VDI MEDIA, 10-K405, 1999-03-31

VDI MEDIA
10-K405, 1999-03-31
MOTION PICTURE & VIDEO TAPE PRODUCTION

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SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549
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FORM 10-K

FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO SECTIONS 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

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

FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998,

/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

FOR THE TRANSITION PERIOD FROM ______________ TO ______________

COMMISSION FILE NUMBER 000-21917
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VDI MEDIA

(Exact name of registrant as specified in its charter)

CALIFORNIA 95-4272619
(State of or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) No.)

6920 SUNSET BOULEVARD, HOLLYWOOD, 90028
CALIFORNIA (Zip Code)
(Address of principal executive offices)

Registrant's telephone number, including area code (323) 957-5500

Securities registered pursuant to Section 12(b) of the Act
None

Securities registered pursuant to Section 12(g) of the Act
Common Stock, no 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 this
Form 10-K. /X/

The aggregate market value of the voting stock held by non-affiliates of the
registrant is approximately $53,768,517 based upon the closing price of such
stock on March 29, 1998. As of March 29, 1998, there were 9,776,094 shares of
Common Stock outstanding.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant's definitive proxy statement for its 1999 annual
meeting of shareholders are incorporated by reference in Items 10 through 13 of
this report. The definitive proxy statement will be filed with the Securities
and Exchange Commission no later than 120 days after the close of the
registrant's fiscal year.

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Total number of pages Exhibit Index begins on page
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PART I

ITEM 1. BUSINESS

GENERAL

VDI Media ("VDI" or the "Company") is a leading provider of video and film
asset management services to owners, producers and distributors of entertainment
and advertising content. VDI provides the services necessary to edit, master,
reformat, archive and ultimately distribute its clients' video content,
including television programming, spot advertising and movie trailers.

The Company provides worldwide electronic distribution, using fiber optics
and satellites, through its Broadcast One-Registered Trademark- network. The
Company delivers commercials, movie trailers, electronic press kits,
infomercials and syndicated programming, by both physical and electronic means,
to thousands of broadcast outlets worldwide.

The Company seeks to capitalize on growth in demand for the services related
to the distribution of entertainment content, without assuming the production or
ownership risk of any specific television program, feature film or other form of
content. The primary users of the Company's services are entertainment studios
and advertising agencies that generally choose to outsource such services, due
to the sporadic demand for such services and the fixed costs of maintaining a
high-volume physical plant.

Since its first acquisition in 1997, the Company has successfully completed
seven acquisitions of companies providing similar services. The latest of these
acquisitions occurred in November 1998 when the Company acquired the assets of
Dubs, Inc. ("Dubs"), one of the Company's largest direct competitors in
Hollywood. The Company will continue to evaluate acquisition opportunities to
enhance its operations and profitability. As a result of these acquisitions, VDI
is one of the largest and most diversified providers of technical and
distribution services to the entertainment industry, and therefore is able to
offer its customers a single source for such services at prices that reflect the
Company's scale economies.

In the first quarter of 1997, the Company completed its initial public
offering of 3.1 million shares of Common Stock at a price to the public of $7.00
per share (the "Initial Public Offering"). The net proceeds of the Initial
Public Offering were used to repay indebtedness, pay an S Corporation
distribution and provide funds to acquire businesses complementary to the
Company's operations. For a discussion of the Offering see "Management's
Discussion and Analysis of Financial Condition and Results of Operations--
Liquidity and Capital Resources."

The Company was incorporated in California in 1990. The Company's executive
offices are located at 6920 Sunset Boulevard, Hollywood, California 90028, and
its telephone number is (323) 957-5500. Broadcast One-Registered Trademark- is a
registered service mark of the Company.

MARKETS

The Company derives revenues primarily from (i) the entertainment industry;
consisting of major and independent motion picture and television studios, cable
television program suppliers, television program syndicators, and (ii) the
advertising industry; consisting of advertising agencies and corporate
advertisers. On a more limited basis, the Company also services national
television networks, local television stations, corporate or instructional video
providers, infomercial advertisers and educational institutions.

ENTERTAINMENT INDUSTRY. The entertainment industry creates motion pictures,
television programming, and interactive multimedia content for distribution
through theatrical exhibition, home video, pay and basic cable television,
direct-to-home, private cable, broadcast television, on-line services and video
games. Content is released into a "first-run" distribution channel, and later
into one or more additional channels or media. In addition to newly produced
content, film and television libraries may be released repeatedly into
distribution. Entertainment content produced in the United States is exported
and is in increasingly high demand internationally. The Company believes that
several trends in the entertainment industry have

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and will continue to have a positive impact on the Company's business. These
trends include growth in worldwide demand for original entertainment content,
the development of new markets for existing content libraries, increased demand
for innovation and creative quality in domestic and foreign markets, and wider
application of digital technologies for content manipulation and distribution,
including the emergence of new distribution channels.

ADVERTISING INDUSTRY. The advertising industry distributes video and audio
commercials, or spots, to radio and television broadcast outlets worldwide.
Advertising content is developed either by the originating company or in
conjunction with an advertising agency. The Company receives orders with
specific routing and timing instructions provided by the customer. These orders
are then entered into the Company's computer system and scheduled for electronic
or physical delivery. When a video spot is received, the Company's quality
control personnel inspect the video to ensure that it meets customer
specifications and then initiate the sequence to distribute the video to the
designated television stations either electronically, over fiber optic lines
and/or satellite, or via the most suitable package carrier. The Company believes
that the growth in the number of video advertising outlets, driven by expansion
in the number of broadcast, cable, internet and satellite channels worldwide,
will have a positive impact on the Company's businesses.

DISTRIBUTION NETWORK

VDI operates a full service distribution network providing its customers
with reliable, timely and high quality distribution services. The Company's
historical customer base consists of motion picture and television studios and
post-production facilities located primarily in the Los Angeles area. In 1994,
the Company created the Broadcast One network to enhance its national
distribution capabilities. In 1997, the Company acquired Woodholly Productions
("Woodholly"), Multi-Media Services, Inc. ("Multi-Media"), Video It, Inc.
("Video It") and Fast Forward, Inc. ("Fast Forward"), providing it with a more
diversified customer base and facilities in New York, Chicago, San Francisco and
additional facilities in Los Angeles. In 1998 the Company acquired The Dub
House, Inc. (the "Dub House"), All Post, Inc. ("All Post"), and Dubs, which
substantially expanded its market share in Los Angeles.

Commercials, trailers, electronic press kits and related distribution
instructions are typically collected at one of the Company's regional facilities
and are processed locally or transmitted over Broadcast One's network directly
to another regional facility for processing. Orders are routinely received into
the evening hours for delivery the next morning. The Company has the ability to
process customer orders from receipt to transmission in less than one hour.
Customer orders that require immediate, multiple deliveries in remote markets
are often delivered electronically to and serviced by third parties with
duplication and delivery services in such markets. The Company's network
operates 24 hours a day.

The Chicago facility, which is the main hub of the Company's distribution
capabilities, is strategically located to provide an extended deadline for air
courier shipments. Currently, the Chicago facility delivers a majority of VDI's
overnight deliveries. A significant portion of the operating expenses of the
Chicago facility is fixed; moreover, this facility contains ample space in which
to expand operations, providing the opportunity for improved operating margins
as the Company's business continues to grow. By utilizing the Chicago facility's
excess capacity, the Company believes it can further increase its duplication
and distribution capacity without significant additional capital expenditures.

For electronic distribution, the master is digitized and delivered by fiber
optic, ISDN or satellite transmission to television stations equipped to receive
such transmissions. The Company currently derives a small percentage of its
revenues from electronic deliveries and anticipates that this percentage will
increase as such technologies become more widely accepted.

The Company intends to add new methods of distribution as technologies
become both standardized and cost-effective. The Company currently operates
facilities in Los Angeles (six locations), New York, Chicago, Dallas and San
Francisco which the Company believes together distribute an average of
approximately 5,500 video segments a day. By capitalizing on Broadcast One's
ability through electronic

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technologies to link instantaneously all of the Company's facilities and by
leveraging the Company's presence in Chicago and New York, the Company is able
to optimize delivery, thus extending the deadline for same- or next-day delivery
of time-sensitive material.

As the Company continues to develop and acquire facilities in new markets,
the Broadcast One network enables it to maximize the usage of its network-wide
capacity by instantaneously transmitting video content to facilities with
available capacity. The Company's Broadcast One network and facilities are
designed to serve, cost-effectively, the time-sensitive distribution needs of
its clients. Management believes that the Company's success is based on its
customer relationships that are maintained through the reliability, quality and
cost-effectiveness of its services, and its extended deadline for processing
customer orders.

VALUE-ADDED SERVICES

VDI maintains video and audio post-production and editing facilities as
components of its full service, value-added approach to its customers. The
following summarizes the value-added post-production services that the Company
provides to its customers:

FILM-TO-TAPE TRANSFER. Substantially all film content ultimately is
distributed to the home video, broadcast, cable or pay-per-view television
markets, requiring that film images be transferred to a video format. Each frame
must be color corrected and adapted to the size and aspect ratio of a television
screen in order to ensure the highest level of conformity to the original film
version. The Company transfers film to videotape using URSA and Rank Cintel MK-3
telecine equipment and DaVinci-Registered Trademark- digital color correction
systems. Technological developments, such as the domestic introduction of
television sets with a 16 x 9 aspect ratio and the implementation of advanced
and high definition digital television systems for terrestrial and satellite
broadcasting, should contribute to the growth of the Company's film transfer
business.

VIDEO EDITING. VDI provides digital editing services in Hollywood, Burbank,
West Los Angeles and San Francisco. The editing suites are equipped with (i)
state-of-the-art digital editing equipment, including the Avid-Registered
Trademark- 9000, that provides precise and repeatable electronic transfer of
video and/or audio information from one or more sources to a new master video
and (ii) large production switchers to effect complex transitions from source to
source while simultaneously inserting titles and/or digital effects over
background video. Video is edited into completed programs such as television
shows, infomercials, commercials, movie trailers, electronic press kits,
specials, and corporate and educational presentations.

STANDARDS CONVERSION. Throughout the world there are several different
broadcasting "standards" in use. To permit a program recorded in one standard to
be broadcast in another, it is necessary for the recorded program to be
converted to the applicable standard. This process involves changing the number
of video lines per frame, the number of frames per second, and the color system.
VDI is able to convert video between all international formats, including NTSC,
PAL and SECAM. The Company's competitive advantages in this service line include
its state-of-the-art systems and its detailed knowledge of the international
markets with respect to quality-control requirements and technical
specifications.

ENCODING. VDI provides encoding services, known as "veil encoding," in
which a code is placed within the video portion of an advertisement or an
electronic press kit. Such codes can be monitored from standard television
broadcasts to determine which advertisements or portions of electronic press
kits are shown on or during specific television programs, providing customers
direct feedback on allotted air time. The Company provides veil-encoding
services for a number of its motion picture studio clients to enable them to
customize their promotional material. The Company also provides "ice encoding"
services which enable it to place codes within the audio portion of a video
thereby enhancing the overall quality of the encoded video.

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AUDIO POST-PRODUCTION. Through its facilities in Burbank and West Los
Angeles, the Company digitally edits and creates sound effects, assists in
replacing dialog and re-records audio elements for integration with film and
video elements. The Company designs sound effects to give life to the visual
images with a library of sound effects. Dialog replacement is sometimes required
to improve quality, replace lost dialog or eliminate extraneous noise from the
original recording. Re-recording combines sound effects, dialog, music and
laughter or applause to complete the final product. In addition, the re-
recording process allows the enhancement of the listening experience by adding
specialized sound treatments, such as stereo, Dolby SR-Registered Trademark-,
THX-Registered Trademark- and Surround Sound-Registered Trademark-.

AUDIO LAYBACK. Audio layback is the process of creating duplicate videotape
masters with sound tracks that are different from the original recorded master
sound track. Content owners selling their assets in foreign markets require the
replacement of dialog with voices speaking local languages. In some cases, all
of the audio elements, including dialog, sound effects, music and laughs, must
be recreated, remixed and synchronized with the original videotape. Audio
sources are premixed foreign language tracks or tracks that contain music and
effects only. The latter is used to make a final videotape product that will be
sent to a foreign country to permit addition of a foreign dialogue track to the
existing music and effects track.

FOREIGN LANGUAGE MASTERING. Programming designed for distribution in
markets other than those for which it was originally produced is prepared for
export through language translation and either subtitling or voice dubbing. The
Company provides dubbed language versioning with an audio layback and conform
service that supports various audio and videotape formats to create an
international language-specific master videotape. The Company's Burbank facility
also creates music and effects tracks from programming filmed before an audience
to prepare television sitcoms for dialog recording and international
distribution.

SYNDICATION. The Company offers a broad range of technical services to
domestic and international programmers. The Company services the basic and
premium cable, broadcast syndication and direct-to-home market segments by
providing the facilities and services necessary to assemble and distribute
programming via satellite to viewers in the United States, Canada and Europe.
The Company provides facilities and services for the delivery of syndicated
television programming in the United States and Canada. The Company's customer
base consists of the major studios and independent distributors offering network
programming, worldwide independent content owners offering niche market
programming, and pay-per-view services marketing movies and special events to
the cable industry and direct-to-home viewers. Broadcast and syndication
operations are conducted in Hollywood and West Los Angeles.

ARCHIVAL SERVICES. The storage and handling of videotape and film elements
require specialized security and environmental control procedures. Throughout
the entertainment industry, content representing millions of dollars of future
revenue is stored in physically small units that are subject to the risk of loss
resulting from physical deterioration, natural disaster, unauthorized
duplication or theft. The Company currently stores more than one million masters
in a protected environment. In addition to the physical security of the
archives, content owners require frequent and regular access to their libraries.
Speed and accuracy of access is a critical value-added factor. The Company
therefore believes that as a result of growth in its Broadcast One network, it
will have the opportunity to increase revenues from this service. The Company
recently installed a state-of-the-art secure management system in its West Los
Angeles facility, which the Company intends to install in its other facilities
over the next few years. The Company believes this system is the most advanced
in the media industry with respect to security, environmental control and access
features.

NEW MARKETS

The Company believes that the development of the Broadcast One network and
its array of value-added services will provide the Company with the opportunity
to enter or significantly increase its presence in several new or expanding
markets.

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INTERNATIONAL. The Company currently provides video duplication services
for suppliers to international markets. Through the Woodholly Acquisition, the
Company acquired and subsequently has leveraged this capability by offering
access to international markets to its entire customer base. Further, the
Company believes that electronic distribution methods will facilitate its
expansion into the international distribution arena as such technologies become
standardized and cost-effective. In addition, the Company believes that the
growth in the distribution of domestic content into international markets will
create increased demand for value-added services currently provided by the
Company such as standards conversion and audio and digital mastering.

RADIO. The Company believes that the growth of Broadcast One will
strengthen its relationships with advertisers who make spot market purchases of
both television and radio advertising, resulting in the expansion of its
presence in the distribution of radio advertisements. The Company presently
provides spot radio advertising distribution for a small number of its clients.

CABLE. The Company believes that continued consolidation of cable system
ownership among multiple system operators will attract increasing national spot
advertising on local cable systems, especially in major markets, increasing the
volume of advertisements which could be distributed to cable operators.

RECENT ACQUISITIONS

The Company from time to time considers the acquisition of content delivery
or other businesses complementary to its current operations. As part of its
acquisition strategy, during 1997 the Company acquired four businesses:
Woodholly, Multi-Media, Video It and Fast Forward. During 1998 the Company
acquired three businesses: the Dub House, All Post and Dubs.

The Company acquired the Dub House in June 1998. The Dub House provides
video duplication, distribution and video content storage to major advertising
agencies and, to a lesser extent, provides ancillary services to its customers.
The acquisition of The Dub House, located in Dallas, Texas reduces the amount of
subcontracted distribution and production work needed in this geographic area.
The acquisition also increased the Company's advertising agency client base. The
purchase price for the Dub House consisted of $1.5 million in cash and up to
$0.2 million in contingent earn-out payments. At December 31, 1998, no
contingent earn-out payments had yet been earned or accrued.

All Post, which the Company acquired in June 1998, provides full service
duplication, distribution, video content storage, audio and video editing
services and ancillary services to major motion picture studios and independent
production. The acquisition of All Post, with facilities in Burbank, California
added certain new customer relationships, increased business with existing
clients and enabled the Company to offer a more complete range of services to
its customers, thereby capturing a larger portion of its customers' business.
The purchase price consisted of an initial cash payment of $13.0 million, and up
to $1.4 million in contingent earn-out payments. At December 31, 1998, no
contingent earn-out payments had yet been earned or accrued.

In November 1998, the Company acquired substantially all of the assets of
Dubs, a provider of full service duplication, distribution, video content
storage and ancillary services. The acquisition of Dubs, the Company's primary
competitor in the important Hollywood market, increases the Company's market
share in all aspects of media management services. The purchase price consisted
of $11.9 million (including the repayment of $3.9 million in debt) and a
contingent earn-out of up to $3.3 million in the Company's common stock. At
December 31, 1998, the earn-out had not yet been earned or accrued.

SALES AND MARKETING

The Company markets its services through a combination of industry
referrals, formal advertising, trade show participation, special client events,
and its internet website. While VDI relies primarily on its reputation and
business contacts within the industry for the marketing of its services, the
Company has also

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expanded its direct sales force to communicate the capabilities and competitive
advantages of the Company's services to potential new customers. In addition,
the Company's sales force solicits corporate advertisers who may be in a
position to influence agencies in directing deliveries through the Company. The
Company currently has sales representatives located in Los Angeles, San
Francisco, and New York. The Company's marketing programs are directed toward
communicating its unique capabilities and establishing itself as the predominant
value-added distribution network for the motion picture and advertising
industries.

In addition to its traditional sales efforts directed at those individuals
responsible for placing orders with VDI's facilities, the Company also strives
to negotiate "preferred vendor" relationships with its major customers. Through
this process, the Company negotiates discounted rates with large volume clients
in return for being promoted within the client's organization as an established
and accepted vendor. This selection process tends to favor larger service
providers such as VDI that (i) offer lower prices through scale economies; (ii)
have the capacity to handle large orders without outsourcing to other vendors;
and (iii) can offer a strategic partnership on technological and other
industry-specific issues. To date, the Company has successfully negotiated two
such agreements with major entertainment studios, both of which expire within
the next twelve months.

CUSTOMERS

Since its inception in 1990, VDI has added customers and increased its sales
through acquisitions and a combination of reliability, timeliness, quality and
price. The integration of the Company's regional facilities through Broadcast
One has given its customers a time advantage in the ability to deliver broadcast
quality material. The Company markets its services to major and independent
motion picture and television production companies, advertising agencies,
television program suppliers and, on a more limited basis, national television
networks, infomercial providers, local television stations, television program
syndicators, corporations and educational institutions. The Company's motion
picture clients include The Walt Disney Motion Picture Group, the Columbia/Tri
Star Motion Picture Companies, Twentieth Century Fox, Universal Studios, Inc.,
Warner Bros., Metro-Goldwyn-Mayer Film Group and Paramount Pictures Corporation.
The Company's advertising agency customers include TBWA/Chiat Day, Young &
Rubicam and Saatchi & Saatchi.

The Company solicits the motion picture and television industries,
advertisers and their agencies to generate revenues. In the year ended December
31, 1998, the seven major motion picture studios accounted for approximately
52.3% of the Company's revenues. The Walt Disney Company and its subsidiaries
accounted for approximately 13.1% of the Company's revenues for the year ended
December 31, 1998. In the year ended December 31, 1997, Viacom, Inc. (which
includes Paramount Pictures Corporation and Worldvision Enterprises) accounted
for approximately 11.9% of the Company's revenues.

The Company generally does not have long-term or exclusive agreements with
its clients. Because clients generally do not make arrangements with the Company
until shortly before its facilities and services are required, the Company
usually does not have any significant backlog of service orders. The Company's
services are generally offered on an hourly or per unit basis based on volume.

CUSTOMER SERVICE

VDI believes it has built its strong reputation in the market with a
commitment to customer service. VDI receives customer orders via courier
services, telephone, telecopier and the Internet. The customer service staff
develops strong relationships with clients within the studios and advertising
agencies and is trained to emphasize the Company's ability to confirm delivery,
meet difficult delivery time frames and provide reliable and cost-effective
service. Several studios are customers because of the Company's ability to meet
often changing or rush delivery schedules.

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The Company has a customer service staff of 78 people, at least one member
of which is available 24 hours a day. This staff serves as a single point of
problem resolution and supports not only the Company's customers, but also the
television stations and cable systems to which the Company delivers.

COMPETITION

The video duplication and distribution industry is a highly competitive
service-oriented business. Certain competitors (both independent companies and
divisions of large companies) provide all or most of the services provided by
the Company, while others specialize in one or several of these services.
Substantially all of the Company's competitors have a presence in the Los
Angeles area, which is currently the largest market for the Company's services.
Due to the current and anticipated future demand for video duplication and
distribution services in the Los Angeles area, the Company believes that both
existing and new competitors may expand or establish video service facilities in
this area.

The Company believes that it maintains a competitive position in its market
by virtue of the quality and scope of the services it provides, and its ability
to provide timely and accurate delivery of these services. The Company believes
that prices for its services are competitive within its industry, although some
competitors may offer certain of their services at lower rates than the Company.

The principal competitive factors affecting this market are reliability,
timeliness, quality and price. The Company competes with a variety of
duplication and distribution firms, certain post-production companies and, to a
lesser extent, the in-house operations of major motion picture studios and ad
agencies. Some of these competitors have long-standing ties to clients that will
be difficult for the Company to change. Several companies have systems for
delivering video content electronically. Moreover, some of these firms, such as
Vyvx (a subsidiary of the Williams Companies), Digital Generation Systems, Inc.,
Todd AO Corporation, Four Media Company, and other post-production companies may
have greater financial, operational and marketing resources, and may have
achieved a higher level of brand recognition, than the Company. As a result,
there is no assurance that the Company will be able to compete effectively
against these competitors merely on the basis of reliability, timeliness,
quality, price or otherwise.

EMPLOYEES

The Company had 572 full-time employees as of December 31, 1998. The
Company's employees are not represented by any collective bargaining
organization, and the Company has never experienced a work stoppage. The Company
believes that its relations with its employees are good.

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ITEM 2. PROPERTIES

The Company currently leases all 17 of its facilities. Ten of these
facilities have production capabilities and/or sales activities, five are
storage vaults and two are no longer used. Of the two no longer used, one is
currently in negotiations to be sublet, and the lease on the other expires in
July 1999. The lease terms expire at various dates from May 1999 to October
2008. The following table sets forth the location and approximate square footage
of the Company's properties as of December 31, 1998:

<TABLE>
<CAPTION>
SQUARE
LOCATION FOOTAGE
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<S> <C>
Hollywood, CA........................................................................ 32,000
Hollywood, CA........................................................................ 32,000
Hollywood, CA........................................................................ 45,000
Hollywood, CA........................................................................ 4,000
Hollywood, CA........................................................................ 7,200
Hollywood, CA........................................................................ 13,000
Hollywood, CA........................................................................ 3,000
Hollywood, CA........................................................................ 27,000
Hollywood, CA........................................................................ 13,400
North Hollywood, CA.................................................................. 27,000
Santa Monica, CA..................................................................... 13,400
San Francisco, CA.................................................................... 3,300
San Francisco, CA.................................................................... 10,200
Tulsa, OK............................................................................ 22,500
Chicago, IL.......................................................................... 12,200
New York, NY......................................................................... 9,000
Dallas, TX........................................................................... 4,500
</TABLE>

ITEM 3. LEGAL PROCEEDINGS

The Company is currently preparing for an arbitration proceeding, to
commence on May 17, 1999, with the prior owners of Video It, which the Company
purchased in October 1997. The prior owners believe they were wrongfully
terminated from the Company and are seeking damages. The Company believes it
does not owe any amounts related to this matter. Furthermore, the Company has a
counter-claim outstanding against the prior owners of Video It. The Company does
not believe that the resolution of this proceeding will have a material adverse
effect on its financial condition.

The Company is not currently involved in any other material legal
proceedings.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

No matters were submitted to the Company's stockholders for a vote during
the fourth quarter of the fiscal year covered by this report.

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PART II

ITEM 5. MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

MARKET INFORMATION

The Company's Common Stock is traded on the National Association of
Securities Dealers, Inc. Automated Quotation System ("NASDAQ") National Market
("NNM") under the symbol VDIM. The Common Stock began trading on the NNM on
February 19, 1997. The following table sets forth, for the periods indicated,
the high and low closing sales price per share for the Common Stock.

<TABLE>
<CAPTION>
COMMON STOCK
--------------------
LOW HIGH
--------- ---------
<S> <C> <C>
YEAR ENDED DECEMBER 31, 1997
First Quarter (from February 19, 1997)..................................................... $ 6.50 $ 7.50
Second Quarter............................................................................. $ 6.00 $ 12.00
Third Quarter.............................................................................. $ 11.25 $ 15.38
Fourth Quarter............................................................................. $ 8.13 $ 14.00

YEAR ENDING DECEMBER 31, 1998
First Quarter.............................................................................. $ 9.38 $ 16.50
Second Quarter............................................................................. $ 9.75 $ 19.63
Third Quarter.............................................................................. $ 7.25 $ 11.88
Fourth Quarter............................................................................. $ 7.50 $ 9.81

YEAR ENDING DECEMBER 31, 1999
First Quarter (through March 25, 1999)..................................................... $ 4.31 $ 10.00
</TABLE>

On March 29, 1999, the closing sale price of the Common Stock as reported on
the NNM was $5.50 per share. As of March 29, 1999, there were 18 holders of
record of the Common Stock.

DIVIDENDS

Other than distributions by the Company to shareholders of record prior to
the Initial Public Offering of previously taxed and undistributed earnings (the
"S Corp distributions"), the Company did not pay dividends on its Common Stock
during the years ended December 31, 1996, 1997 or 1998 and currently does not
intend to pay any dividends on its Common Stock in the foreseeable future. See
"Management's Discussion and Analysis--Liquidity and Capital Resources."

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ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA

The following data, insofar as it relates to each of the years 1994 to 1998,
has been derived from annual financial statements. This information should be
read in conjunction with the Financial Statements and Notes thereto and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" included elsewhere herein.

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-----------------------------------------------------
1994(1) 1995 1996 1997 1998
--------- --------- --------- --------- ---------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA
Revenues................................................. $ 14,468 $ 18,538 $ 24,780 $ 40,772 $ 59,697
Cost of goods sold....................................... 10,042 11,256 14,933 24,898 36,454
--------- --------- --------- --------- ---------
Gross profit............................................. 4,426 7,282 9,847 15,874 23,243
Selling, general and administrative expense.............. 3,545 5,181 5,720 9,253 13,201
Costs related to establishing a new facility............. 981 -- -- -- --
Dispute settlement....................................... 458 -- -- -- --
--------- --------- --------- --------- ---------
Operating income (loss).................................. (558) 2,101 4,127 6,621 10,042
Interest expense, net.................................... 271 333 223 68 976
Provision for income tax(2).............................. -- 26 68 2,572 3,756
--------- --------- --------- --------- ---------
Net income (loss)........................................ $ (829) $ 1,742 $ 3,836 $ 3,981 $ 5,310
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
Earnings per Share(3):
Basic.................................................. $ (0.12) $ 0.26 $ 0.58 $ 0.44 $ 0.55
Diluted................................................ $ (0.12) $ 0.26 $ 0.58 $ 0.43 $ 0.54
Weighted Average Common Shares Outstanding(3):
Basic.................................................. 6,660 6,660 6,660 9,123 9,737
Diluted................................................ 6,660 6,660 6,660 9,208 9,816
OTHER DATA
EBITDA(4)................................................ $ 2,209 $ 3,680 $ 5,781 $ 10,343 $ 14,918
Cash flows provided by operating activities.............. 1,121 2,553 6,306 6,317 6,420
Cash flows (used in) provided by financing activities.... 977 (1,061) (4,966) 9,945 26,712
Capital expenditures..................................... 2,071 1,137 1,191 1,686 6,798
SELECTED BALANCE SHEET DATA
Cash and cash equivalents................................ $ 60 $ 415 $ 564 $ 2,921 $ 2,048
Working capital (deficit)................................ (1,329) 1,079 1,925 5,354 8,863
Property and equipment, net.............................. 4,402 3,992 3,520 7,808 17,655
Total assets............................................. 8,189 9,340 11,178 32,907 64,849
Borrowings under revolving credit agreements............. 1,644 100 -- 1,086 233
Long-term debt, net of current portion................... 1,457 2,150 1,177 1,279 22,448
Shareholders' equity..................................... 1,706 3,019 5,241 21,532 28,910
</TABLE>

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

(1) The 1994 results of operations reflect (i) the disposition of the Company's
telecine (film-to-videotape transfer) business during the first quarter of
1994, (ii) one-time start-up costs of $1.0 million related to establishing
the Tulsa Control Center, which costs were in addition to capital
expenditures of $0.9 million and (iii) one-time costs of $0.5 million in
connection with a settlement of a dispute. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations."

(2) Prior to the Initial Public Offering, the Company was exempt from payment of
federal income taxes and had paid certain state income taxes at a reduced
rate as a result of its S Corporation election. Prior to the closing of the
Initial Public Offering the Company's shareholders elected to terminate the

11
<PAGE>
Company's S Corporation status. As a result of terminating the Company's S
Corporation status, the Company was required to record a one-time, non-cash
charge against historical earnings for additional deferred taxes based upon
the increase in the effective tax rate from the Company's S Corporation
status (1.5%) to C Corporation status (40%). This charge of $184,000
occurred in the quarter ending March 31, 1997.

(3) Earnings per Share is calculated after giving effect to the 333-for-1 common
stock split in May 1996 and restatement for the adoption of Statement of
Financial Accounting Standards No. 128, "Earnings per Share." Contingently
issuable shares under the Dubs' earn-out provision did not have a dilutive
effect on Earnings per Share at December 31, 1998.

(4) EBITDA is defined herein as earnings before interest, taxes, depreciation,
amortization and non-recurring charges. Such non-recurring charges comprise
costs related to establishing a new facility and the settlement of a dispute
of $1.0 million and $0.5 million, respectively, both of which were recorded
during the year ended December 31, 1994. EBITDA does not represent cash
generated from operating activities in accordance with GAAP, is not to be
considered as an alternative to net income or any other GAAP measurements as
a measure of operating performance and is not necessarily indicative of cash
available to fund all cash needs. While not all companies calculate EBITDA
in the same fashion and therefore EBITDA as presented may not be comparable
to other similarly titled measures of other companies, management believes
that EBITDA is a useful measure of cash flow available to the Company to pay
interest, repay debt, make acquisitions or invest in new technologies. The
Company is currently committed to use a portion of its cash flows to service
existing debt, if outstanding, and, furthermore, anticipates making certain
capital expenditures as part of its business plan.

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

EXCEPT FOR THE HISTORICAL INFORMATION CONTAINED HEREIN, CERTAIN OF THE
STATEMENTS IN THIS ANNUAL REPORT ARE "FORWARD-LOOKING STATEMENTS" AS DEFINED IN
THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995, WHICH INVOLVE CERTAIN
RISKS AND UNCERTAINTIES, WHICH COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY
FROM THOSE DISCUSSED HEREIN, INCLUDING BUT NOT LIMITED TO COMPETITION, CUSTOMER
AND INDUSTRY CONCENTRATION, DEPENDENCE ON TECHNOLOGICAL DEVELOPMENTS, RISKS
RELATED TO EXPANSION, DEPENDENCE ON KEY PERSONNEL, FLUCTUATING RESULTS AND
SEASONALITY AND CONTROL BY MANAGEMENT. SEE THE RELEVANT DISCUSSIONS IN THE
COMPANY'S DOCUMENTS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION, INCLUDING
THE COMPANY'S REGISTRATION STATEMENT ON FORM S-1 AS DECLARED EFFECTIVE ON
FEBRUARY 14, 1997, FOR A FURTHER DISCUSSION OF THESE AND OTHER RISKS AND
UNCERTAINTIES APPLICABLE TO THE COMPANY'S BUSINESS.

OVERVIEW

The Company generates revenues principally from duplication, distribution
and ancillary services. Duplication services consist of the physical duplication
of video materials from a source video or audiotape "master" to a target tape
"clone." Distribution services include the physical or electronic distribution
of video and audio materials to a customer-designated location utilizing one or
more of the Company's delivery methods. Distribution services typically consist
of deliveries of national television spot commercials and electronic press kits
and associated trafficking instructions to designated stations and supplemental
deliveries to non-broadcast destinations. Ancillary services include video and
audio editing, element storage, closed captioning, transcription services,
standards conversion, video encoding for air play verification, audio
post-production and layback and foreign language mastering.

12
<PAGE>
RESULTS OF OPERATIONS

The following table sets forth the amount, and percentage relationship to
revenues, of certain items included within the Company's Statement of Operations
for the years ended December 31, 1996, 1997 and 1998.

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------------------------------------
1996 1997 1998
---------------------- ---------------------- ----------------------
PERCENT OF PERCENT OF PERCENT OF
AMOUNT REVENUES AMOUNT REVENUES AMOUNT REVENUES
--------- ----------- --------- ----------- --------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Revenues..................................... $ 24,780 100.0% $ 40,772 100.0% $ 59,697 100.0%
Costs of goods sold.......................... 14,933 60.3 24,898 61.1 36,454 61.1
--------- ----------- --------- ----------- --------- -----------
Gross profit................................. 9,847 39.7 15,874 38.9 23,243 38.9
Selling, general and administrative
expense.................................... 5,720 23.1 9,253 22.7 13,201 22.1
--------- ----------- --------- ----------- --------- -----------
Operating income............................. 4,127 16.7 6,621 16.2 10,042 16.8
Interest expense, net........................ 223 0.9 68 0.2 976 1.6
Provision for income taxes................... 68 0.3 2,572 6.3 3,756 6.3
--------- ----------- --------- ----------- --------- -----------
$ 3,836 15.5% $ 3,981 9.8% $ 5,310 8.9%
--------- ----------- --------- ----------- --------- -----------
--------- ----------- --------- ----------- --------- -----------
</TABLE>

YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997

REVENUES. Revenues increased by $18.9 million or 46.4% to $59.7 million for
the year ended December 31, 1998 compared to $40.8 million for the year ended
December 31, 1997. This increase in revenue was due to increased volume
resulting from (i) the acquisitions of All Post, Dubs, and the Dub House and
(ii) substantially increased marketing of the Company's media services. Revenues
at the All Post division were negatively affected by a substantial decrease in
the use of its services by one of its large clients. Management does not expect
sales to this client to increase in the near future.

GROSS PROFIT. Gross profit increased $7.3 million or 46.4% to $23.2 million
for the year ended December 31, 1998 compared to $15.9 million for the year
ended December 31, 1997. As a percentage of revenues, gross profit remained at
38.9%. The gross margin increased for VDI's core businesses, however, this
increase was offset by lower margins at the newly acquired All Post facility.
All Post was affected by increased fixed costs, as a percent of sales, due to a
substantial decrease in the use of its services by one of its large clients. The
decrease in revenue was not offset by a corresponding elimination of redundant
costs or reduction in production wages.

SELLING, GENERAL AND ADMINISTRATIVE EXPENSE. Selling, general and
administrative expense increased $3.9 million or 42.7% to $13.2 million for the
year ended December 31, 1998 compared to $9.3 million for the year ended
December 31, 1997. As a percentage of revenues, selling, general and
administrative expense decreased to 22.1% for the year ended December 31, 1998
compared to 22.7% for the year ended December 31, 1997. This decrease was
primarily due to a decrease in administrative wages as a percentage of revenue
in the year ended December 31, 1998. This decrease was partially offset by
higher than expected administrative wages at the Company's All Post division.
The Company has subsequently taken steps to reduce excess wages at this
division.

OPERATING INCOME. Operating income increased $3.4 million or 51.7% to $10.0
million for the year ended December 31, 1998 compared to $6.6 million for the
year ended December 31, 1997. As a percentage of revenue, operating income
increased from 16.2% to 16.8%.

13
<PAGE>
INTEREST EXPENSE. Interest expense increased 239% from $294,000 in 1997 to
$997,000 in the current year. This increase was due to increased borrowings
under the Company's debt agreements related to the acquisitions of the Dub
House, All Post, and Dubs.

INCOME TAXES. The Company's effective income tax rate was 41.4% for 1998
and 39.2% for 1997. The difference in effective rates was primarily due to the
conversion of the Company's income tax status from an S Corporation to a C
Corporation.

NET INCOME. Net income for the year ended December 31, 1998 increased $1.3
million or 33.4% to $5.3 million compared to $4.0 million for the year ended
December 31, 1997.

YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996

REVENUES. Revenues increased by $16.0 million or 64.5% to $40.8 million for
the year ended December 31, 1997 compared to $24.8 million for the year ended
December 31, 1996. This increase in revenue was due to increased volume
resulting from (i) the availability of new services and capacity resulting from
the acquisitions of Woodholly, Multi-Media, Video It and Fast Forward and (ii)
substantially increased marketing of the Company's national distribution
capabilities.

GROSS PROFIT. Gross profit increased $6.1 million or 61.2% to $15.9 million
for the year ended December 31, 1997 compared to $9.8 million for the year ended
December 31, 1996. As a percentage of revenues, gross profit decreased from
39.7% to 38.9%. The decrease in gross profit as a percentage of revenues was
attributable to an increase in direct labor costs and depreciation charges
resulting from the acquisition of Woodholly, Multi-Media, Video It and Fast
Forward. These amounts were partially offset by lower shipping expenses for the
services provided by Woodholly, which are generally distributed to fewer
locations.

SELLING, GENERAL AND ADMINISTRATIVE EXPENSE. Selling, general and
administrative expense increased $3.6 million or 61.8% to $9.3 million for the
year ended December 31, 1997 compared to $5.7 million for the year ended
December 31, 1996. As a percentage of revenues, selling, general and
administrative expense decreased to 22.7% for the year ended December 31, 1997
compared to 23.1% for the year ended December 31, 1996. This decrease was
primarily due to the spreading of the fixed portion of overhead expenses over a
higher revenue base in the year ended December 31, 1997.

OPERATING INCOME. Operating income increased $2.5 million or 60.4% to $6.6
million for the year ended December 31, 1997 compared to $4.1 million for the
year ended December 31, 1996. As a percentage of revenues, operating income
decreased from 16.7% to 16.2%.

INCOME TAXES. Prior to the Initial Public Offering, the Company operated as
an S Corporation. As such, the Company was not responsible for federal income
taxes and provided for state income taxes at reduced rates. As a result of the
Initial Public Offering, the Company's S Corporation status terminated.
Accordingly, the Company has provided, and will continue to provide, for all
income taxes at higher statutory rates. In addition, for the year ended December
31, 1997, the Company recorded a one-time non-cash charge of $0.2 million for
deferred taxes based upon an increase in the effective tax rate for the
conversion of the Company's S Corporation status to C Corporation status applied
to the temporary differences between the financial reporting and tax bases of
the Company's assets and liabilities.

NET INCOME. Net income for the year ended December 31, 1997 increased $0.2
million or 3.8% to $4.0 million compared to $3.8 million for the year ended
December 31, 1996. Net income did not rise proportionately to the increase in
operating income as the Company currently provides for taxes at a higher
effective rate of approximately 40%. In the prior comparable period the Company
was taxed as an S Corporation and provided for income taxes at an effective rate
of 1.5%

14
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES

Since its inception, the Company has financed its operations through
internally generated cash flow, borrowings under lending agreements with
financial institutions, the Initial Public Offering and, to a lesser degree,
borrowings from related parties. In the first quarter of 1997, the Company
completed its Initial Public Offering. The net proceeds of the Initial Public
Offering to the Company were approximately $17.9 million after deducting the
underwriters' discounts and commissions and offering expenses.

At December 31, 1998, the Company's cash and cash equivalents aggregated
$2.0 million and net working capital was $8.9 million. The Company's operating
activities provided cash of $6.3 million in 1996 and 1997, and $6.4 million for
the year ended December 31, 1998.

The Company's investing activities used cash of $1.2 million in 1996, $13.9
million in 1997 and $34.0 million for the year ended December 31, 1998.
Investing activities during 1998 included the expenditure of $27.2 million for
acquisitions and $6.8 million for the addition and replacement of capital
equipment, investments in facility consolidations and upgrades to management
information systems. The Company's business is equipment intensive, requiring
periodic expenditures of cash or the incurrence of additional debt to acquire
additional video equipment in order to increase capacity or replace existing
equipment. The Company expects to spend approximately $4.5 million during 1999
on capital expenditures for the addition and replacement of equipment and for
management information system upgrades.

The Company's financing activities used cash of $5.0 million in 1996 and
provided cash of $9.9 million in 1997 and $26.7 million in the year ended
December 31, 1998. Cash flows from financing activities during the year ended
December 31, 1998 include the effect of the bank credit facility, which raised
proceeds of $29.0 million. Using the proceeds of the credit facility, the
Company paid $27.2 million in cash for acquisitions.

The Company acquired All Post in June 1998. The purchase price consisted of
an initial cash payment of $13.0 million, net of assumed liabilities, and up to
$1.4 million in contingent earn-out payments. The earn-out is to be earned and
paid based upon All Post attaining certain gross profit goals as set forth in
the purchase agreement, through June 1999.

In November 1998, the Company acquired Dubs. The purchase price for Dubs
consisted of $11.9 million in cash (including the immediate repayment of $3.9
million of indebtedness) and a contingent earn-out payment of up to $3.3 million
in the Company's common stock. The earn-out is to be earned and paid based upon
Dubs meeting certain earnings goals as a separate division of the Company.

Goodwill arising from the All Post acquisition, the Dubs acquisition and the
acquisition of the Dub House will be amortized over 20 years. The contingent
purchase price for such acquisitions, to the extent earned, will be treated as
an increase in goodwill. These acquisitions were accounted for by the Company
under the purchase method of accounting.

The Company has a $6.0 million revolving credit agreement with Union Bank of
California (the "Bank") which expires on November 1, 1999. There was $0.2
million outstanding under the Union Bank Credit Agreement at December 31, 1998.
The Company also has $28.0 million outstanding on a term loan with the Bank at
December 31, 1998. These loans are secured by substantially all of the Company's
assets and include covenants regarding the maintenance of various financial
ratios. At December 31, 1998, the Company was in compliance with these
covenants. The loan matures on October 31, 2003.

Management believes that cash generated from its revolving credit agreement,
its ongoing operations and existing working capital will fund necessary capital
expenditures and provide adequate working capital for at least the next twelve
months. The Company believes that its current banking relationship will be
enhanced through the potential availability of a larger acquisition credit
facility.

15
<PAGE>
The Company reviews the acquisition of businesses complementary to its
current operations on an ongoing basis and, depending on the number, size and
timing of such transactions, may be required to secure additional financing.

YEAR 2000 COMPLIANCE ISSUE

STATE OF READINESS. The Company is currently working to resolve the
potential impact of the Year 2000 problem on its computer systems and
computerized equipment. The Year 2000 problem is a result of computer programs
having been written using two rather than four digits to identify an applicable
year. Any information technology systems that have time-sensitive software may
recognize a date using "00" as the year 1900 rather than the year 2000. The
problem also extends to non-information technology systems that rely on embedded
chip systems.

The Company has divided the Year 2000 readiness task by the following
functional areas: Information technology ("IT") infrastructure, business
systems, operational systems, facilities, and business partners. IT
infrastructure includes the Company's wide area networks, local area networks,
servers, desktop computers, and telephone systems. Business systems include
mainframe and midrange computer hardware and applications. Operational systems
include equipment used for the Company's day-to-day operations in the
post-production business and editing and graphics equipment. Facilities include
fire, life, and safety equipment, elevators and alarm systems. Business partners
include suppliers and vendors, financial institutions, benefit providers,
payroll services, and customers. The Company has appointed a task force chaired
by its chief financial officer and coordinated by its information systems
director.

The Company has developed a four phase approach to resolving the Year 2000
issues that are reasonably within its control. The four phases of the program
include inventory, assessment, remediation and testing, and implementation. The
inventory phase consists of a company wide inventory of computer hardware,
software, business applications, and operational and facilities equipment. The
inventory is then used to generate a master assessment list and identify
equipment vendors. The assessment phase consists of identifying at-risk systems
and products and ranking the products by criticality to the business. Each
product is then assigned to a task force member to determine whether the product
is in compliance and, if not, whether the system should be upgraded or replaced.
The remediation and testing phase consists of developing a project plan,
defining and implementing steps required to bring the systems or products into
compliance, defining a test plan to verify compliance, and documenting the test
results. The final phase is implementing remediation on systems and products
company wide.

The Company has been in the process of analyzing and upgrading its IT
systems (i.e., its IT infrastructure and business systems) since early 1998,
including upgrading all of its PC hardware, operating systems, and office
automation software. With respect to the remaining IT systems, the Company has
completed its inventory phase and anticipates completion of its assessment and
testing phases by May 30, 1999. With respect to non-IT systems, including
operational systems and facilities systems, the Company has completed its
inventory phase and anticipates completion of the assessment phase by June 30,
1999.

The Company anticipates completion of all phases of its compliance program
in both IT and non-IT systems by the end of the third quarter of 1999.

THIRD PARTIES. Like every other business, the Company is at risk from
potential Year 2000 failures on the part of its major business counterparts,
including suppliers, vendors, financial institutions, benefit providers, payroll
services, and clients, as well as potential failures in public and private
infrastructure services, including electricity, water, transportation, and
communications. The Company has initiated communications with significant third
party businesses to assess their efforts in addressing Year 2000 issues and is
in the process of determining the Company's vulnerability if these third parties
fail to remediate their Year 2000 problems. There can be no guarantee that the
systems of third parties will be timely remediated, or that such parties'
failure to remediate Year 2000 issues would not have a material adverse effect
on the Company.

16
<PAGE>
COSTS. Costs incurred to date in addressing the Year 2000 issue have not
been material and are being funded through operating cash flows. The Company
anticipates that it may incur significant costs associated with replacing
non-compliant systems and equipment. In addition, the Company anticipates that
it will incur additional costs in the form of redeployment of internal resources
from other activities. The Company does not expect these redeployments to have a
material adverse effect on other ongoing business operations of the Company.
Based upon the information currently available to the Company, costs associated
with addressing the Year 2000 issue are expected to be between $350,000 and
$500,000.

RISKS. System failures resulting from the Year 2000 problem could
potentially affect operations and financial results in all aspects of the
Company's business. For example, failures could affect all aspects of the
Company's videotape duplication and distribution, post production and ancillary
operations, as well as inventory records, payroll operations, security, billing,
and collections. At this time the Company believes that its most likely worst
case scenario involves potential disruption in areas in which the Company's
operations must rely on third parties whose systems may not work properly after
January 1, 2000. As a result of Year 2000 related failures of the Company's or
third parties' systems, the Company could suffer a material adverse impact on
its future results. Such an impact may result in a fluctuation in the price of
the Company's common stock.

CONTINGENCY PLAN. The Company does not currently have a comprehensive
contingency plan with respect to the Year 2000 problem. However, the Company has
created a task force comprised of financial and technical employees that is
prepared to address any Year 2000 issues as they arise. The Company will
continue to develop its contingency plan during 1999 as part of its ongoing Year
2000 compliance effort.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

The financial statements and supplementary data required by Item 8 are set
forth in the pages indicated in Item 14(a)(1).

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE

None.

17
<PAGE>
PART III
DOCUMENTS INCORPORATED BY REFERENCE

Portions of the definitive Proxy Statement of the registrant to be filed
with the Commission not later than April 29, 1999, pursuant to Regulation 14A of
the Securities Exchange Act of 1934, as amended, are incorporated by reference
in Part III of this Form 10-K.

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The information called for in Item 10 of Part III shall be filed not later
than 120 days after the Company's fiscal year end (December 31, 1998) in the
Company's definitive Proxy Statement in connection with its 1998 Annual Meeting
of Shareholders pursuant to Regulation 14A of the Securities Exchange Act of
1934, as amended, or in an amendment to this Annual Report of Form 10-K under
Form 10K/A.

ITEM 11. EXECUTIVE COMPENSATION

The information called for in Item 11 of Part III shall be filed not later
than 120 days after the Company's fiscal year end (December 31, 1998) in the
Company's definitive Proxy Statement in connection with its 1998 Annual Meeting
of Shareholders pursuant to Regulation 14A of the Securities Exchange Act of
1934, as amended, or in an amendment to this Annual Report on Form 10-K under
Form 10K/A.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

The information called for in Item 12 of Part III shall be filed not later
than 120 days after the Company's fiscal year end (December 31, 1998) in the
Company's definitive Proxy Statement in connection with its 1998 Annual Meeting
of Shareholders pursuant to Regulation 14A of the Securities Exchange Act of
1934, as amended, or in amendment to this Annual Report on Form 10-K under Form
10K/A.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

The information called for in Item 13 of Part III shall be filed not later
than 120 days after the Company's fiscal year end (December 31, 1998) in the
Company's definitive Proxy Statement in connection with its 1998 Annual Meeting
of Shareholders pursuant to Regulation 14A of the Securities Exchange Act of
1934, as amended, or in an amendment to this Annual Report on Form 10-K under
Form 10K/A.

18
<PAGE>
PART IV

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

(a) Documents Filed as Part of this Report:

(1) Financial Statements

<TABLE>
<CAPTION>
PAGE
---------
<S> <C>
Report of Independent Accountants...................................................... F-1
Consolidated Balance Sheet at December 31, 1997 and 1998............................... F-2
Consolidated Statement of Income for each of the three years in the period ended
December 31, 1998.................................................................... F-3
Consolidated Statement of Shareholders' Equity for each of the three years in the
period ended December 31, 1998....................................................... F-4
Consolidated Statement of Cash Flows for each of the three years in the period ended
December 31, 1998.................................................................... F-5
Notes to Consolidated Financial Statements............................................. F-6
</TABLE>

The following financial statement schedule of the Company and its
subsidiaries is included in Item 14(a)(1):

Schedule II Valuation and Qualifying Accounts Page

All other financial statement schedules not listed above have been omitted
since the required information is included in the consolidated financial
statements or the notes thereto, or is not applicable or required.

(2) Exhibits

<TABLE>
<C> <S>
3.1 Restated Articles of Incorporation of the Company (incorporated by
reference to the same numbered Exhibit to the Company's Amendment No. 1
to the Registration Statement on Form S-1 filed with the Securities and
Exchange Commission (the SEC) on May 17, 996 (the S-1) filed with the
SEC on December 31, 1996 (Amendment No. 1)).

3.2 By-laws of the Company (incorporated by reference to the same numbered
Exhibit to the Company's Amendment No. 1).

4.1 Specimen Certificate for Common Stock (incorporated by reference to the
same numbered Exhibit to the Company's Amendment No. 1).

4.2 1996 Stock Incentive Plan of the Company (incorporated by reference to the
same numbered Exhibit to the Company's Amendment No. 1).

10.1 Employment Agreement between the Company and Luke Stefanko (incorporated
by reference to the same numbered Exhibit to the Company's Amendment No.
1).

10.2 Employment Agreement between the Company and Tom Ennis (incorporated by
reference to the same numbered Exhibit to the Company's Amendment No.
1).

10.3 Employment Agreement between the Company and Eric Bershon (incorporated by
reference to the same numbered Exhibit to the Company's Amendment No.
1).

10.5 Business Loan Agreement (Revolving Credit) between the Company and Union
Bank dated July 1, 1995, as amended on April 1, 1996, and June 1996
(incorporated by reference to the same numbered Exhibit to the Company's
Amendment No. 1).
</TABLE>

19
<PAGE>
<TABLE>
<C> <S>
10.6 Joint Operating Agreement effective as of March 1, 1994, between the
Company and Vyvx, Inc. (incorporated by reference to the same numbered
Exhibit to the Company's Amendment No. 1).

10.7 Lease Agreement between the Company and 6920 Sunset Boulevard Associates
dated May 17, 1994 (Hollywood facility) (incorporated by reference to
the same numbered Exhibit to the Company's S-1).

10.8 Lease Agreement between the Company and 3767 Overland Associates, Ltd.
dated April 25, 1996 (West Los Angeles facility) (incorporated by
reference to the same numbered Exhibit to the Company's S-1).

10.9 Lease Agreement between the Company and The Bovaird Supply Company dated
June 3, 1994 (Tulsa Control Center) (incorporated by reference to the
same numbered Exhibit to the Company's S-1).

10.10 Loan Agreement between the Company and R. Luke Stefanko dated as of April
1, 1996 (incorporated by reference to the same numbered Exhibit to the
Company's S-1).

10.12 Term Loan Agreement between the Company and Union Bank (incorporated by
reference to the same numbered Exhibit to the Company's Amendment No.
1).

10.13 Asset Purchase Agreement, dated as of December 28, 1996 by and among VDI
Media, Woodholly Productions, Yvonne Parker, Rodger Parker, Jim Watt and
Kim Watt (incorporated by reference to the same numbered Exhibit to the
Company's Amendment No. 1).

10.14 Asset Purchase Agreement, dated as of June 12, 1998 by and between VDI
Media and All Post, Inc. (incorporated by reference to the Company's
Form 8-K filed on June 29, 1998).

10.15 Asset Purchase Agreement, dated as of November 9, 1998 by and among VDI
Media, Dubs Incorporated, Vincent Lyons and Barbara Lyons (incorporated
by reference to the Company's Form 8-K filed on December 2, 1998).

21. Subsidiaries of the registrant.

23. Consent of Independent Accountants.

27. Financial Data Schedule.
</TABLE>

(b) Reports on 8-K:

The Company filed a report on Form 8-K (Item 2) on December 2, 1998.

20
<PAGE>
VDI MEDIA
Schedule II--Valuation and Qualifying Accounts

<TABLE>
<CAPTION>
BALANCE AT CHARGED TO PURCHASE BALANCE AT
BEGINNING COSTS AND ACCOUNTING END OF
ALLOWANCE FOR DOUBTFUL ACCOUNTS OF PERIOD EXPENSES ADJUSTMENTS RECOVERIES PERIOD
- ------------------------------------------------- ----------- ----------- ----------- ----------- ----------
<S> <C> <C> <C> <C> <C>
Year ended December 31, 1998..................... $ 607,000 $ 51,000 $ 220,000 -- $ 878,000

Year ended December 31, 1997..................... $ 460,000 -- $ 177,000 $ (30,000) $ 607,000

Year ended December 31, 1996..................... $ 350,000 $ 110,000 -- -- $ 460,000
</TABLE>

21
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS

To the Board of Directors and
Shareholders of VDI Media

In our opinion, the financial statements listed in the index appearing under
Item 14(a)(1) present fairly, in all material respects, the financial position
of VDI Media and its subsidiaries at December 31, 1997 and 1998, and the results
of their operations and their cash flows for each of the three years in the
period ended December 31, 1998, in conformity with generally accepted accounting
principles. These financial statements are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements based on our audits. We conducted our audits of these statements in
accordance with generally accepted auditing standards which require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for the opinion expressed
above.

PricewaterhouseCoopers LLP
Costa Mesa, California
February 23, 1999

F-1
<PAGE>
VDI MEDIA

CONSOLIDATED BALANCE SHEET

<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------
<S> <C> <C>
1997 1998
------------- -------------
ASSETS

Current assets:
Cash and cash equivalents........................................................ $ 2,921,000 $ 2,048,000
Accounts receivable, net of allowances for doubtful accounts of $607,000 and
$878,000, respectively......................................................... 11,532,000 17,329,000
Inventories...................................................................... 285,000 734,000
Prepaid expenses and other current assets........................................ 382,000 976,000
Deferred income taxes............................................................ 330,000 917,000
------------- -------------
Total current assets........................................................... 15,450,000 22,004,000
Property and equipment, net (Note 4)............................................... 7,808,000 17,655,000
Deferred income taxes.............................................................. 119,000 --
Other assets, net.................................................................. 124,000 406,000
Goodwill and other intangibles..................................................... 9,406,000 24,784,000
------------- -------------
$ 32,907,000 $ 64,849,000
------------- -------------
------------- -------------

LIABILITIES AND SHAREHOLDERS' EQUITY

Current liabilities:
Accounts payable................................................................. $ 3,964,000 $ 4,480,000
Accrued expenses................................................................. 3,147,000 1,528,000
Income taxes payable............................................................. 791,000 548,000
Borrowings under revolving credit agreement (Note 5)............................. 1,086,000 233,000
Current portion of notes payable (Note 6)........................................ 350,000 5,827,000
Current portion of capital lease obligations (Note 6)............................ 758,000 525,000
------------- -------------
Total current liabilities...................................................... 10,096,000 13,141,000
------------- -------------
Deferred tax liability............................................................. -- 350,000
------------- -------------
Notes payable, less current portion (Note 6)....................................... 552,000 22,234,000
------------- -------------
Capital lease obligations, less current portion (Note 6)........................... 727,000 214,000
------------- -------------
Commitments and contingencies (Note 8)
Shareholders' equity:
Preferred stock--no par value; 5,000,000 shares authorized; none outstanding..... -- --
Common stock--no par value; 50,000,000 shares authorized; 9,580,000 and 9,776,094
shares issued and outstanding, respectively.................................... 18,880,000 20,948,000
Retained earnings................................................................ 2,652,000 7,962,000
------------- -------------
Total shareholders' equity..................................................... 21,532,000 28,910,000
------------- -------------
$ 32,907,000 $ 64,849,000
------------- -------------
------------- -------------
</TABLE>

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

F-2
<PAGE>
VDI MEDIA

CONSOLIDATED STATEMENT OF INCOME

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------------------
<S> <C> <C> <C>
1996 1997 1998
------------- ------------- -------------
Revenues............................................................ $ 24,780,000 $ 40,772,000 $ 59,697,000
Cost of goods sold.................................................. 14,933,000 24,898,000 36,454,000
------------- ------------- -------------
Gross profits....................................................... 9,847,000 15,874,000 23,243,000
------------- ------------- -------------
Selling, general, and administrative expense........................ 5,720,000 9,253,000 13,201,000
------------- ------------- -------------
Operating income.................................................... 4,127,000 6,621,000 10,042,000
Interest expense.................................................... 291,000 294,000 997,000
Interest income..................................................... 68,000 226,000 21,000
------------- ------------- -------------
Income before income taxes.......................................... 3,904,000 6,553,000 9,066,000
Provision for income taxes.......................................... 68,000 2,572,000 3,756,000
------------- ------------- -------------
Net income.......................................................... $ 3,836,000 $ 3,981,000 $ 5,310,000
------------- ------------- -------------
------------- ------------- -------------

Earnings per share:
Basic:
Net income per share............................................ $ 0.58 $ 0.44 $ 0.55
Weighted average number of shares............................... 6,660,000 9,122,575 9,737,392
Diluted:
Net income per share.............................................. $ 0.58 $ 0.43 $ 0.54
Weighted average number of shares including the dilutive effect of
stock options (85,365 and 78,513 for 1997 and 1998,
respectively)................................................... 6,660,000 9,207,940 9,815,905
</TABLE>

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

F-3
<PAGE>
VDI MEDIA

CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY

<TABLE>
<CAPTION>
COMMON STOCK TOTAL
------------------------- RETAINED SHAREHOLDER'S
SHARES AMOUNT EARNINGS EQUITY
---------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Balance at December 31, 1995........................... 6,660,000 $ 1,015,000 $ 2,004,000 $ 3,019,000
Net income............................................. -- -- 3,836,000 3,836,000
Distributions to shareholders.......................... -- -- (1,614,000) (1,614,000)
---------- ------------- ------------- -------------
Balance at December 31, 1996........................... 6,660,000 1,015,000 4,226,000 5,241,000
Net income............................................. -- -- 3,981,000 3,981,000
Distributions to shareholders.......................... (5,555,000) (5,555,000)
Common shares issued................................... 2,920,000 17,865,000 -- 17,865,000
---------- ------------- ------------- -------------
Balance at December 31, 1997........................... 9,580,000 18,880,000 2,652,000 21,532,000
Net income............................................. -- -- 5,310,000 5,310,000
Shares issued in connection with company
acquisitions......................................... 30,770 342,000 -- 342,000
Shares issued in connection with exercise of stock
options.............................................. 165,324 1,157,000 -- 1,157,000
Tax effect of exercise of stock options................ -- 569,000 -- 569,000
---------- ------------- ------------- -------------
Balance at December 31, 1998........................... 9,776,094 $ 20,948,000 $ 7,962,000 $ 28,910,000
---------- ------------- ------------- -------------
---------- ------------- ------------- -------------
</TABLE>

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

F-4
<PAGE>
VDI MEDIA

CONSOLIDATED STATEMENT OF CASH FLOWS

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
---------------------------------------------
1996 1997 1998
------------- -------------- --------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net income...................................................... $ 3,836,000 $ 3,981,000 $ 5,310,000
Adjustments to reconcile net income to net cash provided by
operating activities.......................................... -- -- --
Depreciation and amortization................................... 1,654,000 3,722,000 4,876,000
Provision for doubtful accounts................................. 110,000 (30,000) 51,000
Gain on sale of equipment....................................... -- (11,000) --
Increase in deferred income taxes............................... -- (460,000) (118,000)
Changes in assets and liabilities:
(Increase) decrease in accounts receivable...................... (249,000) (2,943,000) 49,000
(Increase) decrease in amounts receivable from employees........ (17,000) 220,000 --
Decrease in inventories......................................... 34,000 9,000 185,000
Decrease (increase) in prepaid expenses and other current
assets........................................................ 59,000 (141,000) (196,000)
Increase in other assets........................................ -- (18,000) (162,000)
Increase (decrease) in accounts payable......................... 158,000 46,000 (1,995,000)
Increase (decrease) in accrued expenses......................... 721,000 1,151,000 (1,906,000)
Increase in income taxes payable................................ -- 791,000 326,000
------------- -------------- --------------
Net cash provided by operating activities..................... 6,306,000 6,317,000 6,420,000
Cash used in investing activities:
Capital expenditures............................................ (1,191,000) (1,686,000) (6,798,000)
Proceeds from sale of assets.................................... -- 18,000 --
Acquisitions, net of cash acquired.............................. -- (12,237,000) (27,207,000)
------------- -------------- --------------
Net cash used in investing activities......................... (1,191,000) (13,905,000) (34,005,000)
Cash flows from financing activities:
Distributions to shareholders................................... (1,614,000) (5,555,000) --
Change in revolving credit agreement............................ (100,000) 686,000 (853,000)
Proceeds from sale of common stock.............................. -- 17,865,000 --
Proceeds from exercise of stock options......................... -- -- 1,157,000
Proceeds from bank note......................................... -- -- 29,000,000
Repayment of notes payable...................................... (764,000) (4,079,000) (1,846,000)
Repayment of notes payable to related parties................... (255,000)
Repayment of capital lease obligations.......................... (144,000) (1,062,000) (746,000)
(Increase) decrease in amount receivable from officer........... (1,214,000) 1,214,000 --
(Increase) decrease in deferred offering costs.................. (875,000) 876,000 --
------------- -------------- --------------
Net cash (used in) provided by financing activities........... (4,966,000) 9,945,000 26,712,000
Net increase (decrease) in cash................................... 149,000 2,357,000 (873,000)
Cash and cash equivalents at beginning of period.................. 415,000 564,000 2,921,000
------------- -------------- --------------
Cash and cash equivalents at end of period........................ $ 564,000 $ 2,921,000 $ 2,048,000
------------- -------------- --------------
------------- -------------- --------------
Supplemental disclosure cash flows information:
Cash paid for:
Interest...................................................... $ 296,000 $ 276,000 $ 997,000
------------- -------------- --------------
------------- -------------- --------------
Income tax.................................................... $ 72,000 $ 2,241,000 $ 3,779,000
------------- -------------- --------------
------------- -------------- --------------
</TABLE>

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

F-5
<PAGE>
VDI MEDIA

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. THE COMPANY:

VDI Media (the "Company") provides video and film asset management services
to owners, producers and distributors of entertainment and advertising content.
The Company provides the services necessary to edit, master, reformat, archive
and distribute its clients' video content, including television programming,
spot advertising and movie trailers. The Company provides worldwide electronic
distribution, using fiber optics and satellites. The Company delivers
commercials, movie trailers, electronic press kits, infomercials and syndicated
programming, by both physical and electronic means, to thousands of broadcast
outlets worldwide.

In February 1997, the Company completed the sale of a portion of its common
shares in an initial public offering. Prior to the offering, the Company had
elected S-Corporation status for federal and state income tax purposes. As a
result of the offering, the S-Corporation status terminated. Thereafter, the
Company has paid federal and state income taxes as a C-Corporation (see Note 7).

In May 1996, the Company effected a 333-for-1 common stock split and
increased the number of authorized shares to 50,000,000. All share amounts in
the accompanying financial statements have been retroactively restated to
reflect this split.

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

BASIS OF CONSOLIDATION

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

USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS

The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the 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 AND CASH EQUIVALENTS

Cash equivalents represent highly liquid short-term investments with
original maturities of less than 90 days.

REVENUES AND RECEIVABLES

The Company records revenues and receivables at the time products are
delivered to customers or services are performed. Although sales and receivables
are concentrated in the entertainment industry, credit risk is limited due to
the financial stability of the customer base. The Company performs on-going
credit evaluations and maintains reserves for potential credit losses. Such
losses have historically been within management's expectations.

INVENTORIES

Inventories comprise raw materials, principally tape stock, and are stated
at the lower of cost or market. Cost is determined using the average cost
method.

F-6
<PAGE>
VDI MEDIA

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
PROPERTY AND EQUIPMENT

Property and equipment are stated at cost. Expenditures for additions and
major improvements are capitalized. Maintenance, repairs and minor renewals are
expensed as incurred. Depreciation is computed using the straight-line method
over the estimated useful lives of the related assets. Amortization of leasehold
improvements is computed using the straight-line method over the lesser of the
estimated useful lives of the improvements or the remaining lease term. The
estimated useful life of property and equipment and leasehold improvements is
five years.

GOODWILL AND OTHER INTANGIBLES

Goodwill is amortized on a straight-line basis over 20 years. The Company
evaluates the recoverability of goodwill and reviews the amortization periods on
a regular basis. Recoverability is measured on the basis of anticipated
undiscounted cash flows from operations. At December 31, 1997 and 1998, no
impairment was indicated. Other intangibles consist primarily of covenants not
to compete and are amortized on a straight-line basis over 3-5 years.
Amortization expense totaled $288,000 and $954,000 for the two years in the
period ended December 31, 1998, respectively.

INCOME TAXES

The Company accounts for income taxes in accordance with Statement of
Financial Accounting Standards No. 109, "Accounting for Income Taxes" ("FAS
109"). FAS 109 requires the recognition of deferred tax assets and liabilities
for the expected future tax consequences of temporary differences between the
carrying amounts for financial reporting purposes and the tax basis of assets
and liabilities. A valuation allowance is recorded for that portion of deferred
tax assets for which it is more likely than not that the assets will not be
realized.

FAIR VALUE OF FINANCIAL INSTRUMENTS

To meet the reporting requirements of Statement of Financial Accounting
Standards No. 107, "Disclosures about Fair Value of Financial Instruments," the
Company calculates the fair value of financial instruments and includes this
additional information in the notes to financial statements when the fair value
is different than the book value of those financial instruments. When the fair
value is equal to the book value, no additional disclosure is made. The Company
uses quoted market prices whenever available to calculate these fair values.

ACCOUNTING FOR STOCK-BASED COMPENSATION

As permitted by Statement of Financial Accounting Standards No. 123,
"Accounting for Stock Based Compensation" ("FAS 123"), the Company measures
compensation cost in accordance with Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees", but provides pro forma disclosures
of net income and earnings per share measured using fair value method defined by
FAS 123.

EARNINGS PER SHARE

Effective in the fourth quarter of 1997, the Company adopted Statement of
Financial Accounting Standards No. 128, "Earnings per Share" ("FAS 128") and
related interpretations. FAS 128 requires dual presentation of Basic Earnings
per Share ("Basic EPS") and Diluted Earnings per Share ("Diluted EPS").

F-7
<PAGE>
VDI MEDIA

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
Basic EPS excludes dilution and is computed by dividing net income by the
weighted average number of common shares outstanding during the reported period.
Diluted EPS reflects the potential dilution that could occur if stock options
were exercised using the treasury stock method. Earnings per share for all prior
periods have been restated to reflect the adoption of FAS 128.

3. ACQUISITIONS:

On November 9, 1998, the Company acquired substantially all of the assets of
Dubs, Inc. ("Dubs"). Dubs provides full service duplication, distribution, video
content storage and ancillary services to major motion picture studios and
independent production companies for both domestic and international use. As
consideration, the Company will pay Dubs a maximum of $15,237,000, of which
$10,437,000 was paid in the fourth quarter of 1998. The remaining balance
consists of $1,500,000 which was held back to secure any required post-closing
purchase price adjustments, and $3,300,000 in the Company's common stock which
is subject to earn-out provisions based upon Dubs attaining certain performance
goals through December 1999.

On June 12, 1998, the Company acquired substantially all of the assets of
All Post, Inc. ("All Post"). All Post provides full service duplication,
distribution, video content storage and ancillary services to major motion
picture studios and independent production companies for both domestic and
international use. As consideration, the Company will pay All Post a maximum of
$14,434,000, of which $13,000,000 was paid in the second quarter of 1998. The
remaining balance is subject to earn-out provisions which are predicated upon
All Post attaining certain gross profit goals, as set forth in the purchase
agreement, through June 1999.

On June 9, 1998, the Company acquired all of the assets of the Dub House,
Inc. ("Dub House"). The Dub House distributes broadcast media for advertising
agencies, independent producers and other broadcast media providers. As
consideration, the Company will pay the owners of the Dub House a maximum of
$1,700,000 of which $1,546,000 was paid in the second quarter of 1998. The
remaining balance is subject to earn-out provisions which are predicated upon
the Dub House attaining certain sales goals, as set forth in the purchase
agreement, through June 1999. The contingent purchase price, to the extent
earned, will be recorded as an increase to goodwill and amortized over the
remaining useful life of goodwill.

On November 21, 1997, the Company acquired all of the outstanding shares of
Fast Forward, Inc. ("Fast Forward"), a provider of video duplication and
distribution services primarily to advertising agencies and post production
companies. The excess of purchase price over the fair value of net assets
acquired was allocated to goodwill. The purchase price consisted of $1,400,000
of cash (of which $1,150,000 was included in accrued expenses at December 31,
1997 and paid during 1998), 30,770 shares of common stock which were issued
subsequent to December 31, 1997, and earn-out payments of up to $600,000. The
Company paid $108,000 in earn-outs during 1998.

On October 7, 1997, the Company acquired substantially all of the assets and
assumed certain liabilities of Video It, Inc. ("Video It"). Video It provides
low-end audio and video editing, as well as duplication and distribution
services, primarily for infomercials. The purchase price consisted of $75,000 in
cash and earn-out payments of up to $600,000.

In August 1997, the Company acquired all of the outstanding capital stock of
Multi-Media Services, Inc. ("Multi-Media"). Multi-Media principally provides
video duplication, distribution, and content

F-8
<PAGE>
VDI MEDIA

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

3. ACQUISITIONS: (CONTINUED)
storage to major advertising agencies. Through the acquisition of Multi-Media,
the Company acquired facilities in Los Angeles, Chicago, New York and San
Francisco. The purchase price paid by the Company for Multi-Media was $6,867,000
(including the immediate repayment of $1,545,000 of indebtedness). In addition,
the Company may be required to pay, as an earn-out, up to an aggregate of
$2,000,000, plus interest from the closing date, in the event that Multi-Media,
as a separate subsidiary of the Company, achieves certain financial goals.

On January 1, 1997, the Company acquired all of the assets and certain
liabilities of Woodholly Productions ("Woodholly"). Woodholly provides full
service video duplication, distribution, content storage and ancillary services
to major motion picture studios, advertising agencies and independent production
companies for both domestic and international use. As consideration, the Company
will pay the partners of Woodholly a maximum of $8,000,000, of which $4,000,000
was paid in January 1997. The remaining balance is subject to earn-out
provisions which are predicated upon Woodholly attaining certain operating
income goals, as set forth in the purchase agreement in each quarter through
December 31, 2001. The Company paid $733,000 in earn-outs during 1998.

The above acquisitions were accounted for as purchases, with the excess of
the purchase price over the fair value of the net assets acquired allocated to
goodwill. The contingent purchase price, to the extent earned, is recorded as an
increase to goodwill and amortized over the remaining useful life of the
goodwill. The consolidated financial statements reflect the operations of the
acquired companies since the dates of their respective acquisition.

The following table reflects unaudited pro forma combined results of
operations of the Company, Multi-Media, All Post and Dubs as if the acquisitions
had occurred on January 1, 1997.

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------
<S> <C> <C>
1997 1998
------------- -------------
Net sales...................................................... $ 80,382,000 $ 80,503,000
Net income..................................................... $ 1,218,000 $ 4,526,000
Basic and diluted earnings per share........................... $ 0.13 $ 0.46
</TABLE>

These unaudited pro forma results have been prepared for comparative
purposes only and include certain pro forma adjustments, including a pro forma
provision for income taxes for Multi-Media and Dubs at 40 percent. Such pro
forma amounts are not necessarily indicative of what actual consolidated results
of operations might have been if the acquisitions had been effective on January
1, 1997. Pro forma results of operations have not been presented for the Dub
House, Fast Forward and Video It because the effect of these three acquisitions
was not significant.

F-9
<PAGE>
VDI MEDIA

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

4. PROPERTY AND EQUIPMENT:

Property and equipment consist of the following:

<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------------
<S> <C> <C>
1997 1998
------------- --------------
Machinery and equipment........................................ $ 13,268,000 $ 22,616,000
Leasehold improvements......................................... 1,826,000 5,190,000
Equipment under capital lease.................................. 1,934,000 2,609,000
Vehicles....................................................... 396,000 396,000
Computer equipment............................................. 350,000 732,000
------------- --------------
17,774,000 31,543,000
Less accumulated depreciation and amortization................. (9,966,000) (13,888,000)
------------- --------------
$ 7,808,000 $ 17,655,000
------------- --------------
------------- --------------
</TABLE>

Depreciation expense aggregated $1,654,000, $3,434,000 and $3,922,000, for
the three years in the period ended December 31, 1998, respectively.

5. REVOLVING CREDIT AGREEMENT:

The Company has a $6,000,000 revolving credit agreement with a bank. The
outstanding borrowing on this line of credit at December 31, 1998 was $233,000.
Interest accrues at the bank's reference rate (7.75% at December 31, 1998). The
Company may, at its election, use a LIBOR based interest rate option with a
margin of 1.25%. The terms of the revolving credit agreement include covenants
regarding the maintenance of various financial ratios. At December 31, 1998, the
Company was in compliance with these covenants. The revolving credit agreement
expires on November 1, 1999.

The Company also had a $600,000 revolving credit agreement with another bank
which was paid in full upon the agreement's expiration on January 10, 1998.

6. LONG-TERM DEBT AND NOTES PAYABLE:

TERM LOAN

In November 1998, the Company borrowed $29,000,000 on a term loan with a
bank, payable in 60 monthly installments of $483,000 plus interest. At December
31, 1998, the Company had $28,033,000 outstanding on this loan. The Company may,
at its election, use LIBOR interest rate options which vary depending on the due
dates of the principal payments. If the LIBOR interest rate option is not
elected, interest accrues at the bank's reference rate (7.75% at December 31,
1998). At December 31, 1998, the Company had elected LIBOR based interest rates
on the outstanding balance. The interest rates in effect at December 31, 1998
were 6.27% to 6.31%. The terms of the loan include covenants regarding the
maintenance of various financial ratios. At December 31, 1998, the Company was
in compliance with these covenants. The loan matures on October 31, 2003 and is
secured by substantially all of the Company's assets.

F-10
<PAGE>
VDI MEDIA

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

6. LONG-TERM DEBT AND NOTES PAYABLE: (CONTINUED)
EQUIPMENT FINANCING AND CAPITAL LEASES

The Company has financed the purchase of certain equipment through the
issuance of notes payable and under capital leasing arrangements. The notes bear
interest at rates ranging from 6.10% to 18.35%. Such obligations are payable in
monthly installments through March 2001.

Annual maturities for debt, notes payable and capital lease obligations as
of December 31, 1998 are as follows:

7. INCOME TAXES:

Prior to the initial public offering ("IPO"), the Company was organized as
an S-Corporation for federal and state income tax purposes and were subject to
tax at the shareholder level rather than the corporate level. Therefore, no
provision was made for federal income tax on earnings or losses of the Company
in the historical financial statements. Earnings of S-Corporations are taxed at
1.5 percent in California and the Company provided state taxes accordingly.

Upon the initial public offering, the Company's S-Corporation status
terminated. This resulted in the establishment of a net deferred tax liability
on February 18, 1997 calculated at the federal and state tax rates in effect.
The result was a one-time non-cash charge against earnings of $184,000 for
addition income tax expense. The deferred tax liability comprises certain asset
valuation allowances which are not currently deductible and differing methods of
calculating depreciation for income tax and financial reporting purposes.

F-11
<PAGE>
VDI MEDIA

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

7. INCOME TAXES: (CONTINUED)
The Company's provision for income taxes for the three years ended December
31, 1998 consists of the following:

<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------------
<S> <C> <C> <C>
1996 1997 1998
--------- ------------ ------------
Current tax expense:
Federal.............................................. $ -- $ 2,415,000 $ 3,025,000
State................................................ 68,000 617,000 849,000
--------- ------------ ------------
Total current........................................ $ 68,000 3,032,000 3,874,000
--------- ------------ ------------
Deferred tax (benefit) expense:
Federal.............................................. (549,000) (126,000)
State................................................ (95,000) 8,000
Deferred tax provision resulting from termination of
S-Corporation status............................... 184,000 --
------------ ------------
Total deferred....................................... (460,000) (118,000)
------------ ------------
Total provision for income taxes................... $ 2,572,000 $ 3,756,000
------------ ------------
------------ ------------
</TABLE>

The composition of the deferred tax assets (liabilities) at December 31,
1997 and December 31, 1998 are listed below.

<TABLE>
<CAPTION>
1997 1998
----------- -----------
<S> <C> <C>
Accrued liabilities................................................. $ 451,000 $ 646,000
Allowance for doubtful accounts..................................... 260,000 305,000
Valuation allowance................................................. -- --
----------- -----------
Total deferred tax assets....................................... 711,000 951,000

Property and equipment.............................................. (164,000) (264,000)
Goodwill and other intangibles...................................... (65,000) (113,000)
Other............................................................... (33,000) (7,000)
----------- -----------
Total deferred tax liabilities.................................. (262,000) (384,000)

Net deferred tax asset.............................................. $ 449,000 $ 567,000
----------- -----------
----------- -----------
</TABLE>

The provision for income taxes differs from the amount of income tax
determined by applying the applicable U.S. Statutory income tax rates to income
before taxes as a result of the following differences:

<TABLE>
<CAPTION>
1997 1998
----- -----
<S> <C> <C>
Federal tax computed at statutory rate....................................... 34% 34%
State taxes, net of federal benefit.......................................... 5% 6%
S-Corporation benefit........................................................ (6%) --%
Establishment of deferred liability.......................................... 3% --%
Other........................................................................ 3% 1%
-- --
39% 41%
-- --
-- --
</TABLE>

F-12
<PAGE>
VDI MEDIA

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

8. COMMITMENTS AND CONTINGENCIES:

The Company leases office and production facilities in California, Oklahoma,
Illinois, Texas and New York under various operating leases. Approximate minimum
rental payments under these noncancellable operating leases as of December 31,
1998 are as follows:

<TABLE>
<S> <C>
1999.................................... $ 3,365,000
2000.................................... 2,366,000
2001.................................... 2,378,000
2002.................................... 2,240,000
2003.................................... 1,996,000
Thereafter.............................. 4,483,000
--------------
$ 16,828,000
--------------
--------------
</TABLE>

Total rental expense was approximately $623,000, $924,000, and $2,460,000
for the three years in the period ended December 31, 1998, respectively.

9. STOCK INCENTIVE PLAN:

In May 1996, the Board of Directors, approved the 1996 Stock Incentive Plan
(the "Plan"). The Plan provides for the award of options to purchase up to
900,000 shares of common stock, as well as stock appreciation rights,
performance share awards and restricted stock awards. The options of certain
executive officers became exercisable on February 28, 1997. The remaining
options vest and become exercisable one to two years, and expire ten years from
the grant date.

In accounting for its plan, the Company, in accordance with the provisions
of FAS 123, applies Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees." As a result of this election, the Company does not
recognize compensation expense for its stock option plans since the exercise
price of the options granted equals the fair value of the stock on the date of
grant. Had the Company determined compensation cost based on the fair value for
its stock options at grant date, as set forth under FAS 123, the Company's net
income and earnings per share would have been reduced to the pro forma amounts
indicated below:

<TABLE>
<CAPTION>
1997 1998
------------ ------------
<S> <C> <C>
Net income:
As reported..................................................... $ 3,981,000 $ 5,310,000
Pro forma....................................................... $ 3,424,000 $ 5,157,000

Earnings per share:
As reported:
Basic......................................................... $ 0.44 $ 0.55
Diluted....................................................... $ 0.43 $ 0.54

Pro forma:
Basic......................................................... $ 0.38 $ 0.53
Diluted....................................................... $ 0.37 $ 0.53
</TABLE>

F-13
<PAGE>
VDI MEDIA

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)

9. STOCK INCENTIVE PLAN: (CONTINUED)
The fair value for these options was estimated at the grant date using the
Black-Scholes option-pricing model with the following weighted-average
assumptions used for grants in 1997: dividend yield of 0%; expected volatility
of 62.4%; risk-free interest rates of 6.5%; and expected life of five years. The
weighted average fair value of options granted during 1997 was $4.21. No options
were granted during 1998.

Transactions involving stock options are summarized as follows:

<TABLE>
<CAPTION>
NUMBER WEIGHTED AVERAGE
OUTSTANDING EXERCISE PRICE
----------- -----------------
<S> <C> <C>
Balance at January 1, 1997.................................... -- $ --
Granted during 1997........................................... 343,386 7.11
Exercised during 1997......................................... -- --
Forfeited during 1997......................................... 5,726 7.00
----------- -----
Balance at December 31, 1997.................................. 337,660 7.12
Exercised during 1998......................................... 165,324 7.00
Forfeited during 1998......................................... 12,674 7.00
Expired during 1998........................................... 431 7.00
----------- -----
Balance at December 31, 1998.................................. 159,231 $ 7.24
----------- -----
----------- -----
</TABLE>

At December 31, 1997 and 1998, the range of exercise prices was $7.00 to
$10.88. The remaining contractual life of outstanding options was 9.2 and 8.2
years at December 31, 1997 and 1998, respectively. At December 31, 1997 and 1998
there was 177,000 and 79,484 options exercisable at a weighted average exercise
price of $7.00 and $7.24, respectively.

10. SALES TO MAJOR CUSTOMER:

Sales to a single customer amounted to $2,724,000 for the year ended
December 31, 1996. Sales to another customer amounted to $4,836,000 for the year
ended December 31, 1997. Sales to another customer amounted to $7,824,000 for
the year ended December 31, 1998.

11. SUBSEQUENT EVENTS:

In February 1999, the Company announced that it will commence a stock
repurchase program. The Company has not set a target number of shares to be
repurchased. Instead, the board has authorized the Company to allocate up to
$4,000,000 to purchase its common stock at suitable market prices. Under the
stock repurchase program, the Company may purchase outstanding shares in such
amounts and at such times and prices determined at the sole discretion of
management.

The funds for the stock repurchases will be provided by an amendment to the
Company's existing credit agreement with a bank. There is no assurance that the
Company will repurchase the entire $4,000,000 of common stock.

F-14
<PAGE>
SIGNATURES

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

Dated: March 31, 1998

<TABLE>
<S> <C> <C>
VDI MEDIA

By: /s/ DONALD R. STINE
-----------------------------------------
</TABLE>

Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.

<TABLE>
<C> <S> <C>
/s/ R. LUKE STEFANKO
- ------------------------------ Chairman of the Board and March 31, 1999
R. Luke Stefanko Chief Executive Officer

/s/ DONALD R. STINE Director and President
- ------------------------------ (principal executive March 31, 1999
Donald R. Stine officer)

Chief Financial Officer
/s/ CLARKE W. BREWER and Treasurer (principal
- ------------------------------ financial and accounting March 31, 1999
Clarke W. Brewer officer)

/s/ THOMAS J. ENNIS
- ------------------------------ Director March 31, 1999
Thomas J. Ennis

/s/ STEVEN J. SCHOCH
- ------------------------------ Director March 31, 1999
Steven J. Schoch

/s/ EDWARD M. PHILIP
- ------------------------------ Director March 31, 1999
Edward M. Philip
</TABLE>

<PAGE>
EXHIBIT 21

SUBSIDIARIES OF THE REGISTRANT

<TABLE>
<CAPTION>
STATE UNDER PERCENT OF STOCK
LAWS OF WHICH OWNED BENEFICIALLY BY
NAME OF SUBSIDIARY ORGANIZED THE COMPANY
- --------------------------------------------------------- -------------- ---------------------
<S> <C> <C>
Multi-Media Services, Inc................................ California 100%

Fast Forward, Inc........................................ California 100%
</TABLE>

<PAGE>
CONSENT OF INDEPENDENT ACCOUNTANTS

We hereby consent to the incorporation by reference in the Registration
Statement on Form S-8 (No. 333-46923) of VDI Media of our report dated February
23, 1999 appearing on page F-1 of this Form 10-K.

PricewaterhouseCoopers LLP
Costa Mesa, California
March 30, 1999

<PAGE>
<ARTICLE> 5

<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 2,048,000
<SECURITIES> 0
<RECEIVABLES> 18,450,000
<ALLOWANCES> (879,000)
<INVENTORY> 734,000
<CURRENT-ASSETS> 22,003,000
<PP&E> 37,080,000
<DEPRECIATION> (19,425,000)
<TOTAL-ASSETS> 64,849,000
<CURRENT-LIABILITIES> 13,141,000
<BONDS> 0
0
0
<COMMON> 20,948,000
<OTHER-SE> 0
<TOTAL-LIABILITY-AND-EQUITY> 64,849,000
<SALES> 59,697,000
<TOTAL-REVENUES> 59,697,000
<CGS> 36,454,000
<TOTAL-COSTS> 36,454,000
<OTHER-EXPENSES> 13,201,000
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 997,000
<INCOME-PRETAX> 9,066,000
<INCOME-TAX> 3,756,000
<INCOME-CONTINUING> 5,310,000
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 5,310,000
<EPS-PRIMARY> 0.55
<EPS-DILUTED> 0.54

</TABLE>