
--------------------------------------------------------------------------------

Cash flows from financing activities
Dividends paid                                        (193.3)   (190.1)   (175.5)
Common stock repurchased                               (66.3)    (62.9)   (280.2)
Other, net                                              13.5      37.8      15.4
--------------------------------------------------------------------------------

Net change in cash due to financing activities        (246.1)   (215.2)   (440.3)
--------------------------------------------------------------------------------

Effect of exchange rate changes on cash                 (7.8)     (3.9)     13.8
--------------------------------------------------------------------------------

Net change in cash and cash equivalents               (189.0)     43.5      31.4

Cash and cash equivalents at beginning of year         258.1     214.6     183.2
--------------------------------------------------------------------------------

Cash and cash equivalents at end of year             $  69.1   $ 258.1   $ 214.6
--------------------------------------------------------------------------------

Supplemental information
Cash paid for interest                               $   5.3   $   2.0   $   1.4
Cash paid for income taxes                           $  72.2   $ 158.5   $ 168.8
================================================================================
</TABLE>

See accompanying notes to consolidated financial statements.

20
<PAGE>
 
The Reader's Digest Association, Inc. and Subsidiaries

CONSOLIDATED STATEMENTS OF CHANGES
IN STOCKHOLDERS' EQUITY

<TABLE>
<CAPTION>
                                               Capital Stock                                             Net    
                                    -------------------------------                       Foreign     Unrealized 
                                                        Unamortized                       Currency     (Losses)
                                    Preferred   Common  Restricted   Paid-In   Retained  Translation   Gains on    Treasury
In millions, except per share data    Stock     Stock     Stock      Capital   Earnings   Adjustment  Investments   Stock     Total
-----------------------------------------------------------------------------------------------------------------------------------
<S>                          <C>          <C>         <C>       <C>       <C>           <C>          <C>           <C>        <C> 
Balance at June 30, 1994              $28.8      $1.4     $(0.6)     $ 90.3    $1,005.0    $(22.1)      $11.9     $(323.7)  $ 791.0
Net income                               --        --        --          --       264.0        --          --          --     264.0
Translation adjustment                   --        --        --          --          --      21.8          --          --      21.8
Common stock repurchased                 --        --        --          --          --        --          --      (280.2)   (280.2)

Common stock issued under                                    
various plans                            --        --      (0.1)       28.0          --        --          --        (1.4)     26.5
Dividends on common stock                                                                                   
($1.55 per share)                        --        --        --          --      (174.2)       --          --          --    (174.2)

Dividends on preferred                                                                                      
 stock                                   --        --        --          --        (1.3)       --          --          --      (1.3)

Net unrealized losses on                                                                                    
 certain                                                                                                    
investments, net of tax                  --        --        --          --          --        --        (6.8)         --      (6.8)


-----------------------------------------------------------------------------------------------------------------------------------
Balance at June 30, 1995              $28.8      $1.4     $(0.7)     $118.3    $1,093.5    $ (0.3)      $ 5.1     $(605.3)  $ 640.8


Net income                               --        --        --          --        80.6        --          --          --      80.6
Translation adjustment                   --        --        --          --                 (13.9)         --          --     (13.9)

Common stock repurchased                 --        --        --          --          --        --          --       (62.9)    (62.9)

Common stock issued under                                                                                   
various plans                            --        --      (1.1)       20.0          --        --          --        11.9      30.8
Dividends on common stock                          
($1.75 per share)                        --        --         --         --      (188.8)       --          --          --    (188.8)

Dividends on preferred                     
 stock                                   --        --         --         --        (1.3)       --          --          --      (1.3)

Net unrealized losses on
 certain
investments, net of tax                  --        --          --        --          --        --        (6.4)         --      (6.4)


-----------------------------------------------------------------------------------------------------------------------------------
Balance at June 30, 1996              $28.8      $1.4       $(1.8)   $138.3    $  984.0    $(14.2)      $(1.3)    $(656.3)  $ 478.9


Net income                               --        --          --        --       133.5        --          --          --     133.5
Translation adjustment                   --        --          --        --        --       (19.2)         --          --     (19.2)

Common stock repurchased                 --        --          --        --        --          --          --       (66.3)    (66.3)

Common stock issued under                          
various plans                            --        --         0.6       3.5        --          --          --         7.3      11.4
Dividends on common stock                          
($1.80 per share)                        --        --          --        --    (192.0)         --          --          --    (192.0)

Dividends on preferred                                                                                                       
 stock                                   --        --          --        --      (1.3)         --          --          --      (1.3)

Net unrealized gains on                            
 certain                                           
investments, net of tax                  --        --          --        --        --          --         1.0          --       1.0

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

Balance at June 30, 1997              $28.8      $1.4       $(1.2)    $141.8 $  924.2      $(33.4)      $(0.3)    $(715.3)  $ 346.0
===================================================================================================================================
</TABLE>

See accompanying notes to consolidated financial statements.

                                                                              21
<PAGE>
 
The Reader's Digest Association, Inc. and Subsidiaries

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Dollars in millions, except per share data

o ONE  Summary of Significant Accounting Policies

Basis of Presentation

The accompanying consolidated financial statements include the accounts of The
Reader's Digest Association, Inc. and its U.S. and international subsidiaries
(the company). All significant intercompany accounts and transactions have been
eliminated in consolidation.

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

Use of Estimates

The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect reported amounts in these financial statements.
Actual results could differ from those estimates.

Changes in Accounting Principles

In 1997, the company adopted Statement of Financial Accounting Standards (SFAS)
No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed of." This statement requires that certain assets be
reviewed for impairment and, if impaired, remeasured at fair value, whenever
events or circumstances indicate that the carrying amount of the asset may not
be recoverable. This adoption did not have a material effect on the company's
results of operations, financial position or cash flow for 1997.

     In 1997, the company adopted the fair value disclosure requirements of SFAS
No. 123, "Accounting for Stock-Based Compensation." As permitted by this
statement, the company did not change the method of accounting for its stock
options and other stock-based employee compensation awards.

Cash and Cash Equivalents

The company considers all highly liquid debt instruments with original
maturities of three months or less to be cash equivalents.

Accounts Receivable

Accounts receivable are reflected net of allowances for returns and bad debts of
$166.2, $193.1, $227.8 and $209.5 at June 30, 1997, 1996, 1995 and 1994,
respectively. Additions to the allowances amounted to $548.7, $627.8 and $659.8
and amounts written off amounted to $575.6, $662.5 and $641.5 during the years
ended June 30, 1997, 1996 and 1995, respectively.

Inventories

Inventories are stated at the lower of cost or market, primarily determined on
the first-in, first-out (FIFO) basis. The majority of U.S. inventory is valued
on the last-in, first-out basis.

Short-Term Investments and Marketable Securities

Short-term investments and marketable securities are composed primarily of
government and corporate fixed income securities. These securities are
classified as available-for-sale and carried at fair value, based on quoted
market prices. The net unrealized gains or losses on these investments are
reported as a separate component of stockholders' equity, net of tax. While it
is the company's intent to hold such securities until maturity, management will
occasionally sell particular securities for cash flow purposes. The specific
identification method is used to compute the realized gains and losses on debt
and equity securities.

Derivative Financial Instruments

The company is exposed to the effect of foreign exchange rate fluctuations on
the U.S. dollar value of its foreign subsidiaries' income. The company purchases
foreign currency option contracts to minimize the effect of fluctuating foreign
currencies on its earnings and specifically identifiable anticipated
transactions, generally over periods ranging up to 12 months. In addition, the
company enters into forward contracts to minimize the effect of fluctuating
foreign currency exchange rates on certain foreign currency denominated assets
and liabilities. The company, as a matter of policy, does not speculate in
financial markets and therefore, does not hold financial instruments for trading
purposes.

     Foreign currency option contracts that reduce the company's exposure to the
effects of fluctuating foreign currencies on its earnings do not meet the
criteria for hedge accounting; however, option contracts that are designated as
hedges and that reduce the company's exposure to the effects of fluctuating
foreign currencies on specifically identifiable anticipated transactions, where
it is probable that the transactions will occur, meet the criteria for hedge
accounting. Forward contracts meet the criteria for hedge accounting as they are
designated as, and are effective as, hedges of specifically identified foreign
currency denominated assets and liabilities.

     Premiums on option contracts that qualify for hedge accounting are
amortized over the term of the contract and any gains at maturity are included
in other income, net. If an option contract is terminated before its maturity,
the unamortized premium associated with the contract is written off and included
in other income, net. Option contracts that do not qualify for hedge accounting
are recorded at fair market value, and changes in market value on such
instruments are included in other income, net. The carrying value of option
contracts is included in prepaid expenses and other current assets. Forward
contracts are reflected in the company's balance sheet at market value and
included in receivables, net and accounts payable, and changes in market value
on these instruments are included in other income, net.  In the event that the
underlying foreign currency denominated asset or liability is extinguished or
terminated prior to the forward contract's maturity, the company's policy is to
enter into a separate forward contract to offset any changes from that date in
market value on the original contract.

Depreciation and Amortization

Property, plant and equipment are stated at cost, except for property, plant and
equipment that have been impaired, for which the carrying amount is reduced to
the estimated fair market value. Buildings and equipment is depreciated using
the straight-line method over useful lives up to 50 years for buildings, up to
15 years for printing and fulfillment equipment and up to five years for other
equipment. Leasehold improvements are amortized using the straight-line method
over the term of the lease or the life of the improvement, whichever is shorter.

22
<PAGE>
 
Intangible Assets

Intangible assets are composed of distribution rights, contracts, subscription
lists and other intangible assets as well as the excess of costs over the fair
value of net assets of several businesses acquired. The excess of costs over the
fair value of businesses acquired is amortized, on a straight-line basis, over
varying periods, not in excess of 40 years. Other acquired intangibles are
amortized, on a straight-line basis, over their estimated useful lives, not in
excess of ten years. The company continually evaluates the recoverability of its
intangible assets to determine whether current events or circumstances warrant
adjustments to the carrying value. Such evaluation may be based on projected
income and cash flows from operations of related businesses on an undiscounted
basis as well as other economic and market variables.

Stock-Based Compensation

Compensation cost is recognized for stock-based compensation using the intrinsic
value method. Under this method, compensation cost is the excess, if any, of the
quoted market price of the stock at the grant date over the amount an employee
must pay to acquire the stock. The company's policy is to grant stock options at
fair market value at the date of grant.

Revenues

Sales of Books and Home Entertainment Products, less provisions for returns, are
recorded at the time of shipment. Sales of magazine subscriptions are recorded
as unearned revenue at the gross subscription price at the time the orders are
received. Proportionate shares of the gross subscription price are recognized as
revenues when the subscriptions are fulfilled.

Promotion Costs

Costs of direct response advertising are matched with the expected revenue
stream, generally over a period of one to 12 months. Direct response advertising
consists primarily of promotion costs incurred in connection with the
procurement of magazine subscriptions and the sale of books and other products.

     Promotion costs of $942.9, $972.5 and $945.8 were incurred for the years
ended June 30, 1997, 1996 and 1995, respectively. Prepaid promotion costs,
included in prepaid expenses and other current assets, amounted to $44.3 and
$54.2 at June 30, 1997 and 1996, respectively.

     Deferred promotion costs, included in other noncurrent assets, amounted to
$119.6 and $98.9 at June 30, 1997 and 1996, respectively.

Income Taxes

Deferred income taxes, net of appropriate valuation allowances, are recognized
for the tax consequences of temporary differences by applying enacted statutory
tax rates to differences between the financial statement carrying amounts and
the tax bases of existing assets and liabilities.

     Deferred federal income taxes have not been provided on undistributed
earnings of foreign subsidiaries as any federal taxes payable would be
substantially offset by foreign tax credits.

Earnings Per Share

Earnings per share is computed by dividing net income, less preferred stock
dividend requirements, by the weighted average number of common shares
outstanding during the year.

Foreign Currency Translation

Revenues and expenses denominated in foreign currencies are translated at
average monthly exchange rates prevailing during the year. The assets and
liabilities of international subsidiaries are translated into U.S. dollars at
the rates of exchange in effect at the balance sheet date. The resulting
translation adjustment is reflected as a separate component of stockholders'
equity.

o TWO  Other Operating Items

In the fourth quarter of 1997, the company recorded charges of $35.0 ($22.2
after tax, or $0.21 per share), relating primarily to the realignment of the
organization and operations. The company expects to record additional charges in
1998 for the realignment of business processes and operations as components of
the plan are finalized.

     The realignment of the organization and operations covers the separation of
employee positions from the worldwide workforce by the end of 1998 primarily
through involuntary severance programs. Also, included in other items in the
table below, are a contract termination relating to the discontinuance of a
distributor relationship and the discontinuance of individual products in
certain business units.

     The components of the $35.0 charge, as well as reserve balances remaining
at June 30, 1997, are:
<TABLE>
<CAPTION>
                                Total
                               Charged  Activity  Remaining
-----------------------------------------------------------
<S>                            <C>      <C>       <C>
Employee severance benefits      $23.6      $0.2      $23.4
Other items                       11.4        --       11.4
-----------------------------------------------------------
                                 $35.0      $0.2      $34.8
===========================================================
</TABLE>

     In the fourth quarter of 1996, the company finalized its lease termination
program in the United Kingdom at a savings of $10.0 below the provision that was
originally established as part of other operating items originally recorded in
1994, relating to losses on lease terminations and provisions for certain claims
against the company.

     In the third quarter of 1996, the company recorded total charges of $245.0
($169.8 after tax, or $1.57 per share), comprised of $204.0 related primarily to
the streamlining of the company's organizational structure and the strategic
repositioning of certain businesses and $41.0 for various claims against the
company.

     The charges related to the streamlining included the separation of
approximately 1,300 employees from the worldwide workforce through a combination
of voluntary and involuntary severance programs. Also associated with the
streamlining and included in other items in the table below, are asset write-
downs, contract terminations and the outsourcing of certain functions where it
is cost-beneficial to the company.

     The strategic repositioning related primarily to the special interest
magazines in the United States and a publishing and book club business in the
United Kingdom. As a result of this repositioning, Travel Holiday magazine was
sold in 1996, and the publishing and book club business was sold in 1997.

                                                                              23
<PAGE>
 
The components of the $204.0 charge, as well as reserve balances remaining at
June 30, 1997, are:

                             Total
                            Charged   Activity   Remaining
----------------------------------------------------------
Employee retirement and
     severance benefits      $104.4     $ 71.1      $ 33.3
Other items                    51.5       39.3        12.2
Business repositioning         48.1       47.4         0.7
----------------------------------------------------------
                             $204.0     $157.8      $ 46.2
==========================================================

o THREE  Other Income, Net
                               1997       1996        1995
----------------------------------------------------------
Interest income              $ 11.4     $ 21.5      $ 40.1
Interest expense               (7.0)      (2.4)       (3.3)
Gains on the sales of
     certain investments        7.0       15.8         8.9
Gain (loss) on foreign
     exchange                   8.5       (6.1)      (10.3)
Other, net                     (2.5)      (0.4)       (4.8)
----------------------------------------------------------
                             $ 17.4     $ 28.4      $ 30.6
==========================================================

o FOUR  Inventories
                                          1997        1996
----------------------------------------------------------
Raw materials                           $ 17.4      $ 33.0
Work-in-progress                          26.5        19.9
Finished goods                           123.9       151.5
----------------------------------------------------------
                                        $167.8      $204.4
==========================================================

     Inventories would have been $12.0 and $16.3 higher than the amounts
reported at June 30, 1997 and 1996, respectively, had the FIFO method of
inventory been used for U.S. inventory.


o FIVE  Financial Instruments

Marketable Debt Securities
                                          Unrealized  Fair
1997                              Cost      Losses    Value
----------------------------------------------------------- 
Debt securities
     maturing within:
     1 year                       $ 2.6      $  --    $ 2.6
     1 to 3 years                  31.1       (0.4)    30.7
-----------------------------------------------------------  
                                  $33.7      $(0.4)   $33.3
=========================================================== 

                                         Unrealized   Fair
1996                               Cost    Losses     Value
-----------------------------------------------------------  
Debt securities
     maturing within:
     1 year                       $18.9     $  --     $18.9
     1 to 3 years                  99.4      (2.2)     97.2
-----------------------------------------------------------  
                                 $118.3     $(2.2)   $116.1
=========================================================== 

     The fair value of investments is based upon quoted market prices. Proceeds
from maturities and sales were $107.3, $393.1 and $405.8 for the years ended
June 30, 1997, 1996 and 1995 including realized losses of $0.7 in 1997 and gains
of $6.0 and $8.7 in 1996 and 1995, respectively. Short-term investments are
included in prepaid expenses and other current assets.

Derivative Financial Instruments

The company is a party to financial instruments with off-balance sheet risk.
These financial instruments are used in the normal course of business to manage
the company's exposure to fluctuations in foreign exchange rates.

     The company may be exposed to credit losses in the event of nonperformance
by the financial institutions that are counterparties to these instruments;
however, the company manages this exposure through specific minimum credit
standards and diversification of financial institutions with which it enters
into these derivative transactions.

     The company's derivative financial instruments involve elements of market
risk as a result of potential changes in foreign currency exchange rates. The
market risk associated with the option contracts is limited to the carrying
value of these contracts in the company's consolidated balance sheet. Since
forward contracts remain outstanding as effective hedges of existing foreign
currency exposure, the impact of potential changes in future foreign currency
exchange rates on these instruments would generally offset the related impact on
the assets and liabilities being hedged.

                    Notional/
                    Principal  Carrying  Fair
1997                 Amounts    Value    Value  Maturity
-------------------------------------------------------- 
Forward Contracts
     Assets            $ 28.0     $28.0  $28.0      1998
     Liabilities       $ 28.0     $27.9  $27.9      1998
Option Contracts      
     Assets            $181.5     $10.5  $12.1      1998
======================================================== 

                    Notional/
                    Principal  Carrying  Fair
1996                 Amounts    Value    Value  Maturity
-------------------------------------------------------- 
Forward Contracts
     Assets            $ 25.4     $25.4  $25.4      1997
     Liabilities       $ 25.4     $25.4  $25.4      1997
Option Contracts    
     Assets            $300.6     $ 9.6  $10.5      1997
======================================================== 

24
<PAGE>
 
o SIX  Property, Plant and Equipment
                                                   1997      1996 
-----------------------------------------------------------------
Land                                            $  14.0   $  17.9
Buildings and building improvements               303.4     240.4
Printing and fulfillment equipment                 44.8      53.2
Furniture, fixtures and equipment                 285.9     269.0
Leasehold improvements                             21.9      23.9
-----------------------------------------------------------------
                                                  670.0     604.4
Accumulated depreciation
     and amortization                            (355.2)   (342.9)
-----------------------------------------------------------------
                                                $ 314.8   $ 261.5
=================================================================


o SEVEN  Intangible Assets
                                                   1997      1996 
-----------------------------------------------------------------
Distribution rights, contracts, subscription
     lists and other                            $  71.9   $  67.8
Excess of cost over fair value of net
     assets of businesses acquired                 75.5      78.6
-----------------------------------------------------------------
                                                  147.4     146.4
Accumulated amortization                          (88.3)    (88.0)
-----------------------------------------------------------------
                                                 $ 59.1   $  58.4
=================================================================


o EIGHT  Pension Plans

The company and certain of its U.S. and international subsidiaries have pension
plans covering substantially all permanent employees. The plans' benefits are
based primarily on years of credited service and participants' compensation. The
plans' assets consist principally of equity and fixed income securities.

     The company's funding policy for its U.S. pension plans is to meet the
minimum requirements of the Employee Retirement Income Security Act of 1974.
Additional amounts may be approved by the company's Board of Directors from time
to time. The company's funding policy for its international pension plans is to
meet local statutory requirements. Assumptions used to determine pension costs
and projected benefit obligations are as follows:

<TABLE>
<CAPTION>
                                                                                                        U.S. Plans
                                                                                                ------------------------- 
                                                                                                 1997      1996      1995
--------------------------------------------------------------------------------------------------------------------------
<S>                                                                                             <C>       <C>       <C> 
Discount rate                                                                                     7.8%      7.8%      7.8%
Compensation increase rate                                                                        5.3%      5.3%      5.3%
Long-term rate of return on
     plan assets                                                                                  9.5%      9.5%      9.5%
========================================================================================================================== 
</TABLE> 

<TABLE> 
<CAPTION> 
                                                                                                    International Plans
                                                                                                ------------------------- 
                                                                                                 1997      1996      1995
-------------------------------------------------------------------------------------------------------------------------
<S>                                                                                             <C>       <C>       <C> 
Discount rate                                                                                    4-15%     4-15%     5-15%
Compensation increase rate                                                                       3-13%     3-13%     4-13%
Long-term rate of return on
     plan assets                                                                                 5-16%     5-16%     6-16%
=========================================================================================================================
</TABLE> 
     Components of the company's consolidated net periodic pension cost are as
follows:
<TABLE> 
<CAPTION> 
                                                                                                 1997      1996      1995
-------------------------------------------------------------------------------------------------------------------------
<S>                                                                                             <C>       <C>       <C> 
Service cost                                                                                  $  19.4   $  20.9   $  18.8
Interest cost                                                                                    46.1      44.4      40.1
Actual return on plan assets                                                                   (151.7)   (118.5)   (103.3)
Net amortization and deferral                                                                    94.2      65.6      54.9
Special items                                                                                     --        2.5        --
-------------------------------------------------------------------------------------------------------------------------
                                                                                              $   8.0   $  14.9   $  10.5
=========================================================================================================================
</TABLE> 
     Special items in the table above reflect the net increase in 1996 pension
expense due to the voluntary early retirement and involuntary severance
programs.

     The actuarial present value of benefit obligations and the funded status of
the U.S. and international plans are as follows:
<TABLE>
<CAPTION>
                                       1997               1996
                                  Over-    Under-    Over-    Under-
                                  funded   funded    funded   funded
--------------------------------------------------------------------- 
<S>                              <C>       <C>      <C>       <C>
Plan assets at fair value        $ 827.8   $  2.5   $ 716.2   $  3.9
Projected benefit
     obligation                   (541.8)   (78.9)   (528.8)   (78.8)
--------------------------------------------------------------------- 
Plan assets in excess of
     (less than) projected
     benefit obligation            286.0    (76.4)    187.4    (74.9)
Unrecognized net gain             (231.3)    (1.8)   (131.5)    (1.6)
Unrecognized net
     (asset) liability             (22.3)     0.4     (27.5)     0.2
Unrecognized prior
     service cost                    8.7      4.6       9.4      6.1
Additional minimum
     liability                        --     (2.4)       --     (3.4)
--------------------------------------------------------------------- 
Prepaid (accrued)
     pension cost                $  41.1   $(75.6)  $  37.8   $(73.6)
--------------------------------------------------------------------- 
Accumulated benefit
     obligation                  $ 472.2   $ 70.7   $ 441.8   $ 69.7
---------------------------------------------------------------------
Vested benefit
     obligation                  $ 460.2   $ 64.6   $ 429.5   $ 63.6
===================================================================== 
</TABLE> 

o NINE  Postretirement Benefits

The company provides medical and dental benefits to U.S. retired employees and
their dependents. Substantially all of the company's U.S. employees become
eligible for these benefits when they meet minimum age and service requirements.
The company has the right to modify or terminate these unfunded benefits.

                                                                              25
<PAGE>
 
Components of the company's costs for postretirement benefits are as
follows:
<TABLE>
<CAPTION>
                             1997    1996    1995
-------------------------------------------------
<S>                         <C>     <C>     <C>
Service cost                $ 2.5   $ 2.9   $ 3.0
Interest cost                 7.1     6.1     6.8
Amortization of net gain     (0.7)   (1.1)   (0.3)
Special items                  --     3.4      --
-------------------------------------------------
                            $ 8.9   $11.3   $ 9.5
=================================================
</TABLE>

     Special items in the table above reflect the net increase in 1996
postretirement benefits costs due to the voluntary early retirement and
involuntary severance programs.
     Components of the postretirement benefits liability recognized in the
company's consolidated balance sheets are as follows:
<TABLE>
<CAPTION>
                                            1997    1996
---------------------------------------------------------
<S>                                        <C>     <C>
Retirees (including covered dependents)    $ 74.2   $72.0
Fully eligible active participants            3.5     3.3
Other active participants                    21.4    22.4
Unrecognized net gain                        20.3    17.3
---------------------------------------------------------
                                           $119.4  $115.0
=========================================================
</TABLE>

     The health care inflation assumption used to determine the postretirement
benefits liability was 11.0% for 1997 and 12.0% for 1996, decreasing to 8.0% by
the year 2001 with respect to medical benefits, and 10.0% for 1997 and 10.5% for
1996, decreasing to 8.0% by the year 2001 with respect to dental benefits.
Increasing the assumed health care cost rates by one percentage point in each
year would increase the accumulated postretirement benefits liability as of June
30, 1997, by approximately $12.8 and increase the related interest and service
costs for 1997 by approximately $1.6. A discount rate of 7.8% for 1997, 1996 and
1995 was used in determining the accumulated postretirement benefits liability.

o TEN  Employee Compensation Plans

The 1989 and 1994 Key Employee Long Term Incentive Plans (the plans) provide
that the Compensation & Nominating Committee of the Board of Directors (the
committee) may grant stock options, stock appreciation rights, restricted stock,
performance units and other awards to eligible employees. The committee may
grant certain stock-based awards up to a maximum of 5,420,000 and 6,000,000
underlying Class A shares of nonvoting common stock (Class A) under the plans,
respectively. No awards may be granted with respect to Class B voting common
stock (Class B). Under the plans, options have been granted with exercise prices
not less than 100% of the fair market value of the company's common stock at the
time of the grant, with an exercise term as determined by the committee, not to
exceed ten years. The options have vesting terms as determined by the committee,
but generally become exercisable over three or four years.

     The company has adopted the disclosure provisions of SFAS No. 123, and as
permitted by this statement has continued to measure compensation cost as the
excess of the quoted market price of the company's stock at the grant date over
the amount the employee must pay for the stock. Accordingly, no compensation
expense is recognized for stock option awards other than in the case of
restricted stock awards and stock appreciation rights.

     SFAS No. 123 requires disclosure of pro forma net income and earnings per
share as if the fair value-based method had been applied in measuring
compensation cost for stock-based awards granted in 1997 and 1996.

     Management believes that 1997 and 1996 pro forma amounts are not
representative of the effects of stock-based awards on future pro forma net
income and earnings per share because these pro forma amounts exclude the pro
forma compensation expense related to unvested stock options granted before
1996. In addition, certain options vest over several years, and awards in future
years may occur, whose terms and conditions may vary.

     Reported and pro forma net income and earnings per share amounts are set
forth below:

<TABLE>
<CAPTION>
                                     1997   1996
------------------------------------------------
<S>                   <C>          <C>     <C>
Net income            As reported  $133.5  $80.6
                      Pro forma    $126.5  $77.5

Earnings per share    As reported  $ 1.24  $0.73
                      Pro forma    $ 1.17  $0.71
================================================
</TABLE>

     The weighted average fair value of options granted in 1997 and 1996 is
$9.32 and $14.80, respectively. The fair values of the options granted were
estimated on the date of their grant using the Black-Scholes option-pricing
model based on the following weighted average assumptions:
<TABLE>
<CAPTION>
                                                                                     1997         1996
------------------------------------------------------------------------------------------------------
<S>                                                                          <C>           <C>          
Risk-free interest rate                                                              6.3%         6.4%
Expected life                                                                  5.1 years     7.8 years
Expected volatility                                                                 23.5%        24.4%
Expected dividend yield                                                              3.7%         3.0%
======================================================================================================
</TABLE> 
     The following table summarizes information about stock options
      outstanding at June 30, 1997:
<TABLE> 
<CAPTION> 
                                          Options                       Options
Options in thousands                    Outstanding                   Exercisable
                         --------------------------------------   --------------------
                                         Weighted
                                          Average      Weighted               Weighted
     Range of                            Remaining     Average                Average
     Exercise                           Contractual    Exercise               Exercise
     Prices              Options        Life (yrs.)     Price     Options      Price
-------------------------------------------------------------------------------------
<S>                      <C>            <C>             <C>       <C>         <C> 
     $20.00 - $29.44         460          3.36          $26.17       451       $26.14
     $35.56 - $39.81         130          9.35           38.09        --           --
     $40.31 - $43.56       2,768          7.97           41.41       770        41.51
     $45.06 - $49.50       3,417          6.86           47.16     1,919        47.25
     $50.94 - $55.12         118          8.05           51.38        21        53.42
                           -----                                   -----
                           6,893          7.14           43.35     3,161        42.88
=====================================================================================
</TABLE>

26
<PAGE>
 
Changes in outstanding options are as follows:
<TABLE> 
<CAPTION> 
                                        Shares       Weighted
                                      Subject to      Average
Options in thousands                   Options     Exercise Price
----------------------------------------------------------------- 
<S>                                  <C>           <C>
Outstanding at June 30, 1994               4,753           $39.64
     Granted                               1,271            46.82
     Exercised                              (343)           24.93
     Canceled                               (127)           43.92
----------------------------------------------------------------- 
Outstanding at June 30, 1995               5,554            42.09
     Granted                               1,303            47.20
     Exercised                              (400)           31.11
     Canceled                               (423)           44.62
----------------------------------------------------------------- 
Outstanding at June 30, 1996               6,034            43.76
     Granted                               1,722            41.04
     Exercised                              (130)           25.67
     Canceled                               (733)           44.53
----------------------------------------------------------------- 
Outstanding at
     June 30, 1997                         6,893           $43.35
----------------------------------------------------------------- 
Options exercisable at
     June 30, 1997                         3,161           $42.88
----------------------------------------------------------------- 
Options available for grant at
     June 30, 1997                         2,383
=================================================================
</TABLE>

     Under the 1989 Employee Stock Purchase Plan (the ESPP), which was amended
and restated in 1994, the company is authorized to issue up to 1,650,000 Class A
shares principally to its full-time employees in the United States, nearly all
of whom are eligible to participate. Under the terms of the ESPP, employees can
choose every six months to have up to ten percent of their annual base earnings
withheld to purchase Class A shares. The purchase price of the shares is 85% of
the lower of the fair market value of the Class A stock on the first or last day
of the six-month purchase period. Approximately 50% of eligible employees have
participated in the plan in the last three years. In addition, several
international subsidiaries of the company have employee stock purchase plans
(together with the ESPP, the ESPP plans) under which the company is authorized
to issue up to 300,000 Class A shares to its full-time employees. The terms of
the plans in most locations are essentially the same as the ESPP, except for one
location, where the terms are based upon a five-year withholding period, and the
purchase price of the shares is 85% of the value of the Class A stock on the
first day of the purchase period. Under the ESPP plans, the company sold
239,026, 194,162 and 124,851 shares to employees in 1997, 1996 and 1995,
respectively.

     The weighted average fair value of these purchase rights granted in 1997
and 1996 is $13.13 and $11.72, respectively. The fair values of the purchase
rights were estimated on the date of their grant using the Black-Scholes option-
pricing model based on the following weighted average assumptions:

<TABLE>
<CAPTION>
                                 1997        1996
-------------------------------------------------
<S>                         <C>         <C>
Risk-free interest rate          5.4%        5.3%
Expected life               1.0 years   0.8 years
Expected volatility             29.5%       16.8%
Expected dividend yield          4.3%        3.6%
=================================================
</TABLE>

     In 1996 the company granted 51,347 performance-based restricted Class A
shares with a value of $2.4 to an executive officer at no cost. In 1995 the
company granted 9,000 restricted Class A shares with a value of $0.4 to an
executive officer at no cost. The market value of shares awarded is recorded as
unamortized restricted stock which is included in capital stock. Restricted
stock is amortized over the term of the restriction period. Amortization of
restricted stock amounted to $0.6, $1.3 and $0.3 for the years ended June 30,
1997, 1996 and 1995, respectively.

     Additionally, the company granted 8,000 and 12,200 stock appreciation
rights to an executive officer in 1997 and 1996, respectively.

     The company contributed $5.0 to its profit-sharing plan for fiscal 1997.
The company's contribution to its profit-sharing plan related to fiscal 1996 was
$5.3 and related to fiscal 1995 was the issuance of 200,898 Class B shares with
a value of $8.7. The company contributed 274,812 Class B shares with a value of
$11.2 in 1995 to its profit-sharing plan in fulfillment of its 1994 contribution
obligation.

o ELEVEN  Income Taxes

United States and International income before provision for income taxes are as
follows:
<TABLE>
<CAPTION>
                               1997     1996     1995
------------------------------------------------------ 
<S>                           <C>      <C>      <C> 
United States                 $162.5   $ 59.7   $215.5
International                   47.7     78.0    207.0
------------------------------------------------------ 
                              $210.2   $137.7   $422.5
======================================================
</TABLE> 

     Components of the company's provision for income taxes are as
follows:

                                           1997     1996     1995
----------------------------------------------------------------- 
Current                                
     Federal                              $10.0   $ 40.1   $ 57.8
     State and local                        3.2     16.1     15.2
     International                         22.0     75.8     92.3
----------------------------------------------------------------- 
                                          $35.2   $132.0   $165.3
----------------------------------------------------------------- 
Deferred                               
     Federal                              $28.5   $(44.8)  $  1.7
     State and local                        6.7     (8.7)     0.3
     International                          6.3    (21.4)    (8.8)
----------------------------------------------------------------- 
                                          $41.5   $(74.9)  $ (6.8)
----------------------------------------------------------------- 
                                          $76.7   $ 57.1   $158.5
=================================================================

                                                                              27
<PAGE>
 
     The differences between the effective income tax rate and the statutory
U.S. federal income tax rate are as follows:

                                             1997     1996     1995
--------------------------------------------------------------------
U.S. statutory tax rate                     35.0%    35.0%    35.0%
International operations                    (0.9)    (1.1)    (0.6)
State taxes, net                             2.6      2.1      2.4
Other operating items                         --      6.0       --
Other, net                                  (0.2)    (0.5)     0.7
--------------------------------------------------------------------
Effective tax rate                          36.5%    41.5%    37.5%
====================================================================

     The major components of the deferred tax assets and liabilities are
as follows:
                                                        1997     1996
---------------------------------------------------------------------
Assets:                                            
Deferred compensation and other                    
     employee benefits                                $ 92.8   $ 91.2
Accounts receivable and other                      
     allowances                                         30.7     52.0
Other, net                                             123.4    124.2
---------------------------------------------------------------------
                                                      $246.9   $267.4
---------------------------------------------------------------------
Liabilities:                                       
Deferred promotion costs                              $  4.8   $ 15.7
Deferred compensation and other                    
     employee benefits                                   7.0      6.6
Other, net                                              57.4     28.4
---------------------------------------------------------------------
                                                      $ 69.2   $ 50.7
---------------------------------------------------------------------
                                                      $177.7   $216.7
=====================================================================

     The balance sheet classification of the deferred tax assets and liabilities
is as follows:
                                                            1997     1996
-------------------------------------------------------------------------
Prepaid expenses and other current assets                 $ 67.9   $114.0
Other noncurrent assets                                    122.1    117.9
Other current liabilities                                    2.5      2.0
Other noncurrent liabilities                                 9.8     13.2
-------------------------------------------------------------------------
                                                          $177.7   $216.7
=========================================================================

     Net operating loss carryforwards totaling $138.8 at June 30, 1997, the
majority of which may be carried forward indefinitely, are available to reduce
future tax of certain subsidiaries and are related to a number of foreign
jurisdictions.
 
o TWELVE  Accrued Expenses
                                      1997       1996
-----------------------------------------------------
Compensation and other
     employee benefits              $ 85.3     $103.4
Royalties and copyrights payable      33.1       42.1
Taxes, other than income taxes        19.1       16.9
Other, principally operating
     expenses                        236.1(1)   294.9(2)
-----------------------------------------------------
                                    $373.6     $457.3
=====================================================
(1)Includes $81.0 relating primarily to the realignment of the organization and
   operations, and the streamlining of the company's organizational structure.
   Refer to Note TWO for further explanation.

(2)Includes $123.8 relating primarily to the streamlining of the company's
   organizational structure and the strategic repositioning of certain
   businesses. Refer to Note TWO for further explanation.

o THIRTEEN  Debt

In the fourth quarter of 1997, the company entered into an agreement with The
Chase Manhattan Bank for a line of credit of $75.0 (the line of credit) for a
term of one year to be used for general corporate purposes. The loans under the
line of credit are payable on demand and bear interest at a floating rate based
on the cost of funds of the bank plus a margin.

     The company is a party to a Competitive Advance and Revolving Credit
Facility Agreement dated as of November 12, 1996, with a syndicate of domestic
and foreign banks (the credit agreement). The credit agreement, which has a term
of five years, permits competitive advance and revolving credit borrowings of up
to $400.0 by the company and its designated subsidiaries. Interest rates can be
based on: the prime rate, the federal funds rate, the London Interbank Offered
Rate (LIBOR), and money market rates. The proceeds of the borrowings are to be
used for general corporate purposes, including acquisitions, share repurchases
and commercial paper backup. The credit agreement contains certain restrictions
on incurrence of debt, liens and guarantees of indebtedness. The company must
also comply with certain financial covenants, including a calculation of
consolidated tangible net worth. Borrowings may be denominated in U.S. dollars
and various foreign currencies. The credit agreement obligates the company to
pay a facility fee of .055% of the total commitment, whether used or unused, as
well as a utilization fee of .05% of loans outstanding and administrative fees.
Fees are payable quarterly in arrears. At June 30, 1997, there were no
borrowings outstanding under the line of credit or the credit agreement.

     International lines of credit totaled $93.8 and $110.0 at June 30, 1997 and
1996, respectively, of which $30.4 and $24.5 were outstanding at a weighted
average interest rate of 6.1% and 6.3%, respectively. These lines of credit
expire at various dates throughout 1998. Borrowings under these lines of credit
are included in other current liabilities.

28
<PAGE>
 
o FOURTEEN  Capital Stock
<TABLE>  
<CAPTION> 
                                                   1997      1996
-----------------------------------------------------------------
<S>                                             <C>       <C>
First Preferred Stock, par value $1.00 per
     share; authorized 40,000 shares; issued
     and outstanding 29,720 shares              $   3.0   $   3.0
Second Preferred Stock, par value $1.00
     per share; authorized 120,000 shares;
     issued and outstanding 103,720 shares         10.3      10.3
Third Subordinated Preferred Stock, par
     value $1.00 per share; authorized
     230,000 shares; issued and outstanding
     155,022 shares                                15.5      15.5
Preference stock, par value $0.01 per
     share; authorized 25,000,000 shares;
     issued and outstanding none                     --        --
Class A nonvoting common stock, par
     value $0.01 per share; authorized
     200,000,000 shares; issued
     119,428,472 shares                             1.2       1.2
Class B voting common stock, par value
     $0.01 per share; authorized 25,000,000
     shares; issued and outstanding
     21,716,057 shares                              0.2       0.2
Unamortized restricted stock                       (1.2)     (1.8)
-----------------------------------------------------------------
                                                $  29.0   $  28.4
-----------------------------------------------------------------
Common stock in treasury, at cost;
     34,826,886 and 33,494,062 Class A
     shares in 1997 and 1996, respectively      $(715.3)  $(656.3)
=================================================================
</TABLE>

     All shares of preferred stock have a preference in liquidation of $100.00
per share. The difference between the aggregate par value and liquidation
preference has been appropriated from retained earnings. Further, all preferred
stock is redeemable at any time at the option of the company at $105.00 per
share plus accrued dividends. The terms of the First Preferred Stock and the
Second Preferred Stock provide for annual cumulative dividends of $4.00 per
share. The terms of the Third Subordinated Preferred Stock provide for annual
cumulative dividends of $5.00 per share.

     In 1997, the company announced its fifth stock repurchase program, to
acquire up to 5,000,000 shares of Class A nonvoting common stock in open market
transactions. This program began upon the completion of the prior programs,
which together provided for the repurchase of up to 16,000,000 shares of Class A
nonvoting common stock. The company has repurchased a total of 16,768,000 shares
of which 768,000 are related to the fifth program.

o FIFTEEN  Commitments and Contingencies

The company is a defendant in several lawsuits and claims arising in the regular
course of business. Based on the opinions of management and counsel for the
company in such matters, recoveries, if any, by plaintiffs and claimants would
not materially affect the financial position of the company or its results of
operations.

     During the third quarter of 1996, the company's QSP, Inc. subsidiary and
the company reached an agreement with the plaintiffs to settle an antitrust
class action lawsuit commenced in December 1993 by the Roman Catholic Bishop of
San Diego and the Chino Unified School District. The agreement provided for QSP,
Inc. and the company to deliver up to $40.0 in retail value of company products,
coupons for discounts on QSP, Inc. programs, and cash.

     The company and its subsidiaries occupy certain facilities under lease
arrangements and lease certain equipment. Rental expense amounted to $31.7,
$32.4 and $31.7 in 1997, 1996 and 1995, respectively, and sublease income
amounted to $7.0, $6.9 and $7.1 in 1997, 1996 and 1995, respectively.

     Future minimum rental commitments, net of sublease income, for
noncancelable operating leases are as follows:
<TABLE>
<CAPTION>
                      Minimum    Minimum
                       Rental    Sublease
                      Payments    Income     Net
------------------------------------------------
<S>                  <C>       <C>       <C>
1998                    $19.8      $4.7    $15.1
1999                     10.5       0.5     10.0
2000                      7.6       0.4      7.2
2001                      5.4       0.2      5.2
2002                      5.0       0.2      4.8
Later years              26.0       0.3     25.7
================================================
</TABLE> 

o SIXTEEN  Segments

Segment information is located on page 12 of this annual report.

                                                                              29
<PAGE>
 
INDEPENDENT AUDITORS' REPORT



The Stockholders and Board of Directors
The Reader's Digest Association, Inc.

We have audited the accompanying consolidated balance sheets of The Reader's
Digest Association, Inc. and subsidiaries as of June 30, 1997 and 1996, and the
related consolidated statements of income, changes in stockholders' equity, and
cash flows for each of the years in the three-year period ended June 30, 1997.
These consolidated financial statements are the responsibility of the company's
management. Our responsibility is to express an opinion on these consolidated
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 consolidated financial statements referred to above
present fairly, in all material respects, the financial position of The Reader's
Digest Association, Inc. and subsidiaries at June 30, 1997 and 1996, and the
results of their operations and their cash flows for each of the years in the
three-year period ended June 30, 1997, in conformity with generally accepted
accounting principles.

     As discussed in the Notes to Consolidated Financial Statements, in 1997 the
company adopted the provisions of the Financial Accounting Standards Board's
Statement of Financial Accounting Standards No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of,"
and the provisions of the Financial Accounting Standards Board's Statement of
Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation."

/s/ KPMG Peat Marwick LLP 

KPMG Peat Marwick LLP 
New York, New York

August 14, 1997

REPORT OF MANAGEMENT



The company has prepared the accompanying financial statements and other related
financial information contained in this annual report in conformity with
generally accepted accounting principles, applying certain estimates and
judgments as required.

     The company maintains a system of internal accounting controls designed to
provide reasonable assurance, at reasonable cost, that transactions and events
are recorded properly and that assets are safeguarded. The internal control
system is supported by written policies and procedures and by the careful
selection, training and supervision of qualified personnel, and is monitored by
an internal audit function.

     The company's financial statements have been audited by KPMG Peat Marwick
LLP, independent auditors, as stated in their report, which is presented herein.

     The Audit Committee of the Board of Directors, composed only of directors
who are not employed by the company, meets periodically with management,
internal auditors and the independent auditors to review accounting, auditing,
financial reporting and other related matters. The internal auditors and
independent auditors have full and unrestricted access to the Audit Committee.

/s/ George V. Grune 

George V. Grune 
Chairman and Chief Executive Officer


/s/ George S. Scimone 

George S. Scimone 
Vice President and
Chief Financial Officer

30
<PAGE>
 
The Reader's Digest Association, Inc. and Subsidiaries

SELECTED FINANCIAL DATA

<TABLE> 
<CAPTION>
In millions, except per                                                                                                      
 share data                      1997(1)     1996(2)     1995      1994(3)     1993      1992      1991      1990      1989  
--------------------------------------------------------------------------------------------------------------------------- 
<S>                          <C>          <C>          <C>       <C>          <C>        <C>       <C>       <C>       <C>    
Income Statement Data                                                                                                        
Revenues                     $2,839.0    $3,098.1    $3,068.5  $2,806.4    $2,868.6  $2,614.0  $2,345.1  $2,009.7  $1,832.0
Operating profit             $  192.8    $  109.3    $  391.9  $  393.7    $  352.7  $  330.2  $  292.0  $  240.1  $  206.7  
Net income                   $  133.5    $   80.6    $  264.0  $  246.3    $  207.3  $  234.4  $  209.1  $  176.0  $  151.5  
Earnings per share before                                                                                                    
   cumulative effect of                                                                                                    
   accounting                                                                                                             
   changes/extraordinary                                                                                                   
   items                     $   1.24    $   0.73    $   2.35  $   2.34    $   2.16  $   1.95  $   1.74  $   1.48  $   1.28  
Cumulative effect of                                                                                                         
   accounting changes/                                                                                                       
   extraordinary items             --          --          --     (0.23)      (0.42)       --        --        --        --  
Earnings per share           $   1.24    $   0.73    $   2.35  $   2.11    $   1.74  $   1.95  $   1.74  $   1.48  $   1.28  
Dividends per common share   $   1.80    $   1.75    $   1.55  $   1.35    $   1.15  $   0.80  $   0.57  $   0.38  $   0.28  
--------------------------------------------------------------------------------------------------------------------------- 
Balance Sheet Data                                                                                                           
Cash and cash equivalents,                                                                                                   
     short-term                                                                                                              
      investments and                                                                                                        
     marketable securities   $  102.4    $  374.2    $  532.1  $  766.9    $  723.4  $  804.0  $  649.7  $  588.4  $  505.1  
Total assets                 $1,643.8    $1,904.1    $1,958.7  $2,049.4    $1,872.4  $1,932.3  $1,605.3  $1,434.3  $1,173.7  
Stockholders' equity         $  346.0    $  478.9    $  640.8  $  791.0    $  806.3  $  934.9  $  759.6  $  634.1  $  449.2  
Average common shares                                                                                                        
 outstanding                    106.7       107.9       112.0     115.7       118.7     119.8     119.4     118.3     117.8  
Book value per common share  $   2.98    $   4.18    $   5.66  $   6.70    $   6.65  $   7.56  $   6.12  $   5.07  $   3.57  
===========================================================================================================================
<CAPTION> 
                             
In millions, except per      
 share data                                                                                                  1988      1987
--------------------------------------------------------------------------------------------------------------------------- 
<S>                                                                                                          <C>       <C>  
Income Statement Data                                                                                                      
Revenues                                                                                                 $1,712.0  $1,420.1
Operating profit                                                                                         $  213.3  $  149.8
Net income                                                                                               $  142.3  $   94.7
Earnings per share before                                                                                                  
   cumulative effect of                                                                                                    
   accounting changes/
   extraordinary items                                                                                   $   1.19  $   0.72
Cumulative effect of                                                                                                       
 accounting changes/
   extraordinary items                                                                                         --      0.06
Earnings per share                                                                                       $   1.19  $   0.78
Dividends per common share                                                                               $   0.22  $   0.17
--------------------------------------------------------------------------------------------------------------------------- 
Balance Sheet Data                                                                                                         
Cash and cash equivalents,                                                                                                 
   short-term investments and
   marketable securities                                                                                 $  411.7  $  370.2
Total assets                                                                                             $1,054.2  $  881.4
Stockholders' equity                                                                                     $  345.4  $  238.4
Average common shares                                                                                                      
 outstanding                                                                                                118.1     119.2
Book value per common share                                                                              $   2.69  $   1.77 
===========================================================================================================================
</TABLE> 
(1) Results for 1997 include the effect of fourth quarter charges (aggregate
    pre-tax charges of $35.0, or $0.21 per share).

(2) Results for 1996 include the effects of third quarter charges (aggregate
    pre-tax charges of $245.0, or $1.57 per share) and fourth quarter savings on
    the finalization of the company's lease termination program in the United
    Kingdom ($10.0, or $0.09 per share).

(3) Results for 1994 include the effects of promotion accounting changes, net
    (pre-tax benefit of $113.9, or $0.60 per share) and other operating items
    (aggregate pre-tax charge of $76.0, or $0.51 per share).

SELECTED QUARTERLY FINANCIAL DATA
and DIVIDEND AND MARKET INFORMATION (Unaudited)
<TABLE>  
<CAPTION> 
                                                                                                      Stock Price Range
                                                Operating      Net Income (Loss)                         High - Low
                                                 Profit                              Dividends
In millions, except per share data    Revenues   (Loss)      Amount     Per Share    Per Share    Class A           Class B
--------------------------------------------------------------------------------------------------------------------------------- 
<S>                                   <C>      <C>        <C>         <C>          <C>        <C>                <C>          
1997(1)
     First Quarter                     $644.0   $  46.6     $  34.6       $ 0.32       $0.45  $43 1/2 - 38 1/2   $40 1/4 - 36 1/8
     Second Quarter                     874.6     132.6        84.1         0.78        0.45  $41     - 34 3/4   $38 1/8 - 33 1/8
     Third Quarter                      684.3      51.5        37.6         0.35        0.45  $40 1/4 - 28 3/4   $36 7/8 - 27
     Fourth Quarter                     636.1     (37.9)      (22.8)       (0.22)       0.45  $30     - 22 1/2   $27 7/8 - 22
--------------------------------------------------------------------------------------------------------------------------------- 
                                     $2,839.0    $192.8     $ 133.5       $ 1.24       $1.80  $43 1/2 - 22 1/2   $40 1/4 - 22
--------------------------------------------------------------------------------------------------------------------------------- 
1996(2)
     First Quarter                     $730.5   $  81.8     $  53.9       $ 0.50       $0.40  $47 7/8 - 43 7/8   $44     - 40 3/8
     Second Quarter                     918.6     144.4        94.8         0.88        0.45  $52     - 46 3/4   $47 7/8 - 43 1/8
     Third Quarter                      747.5    (170.5)     (114.0)       (1.06)       0.45  $51 3/8 - 45 1/4   $47     - 41 5/8
     Fourth Quarter                     701.5      53.6        45.9         0.42        0.45  $47 3/4 - 40 1/2   $43 1/4 - 37
--------------------------------------------------------------------------------------------------------------------------------- 
                                    $ 3,098.1    $109.3     $  80.6       $ 0.73       $1.75  $52     - 40 1/2   $47 7/8 - 37
=================================================================================================================================
</TABLE>
Cash dividends on common stock are declared and paid share and share alike, on
Class A and Class B stock.  The company's Class A and Class B stock are listed
on the New York Stock Exchange under the symbols RDA and RDB, respectively.  As
of June 30, 1997, there were approximately 700 holders of record of the
company's Class A stock, and 100 holders of record of the company's
Class B stock.

(1) Results for 1997 include the effect of fourth quarter charges (aggregate
    pre-tax charges of $35.0, or $0.21 per share).

(2) Results for 1996 include the effects of third quarter charges (aggregate 
    pre-tax charges of $245.0, or $1.57 per share) and fourth quarter savings on
    the finalization of the company's lease termination program in the United
    Kingdom ($10.0, or $0.09 per share).

                                                                              31