<PAGE>

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                                 UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, DC  20549

                                   FORM 10-K
(Mark one)

   [X]         ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
               EXCHANGE ACT OF 1934

   For the fiscal year ended             December 31, 1997
                                  --------------------------

                                         OR

   [_]         TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
               SECURITIES EXCHANGE OF 1934

               For the transition period from                to
                                              ---------------  ----------------

               Commission File Number  0-15472
                                      ---------

                        Environmental Power Corporation
            (Exact name of registrant as specified in its charter)

         Delaware                                             04-2782065
(State or other jurisdiction of                             (IRS Employer
incorporation or organization)                            Identification No.)

        500 Market Street, Suite 1-E, Portsmouth, New Hampshire  03801
                 (Address of principal executive offices)
                                  (Zip code)

                                 (603) 431-1780
               Registrant's telephone number, including area code

          Securities registered pursuant to Section 12(g) of the Act:
                          Common Stock, $.01 par value

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

Yes [X]         No [_]

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

State the aggregate market value for the voting stock held by non-affiliates of
the registrant: The aggregate market value, computed by reference to the closing
price of such stock on March 23, 1998 was $4,017,396.

Indicate the number of shares outstanding of each of the registrant's classes of
common stock, as of the last practicable date:  On March 23, 1998 there were
11,406,783 outstanding shares of Common Stock, $.01 par value, of the
registrant.

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                      DOCUMENTS INCORPORATED BY REFERENCE


Portions of the definitive Proxy Statement to be filed with the Securities and
Exchange Commission and delivered to shareholders in connection with the Annual
Meeting of Shareholders to be held on June 23, 1998 are incorporated by
reference into Part III of this Annual Report filed on Form 10-K. The portions
of the Proxy Statement under the headings "Report of the Compensation Committee"
and the "Stock Performance Graph" are not incorporated by reference and are not
a part of this Form 10-K Report.

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                                    PART I

Item 1.  BUSINESS

  Environmental Power Corporation (individually "EPC" or consolidated "the
Company") owns a 22 year leasehold interest in an approximately 83 Mw (net)
waste coal-fired electric generating facility (the "Scrubgrass Project") located
in Pennsylvania, the lease for which commenced on June 30, 1994.  Until December
31, 1994 the Company had varying ownership interests (100% to approximately 40%)
in, and oversaw the operation of, an approximately 51 Mw (net) waste coal-fired
electric generating facility located in Utah.  Both facilities sell power under
long-term contracts to specified Utility Companies whose contracts have been
approved by the respective Public Utility Commission.  In the case of these two
projects, the Company, either acting alone or in conjunction with others, has
selected and arranged for the acquisition of the site, obtained control over a
portion of their waste coal fuel sources, negotiated contracts for the design
and construction of the facilities and the sale of their output to the utilities
purchasing the power, arranged for financing, and negotiated contracts for the
operation and maintenance of the projects.  Until December 5, 1997, the Company
had one additional project (the "Milesburg Project") which had been in the
development stage since 1987 and involved in significant contract litigation
since the early stages of its development activities.  On August 26, 1997, the
Company entered into a Buy-Out Agreement with the utility company which had
contracted to purchase electricity from the Milesburg Project.  On December 5,
1997, pursuant to the Buy-Out Agreement, the Company sold substantially all of
the assets of the Milesburg project to this utility company and the ongoing
litigation was terminated.

  Scrubgrass

     The Scrubgrass Project located on a 600 acre site in Venango County,
Pennsylvania, is an approximately 83 Mw (net) waste coal-fired electric
generating station (the "Facility") which has been constructed by Bechtel Power
Corporation.  The construction contract provided for a guaranteed net electrical
output of  82.85 Mw.  Final completion was achieved by the contractor in June
1994.

     On June 30, 1994, Buzzard Power Corporation ("Buzzard"), a wholly owned
subsidiary of EPC, entered into an agreement to lease the Facility from
Scrubgrass Generating Company, L.P. (the "Lessor"), a joint venture of PG&E
Enterprises, Inc. and Bechtel Enterprises, Inc.  The lease provides for an
initial term of 22 years with a renewal option for up to 3 years. Pursuant to
the lease, the Lessor assigned to Buzzard all principal project agreements and
its rights and obligations thereunder including, but not limited to the power
purchase agreement, operations and maintenance agreement, limestone agreements,
ground lease agreements, fuel agreements and transportation and materials
handling agreements.  EPC has pledged Buzzard's stock to the Lessor as security
for Buzzard's performance of its obligations as lessee.  The Scrubgrass Project
is managed by U.S. Generating Company ("U.S. Gen"), a wholly owned subsidiary of
PG&E Enterprises.

     Electric output is being sold to Pennsylvania Electric Company ("PENELEC")
pursuant to a 25-year agreement, which commenced in 1993, at fixed rates
averaging approximately 4.68 cents/Kwh and escalating at 5% per year for the
calendar years' 1994-1999.  Commencing in the year 2000 and through 2012, the
agreement provides for a rate equal to the greater of a scheduled rate or a rate
based on the PJM Billing Rate (the monthly average of the hourly rates for
purchases by the General Public Utilities Group ("GPU") from, or sale by GPU to,
the Pennsylvania-New Jersey-Maryland Interconnection).  For the years 2013
through 2015 and 2016 through 2018, if the lease renewal term option is
exercised, the agreement provides for a rate equal to the lower of the average
monthly PJM Billing Rate or the rate paid for the calendar year 2012 adjusted
annually by the percentage change in the Gross National Product Deflator less
1%. On June 8, 1993, the Facility reached commercial operation.

     The Facility is being operated by U.S. Operating Services Company pursuant
to a 15-year Operations and Maintenance Agreement ("O & M"). A budget for all
operational expenses, including a fixed management fee, is

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approved annually. Failure to achieve approved annual budgets can result in
operator liability and/or termination of the O & M.

     Buzzard, as assignee, entered into a Limestone Purchase and Sale Agreement
with Quality Aggregates, Inc. to supply the Scrubgrass Project with limestone
for an initial term of five years which, in December 1995, was extended through
the year 2000 and which may be extended up to 15 additional years.  The
Scrubgrass Project also maintains an agreement with an initial term of 15 years
for the transportation of fuel, ash and limestone with Savage Industries, Inc.
The costs established under this agreement will escalate at partially fixed and
partially indexed rates.

     Buzzard's revenues earned by the Scrubgrass Project are deposited into an
account administered by a disbursement agent.  Before Buzzard can receive cash
generated by the Scrubgrass Project, all operating expenses, base lease payments
(which include the Lessor's debt as described below), certain maintenance
reserve payments and other subordinated payments must be satisfied.  Buzzard, as
lessee, is required to pay the Lessor, in addition to a specified base rent,
consisting of all of the Lessor's debt service and related fees and expenses, an
additional rent of 50 percent of the net cash flows Buzzard receives from
project operations. Buzzard is not required to fund operating losses, or
otherwise invest further, from sources outside of the Scrubgrass Project.

     Until December 22, 1995 the Lessor's debt consisted of $135.6 million of
variable rate tax-exempt bonds maturing through 2012, a $20.8 million term loan
maturing through 2005, $4.2 million of demand debt and $2.4 million of junior
subordinated debt maturing through 1999.  The Lessor entered into interest rate
swaps which had the effect of fixing the interest rate on the tax-exempt bonds
until May 18, 1996 at approximately 3.72% and fixing the interest rate over the
life of the $20.8 million term loan at 6.42%.  After May 18, 1996, the Company's
specified base rent was incurred based on floating rates on the Lessor's tax-
exempt bonds ranging from 3.1% to 4%.  On December 22, 1995, the Lessor
restructured certain of its project debt, the primary effect of which was to
extend the term of its demand debt and a portion of its junior subordinated debt
through 2004.  In connection with the Lessor's debt restructuring, Buzzard was
able to refinance a portion of its own current liabilities and establish a
capital improvements fund with a note payable of $300,000 which was paid in
January 1996, and a note payable of $2,487,813 which matures through 2004.
During the second quarter of 1997, the Lessor of the Scrubgrass Project assumed
primary responsibility for the disbursement of funds and repayment of debt
related to the capital improvements fund of the Scrubgrass Project.
Accordingly, restricted cash and secured borrowings of approximately $1,220,000
were transferred from the financial statements of the Company to the financial
statements of the Lessor which reduced Buzzard's note payable to $1,267,811 as
of December 31, 1997.

     In March 1996, the Company received proceeds of $900,000 from Bechtel Power
Corporation in final settlement of certain warranty and start-up matters which
is included in other income in the accompanying Consolidated Statement of
Operations.

     During the fourth quarter of 1996, after learning about a generator failure
at an electric generating facility with an identical generator to the Scrubgrass
facility, the manufacturer asked the Company to perform certain tests to
determine the Scrubgrass generator's condition.  Based on the results of these
tests, which became available during the first quarter of 1997, the Company
believed that the Scrubgrass facility's generator exhibited certain conditions
which indicated that a similar failure might occur at some time in the future.
As a result, the Scrubgrass facility was shutdown for a period of 6 days in
February 1997 to consider matters pertaining to the generator.  In light of the
results of these generator tests, the generator manufacturer recommended that
the Company perform a complete rewind on the Scrubgrass facility's generator
during its 1997 annual plant outage which began in April, and which caused the
Scrubgrass plant to be inoperative for a period of 37 days during the second
quarter of 1997.  Originally, without knowledge of the necessary generator
repair, the Company had planned that the Scrubgrass plant would be inoperative
in 1997 for a total of only 18 days to perform normal maintenance during
scheduled spring and fall outages.   As such, because the Scrubgrass plant was
inoperative for a total of 43 days as a result of the maintenance outages, the
Scrubgrass facility was inoperative for 25 days longer in 1997 than the
Company's original plans.  At an average of $80,000 of net revenues per day,
this accounts for an approximate reduction in 1997 power generation revenues,
net of estimated variable fuel expenses not incurred, of

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approximately $2 million by comparison to previous expectations. As a result of
the extended plant outage, the Company also estimates that it incurred $660,000
to have the manufacturer repair the generator, incurred approximately $700,000
in additional maintenance expenses which were not originally scheduled during
this outage and incurred approximately $300,000 in related costs such as legal
fees, management costs, bank fees, etc. As such, the Company believes that the
financial impact of this outage aggregated approximately $3.7 million. In June
1997, the Lessor entered into a three year credit facility with the lenders of
the Scrubgrass Project to make additional funds available to the Scrubgrass
Project to cover the cash deficiency resulting from the extended annual outage
of the Scrubgrass Project and associated costs and expenses. The maximum
allowable borrowings under this credit facility are $3,000,000 through July 1,
1998. Beginning on July 1, 1998, the maximum allowable borrowings under this
credit facility will reduce in $600,000 increments every six months through July
3, 2000 when the credit facility will be payable in full. As of December 31,
1997, the outstanding borrowings under this credit facility, which were advanced
to the Company by the Lessor, amounted to $3,000,000. In addition, the Company
has received extended terms from the Scrubgrass generator manufacturer which
allow the Company to pay the $660,000 cost of the generator repair in six annual
installments of $110,000, without interest, beginning in May 1997. Furthermore,
because substantially all of the additional maintenance expenses incurred during
the 1997 outage were deemed to be major overhauls, the Company was able to
utilize its restricted cash reserves to finance most of these additional
expenses. Under the existing terms of its project agreements, the Company will
be able to replenish these restricted funds over a seven year period beginning
in 1998. During the year ended December 31, 1997, the Company's Consolidated
Statement of Operations reflects the effect of the lost net revenues of
approximately $2,000,000, the additional maintenance expenses of approximately
$700,000 and the related expenses of approximately $300,000 pertaining to the
generator matter. As of December 31, 1996, the Company had recorded the present
value of the future installments to finance the generator rewind, discounted at
the Scrubgrass Project's incremental borrowing rate (6.75%), which amounted to
$564,000. The $96,000 balance of the $660,000 generator rewind cost will be
recognized as interest expense over the six year term of the financing contract
with the generator manufacturer. The Company has included the next installment
of $110,000 in its accounts payable and accrued expenses and the present value
of the long-term installments of $364,000 in its maintenance reserve in the
accompanying Consolidated Balance Sheet as of December 31, 1997.

  Sunnyside

     The Sunnyside Project is an approximately 51 Mw (net) waste coal-fired
facility at a site located adjacent to the Sunnyside Coal Mine in Carbon County,
Utah which was constructed by Parsons Main, Inc., ("PMI").  The facility reached
commercial operation on November 19, 1993.  The Sunnyside Project is owned by
Sunnyside Cogeneration Associates ("SCA"), a joint venture in which the Company
owned varying majority interests from 100% to approximately 70% until September
28, 1994 and thereafter an approximate 40% interest until December 31, 1994 at
which time the Company sold its remaining interest in SCA.

     In connection with the sale, the Company received consideration of $2.79
million in cash on January 5, 1995 and promissory notes aggregating $3.25
million, bearing interest at 10% per annum. Interest is payable to the Company
quarterly and principal of $312,500 was received by the Company on September 30,
1995, principal of $1,187,500 was due on December 31, 1996 and the remaining
principal of $1,750,000 was due on December 31, 1997.  However, as more fully
described in Note N to the Consolidated Financial Statements, the purchasers of
the Company's interest in SCA have entered into a legal proceeding with the
Company.  Pending the resolution of the legal proceeding, the purchasers have
withheld all payments of principal and interest due on the promissory notes
since June 1996.    As of December 31, 1997, the purchasers have principal and
interest payments in arrears of $2,937,500 and $515,068, respectively.  In
addition, the Company recorded in 1994 a receivable related to a purchase price
adjustment, as provided for in the Purchase and Sale Agreement, of approximately
$1.1 million, of which $708,000 was received in April 1995.  The balance of
purchase price adjustment is also being disputed in the legal proceeding with
the purchasers. The Company also retained certain inchoate rights, including
potential refundable sales taxes and certain legal settlements arising out of
activities prior to the date of the sale.  The retained rights were fully
satisfied after the Company received sales tax refunds aggregating $1.1 million
and $42,078 in 1995 and 1996, respectively, and received $540,000 to settle a
legal proceeding in 1996, which have all

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been included in other income for the appropriate periods in the accompanying
consolidated statements of operations.

  Milesburg

     On April 30, 1987, the Company purchased, for an aggregate purchase price
of $5,400,000, all of the outstanding capital stock of Milesburg Energy, Inc.
("MEI"), the company which controlled the development rights to an existing 43
Mw (net) oil-fired facility, which was retired from service in 1984. In
connection with the stock purchase, the Company paid $100,000 in cash and issued
promissory notes totaling $5,120,000 (the "MEI Notes") and a subsidiary of the
Company assumed pre-acquisition MEI liabilities totaling $180,000. The MEI
Notes, pre-acquisition liabilities and certain other liabilities incurred
subsequent to the purchase were to become payable only under certain conditions,
the most significant of which related to the closing of construction financing
and commencement of construction for the Milesburg Project.

     In 1987, MEI executed a 30 year power purchase agreement with West Penn
Power Company ("West Penn") for the sale of all of the facility's electrical
output with a fixed capacity rate component and an additional fluctuating rate
component which is derived from West Penn's avoided energy cost. The power
purchase agreement was approved by the Public Utilities Commission of the State
of Pennsylvania ("PUC"), and was subsequently appealed to the Commonwealth Court
of Pennsylvania by certain industrial intervenors. During the lengthy appeals
process, which extended beyond certain contract milestone dates in the power
purchase agreement, West Penn requested that its original petition to approve
the power purchase agreement be dismissed by the PUC since the power purchase
agreement had expired by its own terms. In September 1989, in response to MEI's
efforts to preserve its contractual rights, the PUC, by court order, ordered
West Penn to execute a new power purchase agreement with MEI. The new power
purchase agreement would include extended contract milestone dates and rates
which would be recalculated due to the later start-up date for this project
necessitated by the delays caused by the appeal. This order had been appealed by
the same industrial intervenors and West Penn through various courts, including
the United States Supreme Court, and upheld in every case in favor of MEI. In
August 1995, the PUC issued a tentative order for final contract rates. The
order had been temporarily stayed by mutual agreement of MEI and West Penn
pending discussions pertaining to a buy-out of the power purchase agreement
which began in October 1995.

     Despite ongoing efforts to reach a buy-out arrangement with West Penn, the
Company had continued to invest its financial resources during 1996 and 1997 to
protect its legal and contractual interests and to support its ability to
commence construction in the event that a settlement under mutually agreeable
terms could not be reached with West Penn.  In July 1996, in furtherance of
those objectives, the Company entered into a joint development agreement with
U.S. Gen, a wholly-owned subsidiary of PG&E Enterprises, to increase the
financial and technical resources available to pursue development activities and
continue ongoing discussions with West Penn concerning a buy-out of the power
purchase contract.   During 1996 and 1997, the Company's development efforts for
the Milesburg Project increased considerably and the Company, along with its
development partner, was able to establish a significant value for the Milesburg
Project as a result of successful development efforts.

     On August 26, 1997, following discussions which lasted almost two years,
MEI and West Penn reached a Buy-Out Agreement concerning the Milesburg project.
Pursuant to the Buy-Out Agreement, West Penn purchased Milesburg's rights to the
Electric Energy Purchase Agreement between the parties dated February 25, 1987
for the sum of $15 million plus 8% interest from the date the Buy-Out Agreement
was filed for Pennsylvania Public Utility Commission approval.  Furthermore,
West Penn also assumed ownership of and responsibility for the Milesburg project
facility, which consisted of land along with a decommissioned oil-fired
electric-generating facility erected thereon, for a stated consideration of $1.
On December 5, 1997, the date of the asset disposition, MEI received aggregate
proceeds of $15,328,768 from West Penn as consideration under the Buy-Out
Agreement.  At the date of the asset disposition, before consideration of any
settlements of contingent obligations, the Company had Milesburg project
development costs included in its property, plant and equipment of $9,670,788
and Milesburg project borrowings included in its secured promissory notes and
other borrowings of $5,858,767.  Shortly before the date of the asset
disposition, the Company entered into a settlement agreement pertaining to
certain Milesburg

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project contingent obligations, including the MEI Notes. As a result of the
settlement agreement, the Company's Milesburg project development costs and
Milesburg project borrowings were reduced to $6,170,788 and $2,358,767,
respectively. In addition, because certain other Milesburg obligations were
payable only upon the occurrence of events related to project development,
Milesburg project obligations of $558,767 and accrued interest of $63,650 were
released from liabilities during 1997 and reported as other income of $622,417
in the accompanying Consolidated Statement of Operations. As a result of the
sale of the Milesburg Project, the Company realized net proceeds before taxes of
$10,960,120 which were derived as follows:

<TABLE>
      <S>                                                                                 <C>
      Proceeds from the disposal of Milesburg project assets                              $    15,000,001

      Project costs:
         Development costs                                                                      6,170,788
         Fee paid to development partner                                                        1,405,746
                                                                                          ---------------
                   Total project costs                                                          7,576,534
                                                                                          ---------------

                   Gain on sale of project                                                $     7,423,467

      Adjustments to arrive at net proceeds before taxes from the disposal
        of Milesburg project assets:
           Development cost reimbursements to the Company for
               obligations which had already been paid                                          2,585,469
           Development costs released from liabilities                                            622,417
           Interest income from West Penn                                                         328,767
                                                                                          ---------------

      Net proceeds before taxes from the disposal of Milesburg project assets             $    10,960,120
                                                                                          ===============
</TABLE>

        The Company estimated that, after giving effect to the payment of
corporate taxes related to the Milesburg transaction which are accrued as of
December 31, 1997, the Company would have available in excess of $10 million
from the Milesburg proceeds. In light of this projected availability of cash,
the Company's Board of Directors on December 10, 1997 declared a special
dividend on the issued and outstanding shares of Company`s Common Stock in the
amount of 87 cents per share payable on January 7, 1998 to Stockholders of
record on December 30, 1997 out of the proceeds received from the Company's sale
of its Milesburg project assets.

        In December 1997, because MEI did not expect to carry on further
business activities after the sale of the Milesburg Project, EPC adopted a Plan
of Liquidation under section 332 of the Internal Revenue Code of 1986, as
amended. Under the Plan of Liquidation, MEI ceased to carry on business
activities except to the extent necessary to liquidate its assets, pay its
liabilities, distribute its assets remaining after the payment of its
liabilities to EPC and complete its dissolution.

Energy Markets

    United States

        Historically in the United States, regulated and government-owned
utilities had been the only significant producers of electricity for sale to
third parties. The energy crisis of the 1970's led to the enactment of the
Federal Public Utility Regulatory Policies Act of 1978 ("PURPA"), which
encouraged companies other than utilities to enter the electric energy business
by reducing regulatory constraints. In addition, PURPA, as implemented by
Federal Energy Regulatory Commission regulations, created unique opportunities
for the development of cogeneration facilities by requiring utilities to
purchase electricity generated in cogeneration plants meeting certain
requirements (referred to as "Qualifying Facilities"). See "Energy Regulation."
As a result of PURPA, a significant market for electricity produced by
independent power producers like the Company developed in the United States. In
1992, Congress enacted the Energy Policy Act of 1992 ("Energy Act"), which
amended the Public Utility Holding Company Act of 1935 ("PUHCA"), to create new
exemptions from PUHCA for independent power

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producers selling electric energy on a wholesale basis, to increase electricity
transmission access for independent power producers and to reduce the burdens of
complying with PUHCA's restrictions on corporate structures for owning or
operating generating or transmission facilities in the United States or abroad.
The Energy Act has enhanced the development of independent power projects and
has further accelerated the changes in the electric utility industry that were
initiated by PURPA. The implementation of federal and state policies, which have
increased the availability of transmission access for wholesale and retail
transactions, could create additional markets and competition for electric
energy sales.

    International

        As a result of increasing demand for power generating capacity around
the world, the fastest growing area of the electric industry is the
international sector. This increase in demand has led to an increased emphasis
by foreign governments toward privatization of state-owned utilities. Many
energy experts believe that the international market represents a significant
percentage of the world's new and replacement power needs. At the same time, the
national, provincial and local laws of each host country, unique political and
currency exchange requirements, and the application of new world-wide
environmental standards to international projects, create significant risks and
obligations which may be difficult to manage. Presently, the Company is not
involved in the international sector and has no immediate plans to become
involved in the international sector. However, the Company continues to evaluate
any business opportunities, as they arise, in the international sector.

Competition

        The Company generates electricity using alternative energy sources which
is sold on a wholesale basis under long-term contracts to utilities under rates
established in power purchase agreements and approved by regulatory agencies.
The independent power industry has grown rapidly over the past twenty years.
There are a large number of suppliers in the wholesale market and a surplus of
capacity which has led to intense competition in this market. The principal
sources of competition in this market include traditional regulated utilities
who have excess capacity, unregulated subsidiaries of regulated utilities,
energy brokers and traders, energy service companies in the development and
operation or energy-producing projects and the marketing of electric energy,
equipment suppliers and other non-utility generators like the Company.
Competition in this industry is substantially based on price with competitors
discovering lower cost alternatives to provide electricity. The electric
industry is also characterized by rapid changes in regulations which the Company
expects could continue to increase competition. For instance, as discussed under
the caption "Energy Markets", the electric industry has been previously affected
by legislation such as PURPA and the Energy Act which have encouraged companies
other than utilities to enter the electric power business by reducing regulatory
constraints. More recently, as discussed under the caption "Energy Regulation",
there has been new state legislation to deregulate the generation component of
the electric business. Furthermore, as discussed under the caption "Energy
Regulation", proposed changes to repeal or modify PUHCA and PURPA could reduce
regulatory restrictions placed on electric utilities and encourage them to seek
new sources of electric power. Any of these regulatory matters, among others,
could increase competition for electric power. Other than the risk that PENELEC
will seek to renegotiate the terms of the Scrubgrass power purchase agreement
(see further discussion under the caption "Energy Regulation"), the Company does
not believe it will be significantly impacted by competition in the wholesale
energy market in the near term since its revenues are subject to contracted
rates which are substantially fixed for several years. However, the contracted
rates in the later years of the Scrubgrass power purchase agreement switch to
rates which vary more closely with existing market conditions. Should ensuing
competition in the later years of the Scrubgrass power purchase agreement create
downward pressure on wholesale energy rates, the Company's profitability could
be impacted.

        The Company also competes in the market to develop power generation
facilities. The primary bases of competition in this market are the quality of
development plans, the ability of the developer to finance and complete the
project and the price. In certain cases, competitive bidding for a development
opportunity is required. Competition for attractive development opportunities is
expected to be intense as there are a number of competitors in the industry
interested in the limited number of such opportunities. Many of the companies
competing in this

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market have substantially greater resources than the Company. The Company
believes its project development experience and its experience in creating
strategic alignments with other development firms with greater financial and
technical resources could enable it to continue to compete effectively in the
development market when opportunities arise. Presently, the Company believes
there are limited opportunities for additional project development in the United
States for projects similar to those previously developed by the Company.
However, the Company is currently evaluating whether it should seek development
opportunities in new areas.

        Presently, there is significant merger and consolidation activity
occurring in the electric industry. From time to time, the Company considers
merger and acquisition proposals when they appear to present an opportunity to
enhance shareholder value.

Energy Regulation

        The Company's projects are subject to regulation under federal and state
energy laws and regulations. The Company's facilities are, or have been, either
self-certified as a Qualifying Facility under the PURPA, or formally certified
as a Qualifying Facility by the Federal Energy Regulatory Commission ("FERC").
Pursuant to PURPA, FERC has promulgated regulations which exempt certain
Qualifying Facilities from the Federal Power Act of 1920, PUHCA, and, except
under certain limited circumstances, state laws regulating the rates charged by
electric utilities. In order to qualify under PURPA, the Company's facilities
must meet certain size, fuel and ownership requirements and/or co-generate. In
addition to the regulation of Qualifying Facilities, PURPA requires that
electric utilities purchase electric energy produced by qualifying facilities at
negotiated rates or at a price equal to the incremental or avoided cost that
would have been incurred by the utility if it were to generate the power itself
or purchase it from another source. The Company is not presently subject to
regulation under PUHCA and does not presently intend to engage in any activities
that would cause it to be so regulated.

        The Company believes that changes in PURPA, PUHCA and other related
federal statutes could occur in the next several years. The nature and impact of
such changes on the Company's projects is unknown at this time. Presently, there
are several legislative proposals pending in Congress which propose amendments
to certain regulations promulgated by PURPA. If Congress amends PURPA, the
statutory requirement that electric utilities purchase electricity from
Qualifying Facilities at full avoided cost could be repealed or modified. While
current legislative proposals specify the honoring of existing contracts, the
repeal or modification of these statutory purchase requirements under PURPA in
the future could increase pressure for electric utilities to renegotiate
existing contracts. Should there be changes in statutory purchase requirements
under PURPA, and should these changes result in amendments which reduce the
contracted rates under the Scrubgrass power purchase agreement, the Company's
results of operations and financial position could be negatively impacted.

        State public utility commissions, pursuant to state legislative
authority, may have jurisdiction over how any new federal initiatives are
implemented in each state. Although the FERC generally has exclusive
jurisdiction over the rates charged by an independent power project to its
wholesale customers, state public utility commissions have the practical ability
to influence the establishment of such rates by asserting jurisdiction over the
purchasing utility's ability to pass through the resulting cost of purchased
power to its retail customers. In addition, although thought to be unlikely,
states may assert jurisdiction over the siting and construction of independent
power projects and, among other things, the issuance of securities and the sale
and transfer of assets. The actual scope of jurisdiction over independent power
projects by state public utility regulatory commissions varies from state to
state. Presently, through its power purchase agreement with PENELEC, the
Scrubgrass Project is indirectly subject to state legislation in the
Commonwealth of Pennsylvania.

        In recent years, in response to changes in the electric industry, the
Commonwealth of Pennsylvania has passed new legislation most notably in the area
of deregulating the generation portion of the electric business. On December 3,
1996, the Commonwealth of Pennsylvania passed new legislation known as the
Electricity Generation Customer Choice and Competition Act (Customer Choice Act)
which became effective on January 1, 1997. The Customer Choice Act permits all
Pennsylvania retail electric customers to choose their electric generation
supplier over a phase-in period which expires December 31, 2000. The Customer
Choice Act has required that all electric

                                       9
<PAGE>

utilities file restructuring plans with the PUC which, among other things,
included unbundled prices for electric generation, transmission and distribution
and a competitive transition charge ("CTC") for the recovery of "stranded costs"
which would be paid by all customers receiving distribution service and certain
customers that increase their own generation of electricity. "Stranded costs"
generally are electric generation-related costs that traditionally would be
recoverable in a regulated environment but may not be recoverable in a
competitive electric generation market.

        Presently, none of the new or proposed legislation directly impacts the
Company since the legislation pertains to the retail market or new contracts in
the wholesale market. However, as discussed previously, the Company could be
impacted in the future by, among other things, increases in competition as a
result of deregulation, or increasing pressure on electric utilities to
renegotiate existing power contracts. The Company is actively monitoring these
developments in energy proceedings in order to evaluate the impact on its
projects and also to evaluate new business opportunities created by the
restructuring of the electric industry.

Environmental Regulation

        The Company's projects are subject to regulation under federal, state
and local environmental and mining laws and regulations and must also comply
with the applicable federal, state and local laws pertaining to the protection
of the environment, primarily in the areas of water and air pollution. These
laws and regulations in many cases require a lengthy and complex process of
obtaining and maintaining licenses, permits and approvals from federal, state
and local agencies. As regulations are enacted or adopted in any of these
jurisdictions, the Company cannot predict the effect of compliance therewith on
its business. The Company's failure to comply with all applicable requirements
could result in delays in proceeding with any projects under development or
require modifications to operating facilities. During periods of non-compliance,
the Company's operating facilities may be forced to shutdown until the non-
compliances are corrected. The Company is responsible for ensuring compliance of
its facilities with all applicable requirements and, accordingly, attempts to
minimize these risks by dealing with reputable contractors and using appropriate
technology to measure compliance with the applicable standards.

Employees

        As of December 31, 1997, and at the time of making this filing, the
Company had four full-time employees and one part-time employee, including three
executive officers. The loss of any of its executive officers could have a
material adverse effect on the Company. None of the Company's employees is
represented by a collective bargaining agreement. The Company considers
relations with its employees to be good.

Item 2. PROPERTIES

        The Company, through a subsidiary, leases the Scrubgrass waste coal-
fired electric generating facility located on approximately 600 acres in Venango
County, Pennsylvania. The Company, through a subsidiary, owns approximately 80
acres in Fayette County, Pennsylvania for which it has abandoned efforts to
development electric generating facilities utilizing coal mine-fire technology.
Until December 5, 1997, the Company owned through a subsidiary, the
decommissioned Milesburg oil-fired electric generating facility located on
approximately 10 acres in Centre County, Pennsylvania. The Milesburg facility
was sold to West Penn pursuant to a Buy-Out Agreement dated August 26, 1997.
(See "Item 1. Business" for a further discussion of the Company's projects).

        The Company is a tenant pursuant to a three-year lease, which commenced
in February 1996, at its headquarters in Portsmouth, New Hampshire for which the
current monthly payments are $1,500.

Item 3. LEGAL PROCEEDINGS

        On May 3, 1996, B&W Sunnyside L.P., NRG Sunnyside Inc., NRG Energy Inc.,
and Sunnyside Cogeneration Associates (collectively the "Plaintiffs") filed a
complaint, which was amended on June 27, 1996, against the Company and three of
its wholly-owned subsidiaries (collectively in this Item 3 hereafter "the
Company") in Seventh District Court

                                       10
<PAGE>

for Carbon County, State of Utah. The amended complaint alleges that the Company
breached the purchase and sale agreement by which the Company transferred all of
its interest in SCA, a joint venture which owned and operated a nominal 51
megawatt waste coal fired facility located in Carbon County, Utah. The amended
complaint also alleges that the Company made certain misrepresentations in
connection with the purchase and sale agreement. As a result of the alleged
breaches of contract and misrepresentations, the Plaintiffs allege that they
suffered damages in an unspecified amount that exceed the aggregate outstanding
principal and interest balances due to the Company by B&W Sunnyside L.P. and NRG
Sunnyside, Inc. under certain notes receivable, which amounted to $2,937,500 and
$515,068, respectively at December 31, 1997 (See "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Liquidity and
Capital Resources"). In addition to alleging unspecified damages, the Plaintiffs
also request rescission of the purchase and sale agreement. On July 30, 1996, in
response to the Plaintiffs' amended complaint, the Company filed an answer and
counterclaim. In the answer to the amended complaint, the Company denied all
material allegations of the amended complaint and asserted numerous affirmative
defenses. In the counterclaim, the Company alleges numerous causes of action
against the Plaintiffs which include breach of contract, breach of the
promissory notes, intentional, malicious and willful breach of contract,
intentional tort, interference and misrepresentation. Through the counterclaim,
the Company seeks remedies which include: (1) compensatory, consequential and
punitive damages; (2) acceleration and immediate payment in full of the
promissory notes; and (3) injunctions which require the Plaintiffs to continue
making payments under the promissory notes during the pendency of this action
and until the promissory notes are paid in full and which enjoin the Plaintiffs
from continuing certain malicious and intentional actions that are alleged in
the counterclaim, together with interest, reasonable attorney's fees, costs and
other such relief as the court deems proper. On August 30, 1996, the Plaintiffs
filed a reply to the Company's counterclaim in which they denied all material
allegations of the counterclaim and asserted numerous affirmative defenses. The
Company plans to vigorously defend against the amended complaint and vigorously
pursue the causes of action stated in the counterclaim. The matter is currently
in the discovery stage.

        The Company is a plaintiff in additional litigation related to contract
matters. However, other than the aforementioned litigation involving the sale of
the Company's interest in SCA, the Company is not engaged in any other
litigation which management believes would, if resolved adversely to the
Company, have a material impact on the financial position or results of
operations of the Company.

Item 4. SUBMISSIONS OF MATTERS TO A VOTE OF SECURITY HOLDERS

        Not applicable.

                                       11
<PAGE>

                                    PART II

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

        The Common Stock of the Company (the "Common Stock") trades on The
Nasdaq Stock Market ("Nasdaq") under the symbol POWR. As of March 23, 1998 there
were approximately 260 record holders and approximately 850 beneficial holders
of the Company's Common Stock. The Company has been designated as a SmallCap
issuer on Nasdaq.

        The following table shows the quarterly high and low sales prices during
1996 and 1997 as reported to the Company by Nasdaq:

<TABLE>
<CAPTION>

        Year              Period                                                 High          Low
        ----              ------                                                 ----          ---

        <S>          <C>                                                        <C>            <C>
        1996         First Quarter                                               11/16         1/4
                     Second Quarter                                             1-5/16         5/8
                     Third Quarter                                               31/32         7/16
                     Fourth Quarter                                             1-3/16         7/16

        1997         First Quarter                                                 1           3/4
                     Second Quarter                                               7/8          9/16
                     Third Quarter                                               1-1/2         11/16
                     Fourth Quarter                                              2-1/4         1-1/16
</TABLE>

        In December 1995, the Company declared and paid an initial dividend of
8 cents per share. Prior to that date, the Company's policy had been to retain
earnings, if any, for use in its business. During 1996, the Company initiated a
quarterly dividend program which is subject to review and consideration by the
Board of Directors each quarter. In respect of this dividend program, the
Company declared quarterly dividends of 3 cents per share during each of the
quarters in the years ended December 31, 1996 and 1997. In addition, the Company
also declared a special year end dividend of 2 cents per share out of operating
profits in 1996 and a special dividend of 87 cents per share in 1997 out of the
proceeds from the Milesburg buy-out (See "Item 1. Business - Milesburg") which
resulted in aggregate dividends of 14 cents per share in 1996 and 99 cents per
share in 1997.

        Under the laws of its state of incorporation, EPC may pay dividends out
of its surplus, as defined by statute, on an unconsolidated basis. As of
December 31, 1997, although the Company's consolidated capital position
reflected a deficit of $3,878,126, EPC maintained a surplus on an unconsolidated
basis. As discussed under the caption "Item 1. Business - Scrubgrass", Buzzard
receives distributions of 50 percent of the net cash flows from the operations
of the Scrubgrass Project and is not required to reinvest such proceeds to
finance operating losses of the project. As such, although Buzzard has an
accumulated deficit of $854,307 as of December 31, 1997, Buzzard has received
cumulative cash distributions of $4,299,397 from the Scrubgrass Project which
have all been distributed as dividends to EPC. Furthermore, as discussed under
the caption "Item 1. Business - Milesburg", the Company sold the Milesburg
project at a substantial gain and adopted a Plan of Liquidation of MEI which
resulted in significant liquidating distributions to EPC. As a result of the
dividend income received from Buzzard and the liquidating distributions received
from MEI, EPC's surplus determined on an unconsolidated basis has been
sufficient to support the dividends declared and paid to date. The payment of
any future dividends will depend on the Board of Directors' evaluation, made on
a quarterly basis, based on the Company's then current and projected operating
performance and capital requirements. See "Item 7 - Management's Discussion and
Analysis of Financial Condition and Results of Operations".

        On August 22, 1997, the Securities Exchange Commission approved new
listing standards for companies who are designated as SmallCap issuers on
Nasdaq. These changes, which became effective on February 23, 1998, strengthened
the quantitative threshold criteria necessary to qualify for initial entry and
continued listing on Nasdaq. In addition, the corporate governance requirements
previously applicable only to companies designated as National Market issuers on
Nasdaq will now extend to SmallCap issuers on Nasdaq. Prior to February 23,
1998,

                                       12
<PAGE>

SmallCap issuers whose securities traded below a $1 minimum bid price (such as
the Company) could remain listed if they met an alternative test based on the
market value of public float and capital and surplus. However, this alternative
to the $1 minimum bid price standard has been eliminated under the new listing
standards. As such, SmallCap issuers whose securities trade below a $1 minimum
bid price for a period of 30 consecutive trading days will now be subject to
delisting from Nasdaq. However, Nasdaq has indicated that SmallCap issuers who
fail to meet this $1 minimum bid price standard will be given a grace period of
90 calendar days in which to regain compliance by reporting a minimum bid price
of $1 for greater than 10 consecutive trading days during this 90 day grace
period. In recent months, the bid price of the Company's stock has been below $1
for extended periods of time. If the Company's stock remains below $1 for 30
consecutive trading days, and the Company cannot regain compliance by reporting
a minimum bid price of $1 for greater than 10 consecutive trading days during
the 90 day grace period, the Company's Common Stock would be subject to
delisting by Nasdaq. The Company's management does not expect that the Company's
listing status would be impacted in the near term by any other Nasdaq continuing
listing requirement for SmallCap issuers which became effective as of
February 23, 1998.

        On December 22, 1997, Peter Blampied, a Director of the Company,
exercised options to purchase 10,000 shares of Common Stock for an aggregate
exercise price of $6,875, pursuant to Section 4(2) of the Securities Act.

                                       13
<PAGE>

Item 6. SELECTED FINANCIAL DATA

        The following selected financial data for the five years ended December
31, 1997 is derived from the audited Consolidated Financial Statements of the
Company. The data should be read in conjunction with the Consolidated Financial
Statements and other financial information included elsewhere herein.

<TABLE>
<CAPTION>
                                                                                Year Ended December 31
                                                      ------------------------------------------------------------------------------
                                                           1997           1996            1995            1994              1993
                                                      ------------    ------------   ------------    -------------   ---------------
                                                                          (000's omitted except per share data)
<S>                                                   <C>             <C>            <C>             <C>             <C>
Results of Operations Data:

Power generation revenues                             $    43,763     $    47,854    $    40,693     $     30,705    $        1,571
                                                      ------------    ------------   ------------    -------------   ---------------

Costs and expenses:
     Operating expenses                                    17,756          18,190         16,975           16,123             1,088
     Lease expenses                                        24,488          24,793         23,020           10,538               ---
     General and administrative expenses                    1,995           3,062          3,668            2,998             1,613
     Reversal of provision for nonrecovery of
           project development costs                         (940)            ---            ---              ---               ---
     Depreciation and amortization                            258             205            167            3,018               428
                                                      ------------    ------------   ------------    -------------   ---------------
                                                           43,557          46,250         43,830           32,677             3,129
                                                      ------------    ------------   ------------    -------------   ---------------

Operating income (loss)                                       206           1,604         (3,137)          (1,972)           (1,558)

Other income (expense):
     Other income                                             622             484          1,285            5,311                 1
     Interest income                                          581             499            468              695               161
     Interest expense                                        (424)           (336)          (107)          (8,830)           (1,376)
     Amortization of deferred gain                            308             308            308              154               ---
     Warranty income                                          ---             900            ---              ---               ---
     Realized gain on sale of marketable securities           ---             ---            ---              ---             1,678
     Gain on sale of affiliate/project                      7,424             ---            ---            3,946               ---
     Minority interest                                        ---             ---            ---            1,866               ---
     Equity in net loss of affiliate                          ---             ---            ---              (84)              ---
                                                      ------------    ------------   ------------    -------------   ---------------
                                                            8,511           1,855          1,954            3,058               464
                                                      ------------    ------------   ------------    -------------   ---------------

Income (loss) before income taxes                           8,717           3,459         (1,183)           1,086            (1,094)

Income tax expense (benefit)                                4,103           1,894           (448)             416              (414)
                                                      ------------    ------------   ------------    -------------   ---------------

Net income (loss)                                     $     4,614     $     1,565    $      (735)    $        670    $         (680)
                                                      ============    ============   ============    =============   ===============

Basic and diluted earnings (loss) per common share    $      0.41     $      0.14    $     (0.07)    $       0.06    $        (0.11)
Dividends paid or payable per common share            $      0.99     $      0.14    $      0.08     $        ---    $          ---
Weighted average number of shares outstanding              11,260          11,286         11,197           11,321             8,592

Balance Sheet Data:

Total assets                                          $    61,583     $    52,503    $    45,226     $     35,962    $      149,788
Working capital                                               536           1,406          3,224            1,212             7,201
Long-term obligations                                      40,032          35,331         24,405           11,533           130,360
Deferred gain (1)                                           5,706           6,014          6,322            6,631             6,785
Deferred revenue (1)                                          ---             ---          3,065            2,826               ---
Deferred interest revenue (1)                                 221             ---            ---              ---               ---
Shareholders' (deficit) equity                             (3,878)          2,680          2,797            4,443             3,303
</TABLE>
-----------

(1) See Notes A and B of Notes to Consolidated Financial Statements.

                                      14
<PAGE>

Item 7.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
           OF OPERATIONS

Overview of the Company

     The Company owns a 22 year leasehold interest in an approximately 83 Mw
(net) waste coal-fired electric generating facility (the "Scrubgrass Project")
located in Pennsylvania, the lease for which commenced on June 30, 1994.  Until
December 31, 1994 the Company also held varying ownership interests (100% to
approximately 40%) in and oversaw the operation of an approximately 51 Mw (net)
waste coal-fired electric generating facility (the "Sunnyside Project") located
in Utah. Until December 5, 1997, the Company had one additional project (the
"Milesburg Project") which had been in the development stage since 1987 and
involved in significant contract litigation since the inception of its
development activities.  On August 26, 1997, the Company entered into a Buy-Out
Agreement with the utility which had contracted to purchase electricity from the
Milesburg Project which was finalized on December 5, 1997.  Under the terms of
the Buy-Out Agreement, the Company sold substantially all of the assets of the
Milesburg project to this utility and terminated the ongoing litigation.  The
following Management's Discussion and Analysis of Financial Condition and
Results of Operations compares the Company's results of operations for the years
ending December 31, 1997, 1996 and 1995 and should be read in conjunction with
the Consolidated Financial Statements and notes thereto, and the comparative
summary of selected financial data appearing elsewhere in this report.
Historical results and trends which might appear should not be taken as
indicative of future operations.

Cautionary Statement

     This Annual Report on Form 10K contains "forward-looking statements", as
defined by the Private Securities Litigation Reform Act of 1995, in order to
provide investors with prospective information about the Company.  For this
purpose, any statements which are not statements of historical fact may be
deemed to be forward-looking statements.  Without limiting the foregoing, the
words "believes", "anticipates", "plans", "expects" and similar expressions are
intended to identify forward-looking statements.  There are a number of
important factors which could cause the Company's actual results to differ
materially from those indicated by the forward looking statements.  These
factors include, without limitation, those set forth below under the caption
"Certain Factors That May Affect Future Results".

Results of Operations

   Year ended December 31, 1997 ("1997") compared with the year ended December
31, 1996 ("1996")

     Net income in 1997 amounted to $4,613,863  or 41 cents per share as
compared to net income of $1,565,279 or 14 cents per share in 1996.  The
overall increase in net income during 1997 is primarily attributable to the gain
on the sale of the Milesburg project, the reversal of the provision for non-
recovery of Milesburg project development costs, and a reduction in general and
administrative expenses primarily as a result of both the Company's efforts to
reduce its corporate overhead expenses and the capitalization of labor and
overhead expenses related to the Milesburg project. The Company's overall
increase in net income during 1997 was offset in part by an operating loss from
the Scrubgrass project primarily as a result of the generator repair discussed
under "Item 1. Business - Scrubgrass" which reduced the Company's power
generation revenues and affected certain of the Company's expenses.   In
comparing the Company's net income for 1997 to 1996, it is important to point
out that the Company's results of operations during 1996 were beneficially
effected by certain non-recurring revenues which included the recognition of
certain revenues of $3,064,965 which were previously deferred under the
Scrubgrass power purchase agreement, the settlement of a warranty issue related
to the Scrubgrass Project for $900,000 and the settlement of a legal proceeding
for approximately $340,000, net of legal fees.  In light of the Company's
favorable earnings and available cash, the Company declared dividends on its
Common Stock in 1997 of $11,265,865 or 99 cents per share as compared to
dividends in 1996 of $1,549,250 or 14 cents per share.

                                       15
<PAGE>

     Power generation revenues in 1997 amounted to $43,763,223 as compared to
$47,853,639 in 1996 and all pertained to the Scrubgrass Project.  The overall
decrease in power generation revenues during 1997 is largely attributable to the
extended maintenance outage to repair the Scrubgrass generator and a reduction
of power generation revenues recorded as a result of the straight-line
accounting treatment of certain revenues under the power purchase agreement
($8,905,911 in 1997 as compared to $9,294,789 in 1996).  In addition, the 1996
power generation revenues were higher by comparison to 1997 because the Company
recognized certain revenues of $3,064,965 during 1996 which were previously
deferred under the Scrubgrass power purchase agreement.  With reference to the
impact of the extended maintenance outage, the Scrubgrass plant was inoperative
for approximately  6 days during the first quarter of 1997 to consider generator
matters.  During the second quarter of 1997, the Scrubgrass annual outage also
extended approximately 31 days longer than the 6 day outage in May 1996 due
primarily to the generator repair.  At an average of $100,000 of revenues per
day, the 37 additional outage days in 1997 account for an approximate reduction
in power generation revenues for the year ended year ended December 31, 1997 of
$3.7 million by comparison to the same period in 1996.  However, the impact of
the lost revenues from the Scrubgrass outage was mitigated by a 5% increase in
certain rates charged to the utility under the terms of the power purchase
agreement and improvements in the performance of the Scrubgrass plant after the
1997 extended outage.  Specifically, the Scrubgrass plant operated at a 97.5%
average capacity for the six months ended December 31, 1997 versus 90.9% for the
six months ended December 31, 1996.

     Operating expenses in 1997 amounted to $17,755,882 as compared to
$18,190,037 in 1996. The overall decrease is primarily attributable to lower
fuel costs and operator bonuses because the overall capacity rate in 1997 was
lower by comparison to 1996 as a result of the extended maintenance outage to
repair the generator. However, the decrease was offset in part by higher
maintenance costs to complete the extended maintenance outage at the Scrubgrass
plant, an increase in contracted rates for certain fuel costs and higher
personnel costs incurred under the O&M.

     Lease expense in 1997 amounted to $24,488,005 as compared to $24,792,248 in
1996.  The overall decrease in lease expense during 1997 is primarily due to a
decrease in the lease expense recorded as a result of the straight-line
accounting treatment of lease expenses ($8,905,911 in 1997 as compared to
$9,294,789 in 1996) and the lowering of average interest rates which occurred in
1997 and which reduced the Lessor's loan costs that were passed through to the
Company in its facility lease expenses.  The decrease was offset in part by an
increase in the principal payments under the Scrubgrass Project term loan which
increased the Lessor's loan costs that were passed through to the Company in its
facility lease expenses.

     General and administrative expenses in 1997 amounted to $1,995,491 as
compared to $3,061,931 in 1996. The overall decrease in general and
administrative expenses during 1997 is primarily due to the Company's efforts to
reduce its corporate overhead expenses and the capitalization of labor and
overhead expenses aggregating to $327,583 for development efforts related to the
Milesburg project.  The Company's major steps to reduce its corporate overhead
included a consolidation of its Vermont and New Hampshire offices into one
office in New Hampshire (completed by May 1996), a reduction in its executive
officer compensation, a reduction in its employee headcount by an equivalent of
two full-time employees, and a reduction of its 1997 insurance costs by
restructuring insurance programs.   In addition, the Company has realized
reductions in 1997 management costs for the Scrubgrass project due to additional
experience of the Manager's employees and because the negotiation of certain
contractual matters required less effort in 1997.  The Company continues to
incur substantial management and professional fees to defend its position in
certain legal matters.  Accordingly, the full effect of the Company's efforts to
reduce its corporate overhead expenses still has not yet been shown in its
recent operating results.

     Reversal of provision for nonrecovery of project development costs relates
to the Company's Milesburg project and amounted to $940,144 in 1997. As
discussed under "Item 1. Business - Milesburg", the Company sold the Milesburg
project to West Penn pursuant to a Buy-Out Agreement dated August 26, 1997.  In
light of this Buy-Out Agreement, which established a value significantly in
excess of the Company's recorded carrying value for its investment in the
Milesburg project, the Company removed its reserve for the impairment in value
of this investment during the third quarter of 1997.  The reserve was
established in 1990 by a charge against earnings due to the uncertainties
surrounding whether the Company would realize value from its investment in this
project.

     Other income amounted to $622,417 in 1997 and consisted of revenue recorded
as a result of the release of certain Milesburg obligations which were payable
only upon the occurrence of events related to project

                                       16
<PAGE>

development. Other income in 1996 consisted primarily of proceeds from a legal
settlement of $540,000 and Sunnyside Project sales tax refunds of approximately
$42,000 arising out of activities prior to the date of sale. Other income in
1996 was offset in part by a provision made for the continued decline in value
of the Company's preferred stock investment in Hamilton Technologies, Inc., a
privately held Massachusetts developer of computer aided software engineering
(CASE) software.

     Interest income in 1997 amounted to $581,336 as compared to interest income
of $498,975 in 1996. The increase in interest income is primarily attributable
to interest of $328,767 received from West Penn because the proceeds of $15
million committed pursuant to the Buy-Out Agreement dated August 26, 1997 were
not received until December 5, 1997. Excluding the aforementioned interest
received from West Penn, the Company's interest income decreased in 1997
primarily due to lower investments in cash and cash equivalents, lower
investments in restricted cash and less interest recognized on the Company's
notes receivable related to the sale of its interest in the Sunnyside Project.
Beginning in April 1997, the Company has deferred the interest income on the
notes receivable related to the sale of its interest in the Sunnyside Project
until the litigation with the purchasers is resolved (See "Part I - Item 3.
Legal Proceedings"). While the Company believes its position in this litigation
is meritorious, the Company also believes it may take an extended period of time
to enforce its rights and collect on these notes receivable. Now that the
Sunnyside notes receivable have been in arrears for more than one year and are
expected to remain in arrears for the foreseeable future, the Company believes
it is in the best interest of its investors to classify these notes receivable,
along with the related contingent liabilities, as long-term and defer future
interest income so that the Company's financial position and ongoing results of
operations are presented more conservatively.

     Interest expense in 1997 amounted to $424,395 as compared to interest
expense of $336,449 in 1996. The increase in 1997 is primarily attributable to
additional long-term debt for the Scrubgrass Project amounting to $3,000,000. A
discussion of this additional long-term debt is included under the caption
"Liquidity and Capital Resources - Financing Activities".

     Gain on sale of project amounted to $7,423,467 in 1997 and pertains to a
gain recognized as a result of the Company's sale of the Milesburg project. The
sale of the Milesburg project and the calculation of the gain is discussed
further under the caption "Item 1. Business - Milesburg".

     Warranty income in 1996 amounted to $900,000 and resulted from a settlement
with an engineering and construction contractor for the Scrubgrass plant which
was received in March 1996. There was no warranty income in 1997.

     Income tax expense in 1997 amounted to $4,103,684, or 47.1% of income
before income taxes, as compared to an income tax expense of $1,894,035, or
54.8% of income before income taxes, in 1996. The increase in income tax expense
resulted primarily from higher earnings during 1997. The 1996 effective tax rate
was higher by comparison to the 1997 rate primarily as a result of the
additional charges to deferred state tax expense and because the taxability of
temporary differences reversing in 1996 occurred in states with higher tax
rates. The overall decrease in the 1997 effective tax rate was offset in part by
a difference between the gain for financial reporting purposes and the gain for
tax reporting purposes on the sale of the Milesburg project which contributed to
a higher effective tax rate in 1997. A significant portion of the Company's
income tax expense during 1997 and 1996 resulted in a decrease in the Company's
deferred tax asset rather than in cash outlays. See "Liquidity and Capital
Resources" for a further discussion.

Year ended December 31, 1996 ("1996") compared with the year ended December 31,
1995 ("1995")

     Net income in 1996 amounted to $1,565,279 or 14 cents per share as compared
to a net loss of $734,611 or 7 cents per share in 1995. The overall increase is
primarily attributable to favorable operating performance of the Scrubgrass
Project, the recognition of certain revenues of $3,064,965 which were previously
deferred under the Scrubgrass power purchase agreement, the settlement of a
warranty issue related to the Scrubgrass Project for $900,000 and the settlement
of a legal proceeding for approximately $340,000, net of legal fees. In light of
the Company's favorable

                                       17
<PAGE>

earnings in 1996, the Company paid dividends in 1996 of $1,549,250 or 14 cents
per share as compared to dividends paid in 1995 of $923,786 or 8 cents per
share.

     Power generation revenues in 1996 amounted to $47,853,639 as compared to
$40,693,465 in 1995. The overall increase in power generation revenues during
1996 is primarily attributable to the recognition of certain revenues of
$3,064,965 which were previously deferred under the Scrubgrass power purchase
agreement and an increase in the power generation and contracted rates billed to
the utility. The increase in power generation occurred primarily because the
plant operated at 90.6% of its capacity in 1996 as compared to 85.3% of its
capacity in 1995. The overall increase in power generation revenues was offset
in part by a reduction in the revenue recorded as a result of the straight-line
accounting treatment of certain revenues under the power purchase agreement
which amounted to $9,294,789 in 1996 as compared to $9,850,365 in 1995. All
power generation revenues earned by the Company in 1996 and 1995 related to the
Scrubgrass Project.

     Operating expenses in 1996 amounted to $18,190,037 as compared to
$16,975,186 in 1995. The overall increase is primarily due to higher fuel costs
and operator fees because of the higher capacity rate in 1996 and the
recognition of maintenance expenses associated with the anticipated repair of
the Scrubgrass generator. During 1996, due to maintenance modifications and
additional operating experience, fuel costs were only 27% of power generation
revenues, as compared to 30% of power generation revenues in 1995. Moreover, the
operating expenses incurred during the 1995 annual plant outage were
significantly greater by comparison to those incurred during the 1996 annual
plant outage. For both of these reasons, the increase in 1996 operating expenses
was not as significant as the increase in power generation revenues.

     Lease expense in 1996 amounted to $24,792,248 as compared to $23,020,132 in
1995. The overall increase in lease expense during 1996 is primarily due to an
increase in equity rents paid to the lessor based on the favorable performance
of the Scrubgrass plant in 1996. The increase is partially offset by a decrease
in the lease expense recorded as a result of the straight-line accounting
treatment of lease expenses ($9,294,789 in 1996 as compared to $9,850,365 in
1995) and the lowering of interest rates which occurred in 1996 and which
reduced the lessor's loan costs that were passed through to the Company in its
facility lease expenses.

     General and administrative expenses in 1996 amounted to $3,061,931 as
compared to $3,668,066 in 1995. The overall decrease in general and
administrative expenses during 1996 is primarily due to the Company's efforts to
reduce its corporate overhead expenses. The Company's major steps to reduce its
corporate overhead in 1996 included a consolidation of its Vermont and New
Hampshire offices into one office in New Hampshire, a reduction in its executive
officer compensation and a reduction in its employee headcount by an equivalent
of two full-time employees. However, during 1996, the Company continued to incur
substantial management and professional fees to negotiate certain contractual
matters and defend its position in certain legal matters. Accordingly, the full
effect of the Company's efforts to reduce corporate overhead expenses has not
yet been shown in its 1996 operating results.

     Warranty income in 1996 amounted to $900,000 and resulted from a settlement
with an engineering and construction contractor for the Scrubgrass plant which
was received in March 1996. There was no warranty income in 1995.

     Other income in 1996 consisted primarily of proceeds from a legal
settlement of $540,000 and Sunnyside Project sales tax refunds of approximately
$42,000 arising out of activities prior to the date of sale. Other income in
1995 consisted primarily of Sunnyside Project sales tax refunds of $1.1 million
arising out of activities prior to the date of sale and fee income related to
the Scrubgrass Project. The other income in 1996 and 1995 were both offset in
part by the provisions made for the continued decline in value of the Company's
preferred stock investment in Hamilton Technologies, Inc., a privately held
Massachusetts developer of computer aided software engineering (CASE) software.

     Income tax expense in 1996 amounted to $1,894,035 as compared to an income
tax benefit of $447,984 in 1995. The income tax expense resulted primarily from
the Company's favorable earnings during 1996. Furthermore, in 1996, the
Company's deferred state income tax expense includes a charge related to state
net operating loss carryforwards which have expired and a charge related to a
valuation allowance which was established because the

                                       18
<PAGE>

Company estimates that it may not realize all of the recorded tax benefits of
its state net operating loss carryforwards. The Company's effective tax rate on
its 1996 earnings amounted to 54.8% as compared to an effective tax benefit rate
of 37.9% on its net loss in 1995. The increase in the 1996 effective tax rate is
primarily as a result of the additional charges to deferred state tax expense
and because the taxability of temporary differences reversing in 1996 occurred
in states with higher tax rates.

    1998 Outlook

         With a view towards 1998, the Company expects to achieve continuing
earnings as a result of profits from Scrubgrass project operations and
management of corporate general and administrative expenses. The Company offers
the following prospective information concerning significant components of its
1998 Consolidated Statement of Operations which are being compared to historical
results of operations in 1997:

   Power generation revenues - Power generation revenues are expected to
   increase in 1998 as a result of a 5% increase in certain contracted rates
   under the Scrubgrass power purchase agreement, improvements in the
   performance of the Scrubgrass facility and the absence of an extended
   maintenance outage in 1998.

   Operating expenses - Operating expenses are expected to increase in 1998 as a
   result of a 3% increase in certain contracted rates under fuel supply
   agreements, a 5% increase in certain contracted rates under the O&M and
   anticipated increases in personnel costs at the Scrubgrass plant.  In
   addition, because the Company does not expect another extended maintenance
   outage in 1998, operating expenses are expected to further increase as a
   result of additional fuel consumption and higher operator bonuses which are
   primarily based on Scrubgrass operating profits. However, absent an extended
   outage in 1998, the Company would expect to incur lower maintenance expenses
   in 1998. The Company also expects that certain improvements made in 1997 to
   its fuel handling systems may offset a portion of the increases in fuel costs
   in 1998.

   Lease expenses - Lease expenses are expected to increase as a result of
   higher principal payments on the Lessor's term loans which will increase the
   Lessor's loan costs that are expected to be passed through to the Company in
   its facility lease expenses. In addition, the Company expects to incur
   scheduled increases in equity rents for the Scrubgrass Project in 1998.
   However, largely due to required repayments of $1.2 million on the Company's
   $3 million credit facility, the Company expects that there would be less cash
   available from the Scrubgrass Project during 1998. As such, the scheduled
   increases in equity rent are expected to be offset by a reduction in the
   additional rent paid to the Lessor which amounts to 50 percent of the net
   cash flows from the Scrubgrass Project (See further discussion under
   "Liquidity and Capital Resources - 1998 Outlook").

   General and administrative expenses - General and administrative expenses are
   expected to reflect a modest increase in 1998 because certain labor and
   overhead expenses, which were capitalized in 1997 as a result of development
   activities for the Milesburg project, will be redirected to operating
   activities during 1998.

   Other revenue - In 1997, the Company enjoyed the benefit of certain non-
   recurring revenues which included the gain on the sale of the Milesburg
   project, the reversal of the provision for non-recovery of Milesburg project
   development costs, interest earnings from proceeds on the sale of the
   Milesburg project and revenue recorded as a result of the release of certain
   Milesburg obligations which were payable only upon the occurrence of events
   related to project development. The Company does not expect these items to
   recur in 1998.

Recently Issued Accounting Standards

     See Note B to the Consolidated Financial Statements for recently issued
accounting standards which are required to be adopted in 1998.

                                       19
<PAGE>

Liquidity and Capital Resources

  Operating Activities

     Cash used in operating activities amounted to $1,202,561 in 1997 as
compared to cash provided by operating activities of $1,324,158 in 1996.  During
1997 and 1996, the Company's only sources of cash from operating activities were
operating profits from the Scrubgrass Project and investment earnings.  During
1997, primarily because of the financial impact of the generator repair at the
Scrubgrass project which is discussed further under "Part I - Item 1. Business -
Scrubgrass", the Company incurred a net reduction of cash from its operating
activities.  The Company offers the following information to discuss the changes
in operating assets and liabilities which most notably impacted its cash
position during the year ended December 31, 1997:

   Receivable from utility - The Company's receivable from utility relates to
   the Scrubgrass Project and amounted to $6,538,645 as of December 31, 1997 as
   compared to $5,892,879 as of December 31, 1996. The increase in receivable
   from utility as of December 31, 1997 is primarily due to revenues during
   November and December 1997 which were higher by comparison to those during
   November and December 1996 as a result of higher contracted rates under the
   power purchase agreement and improvements in the performance of the
   Scrubgrass facility. Additionally, revenues during November 1996 were lower
   by comparison to November 1997 because of a short maintenance outage which
   lasted approximately 3 days.

   Deferred income tax asset - The Company's deferred income tax asset amounted
   to $817,755 as of December 31, 1997 as compared to $3,840,105 as of December
   31, 1996. The decrease is largely attributable to the utilization of net
   operating loss carryforwards and the reversal of the tax benefits associated
   with the provision for nonrecovery of project development costs, which were
   both recorded during 1997.

   Other assets - The Company's other assets amounted to $701,437 as of December
   31, 1997 as compared to $583,383 as of December 31, 1996. The Company's other
   assets consist primarily of deferred financing costs and long-term deposits
   in connection with fuel reserves for the Scrubgrass Project. The increase in
   other assets during 1997 primarily pertains to additional financing costs
   which were incurred in connection with restructuring certain debt related to
   the Scrubgrass Project.

   Accounts payable and accrued expenses - The Company's accounts payable and
   accrued expenses amounted to $6,325,062 as of December 31, 1997 as compared
   to $5,781,933 as of December 31, 1996. Due to higher taxable earnings in
   1997, the increase during 1997 is largely attributable to income tax accruals
   which were greater as of December 31, 1997 by comparison to December 31,
   1996. The Company believes the overall increase during 1997 was offset in
   part by reduced spending in 1997 which resulted in lower accounts payable
   balances as of December 31, 1997.

   Deferred gain, net - The Company's deferred gain, net amounted to $5,705,598
   as of December 31, 1997 as compared to $6,014,008 as of December 31, 1996.
   The decline is due to the amortization of the deferred gain related to the
   Scrubgrass Project, which is being amortized on a straight-line basis over 22
   years.

   Receivable from sale of affiliate and deferred interest revenue - The
   Company's receivable from sale of affiliate amounted to $791,512 as of
   December 31, 1997 as compared to $497,762 as of December 31, 1996. The
   increase is attributable to interest payable by the purchasers of the
   Sunnyside project during 1997. The Company's deferred interest revenue
   amounted to $220,514 as of December 31, 1997 as compared to $0 as of December
   31, 1996. The increase is attributable to interest payable by the purchasers
   of the Sunnyside project during 1997, but deferred for financial reporting
   purposes. Beginning in April 1997, the Company has deferred the interest
   income on the notes receivable related to the sale of its interest in the
   Sunnyside Project until the litigation with the purchasers is resolved (See
   further discussion under "Results of Operations" and "Part I - Item 3. Legal
   Proceedings").

                                       20
<PAGE>

   Maintenance reserve - The Company records the expense of major equipment
   overhauls related to the Scrubgrass Project to a maintenance reserve on a
   straight-line basis using management's best estimate of when the Company will
   incur future cash outlays for the major equipment overhauls. When the Company
   incurs cash outlays for major equipment overhauls, they reduce maintenance
   reserves and are funded substantially from scheduled deposits to a restricted
   major maintenance fund which have been set aside to ensure that the funds are
   available for these maintenance procedures (see further discussion under the
   caption "Investing Activities-Restricted Cash"). The maintenance reserve
   increased to $1,995,818 as of December 31, 1997 from $1,533,829 as of
   December 31, 1996 primarily due to scheduled reserves provided for the
   ongoing maintenance of the plant.

 Investing Activities

     The Company received $12,206,487 from investing activities during 1997,
used $388,939 in investing activities during 1996 and received $3,038,345 from
investing activities during 1995.  The Company's investing activities are
concentrated primarily in the following areas:

   Notes receivable - The Company presently has notes receivable related to the
   1994 sale of the Sunnyside Project and related to fees earned in 1995 for the
   Scrubgrass Project. The Company collected $36,129 and $482,681 from notes
   receivable related to the Scrubgrass Project in 1997 and 1996, respectively.
   During 1995, the Company collected $312,500 from notes receivable related to
   the 1994 sale of the Sunnyside Project. The notes receivable related to the
   Sunnyside Project, with a principal balance of $2,937,500 and accrued
   interest balance of $515,068 as of December 31, 1997, are the subject of a
   legal proceeding. See "Certain Factors That May Impact Future Results", "Item
   3. Legal Proceedings" and Note N to the Company's Consolidated Financial
   Statements for further information.

   Restricted cash - The Company is presently required to make scheduled
   deposits to a restricted major maintenance fund relating to the Scrubgrass
   Project to ensure that funds are available in the future for scheduled major
   equipment overhauls. The Company is also allowed to spend restricted cash to
   fund the cost of major equipment overhauls subject to certain restrictions.
   During the year ended December 31, 1997, the Company's payments for major
   equipment overhauls exceeded its deposits to the restricted major maintenance
   fund and interest thereon by $158,238. Whereas, for the year ended December
   31, 1996, the Company's deposits to the restricted major maintenance fund and
   interest thereon exceeded its payments for major equipment overhauls by
   $614,561. The net decrease to the restricted cash fund during 1997 occurred
   primarily as a result of expenditures for major overhauls incurred during the
   1997 Scrubgrass outage. The restricted cash fund was established at the time
   of the refinancing of the Scrubgrass Project in December 1995. As such, there
   were no deposits or withdrawals from restricted cash during 1995.

   Proceeds from sale of project - On December 5, 1997, the Company received
   $15,000,001 for the sale of the Milesburg project. The Company's sale of the
   Milesburg project is discussed further under the caption "Item 1. Business -
   Milesburg". The Company also received $2,792,294 from the sale of its
   interest in the Sunnyside project on January 5, 1995. The Company's sale of
   its interest in the Sunnyside project is discussed further under the caption
   "Item 1. Business - Sunnyside".

   Property, plant and equipment - The Company invested $2,987,881, $257,059 and
   $66,449 in property, plant and equipment expenditures during the years ended
   December 31, 1997, 1996 and 1995, respectively. The expenditures primarily
   relate to development activities for the Company's Milesburg Project for
   which development efforts were accelerated during the latter part of 1996.
   During 1997, the Company's property plant and equipment expenditures also
   included certain improvements to the Scrubgrass facility which amounted to
   $125,000.

 Financing Activities

     The Company utilized $90,177, $768,517 and $2,632,099 in financing
activities during the years ended December 31, 1997, 1996 and 1995,
respectively. The Company's financing activities are concentrated primarily in
the following areas:

                                       21
<PAGE>

   Dividends - The Company declared and paid its first dividend of 8 cents per
   share in December 1995 which amounted to $923,786. Prior to that date, the
   Company's policy had been to retain earnings, if any, for use in its
   business. Beginning during 1996, the Company initiated a quarterly dividend
   program which is subject to review and consideration by the Board of
   Directors each quarter. In respect of this dividend program, the Company
   declared quarterly dividends of 3 cents per share during each of the quarters
   in the years ended December 31, 1996 and 1997. In addition, the Company also
   declared a special year end dividend of 2 cents per share in 1996 out of
   operating profits and a special dividend of 87 cents per share in 1997 out of
   the proceeds from the Milesburg buy-out which resulted in aggregate dividends
   of $1,549,250 or 14 cents per share in 1996 and $11,265,865 or 99 cents per
   share in 1997. As of December 31, 1997, the Company had dividends payable of
   $10,266,105 or 90 cents per share which were declared on December 10, 1997
   and paid on January 7, 1998. During 1997, the Company also paid dividends to
   its subsidiary's preferred stockholder in the amount of $30,178. The
   preferred stockholder, entitled to cumulative dividends of $5,000 per year
   since December 1991, was paid its dividends up to date during the second
   quarter of 1997.

   Working Capital Loan - The Company may borrow up to $4 million under a Lessee
   Working Capital Loan Agreement with the Lessor for ongoing working capital
   requirements of the Scrubgrass Project. During 1997, the Company reduced its
   outstanding borrowings under the Lessee Working Capital Loan Agreement from
   $2,696,143 as of December 31, 1996 to $2,311,666 as of December 31, 1997. The
   Company believes it was in a position to reduce it outstanding borrowings
   under the Lessee Working Capital Loan Agreement primarily as a result of
   better financial management which reduced certain 1997 spending levels. The
   financial impact of the Scrubgrass extended outage did not prevent the
   Company from reducing its borrowings under the Lessee Working Capital Loan
   Agreement because the Company was able to finance the impact of this extended
   outage with the $3 million term credit facility described below, available
   restricted cash balances and extended terms for the generator repair from the
   generator manufacturer.

   Term Credit Facility - In June 1997, the Lessor entered into a three year
   credit facility with the lenders of the Scrubgrass Project to make additional
   funds available to the Scrubgrass Project to cover the cash deficiency which
   resulted from the extended annual outage of the Scrubgrass Project and
   associated costs and expenses. The maximum allowable borrowings under this
   credit facility are $3,000,000 through July 1, 1998. Beginning on July 1,
   1998, the maximum allowable borrowings under this credit facility will reduce
   in $600,000 increments every six months through July 3, 2000 when the credit
   facility will be payable in full. As of December 31, 1997, the outstanding
   borrowings under this credit facility, which were advanced to the Company by
   the Lessor, amounted to $3,000,000.

   Notes payable - In addition to the term credit facility described previously,
   the Company has other long-term obligations related to its Sunnyside Project
   and Scrubgrass Project in the amounts of $1,005,916 and $1,267,811,
   respectively as December 31, 1997. The Sunnyside Project long-term
   obligations are payable based on a schedule which relates directly to the
   amount of proceeds received from the collection of the outstanding notes
   receivable from the sale of the Company's interest in the Sunnyside Project.
   The next installment for the Scrubgrass Project long-term obligation amounts
   to $39,585 and is payable during 1998. The Company had short-term installment
   obligations related to its Sunnyside Project and Milesburg Project which were
   fully satisfied during 1996, for which aggregate payments of $139,517 and
   $186,000 were made during 1996 and 1995, respectively. Until August 26, 1997,
   the Company had long-term obligations related to the Milesburg project
   aggregating to $5,858,767. As a result of a settlement agreement dated August
   26, 1997, the Milesburg project obligations were reduced to $2,358,767. In
   addition, because certain Milesburg obligations were payable only upon the
   occurrence of events related to project development, Milesburg project
   obligations of $558,767 and accrued interest of $63,650 were released from
   liabilities during 1997 and reported as other income of $622,417 in the
   accompanying Consolidated Statement of Operations. The remainder of the
   Milesburg project obligations, which amounted to $1,800,000, were paid during
   1997. On January 5, 1995, the Company paid $1,475,000 in final settlement of
   a note obligation pertaining to its Preferred Stock.

                                       22
<PAGE>

   Common Stock - The Company received proceeds from the issuance of its Common
   Stock aggregating $124,238, $14,437 and $25,750 during 1997, 1996 and 1995,
   respectively. The Common Stock was issued solely pursuant to exercises of
   stock options.

   Treasury Stock - The Company from time to time makes purchases of its own
   common stock. The Company did not purchase any treasury stock during 1997.
   During 1996, the Company purchased 520,540 shares of common stock from a
   resigning executive officer for $287,876 representing all of the officer's
   holdings in the Company. The Company's note receivable from the officer in
   the amount of $72,876 was collected by reducing the proceeds paid to the
   officer for the common stock. During 1995, the Company made open market
   purchases of its Common Stock for $93,395.

 1998 Outlook

   During 1998, the Company expects that its principal sources of cash to fund
its business activities will be from available cash balances, investment
earnings and cash which may become available from the Scrubgrass Project. As
discussed in Note A to the Consolidated Financial Statements, the Company is not
able to receive cash from the Scrubgrass Project until all operating expenses,
base lease payments (which include the Lessor's debt service), certain
maintenance reserve payments and other subordinated payments of the Scrubgrass
Project are first satisfied.

   As discussed under the caption "Results of Operations - 1998 Outlook", the
Company expects that the Scrubgrass Project will be profitable in 1998 and will
generate cash flows from its operating activities. However, the Company
anticipates that a significant portion of the expected cash flows in 1998 will
be utilized for debt and maintenance reserve repayments. According to the terms
of certain Scrubgrass Project obligations, the Company will be required to pay
down the $3 million term credit facility to $2,400,000 by July 1, 1998 and to
$1,800,000 by January 4, 1999 and make an installment payment in 1998 of $39,585
under the $1.3 million Scrubgrass Project note. Furthermore, pursuant to the
provisions of certain Scrubgrass Project agreements, the Company will be
required to make additional scheduled deposits of $82,275 to replenish
restricted cash balances which were used to finance certain 1997 maintenance
expenses. However, as discussed under "Item 1. Business - Scrubgrass", Buzzard
is required to pay the Lessor, in addition to a specified base rent, an
additional rent of 50 percent of the net cash flows Buzzard receives from the
Scrubgrass Project. Therefore, the Company would expect to realize a savings in
its additional rent expense to the extent of 50 percent of any required debt and
maintenance reserve repayments. As such, the Company expects that the cash flows
which may become available in 1998 from the Scrubgrass Project would only be
reduced by 50 percent of any required debt and maintenance reserve repayments.

     The Company continues to address the issue of Year 2000 compliance. During
the year ended December 31, 1996, the Company replaced all of the software at
its corporate office with software which is Year 2000 compliant. The Company has
reviewed all of the software at the Scrubgrass facility for Year 2000 compliance
and is in the process of either upgrading or replacing this software in
accordance with a schedule which would ensure Year 2000 compliance prior to the
year 2000. The Company does not expect that any future expenditures for software
upgrades or replacements at the Scrubgrass facility related to Year 2000
compliance would have a material impact on the Company's results of operations
or financial position. The Company continues to consider whether there are
issues with Year 2000 compliance at its customer, or any of its vendors, which
could adversely affect its operations. Presently, the Company's management is
unable to assess whether there would be any impact on its operations if its
customer, or any of its vendors, fail to ensure that their computer systems are
Year 2000 compliant.

   The Company is optimistic about the future performance of the Scrubgrass
Project which is expected to achieve consistent earnings for the foreseeable
future. Notwithstanding, the Scrubgrass Project will obviously bear the burden
of repaying the debt obligations relating to the extended outage of the
Scrubgrass Project in the near term. Nevertheless, the Company believes that the
cash flows which may become available from the Scrubgrass Project, together with
cash reserves which the Company estimates were approximately $1 million at
December 31, 1997, would be sufficient to fund the Company's business activities
on a long-term basis. However, the payment of any future dividends will depend
on the Board of Directors' evaluation, made on a quarterly basis, based on the

                                       23
<PAGE>

Company's then current and projected operating performance and capital
requirements. See "Certain Factors That May Affect Future Results" below.

Certain Factors That May Affect Future Results

     The following important factors, among others, could cause actual results
to differ materially from those indicated by forward-looking statements made in
this Annual Report on Form 10-K.

  Ownership of Single Operating Asset

     The Company owns a 22 year leasehold interest in the Scrubgrass Project, an
approximate 83 Mw (net) waste-coal fired electric generating facility located in
Pennsylvania, the lease for which commenced on June 30, 1994. Presently, all the
Company's operating revenues are attributable to power generation from the
Scrubgrass Project. Accordingly, the Company's operations are largely dependent
upon the successful and continued operation of the Scrubgrass Project. In
particular, if the Scrubgrass Project experiences unscheduled shutdowns of
significant duration, the Company's results of operations will be materially
adversely affected.

  Dependence Upon Key Employees

     The success of the Company is largely dependent upon a staff of four full-
time employees and one part-time employee, including three executive officers.
The loss of any of these employees could adversely effect the Company's
operations.

  Third Party Project Management

     The Company has entered into a management services agreement with U.S. Gen
to manage the Scrubgrass Project and a 15-year operations and maintenance
agreement with U.S. Operating Services to operate the facility. Under the terms
of these agreements, there are provisions which limit the Company's
participation in the management and operation of the Scrubgrass Project, and
provisions which provide for recourse against the manager and operator for
unsatisfactory performance. However, the Company does not exercise control over
the operation or management of the Scrubgrass Project. As such, decisions may be
made affecting the Scrubgrass Project, notwithstanding the Company's opposition,
which may have an adverse effect on the Company.

  Scheduled and Unscheduled Shutdowns

     The Scrubgrass Project from time to time experiences both scheduled and
unscheduled shutdowns. Periodically, the Scrubgrass Project incurs scheduled
shutdowns in order to perform maintenance procedures to equipment that cannot be
performed while the equipment is operating. Occasionally, the Scrubgrass Project
may also incur unscheduled shutdowns or may be required to operate at reduced
capacity levels following the detection of equipment malfunctions, or following
minimum generation orders received by the utility. During periods when the
Scrubgrass Project is shutdown or operating at reduced capacity levels, the
Company may incur losses due to the loss of its operating revenues and/or due to
additional costs which may be required to complete any maintenance procedures.
It is not possible for the Company to predict the frequency of future
unscheduled shutdowns or to predict the extent of maintenance which may be
required during shutdowns related to equipment maintenance.

  Legal Proceedings

     As discussed in Item 3 and Note N to the Company's Consolidated Financial
Statements, the Company is involved in a legal proceeding with the purchasers of
the Company's interest in the Sunnyside Project which was sold in 1994. Pending
the resolution of the legal proceeding, the purchasers have withheld scheduled
payments of principal and interest due on the promissory notes since June 1996,
which amounted to $2,937,500 and $515,068, respectively as of December 31, 1997.
In addition, the Company recorded in 1994 a receivable related to a purchase
price adjustment, as provided for in the Purchase and Sale Agreement, of
approximately $1.1 million, of

                                       24
<PAGE>

which $708,000 was received in April 1995. The balance of purchase price
adjustment is also being disputed in the legal proceeding with the purchasers.
Although the Company's available cash and cash provided by operating activities
has been sufficient to fund the Company's investing and financing activities,
the withholding of scheduled principal and interest payments has adversely
affected the Company's cash flow. At this time, while management believes the
Company's position in this litigation is meritorious, the Company cannot predict
whether it will prevail in the litigation and to what extent it will incur
professional fees to defend its position in the litigation. An unfavorable
resolution and/or extensive professional fees to defend the litigation could
adversely affect the Company's results of operations.

  Financial Results

     To date the Company has incurred substantial losses, primarily due to its
development activities, which have resulted in an accumulated deficit of
$2,737,478 as of December 31, 1997.  While the Company was profitable overall
during 1997, the Company incurred a loss from the operation of the Scrubgrass
Project during 1997 due to an unforeseen repair to the generator at the
Scrubgrass facility.  Financial results can be affected by numerous factors,
including without limitation general economic conditions, cyclic industry
conditions, the amount and rate of growth of expenses, transportation and
quality of raw materials, inflation, levels of energy rates, uncertainties
relating to government and regulatory policies, the legal environment and
volatile and unpredictable developments like the generator repair.  The Company
believes it is well positioned to handle such matters as they may arise during
the course of its future business activities.  However, there can be no
assurance that the Company will be profitable in the future.

  Development Uncertainties

     From time to time, the Company invests its resources to develop power
generating facilities or invest in other projects of a development nature.   The
successful development of power generating facilities or similar projects
typically require the Company to obtain all of the necessary site agreements,
fuel supply contracts, design/build agreements, power sales contracts, licenses,
environmental and other permits, local government approvals or financing
commitments required to complete such projects.  However, the failure to
accomplish any of the aforementioned steps could materially increase the cost or
prevent the successful completion of projects under development, or cause the
Company to abandon the pursuit of such development projects and incur the loss
of its investment to date, which could materially impact the Company's business
and results of operations.

 Potential Liability, Damages and Insurance

     The Company's power generation activities involve significant risks to the
Company for environmental damage, equipment damage and failures, personal injury
and fines and costs imposed by regulatory agencies.  In the event a liability
claim is made against the Company, or if there is an extended outage or
equipment failure or damage at the Company's power plant for which it is
inadequately insured or subject to a coverage exclusion, and the Company is
unable to defend such claim successfully or obtain indemnification or warranty
recoveries, there may be a material adverse effect on the Company.

 Circulating Fluidized Bed Technology

     The Company's Scrubgrass Project employs circulating fluidized bed
technology to produce electricity.  Certain aspects of this technology, as well
as the conversion of waste products into electricity, are relatively new areas
being explored by the alternative energy market in the last ten years.
Accordingly, this technology carries greater risk than more established methods
of power generation such as hydropower.  As such, the long-term costs and
implications of maintaining this technology have not been established by
historical industry data.

                                       25
<PAGE>

Customer Concentration

     The Company's power generation revenues are earned under a long-term power
purchase agreement with one customer, Pennsylvania Electric Company.  The
Company expects that the concentration of its revenues with this customer will
continue for the foreseeable future.

 Interest Rates

     The Company's subsidiary, as a lease cost of the Scrubgrass facility, is
required to fund the Lessor's debt service which primarily consists of $135.6
million of variable rate tax-exempt bonds maturing through 2012, an $18.6
million remaining term loan maturing through 2005, a $10.7 million variable rate
term loan maturing through 2004 and $.7 million in remaining junior subordinated
debt obligations which mature through 2004.  The Company's subsidiary is also
required to fund a variable rate working capital loan, a $1.3 million variable
rate term loan maturing through 2004 and $3 million in advances from the
Lessor under a variable rate credit agreement executed in June 1997. The Lessor
entered into interest rate swaps which had the effect of fixing the interest
rate on the tax-exempt bonds until May 18, 1996 at approximately 3.72% and
fixing the interest rate over the life of the $18.6 million remaining term loan
at 6.42%. After May 18, 1996, the Company's specified base rent was incurred
based on floating rates on the Lessor's tax-exempt bonds. As such, except for
the Lessor's $18.6 million remaining term loan and $.7 million remaining junior
subordinated debt obligations, the Company will be required to fund debt service
consisting of rates which will vary with market conditions. Presently, the
Company is not able to predict how future interest rates will affect its lease
expense or debt service. Should market interest rates rise significantly, the
Company's operating results may be significantly impacted. Notwithstanding, the
Company believes the Lessor has good relationships with the project lenders who
would continue to support lending terms which would not have a material adverse
affect on the operating results of the Scrubgrass Project. However, there can be
no assurance that the Lessor could renegotiate its credit facilities under terms
which would ensure continuing profitable operating results of the Scrubgrass
Project.

Fuel Quality

  The Company obtains waste coal primarily from coal mining companies on a long-
term basis because waste coal is plentiful and generally creates environmental
hazards, such as acid drainage, when not disposed of properly.  The waste coal
is burned in the Scrubgrass facility using a circulating fluidized bed
combustion system.  During the circulating fluidized bed combustion process, the
waste coal is treated with other substances such as limestone. Depending on the
quality of the waste coal, the facility operator may need to add additional
waste coal or other substances to create the appropriate balance of substances
which would result in the best fuel or sorbent consistency for power generation
and compliance with air quality standards.  Therefore, the cost of generating
power is directly impacted by the quality of the waste coal which supplies the
Scrubgrass power generation facility. The facility operator maintains certain
controls over obtaining higher quality waste coal.  However certain conditions,
such as poor weather, can create situations where the facility operator has less
control over the quality of the waste coal. The Company cannot predict the
extent to which poor fuel quality may impact its future operating results.

Competition

     The Company generates electricity using alternative energy sources which is
sold on a wholesale basis under long-term contracts to utilities under rates
established in power purchase agreements and approved by regulatory agencies.
The independent power industry has grown rapidly over the past twenty years.
There are a large number of suppliers in the wholesale market and a surplus of
capacity which has led to intense competition in this market.   The principal
sources of competition in this market include traditional regulated utilities
who have excess capacity, unregulated subsidiaries of regulated utilities,
energy brokers and traders, energy service companies in the development and
operation or energy-producing projects and the marketing of electric energy,
equipment suppliers and other non-utility generators like the Company.
Competition in this industry is substantially based on price with competitors
discovering lower cost alternatives to providing electricity.  The

                                       26
<PAGE>

electric industry is also characterized by rapid changes in regulations which
the Company expects could continue to increase competition. For instance, as
discussed under the caption "Energy Markets", the electric industry has been
previously affected by legislation such as PURPA and the Energy Act which have
encouraged companies other than utilities to enter the electric power business
by reducing regulatory constraints. More recently, as discussed under the
caption "Energy Regulation", there has been new state legislation to deregulate
the generation component of the electric business. Furthermore, as discussed
under the caption "Energy Regulation", proposed changes to repeal or modify
PUHCA and PURPA could reduce regulatory restrictions placed on electric
utilities and encourage them to seek new sources of electric power. Any of these
regulatory matters, among others, could increase competition for electric power.
Other than the risk that PENELEC will seek to renegotiate the terms of the
Scrubgrass power purchase agreement (see further discussion under the caption
"Energy Regulation"), the Company does not believe it will be significantly
impacted by competition in the wholesale energy market since its revenues are
subject to contracted rates which are substantially fixed for several years.
However, the contracted rates in the later years of the Scrubgrass power
purchase agreement switch to rates which vary more closely with existing market
conditions. Should ensuing competition in the later years of the Scrubgrass
power purchase agreement create downward pressure on wholesale energy rates, the
Company's profitability could be impacted.

     The Company also competes in the market to develop power generation
facilities.  The primary bases of competition in this market are the quality of
development plans, the ability of the developer to finance and complete the
project and the price.  In certain cases, competitive bidding for a development
opportunity is required.  Competition for attractive development opportunities
is expected to be intense as there are a number of competitors in the industry
interested in the limited number of such opportunities.  Many of the companies
competing in this market have substantially greater resources than the Company.
The Company believes its project development experience and its experience in
creating strategic alignments with other development firms with greater
financial and technical resources could enable it to continue to compete
effectively in the development market when opportunities arise. Presently, the
Company believes there are limited opportunities for additional project
development in the United States for projects similar to those previously
developed by the Company.  However, the Company is currently evaluating whether
it should seek development opportunities in new areas.

     Presently, there is significant merger and consolidation activity occurring
in the electric industry.  From time to time, the Company considers merger and
acquisition proposals when they appear to present an opportunity to enhance
shareholder value.

Energy Regulation

     The Company's projects are subject to regulation under federal and state
energy laws and regulations.  The Company's facilities are either self-certified
as a Qualifying Facility under the PURPA, or formally certified as a Qualifying
Facility by the Federal Energy Regulatory Commission ("FERC").  Pursuant to
PURPA, FERC has promulgated regulations which exempt certain Qualifying
Facilities from the Federal Power Act of 1920, PUHCA, and, except under certain
limited circumstances, state laws regulating the rates charged by electric
utilities.  In order to qualify under PURPA, the Company's facilities must meet
certain size, fuel and ownership requirements and/or co-generate.  In addition
to the regulation of Qualifying Facilities, PURPA requires that electric
utilities purchase electric energy produced by qualifying facilities at
negotiated rates or at a price equal to the incremental or avoided cost that
would have been incurred by the utility if it were to generate the power itself
or purchase it from another source.  The Company is not presently subject to
regulation under PUHCA and does not presently intend to engage in any activities
that would cause it to be so regulated.

     The Company believes that changes in PURPA, PUHCA and other related federal
statutes could occur in the next several years.  The nature and impact of such
changes on the Company's projects is unknown at this time. Presently, there are
several legislative proposals pending in Congress which propose amendments to
certain regulations promulgated by PURPA.  If Congress amends PURPA, the
statutory requirement that electric utilities purchase electricity from
Qualifying Facilities at full avoided cost could be repealed or modified.  While
current legislative proposals specify the honoring of existing contracts, the
repeal or modification of these statutory purchase requirements under PURPA in
the future could increase pressure for electric utilities to renegotiate

                                       27
<PAGE>

existing contracts.  Should there be changes in statutory purchase requirements
under PURPA, and should these changes result in amendments which reduce the
contracted rates under the Scrubgrass power purchase agreement, the Company's
results of operations and financial position could be negatively impacted.

         State public utility commissions, pursuant to state legislative
authority, may have jurisdiction over how any new federal initiatives are
implemented in each state. Although the FERC generally has exclusive
jurisdiction over the rates charged by an independent power project to its
wholesale customers, state public utility commissions have the practical ability
to influence the establishment of such rates by asserting jurisdiction over the
purchasing utility's ability to pass through the resulting cost of purchased
power to its retail customers. In addition, although thought to be unlikely,
states may assert jurisdiction over the siting and construction of independent
power projects and, among other things, the issuance of securities and the sale
and transfer of assets. The actual scope of jurisdiction over independent power
projects by state public utility regulatory commissions varies from state to
state. Presently, through its power purchase agreement with PENELEC, the
Scrubgrass Project is indirectly subject to state legislation in the
Commonwealth of Pennsylvania.

         In recent years, in response to changes in the electric industry, the
Commonwealth of Pennsylvania has passed new legislation most notably in the area
of deregulating the generation portion of the electric business.  On December 3,
1996, the Commonwealth of Pennsylvania passed new legislation known as the
Electricity Generation Customer Choice and Competition Act (Customer Choice Act)
which became effective on January 1, 1997.  The Customer Choice Act permits all
Pennsylvania retail electric customers to choose their electric generation
supplier over a phase-in period which expires December 31, 2000.  The Customer
Choice Act has required that all electric utilities file restructuring plans
with the PUC which, among other things, included unbundled prices for electric
generation, transmission and distribution and a competitive transition charge
("CTC") for the recovery of "stranded costs" which would be paid by all
customers receiving distribution service and certain customers that increase
their own generation of electricity. "Stranded costs" generally are electric
generation-related costs that traditionally would be recoverable in a regulated
environment but may not be recoverable in a competitive electric generation
market.

         Presently, none of the new or proposed legislation directly impacts the
Company since the legislation pertains to the retail market or new contracts in
the wholesale market.  However, as discussed previously, the Company could be
impacted in the future by, among other things, increases in competition as a
result of deregulation, or increasing pressure on electric utilities to
renegotiate existing power contracts.  The Company is actively monitoring these
developments in energy proceedings in order to evaluate the impact on its
projects and also to evaluate new business opportunities created by the
restructuring of the electric industry.

Environmental Regulation

         The Company's projects are subject to regulation under federal, state
and local environmental and mining laws and regulations and must also comply
with the applicable federal, state and local laws pertaining to the protection
of the environment, primarily in the areas of water and air pollution. These
laws and regulations in many cases require a lengthy and complex process of
obtaining and maintaining licenses, permits and approvals from federal, state
and local agencies. As regulations are enacted or adopted in any of these
jurisdictions, the Company cannot predict the effect of compliance therewith on
its business. The Company's failure to comply with all applicable requirements
could result in delays in proceeding with any projects under development or
require modifications to operating facilities. During periods of non-compliance,
the Company's operating facilities may be forced to shutdown until the non-
compliances are corrected. The Company is responsible for ensuring compliance of
its facilities with all applicable requirements and, accordingly, attempts to
minimize these risks by dealing with reputable contractors and using appropriate
technology to measure compliance with the applicable standards.

Item 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

         The financial statements listed in the following Index to Financial
Statements are filed as a part of this annual report under Item 14 - Exhibits,
Index to Financial Statements, and Reports on Form 8-K.

                                       28
<PAGE>

                         Index to Financial Statements

<TABLE>
<CAPTION>

                                                                                                      Page
                                                                                                      ----
ENVIRONMENTAL POWER CORPORATION AND SUBSIDIARIES
<S>                                                                                                   <C>
Independent Auditors' Report                                                                          F-1
Consolidated Balance Sheets as of  December 31, 1997 and 1996                                         F-2
Consolidated Statements of Operations for the Years Ended December 31, 1997, 1996 and 1995            F-3
Consolidated Statements of Shareholders' (Deficit) Equity for the Years Ended
December 31, 1997, 1996 and 1995                                                                      F-4
Consolidated Statements of Cash Flows for the Years Ended December 31, 1997, 1996 and 1995            F-5
Notes to Consolidated Financial Statements                                                            F-6
</TABLE>

Item 9.    DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

           N/A

                                 PART III

Item 10.    DIRECTORS AND EXECUTIVE OFFICERS

  Information with respect to the directors of the Company may be found in the
section captioned "Occupations of Directors" appearing in the definitive Proxy
Statement to be delivered to shareholders in connection with the Annual Meeting
of Shareholders to be held on June 23, 1998.  Such information is incorporated
herein by reference.

The executive officers of the Company are as follows:

<TABLE>
<CAPTION>

     Name                     Age               Position
     ----                     ---               --------
<S>                           <C>   <C>
Joseph E. Cresci              55    Chairman and Chief Executive Officer

Donald A. Livingston          55    President and Chief Operating Officer

William D. Linehan            32    Treasurer, Secretary and Chief Financial Officer
</TABLE>

Officers are elected annually by the Board of Directors and serve at the
discretion of the Board.

  Joseph E. Cresci, a founder of the Company, has served as Chairman and Chief
Executive Officer since the Company's inception in 1982, as Treasurer of the
Company from its inception until September 1987 and as President from inception
until September 1991.  From 1976 to 1982, Mr. Cresci was President and Chief
Executive Officer of G.E. Stimpson Co., Inc. and Stimpson Systems, Inc., a
distributor of office and printing products.  From 1972 to 1975, Mr. Cresci was
President of Ogden Recreation, Inc., a subsidiary of Ogden Corp. (NYSE) where he
was responsible for the operation of racing facilities, a hotel/resort, a
parking company and a promotions company providing services to large crowd
facilities.  Mr. Cresci was Executive Vice President and Chief Operating Officer
of Garden State Racing Association from 1969 to 1972.  From 1967 to 1969, he was
an associate lawyer with the Philadelphia law firm of Townsend, Elliott and
Munson.  Mr. Cresci holds a B.A. degree from Princeton

                                       29
<PAGE>

University and a law degree from Cornell Law School and is a member of the
Pennsylvania and Massachusetts Bar Associations.

     Donald A. Livingston, a founder of the Company, has served as President and
Chief Operating Officer since September 1991, and as Executive Vice President
from the Company's inception until September 1991. From 1974 to 1982, Mr.
Livingston was President and Chief Executive Officer of Green Mountain
Outfitters, Inc., a manufacturer and distributor of large plastic parts.  During
the three previous years, he was a partner in the financial services firm of
Capital Resources, Inc., where he was involved in obtaining debt and equity
funds, and negotiating mergers and acquisitions.  Mr. Livingston was a
registered representative in the retail stock brokerage business with Baxter,
Blyden and Selheimer from 1967 to 1971 and Bellamah, Neuhauser & Barrett from
1965 to 1967.

     William D. Linehan has served as Treasurer, Secretary and Chief Financial
Officer of the Company since March 29, 1996.  Prior to his employment with the
Company, Mr. Linehan was most recently employed since 1993 as manager in the
audit and consulting practice of Moody, Cavanaugh and Company, where he
specialized in providing audit, tax advisory and business consulting services to
closely-held corporations.  From 1991 to 1993, Mr. Linehan was the Controller of
Technology Procurement, Inc. and later the Secretary and Treasurer of Computer
Finance and Rental, Inc., a corporation formed in 1993 after a corporate
reorganization of Technology Procurement, Inc., where he was responsible for
managing the accounting and financial activities of these corporations, which
both were distributors and lessors of computer equipment and related peripheral
products.  From 1987 to 1991, Mr. Linehan was employed in the middle market
audit and consulting practice of KPMG Peat Marwick, where he advanced to the
position of supervisor and specialized in providing audit and management
advisory services to publicly-traded and privately-held growth companies.  Mr.
Linehan, who received a Bachelor of Science Degree in Accountancy from Bentley
College in 1987, is a Certified Public Accountant in the Commonwealth of
Massachusetts and a member of the American Institute of Certified Public
Accountants.

Item 11.   EXECUTIVE COMPENSATION

     Information with respect to this item may be found in the section captioned
"Compensation and Other Information Concerning Directors and Officers" appearing
in the definitive Proxy Statement to be delivered to shareholders in connection
with the Annual Meeting of Shareholders to be held on June 23, 1998.  Such
information is incorporated herein by reference.

Item 12.     SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

     Information with respect to this item may be found in the sections
captioned "Principal Holders of Voting Securities" and "Election of Directors"
appearing in the definitive Proxy Statement to be delivered to shareholders in
connection with the Annual Meeting of Shareholders to be held on June 23, 1998.
Such information is incorporated herein by reference.

Item 13.     CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

     Information with respect to this item may be found in the section captioned
"Compensation and Other Information Concerning Directors and Officers" appearing
in the definitive Proxy Statement to be delivered to shareholders in connection
with the Annual Meeting of Shareholders to be held on June 23, 1998.  Such
information is incorporated herein by reference.

                                       30
<PAGE>

                                    PART IV

Item 14. INDEX TO FINANCIAL STATEMENTS, EXHIBITS, AND REPORTS ON FORM 8-K

The following documents are filed as part of this annual report:

     (a) 1.    Consolidated Financial Statements


                    ENVIRONMENTAL POWER CORPORATION AND SUBSIDIARIES

<TABLE>
<CAPTION>
                                                                                                          Page
                                                                                                          ----
<S>                                                                                                       <C>
Independent Auditors' Report                                                                               F-1
Consolidated Balance Sheets as of December 31, 1997 and 1996                                               F-2
Consolidated Statements of Operations for the Years Ended December 31, 1997, 1996 and 1995                 F-3
Consolidated Statements of Shareholders' (Deficit) Equity for the Years Ended
December 31, 1997, 1996 and 1995                                                                           F-4
Consolidated Statements of Cash Flows for the Years Ended December 31, 1997, 1996 and 1995                 F-5
Notes to Consolidated Financial Statements                                                                 F-6
</TABLE>

  (a) 2. Financial Statement Schedules

  The Company is not required to file any financial statement schedules which
are outlined in Article 5 of the Securities and Exchange Commission regulations.

  (a) 3.    Exhibits

  The following Exhibits are included in this report:

<TABLE>
<CAPTION>

            Exhibit                                                               Incorporation
            Number      Description                                                 Reference
           --------     -----------                                               -------------
           <S>        <C>                                                         <C>
            3.01      Certificate of Incorporation, as amended.                         A

            4.02      Bylaws of the Registrant, as amended.                             B

            10.01     Joint Development Agreement among Milesburg Energy, Inc.,         E
                      U.S. Gen and Environmental Power Corporation dated July 30,
                      1996 (a written request for confidential treatment of certain
                      proprietary information in this agreement has been filed with
                      the United States Securities and Exchange Commission)

            10.12     Stock Purchase Agreement for 20,000 shares of common stock of     F
                      Milesburg Energy, Inc., between Environmental Power
                      Corporation and Neil W. Hedrick, Richard Mase and Sylvia B.
                      Mase, dated April 30, 1987.

            10.13     Non-resource Secured Note of Environmental Power Corporation      F
                      to Neil W. Hedrick, Richard Mase and Sylvia B. Mase for
                      $220,000, dated April 30, 1987.

            10.14     Non-resource Secured Note of Environmental Power Corporation      F
                      to Neil W. Hedrick, Richard Mase and Sylvia B. Mase for
                      $4,900,000, dated April 30, 1987.

            10.15     Note of Milesburg Energy, Inc., to Antrim Mining, Inc., for       F
                      $41,000, dated April 30, 1987.
</TABLE>

                                       31
<PAGE>

<TABLE>
<CAPTION>

          <S>      <C>                                                               <C>
          10.16    Note of Milesburg Energy, Inc., to Richard Mase and Sylvia B.     F
                   Mase for $139,000, dated April 30, 1987.

          10.17    Electric Energy Purchase Agreement between West Penn Power        F
                   Company and Milesburg Energy, dated February 25, 1987.

          10.18    Agreement for the Sale of Electric Energy from the Scrubgrass     F
                   Generating Plant by and between Pennsylvania Electric Company
                   and Scrubgrass Power Corporation dated August 7, 1987 which
                   was assigned by Scrubgrass Power Corporation to Scrubgrass
                   Generating Company, L.P. on December 15, 1990 and assigned by
                   Scrubgrass Generating Company, L.P. to Buzzard Power
                   Corporation on June 17, 1994.

          10.19    Supplemental Agreement for the Sale of Electric Energy from       F
                   the Scrubgrass Generating Plant by and between Pennsylvania
                   Electric Company and Scrubgrass Power Corporation dated
                   February 22, 1989, as amended by letter agreement dated March
                   28, 1989, which was assigned by Scrubgrass Power Corporation
                   to Scrubgrass Generating Company, L.P. on December 15, 1990
                   and assigned by Scrubgrass Generating Company, L.P. to
                   Buzzard Power Corporation on June 17, 1994.

          10.20    Second Supplemental Agreement for the Sale of Electric Energy     F
                   from the Scrubgrass Generating Plant by and between
                   Pennsylvania Electric Company and Scrubgrass Power
                   Corporation dated September 27, 1989 which was assigned by
                   Scrubgrass Power Corporation to Scrubgrass Generating
                   Company, L.P. on December 15, 1990 and assigned by Scrubgrass
                   Generating Company, L.P. to Buzzard Power Corporation on June
                   17, 1994.

          10.21    Third Supplemental Agreement for the Sale of Electric Energy      F
                   from the Scrubgrass Generating Plant by and between
                   Pennsylvania Electric Company and Scrubgrass Power
                   Corporation dated August 13, 1990 which was assigned by
                   Scrubgrass Power Corporation to Scrubgrass Generating
                   Company, L.P. on December 15, 1990 and assigned by Scrubgrass
                   Generating Company, L.P. to Buzzard Power Corporation on June
                   17, 1994.

          10.22    Amendment to the Third Supplemental Agreement for the Sale of     F
                   Electric Energy from the Scrubgrass Generating Plant by and
                   between Pennsylvania Electric Company and Scrubgrass Power
                   Corporation dated November 27, 1990 which was assigned by
                   Scrubgrass Power Corporation to Scrubgrass Generating
                   Company, L.P. on December 15, 1990 and assigned by Scrubgrass
                   Generating Company, L.P. to Buzzard Power Corporation on June
                   17, 1994.

          10.23    Letter Agreement dated December 20, 1990 amending the             F
                   Agreement for the Sale of Electric Energy from the Scrubgrass
                   Generating Plant by and between Pennsylvania Electric Company
                   and Scrubgrass Power Corporation dated August 7, 1987, as
                   amended and supplemented from time to time through November
                   27, 1990, which was assigned by Scrubgrass Power Corporation
                   to Scrubgrass Generating Company, L.P. on December 15, 1990
                   and assigned by Scrubgrass Generating Company, L.P. to
                   Buzzard Power Corporation on June 17, 1994.

          10.57    1990 Stock Plan with forms of Incentive Stock Option              F
                   Agreement and Non-Qualified Stock Option Agreement.
</TABLE>

                                       32
<PAGE>

<TABLE>
<CAPTION>

          <S>      <C>                                                               <C>
          10.60    Management Services Agreement by and between Scrubgrass           F
                   Generating Company, L.P. and PG&E-Bechtel Generating Company
                   dated December 15, 1990 which was assigned by Scrubgrass
                   Generating Company, L.P. to Buzzard Power Corporation on June
                   17, 1994. PG&E-Bechtel Generating Company has assigned its
                   rights to this agreement ultimately to U.S. Gen. Exhibit A
                   to this agreement was omitted because it was previously filed
                   as Exhibit 10.67.

          10.61    Agreement for Operation and Maintenance of the Scrubgrass         F
                   Cogeneration Plant between Scrubgrass Generating Company,
                   L.P. and Bechtel Power Corporation dated December 21, 1990
                   which was assigned by Scrubgrass Generating Company, L.P. to
                   Buzzard Power Corporation on June 17, 1994.  Bechtel Power
                   Corporation has assigned its rights to this agreement
                   ultimately to U.S. Operating Services Company.

          10.62    First Amendment to the Agreement for Operation and                F
                   Maintenance of the Scrubgrass Cogeneration Plant between
                   Buzzard Power Corporation and U.S. Operating Services Company
                   dated December 22, 1995.

          10.67    Appendix I to the Amended and Restated Participation              D
                   Agreement, dated as of December 22, 1995, among Buzzard Power
                   Corporation, Scrubgrass Generating Company, L.P.,
                   Environmental Power Corporation, Bankers Trust Company and
                   Credit Lyonnais, which Appendix defines terms used and not
                   otherwise defined in other contracts.

          10.70    Stock Pledge Agreement, dated December 19, 1991, between
                   Environmental Power Corporation and Scrubgrass Generating
                   Company, L.P.

          10.71    Amended and Restated Participation Agreement, dated as of         D
                   December 22, 1995, among Buzzard Power Corporation,
                   Scrubgrass Generating Company, L.P., Environmental Power
                   Corporation, Bankers Trust Company and Credit Lyonnais.

          10.72    Amendment No. 1, dated as of May 22, 1997, to the Amended and     G
                   Restated Participation Agreement, dated as of December 22,
                   1995, among Buzzard Power Corporation, Scrubgrass Generating
                   Company, L.P., Environmental Power Corporation, Bankers Trust
                   Company and Credit Lyonnais.

          10.73    Director Option Plan.                                             B

          10.80    Amended and Restated Lease Agreement between Scrubgrass           F
                   Generating Company, L.P., a Delaware limited partnership, as
                   Lessor, and Buzzard Power Corporation, a Delaware
                   corporation, as Lessee, dated as of December 22, 1995.
                   Schedules and similar attachments listed in the Lease have
                   been omitted and the Company agrees to furnish supplementally
                   a copy of any omitted schedule or attachment to the
                   Securities and Exchange Commission upon request.

          10.81    Purchase and Sale Agreement by and among NRG Sunnyside Inc.       C
                   and B&W Sunnyside L.P. and Kaiser Systems, Inc., Kaiser Power
                   of Sunnyside, Inc., Sunnyside Power Corporation and
                   Environmental Power Corporation, dated December 31, 1994.
                   Schedules and similar attachments of the Purchase and Sale
                   Agreement have been omitted; the Company agrees to furnish
                   supplementally a copy of any omitted schedule to the
                   Securities and Exchange Commission upon request.

          10.82    Lease between Meadow Holdings Corporation and Environmental       F
                   Power Corporation, dated February 20, 1996.
</TABLE>

                                       33
<PAGE>

<TABLE>
<CAPTION>

          <S>      <C>                                                               <C>
          10.83    Amended and Restated Disbursement and Security Agreement          F
                   between Scrubgrass Generating Company, L.P., as Lessor,
                   Buzzard Power Corporation, as Lessee, Bankers Trust Company
                   as Disbursement Agent and Credit Lyonnais acting through its
                   New York Branch as Agent, dated as of December 22, 1995.
                   Schedules and similar attachments listed in this agreement
                   have been omitted and the Company agrees to furnish
                   supplementally a copy of any omitted schedule or attachment
                   to the Securities and Exchange Commission upon request.

          10.84    Amended and Restated Lessee Working Capital Loan Agreement        F
                   between Scrubgrass Generating Company, L.P., as Lender, and
                   Buzzard Power Corporation, as Lessee, dated as of December
                   22, 1995.

          10.85    Amendment No. 1, dated as of May 22, 1997, to the Amended and     G
                   Restated Disbursement and Security Agreement between
                   Scrubgrass Generating Company, L.P., as Lessor, Buzzard Power
                   Corporation, as Lessee, Bankers Trust Company as Disbursement
                   Agent and Credit Lyonnais acting through its New York Branch
                   as Agent, dated as of December 22, 1995.

          10.86    Debt Service (Tranche A) Loan Note, dated June 3, 1997, to        G
                   Credit Lyonnais acting through its New York Branch, as Bank,
                   from Scrubgrass Generating Company, L.P., as Borrower.

          10.87    Debt Service (Tranche B) Loan Note, dated June 3, 1997, to        G
                   Credit Lyonnais acting through its New York Branch, as Bank,
                   from Scrubgrass Generating Company, L.P., as Borrower.

          10.88    Debt Service (Tranche B) Loan Note, dated June 3, 1997, to        G
                   National Westminster Bank acting through its New York Branch,
                   as Bank, from Scrubgrass Generating Company, L.P., as
                   Borrower.

          10.89    Buy-Out Agreement, dated as of August 26, 1997, between West      H
                   Penn Power Company and Milesburg Energy, Inc.

          10.90    Letter Agreement, dated as of August 26, 1997, among              I
                   Environmental Power Corporation, Richard Mase, Sylvia B.
                   Mase, Neil W. Hedrick and Antrim Mining, Inc.

          11       Computation of Earnings per Share

          21       Subsidiaries of the Registrant

          23.1     Consent of Deloitte & Touche LLP

          27       Financial Data Schedule

          99.01    Order of Pennsylvania Public Utility Commission in connection     F
                   with Milesburg Energy, Inc., adopted September 21, 1989.

          Incorporation References:

          A        Previously filed as part of Registration Statement No. 33-9808 (the
                   "Registration Statement"), filed with the Securities and Exchange
                   Commission on October 28, 1986.

          B        Previously filed as part of the Company's Report on Form 10-K for the year
                   ended December 31, 1993.

          C        Previously filed as part of the Company's Report on Form 10-K for the year
                   ended December 31, 1994.

          D        Previously filed as part of the Company's Report on Form 10-K for the year
                   ended December 31, 1995.
</TABLE>


                                       34
<PAGE>

<TABLE>
<CAPTION>

  <S>          <C>
  E            Previously filed as part of the Company's Report on Form 10-Q for the
               period ended September 30, 1996.

  F            Previously filed as part of the Company's Report on Form 10-K for the year
               ended December 31, 1996.

  G            Previously filed as part of the Company's Report on Form 10-Q for the
               period ended June 30, 1997.

  H            Previously filed as part of the Company's Report on Form 8-K dated as of
               September 8, 1997.

  I            Previously filed as part of the Company's Report on Form 8-K dated as of
               December 19, 1997.
</TABLE>

 (b)  Reports on Form 8-K

    (i)  On December 19, 1997, the Registrant reported that on December 5, 1997,
         its subsidiary, Milesburg Energy, Inc., received aggregate proceeds of
         $15,328,768 from West Penn Power Company as consideration under a Buy-
         Out Agreement between the parties dated August 26, 1997.

                                       35
<PAGE>

                                   SIGNATURES

   Pursuant to the requirements of Section 13 or 15 (d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.

Dated:                                 ENVIRONMENTAL POWER CORPORATION

   March 25, 1998                 By       /s/ Joseph E. Cresci
                                      --------------------------------
                                           Joseph E. Cresci, Chairman
                                           and Chief Executive Officer


   Pursuant to the requirements of the Securities Exchange Act 1934, this report
has been signed below by the following persons on behalf of registrant and in
the capacities and on the dates indicated.
<TABLE>
<CAPTION>

         Signature                  Title                    Date
<S>                                 <C>                      <C>

  /s/ Joseph E. Cresci              Chairman, Chief          March 25, 1998
----------------------------        Executive Officer,
     Joseph E. Cresci               & Director (Principal
                                    Executive Officer)


  /s/ Donald A. Livingston          President & Chief        March 25, 1998
----------------------------        Operating Officer
    Donald A. Livingston


   /s/  William D. Linehan          Treasurer, Chief         March 25, 1998
----------------------------        Financial Officer
     William D. Linehan             & Secretary (Principal
                                    Financial Officer)


 /s/ Peter J. Blampied              Director                 March 25, 1998
----------------------------
     Peter J. Blampied

/s/ Edward E. Koehler               Director                 March 25, 1998
----------------------------
    Edward E. Koehler

/s/ Robert I. Weisberg              Director                 March 25, 1998
----------------------------
    Robert I. Weisberg
</TABLE>

                                       36
<PAGE>

                          INDEPENDENT AUDITORS' REPORT



Board of Directors and Shareholders of
  Environmental Power Corporation


We have audited the accompanying consolidated balance sheets of Environmental
Power Corporation and subsidiaries as of December 31, 1997 and 1996 and the
related statements of operations, shareholders' (deficit) equity, and cash flows
for each of the three years in the period ended December 31, 1997.  These
consolidated financial statements are the responsibility of the Corporation's
management.  Our responsibility is to express an opinion on the 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, these consolidated financial statements present fairly, in all
material respects, the financial position of Environmental Power Corporation and
subsidiaries as of December 31, 1997 and 1996, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 1997 in conformity with generally accepted accounting principles.


/s/ Deloitte & Touche LLP


New York, New York
March 23, 1998

                                      F-1
<PAGE>

ENVIRONMENTAL POWER CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS


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

CURRENT ASSETS:
    Cash  and  cash equivalents (Note B)                                        $          12,092,273       $          1,178,524
    Restricted cash (Note B)                                                                  486,659                  1,864,899
    Receivable from utility                                                                 6,538,645                  5,892,879
    Notes receivable (Note A)                                                                  39,128                     36,129
    Other current assets (Note C)                                                             881,938                    911,473
                                                                                  --------------------        -------------------
                                     TOTAL CURRENT ASSETS                                  20,038,643                  9,883,904

PROPERTY, PLANT  AND  EQUIPMENT, NET (Notes A, B, D and I)                                    129,936                  7,312,299

DEFERRED INCOME TAX ASSET (Notes B and J)                                                     817,755                  3,840,105

LEASE RIGHTS, NET (Notes A and B)                                                           2,757,519                  2,906,523

RECEIVABLE FROM SALE OF AFFILIATE (Notes A and N)                                             791,512                    497,762

NOTES  RECEIVABLE (Notes A and N)                                                           2,983,562                  3,022,690

ACCRUED POWER GENERATION REVENUES (Note B)                                                 33,362,389                 24,456,478

OTHER ASSETS (Notes A and E)                                                                  701,437                    583,383
                                                                                  --------------------        -------------------

                                                                                $          61,582,753       $         52,503,144
                                                                                  ====================        ===================
LIABILITIES AND SHAREHOLDERS' EQUITY

CURRENT LIABILITIES:
    Accounts payable and accrued expenses (Note F)                              $           6,325,062       $          5,781,933
    Dividends payable on common stock (Note K)                                             10,266,105                     --
    Other current liabilities (Note G)                                                      2,911,666                  2,696,143
                                                                                  --------------------        -------------------
                                   TOTAL CURRENT LIABILITIES                               19,502,833                  8,478,076

DEFERRED INTEREST REVENUE (Note B)                                                            220,514                     --

DEFERRED GAIN, NET (Note B)                                                                 5,705,598                  6,014,008

SECURED PROMISSORY NOTES PAYABLE
    AND OTHER BORROWINGS (Notes A and H)                                                    4,673,727                  9,340,937

ACCRUED  LEASE  EXPENSE (Note B)                                                           33,362,389                 24,456,478

MAINTENANCE RESERVE (Note B)                                                                1,995,818                  1,533,829
                                                                                  --------------------        -------------------
                                   TOTAL LIABILITIES                                       65,460,879                 49,823,328

SHAREHOLDERS' (DEFICIT) EQUITY (Note K)
    Preferred Stock ($.01 par value; 1,000,000 shares authorized; no shares
         issued at December 31, 1997 and December 31, 1996, respectively)                     --                          --
    Preferred Stock (no par value, 10 shares authorized; 10 shares
         issued at December 31, 1997 and December 31, 1996, respectively)                         100                        100
    Common Stock ($.01 par value; 20,000,000 shares authorized;
         12,525,423 and 12,195,423 shares issued at December 31, 1997 and
          December 31, 1996,respectively; 11,406,783 and 11,076,783 shares
         outstanding at December 31, 1997 and December 31, 1996, respectively)                125,254                    121,954
    Additional paid-in capital                                                                      0                 11,057,495
    Accumulated deficit                                                                    (2,737,478)                (7,282,306)
                                                                                  --------------------        -------------------
                                                                                           (2,612,124)                 3,897,243

    Treasury stock (1,118,640 common shares, at cost, as of
         December 31, 1997 and December 31, 1996, respectively)                              (456,271)                  (456,271)
    Notes receivable from officers and board members                                         (809,731)                  (761,156)
                                                                                  --------------------        -------------------
                                   TOTAL SHAREHOLDERS' (DEFICIT) EQUITY                    (3,878,126)                 2,679,816
                                                                                  --------------------        -------------------

                                                                                $          61,582,753       $         52,503,144
                                                                                  ====================        ===================
</TABLE>

See Notes to Consolidated Financial Statements.

                                      F-2
<PAGE>
ENVIRONMENTAL POWER CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS


<TABLE>
<CAPTION>
                                                                                  Year Ended December 31
                                                                   1997                    1996                     1995
                                                           --------------------    --------------------    --------------------
<S>                                                        <C>                     <C>                     <C>
POWER GENERATION REVENUES                                  $        43,763,223     $        47,853,639     $        40,693,465
                                                           --------------------    --------------------    --------------------

COSTS AND EXPENSES:
     Operating expenses                                             17,755,882              18,190,037              16,975,186
     Lease expenses (Notes A,B and L)                               24,488,005              24,792,248              23,020,132
     General and administrative expenses                             1,995,491               3,061,931               3,668,066
     Reversal of provision for nonrecovery of
            project development costs                                 (940,144)                      0                       0
     Depreciation and amortization                                     257,677                 205,341                 167,333
                                                           --------------------    --------------------    --------------------
                                                                    43,556,911              46,249,557              43,830,717
                                                           --------------------    --------------------    --------------------

OPERATING INCOME (LOSS)                                                206,312               1,604,082              (3,137,252)

OTHER INCOME (EXPENSE):
     Other income (Note A)                                             622,417                 484,295               1,284,403
     Interest income                                                   581,336                 498,975                 468,626
     Interest expense (Note I)                                        (424,395)               (336,449)               (106,783)
     Amortization of deferred gain (Note B)                            308,410                 308,411                 308,411
     Gain on sale of project (Note A)                                7,423,467                       0                       0
     Warranty income (Note A)                                                0                 900,000                       0
                                                           --------------------    --------------------    --------------------
                                                                     8,511,235               1,855,232               1,954,657
                                                           --------------------    --------------------    --------------------

INCOME (LOSS) BEFORE INCOME TAXES                                    8,717,547               3,459,314              (1,182,595)

INCOME TAX EXPENSE (BENEFIT) (Notes B and J)                         4,103,684               1,894,035                (447,984)
                                                           --------------------    --------------------    --------------------

NET INCOME (LOSS)                                          $         4,613,863     $         1,565,279     $          (734,611)
                                                           ====================    ====================    ====================

BASIC AND DILUTED EARNINGS (LOSS)
    PER COMMON SHARE (Note B)                              $              0.41     $             0.14      $             (0.07)
                                                           ====================    ====================    ====================

DIVIDENDS PAID OR PAYABLE (Note K)
     COMMON SHARES                                         $        11,265,865     $         1,549,250     $           923,786
     PREFERRED SHARES                                                   30,178                  25,178                  20,178
                                                           ====================    ====================    ====================
                                                           $        11,296,043     $         1,574,428     $           943,964
                                                           ====================    ====================    ====================

DIVIDENDS PAID OR PAYABLE PER COMMON SHARE                 $              0.99     $              0.14     $              0.08
                                                           ====================    ====================    ====================
</TABLE>

See Notes to Consolidated Financial Statements.

                                      F-3
<PAGE>

                ENVIRONMENTAL POWER CORPORATION AND SUBSIDIARIES

            CONSOLIDATED STATEMENTS OF SHAREHOLDERS' (DEFICIT) EQUITY


<TABLE>
<CAPTION>
                                                          Preferred      Preferred        Common
                                                            Stock          Stock           Stock        Additional
                                                          ($.01 Par       (No Par        ($.01 Par       Paid-in
                                                             Value)         Value)          Value)       Capital
                                                        --------------  -------------  --------------  -------------
<S>                                                   <C>             <C>            <C>             <C>
BALANCE AT JANUARY 1, 1995                            $           187 $          100 $       106,822 $   13,963,993

      Preferred stock retired                                    (187)                                     (890,673)
      Exercise of options                                                                     14,632        443,274
      Dividends paid (Note K)                                                                              (923,786)

                                                        --------------  -------------  --------------  -------------
BALANCE AT DECEMBER 31, 1995                                        0            100         121,454     12,592,808

      Exercise of options                                                                        500         13,937
      Dividends paid (Note K)                                                                            (1,549,250)

                                                        --------------  -------------  --------------  -------------
BALANCE AT DECEMBER 31, 1996                                        0            100         121,954     11,057,495

      Exercise of options                                                                      3,300        169,513
      Dividends paid (Note K)                                                                           (11,227,008)
                                                        --------------  -------------  --------------  -------------

BALANCE AT DECEMBER 31, 1997                          $             0 $          100 $       125,254 $            0
                                                        ==============  =============  ==============  =============
<CAPTION>
                                                                                                          Notes
                                                                                                        Receivable
                                                          Unearned      Accumulated      Treasury          From
                                                         Compensation     Deficit          Stock         Officers
                                                        -----------------------------  --------------  -------------
<S>                                                   <C>             <C>            <C>             <C>
BALANCE AT JANUARY 1, 1995                            $      (147,281)$   (8,112,974)$      (965,860)$     (401,876)

      Net loss                                                              (734,611)
      Preferred stock retired                                                                890,860
      Exercise of options                                                                                  (432,156)
      Purchase of common shares                                                              (93,395)
      Amortization of unearned compensation (Note K)           80,340

                                                        --------------  -------------  --------------  -------------
BALANCE AT DECEMBER 31, 1995                                  (66,941)    (8,847,585)       (168,395)      (834,032)

      Net income                                                           1,565,279
      Purchase of common shares                                                             (287,876)        72,876
      Amortization of unearned compensation (Note K)           66,941

                                                        --------------  -------------  --------------  -------------
BALANCE AT DECEMBER 31, 1996                                        0     (7,282,306)       (456,271)      (761,156)

      Net income                                                           4,613,863
      Exercise of options                                                                                   (48,575)
      Dividends paid (Note K)                                                (69,035)
                                                        --------------  -------------  --------------  -------------

BALANCE AT DECEMBER 31, 1997                          $             0 $   (2,737,478)$      (456,271)$     (809,731)
                                                        ==============  =============  ==============  =============
</TABLE>

See Notes to Consolidated Financial Statements.

                                      F-4
<PAGE>

ENVIRONMENTAL POWER CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS


<TABLE>
<CAPTION>
                                                                                          Year Ended December 31
                                                                                1997               1996               1995
                                                                          ----------------   ----------------   -----------------
<S>                                                                       <C>                <C>                <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
    Net income (loss)                                                     $     4,613,863    $     1,565,279    $       (734,611)
    Adjustments to reconcile net income (loss) to net cash
       (used in) provided by operating activities:
          Depreciation and amortization                                           257,677            205,341             167,333
          Gain on sale of project                                              (7,423,467)               ---
          Deferred income taxes                                                 3,014,660          1,703,124            (547,984)
          Amortization of deferred gain                                          (308,410)          (308,411)           (308,411)
          Reversal of provision for nonrecovery of project
              development costs                                                  (940,144)              ---                 ---
          Amortization of unearned compensation                                      ---              66,941              80,340
          Accrued power generation revenues                                    (8,905,911)        (9,294,789)         (9,850,365)
          Accrued lease expenses                                                8,905,911          9,294,789           9,850,365
          Other expense (income)                                                 (622,417)           100,000             (77,982)
          Changes in operating assets and liabilities:
               (Increase) decrease in receivable from utility                    (645,766)           643,627          (1,166,408)
               Decrease (increase) in other current assets                         29,535            (37,645)            848,475
               (Increase) decrease in receivable from sale of affiliate          (293,750)           (86,606)            649,950
               (Increase) decrease in other assets                               (192,873)            45,869            (420,511)
               Increase (decrease) in accounts payable and
                     accrued expenses                                             614,469            (54,385)            803,436
               Increase in deferred interest revenue                              220,514                ---                 ---
               (Decrease) increase in deferred revenue                                ---         (3,064,965)            238,993
               (Decrease) increase in other current liabilities                       ---           (300,000)            255,497
               Increase in long-term liabilities                                   11,559             11,589              11,503
               Increase in maintenance reserve                                    461,989            834,400             449,429
                                                                          ----------------   ----------------   -----------------
                     Net cash (used in) provided by operating activities       (1,202,561)         1,324,158             249,049
                                                                          ----------------   ----------------   -----------------

CASH FLOWS FROM INVESTING ACTIVITIES:
    Proceeds from the collection of notes receivable                               36,129            482,681             312,500
    Decrease (increase) in restricted cash                                        158,238           (614,561)                ---
    Proceeds from sale of project                                              15,000,001                ---           2,792,294
    Property, plant and equipment expenditures                                 (2,987,881)          (257,059)            (66,449)
                                                                          ----------------   ----------------   -----------------
                   Net cash provided by (used in) investing activities         12,206,487           (388,939)          3,038,345
                                                                          ----------------   ----------------   -----------------

CASH FLOWS FROM FINANCING ACTIVITIES:
    Dividend payments                                                          (1,029,938)        (1,549,250)           (923,786)
    Net (repayments) borrowings under working capital loan                       (384,477)         1,068,000              20,332
    Borrowings under long-term credit facility                                  3,000,000                ---                 ---
    Repayment of secured promissory notes payable and
         other borrowings                                                      (1,800,000)          (139,517)         (1,661,000)
    Proceeds from the issuance of common stock                                    124,238             14,437              25,750
    Purchase of treasury stock                                                        ---           (287,876)            (93,395)
    Proceeds from the collection of notes receivable from officers                    ---             72,876                 ---
    Proceeds from other borrowings                                                    ---             52,813                 ---
                                                                          ----------------   ----------------   -----------------
                  Net cash used in financing activities                           (90,177)          (768,517)         (2,632,099)
                                                                          ----------------   ----------------   -----------------

INCREASE IN CASH AND CASH EQUIVALENTS                                          10,913,749            166,702             655,295

CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD                                  1,178,524          1,011,822             356,527
                                                                          ----------------   ----------------   -----------------

CASH AND CASH EQUIVALENTS, END OF PERIOD                                  $    12,092,273    $     1,178,524    $      1,011,822
                                                                          ================   ================   =================
</TABLE>

See Notes to Consolidated Financial Statements.
See Note B for supplemental disclosure of noncash investing and financing
activities.
See Notes I and J for supplemental disclosures of interest paid and
income taxes paid, respectively.

                                      F-5

<PAGE>

NOTE A--BUSINESS AND ORGANIZATION

Item 1.  BUSINESS

  Environmental Power Corporation (individually "EPC" or consolidated "the
Company") owns a 22 year leasehold interest in an approximately 83 Mw (net)
waste coal-fired electric generating facility (the "Scrubgrass Project") located
in Pennsylvania, the lease for which commenced on June 30, 1994.  Until December
31, 1994 the Company had varying ownership interests (100% to approximately 40%)
in, and oversaw the operation of, an approximately 51 Mw (net) waste coal-fired
electric generating facility located in Utah.  Both facilities sell power under
long-term contracts to specified utility companies whose contracts have been
approved by the respective Public Utility Commission.  In the case of these two
projects, the Company, either acting alone or in conjunction with others, has
selected and arranged for the acquisition of the site, obtained control over a
portion of their waste coal fuel sources, negotiated contracts for the design
and construction of the facilities and the sale of their output to the utilities
purchasing the power, arranged for financing, and negotiated contracts for the
operation and maintenance of the projects.  Until December 5, 1997, the Company
had one additional project (the "Milesburg Project") which had been in the
development stage since 1987 and involved in significant contract litigation
since the early stages of its development activities.  On August 26, 1997, the
Company entered into a Buy-Out Agreement with the utility company which had
contracted to purchase electricity from the Milesburg Project.  On December 5,
1997, pursuant to the Buy-Out Agreement, the Company sold substantially all of
the assets of the Milesburg project to this utility company and the ongoing
litigation was terminated.

  Scrubgrass

     The Scrubgrass Project located on a 600 acre site in Venango County,
Pennsylvania, is an approximately 83 Mw (net) waste coal-fired electric
generating station (the "Facility") which has been constructed by Bechtel Power
Corporation.  The construction contract provided for a guaranteed net electrical
output of 82.85 Mw.  Final completion was achieved by the contractor in June
1994.

     On June 30, 1994, Buzzard Power Corporation ("Buzzard"), a wholly owned
subsidiary of EPC, entered into an agreement to lease the Facility from
Scrubgrass Generating Company, L.P. (the "Lessor"), a joint venture of PG&E
Enterprises, Inc. and Bechtel Enterprises, Inc.  The lease provides for an
initial term of 22 years with a renewal option for up to 3 years. Pursuant to
the lease, the Lessor assigned to Buzzard all principal project agreements and
its rights and obligations thereunder including, but not limited to the power
purchase agreement, operations and maintenance agreement, limestone agreements,
ground lease agreements, fuel agreements and transportation and materials
handling agreements.  EPC has pledged Buzzard's stock to the Lessor as security
for Buzzard's performance of its obligations as lessee.  The Scrubgrass Project
is managed by U.S. Gen, a wholly owned subsidiary of PG&E Enterprises.

     Electric output is being sold to Pennsylvania Electric Company ("PENELEC")
pursuant to a 25-year agreement, which commenced in 1993, at fixed rates
averaging approximately 4.68 cents/Kwh and escalating at 5% per year for the
calendar years' 1994-1999.  Commencing in the year 2000 and through 2012, the
agreement provides for a rate equal to the greater of a scheduled rate or a rate
based on the PJM Billing Rate (the monthly average of the hourly rates for
purchases by the General Public Utilities Group ("GPU") from, or sale by GPU to,
the Pennsylvania-New Jersey-Maryland Interconnection).  For the years 2013
through 2015 and 2016 through 2018, if the lease renewal term option is
exercised, the agreement provides for a rate equal to the lower of the average
monthly PJM Billing Rate or the rate paid for the calendar year 2012 adjusted
annually by the percentage change in the Gross National Product Deflator less
1%. On June 8, 1993, the Facility reached commercial operation.

     The Facility is being operated by U.S. Operating Services Company pursuant
to a 15-year Operations and Maintenance Agreement ("O & M"). A budget for all
operational expenses, including a fixed management fee, is approved annually.
Failure to achieve approved annual budgets can result in operator liability
and/or termination of the O & M.


                                      F-6
<PAGE>

  Buzzard, as assignee, entered into a Limestone Purchase and Sale Agreement
with Quality Aggregates, Inc. to supply the Scrubgrass Project with limestone
for an initial term of five years which, in December 1995, was extended through
the year 2000 and which may be extended up to 15 additional years.  The
Scrubgrass Project also maintains an agreement with an initial term of 15 years
for the transportation of fuel, ash and limestone with Savage Industries, Inc.
The costs established under this agreement will escalate at partially fixed and
partially indexed rates.

  Buzzard's revenues earned by the Scrubgrass Project are deposited into an
account administered by a disbursement agent.  Before Buzzard can receive cash
generated by the Scrubgrass Project, all operating expenses, base lease payments
(which include the Lessor's debt as described below), certain maintenance
reserve payments and other subordinated payments must be satisfied.  Buzzard, as
lessee, is required to pay the Lessor, in addition to a specified base rent,
consisting of all of the Lessor's debt service and related fees and expenses, an
additional rent of 50 percent of the net cash flows Buzzard receives from
project operations. Buzzard is not required to fund operating losses, or
otherwise invest further, from sources outside of the Scrubgrass Project.

  Until December 22, 1995 the Lessor's debt consisted of $135.6 million of
variable rate tax-exempt bonds maturing through 2012, a $20.8 million term loan
maturing through 2005, $4.2 million of demand debt and $2.4 million of junior
subordinated debt maturing through 1999.  The Lessor entered into interest rate
swaps which had the effect of fixing the interest rate on the tax-exempt bonds
until May 18, 1996 at approximately 3.72% and fixing the interest rate over the
life of the $20.8 million term loan at 6.42%.  After May 18, 1996, the Company's
specified base rent was incurred based on floating rates on the Lessor's tax-
exempt bonds ranging from 3.1% to 4%.  On December 22, 1995, the Lessor
restructured certain of its project debt, the primary effect of which was to
extend the term of its demand debt and a portion of its junior subordinated debt
through 2004.  In connection with the Lessor's debt restructuring, Buzzard was
able to refinance a portion of its own current liabilities and establish a
capital improvements fund with a note payable of $300,000 which was paid in
January 1996, and a note payable of $2,487,813 which matures through 2004.
During the second quarter of 1997, the Lessor of the Scrubgrass Project assumed
primary responsibility for the disbursement of funds and repayment of debt
related to the capital improvements fund of the Scrubgrass Project.
Accordingly, restricted cash and secured borrowings of approximately $1,220,000
were transferred from the financial statements of the Company to the financial
statements of the Lessor which reduced Buzzard's note payable to $1,267,811 as
of December 31, 1997.

  In March 1996, the Company received proceeds of $900,000 from Bechtel Power
Corporation in final settlement of certain warranty and start-up matters which
is included in other income in the accompanying Consolidated Statement of
Operations.

  During the fourth quarter of 1996, after learning about a generator failure
at an electric generating facility with an identical generator to the Scrubgrass
facility, the manufacturer asked the Company to perform certain tests to
determine the Scrubgrass generator's condition.  Based on the results of these
tests, which became available during the first quarter of 1997, the Company
believed that the Scrubgrass facility's generator exhibited certain conditions
which indicated that a similar failure might occur at some time in the future.
As a result, the Scrubgrass facility was shutdown for a period of 6 days in
February 1997 to consider matters pertaining to the generator.  In light of the
results of these generator tests, the generator manufacturer recommended that
the Company perform a complete rewind on the Scrubgrass facility's generator
during its 1997 annual plant outage which began in April, and which caused the
Scrubgrass plant to be inoperative for a period of 37 days during the second
quarter of 1997.  Originally, without knowledge of the necessary generator
repair, the Company had planned that the Scrubgrass plant would be inoperative
in 1997 for a total of only 18 days to perform normal maintenance during
scheduled spring and fall outages.   As such, because the Scrubgrass plant was
inoperative for a total of 43 days as a result of the maintenance outages, the
Scrubgrass facility was inoperative for 25 days longer in 1997 than the
Company's original plans.  At an average of $80,000 of net revenues per day,
this accounts for an approximate reduction in 1997 power generation revenues,
net of estimated variable fuel expenses not incurred, of approximately $2
million by comparison to previous expectations.  As a result of the extended
plant outage, the Company also estimates that it incurred $660,000 to have the
manufacturer repair the generator, incurred

                                      F-7
<PAGE>

approximately $700,000 in additional maintenance expenses which were not
originally scheduled during this outage and incurred approximately $300,000 in
related costs such as legal fees, management costs, bank fees, etc. As such, the
Company believes that the financial impact of this outage aggregated
approximately $3.7 million. In June 1997, the Lessor entered into a three year
credit facility with the lenders of the Scrubgrass Project to make additional
funds available to the Scrubgrass Project to cover the cash deficiency resulting
from the extended annual outage of the Scrubgrass Project and associated costs
and expenses. The maximum allowable borrowings under this credit facility are
$3,000,000 through July 1, 1998. Beginning on July 1, 1998, the maximum
allowable borrowings under this credit facility will reduce in $600,000
increments every six months through July 3, 2000 when the credit facility will
be payable in full. As of December 31, 1997, the outstanding borrowings under
this credit facility, which were advanced to the Company by the Lessor, amounted
to $3,000,000. In addition, the Company has received extended terms from the
Scrubgrass generator manufacturer which allow the Company to pay the $660,000
cost of the generator repair in six annual installments of $110,000, without
interest, beginning in May 1997. Furthermore, because substantially all of the
additional maintenance expenses incurred during the 1997 outage were deemed to
be major overhauls, the Company was able to utilize its restricted cash reserves
to finance most of these additional expenses. Under the existing terms of its
project agreements, the Company will be able to replenish these restricted funds
over a seven year period beginning in 1998. During the year ended December 31,
1997, the Company's Consolidated Statement of Operations reflects the effect of
the lost net revenues of approximately $2,000,000, the additional maintenance
expenses of approximately $700,000 and the related expenses of approximately
$300,000 pertaining to the generator matter. As of December 31, 1996, the
Company had recorded the present value of the future installments to finance the
generator rewind, discounted at the Scrubgrass Project's incremental borrowing
rate (6.75%), which amounted to $564,000. The $96,000 balance of the $660,000
generator rewind cost will be recognized as interest expense over the six year
term of the financing contract with the generator manufacturer. The Company has
included the next installment of $110,000 in its accounts payable and accrued
expenses and the present value of the long-term installments of $364,000 in its
maintenance reserve in the accompanying Consolidated Balance Sheet as of
December 31, 1997.

  Sunnyside

     The Sunnyside Project is an approximately 51 Mw (net) waste coal-fired
facility at a site located adjacent to the Sunnyside Coal Mine in Carbon County,
Utah which was constructed by Parsons Main, Inc., ("PMI").  The facility reached
commercial operation on November 19, 1993.  The Sunnyside Project is owned by
Sunnyside Cogeneration Associates ("SCA"), a joint venture in which the Company
owned varying majority interests from 100% to approximately 70% until September
28, 1994 and thereafter an approximate 40% interest until December 31, 1994 at
which time the Company sold its remaining interest in SCA.

     In connection with the sale, the Company received consideration of $2.79
million in cash on January 5, 1995 and promissory notes aggregating $3.25
million, bearing interest at 10% per annum. Interest is payable to the Company
quarterly and principal of $312,500 was received by the Company on September 30,
1995, principal of $1,187,500 was due on December 31, 1996 and the remaining
principal of $1,750,000 was due on December 31, 1997.  However, as more fully
described in Note N, the purchasers of the Company's interest in SCA have
entered into a legal proceeding with the Company.  Pending the resolution of the
legal proceeding, the purchasers have withheld all payments of principal and
interest due on the promissory notes since June 1996.    As of December 31,
1997, the purchasers have principal and interest payments in arrears of
$2,937,500 and $515,068, respectively.  In addition, the Company recorded in
1994 a receivable related to a purchase price adjustment, as provided for in the
Purchase and Sale Agreement, of approximately $1.1 million, of which $708,000
was received in April 1995.  The balance of purchase price adjustment is also
being disputed in the legal proceeding with the purchasers. The Company also
retained certain inchoate rights, including potential refundable sales taxes and
certain legal settlements arising out of activities prior to the date of the
sale.  The retained rights were fully satisfied after the Company received sales
tax refunds aggregating $1.1 million and $42,078 in 1995 and 1996, respectively,
and received $540,000 to settle a legal proceeding in 1996, which have all been
included in other income for the appropriate periods in the accompanying
consolidated statements of operations.

                                      F-8
<PAGE>

Milesburg

  On April 30, 1987, the Company purchased, for an aggregate purchase price of
$5,400,000, all of the outstanding capital stock of Milesburg Energy, Inc.
("MEI"), the company which controlled the development rights to an existing 43
Mw (net) oil-fired facility, which was retired from service in 1984.  In
connection with the stock purchase, the Company paid $100,000 in cash and issued
promissory notes totaling $5,120,000 (the "MEI Notes") and a subsidiary of the
Company assumed pre-acquisition MEI liabilities totaling $180,000.  The MEI
Notes, pre-acquisition liabilities and certain other liabilities incurred
subsequent to the purchase were to become payable only under certain conditions,
the most significant of which related to the closing of construction financing
and commencement of construction for the Milesburg Project.

  In 1987, MEI executed a 30 year power purchase agreement with West Penn Power
Company ("West Penn") for the sale of all of the facility's electrical output
with a fixed capacity rate component and an additional fluctuating rate
component which is derived from West Penn's avoided energy cost.  The power
purchase agreement was approved by the Public Utilities Commission of the State
of Pennsylvania ("PUC"), and was subsequently appealed to the Commonwealth Court
of Pennsylvania by certain industrial intervenors.  During the lengthy appeals
process, which extended beyond certain contract milestone dates in the power
purchase agreement, West Penn requested that its original petition to approve
the power purchase agreement be dismissed by the PUC since the power purchase
agreement had expired by its own terms.  In September 1989, in response to MEI's
efforts to preserve its contractual rights, the PUC, by court order, ordered
West Penn to execute a new power purchase agreement with MEI.   The new power
purchase agreement would include extended contract milestone dates and rates
which would be recalculated due to the later start-up date for this project
necessitated by the delays caused by the appeal.  This order had been appealed
by the same industrial intervenors and West Penn through various courts,
including the United States Supreme Court, and upheld in every case in favor of
MEI.  In August 1995, the PUC issued a tentative order for final contract rates.
The order had been temporarily stayed by mutual agreement of MEI and West Penn
pending discussions pertaining to a buy-out of the power purchase agreement
which began in October 1995.

     Despite ongoing efforts to reach a buy-out arrangement with West Penn, the
Company had continued to invest its financial resources during 1996 and 1997 to
protect its legal and contractual interests and to support its ability to
commence construction in the event that a settlement under mutually agreeable
terms could not be reached with West Penn.  In July 1996, in furtherance of
those objectives, the Company entered into a joint development agreement with
U.S. Gen, a wholly-owned subsidiary of PG&E Enterprises, to increase the
financial and technical resources available to pursue development activities and
continue ongoing discussions with West Penn concerning a buy-out of the power
purchase contract.   During 1996 and 1997, the Company's development efforts for
the Milesburg Project increased considerably and the Company, along with its
development partner, was able to establish a significant value for the Milesburg
Project as a result of successful development efforts.

     On August 26, 1997, following discussions which lasted almost two years,
MEI and West Penn reached a Buy-Out Agreement concerning the Milesburg project.
Pursuant to the Buy-Out Agreement, West Penn purchased Milesburg's rights to the
Electric Energy Purchase Agreement between the parties dated February 25, 1987
for the sum of $15 million plus 8% interest from the date the Buy-Out Agreement
was filed for Pennsylvania Public Utility Commission approval.  Furthermore,
West Penn also assumed ownership of and responsibility for the Milesburg project
facility, which consisted of land along with a decommissioned oil-fired
electric-generating facility erected thereon, for a stated consideration of $1.
On December 5, 1997, the date of the asset disposition, MEI received aggregate
proceeds of $15,328,768 from West Penn as consideration under the Buy-Out
Agreement.  At the date of the asset disposition, before consideration of any
settlements of contingent obligations, the Company had Milesburg project
development costs included in its property, plant and equipment of $9,670,788
and Milesburg project borrowings included in its secured promissory notes and
other borrowings of $5,858,767.  Shortly before the date of the asset
disposition, the Company entered into a settlement agreement pertaining to
certain Milesburg project contingent obligations, including the MEI Notes.  As a
result of the settlement agreement, the Company's Milesburg project development
costs and Milesburg project borrowings were reduced to $6,170,788 and
$2,358,767, respectively.  In addition, because certain other Milesburg
obligations were payable only upon the

                                      F-9
<PAGE>

occurrence of events related to project development, Milesburg project
obligations of $558,767 and accrued interest of $63,650 were released from
liabilities during 1997 and reported as other income of $622,417 in the
accompanying Consolidated Statement of Operations. As a result of the sale of
the Milesburg Project, the Company realized net proceeds before taxes of
$10,960,120 which were derived as follows:

<TABLE>
<S>                                                                                 <C>
Proceeds from the disposal of Milesburg project assets                            $   15,000,001

Project costs:
     Development costs                                                                 6,170,788
     Fee paid to development partner                                                   1,405,746
                                                                                  --------------
                     Total project costs                                               7,576,534
                                                                                  --------------

                     Gain on sale of project                                      $    7,423,467

Adjustments to arrive at net proceeds before taxes from the disposal
    of Milesburg project assets:
          Development cost reimbursements to the Company for
                obligations which had already been paid                                2,585,469
          Development costs released from liabilities                                    622,417
          Interest income from West Penn                                                 328,767
                                                                                  --------------

Net proceeds before taxes from the disposal of Milesburg project assets              $10,960,120
                                                                                  ==============
</TABLE>

     The Company estimated that, after giving effect to the payment of corporate
taxes related to the Milesburg transaction which are accrued as of December 31,
1997, the Company would have available in excess of $10 million from the
Milesburg proceeds.  In light of this projected availability of cash, the
Company's Board of Directors on December 10, 1997 declared a special dividend on
the issued and outstanding shares of Company`s Common Stock in the amount of 87
cents per share payable on January 7, 1998 to Stockholders of record on December
30, 1997 out of the proceeds received from the Company's sale of its Milesburg
project assets.

     On December 31, 1997, because MEI did not expect to carry on further
business activities after the sale of the Milesburg Project, EPC adopted a Plan
of Liquidation under section 332 of the Internal Revenue Code of 1986, as
amended, to dissolve MEI.  Under the Plan of Liquidation, MEI ceased to carry on
business activities except to the extent necessary to liquidate its assets, pay
its liabilities and distribute its assets remaining after the payment of its
liabilities to EPC.

NOTE B -- SIGNIFICANT ACCOUNTING POLICIES

  Principles of Consolidation:  The Consolidated Financial Statements include
the accounts of Environmental Power Corporation and its wholly-owned
subsidiaries. All significant intercompany accounts and transactions have been
eliminated in consolidation.

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

     Cash Flows:  The Company considers all highly liquid investments with a
maturity of three months or less when purchased to be cash equivalents.  In
1997, the Lessor of the Scrubgrass Project assumed primary responsibility for
the disbursement of funds and repayment of debt related to the capital
improvements fund of the Scrubgrass Project.  Accordingly, restricted cash and
secured borrowings in the amount of $1,220,000 were transferred from the
financial statements of the Company to the financial statements of the Lessor in
a non-cash investing and

                                      F-10
<PAGE>

financing activity. The Company also settled a contingent obligation for the
Milesburg project which resulted in a non-cash financing and investing activity
reducing secured promissory notes payable and property plant and equipment by
$3,500,000 during 1997 (see Note A). In 1995, non-cash investing and financing
activities include the retirement of preferred treasury shares ($890,860), the
issuance of a non-current obligation to refinance a trade obligation ($250,000),
the issuance of a secured note payable ($2,435,000) to refinance certain trade
obligations ($1,184,662) and provide restricted cash for plant maintenance
($1,250,338), the exchange of notes receivable for the purchase of the Company's
common stock ($439,156) and the issuance of notes receivable to refinance
accrued interest receivable ($63,228). There were no non-cash financing and
investing activities in 1996.

  Concentrations of Credit Risk:  The Company's financial instruments that are
exposed to concentrations of credit risk consist primarily of cash equivalents,
notes receivable and receivable from utility.  The Company's cash equivalents
represent certificates of deposit which are issued from reputable financial
institutions and which are substantially backed by U.S. Treasury or U.S. Agency
securities with maturities of not more than five years.  Notes receivable
represent amounts due from the acquirers of the Company's interest in the
Sunnyside Project.  The Company believes these acquirers are credit worthy
entities which have the ability to pay the scheduled note obligations (See Note
N regarding the Company's legal proceeding with the acquirers of the Sunnyside
Project).  Receivable from utility represents amounts due from the Company's
sole customer PENELEC, a public utility with a credit rating of A- by Standard &
Poors, pursuant to the terms of the 22 year power purchase agreement.

  Restricted Cash:  Restricted cash includes all cash held by the disbursement
agent for the Scrubgrass Project pursuant to project agreements which require
requisition and/or certification by the Lessor or bank to withdraw (See Note A).
The Company makes scheduled deposits to restricted cash accounts which are
restricted primarily for scheduled maintenance procedures.

  Fuel Inventory:  Fuel inventory consists primarily of handling and hauling
costs and is recorded on a lower of cost or market basis with cost determined on
a monthly weighted average basis.

  Property, Plant and Equipment:  Property, plant and equipment are stated at
cost less accumulated depreciation.  Significant renewals and betterments that
increase the useful lives of the assets are capitalized while maintenance and
dispositions are recorded in current operations as incurred.  Facility under
development represents project acquisition costs and costs incurred during the
development stage of the Milesburg project.  The capitalized costs included
professional services, salaries and other costs that are directly related to the
Milesburg project.  In addition, certain indirect costs were also allocated to
the Milesburg project.  During 1997, the Company expensed its facility under
development costs when it sold the assets of the Milesburg project (See Note A).
Depreciation for office equipment and furniture is computed using the straight-
line method over five years.  Leasehold improvements are amortized using the
double declining balance method over the asset's useful life or the remaining
lease term, whichever period is less.  The Company periodically reviews its
property plant and equipment and other long-term assets for impairment and
recognizes impairment losses in situations where the Company estimates that it
will not recover the carrying value of these assets.

  Deferred Financing Costs:  In 1997 and 1995, the Company incurred deferred
financing costs of $139,925 and $300,000, respectively in connection with
restructuring certain debt related to the Scrubgrass Project.  Deferred
financing costs are being amortized over the respective lives of the related
debt which range from three to nine years (See Note E).  Accumulated
amortization related to deferred financing costs was $110,489 and $35,670 at
December 31, 1997 and 1996, respectively.

  Lease Rights:  Lease rights are recorded at cost and are being amortized over
the 22 year lease term related to the Scrubgrass facility.  Accumulated
amortization related to the lease rights was $521,541 and $372,537 at December
31, 1997 and 1996, respectively.

  Accrued Power Generation Revenue and Accrued Lease Expense:  As discussed in
Note A, the Company has entered into a long term agreement, to provide
electricity to PENELEC, which provides for scheduled rate increases.  In
accordance with generally accepted accounting principles, revenue has been
recorded on the straight-

                                      F-11
<PAGE>

line basis over the 22 year lease term.  The accrual
for power generation revenue is limited to the amount of accrued lease expense,
as described below.  Therefore, no amount for the straight-lining of future
revenues, which would result in profits, has been provided for in the
Consolidated Financial Statements.  Accrued power generation revenue was
$33,362,389 and $24,456,478 at December 31, 1997 and 1996, respectively, and
represents that portion of revenue earned that has not yet been received.

     As discussed in Note A, the Company has entered into a long term lease
agreement for the Scrubgrass Project which provides for scheduled lease expense
increases.  In accordance with generally accepted accounting principles, lease
expense has been recorded on the straight-line basis over the 22 year lease
term.  Accrued lease expense was $33,362,389 and $24,456,478 at December 31,
1997 and 1996, respectively, and represents that portion of lease expense that
has not yet been paid.

     Deferred Gain: The sale of the Scrubgrass Project by the Company on
December 28, 1990 was not treated as a sale for financial accounting purposes.
This was originally due to the existence of an option which enabled the Company
to reacquire Buzzard and to lease the Scrubgrass Project for a substantial
portion of its commercial operation. This option constituted a significant
continuing involvement by the Company which provided evidence that it had
retained substantial risks or rewards of ownership of the Scrubgrass Project. In
December 1993, the Company agreed to a modification to the proposed form of
lease thereby relinquishing the fair market value purchase option. Accordingly,
the Company removed from the Consolidated Balance Sheet the gross assets and
liabilities of the Scrubgrass Project and recorded a deferred gain of $6,785,035
arising from the original sale of the Scrubgrass Project in 1990. The deferred
gain is being amortized over the 22 year minimum lease term, which commenced on
June 30, 1994. Accumulated amortization of the deferred gain at December 31,
1997 and 1996 was $1,079,437 and $771,027, respectively.

     Deferred Interest Revenue: Beginning in April 1997, the Company has
deferred the interest income accrued on the notes receivable related to the sale
of its interest in the Sunnyside Project until the litigation with the
purchasers is resolved (See "Note N - Legal Proceedings"). As of December 31,
1997, the Company had deferred interest revenue of $220,514.

     Deferred Revenue:  Deferred revenue represents amounts received for power
generation from the Scrubgrass Project at rates in excess of forecasted rates as
set forth in the power sales agreement which are being deferred until earned.
As of December 31, 1995, the Company had deferred revenue of $3,064,965 which
was all earned during 1996.  There was no deferred revenue as of December 31,
1997 and December 31, 1996.

     Maintenance Reserve:  The Company records the expense of major equipment
overhauls related to the Scrubgrass Project on a straight-line basis using
management's best estimate of future outlays.  Amounts are charged to expense
and are credited to the reserve in anticipation of future outlays for major
overhauls.

     Income Taxes:  The Company accounts for income taxes in accordance with
Statement of Financial Accounting Standards ("SFAS") No. 109, "Accounting for
Income Taxes".  This standard requires, among other things, recognition of
future tax benefits, measured by enacted tax rates, attributable to deductible
temporary differences between the financial statement and income tax bases of
assets and liabilities, and net operating loss carryforwards to the extent that
realization of such benefits is more likely than not. Deferred income taxes are
recognized for temporary differences between the financial statement and income
tax bases of assets and liabilities and net operating loss carryforwards for
which the Company expects income tax benefits will be realized in future years.

     Earnings (Loss) Per Common Share: In the fourth quarter of 1997, the
Company adopted SFAS No. 128, "Earnings per Share", which established new
standards for computing and presenting earnings per share ("EPS"). SFAS No. 128
replaced the presentation of primary EPS with a presentation of basic EPS and
fully diluted EPS with diluted EPS. The EPS data for all prior periods has been
restated in accordance with the provisions of SFAS No. 128. The adoption of this
statement did not have a material impact on the Consolidated Financial
Statements presented herein. The Company computes basic earnings (loss) per
share by dividing net income (loss) for the

                                      F-12
<PAGE>

period by the weighted average number of shares of common stock outstanding
during the period. For purposes of calculating diluted earnings (loss) per
share, the Company considers its shares issuable in connection with stock
options to be dilutive common stock equivalents when the exercise price is less
than the average market price of the Company's common stock for the period. The
following table outlines the calculation of basic earnings (loss) per share and
diluted earnings (loss) per share for the years ended December 31, 1997, 1996
and 1995.

<TABLE>
<CAPTION>
                                                               Income          Shares        Per Share
                                                            (Numerator)     (Denominator)     Amounts
                                                          --------------- ----------------- -----------
<S>                                                         <C>             <C>              <C>
Year Ended December 31, 1997:
-----------------------------
Income available to shareholders                             $4,613,863       11,120,893         $ .41
Effect of dividends to preferred stockholders                   (30,178)
                                                          --------------- ----------------- -----------
Basic EPS - income available to common shareholders          $4,583,685       11,120,893           .41
Effect of dilutive securities:
     Assumed exercise of dilutive stock options                                  138,972
                                                          --------------- ----------------- -----------
Diluted EPS - income available to common shareholders        $4,583,685       11,259,865         $ .41
                                                          =============== ================= ===========

Year Ended December 31, 1996:
-----------------------------
Income available to shareholders                             $1,565,279       11,159,966         $ .14
Effect of dividends to preferred stockholders                   (25,178)
                                                          --------------- ----------------- -----------
Basic EPS - income available to common shareholders           1,540,101       11,159,966           .14
Effect of dilutive securities:
     Assumed exercise of dilutive stock options                                  126,320
                                                          --------------- ----------------- -----------
Diluted EPS - income available to common shareholders        $1,540,101       11,286,286         $ .14
                                                          =============== ================= ===========

Year Ended December 31, 1995:
-----------------------------
Loss available to shareholders                               $ (734,611)      10,648,100         $(.07)
Effect of dividends to preferred stockholders                   (20,178)
                                                          --------------- ----------------- -----------
Basic EPS - loss available to common shareholders              (754,789)      10,648,100          (.07)
Effect of dilutive securities:
     Assumed exercise of dilutive stock options                                  548,940
                                                          --------------- ----------------- -----------
Diluted EPS - loss available to common shareholders          $ (754,789)      11,197,040         $(.07)
                                                          =============== ================= ==========
</TABLE>

     As of December 31, 1997, there were outstanding options to purchase 10,000
shares of the Company's common stock at $1 per share which were not included in
the computation of diluted EPS because the exercise price of the options
exceeded the average market price of the common shares.  The options expire in
2006.

     Stock Options:  Effective January 1, 1996, the Company adopted the
disclosure provisions of SFAS No. 123, "Accounting for Stock-Based
Compensation".  SFAS No. 123 defines a fair value method of accounting for the
issuance of stock options and other equity instruments.  Under the fair value
method, compensation is measured at the grant date based on the fair value of
the award and is recognized over the service period, which is usually the
vesting period.  Pursuant to SFAS No. 123, companies are encouraged, but not
required, to adopt the fair value method of accounting for employee stock-based
transactions.  Companies are also permitted to continue to account for such
transactions under Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees", but would be required to disclose in a note to the
financial statements pro forma net income and per share amounts as if the
company had applied the new method of accounting.  SFAS No. 123 also requires
increased disclosures for stock-based compensation arrangements regardless of
the method chosen to measure and recognize compensation for employee stock-based
arrangements.  The Company has elected to continue to account for its stock
option transactions under the principles of Accounting Principles Board Opinion
No. 25 and has disclosed in Note K of its Consolidated Financial Statements the
pro forma net income and per share amounts as if the Company had applied the
provisions of SFAS No. 123.

     Capital Structure:  Effective for the year ended December 31, 1997, the
Company adopted SFAS No. 129 "Disclosure of Information about Capital
Structure".  SFAS No. 129 establishes standards for disclosing

                                      F-13
<PAGE>

information about the Company's capital structure. The adoption of this standard
related to disclosures within the financial statements and did not have a
material effect on the Company's Consolidated Financial Statements.

     Environmental Remediation Liabilities: Effective January 1, 1997, the
Company adopted Statement of Position ("SOP") 96-1, "Environmental Remediation
Liabilities", which was issued by the American Institute of Certified Public
Accountants in October 1996.  Under SOP 96-1, the Company is required to accrue
environmental remediation liabilities when the criteria for SFAS No. 5,
"Accounting for Contingencies", are met.  The adoption of SOP 96-1 had no effect
on the Company's consolidated financial position or results of operations.

     New Accounting Standards: In June 1997, the Financial Accounting Standards
Board issued SFAS No. 130, "Reporting Comprehensive Income", which is effective
for the Company's fiscal year ending December 31, 1998.  SFAS No. 130 addresses
the reporting and display of comprehensive income and its components.  The
Company does not expect that the adoption of SFAS No. 130 will result in
material differences between comprehensive income and net income.

     In June 1997, the Financial Accounting Standards Board issued SFAS No. 131,
"Disclosures About Segments of an Enterprise and Related Information", which is
effective for the Company's fiscal year ending December 31, 1998.  SFAS No. 131
modifies current segment reporting requirements and establishes, for public
companies, criteria for reporting disclosures about a company's products and
services, geographic areas and major customers in annual and interim financial
statements.  Under SFAS No. 131, companies will be required to define their
operating segments using criteria which are more consistent with the
methodologies employed by their managements to evaluate segment performance
internally. Historically, the Company has always provided significant
disclosures to discuss its financial position and results of operations by
project which is consistent with how the Company's management defines segments
and evaluates segment performance internally.  As such, the Company does not
expect that the adoption of SFAS No. 131 will result in significant additional
disclosures in the financial statements.

     Reclassification: Certain amounts in 1995 and 1996 have been reclassified
to conform with the current period presentation.

NOTE C -- OTHER CURRENT ASSETS

Other current assets consists of the following as of  December 31, 1997 and
1996:

                                                       1997         1996
                                                   -----------   ----------
Interest receivable                                 $   42,482   $   16,608
Fuel inventory                                         730,060      741,290
Prepaid expenses                                       101,605      150,469
Deposits                                                 1,675        1,675
Other                                                    6,116        1,431
                                                   -----------   ----------
                                                    $  881,938   $  911,473
                                                   ===========   ==========


                                      F-14
<PAGE>

NOTE D -- PROPERTY, PLANT AND EQUIPMENT

     Property, plant and equipment is recorded at cost less accumulated
depreciation and consists of the following as of December 31, 1997 and 1996:

<TABLE>
<CAPTION>
                                                                         1997           1996
                                                                    -------------- --------------
<S>                                                                   <C>           <C>
Power generating facilities:
     Leasehold improvements - Scrubgrass                               $125,000     $    ----
     Facility under development - Milesburg                              ----         8,224,348
     Less: Accumulated depreciation                                     (17,863)         ----
     Less: Reserve for non-recovery of costs - Milesburg                 ----          (940,144)
                                                                    -------------- --------------
                                                                        107,137       7,284,204
                                                                    -------------- --------------
Office:
     Equipment and furniture                                            117,403         106,707
     Less: Accumulated depreciation                                     (94,604)        (78,612)
                                                                    -------------- --------------
                                                                         22,799          28,095
                                                                    -------------- --------------

                                                                       $129,936      $7,312,299
                                                                    ============== ==============
</TABLE>

     During 1997, the Company disposed of its investment in the Milesburg
project prior to the construction phase of its development activities.  See Note
A for a further discussion of the Milesburg project.

     During 1997 and 1996, the Company capitalized salary costs and indirect
costs aggregating $327,583 and $48,983, respectfully, for project development
activities.  The indirect costs were allocated to the project development
activities based on overhead rates applied to direct salary costs incurred for
such activities.  There were no salary costs or indirect costs capitalized in
1995.

NOTE E -- OTHER ASSETS

Other assets consists of the following as of December 31, 1997 and 1996:

<TABLE>
<CAPTION>
                                                                        1997         1996
                                                                    ------------ ------------
<S>                                                                   <C>          <C>
Scrubgrass Project receivable                                        $  258,648   $  210,619
Deferred financing costs - Note B                                       329,436      264,330
Note receivable and accrued interest due from officer                   113,353      108,434
                                                                    ------------ ------------
                                                                     $  701,437   $  583,383
                                                                    ============ ============
</TABLE>

Scrubgrass Project receivables represent deposits in connection with fuel
reserves under long term leases (See Note L).

NOTE F -- ACCOUNTS PAYABLE AND ACCRUED EXPENSES

Accounts payable and accrued expenses consists of the following as of December
31, 1997 and 1996:

<TABLE>
<CAPTION>
                                                                         1997           1996
                                                                    -------------- --------------
<S>                                                                   <C>            <C>
Accounts payable                                                     $  2,647,807   $  2,854,397
Accrued expenses                                                        2,556,616      2,728,325
Corporate taxes payable                                                 1,120,639        199,211
                                                                    -------------- --------------
                                                                     $  6,325,062   $  5,781,933
                                                                    ============== ==============
</TABLE>

                                      F-15
<PAGE>

     Accounts payable at December 31, 1997 and 1996 includes $2,424,236 and
$2,613,968, respectively which are related to Scrubgrass Project operations.

     Accrued expenses at December 31, 1997 and 1996 includes $2,502,583 and
$2,502,424, respectively which are related to Scrubgrass Project operations.

NOTE G -- OTHER CURRENT LIABILITIES

Other current liabilities consists of the following as of December 31, 1997 and
1996:

<TABLE>
<CAPTION>
                                                                         1997           1996
                                                                    -------------- --------------
<S>                                                                   <C>            <C>
Scrubgrass working capital loan                                      $  2,311,666   $  2,696,143
Scrubgrass Project long-term credit facility - Note H                     600,000           ----
                                                                    -------------- --------------
                                                                     $  2,911,666   $  2,696,143
                                                                    ============== ==============
</TABLE>

     The Scrubgrass working capital loan represents outstanding borrowings under
a Lessee Working Capital Loan Agreement with the Lessor whereby the Lessor has
provided Buzzard with a $4 million line of credit for the ongoing working
capital requirements of the Scrubgrass Project.  The outstanding borrowings
under the Lessee Working Capital Loan Agreement incur interest at the LIBOR rate
plus 1.125% (ranging from 6.56% to 7.12% during 1997 and 6.44% to 6.75% during
1996).

NOTE H -- SECURED PROMISSORY NOTES PAYABLE AND OTHER BORROWINGS

     Secured promissory notes payable and other borrowings consists of the
following as of December 31, 1997 and 1996:

<TABLE>
<CAPTION>
                                                                         1997           1996
                                                                    -------------- --------------
<S>                                                                   <C>            <C>
Milesburg project obligations                                        $   ----       $  5,858,767
Scrubgrass Project note payable                                         1,267,811      2,487,813
Scrubgrass Project long-term credit facility                            2,400,000       ----
Sunnyside Project obligations                                           1,005,916        994,357
                                                                    -------------- --------------
                                                                     $  4,673,727   $  9,340,937
                                                                    ============================
</TABLE>

     The Milesburg project obligations recorded as of December 31, 1996 were
primarily noninterest-bearing and payable only under certain conditions, the
most significant of which relates to the closing of construction financing and
commencement of construction for the Milesburg project.  During 1997, the
Company disposed of its investment in the Milesburg project whereby the
Milesburg obligations were either paid, settled or released.  See Note A for a
further discussion of the Milesburg project.

     The Scrubgrass Project note payable represents the non-current portion of
an obligation which was incurred as part of the Lessor's debt restructuring in
December 1995, when Buzzard established a capital improvements fund and extended
the term of certain current liabilities through 2004.  The outstanding
borrowings under the Scrubgrass Project note payable incur interest at the LIBOR
rate plus 1.25% (ranging from 6.69% to 7.25% during 1997 and 6.57% to 6.88%
during 1996).  During the second quarter of 1997, the Lessor of the Scrubgrass
Project assumed primary responsibility for the disbursement of funds and
repayment of debt related to the capital improvements fund of the Scrubgrass
Project.  Accordingly, restricted cash and secured borrowings of approximately
$1,220,000 were transferred from the financial statements of the Company to the
financial statements of the Lessor which reduced the Scrubgrass Project note
payable to $1,267,811.  The scheduled aggregate annual repayments for the
Scrubgrass Project note payable are $39,585 in 1998, $39,585 in 1999, $37,053 in
2000, $203,123 in 2001, $149,010 in 2002 and $799,455 thereafter.

                                      F-16
<PAGE>

     On June 3, 1997, the Lessor of the Scrubgrass Project entered into a long-
term credit facility with its agent bank to provide the Scrubgrass Project with
up to $3 million to fund general debt service expenses when operating revenues
became unavailable as a result of the extended facility outage to perform a
complete rewind of the Scrubgrass generator.  The loan type (LIBOR-based,
Certificate of Deposit rate-based or prime rate based) and the interest period
are elected by the Company.  As of December 31, 1997, the Company had borrowed
$3,000,000 from the Lessor under this long-term credit facility which incurred
interest at LIBOR rates plus a 1.125% margin (ranging from 6.76% to 7.12%)
during 1997.  The maximum loan amount available to the Company during the term
of this agreement, which expires on July 3, 2000, is the following:

     June 3, 1997 through June 30, 1998         $3,000,000
     July 1, 1998 though January 3, 1999         2,400,000
     January 4, 1999 through June 30, 1999       1,800,000
     July 1, 1999 through December 30, 1999      1,200,000
     December 31, 1999 through July 2, 2000        600,000

Under the terms of this long-term credit facility, the Company will be required
to repay at least $600,000 of this obligation within one year.  As such, the
Company has classified $600,000 of this obligation in it current liabilities as
of December 31, 1997 (See Note G).

     The Sunnyside Project obligations principally represent selling expenses in
connection with the sale of the Sunnyside Project which are payable upon receipt
of the principal proceeds from the notes receivable which were due by December
31, 1997.  The repayment of these obligations is contingent upon the outcome of
the litigation with the purchasers of the Sunnyside Project (See Notes A and N).

NOTE I -- INTEREST CAPITALIZED

Interest costs consists of the following for the years ended December 31, 1997,
1996, and 1995:

<TABLE>
<CAPTION>
                                                                      1997         1996         1995
                                                                  ------------ ------------ ------------
<S>                                                                 <C>          <C>          <C>
Total interest costs incurred                                        $437,948     $347,954     $119,696
Amounts included in operations                                        424,395      336,449      106,783
                                                                  ------------ ------------ ------------
Amounts capitalized in development and construction of projects      $ 13,553     $ 11,505     $ 12,913
                                                                  ============ ============ ============
</TABLE>

     Total interest paid during the years ended December 31, 1997, 1996 and 1995
amounted to $407,110, $319,211 and $111,913, respectively.

     Interest costs incurred for each period presented do not include debt
service related to the Scrubgrass Project which is included in lease expense.

                                      F-17
<PAGE>

NOTE J -- INCOME TAXES

     Income tax expense (benefit) consists of the following for the years ended
December 31, 1997, 1996 and 1995:

<TABLE>
<CAPTION>
                                                               1997           1996          1995
                                                          ------------     ----------     ---------
Current:
<S>                                                         <C>            <C>            <C>
     Federal                                                $  316,136     $   22,229     $ 100,000
     State                                                     772,888        168,682            --
                                                          ------------     ----------     ---------
                  Total current tax expense                  1,089,024        190,911       100,000
                                                          ------------     ----------     ---------

Deferred:
     Federal                                                 2,925,237        879,370      (477,175)
     State                                                      89,423        823,754       (70,809)
                                                          ------------     ----------     ---------
                 Total deferred tax expense (benefit)        3,014,660      1,703,124      (547,984)
                                                          ------------     ----------     ---------

                                                            $4,103,684     $1,894,035     $(447,984)
                                                          ============     ==========     =========
</TABLE>

     In 1997, the Company's state income tax expense was substantially all
current because the Company's taxable income was incurred in states where the
Company did not have available net operating loss carryforwards.  In 1996, the
Company's deferred state income tax expense includes a charge of $205,382
related to state net operating loss carryforwards which had expired.  In
addition, as of December 31, 1996, the Company had estimated that it would not
realize all of the recorded tax benefits of its state net operating loss
carryforwards and accordingly, had provided a valuation allowance in the amount
of $299,745 in its 1996 provision for deferred state income taxes.

     Total income taxes paid during the years ended December 31, 1997, 1996 and
1995 amounted to $159,906, $91,527 and $9,747, respectively.

     The components of the net deferred income tax asset as of December 31, 1997
and 1996 are as follows:

<TABLE>
<CAPTION>
                                                                             1997            1996
                                                                          -----------    -----------
<S>                                                                       <C>           <C>
Deferred tax assets:
     Accrued lease expense                                                $13,542,928    $ 9,927,716
     Accrued expenses                                                         728,109        763,836
     Deferred tax effect of the sale of the Scrubgrass Project for
       which the gain was deferred for financial reporting purposes         1,138,548      1,200,111
     Federal and state net operating loss carryforwards                        10,788      2,800,565
     Federal alternative minimum tax credit carryforwards                     161,362        131,394
     Reserve for non-recovery of certain project costs not currently
       deductible for income tax purposes                                      70,711        433,794
                                                                          -----------    -----------
                                                                           15,652,446     15,257,416
                                                                          -----------    -----------
Deferred tax liabilities:
     Accrued power generation revenue                                      13,542,928      9,927,716
     Installment sale-Sunnyside                                             1,198,801      1,198,801
     Other                                                                     92,962         92,962
                                                                          -----------    -----------
                                                                           14,834,691     11,219,479
                                                                          -----------    -----------
Deferred income tax asset-net                                                 817,755      4,037,937
                                                                          -----------    -----------
Valuation allowance, net of federal benefit                                   -------       (197,832)
                                                                          -----------    -----------
                                                                          $   817,755    $ 3,840,105
                                                                          ===========    ===========
</TABLE>

                                      F-18
<PAGE>

     A reconciliation between the actual income tax expense (benefit) and the
income tax expense (benefit) computed by applying the statutory federal income
tax rate to the income (loss) before income taxes, for the years ended December
31, 1997, 1996 and 1995 is as follows:

<TABLE>
<CAPTION>
                                                                1997          1996          1995
                                                            -----------    -----------   ------------
<S>                                                         <C>            <C>            <C>
Federal tax expense (benefit) at 34%                         $2,963,966     $1,176,167     $(402,082)
State tax expense (benefit), net of federal tax                 569,124        655,008       (46,734)
Tax basis difference related to original investment in
 Milesburg project assets                                       568,311             --            --
Deferred compensation                                                --         60,471            --
Nondeductible portion of  meals and entertainment                 1,659          1,873           832
Other                                                               624            516            --
                                                            -----------    -----------   ------------
                                                             $4,103,684     $1,894,035     $(447,984)
                                                            ===========    ===========   ============
</TABLE>

     As of December 31, 1996, the Company had Federal net operating loss
carryforwards of $7,616,260 which were all used to offset taxable income in
1997.  As of December 31, 1997, the Company has remaining state net operating
loss carryforwards of $326,919 which expire in 2009 and alternative minimum tax
credit carryforwards of $161,362 which do not expire and can be credited against
future regular taxes to the extent they exceed alternative minimum taxes.

NOTE K -- SHAREHOLDERS' EQUITY

   Stock Options

     The Company has reserved 405,000 shares of common stock for issuance upon
exercise of stock options which are outstanding or may be granted under the
Company's 1993 Director Plan, and 10,000 shares of common stock for the issuance
of stock options granted outside of such plans.  The options granted under these
plans were intended to constitute incentive stock options under the Internal
Revenue Code of 1986 or non-qualified options principally at an option price of
100 percent of the fair market value of the common stock on the date of the
grant (110 percent of the fair market value in the case officers or other
employees holding 10% or more of the Company's common stock for the 1990 plan).
All options are fully vested at the date of grant and expire on the 10th
anniversary of the date of grant.  As of December 31, 1997, the Company has
options for 365,000 shares available for grant under the 1993 Director Plan.

Stock option transactions during 1997, 1996 and 1995 are summarized as follows:

<TABLE>
<CAPTION>
                                                                               Options Outstanding
                                                                     -------------------------------------
                                                                           Shares               Price
                                                                     ---------------     -----------------
<S>                                                                    <C>                 <C>
     Balance at January 1, 1995                                            2,023,244        $  .125 - .625
     Options granted                                                          30,000           .25 - .4375
     Options canceled                                                       (250,000)                .5625
     Options exercised                                                    (1,463,244)          .125 - .625
                                                                     ---------------     -----------------
     Balance at December 31, 1995                                            340,000           .14 - .5625
     Options granted                                                          60,000            .6875-1.00
     Options exercised                                                       (50,000)          .14 - .4375
                                                                     ---------------     -----------------
     Balance at December 31, 1996                                            350,000            .25 - 1.00
     Options granted                                                          30,000           .6875-.8125
     Options exercised                                                      (330,000)          .25 - .9375
                                                                     ---------------     -----------------
     Balance at December 31, 1997                                             50,000        $   .25 - 1.00
                                                                     ===============     =================
</TABLE>

                                      F-19
<PAGE>

The following table summarizes information about the Company's options
outstanding as of December 31, 1997:


                                   Outstanding         Weighted-Average
Exercise                               and                 Remaining
 Price                             Exercisable         Contractual Life
---------------------------------------------------------------------------
$  .2500                             10,000               7.42 years
   .6250                             10,000               6.42 years
   .6875                             20,000               8.88 years
  1.0000                             10,000               8.42 years
---------------------------------------------------------------------------

$  .6500                             50,000               8.00 years
===========================================================================

     Under the provisions of Accounting Principles Board Opinion ("APB") No. 25,
the Company does not recognize compensation expense for stock option awards
since the underlying options have exercise prices equal to 100 percent of the
fair market value of the common stock on the date of grant (110 percent of the
fair market value in the case officers or other employees holding 10% or more of
the Company's common stock for the 1990 plan).  However, pursuant to the
provisions of SFAS No. 123, the Company is required to calculate the fair market
value of its stock options using different criteria from the provisions of APB
No. 25. Using the fair market value criteria required by SFAS No. 123 to
calculate compensation expense on stock options granted during 1997, 1996 and
1995, the Company would have incurred proforma net income of $4,608,669 and
proforma net earnings per share of $.41 in 1997, proforma net income of
$1,549,676 and proforma net earnings per share of $.14 in 1996, and proforma net
loss of $737,994 and proforma net loss per share of $.07 in 1995.

     The estimated fair market values of the Company's options granted during
1997, 1996 and 1995 were $.33 per share, $.43 per share and $.18 per share,
respectively.  The fair market values were calculated using the Binomial Option
Pricing Model assuming a dividend yield of 12%, a risk free interest rate of
5.99%, an expected useful life of 5 years and an expected volatility of 52.54%,
104.65% and 104.65% during 1997, 1996 and 1995, respectively.

     Dividends

     In December 1995, the Company declared and paid a dividend of 8 cents per
share. Prior to that date, the Company's policy had been to retain earnings, if
any, for use in its business. During 1996, the Company initiated a quarterly
dividend program which is subject to review and consideration by the Board of
Directors each quarter. In respect of this dividend program, the Company
declared quarterly dividends of 3 cents per share during each of the quarters
during the years ended December 31, 1996 and 1997. In addition, the Company also
declared a special year end dividend of 2 cents per share out of operating
profits in 1996 and a special dividend of 87 cents per share in 1997 out of the
proceeds from the Milesburg settlement (See Note A) which resulted in aggregate
dividends of 14 cents per share in 1996 and 99 cents per share in 1997. As of
December 31, 1997, the Company had dividends payable of $10,266,105 or 90 cents
per share which were declared on December 10, 1997 and paid on January 7, 1998.

     During 1997, the Company also paid dividends to its subsidiary's preferred
stockholder in the amount of $30,178.  The preferred stockholder, entitled to
cumulative dividends of $5,000 per year since December 1991, was paid its
dividends up to date during the second quarter of 1997.  Upon dissolution or
liquidation of the Company, the preferred stockholder has a liquidation
preference to receive $500 per share, plus any cumulative unpaid dividends,
prior to the distribution of any remaining assets to common shareholders.

     Other Equity Transactions

     During 1993 the Company issued 594,356 shares of restricted common stock to
executive officers.  The shares were subject to a three year vesting period
based upon continued employment through November, 1996. The

                                      F-20
<PAGE>

Company incurred unearned compensation for the market value of the restricted
common stock when the shares were issued and amortized the unearned compensation
ratably over the restricted period. During 1996 and 1995, the Company amortized
unearned compensation of $66,941 and $80,340, respectively, in the Consolidated
Statement of Operations. There was no amortization of unearned compensation in
1997.

     The Company has notes receivable from officers for shares purchased in
connection with the Company's 1990 Stock Plan which amounted to $809,731 and
$761,156 at December 31, 1997 and 1996, respectively, and which are classified
as a reduction of shareholders' equity.  The notes are payable upon demand and
bear interest at a floating rate which is payable monthly.

     In March 1996, the Company purchased 520,540 shares of common stock from a
resigning executive officer for $287,876 representing all of the officer's
holdings in the Company.  The Company's note receivable from the officer in the
amount of $72,876 was collected by reducing the proceeds paid to the officer for
the common stock.

     Pursuant to an agreement with Drexel Burnham Lambert Incorporated
("Drexel") dated January 26, 1990 the Company issued to Drexel 18,740 shares of
non-voting Series A Convertible Preferred Stock, $.01 par value per share (the
Preferred Stock). The Preferred Stock was convertible into common stock at a
ratio of 1:181 and had a liquidation value of $1,874,000.  Dividends on the
Preferred Stock accrued at a rate of 14% per annum (total of $1,030,812 at
December 31, 1993) and were payable either in cash out of funds legally
available therefore or, at the option of the Company, in additional shares of
Preferred Stock.  On January 24, 1994, the Company entered into an agreement
with Drexel's successor, The DBL Liquidating Trust ("The Trust"), under which
the Company acquired the Preferred Stock.  Under the terms of the agreement the
Company acquired the Trust's rights to all of its Preferred Stock.  In addition,
the Company was not required to pay dividends accrued on such Preferred Stock.
The agreement also provided that the Company pay the Trust an aggregate of
$1,850,000 over 30 monthly installments beginning January 1994.  During 1994,
the Company made monthly installments aggregating $300,000.  On December 31,
1994, the parties agreed to settle the remaining outstanding obligation for
$1,475,000 which was paid on January 5, 1995 and at which time the Preferred
Stock was retired.

NOTE L -- COMMITMENTS

   Corporate

     The Company is obligated to make payments under various operating leases
for office space and automotive vehicles.  The Company is also obligated under
leases or other agreements relating to the Scrubgrass Project (see Note A).

     Future minimum payments due under non-cancelable leases in effect at
December 31, 1997, are as follows:

                     1998                                           $ 38,200
                     1999                                             17,853
                     2000                                              6,814
                                                                    --------
                     Total                                          $ 62,867
                                                                    ========

Rent expense totaled $38,844, $44,868 and $70,722 in 1997, 1996 and 1995,
respectively.

                                      F-21
<PAGE>

   Scrubgrass Project

     Pursuant to the lease agreement for the Scrubgrass Project the Company is
obligated to make estimated minimum lease payments at December 31, 1997, over
the remaining 18.5 year base term of the lease as follows:

                       1998                     $  13,404,000
                       1999                        13,662,000
                       2000                        14,392,000
                       2001                        13,967,000
                       2002                        14,884,000
                 Thereafter                       359,466,000
                                                =============
                      Total                     $ 429,775,000
                                                =============

Lease expense in 1997, 1996 and 1995 was $24,488,005, $24,792,248 and
$23,020,132, respectively.

In addition, the Company has been assigned various long-term noncancelable
obligations under contractual agreements for fuel handling and excavation,
limestone supply, and waste disposal. The contractual terms are generally for 5
to 15 years and provide for renewal options.

Future minimum payments due under these noncancelable obligations at December
31, 1997 are as follows (See Notes A and E):

                       1998                     $    688,000
                       1999                          715,000
                       2000                          744,000
                       2001                          773,000
                       2002                          165,000
                 Thereafter                        1,129,000
                                                ============
                      Total                     $  4,214,000
                                                ============

NOTE M -- DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS

     The following disclosure of the estimated fair value of financial
instruments is made in accordance with the requirements of SFAS No. 107,
"Disclosures about Fair Value of Financial Instruments".  The estimated fair
value amounts have been determined by the Company using available market
information and appropriate valuation methodologies.  However, considerable
judgment is necessarily required in interpreting market data to develop the
estimates of fair value.  Accordingly, the estimates presented herein are not
necessarily indicative of the amounts that the Company could realize in a
current market exchange. The use of different market assumptions and/or
estimation methodologies may have a material effect on the estimated fair value
amounts.

     The following tables summarize the carrying amount and estimated fair value
of financial instruments as of December 31, 1997 and 1996:

                                      F-22
<PAGE>

<TABLE>
<CAPTION>
                                                                                    December 31, 1997
                                                                       -----------------------------------------
                                                                               Carrying          Estimated  Fair
                                                                                 Amount               Value
                                                                       -----------------------------------------
<S>                                                                    <C>                       <C>
Assets:
     Cash and cash equivalents                                                $12,092,273            $12,092,273
     Other current assets                                                       7,946,370              7,946,370
     Notes receivable                                                           2,983,562              2,983,562
     Other assets                                                              34,855,338             34,855,338
Liabilities:
     Accounts payable and accrued expenses                                      6,325,062              6,325,062
     Dividends payable                                                         10,266,105             10,266,105
     Other current liabilities                                                  2,911,666              2,911,666
     Secured promissory notes payable and other  borrowings                     4,673,727              4,673,727
     Other liabilities                                                         33,362,389             33,362,389
</TABLE>

<TABLE>
<CAPTION>

                                                                                    December 31, 1996
                                                                       -----------------------------------------
                                                                               Carrying          Estimated  Fair
                                                                                 Amount               Value
                                                                       -----------------------------------------
<S>                                                                    <C>                       <C>
Assets:
     Cash and cash equivalents                                                $ 1,178,524            $ 1,178,524
     Other current assets                                                       8,705,380              8,705,380
     Notes receivable                                                           3,022,690              3,022,690
     Other assets                                                              25,537,623             25,537,623
Liabilities:
     Accounts payable and accrued expenses                                      5,781,933              5,781,933
     Other current liabilities                                                  2,696,143              2,696,143
     Secured promissory notes payable and other  borrowings                     9,340,937              9,340,937
     Other liabilities                                                         24,456,478             24,456,478
</TABLE>

NOTE N -- LEGAL PROCEEDINGS

   On May 3, 1996, B&W Sunnyside L.P., NRG Sunnyside Inc., NRG Energy Inc., and
Sunnyside Cogeneration Associates (collectively the "Plaintiffs") filed a
complaint, which was amended on June 27, 1996, against the Company and three of
its wholly-owned subsidiaries (collectively hereafter in Note N "the Company")
in Seventh District Court for Carbon County, State of Utah.  The amended
complaint alleges that the Company breached the purchase and sale agreement by
which the Company transferred all of its interest in Sunnyside Cogeneration
Associates, a joint venture which owned and operated a nominal 51 megawatt waste
coal fired facility located in Carbon County, Utah.  The amended complaint also
alleges that the Company made certain misrepresentations in connection with the
purchase and sale agreement.  As a result of the alleged breaches of contract
and misrepresentations, the Plaintiffs allege that they suffered damages in an
unspecified amount that exceed the aggregate outstanding principal and interest
balances due to the Company by B&W Sunnyside L.P. and NRG Sunnyside, Inc. under
certain notes receivable, which amounted to $2,937,500 and $515,068,
respectively at December 31, 1997.  In addition to alleging unspecified damages,
the Plaintiffs also request rescission of the purchase and sale agreement.  On
July 30, 1996, in response to the Plaintiffs' amended complaint, the Company
filed an answer and counterclaim.  In the answer to the amended complaint, the
Company denied all material allegations of the amended complaint and asserted
numerous affirmative defenses.  In the counterclaim, the Company alleges
numerous causes of action against the Plaintiffs which include breach of
contract, breach of the promissory notes, intentional, malicious and willful
breach of contract, intentional tort, interference and misrepresentation.
Through the counterclaim, the Company seeks remedies which include: (1)
compensatory, consequential and punitive damages; (2) acceleration and immediate
payment in full of the promissory notes; and (3) injunctions which require the
Plaintiffs to continue making payments under the promissory notes during the
pendency of this action and until the promissory notes are paid in full and
which enjoin the Plaintiffs from continuing certain malicious and intentional
actions that are alleged in the counterclaim, together with interest, reasonable
attorney's fees,

                                      F-23
<PAGE>

costs and other such relief as the court deems proper. On August 30, 1996, the
Plaintiffs filed a reply to the Company's counterclaim in which they denied all
material allegations of the counterclaim and asserted numerous affirmative
defenses. The Company plans to vigorously defend against the amended complaint
and vigorously pursue the causes of action stated in the counterclaim. The
matter is currently in the discovery stage.

                                      F-24