10-Q/A 1 a2055773z10-qa.txt 10-Q/A -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ FORM 10-Q/A AMENDMENT NO. 1 (MARK ONE) ~~/X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934~~

FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2001 OR ~~/ / 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 0-28436 ------------------------ OPEN MARKET, INC. (Exact name of registrant as specified in its charter) DELAWARE 04-3214536 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number)

ONE WAYSIDE ROAD BURLINGTON, MASSACHUSETTS 01803 (Address of principal executive offices) (Zip Code) (781) 359-3000 (Registrant's telephone number, including area code) ------------------------ 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 / / As of May 8, 2001, there were 46,936,132 shares of the Registrant's Common Stock outstanding. -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- OPEN MARKET, INC. TABLE OF CONTENTS

2 PART I--FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS OPEN MARKET, INC. CONSOLIDATED BALANCE SHEETS (IN THOUSANDS)

The accompanying notes are an integral part of these consolidated financial statements. 3 OPEN MARKET, INC. CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) (UNAUDITED)

The accompanying notes are an integral part of these consolidated financial statements. 4 OPEN MARKET, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS) (UNAUDITED)

The accompanying notes are an integral part of these consolidated financial statements. 5 OPEN MARKET, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) 1. BASIS OF PRESENTATION The consolidated financial statements of Open Market, Inc. (Open Market or the Company) presented herein have been prepared pursuant to the rules of the Securities and Exchange Commission for quarterly reports on Form 10-Q and do not include all of the information and note disclosures required by generally accepted accounting principles. These statements should be read in conjunction with the consolidated financial statements and notes thereto for the year ended December 31, 2000, included in our Annual Report on Form 10-K filed with the Securities and Exchange Commission on April 2, 2001. The consolidated financial statements and notes herein are unaudited but, in the opinion of management, include all adjustments (consisting of normal, recurring adjustments) necessary to present fairly the consolidated financial position, results of our operations and cash flows and those of our subsidiaries. The results of operations for the interim periods shown herein are not necessarily indicative of the results to be expected for any future interim period or for the entire year. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The accompanying consolidated financial statements reflect the application of the following significant accounting policies described in this note and elsewhere in the accompanying notes to consolidated financial statements. (a) PRINCIPLES OF CONSOLIDATION The accompanying consolidated financial statements include the accounts of Open Market and our wholly owned subsidiaries, which includes FutureTense, Inc., for all periods presented. All material inter-company accounts and transactions have been eliminated in consolidation. (b) REVENUE RECOGNITION We recognize revenue in accordance with Statement of Position (SOP) 97-2, SOFTWARE REVENUE RECOGNITION, as amended by SOP 98-9, SOFTWARE REVENUE RECOGNITION, WITH RESPECT TO CERTAIN ARRANGEMENTS. We generate revenues from two sources: license fees for the use of our products and service revenues for implementation, support, consulting and training related to our products. We generally execute separate contracts that govern the terms and conditions of each software license and maintenance arrangement and each professional services arrangement. These contracts may be an element in a multiple element arrangement. Revenues under multiple element arrangements, which may include several different software products or services sold together, are allocated to each element based on the residual method in accordance with SOP 98-9. We use the residual method when fair value does not exist for one of the delivered elements in an arrangement. Under the residual method, the fair value of the undelivered elements is deferred and subsequently recognized. We have established sufficient vendor-specific objective evidence for the value of professional services, training and maintenance and support services based on the price charged when these elements are sold separately. Accordingly, software license revenue is recognized under the residual method in arrangements in which software is licensed with professional services, training and maintenance and support services. 6 Revenues from software license agreements are recognized upon delivery of the software if there is evidence of an agreement, the payment is fixed or determinable and collection is probable. If an acceptance period is required or post-delivery obligations exist, revenues are recognized upon customer acceptance and/or completion of the obligation. We enter into reseller arrangements for certain products that typically provide for sublicense fees payable to us based on a percentage of our list price. Royalty and sublicense revenues from our reseller arrangements are recognized when earned, either on a per-unit basis as reported to us by our licensees, or with regards to guaranteed minimums, upon shipment of the master copy of all software to which the guaranteed minimum sublicense fees relate, if there are no significant post-delivery obligations. Revenues for post-contract customer support are recognized ratably over the term of the support period, which is typically one year. Service revenues, which include education, implementation and consulting services, are recognized in the period services are provided, if customer acceptance is not required, there is evidence of an agreement, the revenues are fixed or determinable and collection is probable. Although the Company generally does not provide its customers with contractual rights of return, it has issued credits for returns and allowances to its customers in the past, and as a result, the Company provides for estimated returns and allowances on products and services in accordance with FASB No. 48, REVENUE RECOGNITION, when right of return exists. Cost of product revenues consists of costs to distribute the product, including the cost of the media on which it is delivered and royalty payments to third-party vendors. Cost of service revenues consists primarily of consulting and support personnel salaries and related costs. Deferred revenues represent cash received from customers for products and services in advance of revenue recognition. (c) CASH, CASH EQUIVALENTS AND MARKETABLE SECURITIES We account for investments under Statement of Financial Accounting Standards (SFAS) No. 115, ACCOUNTING FOR CERTAIN INVESTMENTS IN DEBT AND EQUITY SECURITIES. Under SFAS No. 115, investments for which we have positive intent and ability to hold to maturity, consisting of cash equivalents and marketable securities, are reported at amortized cost, which approximates fair market value. Cash equivalents are highly liquid investments with original maturities of less than three months. Marketable securities are investment-grade securities with original maturities of greater than three months. The average maturity of our marketable securities was approximately 1 month and two months at March 31, 2001 and December 31, 2000, respectively. To date, we have not recorded any realized gains or losses. (d) TRANSLATION OF FOREIGN CURRENCIES The accounts of our foreign subsidiaries are translated in accordance with SFAS No. 52, FOREIGN CURRENCY TRANSLATION. In translating the accounts of the foreign subsidiaries into U.S. dollars, current assets and liabilities are translated at the rate of exchange in effect at year-end, while non-monetary assets and stockholders' equity are translated at historical rates. Revenue and expense accounts are translated using the weighted-average rate in effect during the year. Foreign currency translation and transaction gains or losses for the foreign subsidiaries are included in the accompanying consolidated statements of operations since the functional currency of these subsidiaries is the U.S. dollar. We had accounts receivable of approximately $1,767 and $2,021 denominated in foreign currencies as of March 31, 2001 and December 31, 2000, respectively. We mark these receivables to market and record a gain or loss, which is a component of other income/expense in the consolidated statements of operations. To date we have not incurred a significant foreign exchange loss on our foreign accounts receivable. 7 (e) NET LOSS PER SHARE We apply SFAS No. 128, EARNINGS PER SHARE. SFAS No. 128 establishes standards for computing and presenting earnings per share and applies to entities with publicly held common stock or potential common stock. We have applied the provisions of SFAS No. 128 and Staff Accounting Bulletin (SAB) No. 98 for all periods presented. Net loss per share is based upon the weighted average outstanding shares of common stock, adjusted to give effect to the number of equivalent shares of our common stock issued in connection with the FutureTense acquisition for all periods presented. Diluted net loss per share for the three months ended March 31, 2001 and 2000 is the same as basic net loss per share as the inclusion of the potential common stock equivalents would be anti-dilutive. The number of outstanding anti-dilutive potential common shares, which consist of warrants and stock options that are not included in basic net loss per common share, were 9,821,428 and 8,506,245 for the three months ended March 31, 2001 and 2000, respectively. (f) COMPREHENSIVE LOSS SFAS No. 130, REPORTING COMPREHENSIVE INCOME, requires disclosure of all components of comprehensive loss on an annual and interim basis. Comprehensive loss is defined as the change in equity of a business enterprise during a period from transactions and other events and circumstances from non-owner sources. Total comprehensive loss, which is comprised of net loss and the accretion of preferred stock dividends, was $8,693 for the three months ended March 31, 2001. Total comprehensive loss was the same as next loss for the three months ended March 31, 2000. (g) DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE We apply SFAS No. 131, DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION which establishes standards for reporting information regarding operating segments in annual financial statements and requires selected information for those segments to be presented in interim financial reports issued to stockholders. SFAS No. 131 also establishes standards for related disclosures about products and services and geographic areas. Operating segments are identified as components of an enterprise about which separate discrete financial information is available for evaluation by the chief operating decision maker, or decision making group, in making decisions on how to allocate resources and assess performance. Our chief decision-maker, as defined under SFAS No. 131, is a combination of the Chief Executive Officer and the Chief Financial Officer. We report our revenues according to three operating segments: Content-driven eBusiness solutions, Transact/ShopSite and other revenue. Our Content-driven eBusiness revenues include license fees and service revenues from our Content Server suite of integrated products. Our Transact/ShopSite revenues include license fees and service revenues from our Transact and ShopSite products. The other revenues 8 relate to the royalties received from NextPage in accordance with our arrangement, and revenues from licensing of patents.

Revenues from geographical sources in total and as a percentage of total revenues for the months ended March 31, 2001 and 2000 were as follows:

9 All of our product sales for the three months ended March 31, 2001 and 2000 were shipped from our facilities located in the United States. As of March 31, 2001, all of our assets relate to the content-driven eBusiness and Transact. Substantially all of our long-lived assets are located in the United States. (h) NEW ACCOUNTING STANDARDS In June 1998, the FASB issued SFAS No. 133, ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES. This statement establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities. SFAS No. 133, as amended by SFAS No. 137, is effective for all fiscal quarters of fiscal years beginning after June 15, 2000. We adopted SFAS No. 133, effective January 1, 2001, and the adoption did not have a material impact on our consolidated financial statements. (i) RECLASSIFICATIONS We have reclassified certain prior year information to conform to the current year's presentation. 3. SERIES E PREFERRED STOCK In March 2001, we issued $5.0 million of our Series E 6% cumulative convertible preferred stock (Series E preferred stock) and warrants to purchase 917,297 shares of our common stock at an exercise price of $1.91 per share, subject to certain adjustments, to an affiliate of the Palladin Group. The warrants were valued using the Black Scholes Model in accordance with EITF 00-27: APPLICATION OF EITF NO. 98-5 TO CERTAIN CONVERTIBLE INSTRUMENTS. The fair value assigned to the warrants was $1,111,216. The factors used to calculate this fair value are as follows: (a) fair market value of the common stock on transaction date ($1.344), (b) exercise price of the warrants ($1.908), (c) term (5 years), (d) volatility (149%), (e) annual rate of dividends (0%), and (f) discount rate (5.80%). This value, $1,111 plus a beneficial conversion feature of $312 and issuance costs of $251, was recorded as a discount to the Series E preferred stock and will be accreted over a 2 year period. The warrants are exercisable for a period of five years. The Series E preferred stock is convertible at the option of the holder into shares of our common stock at an initial conversion price of $1.53 per share, subject to certain adjustments. The initial conversion price is subject to adjustment on the six-month anniversary of the initial issuance, provided that in no event shall the adjusted conversion price be less than $0.8176. In addition, the conversion price is subject to adjustment in the event that we issue securities below the conversion price, with certain exceptions. The shares of Series E preferred stock are redeemable by Open Market after two years in cash or common stock at the Company's option. If the shares of Series E preferred stock are redeemed for shares of common stock, the conversion price will be the lesser of the initial conversion price, the six-month adjustment price or the then fair market value of the common stock (determined pursuant to a formula). In no event, however, will we be required to issue in excess of 9,369,113 shares of common stock (subject to adjustment for stock splits, stock dividends or similar adjustments to capitalization) upon conversion of the Series E preferred stock and exercise of the related warrants. As a result, the Series E preferred stock may be converted and the common stock purchase warrants may be exercised at a price per share that may be less than the then current market price of our common stock, which may cause substantial dilution to our existing common stockholders. The shares of Series E preferred stock bear dividends at an annual rate of 6.0% of the liquidation preference of these shares, payable semi-annually, through the issuance of shares of our common stock or, at our option, in cash. Holders of Series E preferred stock have the right, after two years, to require us to redeem the Series E preferred stock for cash or convert such shares into our common stock, at our option. Also, in the event of a "change in control" as defined in the terms of the Series E preferred stock, if the Series E preferred stock is not converted into shares of common stock by the 10 holder, we are required to redeem the Series E preferred stock for cash, with such cash redemption equal to 115% of the Series E preferred stock liquidation preference. We are required to register the shares of common stock issuable upon conversion and upon exercise of the warrants under the Securities Act of 1933 for public resale. 4. SALE OF FOLIO TECHNOLOGY TO NEXTPAGE, INC. On March 23, 2001, we entered into an Asset Purchase Agreement with NextPage, Inc., pursuant to which we sold certain technology, which we refer to as the Folio technology, to NextPage for a total purchase price of $6,667 in cash. Our Board of Directors determined the purchase price to represent fair and reasonable consideration for these assets. We recorded a one-time gain of $4,460 in the first quarter of 2001 in connection with the sale, which represents the $6,667 consideration, less $2,207 of intangible assets, which existed at the date of the sale. 5. SPECIAL CHARGES (A) RESTRUCTURING CHARGES (i) On April 4, 2001, we announced a decision to reduce staffing by approximately 25 percent. This action is in direct support of our efforts to align our cost structure with our current revenue levels and to better position us to execute on our plan for profitability in the second half of 2001. The restructuring will result in a second quarter charge of approximately $1 million for severance and other related charges. (ii) In the fourth quarter of 2000, we implemented a restructuring plan to reduce expenses and align investments with new strategies designed for future profitability and long-term revenue growth. The major component of the restructuring charge related to the elimination of 92 employees and 90 outside consultants across the following functions: services (99), research and development (49), marketing (10), general and administrative (13) and sales (11). Other components of the restructuring charge included write-off of goodwill related to the ICentral acquisition as we decided to divest our ShopSite product line, the accrual of a software contract commitment that resulted from a change in product strategy and accrual of office lease impairment costs due to the reduction in workforce. The total cash impact of the restructuring amounted to approximately $3,693. We paid approximately $836 in 2000 and $791 in the first quarter of 2001, and all remaining liabilities are expected to be paid by December 31, 2001. Following are the significant components of the restructuring charge:

The following is a rollforward of the restructuring accrued for the first quarter of 2001: Accrued restructuring December 31, 2000..................... $3,106 Cash paid during the quarter................................ (791) ------ Accrued restructuring March 31, 2001........................ $2,315

11 6. CONTINGENCIES CLASS ACTION SUIT We are aware of six putative class actions that were filed between June 14, 2000 and August 10, 2000, against us and certain of our officers and directors in the United States District Court for the District of Massachusetts. These actions, each filed on behalf of an alleged class of our shareholders who purchased their common stock between November 8, 1999 and April 18, 2000, allege violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder. In particular, they allege, among other things, that during the putative class period, the defendants sought to mislead the investing public by overstating Open Market's prospects and the quality of its products. The plaintiffs are seeking monetary damages and other appropriate relief. On January 25, 2001, the court entered an order consolidating these actions into one action. This consolidated case is entitled IN RE OPEN MARKET SECURITIES LITIGATION, C.A. No. 00-CV-11162. On April 13, 2001, the plaintiffs filed a consolidated class action complaint. The defendants believe they have meritorious defenses against this suit and intend to vigorously defend this suit. On May 29, 2001, they filed a motion seeking dismissal of all counts of the consolidated complaint. 12 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS YOU SHOULD READ THE FOLLOWING DISCUSSION OF OUR FINANCIAL CONDITION AND RESULTS OF OPERATIONS TOGETHER WITH THE CONSOLIDATED FINANCIAL STATEMENTS AND THE RELATED NOTES INCLUDED ELSEWHERE IN THIS REPORT. THE FOLLOWING FINANCIAL DATA IS PRESENTED IN THOUSANDS. OVERVIEW Open Market is a provider of enterprise content management and delivery application software. Our software solutions are designed to enable businesses and other organizations to use the Internet to optimize interactions with their site visitors, employees, customers and distribution channels, in order to reduce costs, accelerate business processes, gain market share, establish new revenue streams and compete in the new online economy. We believe that quality interactions result from the reliable and timely exchange of compelling and accurate information and a consistent series of quality interactions is the key to building and sustaining business relationships. We build our software based on two core beliefs. First, information, or content, is a strategic asset, and world-class organizations strive to excel at managing crucial information. For these organizations, the Internet introduces new information management challenges and opportunities. Second, web applications managing this crucial information must be reliable, scalable, flexible and open. This puts new requirements on how eBusiness application software needs to be developed and delivered. Companies use our software to build and operate captivating web sites, rich product catalogs, self-service applications and web services for their distribution channels, marketplaces and customers. Our products acquire content from people and systems, manage that information through approval and workflow processes, and then disseminate it in personalized delivery formats to trading partners' systems and to a variety of presentation devices, including web browsers, wireless devices, personal digital assistants and e-mail. These eBusiness applications, which we call "content-driven eBusiness solutions" are designed to enable companies to reduce costs, strengthen customer loyalty and establish new revenue streams. We recognize revenue in accordance with Statement of Position (SOP) 97-2, SOFTWARE REVENUE RECOGNITION, as amended by SOP 98-9. We generate revenue from two sources: license fees for the use of our products, and service revenues for implementation, support, consulting and training related to our products. We recognize license fee revenues upon licensing and delivery of the software, if there is persuasive evidence of an agreement, the fee is fixed or determinable, and collectibility is probable. If the license is subject to customer acceptance or significant post-delivery obligations exist, we defer the revenue recognition of the license fee until customer acceptance has occurred or the post-delivery obligations have been met. We have established sufficient vendor specific objective evidence for the value of professional services, training, and maintenance and support services based on the price charged when these elements are sold separately. Accordingly, software license revenue is recognized under the residual method in arrangements in which software is licensed with professional services, training, and maintenance and support services. Under the residual method, the fair value of the undelivered elements is deferred and subsequently recognized as earned. We execute separate contracts that govern the terms and conditions of each software license and maintenance arrangement and each professional service arrangement. These contracts may be an element in a multiple element arrangement. Revenues under multiple element arrangements, which may include several different software products or services sold together, are allocated to each element based on the residual method in accordance with the Statement of Position 98-9, SOFTWARE REVENUE RECOGNITION, WITH RESPECT TO CERTAIN ARRANGEMENTS. Although the Company generally does not provide its customers with contractual rights of return, it has issued credits for returns and allowances to its 13 customers in the past, and as a result, the Company provides for estimated returns and allowances on products and services in accordance with FASB No. 48, REVENUE RECOGNITION, when right of return exists. We also enter into reseller arrangements for certain of our products that typically provide for sublicense fees payable to us based on a percentage of our list price. We recognize these sublicense revenues from resellers when earned, either on a per-unit basis or, for guaranteed minimums, upon shipment of the master copy of all our software to which the guaranteed sublicense fee minimums relate, if there are no significant post-delivery obligations and if all other criteria of SOP 97-2 and SOP 98-9 are met. Our service revenues are derived from a wide variety of contracted services for technical support, consulting and training related to our products. We charge fees for maintenance and support based on a percentage, generally 16% to 22%, of the corresponding license fee, depending on the level of support, and recognize these fees ratably over the life of the maintenance and support contract. Our maintenance agreements provide for unspecified product upgrades and enhancements and technical support in the form of telephone or on-site assistance. These agreements are renewable at the election of the customer. Accordingly, our maintenance and technical support revenues are typically a function of new product licenses and the annual renewal of maintenance agreements. We also generate revenues from professional services, which include implementation and technical consulting, and from education services, including on-site and online training services. We recognize revenues from professional and education services as such services are performed. We report our revenues according to three operating segments: Content-driven eBusiness solutions, Transact/ShopSite and other revenue. Our content-driven eBusiness solutions revenues include license fees and service revenues from our Content Server family of integrated products. Our Transact/ ShopSite revenues include license fees and service revenues from our Transact and ShopSite products. The other revenues relate primarily to the royalties received from NextPage in accordance with our arrangement, as well as patent licensing revenue. Our cost of product revenues consists of costs to distribute our products, including the cost of the media on which our products are delivered, and royalty payments to third-party vendors for technology that is incorporated into our products. Our cost of service revenues consists primarily of the salaries and related costs of our technical personnel. Software development costs that qualified to be capitalized were immaterial in all periods. Accordingly, we have charged all such expenses to research and development in the period incurred. Our customer base is diversified, with no single customer representing greater than 10% of our total revenues for periods ended March 31, 2001 and 2000. RESULTS OF OPERATIONS REVENUES

14 For the three months ended March 31, 2001, total revenues decreased by $11,809, or 47%, with product and services revenues decreasing by $9,056 and $2,753, respectively, from the comparable prior year period. PRODUCT REVENUES

For the three months ended March 31, 2001, total product revenues decreased $9,056, or 58%, as compared to the same period of the prior year. Our content-driven eBusiness solutions product revenue decreased $3,076 or 40%, primarily due to a decline in IT spending as a result of external economic uncertainty. Transact/ShopSite product revenue decreased $6,507 or 99%, primarily as a result of reduced market demand for our heritage commerce products. Other product revenue increased $527 or 46%, as a result of the non-exclusive license of certain patent rights for $500. The remaining $1,167 represents royalty revenue from the NextPage master distribution agreement for the Folio technology. In March 2001, we sold the Folio technology to NextPage and therefore there will be no future revenue stream from these products beginning in the second quarter of 2001. Product revenues accounted for 48% and 61% of total revenues for the three months ended March 31, 2001 and 2000, respectively. SERVICE REVENUES

For the three months ended March 31, 2001, total service revenues decreased by $2,753, or 29%, as compared to the same period of the prior year. Content-driven eBusiness solutions service revenue increased $1,092, or 53%, primarily as a result of an increase in both professional service and maintenance and support revenue as compared to the quarter ended March 31, 2000. The increase was due to a larger base of customers receiving professional services and maintenance and support when compared to the prior year. Transact/ShopSite service revenues decreased $3,659, or 50%. This decline was expected as professional services for our customers are increasingly performed by our partners. The decline in other services revenue of 95% was due to the elimination of service revenue related to the Folio publishing segment. In March 2001, we sold the Folio product line to NextPage and therefore we do not expect to derive any future Folio service revenues. Service revenues accounted for 52% and 38% of total revenues for the three months ended March 31, 2001 and 2000, respectively. 15 COST OF PRODUCT REVENUES

For the three months ended March 31, 2001, cost of product revenues decreased $1,778, or 75%, primarily as a result of the decrease in licensing product revenues. In addition, during the first quarter of 2001 we sold fewer third party software products, which resulted in a decrease in the cost of product when compared to the quarter ended March 31, 2000. COST OF SERVICE REVENUES

For the three months ended March 31, 2001, cost of service revenues decreased $1,429, or 19%, primarily as a result of a decrease in outside consulting expenses as implementation services for our customers are increasingly performed by our partners. The decrease in service margin of approximately 13% was a result of a decrease in service revenues without a proportionate decrease in service costs when compared to the prior year. Because of the high costs of maintaining a service organization, we are seeking to have services for our customers performed by our partners. OPERATING EXPENSES

16 SELLING AND MARKETING Selling and marketing expenses consist primarily of the cost of sales and marketing personnel and outside marketing consultants, as well as the costs associated with marketing programs, industry tradeshows, sales seminars, advertising, and product literature. For the period ended March 31, 2001, selling and marketing expenses increased $267 over the comparable prior year period, primarily due to an increase of approximately $136 in office rent expense and $470 in marketing related expenses including marketing programs, tradeshows and advertising. This was offset by a decrease in employee-related expenses, temporary help and recruiting of $310. RESEARCH AND DEVELOPMENT Research and development expenses consist primarily of the cost of research and development personnel and independent contractors, certain licensed technology and equipment and facilities costs related to such activities. For the three months ended March 31, 2001, research and development expenses decreased $887 from the comparable prior year period. The decrease was primarily attributed to a decline in employee-related expenses of $379 and outside consulting expense of $328. The decline of these expenses is related to our cost savings efforts and reductions in our work force. GENERAL AND ADMINISTRATIVE General and administrative expenses consist primarily of the cost of finance, management and administrative personnel and legal and other professional fees. For the three months ended March 31, 2001, general and administrative expenses increased $328 from the comparable prior year period. This increase was primarily a result of an increase in bad debt expense of $593. The additional bad debt expense was recorded to increase the allowance for bad debt to cover our exposure for a number of customers that had experienced cash flow difficulties related to the economic downturn. This was offset by a decrease in employee related expenses of $259 as a result of our cost savings efforts and reduction in workforce. AMORTIZATION OF INTANGIBLES For the three months ended March 31, 2001, amortization of intangibles, primarily resulting from the acquisitions of ICentral and Folio, decreased to $450 from $765 in the comparable prior year. The decrease was attributable to fully amortized assets of the ICentral acquisition at the end of fiscal 2000. NON-OPERATING INCOME (EXPENSE) We recorded a gain on the sale of assets of $4,710 as a net result of the sale of our Folio product line to NextPage and the sale of a certain patent right for $250. On March 23, 2001, we entered into an Asset Purchase Agreement with NextPage, Inc. pursuant to which we sold certain technology, which we refer to as the Folio technology, to NextPage for a total purchase price of $6,667 in cash. We recorded a one-time gain of $4,460 in the first quarter of 2001 in connection with the sale, which represents the $6,667 consideration, less $2,207 of intangible assets, which existed at the date of the sale. Interest income represents interest earned on cash, cash equivalents and marketable securities. For the three months ended March 31, 2001, interest income decreased to $141 from $352 in the comparable prior year period, primarily as a result of a decrease in our cash equivalents and marketable securities. Interest expense relates to the interest charged on our line-of-credit and long-term obligations. For the three months ended March 31, 2001, interest expense increased to $312 from $93 in the 17 comparable prior year period. The increase was primarily attributed to fees related to the renewal of our line of credit. Other income/expense primarily represents foreign currency translation gains and losses. PROVISION FOR INCOME TAXES We recorded a provision for foreign income taxes of $115 and $52 for the three months ended March 31, 2001 and 2000, respectively. This provision relates to the amount of estimated taxes due in foreign jurisdictions for our foreign operations and certain withholding taxes. We incurred losses for U.S. tax purposes for all periods to date and, accordingly, there has been no provision for U.S. income taxes. We believe that the provision for income taxes will fluctuate in the future and is dependent upon the geographical locations of future sales and the associated withholding taxes in those countries. The provision for income taxes will also fluctuate when we become eligible for corporate income taxation in the United States. LIQUIDITY AND CAPITAL RESOURCES At March 31, 2001, we had $14,754 in cash, cash equivalents and marketable securities, which did not include any borrowings against our existing lines of credit. At December 31, 2000, we had $30,430 in cash, cash equivalents and marketable securities, which included $17,405 of borrowing against our lines of credit. Our operating activities used cash and cash equivalents of $10,195 and $835 for the three months ended March 31, 2001 and 2000, respectively, to fund our operations. At March 31, 2001, our net loss increased approximately 82% to $8,693 from $4,768 in the comparable prior year period. Also, partially offsetting this increased loss was a gain of $4,460 from the sale of our Folio technology and related assets to NextPage. The increased use of cash was offset by changes in accounts receivable and prepaid expenses and other current assets, when compared to the same quarter of the prior year. Our investing activities provided cash and cash equivalents of $5,226 and $3,271 for the three months ended March 31, 2001 and 2000, respectively. For the three months ended March 31, 2001, the primary source of cash from investing activities was $5,301 related to the maturity of marketable securities. This was partially offset by purchases of property and equipment in the amount of $75. In the comparable prior year period, the primary source of cash from investing activities was $4,352 related to the maturity of marketable securities, which was partially offset by purchases of property and equipment of $1,081. Our financing activities used cash and cash equivalents of $5,406 for the three months ended March 31, 2001 as compared to the cash provided by financing activities of $6,976 for the same period of the prior year. For the three months ended March 31, 2001, the primary source of cash used by financing activities was $17,405 for payment on the lines of credit. This was offset by the $4,779 of funds received from the issuance of Series E preferred stock and $6,667 of funds received from the sale of Folio technology. In the comparable prior year period, cash and cash equivalents provided by financing activities consisted primarily of $6,991 from the issuance of common stock under our stock option and stock purchase plans. We had an unsecured credit facility with Silicon Valley Bank, which provided up to $15,000 in financing in the form of a demand line of credit. Borrowings under this line were limited to 80% of eligible domestic accounts receivable and 90% of eligible foreign accounts receivable, as defined, and bore interest at the prime lending rate (9.5% at December 31, 2000). We were required to comply with certain restrictive covenants under this agreement and the line was collateralized by our accounts receivable. We were in compliance with all such covenants at December 31, 2000. As of December 31, 2000, our borrowing under this facility was $11,459. This line was fully paid in January 2001 and 18 expired on January 15, 2001. In February 2001, we replaced this line with a secured credit facility arrangement with the same bank. This facility provides up to $12,000 in financing in the form of a demand line of credit. Borrowings under this line are limited to between 60% and 80% of eligible domestic accounts receivable and 90% of eligible foreign accounts receivable, as defined, and bear interest at the prime lending rate plus 2%. The line is collateralized by all assets. We are required to comply with certain financial covenants under this agreement, including a requirement that we (i) raise, on or before March 15, 2001, additional capital of at least $10,000,000 through the sale of subordinated debt, equity securities, non-core assets, certain stock interests and/or the proceeds of lawsuit settlements and (ii) maintain a minimum tangible net worth in an amount equal to (a) a base amount, ranging from $10,000,000 to $20,000,000 from the date of the agreement to December 30, 2001, and fixed at $18,000,000 on and after December 30, 2001, plus (b) 85% of all consideration received after the date of the agreement from any sale of our equity securities and/or subordinated debt, excluding amounts received in connection with the additional capital requirement described above. Other restrictive covenants under this agreement include restrictions on (i) our use of proceeds and (ii) our ability to sell the company, make loans, declare dividends, increase compensation payments, subordinate debt and encumber the collateral. Effective March 30, 2001, we entered into a modification to the secured credit facility which, among other things, extended the date by which we were required to raise the $10,000,000 of additional capital discussed above from March 15, 2001 to March 31, 2001 and reduced the minimum tangible net worth we are required to maintain to an amount equal to (a) a base amount, ranging from $5,500,000 to $15,000,000 from the date of the agreement to December 31, 2001, and fixed at $8,500,000 on and after December 30, 2001, plus (b) 85% of all consideration received after the date of the original loan agreement from any sale of our equity securities and/or subordinated debt, excluding amounts received in connection with the additional capital requirement described above. There were no borrowings under this line of credit at March 31, 2001. We had a royalty line of credit with the same bank, which provided up to $6,996 in financing in the form of a line of credit. Borrowings under this line were limited to 85% of minimum guaranteed royalty receivable from NextPage, as defined, and bore interest at the prime lending rate (9.5% at December 31, 2000). Our borrowing under this facility was $5,946 at December 31, 2000. This line was fully paid in January 2001. In concert with our March 2001 sale of the underlying technology to NextPage, this line terminated. At December 31, 2000, we had net operating loss carryforwards for income tax purposes of approximately $169,000. These losses are available to reduce federal and state taxable income, if any, in future years. These losses are subject to review and possible adjustment by the Internal Revenue Service and may be limited in the event of certain cumulative changes in ownership interests of significant shareholders over a three-year period that are in excess of 50%. While we believe that we have experienced a change in ownership in excess of 50%, we do not believe that this change in ownership will significantly impact our ability to use our net operating loss carryforwards. In March 2001, we issued 5,000 shares of Series E preferred stock for gross proceeds of approximately $5,000 to Halifax Fund, LP, a fund managed by the Palladin Group, and sold our Folio technology to NextPage, Inc. for $6,667. Based upon our current revised operating plan, projected capital expenditures and belief that we can generate additional cash via non-core asset sales or debt or equity financings during 2001, we believe that sufficient capacity exists to fund our operations, debt service and capital expenditure requirements at least through December 31, 2001. However, if we are unable to meet our revised operating plan for 2001, or are unable to raise additional funding through the sale of assets, or raise debt or equity capital, we may be required to significantly curtail certain of our operations or otherwise modify our plans. 19 EURO CURRENCY On January 1, 1999, certain member countries of the European Union (EU) established fixed conversion rates between their existing currencies and the EU's common currency, the Euro. The former currencies of the participating countries are scheduled to remain legal tender as denominations of the Euro until January 1, 2002, when the Euro will be adopted as the sole legal currency. We continue to assess the impact that the conversion to the Euro will have on our European operations. We are evaluating the potential impact in several areas of our business, including the ability of our information systems to handle Euro-denominated transactions and the impact on exchange costs and currency exchange rate risks. We are also evaluating the impact that cross-border price transparencies, which may affect the ability to price products differently in various countries, will have on our gross margin. Although we are still in the assessment phase, the conversion to the Euro is not expected to have a material impact on our operations or financial position. CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS INTRODUCTION This Quarterly Report contains certain forward-looking statements. For this purpose, any statements contained herein that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the generality of the foregoing, the words "believes", "anticipates", "plans", "expects", and similar expressions are intended to identify forward-looking statements. There are a number of important factors that could cause our actual results to differ materially from those indicated by forward-looking statements made in this Quarterly Report and presented elsewhere by management from time to time. Some of the important risks and uncertainties which may cause our operating results to differ materially or adversely are discussed below. WE HAVE A HISTORY OF SIGNIFICANT LOSSES AND THESE LOSSES MAY CONTINUE IN THE FUTURE WHICH COULD CAUSE THE MARKET PRICE OF OUR COMMON STOCK TO DECLINE. We have experienced operating losses in each quarterly and annual period since our inception and these operating losses may continue in the future. We incurred net losses of $37.0 million for the year ended December 31, 1998, $19.8 million for the year ended December 31, 1999, and $37.8 million for the year ended December 31, 2000. As of March 31, 2001, our accumulated deficit was $211.0 million. We expect to continue to make investments to broaden the range of our product offerings. These efforts will require capital expenditures, a substantial portion of which we will make long before any corresponding revenue may be realized. We may never achieve profitability, and if we do achieve profitability in any period, we may not be able to sustain or increase profitability on a quarterly or annual basis. Because we continue to incur losses, we will be required to raise additional capital in order to fund our operations, expand our business and increase our revenues. We cannot assure you that we will be successful in raising additional funds on terms, which are acceptable to us or at all, or in increasing our revenues. In the event that we are unable to obtain additional cash infusions when required, we expect that we will have to significantly curtail certain of our operations, sell certain of our assets or otherwise reduce the breadth of our operations, all of which could adversely affect our business and potential future growth and prospect. IF OUR FINANCIAL PERFORMANCE DOES NOT IMPROVE AS A RESULT OF RECENT RESTRUCTURINGS, WE MAY NOT REALIZE EXPECTED BENEFITS FROM OUR COST SAVING MEASURES. In October 2000 and April 2001, we restructured our operations to reduce expenses by streamlining our workforce and realigning resources across business segments to appropriately support each segment's customer base. In October 2000, we eliminated 92 employees and 90 outside 20 consultants, and in April 2001, we eliminated an additional 57 employees. In addition, we transitioned our professional services organization to focus on higher-margin design assurance services for partners. The implementation of these restructurings has required significant time commitments from our senior management. We may experience a decline in product and services revenues and a loss of customers as a result of decreasing our headcount and changing the mix of products and services to which we devote our development and marketing efforts without realizing any benefits. We cannot provide assurance that our financial performance will improve as a result of these cost-saving measures. THE SUCCESS OF OUR BUSINESS DEPENDS, IN LARGE PART, ON OUR NEW CONTENT SERVER ENTERPRISE EDITION EBUSINESS SOLUTIONS, WHICH HAVE BEEN RECENTLY INTRODUCED AND MAY NOT BE WIDELY ADOPTED BY OUR CUSTOMERS. We expect to derive substantially all of our product license revenues in the future from our newly announced CSEE software. Our future growth and profitability will depend upon the successful release, introduction and customer acceptance of this new suite of products and future enhancements to these products. Any factors adversely affecting the pricing of, demand for or market acceptance of our suite of CSEE software products, including competition or technological change, could cause our revenues to decline and our business and future operating results to suffer. IF DEMAND FOR OUR CONTENT MANAGEMENT APPLICATIONS DOES NOT CONTINUE, OUR REVENUES MAY NOT INCREASE OR MAY DECLINE AND OUR OPERATING RESULTS WILL BE ADVERSELY AFFECTED. Because we have only been primarily focused on providing content management and delivery solutions for a short time, we have a limited operating history pursuing this business model. The revenue growth potential of this market for content management is still unproven. As a result, our historical financial statements may not be an accurate indicator of our future operating results. In addition, we have limited insight into trends that may emerge and affect our new line of business, and we cannot forecast our operating expenses based on our historical results. Our future operating results depend upon the development and growth of the market for Internet-based packaged software applications, including content management and delivery applications. If the Internet content management and delivery market fails to continue to develop or develops more slowly than expected, our business and prospects will suffer. IF OUR SOFTWARE CEASES TO BE COMPATIBLE WITH OR WE ARE UNABLE TO LICENSE THIRD-PARTY TECHNOLOGY OR IF DEFECTS IN THIS TECHNOLOGY EXIST, OUR PRODUCT SHIPMENTS COULD BE DELAYED. Our software requires specific servers and software to be in place before it can be installed and operated. For example, platform components include servers running on Sun Microsystems Solaris operating environment, or Microsoft Windows NT, databases from Oracle, Sybase or Microsoft and Java application servers from BEA, IBM or iPlanet. The licenses from these third parties may not continue to be available to us on commercially reasonable terms, or at all or our software may cease to be compatible with this technology. If we were to lose any of these technology licenses or if our software ceased to be compatible with this technology, we would have to cease selling our products that incorporate or rely on this technology and expend substantial amounts of resources to redesign our products using equivalent technology, if available. If we are forced to cease selling and to redesign our products, our business and prospects would be adversely affected. IF WE FAIL TO MAINTAIN AND STRENGTHEN OUR RELATIONSHIPS WITH OUR SERVICE PARTNERS, WE MAY NOT ACHIEVE EXPECTED REVENUE GROWTH. We have recently expanded our indirect sales channels through an enhanced partner program and rely on our partners' skills and networks to integrate our products with other technologies and to implement our products at customer sites. If a significant number of potential systems integrators adopt a different product or technology as part of their integrated solution instead of our products, we may 21 not achieve expected revenue growth. In addition, if we fail to maintain relationships with these partners or build new relationships, our ability to expand our customer base may be harmed. We also cannot be sure that such service partners will be able to successfully support our products within their overall solutions, and our revenues may vary depending on their ability to offer such support. IF WE DO NOT COMPETE EFFECTIVELY, PARTICULARLY AGAINST ESTABLISHED PARTICIPANTS WITH GREATER FINANCIAL AND OTHER RESOURCES THAN OURS, WE WILL LOSE MARKET SHARE. The market for eBusiness content management and delivery applications is relatively new, rapidly evolving and intensely competitive. If we fail to compete successfully with current or future competitors, we may lose market share. Our customers' requirements and the technology available to satisfy those requirements continually change. We expect competition in this market to persist and increase in the future. Our primary competition includes in-house development efforts by prospective customers and other vendors of application software or application development platforms and tools directed at interactive commerce and financial services, such as Art Technology Group, BroadVision, Documentum, Interwoven and Vignette. In addition, larger companies with much broader product offerings, such as BEA, IBM, Microsoft and Oracle, may bundle their products to discourage users from purchasing our products. Companies such as IBM, BEA and iPlanet also may add content management functionality to their application servers or introduce their own content management software. Some of our current and potential competitors have longer operating histories, greater name recognition, larger installed customer bases and significantly greater financial, technical and marketing resources than we do. As a result, these competitors may be able to develop and expand their product offerings more quickly, adapt more swiftly to new or emerging technology and changes in customer demands, devote greater resources to the marketing and sales of their product, pursue acquisition and other opportunities more readily and adapt more aggressive pricing policies. In addition, competitors have established and, in the future, may establish cooperative relationships among themselves or with third parties to market or enhance their products. Accordingly, it is possible that new competitors or alliances among competitors may emerge and rapidly acquire significant market share. Competitive pressures may make it difficult for us to acquire and retain customers and are likely to result in price reductions, reduced gross margins and loss of market share. IF WE DO NOT RESPOND EFFECTIVELY AND ON A TIMELY BASIS TO RAPID TECHNOLOGICAL CHANGES AND EVOLVING INDUSTRY STANDARDS, OUR PRODUCTS MAY BECOME OBSOLETE, AND WE WOULD PROBABLY LOSE EXISTING CUSTOMERS AND BE UNABLE TO ATTRACT NEW ONES. Internet markets are characterized by rapidly changing technologies, evolving industry standards, frequent new product and service introductions and changing customer demands. Our new product family, Content Server Enterprise Edition, employs the J2EE technology architecture. We cannot assure you that this architecture will be widely adopted, that we can continue to support J2EE standards established by Sun from time to time or that the J2EE brand will continue to be made available to us in the future. If J2EE support decreases or we could not continue to use Java or Java related technologies, we may have to modify our product line to run on other platforms. If we could not implement modifications to our products on a timely basis, our revenues could decline. In addition, the introduction of new products or technologies could render our product offerings obsolete, reduce the cost of competing products or increase the number of products similar to those that we provide or plan to provide. Our future success will depend on our ability to adapt to rapidly changing technologies and to enhance existing solutions and develop and introduce a variety of new solutions and services to address our customers' changing demands. We may be required to make significant and ongoing investments in future periods in order to remain competitive. Further, we may experience difficulties that could delay or prevent the successful design, development, introduction or 22 marketing of our solutions and services or lengthen our sales cycles. In addition, our new solutions or enhancements must meet the requirements of our current and prospective customers and must achieve significant market acceptance. Any material delays in introducing new solutions and enhancements may cause customers to forego purchases of our solutions and purchase those of our competitors. Our failure to successfully design, develop, test and introduce new products and/or services, or the failure of our recently introduced products or services to achieve market acceptance, could prevent us from maintaining existing client relationships, gaining new clients or expanding our markets. In such a case, we would not achieve our expected revenue growth. IF WE ARE NOT SUCCESSFUL IN ATTRACTING AND RETAINING MANAGEMENT TEAM MEMBERS AND OTHER HIGHLY QUALIFIED INDIVIDUALS IN THE INTERNET INDUSTRY WE MAY NOT BE ABLE TO SUCCESSFULLY IMPLEMENT OUR BUSINESS STRATEGY. Our ability to establish and maintain a position of technology leadership in the highly competitive eBusiness software market depends in large part upon our ability to attract and retain highly qualified managerial, sales and technical personnel. We have recently experienced the departure of several senior executives and may experience the departure of executives in the future due to competition for talent from start-ups and other companies. Our future success also depends on our continuing to attract, retain and motivate highly skilled employees. Competition for employees in our industry is intense. We may be unable to retain our key employees or attract, assimilate or retain other highly qualified employees in the future. We have from time to time in the past experienced, and we expect to continue to experience in the future, difficulty in hiring and retaining highly skilled employees with appropriate qualifications. If our stock price continues to decline, we may face a difficult and significant task of motivating key personnel to stay committed to us. FLUCTUATIONS IN OUR QUARTERLY REVENUE AND OPERATING RESULTS MAY RESULT IN REDUCED PROFITABILITY AND CAUSE THE PRICE OF OUR COMMON STOCK TO DECLINE. We have experienced significant fluctuations in our results of operations on a quarterly and annual basis. We expect to continue experiencing significant fluctuations in our future quarterly and annual results of operations due to a variety of factors, many of which are outside our control, including: - the introduction of new products by us and our competitors; - the variability and length of sales cycles associated with our product offerings; - the market acceptance of, and demand for, our products; - the pace of development of electronic commerce conducted on the Internet; - customer order deferrals in anticipation of enhancements or new products offered by us or our competitors; - non-renewal of service agreements; - software defects and other product quality problems; - the mix of products and services we sell; - customer retention; - the ability to collect payments from our customers on a timely basis; - any changes in our pricing policies and/or those of our competitors; - changes in the level of operating expenses; - sales productivity; and - general economic conditions. 23 In addition, our operating expenses are largely based on anticipated revenue trends and a significant portion of our expenses, such as leased real estate facilities, depreciation and personnel, is fixed in the short term. Accordingly, our results of operations are particularly sensitive to fluctuations in revenues. If our revenues fall below our expectations, we would probably not be able to reduce our fixed or other expenses in sufficient time to respond to the shortfall. If our operating results fall below the expectations of securities analysts or investors in some future quarter or quarters, the market price of our common stock is likely to decline. IF WE ARE UNABLE TO MEET THE OPERATIONAL, LEGAL AND FINANCIAL CHALLENGES THAT WE WILL ENCOUNTER IN OUR INTERNATIONAL OPERATIONS, WE MAY NOT BE ABLE TO GROW OUR BUSINESS. We currently derive a significant portion of our revenue from the sale of our products outside the United States. In the quarter ended March 31, 2001, we derived approximately 47% of our total revenues from sales outside North America. We are increasingly subject to a number of challenges which specifically relate to our international business activities. Our international operations may not be successful if we are unable to meet and overcome these challenges, which would limit the growth of our business. These challenges include: - failure of local laws to provide the same degree of protection against infringement of our intellectual property; - protectionist laws and business practices that favor local competitors, which could slow our growth in international markets; - potentially longer sales cycles to sell products, which could slow our revenue growth from international sales; and - potentially longer accounts receivable payment cycles and difficulties in collecting accounts receivable. BECAUSE WE EXCHANGE FOREIGN CURRENCY RECEIVED FROM INTERNATIONAL SALES INTO U.S. DOLLARS AND ARE REQUIRED TO MAKE FOREIGN CURRENCY PAYMENTS, WE MAY INCUR LOSSES DUE TO FLUCTUATIONS IN FOREIGN CURRENCY TRANSLATIONS. We recognize foreign currency gains and losses arising from our operations in the period incurred. As a result, currency fluctuations between the U.S. dollar and the currencies in which we do business will cause foreign currency translation gains and losses, which may cause fluctuations in our future operating results. We do not currently engage in foreign exchange hedging transactions to manage our foreign currency exposure. WE MAY NOT BE ABLE TO GENERATE ADDITIONAL REVENUE FROM OUR PLANNED INTERNATIONAL EXPANSION TO OFFSET THE COSTS ASSOCIATED WITH ESTABLISHING AND MAINTAINING FOREIGN OPERATIONS. A component of our growth strategy is to expand our presence in foreign markets. It will be costly to establish international facilities and operations and to promote the use of our products in international markets. Even if we are able to successfully expand our international operations, we cannot be certain that we will succeed in maintaining or expanding international market demand for our products. Revenue from international activities may not offset the expense of establishing and maintaining these foreign operations. WE MAY NOT BE ABLE TO PROTECT OUR PROPRIETARY RIGHTS ALLOWING COMPETITORS TO ENTER OUR MARKETS AND REDUCE OUR MARKET SHARE. We regard our products, services and technology as proprietary. We attempt to protect them through a combination of patents, copyrights, trademarks and trade secret laws. We also generally enter into confidentiality agreements with our employees, consultants and customers, and generally control 24 access to and distribution of our documentation and other proprietary information. These methods may not be sufficient to protect our proprietary rights. We have no patented technology that would preclude or inhibit competitors from entering our market. Although we hold several U.S. patents asserting claims relating to certain aspects or uses of electronic commerce software, we cannot be sure of the degree of intellectual property protection those patents will provide. Despite these precautions, it may be possible for a third party to copy or otherwise misappropriate and use our products, services or technology without authorization, particularly in foreign countries where the laws may not protect our proprietary rights to the same extent as do the laws of the United States. We also cannot assure you that third parties will not develop similar technology independently. WE MAY BE SUBJECT TO INFRINGEMENT CLAIMS THAT COULD SUBJECT US TO SIGNIFICANT LIABILITY AND DIVERT THE TIME AND ATTENTION OF OUR SENIOR MANAGEMENT. We have resorted, and may continue to resort, to litigation in the future to enforce our intellectual property rights, to protect our trade secrets or to determine the validity and scope of the proprietary rights of others. On January 8, 2001, we filed a patent infringement lawsuit against Intershop Communications, Inc. in the U.S. District Court for the District of Delaware. We allege that Intershop's software products infringe upon three of our patents. We are seeking injunctive relief and damages due to the infringement. On March 1, 2001, Intershop filed its answer denying infringement and asserting claims for a declaratory judgement of invalidity of the patents and non-infringement. We can provide no assurance as to the outcome of this litigation. There is a risk that our patents can be declared invalid and unenforceable. Any conclusion of this litigation in a manner adverse to us could have a material adverse effect on our business. In addition, this litigation could result in substantial costs and diversion of resources and could harm our business. In addition to licensing technologies from third parties, we are developing and acquiring additional proprietary intellectual property. Third parties may try to claim our products or services infringe their intellectual property. We expect that participants in our markets will be increasingly subject to infringement claims. Any claim, whether meritorious or not, could be time consuming, result in costly litigation and/or require us to enter into royalty or licensing agreements. These royalty or licensing agreements might not be available on terms acceptable to us or at all, in which case we would have to cease selling, incorporating or using those products and services that incorporate the challenged intellectual property and expend substantial amounts of resources to redesign our products or services. If we are forced to enter into royalty or licensing agreements or to redesign our products or services, our business and prospects would suffer. IF LIMITATIONS ON THE ONLINE COLLECTION OF PROFILE INFORMATION ARE IMPOSED, THE UTILITY OF THE PERSONALIZATION FUNCTIONALITY OF OUR PRODUCTS WOULD BE LIMITED, AND WE MAY NOT ATTRACT A SIGNIFICANT NUMBER OF NEW CUSTOMERS. One of the principal features of our products is the ability to develop and maintain profiles of online users to assist business managers in personalizing content and commercial offers to be displayed to specific online users. The resistance of online users to providing personal data and any future laws and regulations prohibiting use of personal data gathered online without express consent or requiring businesses to notify their web site visitors of the possible dissemination of their personal data could limit the utility of our products. These types of laws or regulations could heighten privacy concerns by requiring businesses to notify web site users that the data captured from them online may be used by marketing entities to direct product messages to them. While we are not aware of any laws or regulations of this type currently in effect or in development in the United States, other countries and political entities, including the European Union and its member states, have adopted legal requirements imposing restrictions on the collection, use and processing of personal data. It is possible that similar legal requirements could be adopted in the United States. If the privacy concerns of 25 consumers are not adequately addressed, the effectiveness of our products could be impaired and we may not attract new customers and the revenues they represent. OUR PRODUCTS MAY CONTAIN DEFECTS, WHICH MAY PROVE COSTLY AND TIME CONSUMING FOR US TO CORRECT. Sophisticated software products, such as those we develop and market, may contain errors or failures that become apparent when we introduce the products or when we provide an increased volume of services. We cannot assure you that testing by us and our potential customers will detect all errors in our products prior to licensing or sale. Correcting such errors may result in loss of revenues, delay in market acceptance, diversion of development resources, damage to our reputation or increased service and warranty costs, any of which would adversely affect our business and our ability to market our products profitably. EXISTING AND FUTURE EXPORT CONTROLS MAY DELAY THE INTRODUCTION OF NEW PRODUCTS OR LIMIT OUR ABILITY TO DISTRIBUTE PRODUCTS OUTSIDE OF THE UNITED STATES. Due to the encryption technology contained in our products, our products are subject to export controls within the United States. These export controls, either in their current form or as may be subsequently enacted, may delay the introduction of new products or limit our ability to distribute products outside the United States. In addition, federal or state legislation or regulation may further limit levels of encryption or authentication technology. Also, various countries regulate the import of certain encryption technology and have adopted laws relating to personal privacy issues that could limit our ability to distribute products in those countries. OUR BUSINESS MAY SUFFER IF THE INTERNET INFRASTRUCTURE IS UNABLE TO EFFECTIVELY SUPPORT THE GROWTH IN DEMAND PLACED ON IT. Our success will depend, in large part, upon the maintenance of the Internet infrastructure, such as reliable network backbones with the necessary speed, data capacity and security, and the timely development of enabling products such as high speed modems, for providing reliable Internet access and services and improved content. We cannot assure you that the Internet infrastructure will continue to effectively support the demands placed on it as the Internet continues to experience increased numbers of users, frequency of use and increased bandwidth requirements. Even if the necessary infrastructure or technologies are developed, we may have to spend considerable amounts to adapt our solutions accordingly. Furthermore, the Internet has experienced a variety of outages and other delays due to damage to portions of its infrastructure. These outages and delays could impact the Internet sites of customers using our products and services. THE IMPOSITION OF SALE AND OTHER TAXES ON PRODUCTS SOLD BY OUR CUSTOMERS OVER THE INTERNET COULD HAVE A NEGATIVE EFFECT ON ONLINE COMMERCE AND, AS A RESULT, ON DEMAND FOR OUR PRODUCT. The imposition of new sales or other taxes could limit the growth of eBusiness generally and, as a result, the demand for our products. There is recent federal legislation that limits the imposition of state and local taxes on Internet-related sales. In 1998, the United States Congress passed the Internet Tax Freedom Act, which places a three-year moratorium on state and local taxes on Internet access, unless the tax was already imposed prior to October 1, 1998, and discriminatory taxes on electronic commerce. There is a possibility that Congress may not renew this legislation in 2001. If Congress chooses not to renew this legislation, state and local governments would be free to impose taxes on goods purchased over the Internet. In addition, one or more foreign countries may seek to impose sales or other tax collection obligations on out-of-jurisdiction companies that engage in electronic commerce. A successful assertion by one or more foreign countries that companies engaged in electronic business should collect sales or other taxes on sales of their products over the Internet, even though not physically present in the foreign country, could indirectly reduce demand for our products. 26 WE ARE PARTY TO SECURITIES CLASS ACTION LITIGATION WHICH MAY BE COSTLY TO DEFEND AND THE OUTCOME OF WHICH IS UNCERTAIN AND MAY HARM OUR BUSINESS. We and several of our former and present officers and directors are named as defendants in several class action complaints which have been filed on behalf of certain of our stockholders who purchased securities between November 8, 1999 and April 18, 2000. These complaints allege violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated under this Act. In particular, they allege, among other things, that during the putative class period, the defendants sought to mislead the investing public by overstating Open Market's prospects and the quality of its products. The plaintiffs are seeking monetary damages and other appropriate relief. On January 25, 2001, the court entered an order consolidating these actions into one action. One April 13, 2001, the plaintiff filed a consolidated class action complaint. On May 29, 2001, the defendants filed a motion seeking dismissal of all counts of the consolidated complaint. We can provide no assurance as to the outcome of this litigation. Any conclusion of this litigation in a manner adverse to us would have a material adverse effect on our business, financial condition, and results of operations. In addition, the cost to us of defending any litigation or other proceeding, even if resolved in our favor, could be substantial. Such litigation could also substantially divert the attention of our management and our resources in general. Uncertainties resulting from the initiation and continuation of this litigation or other proceedings could harm our ability to compete in the marketplace. Because the price of our common stock has been, and may continue to be, highly volatile, we have no assurance that additional securities class action complaints will not be filed against us in the future. OUR STOCKHOLDERS MAY EXPERIENCE FURTHER DILUTION AND THE PRICE OF OUR COMMON STOCK MAY DECLINE AS A RESULT OF OUR SERIES E PREFERRED STOCK FINANCING. In March 2001 we sold $5.0 million of our Series E preferred stock and warrants to purchase 917,297 shares of our common stock at an exercise price of $1.9078 per share, subject to certain adjustments, to a fund managed by the Palladin Group. The warrants are exercisable for a period of five years. The Series E preferred stock is convertible at the option of the holder into shares of our common stock at an initial conversion price of $1.5262 per share, subject to adjustment, - on the six-month anniversary of the initial issuance, provided that in no event shall the adjusted conversion price be less than $0.8176; and - under some circumstances in the event of redemption of the Series E preferred stock by Open Market on the two-year anniversary of the original issuance. In no event will any such adjustment result in an increase of the conversion price. In addition, the conversion price is subject to adjustment in the event that we issue securities below the conversion price, with certain exceptions. The shares of Series E preferred stock bear dividends at an annual rate of 6.0% of the liquidation preference of these shares, payable semi-annually, through the issuance of shares of our common stock or, at our option, in cash. Holders of Series E preferred stock have the right, after two years, to require us to redeem the Series E preferred stock for cash or convert such shares into our common stock, at our option. Also, in the event of a "change in control" as defined in the terms of the Series E preferred stock, if the Series E preferred stock is not converted into shares of common stock by the holder, we are required to redeem the Series E preferred stock for cash, with such cash redemption equal to 115% of the Series E preferred stock liquidation preference. The shares of Series E preferred stock are redeemable by Open Market after two years in cash or common stock at the Company's option. If the shares of Series E preferred stock are redeemed for shares of common stock, the 27 conversion price will be the lesser of the initial conversion price, the six-month adjustment price or the then fair market value of the common stock (determined pursuant to a formula). In no event, however, will we be required to issue in excess of 9,369,113 shares of common stock (subject to adjustment for stock splits, stock dividends or similar adjustments to capitalization) upon conversion of the Series E preferred stock and exercise of the related warrants. As a result, the Series E preferred stock may be converted and the common stock purchase warrants may be exercised at a price per share that may be less than the then current market price of our common stock, which may cause substantial dilution to our existing common stockholders. In no event, however, shall we be required to issue, upon the conversion of the Series E preferred stock and the exercise of the warrants, in excess of 9,369,113 shares of common stock (subject to adjustment for stock splits, stock dividends and similar adjustments in capitalization) which represents 19.99% of our outstanding common stock as of March 20, 2001. We are required to register the shares of common stock issuable upon conversion and upon exercise of the warrants under the Securities Act of 1933 for public resale. Any sale of shares of common stock upon conversion of the Series E preferred stock and exercise of the warrants into the public market could cause a decline in the trading price of our common stock. OUR STOCKHOLDERS MAY EXPERIENCE FURTHER DILUTION AND THE PRICE OF OUR COMMON STOCK MAY DECLINE IF WE SELL SHARES OF OUR COMMON STOCK UNDER OUR EQUITY LINE. On May 25, 2001, we entered into an agreement with Theddingworth International Limited to provide Open Market with up to $40,000,000 in private equity funding. Pursuant to this agreement, we have the right, but not the obligation, to raise up to $40,000,000 through the issuance and sale of our common stock to the investor pursuant to a series of draw downs over a period of 24 months. The draw downs are subject to the satisfaction of a number of conditions, including the filing and effectiveness of a registration statement with the Securities and Exchange Commission covering the resale of the shares purchased under the agreement. Pricing for the shares issuable under the agreement is based on the weighted average price of our common stock over a period of time prescribed in the agreement. We will use the funds received from sales of the common stock under the agreement for working capital and other general corporate purposes. We cannot request a draw down which would result in the issuance of an aggregate number of shares of common stock pursuant to the agreement which exceeds 19.9% of the total number of shares of our common stock outstanding on May 25, 2001 without obtaining stockholder approval of such excess issuance. In connection with the agreement, we issued to Theddingworth a warrant to purchase up to 350,000 shares of our common stock at an exercise price of $1.91 per share, subject to certain adjustments in the case of a stock split, stock dividend or other similar transaction. The warrant is exercisable for a period of five years. The resale by Theddingworth of the common stock that it purchases from us will increase the number of our publicly traded shares, which could depress the market price of our common stock. Moreover, as all the shares we sell to Theddingworth will be available for immediate resale, the mere prospect of our sales to it could depress the market price for our common stock. The shares of our common stock issuable to Theddingworth under the equity line facility will be sold at a 10% discount to the volume-weighted average daily price of our common stock during the applicable drawdown period and the proceeds paid to us upon each drawdown will be net of an escrow agent fee of $1,000. If we were to require Theddingworth to purchase our common stock at a time when our stock price is low, our existing common stockholders will experience substantial dilution. The issuance of shares to Theddingworth will therefore dilute the equity interest of existing stockholders and could have an adverse effect on the market price of our common stock. The perceived risk of dilution may cause our stockholders to sell their shares, which would contribute to a downward movement in the stock price of our common stock. Moreover, the perceived 28 risk of dilution and the resulting downward pressure on our stock price could encourage Theddingworth to engage in short sales of our common stock. By increasing the number of shares offered for sale, material amounts of short selling could further contribute to progressive price declines in our common stock. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK FOREIGN EXCHANGE HEDGING. The accounts of our foreign subsidiaries are translated in accordance with SFAS No. 52, FOREIGN CURRENCY TRANSLATION. In translating the accounts of the foreign subsidiaries into U.S. dollars, assets and liabilities are translated at the rate of exchange in effect at year-end, while stockholders' equity is translated at historical rates. Revenue and expense accounts are translated using the weighted-average exchange rate in effect during the year. Foreign currency translation and transaction gains or losses for our subsidiaries are included in the accompanying consolidated statements of operations since the functional currency for our subsidiaries is the U.S. dollar. We have not entered into hedges of our foreign currency exposures. INVESTMENT PORTFOLIO. We do not invest in derivative financial instruments. Our investment policy permits only high credit quality investment vehicles, and this policy also limits the amount of credit exposure of any one issue, issuer, and type of investment. See "Note 2--Summary of Significant Accounting Policies" in the accompanying Notes to Consolidated Financial Statements. 29 PART II--OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS Six putative class actions were filed between June 14, 2000 and August 10, 2000, against us and certain of our officers and directors in the United States District Court for the District of Massachusetts. These actions, each filed on behalf of an alleged class of our shareholders who purchased our common stock between November 8, 1999 and April 18, 2000, allege violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated under the Securities Exchange Act. In particular, they allege, among other things, that during the putative class period, the defendants sought to mislead the investing public by overstating Open Market's prospects and the quality of its products. The plaintiffs are seeking monetary damages and other appropriate relief. On January 25, 2001, the court entered an order consolidating these actions into one action. This consolidated case is entitled IN RE OPEN MARKET SECURITIES LITIGATION, C.A. No. 00-CV-11162. On April 13, 2001, the plaintiffs filed a consolidated class action complaint. On May 29, 2001, the defendants filed a motion seeking dismissal of all counts of the consolidated complaint. On January 8, 2001, we filed a patent infringement lawsuit against Intershop Communications, Inc. in the U.S. District Court for the District of Delaware. Our complaint alleges that Intershop's software products infringe upon three of our patents. We are seeking injunctive relief and damages due to Intershop's infringement. On March 1, 2001, Intershop filed its answer denying infringement and asserting claims for a declaratory judgement of invalidity of the patents and non-infringement. ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS In March 2001, we sold 5,000 shares of our Series E 6% cumulative convertible preferred stock and warrants to purchase 917,297 shares of our common stock at an exercise price of $1.9078 per share, subject to certain adjustments, for aggregate cash consideration of $5.0 million, to Halifax Fund, LP, a fund managed by the Palladin Group. The warrants are exercisable for a period of five years. The Company's total expenses in connection with the offering were $300, $200 of which was for brokers' commissions and $100 of which was for other expenses paid to persons other than directors or officers of the Company, persons owning more than 10 percent of any class of equity securities of the Company, or affiliates of the Company. The Company's net proceeds from the offering were $4,700. The Company intends to use these proceeds for working capital. The Company invested, from time to time, the balance of such net proceeds primarily in investment grade interest bearing instruments. As of March 31, 2001, the Company had $14,754 of cash, cash equivalents, and available-for-sale investments. The sale of these shares and warrants were exempt from registration under the Securities Act of 1933 pursuant to Rule 506 of Regulation D, promulgated thereunder, as there were less than 35 purchasers of these securities and the purchaser was an accredited investor as defined in Rule 501 of Regulation D. The Series E preferred stock is convertible at the option of the holder into shares of our common stock at an initial conversion price of $1.5262 per share, subject to adjustment, - on the six-month anniversary of the initial issuance, to a conversion price equal to the lesser of (i) $1.5262 and (ii) 105% of the average of the daily volume-weighted average sales price for the 20 trading days preceding such anniversary date, provided that in no event shall the adjusted conversion price be less than $0.8176; and - under some circumstances in the event of redemption of the Series E preferred stock by Open Market on the two-year anniversary of the original issuance, as determined above. In no event will any such adjustment result in an increase of the conversion price. In addition, the conversion price is subject to adjustment in the event that we issue securities below the conversion price, with certain exceptions. 30 The shares of Series E preferred stock bear dividends at an annual rate of 6.0% of the liquidation preference of these shares, payable semi-annually, through the issuance of shares of our common stock or, at our option, in cash. Holders of Series E preferred stock have the right, after two years, to require us to redeem the Series E preferred stock for cash or convert such shares into our common stock, at our option. Also, in the event of a "change in control" as defined in the terms of the Series E preferred stock, if the Series E preferred stock is not converted into shares of common stock by the holder, we are required to redeem the Series E preferred stock for cash, with such cash redemption equal to 115% of the Series E preferred stock liquidation preference. The shares of Series E preferred stock are redeemable by Open Market after two years in cash or common stock at the Company's option. If the shares of Series E preferred stock are redeemed for shares of common stock, the conversion price will be the lesser of the initial conversion price, the six-month adjustment price or the then fair market value of the common stock (determined pursuant to a formula). In no event, however, will we be required to issue in excess of 9,369,113 shares of common stock (subject to adjustment for stock splits, stock dividends or similar adjustments to capitalization) upon conversion of the Series E preferred stock and exercise of the related warrants. As a result, the Series E preferred stock may be converted and the common stock purchase warrants may be exercised at a price per share that may be less than the then current market price of our common stock, which may cause substantial dilution to our existing common stockholders. In no event, however, shall we be required to issue, upon the conversion of the Series E preferred stock and the exercise of the warrants, in excess of 9,369,113 shares of common stock (subject to adjustment for stock splits, stock dividends and similar adjustments in capitalization) which represents 19.99% of our outstanding common stock as of March 20, 2001. We are required to register the shares of common stock issuable upon conversion and upon exercise of the warrants under the Securities Act of 1933, as amended, for public resale. On April 26, 2001, we filed a Registration Statement of Form S-3 with the Securities and Exchange Commission relating to the resale of these securities. ITEM 3. DEFAULTS UPON SENIOR SECURITIES None ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None ITEM 5. OTHER INFORMATION None ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) EXHIBITS 10.1 First Loan Modification Agreement (Domestic Line), dated March 30, 2001, by and between Open Market and FutureTense, Inc. and Silicon Valley Bank. 10.2 Fifth Loan Modification Agreement (EXIM Line), dated March 30, 2001, by and between Open Market and FutureTense, Inc. and Silicon Valley Bank. (b) REPORTS ON FORM 8-K On March 20, 2001 (the "Closing Date"), a fund managed by The Palladin Group, L.P., Halifax Fund, L.P. ("Halifax") made an equity investment in Open Market by purchasing $5.0 million of Series E 6% cumulative convertible preferred stock and warrants to purchase 31 shares of common stock. The Current Report on Form 8-K reporting this event under Item 5 was filed with the Securities and Exchange Commission on March 27, 2001. On March 23, 2001, Open Market and its wholly owned subsidiary, Folio Corporation, entered into an Asset Purchase Agreement with NextPage, Inc., pursuant to which we sold certain technology and related assets to NextPage for a total purchase price of $6.6 million in cash (which included a $1.1 million license fee payment from NextPage to us for the first quarter of 2001). The Current Report on Form 8-K reporting this event under Items 2 and 7 was filed with the Securities and Exchange Commission on April 9, 2001. 32 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized. OPEN MARKET, INC. (Registrant) Date: August 2, 2001 By: /s/ EDWARD DURKIN ----------------------------------------- Edward Durkin VICE PRESIDENT AND CHIEF FINANCIAL OFFICER (PRINCIPAL FINANCIAL OFFICER) Date: August 2, 2001 By: /s/ ANNMARIE RUSSELL ----------------------------------------- Annmarie Russell VICE PRESIDENT OF FINANCE (PRINCIPAL ACCOUNTING OFFICER)

33 EXHIBIT INDEX 10.1 First Loan Modification Agreement (Domestic Line), dated March 30, 2001, by and between Open Market and FutureTense, Inc. and Silicon Valley Bank. 10.2 Fifth Loan Modification Agreement (EXIM Line), dated March 30, 2001, by and between Open Market and FutureTense, Inc. and Silicon Valley Bank.

OPEN MARKET INC 10-Q/A