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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

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FORM 10-Q

(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

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 0-27794

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SEGUE SOFTWARE, INC.

(Exact name of registrant as specified in its charter)

Delaware(State or other jurisdiction of incorporation or organization)

95-4188982(I.R.S. Employer Identification No.)


201 Spring Street Lexington, MA 02421(Address of principal executive offices)

Registrant's
telephone number, including area code: (781) 402-1000

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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 a 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 / /

The
number of shares of Registrant's Common Stock outstanding as of May 9, 2001 was 9,532,907

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SEGUE SOFTWARE, INC.        FORM 10-Q        FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2001        INDEX

|           |    |                                                                                                        | Page No
|---------- | -- | ------------------------------------------------------------------------------------------------------ | -------
|PART I.    |    | FINANCIAL INFORMATION                                                                                  |        
|Item 1.    |    | Condensed Consolidated Financial Statements:                                                           |        
|           |    | Condensed Consolidated Balance Sheets (unaudited) March 31, 2001 and December 31, 2000                 | 3      
|           |    | Condensed Consolidated Statements of Operations (unaudited) Three months ended March 31, 2001 and 2000 | 4      
|           |    | Condensed Consolidated Statements of Cash Flows (unaudited) Three months ended March 31, 2001 and 2000 | 5      
|           |    | Notes to Condensed Consolidated Financial Statements (unaudited)                                       | 6      
|Item 2.    |    | Management's Discussion and Analysis of Financial Condition and Results of Operations                  | 9      
|Item 3.    |    | Quantitative and Qualitative Disclosures about Market Risk                                             | 16     
|PART II.   |    | OTHER INFORMATION                                                                                      |        
|Item 1.    |    | Legal Proceedings                                                                                      | 17     
|Item 4.    |    | Submission of Matters to a Vote of Security Holders                                                    | 17     
|Item 5.    |    | Other Information                                                                                      | 17     
|Item 6.    |    | Exhibits and Reports on Form 8-K                                                                       | 17     
|Signatures | 18

2

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PART I. FINANCIAL INFORMATION

ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

SEGUE SOFTWARE, INC.        CONDENSED CONSOLIDATED BALANCE SHEETS

|                                                               |                                                                         | March 31,
2001                             |        | December 31,
2000 |       
|-------------------------------------------------------------- | ----------------------------------------------------------------------- | ------------------------------------------ | ------ | ----------------- | ------
|
|ASSETS                                                         |                                                                         |                                            |        |                   |       
|Current assets:                                                |                                                                         |                                            |        |                   |       
|                                                               | Cash and cash equivalents                                               |                                            | $      | 1,252             |       
|                                                               | Short-term investments                                                  |                                            |        | 12,764            |       
|                                                               | Accounts receivable, net of allowances of $967 and $665                 |                                            |        | 8,609             |       
|                                                               | Other current assets                                                    |                                            |        | 1,544             |       
|                                                               |                                                                         |                                            |        |                   |       
|                                                               |                                                                         | Total current assets                       |        |                   | 24,169
|Property and equipment, net                                    |                                                                         |                                            | 5,249  |                   |       
|Goodwill, net                                                  |                                                                         |                                            | 2,635  |                   |       
|Other assets                                                   |                                                                         |                                            | 150    |                   |       
|                                                               |                                                                         |                                            |        |                   |       
|                                                               |                                                                         | Total assets                               |        | $                 | 32,203
|                                                               |                                                                         |                                            |        |                   |       
|LIABILITIES AND STOCKHOLDERS' EQUITY                           |                                                                         |                                            |        |                   |       
|Current liabilities:                                           |                                                                         |                                            |        |                   |       
|                                                               | Accounts payable                                                        |                                            | $      | 1,231             |       
|                                                               | Accrued compensation and benefits                                       |                                            |        | 2,373             |       
|                                                               | Accrued royalties                                                       |                                            |        | 100               |       
|                                                               | Accrued expenses                                                        |                                            |        | 1,520             |       
|                                                               | Deferred revenue                                                        |                                            |        | 10,261            |       
|                                                               |                                                                         |                                            |        |                   |       
|                                                               |                                                                         | Total current liabilities                  |        |                   | 15,485
|Stockholders' equity:                                          |                                                                         |                                            |        |                   |       
|                                                               | Preferred stock, par value $.01 per share;                              |                                            |        |                   |       
|                                                               | 9,000 shares authorized; no shares issued and outstanding               |                                            |        |                  |       
|                                                               | Common stock, par value $.01 per share;                                 |                                            |        |                   |       
|                                                               | 30,000 shares authorized; 9,533 and 9,472 shares issued and outstanding |                                            |        | 95                |       
|                                                               | Additional paid-in capital                                              |                                            |        | 58,051            |       
|                                                               | Cumulative translation adjustment                                       |                                            |        | (581              | )     
|                                                               | Accumulated deficit                                                     |                                            |        | (40,247           | )     
|                                                               |                                                                         |                                            |        |                   |       
|                                                               |                                                                         |                                            | 17,318 |                   |       
|Less treasury stock, at cost, 145 and 145 shares, respectively |                                                                         |                                            | (600   | )                 |       
|                                                               |                                                                         |                                            |        |                   |       
|                                                               |                                                                         | Total stockholders' equity                 |        |                   | 16,718
|                                                               |                                                                         | Total liabilities and stockholders' equity |        | $                 | 32,203
|                                                               |                                                                         |                                            |        |                   |       

The
accompanying notes are an integral part of the consolidated financial statements.

3

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SEGUE SOFTWARE, INC.        CONSOLIDATED STATEMENTS OF OPERATIONS

|                                                      |                            | Three Months Ended March 31, |       
|----------------------------------------------------- | -------------------------- | ---------------------------- | ------
|
|
|Revenue:                                              |                            |                              |       
|                                                      | Software                   |                              | $     
|                                                      | Services                   |                              |       
|                                                      |                            |                              |       
|                                                      |                            | Total revenue                |       
|Cost of revenue:                                      |                            |                              |       
|                                                      | Cost of software           |                              |       
|                                                      | Cost of services           |                              |       
|                                                      |                            |                              |       
|                                                      |                            | Total cost of revenue        |       
|Gross margin                                          |                            |                              | 9,072 
|Operating expenses:                                   |                            |                              |       
|                                                      | Sales and marketing        |                              |       
|                                                      | Research and development   |                              |       
|                                                      | General and administrative |                              |       
|                                                      | Amortization of goodwill   |                              |       
|                                                      |                            |                              |       
|                                                      |                            | Total operating expenses     |       
|                                                      |                            |                              |       
|Loss from operations                                  |                            |                              | (4,676
|Other income, net                                     |                            |                              | 217   
|                                                      |                            |                              |       
|Loss before provision for income taxes                |                            |                              | (4,459
|Provision for income taxes                            |                            |                              | 50    
|                                                      |                            |                              |       
|Net loss                                              |                            | $                            | (4,509
|                                                      |                            |                              |       
|Net loss per sharebasic and diluted                  |                            | $                            | (0.48 
|Weighted average shares outstandingbasic and diluted |                            |                              | 9,353 

The
accompanying notes are an integral part of the consolidated financial statements.

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SEGUE SOFTWARE, INC        CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

|                                               |                                                                                           | Three months ended
March 31,                 |                                                       
|---------------------------------------------- | ----------------------------------------------------------------------------------------- | -------------------------------------------- | ------------------------------------------------------
|
|
|Cash flows from operating activities:          |                                                                                           |                                              |                                                       
|                                               | Net loss                                                                                  |                                              | $                                                     
|                                               | Adjustments to reconcile net loss to net cash provided by (used in) operating activities: |                                              |                                                       
|                                               |                                                                                           | Depreciation and amortization                |                                                       
|                                               |                                                                                           | Changes in operating assets and liabilities: |                                                       
|                                               |                                                                                           |                                              | Accounts receivable                                   
|                                               |                                                                                           |                                              | Other current assets                                  
|                                               |                                                                                           |                                              | Other assets                                          
|                                               |                                                                                           |                                              | Accounts payable                                      
|                                               |                                                                                           |                                              | Accrued expenses, royalties, compensation and benefits
|                                               |                                                                                           |                                              | Deferred revenue                                      
|                                               |                                                                                           |                                              |                                                       
|Net cash used in operating activities          |                                                                                           |                                              | (3,258                                                
|                                               |                                                                                           |                                              |                                                       
|Cash flows from investing activities:          |                                                                                           |                                              |                                                       
|                                               | Additions to property and equipment                                                       |                                              |                                                       
|                                               | Additions to other assets                                                                 |                                              |                                                       
|                                               | Maturities of short-term investments                                                      |                                              |                                                       
|                                               | Purchases of short-term investments                                                       |                                              |                                                       
|                                               |                                                                                           |                                              |                                                       
|Net cash used in investing activities          |                                                                                           |                                              | (5,201                                                
|                                               |                                                                                           |                                              |                                                       
|Cash flows from financing activities:          |                                                                                           |                                              |                                                       
|                                               | Proceeds from exercise of stock options and stock purchase plan                           |                                              |                                                       
|                                               |                                                                                           |                                              |                                                       
|Net cash provided by financing activities      |                                                                                           |                                              | 367                                                   
|                                               |                                                                                           |                                              |                                                       
|Effect of exchange rate changes on cash        |                                                                                           |                                              | (35                                                   
|                                               |                                                                                           |                                              |                                                       
|Net decrease in cash and cash equivalents      |                                                                                           |                                              | (8,127                                                
|Cash and cash equivalents, beginning of period |                                                                                           |                                              | 9,379                                                 
|                                               |                                                                                           |                                              |                                                       
|Cash and cash equivalents, end of period       |                                                                                           | $                                            | 1,252                                                 
|                                               |                                                                                           |                                              |                                                       

The
accompanying notes are an integral part of the consolidated financial statements.

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SEGUE SOFTWARE, INC.        NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS        (UNAUDITED)

1. BASIS OF PRESENTATION

The financial statements included herein have been prepared by Segue, without audit, pursuant to the rules and regulations of the Securities and Exchange
Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted
pursuant to such rules and regulations. We believe that the disclosures are adequate to make the information presented not misleading. However, it is suggested that these financial statements be read
in conjunction with Segue's audited financial statements for the year ended December 31, 2000, included in its 2000 Annual Report on Form 10-K.

This
financial information reflects, in the opinion of management, all adjustments of a normal recurring nature necessary to present fairly the results for the interim periods.
Results of interim periods may not be indicative of results for the full year.

2. NET LOSS PER COMMON SHARE

The following table sets forth the computation of basic and diluted loss per share:

|                                                                     |  | Three months ended
March 31, |       
|-------------------------------------------------------------------- |  | ---------------------------- | ------
|
|
|Net loss                                                             |  | $                            | (4,509
|Weighted average shares used in net loss per sharebasic and diluted |  |                              | 9,353 
|Net loss per common sharebasic and diluted                          |  | $                            | (0.48 

Options
and warrants to purchase 3,426,559 and 2,803,812 shares of common stock, respectively, were excluded from the calculation of diluted earnings per share for the three months
ended March 31, 2001 and 2000, respectively, because their inclusion would be anti-dilutive.

3. PROVISION FOR INCOME TAXES

Segue recorded provisions for foreign and state income taxes of $50,000 and $51,000 for the three months ended March 31, 2001 and 2000, respectively.
There was no tax benefit recorded for losses generated in the U.S. in either period due to the uncertainty of realizing such benefits.

4. COMPREHENSIVE LOSS

Effective January 1, 1998, Segue adopted Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income"
("SFAS 130"). SFAS 130 requires the reporting of comprehensive income in addition to net income from operations. Comprehensive income is a more inclusive reporting methodology that
includes disclosure of certain financial information that historically has not been recognized in the calculation of net income. To date, Segue's comprehensive income items have
consisted exclusively of foreign translation adjustments. For the three months ended March 31, 2001 and 2000, comprehensive loss was $4,699,000 and $2,324,000, respectively.

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5. SEGMENT REPORTING

Segue believes it has the following four reportable operating segments based on differences in products and services. Operating segments are defined as
components of the enterprise about which separate financial information is available that is reviewed regularly by the chief operating decision maker, or decision-making group, in deciding how to
allocate resources and in assessing their performance.

|                                       |                | March 31,
|-------------------------------------- | -------------- | ---------
|
|
|
|Operating Segment:                     |                |          
|eBusiness product licenses             |                | $        
|Client/server testing product licenses |                |          
|                                       |                |          
|                                       | Total software |          
|                                       |                |          
|Training and consulting                |                | $        
|Maintenance                            |                |          
|                                       |                |          
|                                       | Total services |          
|                                       |                |          
|                                       | Total revenue  |          
|                                       |                |          

The
following table presents revenue and long-lived asset information by geographic area as of and for the quarters ended March 31:

|              |  | Total Revenue
March 31, |        | Long Lived Assets
March 31,
|------------- |  | ----------------------- | ------ | ---------------------------
|
|
|              |  |                         |        |                            
|United States |  | $                       | 10,011 |                            
|Foreign       |  |                         | 1,795  |                            
|              |  |                         |        |                            
|              |  | $                       | 11,806 |                            
|              |  |                         |        |                            

6. RECENT ACCOUNTING DEVELOPMENTS

In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging
Activities", which was effective for fiscal years beginning after June 15, 1999. SFAS No. 133 must be adopted prospectively and retroactive application is not permitted. SFAS
No. 133 requires the Company to record all derivatives on the balance sheet at fair value. Changes in derivative fair values will either be recognized in earnings as offsets to the changes in
fair value of related hedged assets, liabilities and firm commitments or for forecasted transactions, deferred and recorded as a component of accumulated other comprehensive income (loss) in
stockholders' equity until the hedged transactions occur and are recognized in earnings. The ineffective portion of a hedging derivative's change in fair value will immediately be recognized in
earnings. In June 1999, the FASB issued SFAS No. 137, "Accounting for Derivative Instruments and

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Hedging ActivitiesDeferral of the Effective Date of FASB Statement No. 133", which delayed the effective date. SFAS No. 133 is now effective for fiscal years beginning after
June 15, 2000. We adopted SFAS No. 133 on January 1, 2001 and the effect of adopting had no material effect on our consolidated financial position or results of operations.

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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

RESULTS OF OPERATIONS

The following table sets forth certain unaudited quarterly results of operations expressed as a percentage of total revenue for the periods indicated:

|                                       |                            | Percentage of Revenue for
Three Months Ended March 31, |     
|-------------------------------------- | -------------------------- | ------------------------------------------------------ | ----
|
|Revenue:                               |                            |                                                        |     
|                                       | Software                   |                                                        | 46.8
|                                       | Services                   |                                                        | 53.2
|                                       |                            |                                                        |     
|                                       |                            | Total revenue                                          |     
|Cost of revenue:                       |                            |                                                        |     
|                                       | Cost of software           |                                                        | 2.0 
|                                       | Cost of services           |                                                        | 21.1
|                                       |                            |                                                        |     
|                                       |                            | Total cost of revenue                                  |     
|Gross margin                           |                            | 76.9                                                   |     
|Operating expenses:                    |                            |                                                        |     
|                                       | Sales and marketing        |                                                        | 70.8
|                                       | Research and development   |                                                        | 21.0
|                                       | General and administrative |                                                        | 21.5
|                                       | Amortization of goodwill   |                                                        | 3.2 
|                                       |                            |                                                        |     
|                                       |                            | Total operating expenses                               |     
|                                       |                            |                                                        |     
|Loss from operations                   |                            | (39.6                                                  | )   
|Other income net                       |                            | 1.8                                                    |     
|                                       |                            |                                                        |     
|Loss before provision for income taxes |                            | (37.8                                                  | )   
|Provision for income taxes             |                            | 0.4                                                    |     
|                                       |                            |                                                        |     
|Net loss                               |                            | (38.2                                                  | )%  
|                                       |                            |                                                        |     

SOFTWARE REVENUE

Software revenue decreased 40% to $5.5 million during the first quarter of 2001 from $9.2 million for the same period of 2000. The main factor
for the first quarter software revenue decrease as compared to the same quarter in 2000 was due to customers concern over the current uncertain business climate who reacted by either canceling or
delaying software purchases. In addition, there were many sales to dot-com companies in the first quarter of 2000 that did not occur in the same period of 2001 because of the economic
deterioration for dot-com companies and our transition into selling to larger enterprise companies. International revenue accounted for 23.0%, or $1.3 million, and 8.1%, or
$700,000, of total software revenue for the three months ended March 31, 2001 and 2000, respectively. The increase was mainly due to the result of our expansion of foreign operations during
2000 and increased marketing penetration in the European market.

SERVICES REVENUE

Service revenue increased 28% to $6.3 million during the first quarter of 2001 from $4.9 million in the same quarter of 2000. As compared to the
three months ended March 31, 2000, training and

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consulting revenue increased 12% for the first quarter of 2001 and recognized maintenance revenue increased 40% for the same quarter of 2001. The increase in recognized maintenance revenue was driven
largely by incremental software licenses sold over the past 12 months that are being amortized over the contract period and the larger installed base of software contracts under maintenance,
which is predominately a 12 month period. In addition, the increased revenue from training and consulting engagements in the first quarter of 2001 as compared to the same period of 2000 also
contributed to the increase in service revenue.

COST OF SOFTWARE

Cost of software decreased 65% to $241,000 during the first quarter of 2001 from $680,000 in the first quarter of 2000. As a percentage of software revenue,
costs of software in the first quarter of 2001 decreased to 4% from 7% in the corresponding prior-year period. The decrease of cost of software, both in amount and as a percentage of
product revenue, was primarily due to the decrease in amortization associated with the completed technology that was acquired in 1997 and which was fully amortized at December 31, 2000.

COST IN SERVICES

Cost of services increased 4% to $2.5 million during the first quarter of 2001 from $2.4 million in the same period of 2000. Costs of services as
a percentage of service revenue decreased to 40% in the first quarter of 2001 from 49% in the corresponding prior year period. Cost of service consists primarily of costs of providing customer
technical support, training and consulting. Service cost as percentage of service revenue may vary based on the profitability of individual consulting engagements and the utilization rate of in house
consultants. Cost of training and consulting in the first quarter of 2001 increased 114% to $1.5 million as compared to $700,000 at the same quarter of 2000. The increase is primarily personnel
related expenses due to the expansion of consulting department during the year of 2000. During the three-month period of 2001, cost of maintenance decreased 45% to $950,000 as compared to
$1.7 million at the same period of 2000. The decrease is mainly due to the shifting of US support group to our global technical support center in Belfast, Northern Ireland where the operating
expenses are generally lower.

SALES AND MARKETING

Sales and marketing expenses increased 6% to $8.4 million during the first quarter of 2001 from $7.9 million in the first quarter of 2000. The
increases are primarily due to increases in personnel-related costs including higher headcount of marketing personnel, and higher costs associated with sales meetings and sales training.

RESEARCH AND DEVELOPMENT

Research and development expenses were $2.5 million for both the first quarters of 2001 and 2000. Research and development expenses remained relatively
flat mainly due to the management effort for continuing cost control.

GENERAL AND ADMINISTRATIVE

General and administrative expenses decreased 6% to $2.5 million during the first quarter of 2001 from $2.7 million for the same period in 2000.
The decreases were primarily attributed to the decreased legal expenses in Q1 2001, in part due to settling ongoing litigation, decreased audit related expenses as compared to Q1 2000, which had costs
associated with the restatement of our prior years Form 10-Qs and Form 10-Ks. However, the decreases were partially offset by the increased bad debt expenses due
to the recent declining economic conditions.

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AMORTIZATION OF GOODWILL

Amortization of goodwill was $376,000 for both the first quarters of 2001 and 2000.

OTHER INCOME, NET

Other income, net decreased 21% to $217,000 during the first quarter of 2001 from $274,000 in the same quarter of 2000. Other income consists of mostly
interest income on cash equivalents and short-term investments. The decrease of interest income was primarily due to the decrease in interest on lower balances of short-term
investments.

PROVISION FOR INCOME TAXES

We recorded a provision for foreign and state income taxes of $50,000 and $51,000 for the first quarter of 2001 and 2000, respectively. There was no tax
benefit recorded for losses generated in the U. S. in any period due to the uncertainty of realizing such benefits.

LIQUIDITY AND CAPITAL RESOURCES

As of March 31, 2001, our principal sources of liquidity included cash, cash equivalents and short-term investments totaling
$14.0 million as compared to $17.2 million as of December 31, 2000.

During
the first three months of 2001, we used $3.3 million for operating activities, resulting from the net loss, adjusted for depreciation of fixed assets and amortization of
goodwill, as well as increases in accrued expenses and deferred revenue offset by decreases in accounts receivable and other assets.

Our
primary investing activities were purchases of short-term investments offset with maturities. We used $5.2 million for the three-month period ended
March 31, 2001.

We
generated funds from financing activities of $367,000 during the first quarter of 2001, related to the issuance of stock under the employee stock purchase plan and exercise of
stock options.

Our
corporate headquarters in Lexington, Massachusetts is currently under a lease, which expires in October 2007. The annual rental rate is approximately $2.3 million.
On July 1, 2000, we entered into an amendment to our sublease agreement to rent an additional 5,800 square feet within the headquarters location. With this additional space, we occupy a total
of 73,300 square feet of office space at the headquarter location. We have the right to terminate the lease on September 30, 2004 for a fee of approximately $2.3 million.

In
December 2000, we settled certain lawsuits, including Black & White litigation, and subject to final court approval, the securities litigation matter that is
referenced in Item 1 of Part II of the Form 10-Q and accrued Segue's portion of the settlement, approximately $750,000. No amounts were paid on these lawsuits settlement in
2000. As of May 2001, we had paid off the accrued settlement.

In
April and May 2001, in reaction to the first quarter revenue shortfalls, we initiated cost saving measures, including a reduction in workforce of approximately 20%.
Estimated severance payment for the personnel reductions was approximately $580,000. The payments will be paid in full during the second quarter of 2001.

Long-term
cash requirements, other than for normal operating expenses, are anticipated for the development of new software products and enhancements of existing products,
the enhanced presentation of our web site, the possible opening of additional international offices, and the possible acquisition of software products or technologies complementary to Segue's
business.

Assuming
there is no significant change in our business, we believe that cash, cash equivalents and short-term investments as well as cash flows from operations will be
sufficient to meet our working capital and debt requirements for at least the next twelve months. In the event Segue requires

11

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additional financing, we believe we would be able to obtain such financing; however, there can be no assurance that we would be successful in doing so, or that we could do so on terms favorable to
Segue.

To
date, inflation has not had a material impact on our financial results.

FACTORS THAT MAY AFFECT FUTURE RESULTS

The Company's prospects are subject to many uncertainties and risks. This Form 10-Q also contains certain forward-looking statements within
the meaning of the Private Securities Reform Act of 1995. The Company's future results may differ materially from its current results and actual results could differ materially from those projected in
the forward-looking statements as a result of certain risk factors, including but not limited to those set forth below, other one-time events and other important factors disclosed
previously and from time to time in Segue's other filings with the SEC.

Our quarterly results may fluctuate.Segue's quarterly revenue and operating results are difficult to predict and may
fluctuate significantly from quarter to quarter. If our quarterly revenue or operating results fall below the expectations of investors or public market analysts, the price of its common stock could
fall substantially. Our quarterly revenue may fluctuate significantly for several reasons, including: the timing and success of introductions of our new products or product enhancements or those of
our competitors; uncertainty created by changes in the market, including in particular the dot-com eBusiness market which may affect the ability of customers to order our products or to
pay for them; difficulty in predicting the size and timing of individual orders; software bugs or other product quality problems; competition and pricing; customer order deferrals in anticipation of
new products or product enhancements; increases in operating expenses; ability to increase sales from enterprise companies; and general economic conditions. A substantial portion of Segue's operating
expenses are related to personnel, facilities and marketing and sales programs. The level of spending for such expenses cannot be adjusted quickly and is based, in significant part, on our
expectations of future revenues. If actual revenue levels are below management's expectations for a certain quarter, results of operations are likely to be adversely affected. Furthermore, Segue has
often recognized a substantial portion of its product revenues in the last month of a quarter, with these revenues frequently concentrated in the last weeks or days of a quarter. As a result, product
revenues in any quarter are substantially dependent on orders booked and shipped in the latter part of that quarter and revenues from any future quarter are not predictable with any significant degree
of accuracy. Segue typically does not experience order backlog. For these reasons, Segue believes that period-to-period comparisons of its results of operations are not
necessarily meaningful and should not be relied upon as indications of future performance.

We may not be profitable in the future.Since Segue began operations, it has generally experienced losses. Losses have
resulted in an accumulated deficit of approximately $40.2 million as of March 31, 2001. Segue had net income of $144,000 in 1996; a net loss of $2.5 million in 1997, which
included a charge of $117,000 for purchased research and development in process and $718,000 for severance charges; a net loss of $5.1 million in 1998, which included a charge of
$1.5 million related to our acquisitions of
Eventus and Black & White, and a charge of $667,000 related to write-offs of an NRE fee and guaranteed royalties; a net loss of $15.9 million in 1999, which included
$2.0 million for restructuring costs, $481,000 for severance of senior executives; a net loss of $8.6 million in 2000, which included $750,000 for various litigation settlement costs,
and a loss of $4.5 million for the three-month ended March 31, 2001. During the first quarter of 2001, we experienced revenue shortfalls. We initiated cost savings measures in an effort
to reduce quarterly expenses and enhance the possibility of breakeven by the end of 2001. These cost saving measures may not be effective, and are not necessarily indicative of future operating
results. Failure to achieve profitability may adversely affect the market price of Segue's common stock.

Segue may not be successful in generating substantial revenue from enterprise sales to larger more established
companies.Historically, we have derived the overwhelming percentage of our product

12

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revenue from the sale of our products to dot-com companies. We reorganized our sales force in 2000 to target larger enterprise transactions with the more established companies. In
April 2001, we eliminated our large telesales group, and we are adopting, throughout the sales organization, an enterprise selling process. In addition, we have hired a new vice president of
sales and a new vice president of product marketing, both of whom have significant experience selling to large enterprises. These larger transactions entail a greater closing risk since these are
often complex and highly competitive, requiring more resources per transaction than with smaller clients. The sales force must also adapt successfully to this type of selling. If Segue is unsuccessful
in closing these larger deals, our financial performance could be adversely affected.

Segue's new strategic alliance and key account programs may not be successful in increasing product revenues.In an
effort to augment the product revenue derived from the efforts of the direct sales force, we organized a strategic alliance and key account group to develop successful business relationships with
companies that have the ability to generate for us significant product revenue from the sale and use of our software products or the ability to deliver services in a hosted service environment.
Traditionally, Segue's revenue from strategic alliances and key account has been uneven and there is no assurance that these current efforts will be successful. The strategic alliance and key account
market is highly competitive, uncertain and takes time to develop. Should Segue fail to generate substantial revenue from its strategic alliance and key account program, the financial results and
stock price could be adversely affected.

Selling products and services through alliances and partnerships may limit our control and interaction with end users of our
products.As a result, our ability to forecast sales accurately, evaluate customer satisfaction and recognize emerging customer requirements may be limited. Our
ability to develop and maintain customer goodwill could also be affected. Finally, we will have to resolve potential conflicts among our sales force and business partners in order to make the partner
program successful.

We may have difficulty managing organizational changes.During the past year Segue has reorganized its sales force,
appointed new leaders in its support services, consulting, and product development areas, created a new strategic alliance group, appointed a new head of international sales, added a General Counsel,
a new vice president of sales and a new vice president of product marketing. The success of these organizational changes is uncertain and further change could disrupt the operations.

We may be subject to risks associated with our past acquisitions and future acquisitions.Our product offerings and
customer base have increased due in part to prior acquisitions. We may do future acquisitions to enhance further our product lines. Our prior acquisitions or any future acquisition may not produce the
revenue, earnings or business synergies that we had anticipated, and an acquired product, service or technology might not perform as expected. Prior to completing an acquisition, however, it is
difficult to determine if such benefits can actually be realized. The process of integrating acquired companies into our existing business may also result in unforeseen difficulties. Acquisitions may
require significant financial resources that we might otherwise allocate to other activities, including the ongoing development or expansion of our existing operations. If Segue pursues a future
acquisition, our management could spend a significant amount of time and effort in identifying and completing the acquisition. To pay for a future acquisition, we might use capital stock or cash.
Alternatively, we might borrow money from a bank or other lender. If we use capital stock as we did with our past acquisitions, our stockholders would experience dilution of their ownership interests.
If we use cash or debt financing, our financial liquidity will be reduced.

Segue faces significant competition from other software companies.The market for web-based software
quality management and testing tools is new and evolving, intensely competitive and subject to rapid technological change. We expect competition to intensify in the future. Segue currently encounters
competition from a number of public and private companies, including Mercury Interactive

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Corporation, Rational Software Corporation and Compuware Corporation. Many 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 and, therefore, may be able to respond more quickly to new or changing opportunities, technologies, standards
or customer requirements or may be able to devote greater resources to the promotion and sale of their products than we can. An increase in competition could result in price reductions and loss of
market share. Such competition and any resulting reduction in profitability could have a material adverse effect on our business, operating results and financial condition.

Segue's business could be adversely affected if its products contain errors.Software products as complex as ours may
contain undetected errors or "bugs" which result in product failures. The occurrence of errors could result in loss of or delay in revenue, loss of market share, failure to achieve market acceptance,
diversion of development resources, significant repair and replacement costs, injury to our reputation, or damage to our efforts to build brand awareness, any of which could have a material adverse
effect on our business, operating results and financial condition.

Our future success will depend on our ability to respond rapidly and effectively to technological and other market
changes.The nature of the web-based automated software testing and eBusiness testing markets in which we compete is characterized by rapidly
changing technology, rapidly evolving customer needs and desires, changes in industry standards and practices and frequent releases of new product or enhancements by competitors. To be competitive,
Segue must develop and introduce product enhancements and new products that address the increasingly sophisticated and varied needs of our existing and potential customers. Failure to develop and
introduce new products and enhancements successfully and on a timely basis, could have a material adverse effect on our business, operating results and financial condition. Over ninety percent (90%)
of Segue's product revenue in 2000 was generated from its SilkPerformer and SilkTest products. We must continue to grow sales of these products, and must also introduce new products and solutions,
thereby reducing the risk of any undue reliance on current products for future revenues. The development of technologies that result in new products or enhancements requires significant expenditures
and utilization of resources. We may not be successful in developing such technologies or may not be able to keep pace with technological developments. If any of our newly developed products or
product enhancements fail to be accepted by our existing and potential customers, our business may be materially adversely affected.

Certain lawsuits have been filed against Segue.On or about April 27, 1999, a putative class action complaint
was filed in the United States District Court for the District of Massachusetts against Segue, its Chief Executive Officer and a former Chief Financial Officer of Segue, captioned Nathan Rice v. Segue Software, Inc.,
et al., Civil No. 99-CV-10891-RGS.
The class action complaint alleged the defendants violated the federal securities laws by making material misrepresentations and omissions in certain public disclosures during the period beginning on
October 13, 1998 through April 9, 1999, inclusive. The public disclosures relate to, among other things, Segue's past and future financial performance and results. On or about
May 3, 1999, another similar putative class action complaint was filed against Segue, its Chief Executive Officer and a former Chief Financial Officer of Segue in the United States District
Court for the District of Massachusetts, captionedAnthony Moumouris v. Segue Software, Inc., et al., Civil
No. 99-CV-10933-RGS. These cases were consolidated under the captionIn Re Segue
Software, Inc. Securities Litigation, Civil No. 99-CV-10891-RGSand the plaintiffs filed a
consolidated amended complaint on September 27, 1999 alleging a putative class period of July 14, 1998 through April 9, 1999, inclusive. After the court granted Segue's motion to
dismiss and pending appeal of this order, Segue and the plaintiffs agreed to settle this matter. The settlement must be approved by the trial court. After the contribution by insurance carrier, the
settlement, if approved by the court, will not have a materially adverse effect on Segue's financial results. If the settlement is not approved by the trial court, there is a risk the plaintiffs will
proceed with their appeal and succeed in obtaining a reversal of the district court's dismissal of this matter, which could expose Segue to a claim

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for damages in an amount which the plaintiffs have not yet specified but which could, if successful, have a material adverse effect on Segue's financial results.

Various
other claims, charges and litigation have been asserted or commenced against Segue arising from or related to contractual or employee relations. Management does not believe
these claims will have a material adverse effect on the financial position or results of operations of Segue.

We must hire and retain skilled personnel in a tight labor market.Qualified personnel are in great demand throughout
the software industry. Our success depends in large part upon our ability to attract, train, motivate and retain highly skilled employees, particularly sales and marketing personnel, software
engineers and other senior personnel. The failure to attract and retain the highly skilled personnel that are integral to our direct sales, product development, service and support teams may limit the
rate at which we can generate sales and develop new products or product enhancements. This could have a material adverse effect on our business, operating results and financial condition.

We face many risks associated with international business activities.We derived approximately 23% of total product
software sales from international customers in the first quarter of 2001. The international market for software products is highly competitive and we expect to face substantial competition in this
market from established and emerging companies. Segue faces many risks associated with international business activities including currency fluctuations, imposition of government controls, export
license requirements, restrictions on the export of critical technology, political and economic instability, tailoring of products to local requirements, trade restrictions, changes in tariffs and
taxes, difficulties in staffing and managing international operations, longer accounts receivable payment cycles and the burdens of complying with a wide variety of foreign laws and regulations. To
the extent we are unable to continue to expand international sales in a timely and cost-effective manner, our business could be materially adversely affected.

Segue could be subject to product liability claims.In selling its products, Segue relies primarily on "shrink wrap"
licenses that contain, among other things, provisions protecting against the unauthorized use, copying and transfer of our software and limiting Segue's exposure to potential product liability claims.
However, these licenses are not signed by the licensees and the provisions of these licenses, including the provisions limiting Segue's exposure to liability claims, may therefore be unenforceable
under the laws of certain jurisdictions. Although we maintain general liability insurance, including coverage for errors and omissions, there can be no assurance that such coverage will continue to be
available on reasonable terms or will be available in amounts sufficient to cover one or more large claims.

Segue's success depends on our ability to protect our software and other proprietary technology.The unauthorized
reproduction or other misappropriation of our proprietary technology could enable third parties to benefit from Segue's technology without paying us for it. This could have a material adverse effect
on our business, operating results and financial condition. Although we have taken steps to protect our proprietary technology, these efforts may be inadequate. We currently rely on a combination of
patent, trademark, copyright and trade secret laws and contractual provisions to protect our proprietary rights in our products. Currently, we have three issued patents and a fourth pending. There can
be no assurance that these patents would be upheld if challenged. Moreover, the laws of other countries in which we market our products may afford little or no effective protection of our intellectual
property. If we resort to legal proceedings to enforce our intellectual property rights, the proceedings could be burdensome and expensive and could involve a high degree of risk. If we were to
discover that any of Segue products violated third party proprietary rights, or protect our trade secrets, there can be no assurance that we would be able to obtain licenses on commercially reasonable
terms to continue licensing our software without substantial reengineering or that any effort to undertake such reengineering would be successful. Any claim of infringement could cause Segue to incur
substantial costs defending against the claim, even if the claim is invalid, and could distract

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management resources from our business. Furthermore, a party making such a claim could secure a judgment that requires us to pay substantial damages or result in an injunction. Any of these events
could have a material adverse effect on our business, operating results and financial condition.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

The following discussion about our market risk disclosures involves forward-looking statements. Actual results could differ materially from those discussed in
the forward-looking statements. We are exposed to market risk related to changes in interest rates and foreign currency exchange rates. We do not use derivative financial instruments for speculative
or trading purposes.

INTEREST
RATE RISK. Segue is exposed to market risk from changes in interest rates primarily through its investing and borrowing activities. In addition, our ability to finance future
acquisition transactions may be impacted if we are unable to obtain appropriate financing at acceptable rates. Our investing strategy to manage interest rate exposure is to invest in
short-term, highly secure and liquid investments. We maintain a portfolio of highly liquid cash equivalents and short-term investments (primarily in high-grade
corporate commercial paper). As of March 31, 2001, the fair value of our short-term investments approximated market value.

FOREIGN
CURRENCY RISK. Segue faces exposure to movements in foreign currency exchange rates. These exposures may change over time as business practices evolve and could have a
material adverse effect on our business, financial condition and results of operations. We do not use derivative financial instruments or other financial instruments to hedge economic exposures or for
trading. Historically, our primary exposures have been related to the operations of our foreign subsidiaries. As of March 31, 2001, the total impact of foreign currency changes was $581,000.
The introduction of the Euro as a common currency for most members of the European monetary union took place in our fiscal year of 1999. As of March 31, 2001, the impact of Euro has not been
significant to our business.

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PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

On
or about April 27, 1999, a putative class action complaint was filed in the United States District Court for the District of Massachusetts against Segue, its Chief Executive
Officer and a former Chief Financial Officer of Segue, captionedNathan Rice v. Segue Software, Inc., et
al., Civil No. 99-CV-10891-RGS. The class action complaint alleged the defendants
violated the federal securities laws by making material misrepresentations and omissions in certain public disclosures during the period beginning on October 13, 1998 through April 9,
1999, inclusive. The public disclosures relate to, among other things, Segue's past and future financial performance and results. On or about May 3, 1999, another similar putative class action
complaint was filed against Segue, its Chief Executive Officer and a former Chief Financial Officer of Segue in the United States District Court for the District of Massachusetts, captioned Anthony Moumouris v. Segue
Software, Inc., et al., Civil
No. 99-CV-10933RGS. These cases were consolidated under the captionIn Re Segue Software, Inc. Securities
Litigation, Civil No. 99-CV-10891-RGS and the plaintiffs filed a
consolidated amended complaint on September 27, 1999 alleging a putative class period of July 14, 1998 through April 9, 1999, inclusive. The complaints sought an unspecified
amount of damages. On November 8, 1999 each of the defendants filed a motion to dismiss the amended complaint for failure to state a cause of action, and on July 26, 2000, the United
States District Court for the District of Massachusetts granted Segue's Motion to Dismiss the putative securities class action litigation brought against the above three defendants. The dismissal was
entered "with prejudice." The plaintiffs appealed the decision to the First Circuit, and, in December 2000 while the appeal was still pending, the parties and Segue's insurers reached an
agreement in principle to settle the matter for an agreed upon settlement amount. Segue's Directors' and Officers' insurance will contribute a substantial portion of such settlement amount, and, upon
such contribution, the settlement will not have a material adverse affect upon Segue's financial position or results of operation. The settlement is subject to court approval.

Various
other claims, charges and litigation have been asserted or commenced against Segue arising from or related to contractual or employee relations. Management does not believe
these claims will have a material adverse effect on the financial position or results of operations of Segue.

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

Not
applicable.

ITEM 5. OTHER INFORMATION

Not
applicable.

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K





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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
thereunto duly authorized.

Date:
May 15, 2001.

| |  | SEGUE SOFTWARE, INC.
| |  | --------------------
| |  | By:                 
| |  | By:                 

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