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SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549




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FORM 10-K

|   |  |                                                                                                         
|-- |  | --------------------------------------------------------------------------------------------------------
|þ  |  | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
        OF THE
        SECURITIES EXCHANGE ACT OF 1934    
|  
|   |  | For the fiscal year ended December 31,
        2001                                                     
|  
|OR
|  
|o  |  | TRANSITION REPORT PURSUANT TO SECTION 13 OR
        15(d) OF THE
        SECURITIES EXCHANGE ACT OF 1934
|  
|   |  | For the transition period
        from           to                                                     

Commission file number 000-29335



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Witness Systems, Inc.

(Exact Name of Registrant as Specified in Its
Charter)


|                                                                                                     |  |                                             
|---------------------------------------------------------------------------------------------------- |  | --------------------------------------------
|Delaware                                                                                             |  | 23-2518693                                  
|(State or Other Jurisdiction of
        Incorporation or Organization)                               |  | (I.R.S. Employer
        Identification No.)
|                                                                                                    
|300 Colonial Center Parkway
        Roswell, Georgia(Address of Principal Executive
        Offices) |  | 30076(Zip Code)                             

Registrants telephone number, including
area code 770-754-1900



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Securities registered pursuant to
Section 12(b) of the Act:

None


Securities registered pursuant to
Section 12(g) of the Act:

|                                       |  |                                          
|-------------------------------------- |  | -----------------------------------------
|Title of each class                    |  | Name of each exchange on which registered
|                                       |  |                                          
|Common Stock, par value $.01 per share |  | NASDAQ                                   

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 þ          No o

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

At March 15, 2002, the registrant had
22,591,803 shares of common stock, par value $.01 per share,
outstanding, and the aggregate market value of the outstanding
shares of voting stock held by non-affiliates of the registrant
on such date was approximately $218 million based on the closing
price of $13.28 per share of such common stock on such date.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrants definitive
proxy statement for its annual meeting of stockholders,
scheduled for May 29, 2002, are incorporated by reference
in Part III of this report.



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TABLE OF CONTENTS



|                                           |                                                                                               |  |  |  |  |  |  | 
|------------------------------------------ | --------------------------------------------------------------------------------------------- |  |  |  |  |  |  | 
|PART I                                    
|                                           | Item 1. Business                                                                             
|                                           | Item 2. Properties                                                                           
|                                           | Item 3. Legal Proceedings                                                                    
|                                           | Item 4. Submission of Matters to a Vote of Security Holders                                  
|PART II                                   
|                                           | Item 5. Market for Our Common Equity and Related Stockholder Matters.                        
|                                           | Item 6. Selected Financial Data                                                              
|                                           | Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operations
|                                           | Item 7A. Qualitative and Quantitative Disclosures About Market Risk                          
|                                           | Item 8. Financial Statements and Supplementary Data                                          
|                                           | Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures
|PART III                                  
|                                           | Item 10. Directors and Executive Officers of Registrant                                      
|                                           | Item 11. Executive Compensation                                                              
|                                           | Item 12. Security Ownership of Certain Beneficial Owners and Management                      
|                                           | Item 13. Certain Relationships and Related Transactions.                                     
|                                           | Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K                     
|SCHEDULE II                               
|SIGNATURES                                
|Promissory Note dated March 15, 2002      
|Form of Pledge Agreement                  
|List of subsidiaries                      
|Independent Auditors' Report              
|Independent Auditors' Consent of KPMG LLP.



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PART I




Item 1.     Business

This annual report on Form 10-K contains
forward-looking statements that are not historical facts but
rather are based on current expectations, estimates and
projections about our business and industry, our beliefs and
assumptions. Words such as anticipates,
expects, intends, plans,
believes, seeks, estimates
and variations of these words and similar expressions are
intended to identify forward-looking statements. These
statements are not guarantees of future performance and are
subject to risks, uncertainties and other factors, some of which
are beyond our control, are difficult to predict and could cause
actual results to differ materially from those expressed or
forecasted in the forward-looking statements. Forward-looking
statements that were true at the time made may ultimately prove
to be incorrect or false. Readers are cautioned not to place
undue reliance on forward-looking statements, which reflect our
managements view only as of the date of this report.
Except as required by law, we undertake no obligation to update
any forward-looking statement, whether as a result of new
information, future events or otherwise.

The following Managements Discussion and
Analysis of Financial Condition and Results of Operations should
be read in conjunction with the Consolidated Financial
Statements and Notes thereto included elsewhere in this report.
Investors should carefully review the information contained in
this report under the caption Factors That May Affect Our
Future Results and Market Price of Our Stock beginning on
page 26.

Overview

We provide customer interaction recording,
performance analysis and electronic learning management software
that enable companies to enhance their customer interactions
across multiple communications media. Our enterprise
collaboration architecture allows contact center management to
share information gathered in the contact center with
departments that touch the customer, as well as executives,
providing them with a proactive management tool for optimizing
their customer relationship management (CRM),
improving communication among departments, fine-tuning workflow,
processes and quality of service from within the contact center
and throughout the enterprise. As a result, we believe our
customers are able to generate additional revenue opportunities,
improve profitability, enhance customer retention, reduce
employee turnover and improve their overall customer service.

Our eQuality® software is designed to enable
customer contact centers within a company to record and evaluate
complete customer interactions through multiple media, such as
telephone, e-mail and the Internet, identify performance gaps
and then apply targeted electronic learning for continuous
performance improvement. The eQuality software records a
customer sales/service representatives (CSRs)
voice interactions with a customer as well as the CSRs
corresponding computer desktop activities, such as data entry,
screen navigation and data retrieval. By capturing both voice
and computer desktop activity and synchronizing them during
replay, a company can observe and analyze complete customer
interactions as they actually occurred. Supporting the need for
Web-based customer interactions driven by the growth of the
Internet and e-commerce, eQuality enables companies to also
capture, evaluate and analyze e-mail, Web and guided browser
sessions. In addition, eQuality allows companies to selectively
record and analyze customer interactions on any of these mediums
based on business criteria which they define, such as key
customers, important marketing campaigns, new product
introductions and selected CSR criteria.

During the fourth quarter of 2001, the company
added a new solution to the eQuality suite  eQuality
Discover. This new software enables companies to capture and
graphically view Web-based customer experiences. By gaining
insight and context as to why a visitor to their Web site
abandoned the site or placed a call to the contact center,
companies can deploy eQuality Discover to help identify clear
steps for improving online customer service.

We currently provide software to an extensive
base of large companies with multiple contact centers, including
American Airlines, AT&T, Bank of America, Capital One,
Compaq, Continental Airlines, EDS,

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Delta Airlines, FedEx, MCI Group, Starwood Hotels
& Resorts, Target, Verizon Wireless, Visa, Wells Fargo and
Xerox. As of December 31, 2001, we had licensed our
software to over 327 customers at over 885 sites.


Industry Background

Developing and maintaining long-term customer
relationships is critical to the success of businesses operating
in a competitive global marketplace. The rapid growth of the
Internet and e-commerce has increased the importance companies
place on their customer relationships. Because the Internet
enables consumers to easily evaluate products and prices from a
wide range of geographically dispersed vendors and quickly
change vendors at relatively low cost, it is becoming more
difficult for businesses to develop long-term relationships with
their customers. As the use of the Internet expands as a
business platform, the need for personal contact is essential to
enabling a higher quality customer experience. The integration
and optimization of customer contacts across all channels of
communication is, therefore, becoming both a strategic and
tactical business requirement.

In response to these trends, companies adopted
CRM initiatives to increase the longevity and profitability of
their customer relationships, and developed software
applications to automate and evaluate key sales, marketing and
customer service processes and improve the effectiveness of
their customer interactions. CRM remains one of the highest
spending priorities near-term, according to AMR Research.

Historically, the focus of CRM applications has
been on improving the companies internal sales, marketing
and customer service processes. Competitive pressures resulting
from the emergence of the Internet and e-commerce have required
companies to shift the focus of their CRM initiatives from
improving their internal operations to meeting the needs of
their customers. Companies are developing a new set of business
principles that place a greater value on improving customer
satisfaction and enhancing employee skills to foster customer
relationships and increase customer intimacy. We believe that
companies, with a better understanding of the characteristics
and preferences of their customers, will be able to more
effectively customize product and service offerings that result
in increased customer retention. In addition, these companies
will be able to better identify opportunities to sell
complementary or higher-end products and to more accurately
forecast customer demand.

To understand and improve customer relationships,
a company must first improve its specific business processes
that involve a high degree of direct customer interaction.
Today, many of a companys direct customer interactions
occur through call centers. These call centers are generally
staffed by telephone operators, often referred to as CSRs, who
process a steady flow of outbound or inbound telephone calls
relating to the companys products and services. Call
centers generally consist of supervisor and agent workstations
linked to a central telephone switch and a common computer
system. Companies have increased their focus on developing and
improving the efficiency of their call center operations.

Historically, call centers have had the ability
to handle only limited telephone and other voice interactions.
These call centers have generally focused on either conducting
outbound calls, for functions such as collections and product
sales, or on managing inbound calls, for purposes such as
product support, order processing or customer service. The
growth of the Internet and the increased focus of businesses on
optimizing relationships with their customers have contributed
to the evolution of traditional single-function, telephone-based
call centers into multi-functional, multi-channel customer
interaction centers, or contact centers. The emergence of
multi-channel customer contact centers has generally increased
the volume and complexity of tasks that CSRs are required to
perform. As a result, traditional single-function CSRs must now
assume more valuable, multi-function customer service
responsibilities. Companies are now attempting to apply the best
practices from the call center industry to the rapid,
electronic, high-volume customer interactions associated with
the Internet.

CSRs are now required to effectively handle
multiple tasks that involve interaction across a growing number
of customer touch points, including telephone, the electronic
exchange of text messages over the Internet, commonly referred
to as Web chat, and e-mail. For example, certain Web-based
consumers may have the option to select a call me
now button which initiates a Web chat or direct telephone
interaction with a CSR. Survey results from the Yankee Group
indicate that companies still consider the deployment of

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web based self-service options a crucial priority
in their future customer care plans. The firm notes that 47% of
contact center managers ranked Web self-service as a top budget
priority in 2002.


A number of applications have emerged to attempt
to address the need to better manage these interactions.
However, we believe that most solutions currently available do
not adequately address the importance of optimizing customer
interactions through recording at the point of contact,
evaluation of the customer contact, analysis of CSR performance,
and applying organizational learning through an integrated
electronic learning management software solution. For example,
current solutions require companies to record every call center
telephone call and store these calls on large-scale proprietary
hardware systems. These solutions do not allow a company to
selectively record, retrieve, evaluate and analyze specific
customer interactions based on criteria selected by the company.
Consequently, companies who employ these existing solutions have
only a limited ability to actively evaluate and improve their
customer interactions, which in turn limits their ability to
attract and retain customers. Further, without an integrated
electronic learning solution, these existing programs cannot
effectively train and develop the CSRs who serve a
companys customers. As a result, we believe that there is
a significant opportunity in the marketplace for a
comprehensive, integrated multimedia solution, which optimizes a
companys customer interactions.

The eQuality Solution

We provide customer interaction recording,
performance analysis and electronic learning management software
that enable companies to optimize their customer relationships
across multiple communications media. As a result, we believe
our customers are able to generate additional revenue
opportunities, improve profitability, reduce employee turnover,
enhance customer retention and improve overall customer
satisfaction. We believe our software and services provide the
following key business benefits:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Increases revenue
	opportunities.The eQuality software
	enables companies to analyze customer interactions,
	incorporating data from their existing databases and systems. As
	a result, companies are able to customize their sales and
	marketing efforts to individual customer preferences or
	tendencies, improve the selling techniques of their CSRs and
	sell additional complementary or higher-end products and
	services to their existing customers. Consequently, we believe
	companies utilizing our software can generate additional revenue
	opportunities.                                                                              
|
| |  | Enables improved
	profitability.Because the eQuality
	solution improves the overall quality of companies
	interactions with their customers, costs associated with
	customer turnover are reduced. By providing CSRs with better
	training, companies can improve the efficiency of CSRs by
	reducing their average talk time, which results in
	decreased total telephone charges and a reduced total number of
	CSRs needed to handle the same volume of customer interactions.                                                                                                                                                                     
|
| |  | Reduces employee
	turnover.Because the eQuality
	software enables the evaluation of individual CSR performance,
	companies can customize incentives to reward CSRs. We believe
	these customized incentives, together with effective feedback
	and training, leads to increased CSR job satisfaction, retention
	of high quality CSRs and reduced costs related to CSR turnover.
	According to Giga Information Group, the contact center average
	turnover rate ranges from 20% to 30% annually, and the costs to
	recruit, interview, and train new CSRs are often as high as
	$10,000 per agent, depending on the level of skills required.           
|
| |  | Enhances customer
	retention.Using the eQuality
	software, companies can develop more intimate knowledge of their
	customers, which should improve the overall quality of products
	and services being delivered to customers. We believe that the
	growth in e-commerce and services will increase the importance
	customers place on high- quality and consistent customer
	service. It is imperative that companies retain these costly new
	customers to capitalize on their investment. As a result, we
	believe that companies who deliver excellent service to their
	customers will develop longer-term, more profitable customer
	relationships.

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We believe that we are able to provide these key
business benefits through the innovative features of our
software solution, which include the following:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Enables synchronized replay of voice and
	computer desktop data.The eQuality
	software records a CSRs voice interaction with a customer,
	as well as the CSRs corresponding computer desktop
	activities, such as data entry, screen navigation and data
	retrieval. By capturing both voice and computer desktop activity
	and synchronizing them during replay, companies can observe and
	analyze complete customer interactions as they actually
	occurred. This enables companies to not only evaluate the
	behavior of their CSRs, but also to determine whether the
	necessary technology resources for customer support are readily
	available to them and whether they are making effective and
	efficient use of available technology resources.                                                                                                                                                                                                                                                                                      
|
| |  | Captures customer interactions across multiple
	communications media.The eQuality
	software captures customer interactions from a variety of
	communications media, including telephone, Web and e-mail. This
	multimedia capability allows companies to deliver consistent,
	high quality customer service regardless of the communication
	channel.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|
| |  | Records based on company-selected
	criteria.Companies using the eQuality
	software can record customer interactions based on selected
	criteria, which we refer to as business-driven recording. This
	enables companies to define specific business criteria to
	trigger recording and analysis of information, such as key
	customers, important marketing campaigns, new product
	introductions and selected CSRs. Further, companies can define
	critical business events to trigger the capture of the
	interaction, such as customer problems that have reached a
	certain severity level. Companies can then use this information
	to quickly evaluate the performance of targeted business
	initiatives and to adjust those initiatives for higher market
	impact.                                                                                                                                                                                                                                                                        
|
| |  | Enables information gathered in the contact
	center to be shared across the
	enterprise.eQualitys enterprise
	collaboration recording architecture enables contact center
	management to share interactions from the contact center with
	departments that touch the customer, as well as executives, by
	notifying them when a business-critical customer event occurs.
	The result is a proactive management tool for optimizing
	customer relationships and improving communications among
	departments, as well as fine-tuning workflow, processes and
	quality of service from within the contact center and throughout
	the enterprise.                                                                                                                                                                                                                                                                                                                                                                                                    
|
| |  | Provides performance analysis and
	feedback.The eQuality Evaluation
	software facilitates the review, evaluation and scoring of CSRs,
	providing an immediate performance summary. Using the eQuality
	Analysis software, a user can combine important data derived
	from eQuality Evaluation with data derived from many other
	business applications, such as CRM and enterprise resource
	planning software and integrated telephony applications. For
	instance, a company can evaluate quality scores obtained from
	eQuality Evaluation with sales achievement data received from a
	sales tracking system to ensure CSRs are not compromising the
	quality of their customer interactions to sell new products. The
	resulting information, which is presented in easy-to-use
	formats, such as reports, graphs and tables, allows companies to
	provide more meaningful feedback to CSRs on their performance
	and better analyze the overall operation of the contact center.                                                            
|
| |  | Enables an integrated, closed-loop environment
	for applying organizational learning.eQuality Now delivers ongoing training tailored to CSR
	competencies, which helps companies build customer loyalty
	though a more highly-skilled and motivated workforce.
	Underscoring the importance of staff development, recent
	research from the Yankee Group indicated that 62% of contact
	center managers ranked agent training as their number one budget
	priority. Companies are turning to electronic learning in
	response to the urgency of delivering and reinforcing training
	to improve CSRs skills, as well as to provide a means to
	support their career paths. Studies conducted by Corporate
	University Xchange indicate that 40% of corporate training will
	take place electronically by 2003. Our eQuality Now product
	addresses this market trend by focusing on electronic learning
	opportunities in the contact center, such as new product and
	service introductions; up-selling and cross-selling techniques;
	and tips

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| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   | for managing customer communications through
	newer communications channels, such as e-mail and collaborative
	Web chat.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|
| |  | Integrates with third-party software and
	hardware.The eQuality software is
	designed to integrate with a variety of third-party software,
	such as CRM applications, from providers such as Amdocs (which
	bought Clarify), Avaya, Cisco, Concerto, eGain, Genesys (a
	division of Alcatel), Kana, Nortel, Peoplesoft, Peregrine,
	Siebel Systems and Synchrony. In addition, the eQuality software
	is designed to integrate or be compatible with a companys
	existing telephony and computer network hardware and software
	such as telephone switches, automated telephone dialers and
	computer-telephony integration systems. This allows companies to
	capitalize on their existing infrastructure and gain the
	benefits of our software with minimal additional investment.                                                                                                                                                                                                                                                                                                                                       
|
| |  | Provides an open architecture that scales to
	support small to large installations.The eQuality software operates on the Windows NT platform and is
	compatible with standard voice cards and databases. Also, the
	software can capture and record computer screen activity from
	CSR workstations that are running any of a variety of operating
	systems. By utilizing off-the-shelf hardware and software, our
	customers are able to implement and support our products at a
	relatively low cost. Because the software is scalable, it can
	support the needs of a small single site as well as large
	multi-site installations. For example, the eQuality software is
	currently being used at a customer installation with
	approximately 7,000 CSRs. In addition, it can be expanded to
	accommodate an increasing number of CSRs. The eQuality
	softwares high volume recording architecture interfaces on
	either the network or agent side of the PBX/ACD switch and
	enables companies to record zero to 100% of any type of contact
	that comes into their center based on business rules
	that they define.
|
| |  | Enables rapid
	deployment.Because of the
	softwares features, extensive third-party integration,
	open architecture and implementation process, we can typically
	implement our software at a customers initial site within
	30 to 60 days from the date the software agreement is
	signed by a new customer. We ordinarily complete the actual
	software installation within three to five days. Since the
	detailed project planning occurs during installation at the
	first site, we can typically implement our software at
	additional sites in five to seven days. Most of our target
	market consists of large corporations with many customer contact
	centers, and we have significant experience with customers
	purchasing our software for multiple sites. As a result, rapid
	deployment is important in that it allows those customers to
	quickly implement and begin realizing the benefits of the
	eQuality software.                                                                                                                                                                                    

Strategy

Our objective is to be a leading provider of
software that enables companies to optimize their customer
interactions across multiple communications media, including
telephone, Web, and e-mail. Key elements of our strategy include
the following:



| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Extend the breadth and depth of product
	offerings.We intend to continue to
	invest in research and development to enhance our current
	software and build new software to address the growing needs of
	companies that seek to better manage their customer
	relationships across multiple communications media. We also
	intend to extend our Web-based capabilities, such as the
	recording and analyzing of integrated e-commerce, e-mail and
	voice interactions. Additionally, we plan to expand the number
	of third-party applications with which our software can
	integrate.                                                                                                                                                                                                                                     
|
| |  | Increase sales to new and existing
	customers.A majority of our existing
	customers are large companies that have multiple contact
	centers. While we have been successful in penetrating these
	customers and installing our software at more than one contact
	center, we have not yet installed our software at a majority of
	their contact centers. We intend to capitalize on the success of
	our initial installations, by using our direct sales force and
	emphasizing the scalability and rapid deployment of our software
	to increase the number of installations at existing customer
	sites, which have not yet installed our software. We also plan
	to continue pursuing new customer accounts with multiple contact
	centers through our existing sales force and our network of
	strategic relationships.

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| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Expand international
	presence.We currently maintain direct
	sales forces in Australia, Brazil, Canada, Germany, Japan,
	Mexico, the Netherlands, Singapore and the United Kingdom. We
	plan to expand our direct and indirect sales channels in these
	regions, with particular attention to areas that are actively
	adopting CRM solutions.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|
| |  | Expand the network of application software and
	Internet infrastructure business alliances.We intend to expand our network of
	business alliances with complementary application software and
	Internet infrastructure providers to increase the number of
	products with which our software is compatible. We believe the
	demand for our software will increase as it becomes compatible
	with an increasing number of CRM, enterprise resource planning
	and Internet infrastructure applications. In addition, expanding
	this network of business alliances will enable us to generate
	new sales leads as our business alliances recommend our products
	to their customers. Currently, we have business alliances with
	the following application and Internet infrastructure providers:
	Amdocs (which bought Clarify), Avaya, Cisco, Concerto, eGain,
	Genesys (a division of Alcatel), Kana, Nortel, Peoplesoft,
	Peregrine, Siebel Systems and Synchrony.

Products

The eQuality software initiates recording of
customer interactions based on criteria selected by companies
and facilitates retrieval and analysis of the recorded
information, as well as targeted electronic learning events
based on skill gaps identified using the evaluation software.
With eQualitys enterprise collaboration recording
architecture, organizations can create advanced business rules
for random, selective or 100% recording of the specific types of
telephone, e-mail and Web customer interactions that drive their
businesses. Additionally, contact center management is able to
share these interactions with departments that touch the
customer, as well as executives, by notifying them when a
business-critical customer event occurs. The result is a
proactive management tool for optimizing customer relationships
and improving communications among departments, as well as
fine-tuning workflow, processes and quality of service from
within the contact center and throughout the enterprise.

The foundation of the eQuality software records a
CSRs voice interaction with a customer as well as the
CSRs corresponding computer desktop activities, such as
data entry, screen navigation and data retrieval. The voice and
data are captured and stored on a computer disk for synchronized
evaluation and analysis. By capturing both voice and desktop
activity and synchronizing them during replay, a company can
observe and analyze complete customer interactions as they
actually occurred. The captured interactions can then be
selectively retrieved, combined with information from a
companys other business systems, such as CRM and
enterprise resource planning software, analyzed and presented in
a number of summary or detailed formats. The eQuality software
thus enables companies to evaluate the effectiveness of its
CSRs, improve contact center performance and profile their
customers characteristics and preferences to create
customized product and service offerings. By recording customer
interactions, evaluating CSR performance, and then using
eQuality Now to prioritize training, companies have an
integrated, closed-loop solution for applying organizational
learning. The result is an effective environment for continuous
performance improvement that helps companies ensure their
customers receive consistent service across all touch-points.

An integral feature of eQuality is
business-driven recording, which allows a company to record
specific customer interactions based on criteria that it
selects. Using eQuality, a company can define business rules
that trigger recording of selective customer interactions that
are particularly critical to its operating performance. For
example, a company may use eQuality to record customer
interactions based on a number of criteria, including:



| |   |                                                                                                                                                                                                                                                                                                      
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Key customers.The
	eQuality software can selectively record all calls from specific
	classes or groups of customers having common traits or
	characteristics. Examples include customers with certain sales
	or asset levels or customers having a particular importance to
	the company.            
|
| |  | Important marketing
	campaigns.All calls associated with
	particular marketing campaigns can be recorded so that the
	effectiveness of the campaign can be evaluated while the
	initiative is in process. Consequently, adjustments can be made
	proactively to optimize performance of the campaign.

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| |   |                                                                                                                                                                                                                                                                                                                             
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Target products.Interactions that relate to targeted products can be identified
	and recorded to allow businesses to evaluate product design,
	installation and service issues. Examples include selected calls
	related to new product introductions, key revenue-producing
	products and particularly profitable products.
|
| |  | Selected CSR
	considerations.Calls that are handled
	by specific CSRs can be sampled so that supervisors can more
	effectively monitor and train CSRs. Examples include newly hired
	CSRs, CSRs that are not achieving desired performance levels,
	and CSRs working with a new medium, such as e-mail or Web chat.         

By recording only critical customer interactions
based on business rules, companies have fewer interactions to
store and therefore significantly lower storage requirements.
Further, the softwares data capture technique allows
companies to utilize minimal network bandwidth by sending across
the network only the changed areas of a CSRs computer
desktop screen. The result is a lower total cost of ownership.

In addition, the eQuality software is designed to
integrate or be compatible with a companys existing
telephony and computer network hardware and software. The
software is designed to run on a server that employs the Windows
NT operating system. In addition, it can capture and record
computer screen activity from CSR workstations that are running
any of a variety of operating systems, including Windows 3.1,
Windows 95/98, Windows NT, OS/2, Sun Solaris, HP(UX)3270 and
AS/400, and thin client operating systems, such as Citrix
application server software.

The eQuality suite of products is comprised of
the following modules:

eQuality
Balance. eQuality Balance
records a CSRs voice interaction with a customer and the
CSRs corresponding computer desktop activities, such as
data entry, screen navigation and data retrieval. The captured
voice and desktop activity can then be synchronized during
replay, allowing companies to observe and analyze complete
customer interactions as they actually occurred. This enables
companies to evaluate the performance of CSRs, determine whether
the necessary technology resources for customer support are
available to the CSRs and ascertain whether the CSRs are making
effective and efficient use of these resources. Supervisors can
use this information to train CSRs, improve company systems and
resources designed to support CSRs and enhance the quality of
the services being delivered to customers.

eQuality
Interactive and eQuality
Response. The eQuality Interactive and eQuality
Response applications allow a company to record Internet
interactions, including Web chat, instant messaging, guided
browser sessions and e-mail, based on user-defined business
rules. These applications enable companies to gauge the
effectiveness of their CSRs Internet skills, refine newly
implemented Internet processes and optimize the effectiveness of
their Web technology deployments. In combination with eQuality
Balance, companies are able to deliver consistently high
standards of service regardless of the medium.

eQuality
Evaluation. The eQuality
Evaluation application facilitates the review, evaluation and
scoring of CSRs, providing an immediate summary of a CSRs
performance. Using eQuality Evaluation, CSR supervisors can
build custom evaluation forms that are designed to collect
information about aspects of a CSRs performance that are
most important to them. Supervisors and others can input
information regarding a CSRs performance into the form,
which is then collected in a database. The collected information
can be retrieved, presented in a summary format, analyzed and
ultimately used to measure and improve a CSRs performance.
eQuality Evaluation can reveal problem areas, issues, trends and
opportunities. Supervisors and others with access to eQuality
Evaluation can review CSRs performance and determine
opportunities to increase their skill levels through training.
Supervisors can compare CSRs performance to current goals
and provide more realistic future goals.

eQuality
Analysis. The eQuality Analysis
application provides a more comprehensive analysis of customer
interaction and CSR performance by bridging the disparate
information systems of a company. Using eQuality Analysis, a
company can combine data derived from eQuality Evaluation with
data derived from information obtained from a companys
other business systems, such as CRM and enterprise resource
planning software and integrated telephony applications.
Combining multiple sources of data from within the company into
a common analysis and reporting system allows for a more
thorough evaluation of CSR and

7



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overall contact center performance. Recognizing
the importance of multi-channel contact centers, we have
designed eQuality Analysis to integrate with business systems
that collect data from a broad range of communications media.


eQuality Now.
The eQuality Now application delivers ongoing training tailored
to CSR competencies, which helps companies build customer
loyalty through a more highly skilled and motivated workforce.
The electronic learning management software integrates with
leading on-line learning products focused on CSR soft and hard
skills. By recording customer interactions, evaluating CSR
performance, and then using eQuality Now to prioritize training,
contact centers have an integrated, closed-loop solution for
applying organizational learning. The result is an effective
environment for continuous performance improvement that helps
companies ensure their customers receive consistent service
across all touch points.

eQuality
Connect. The eQuality Connect
application serves as the foundation to integrate eQuality with
Web-enabled contact center and eCRM applications, including
e-mail response management, collaborative Web chat and customer
information systems. As the underlying integration component of
the eQuality suite, eQuality Connect is an open, scalable
software solution that leverages strategic events and data
gathered from external solutions to initiate recordings.
Companies can implement eQuality Connect as the integration
layer within their eQuality multimedia recording and analysis
software, or as a standalone solution that integrates eQuality
with other applications, such as internally developed customer
information systems.

eQuality
Discover. The eQuality Discover
application enables companies to record and graphically view
actual customer experiences on their Web sites so they can
identify clear steps for improving online customer service. With
these captured samples, companies will have the insight they
need to determine how consumers interact with their Web sites,
which in turn helps them increase the profitability of on-line
relationships while at the same time reducing customer service
costs. Using eQuality Discover, companies can determine why a
visitor placed a call to the contact center or abandoned their
Web site. When brought together with recorded customer contacts
from other tough points, captured self-service interactions can
help companies achieve a single view of customers and the way
they are serviced across many channels.

Historically and at present, eQuality Balance was
and is licensed together with the eQuality Evaluation software.
Through December 31, 2001, we derived most of our license
revenue from the sale of these two products. During 2001,
approximately 15% of our orders included more than one module of
the eQuality application suite, including eQuality Now,
Analysis, Response, Interactive, and Connect.

Professional Services

Our professional services group plays an integral
role in installing our software and training and supporting our
customers. Specifically, we provide the expertise, professional
consulting staff and technology tools to install our software
and provide ongoing support to our customers. Our experienced
installation professionals work with the customer to build a
solid technical infrastructure that supports the softwares
applications.

Prior to implementation we offer end-user
training both on-site at the customers location, and at a
centralized training facility at our corporate headquarters.
Training includes coach training and system administration.
These engagements are usually completed in four to five days.

An initial implementation engagement is typically
completed within 30 to 60 days from the date the software
agreement is signed by a new customer, and involves the
planning, configuration, testing and installation of our
software. Generally, the actual software installation takes
three to five days. We believe these installation projects allow
our consultants and systems engineers to gain industry-specific
knowledge that can be used in future projects and products. The
professional services team also works closely with the internal
research and development organization to help enhance software
solutions. Experience gained by the professional services group
through ongoing software installation is regularly conveyed to
the development staff. Our research and development organization
then capitalizes on this experience to design enhancements to
the software. The services staff also maintains a technical
support hotline.

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In addition to installation and training
services, we began offering customers business consulting
services during the second half of 2001 to help our customers
identify and link key business drivers with CSR skills and
behaviors, providing a blueprint for implementing a successful
performance management strategy. These workshops are typically
completed in four to five business days.

Customers

Our customers include large and small companies
with a varying number of contact center sites. Our customers
come from the banking and finance, general business, insurance,
outsourcing, technology, travel and hospitality and utility
industries. As of December 31, 2001, we had licensed our
software to over 327 customers at over 885 sites. To date,
customer installations have ranged from as small as one contact
center having 25 CSRs, to customers with 32 contact centers
having an aggregate of approximately 16,000 CSRs. No customer
accounted for 10% or more of our revenue in 2001, 2000 and 1999.

Sales and Marketing

We sell our software primarily through a
combination of a direct sales force and resellers. As of
December 31, 2001, we had 17 sales offices in the United
States and offices in Australia, Canada, Japan, Mexico, and the
United Kingdom. Our sales and marketing organization consisted
of 116 employees worldwide.

To date, substantially all of our revenue has
been generated through our direct sales force, which consisted
of 88 sales people in 23 locations as of December 31, 2001.
The direct sales force consists of account executives, solutions
consultants, and regional sales directors. In addition to
qualified leads generated internally, the direct sales force
also pursues qualified leads provided by companies with whom we
have formal or informal referral agreements. These agreements
are not exclusive and may be terminated by either party.

We develop strategic marketing alliances with
leading companies in our industry to expand the coverage and
support of our direct sales force. These relationships may
include joint marketing campaigns and selling strategies.
Separate from the direct sales force, our business development
personnel are responsible for the initiation, negotiation and
completion of these partnerships. We currently have such
relationships with Siebel Systems, Clarify, Cisco, Genesys,
eShare, Kana, eGain, Accenture, Quintus, Peoplesoft,
Servicesoft, Remedy, Pivotol and Synchrony.

In addition to the direct sales force, we have
agreements with a variety of CRM and contact center companies
under which they can resell our software. To support this
indirect sales channel, our business development personnel
provide information and training to these companies sales
personnel so that they are better able to educate potential
customers about the benefits of our software and services. Our
agreements with the resellers are not exclusive and may be
terminated by either party.

Our direct sales cycle typically begins with the
qualification of a sales lead or the request for a proposal from
a prospective customer. The sales lead, or request for a
proposal, is followed by the qualification of the lead or
prospect, an assessment of the customers requirements, a
formal proposal, presentations and product demonstrations, site
visits to an existing customer using the software and contract
negotiation. The sales cycle can vary substantially from
customer to customer but typically lasts three to six months,
and is considered completed with the signing of the contract.
Historically, most of our customers have expanded their use of
the softwares solutions to expand the number of CSRs at
existing sites and to license additional contact centers, with a
minimal incremental sales effort on our behalf.

We use a variety of marketing programs to build
brand name awareness, as well as to attract potential customers.
These programs include market research, product and strategy
updates with industry analysts, public relations activities,
direct mail and relationship marketing programs, seminars, trade
shows, speaking engagements and Web site marketing. To support
sales efforts, the marketing organization also produces
marketing materials that include brochures, data sheets and
other technical descriptions, presentations and demonstrations.

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The market for business software has experienced
seasonal fluctuations in demand. The first and third quarters of
the year have been typically characterized by slightly longer
sales cycles related to holiday and vacation schedules.

Research and Development

We believe our software development capabilities
are essential to our strategy of enhancing our core technology,
developing additional applications, incorporating that
technology and maintaining the competitiveness of our software.
We devote a substantial portion of our resources to developing
new software and features, extending and improving our software
technology and researching new technological initiatives in our
market. We believe that our future success depends in part upon
our ability to continue to enhance existing software, respond to
changing customer requirements and develop and introduce new or
enhanced software that incorporates new technological
developments and emerging industry standards.

Research and development expenditures for the
years ended December 31, 2001, 2000, and 1999 were $13.6
million, $10.4 million, and $5.8 million, respectively. We
intend to continue to increase our investment in research and
development in the future. As of December 31, 2001, we had
85 employees engaged in research and development activities.

Competition

Our software and services compete in the emerging
market for products that record and analyze customer
interactions and provide electronic learning applications. This
market is intensely competitive and experiences rapid changes in
technology. We believe that we compete effectively and that we
enjoy a competitive advantage based upon (1) the
functionality and quality of our products, (2) the ease of
use and ability of our products to operate with a variety of
hardware and software products, (3) our ability as a single
vendor to offer a full suite of applications, (4) our
ability to implement our products quickly, (5) the
responsiveness of our customer support, and (6) our
competitive pricing. However, many current and potential
competitors may have longer operating histories, more
established business relationships, larger customer bases, a
broader range of products and services, greater name recognition
and substantially greater financial, technical, marketing,
personnel, management, service, support and other resources than
us. This could allow our current and potential competitors to
respond more quickly than we can to new or emerging technologies
and changes in customer requirements, take better advantage of
acquisitions and other opportunities, devote greater resources
to the marketing and sale of their products and services, and
adopt more aggressive pricing policies. In addition, many
competitors market their products through resellers and
companies that integrate their technology and products with
those of the competitor. These resellers and technology partners
of competitors often have strong business relationships with our
customers and potential customers. Our competitors may use these
business relationships to market and sell their products and
compete for customers with us. We cannot assure that our
competitors will not offer or develop products and services that
are superior to ours, or that achieve a greater market
acceptance. Our competitors include:



| |   |                                                                                                                                                                                                                                                                                
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | quality monitoring suppliers to the call and
	contact center industry, which historically have been companies
	that develop voice-only recording software;                                                                                                                     
|
| |  | traditional call logging vendors that have
	historically focused on providing products that record all phone
	conversations made by or to the user, including emergency
	services, such as 911, and verification and liability users,
	such as trading floors and stockbrokers;
|
| |  | electronic learning vendors that have
	historically provided a point solution that delivers training to
	customer service representatives;                                                                                                                                     
|
| |  | reporting vendors that have historically provided
	a point solution focused on providing contact center performance
	reports to management;                                                                                                                                    
|
| |  | systems integrators and consulting firms which
	design and develop custom systems and perform custom
	integration; and                                                                                                                                                         

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| |   |                                                                                                                                                                                                                                                                                                  
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | new, larger and more established entities that
	may acquire, invest in or form joint ventures with providers of
	recording or performance enhancing software solutions, such as
	vendors of CRM products, computer telephony companies and
	computer hardware, software and networking companies.

In addition, we have developed, and intend to
continue to develop, relationships with companies that resell
our software, companies that integrate the software with their
technology and products and companies that provide us with
customer referrals or leads. Some of these companies have
similar, and often more established, relationships with our
competitors, and may recommend the products and services of
competitors to customers instead of our software and services.
In addition, through their relationships with us, these
companies could learn about our software and the market for our
software and services and could develop and sell competing
products and services.

The principal competitive factors in our market
include:



| |   |                                                                             
| | - | ----------------------------------------------------------------------------
| |  | product performance, reliability and features;                              
|
| |  | user scalability and open architecture;                                     
|
| |  | third-party integration;                                                    
|
| |  | quality and speed of product implementation;                                
|
| |  | ease-of-use for customers;                                                  
|
| |  | analytic capabilities of the product;                                       
|
| |  | how quickly new products and product enhancements
	can be brought to market;
|
| |  | customer support; and                                                       
|
| |  | pricing of products and services.                                           

Our success will depend on our ability to compete
effectively based on these factors. Further, we expect that
competition will increase as other established and emerging
companies enter our market and as new products, services and
technologies are introduced. Increased competition may result in
price reductions, lower gross margins and loss of market share.
This could materially and adversely affect our business,
financial condition and results of operations.

Proprietary Rights

General.Our success
depends to a significant degree on the legal protection of our
software and other proprietary technology rights. We rely on a
combination of patent, trade secret, copyright and trademark
laws and confidentiality and non-disclosure agreements with
employees and third parties to establish and protect our
proprietary rights. These measures may not be sufficient to
protect proprietary rights, and we cannot be certain that third
parties will not misappropriate our technology and use it for
their own benefit. Also, most of these protections do not
preclude our competitors from independently developing products
with functionality or features substantially equivalent or
superior to our software. Any failure to protect our
intellectual property could have a material adverse effect on
our business.

Licenses.Our
licenses are designed to prohibit unauthorized use, copying and
disclosure of our software technology. When we license our
software to customers, we require license agreements containing
confidentiality terms customary in the industry in order to
protect our proprietary rights in the software. These agreements
generally warrant that the software will materially comply with
written documentation. We assert that we own the software we
distribute and have not violated the intellectual property
rights of others. We license our products in a format that does
not permit the users to change the software code. In addition,
because we treat the source code for our products as a trade
secret, all employees and third parties who require access to
the source code are first required to sign non-disclosure
agreements.

Patents.We have
received a patent generally relating to our technology that
enables the recording of a CSRs computer desktop
activities and the synchronization of certain of these
activities with the CSRs voice interactions. The patent
also relates to the data capture technique that records only
particular changed regions

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of a CSRs computer screen. The patent was
granted on August 4, 1998 and will expire on May 30,
2016. We also have six patent applications pending with the U.
S. Patent and Trademark Office. There is no guarantee that the
pending applications will result in issued patents or, if
issued, will provide us with any competitive advantages.


Trademarks and service
marks.We have U.S. trademark
registrations on the mark WITNESS, on our logo, on the mark
Bringing eQuality to eBusiness, one additional mark and a
pending U.S. trademark application for the mark eQuality. We
also claim common law protections for other marks we use in our
business. Competitors of ours and others could adopt similar
marks, or try to prevent us from using our marks, consequently
impeding our ability to build brand identity and possibly
leading to customer confusion.

We are aware of certain uses, U.S. trademark
registrations, and U.S. trademark applications for the trademark
equality and its variations that predate our use of,
and U.S. trademark application for, our trademarks eQuality and
Bringing eQuality to eBusiness. It is possible that the U.S.
Patent and Trademark Office will deny the U.S. trademark
applications. In addition, it is possible that the owner of
legal rights resulting from one or more of these prior uses,
U.S. trademark registrations, or U.S. trademark applications
will bring legal action to prevent us from registering and/or
using the trademarks eQuality and Bringing eQuality to
eBusiness, and may also seek compensation for damages resulting
from our use of these trademarks. As a result, we cannot assure
that our efforts to use and register these trademarks will
ultimately be successful, or that this use will not result in
liability for trademark infringement, trademark dilution, and/or
unfair competition.

Based on the limited information available to us
regarding these prior uses, U.S. trademark registrations, and
U.S. trademark applications for the trademark eQuality and its
variations, we believe that our trademarks eQuality and Bringing
eQuality to eBusiness are available for use and U.S. trademark
registration in connection with the services stated in our
registration applications, or as the descriptions of those
services may be amended during the course of examination in the
U.S. Patent and Trademark Office.

Copyrights.We have
six copyright registrations covering our eQuality software.

Employees

As of December 31, 2001, we had 327
full-time employees. Of these employees, 85 were engaged in
research and development, 116 were engaged in sales and
marketing, 71 were engaged in professional services and 55 were
engaged in executive, finance, administration and operations.

None of our employees are represented by a labor
union or covered by a collective bargaining agreement. We have
not experienced any labor-related work stoppages and consider
our relations with our employees to be good.






Item 2.     Properties


Our principal administrative, marketing, product
development and support facilities are located in Roswell,
Georgia, a suburb of Atlanta, which we moved to in December 2000
and we lease approximately 96,400 square feet that expires in
2007. In addition, we lease a total of 17 sales and marketing
offices in the United States, and offices in Australia, Brazil,
Canada, Germany, Japan, Mexico, the Netherlands and the United
Kingdom. We believe our facilities are adequate for our current
and expected near-term requirements.






Item 3.     Legal
Proceedings


From time to time we may be involved in legal
proceedings and/or litigation arising in the ordinary course of
our business. As of the date hereof, we are not party to any
litigation or other legal proceedings that we believe could have
a material adverse effect on our business, operating results or
financial condition.




Item 4.     Submission
of Matters to a Vote of Security Holders

No matters were submitted to a vote of security
holders during the fourth quarter ended December 31, 2001.

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PART II




Item 5.     Market
for Our Common Equity and Related Stockholder
Matters.

Common Stock

Our common stock trades on the Nasdaq Stock
Market under the symbol WITS. Public trading of the
common stock commenced on February 10, 2000. Prior to that,
there was no public market for the common stock. The following
table sets forth, for the periods indicated, the high and low
sale price per share of the common stock on the Nasdaq Stock
Market in each of the last eight quarters.

|                              |                                        |      |   |       |  |  |   |       | 
|----------------------------- | -------------------------------------- | ---- | - | ----- |  |  | - | ----- | 
|                              |                                        | High |   | Low  
|                              |                                        |      |   |      
|Year Ended December 31, 2001: |                                        |      |   |       |  |  |   |      
|                              | Fourth quarter                         |      | $ | 13.90 |  |  | $ | 7.03  | 
|                              | Third quarter                          |      | $ | 11.32 |  |  | $ | 6.51  | 
|                              | Second quarter                         |      | $ | 14.95 |  |  | $ | 7.35  | 
|                              | First quarter                          |      | $ | 17.00 |  |  | $ | 5.63  | 
|Year Ended December 31, 2000: |                                        |      |   |       |  |  |   |      
|                              | Fourth quarter                         |      | $ | 19.94 |  |  | $ | 7.00  | 
|                              | Third quarter                          |      | $ | 27.00 |  |  | $ | 12.06 | 
|                              | Second quarter                         |      | $ | 31.00 |  |  | $ | 4.75  | 
|                              | First quarter (from February 10, 2000) |      | $ | 44.94 |  |  | $ | 29.50 | 

The closing sale price of our common stock as
reported by the Nasdaq Stock Market on March 15, 2002 was
$13.28.

Dividend Policy.We
have not paid any cash dividends on our common stock to date.
Our Board of Directors determines whether or not we will pay
dividends. The Board of Directors considers a number of factors
in deciding whether or not to pay dividends, including our
earnings, our capital requirements and our financial condition.
Today, the Board of Directors intends to retain all earnings, if
any, for use in our business operations and, accordingly, does
not expect to declare or pay any dividends in the foreseeable
future.

Rule 10b5-1  Trading
Plans.In November 2001, our Board of
Directors approved an amendment to our insider trading policy to
permit our officers, directors and other insiders to enter into
trading plans or arrangements to sell shares of our common stock
complying with Rule 10b5-1 of the Securities Exchange Act
of 1934, as amended. In December 2001, subject to the adoption
of the amendment to our trading guidelines, certain officers
adopted trading plans under Rule 10b5-1. The
trading plans provide for sales, subject to price restrictions,
daily limits and other contingencies, of shares of our common
stock. It is possible that other officers, directors and
insiders may establish trading plans or arrangements complying
with Rule 10b5-1.

Holders.As of
March 15, 2002, we had approximately 306 holders of record
of our common stock. We believe that we have more than 2,800
beneficial owners.

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Item 6.     Selected
Financial Data

The following selected consolidated financial
data should be read in conjunction with the Consolidated
Financial Statements and Notes thereto and with
Managements Discussion and Analysis of Financial
Condition and Results of Operations included elsewhere in
this report.

|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |       |        |  
|--------------------------------------------------------------------------------------- | ------------------------------------------------ | -------------------------------------------------------------- | ------ | ------ | ------ | ---- | ------ | ------ | ------ | ---- | ------ | ------ | ------ | - | ----- | ----- | ------ | - | ----- | ----- | ------ | -
|                                                                                        |                                                  |                                                               
|                                                                                        |                                                  | Year Ended December 31,                                       
|                                                                                        |                                                  |                                                               
|                                                                                        |                                                  | 2001                                                           |        | 2000   |        | 1999 |        | 1998   |        | 1997
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |     
|                                                                                        |                                                  |                                                               
|                                                                                        |                                                  | (In thousands, except per share data)                         
|Statement of Operations Data:                                                           |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|Revenue:                                                                                |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|                                                                                        | License                                          |                                                                | $      | 39,926 |        |      | $      | 30,307 |        |      | $      | 16,706 |        |   | $     | 8,682 |        |   | $     | 3,775 |       
|                                                                                        | Services                                         |                                                                |        | 21,852 |        |      |        | 13,601 |        |      |        | 6,221  |        |   |       | 2,444 |        |   |       | 1,138 |       
|                                                                                        | Hardware                                         |                                                                |        |       |        |      |        |       |        |      |        | 46     |        |   |       | 2,171 |        |   |       | 1,271 |       
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|                                                                                        |                                                  | Total revenue                                                  |        |        | 61,778 |      |        |        | 43,908 |      |        |        | 22,973 |   |       |       | 13,297 |   |       |       | 6,184  |  
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|Cost of revenue:                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|                                                                                        | License                                          |                                                                |        | 602    |        |      |        | 436    |        |      |        | 327    |        |   |       | 310   |        |   |       | 164   |       
|                                                                                        | Services                                         |                                                                |        | 9,704  |        |      |        | 7,681  |        |      |        | 3,921  |        |   |       | 2,526 |        |   |       | 1,204 |       
|                                                                                        | Hardware                                         |                                                                |        |       |        |      |        |       |        |      |        | 46     |        |   |       | 2,482 |        |   |       | 1,574 |       
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|                                                                                        |                                                  | Total cost of revenue                                          |        |        | 10,306 |      |        |        | 8,117  |      |        |        | 4,294  |   |       |       | 5,318  |   |       |       | 2,942  |  
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|                                                                                        |                                                  | Gross profit                                                   |        |        | 51,472 |      |        |        | 35,791 |      |        |        | 18,679 |   |       |       | 7,979  |   |       |       | 3,242  |  
|Operating expenses:                                                                     |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|                                                                                        | Sales and marketing                              |                                                                |        | 29,339 |        |      |        | 22,587 |        |      |        | 11,585 |        |   |       | 6,147 |        |   |       | 2,016 |       
|                                                                                        | Research and development                         |                                                                |        | 13,611 |        |      |        | 10,379 |        |      |        | 5,825  |        |   |       | 3,529 |        |   |       | 1,817 |       
|                                                                                        | General and administrative                       |                                                                |        | 11,629 |        |      |        | 8,770  |        |      |        | 4,403  |        |   |       | 2,141 |        |   |       | 1,684 |       
|                                                                                        | Charge for termination of distribution agreement |                                                                |        |       |        |      |        |       |        |      |        |       |        |   |       | 900   |        |   |       |      |       
|                                                                                        | Acquired in-process research and development     |                                                                |        | 4,823  |        |      |        |       |        |      |        | 3,506  |        |   |       |      |        |   |       |      |       
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|                                                                                        |                                                  | Operating loss                                                 |        |        | (7,930 | )    |        |        | (5,945 | )    |        |        | (6,640 | ) |       |       | (4,738 | ) |       |       | (2,275 | )
|Interest income (expense), net                                                          |                                                  |                                                                | 2,866  |        |        |      | 3,979  |        |        |      | (364   | )      |        |   | (31   | )     |        |   | 62    |      
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|                                                                                        |                                                  | Loss before provision for income taxes and
	extraordinary loss |        |        | (5,064 | )    |        |        | (1,966 | )    |        |        | (7,004 | ) |       |       | (4,769 | ) |       |       | (2,213 | )
|Provision for income taxes                                                              |                                                  |                                                                | 116    |        |        |      |       |        |        |      |       |        |        |   |      |       |        |   |      |      
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|                                                                                        |                                                  | Loss before extraordinary loss                                 |        |        | (5,180 | )    |        |        | (1,966 | )    |        |        | (7,004 | ) |       |       | (4,769 | ) |       |       | (2,213 | )
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|Extraordinary loss on the early extinguishment of
	debt                                 |                                                  |                                                                |       |        |        |      | (248   | )      |        |      |       |        |        |   |      |       |        |   |      |      
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|                                                                                        |                                                  | Net loss                                                       |        |        | (5,180 | )    |        |        | (2,214 | )    |        |        | (7,004 | ) |       |       | (4,769 | ) |       |       | (2,213 | )
|Preferred stock dividends and accretion                                                 |                                                  |                                                                |       |        |        |      | (611   | )      |        |      | (1,815 | )      |        |   | (502  | )     |        |   | (84   | )    
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|                                                                                        |                                                  | Net loss applicable to common stockholders                     |        | $      | (5,180 | )    |        | $      | (2,825 | )    |        | $      | (8,819 | ) |       | $     | (5,271 | ) |       | $     | (2,297 | )
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|Net loss per share  basic and diluted:                                                 |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|                                                                                        |                                                  | Loss before extraordinary loss                                 |        | $      | (0.23  | )    |        | $      | (0.13  | )    |        | $      | (1.37  | ) |       | $     | (0.76  | ) |       | $     | (0.32  | )
|                                                                                        |                                                  | Extraordinary loss                                             |        |        |       |      |        |        | (0.01  | )    |        |        |       |   |       |       |       |   |       |       |       |  
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|                                                                                        |                                                  | Net loss                                                       |        | $      | (0.23  | )    |        | $      | (0.14  | )    |        | $      | (1.37  | ) |       | $     | (0.76  | ) |       | $     | (0.32  | )
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|Shares used in computing net loss per
	share  basic and diluted                        |                                                  |                                                                | 22,258 |        |        |      | 19,997 |        |        |      | 6,424  |        |        |   | 6,964 |       |        |   | 7,238 |      
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|Unaudited pro forma net loss per
	share  basic and diluted(1)                          |                                                  |                                                                |        |        |        | $    | (0.09  | )      |        | $    | (0.44  | )      |        |   |       |       |        |   |       |      
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      
|Shares used in computing unaudited pro forma net
	loss per share  basic and diluted(1) |                                                  |                                                                |        |        |        |      | 21,232 |        |        |      | 15,755 |        |        |   |       |       |        |   |       |      
|                                                                                        |                                                  |                                                                |        |        |        |      |        |        |        |      |        |        |        |   |       |       |        |   |       |      






|    |                                                                                                                                                                                  
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Pro forma assumes conversion of convertible
	preferred stock into common stock and the vesting of certain
	restricted shares as if such conversions occurred on
	January 1, 1999.

|                                     |  |      |        |      |  |      |        |      |  |      |         |   |  |   |         |   |  |   |        |  
|------------------------------------ |  | ---- | ------ | ---- |  | ---- | ------ | ---- |  | ---- | ------- | - |  | - | ------- | - |  | - | ------ | -
|                                     |  | 2001 |        | 2000 |  | 1999 |        | 1998 |  | 1997
|                                     |  |      |        |      |  |      |        |      |  |     
|Balance Sheet Data:                  |  |      |        |      |  |      |        |      |  |      |         |   |  |   |         |   |  |   |        |  
|Cash and cash equivalents            |  | $    | 24,297 |      |  | $    | 29,590 |      |  | $    | 2,630   |   |  | $ | 912     |   |  | $ | 2,092  |  
|Working capital (deficit)            |  |      | 55,953 |      |  |      | 58,512 |      |  |      | (5,744  | ) |  |   | (3,156  | ) |  |   | (2,506 | )
|Total assets                         |  |      | 84,166 |      |  |      | 86,466 |      |  |      | 10,843  |   |  |   | 5,026   |   |  |   | 3,966  |  
|Long-term debt, less current portion |  |      |       |      |  |      |       |      |  |      | 250     |   |  |   | 1,102   |   |  |   |       |  
|Total convertible preferred stock    |  |      |       |      |  |      |       |      |  |      | 22,837  |   |  |   | 12,710  |   |  |   | 6,733  |  
|Total stockholders equity (deficit) |  |      | 66,054 |      |  |      | 69,588 |      |  |      | (25,656 | ) |  |   | (15,376 | ) |  |   | (8,241 | )

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|        |                                                                                       
|------- | --------------------------------------------------------------------------------------
|Item 7. | Managements Discussion and Analysis
	of Financial Condition and Results of Operations

This annual report on Form 10-K contains
forward-looking statements that are not historical facts but
rather are based on current expectations, estimates and
projections about our business and industry, our beliefs and
assumptions. Words such as anticipates,
expects, intends, plans,
believes, seeks, estimates
and variations of these words and similar expressions are
intended to identify forward-looking statements. These
statements are not guarantees of future performance and are
subject to risks, uncertainties and other factors, some of which
are beyond our control, are difficult to predict and could cause
actual results to differ materially from those expressed or
forecasted in the forward-looking statements. Forward-looking
statements that were true at the time made may ultimately prove
to be incorrect or false. Readers are cautioned not to place
undue reliance on forward-looking statements, which reflect our
managements view only as of the date of this report.
Except as required by law, we undertake no obligation to update
any forward-looking statement, whether as a result of new
information, future events or otherwise.

The following Managements Discussion and
Analysis of Financial Condition and Results of Operations should
be read in conjunction with the Consolidated Financial
Statements and Notes thereto included elsewhere in this report.
Investors should carefully review the information contained in
this report under the caption Factors That May Affect Our
Future Results and Market Price of Our Stock beginning on
page 26.

Overview

We are a leading global provider of customer
interaction recording, performance analysis and electronic
learning management software that enables companies to optimize
their customer relationships. By using our browser-based
architecture to capture samples of customer interactions taking
place in the contact center, and then sharing them with other
departments via e-mail and Web links, organizations can enhance
the quality of customer interactions across multiple
communications media  including the telephone, e-mail
and the Internet. As a fully integrated, closed-loop performance
optimization solution, our software enables companies to record,
evaluate, analyze and learn from customer contacts, allowing
them to generate additional revenue opportunities, improve
profitability, develop customer sales/service
representatives skill sets, enhance customer retention and
achieve greater customer loyalty. Our software is designed to
integrate with a variety of third-party software applications,
such as customer relationship management and enterprise resource
planning applications, and with existing telephony and computer
network hardware and software. The majority of our customers are
companies with one or more contact centers that handle voice and
data customer interactions for outbound sales and marketing
operations, inbound service/support lines, or both. We primarily
utilize a direct sales organization, select resellers and a
variety of strategic marketing alliances to reach our target
customer base.

During the first half of 2001, we observed a
number of factors indicating a slowdown in corporate spending
for information technology and in the general economy. At the
beginning of the year, our sales cycle lengthened as our
prospects and customers confidence in the economy
deteriorated. During the second half of 2001, while some of our
prospects and customers renewed their commitments to us, others
continued to reevaluate or delay their capital plans due to
their own budget uncertainties. We cannot predict how long any
economy related trends will continue or the extent to which this
economic uncertainty will continue to impact our prospects and
customers. A deterioration in the economy, a reduction in the
level of corporate spending for information technology or other
matters may cause us to experience a material adverse effect on
our business, financial condition and results of operations.

Sources of Revenue and Revenue Recognition
Policy

We derive our revenue from licensing our software
and providing related services. Revenue is allocated to each
element of the arrangement based on their relative fair values,
which is established by the price charged when the respective
element is sold separately. License revenue is recognized when
persuasive evidence of an agreement exists, delivery of the
product has occurred, the fee is fixed or determinable and
collection is probable. Services include installation, training,
business consulting services and maintenance. Revenue from
installation, training and business consulting services are
recognized upon performance of the related services.

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These services are traditionally offered and
billed as separate elements of contracts on either a
time-and-material basis or a fixed service fee plus out of
pocket expense reimbursement basis. The functionality of the
software is not dependent on these services. Maintenance is
offered as a separate element and includes the right to
unspecified upgrades on an if-and-when available basis.
Maintenance revenue is deferred and recognized ratably over the
term of the related contract, usually one year. Specified
upgrades are not typically offered to customers. Historically,
all customers have purchased an initial maintenance contract for
each newly licensed site. During 2001, 2000 and 1999, 98% of our
customers renewed their annual maintenance contracts.


During 2001, 2000 and 1999, approximately 91%,
94% and 95%, respectively, of revenue was derived from sales
within North America, including the U.S. and Canada. We expect
that a greater proportion of future license and professional
services revenue will be derived from international markets and
may be denominated in the currency of the applicable market.

Our license agreements generally provide that
customers pay a software license fee for one or more software
products for a specified number of users. The amount of the
license fee varies based on which software product is licensed,
the number of software products licensed, the number of
installation sites and the number of users licensed. Customers
can subsequently pay additional license fees to allow additional
users to use previously licensed software products or to license
additional software products. Each software product contains
common components, allowing for easy integration of additional
software products as they are licensed from us. Customers that
license our software products usually receive the software on
compact disc.

Cost of Revenue and Operating
Expenses

Cost of license revenue primarily consists of
royalties due to third parties and packaging costs. Cost of
services revenue includes personnel costs and related expenses
for installation, training, business consulting and maintenance
personnel and allocations of facilities, communications and
depreciation expense. Personnel costs include salaries,
benefits, stock-based compensation and travel expenses. We
classify all charges to the operating expense categories based
on the nature of the expenditures. We allocate the costs for
facilities, communications and depreciation to each of the
functional areas based on use. These allocated charges include
rent for corporate offices, communication charges and
depreciation and amortization expenses for office furniture,
equipment and leasehold improvements.

Operating expenses are classified into three
general categories: sales and marketing, research and
development and general and administrative. Sales and marketing
expenses consist primarily of personnel costs, sales
commissions, promotional expenses, public relations, and
tradeshows, as well as allocations of facilities, communications
and depreciation expense. Research and development expenses
consist primarily of personnel costs to support product
development, as well as allocations of facilities,
communications and depreciation expense. Research and
development costs are expensed as incurred. Costs incurred
subsequent to establishing technological feasibility are
capitalized and amortized over their estimated useful lives. To
date, software development costs incurred after technological
feasibility has been established have not been material. General
and administrative costs consist primarily of personnel costs
for accounting, information technology, human resources, legal
and facilities, as well as professional service fees, provisions
for bad debt expense and allocations of facilities,
communications and depreciation expense.

We had 327 full-time employees at
December 31, 2001, up from 275 at December 31, 2000
and 178 at December 31, 1999. We anticipate that operating
expenses will increase as we increase sales and marketing
operations, develop new distribution channels, fund ongoing
research and development, broaden professional services
offerings, improve operational and financial systems and support
our growth internationally.

Critical Accounting Policies and
Estimates

The discussion and analysis of our financial
condition and results of operations are based upon our
consolidated financial statements, which have been prepared in
accordance with accounting principles generally accepted in the
United States. The preparation of these financial statements
requires us to make estimates and judgments that affect our
reported assets, liabilities, revenues and expenses, and our
related

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disclosure of contingent assets and liabilities.
On an on-going basis, we evaluate our estimates, including those
related to revenue recognition, bad debts, property and
equipment, intangible assets, research and development and
software development costs and income taxes. We base our
estimates on historical experience and on various other
assumptions that are believed to be reasonable under the
circumstances. This forms the basis of judgments about the
carrying values of assets and liabilities that are not readily
apparent from other sources. Actual results may differ from
these estimates under different assumptions or conditions.


Factors that could affect our future operating
results and cause actual results to vary materially from
expectations include, but are not limited to, lower than
anticipated growth from existing customers, an inability to
attract new customers and grow internationally, an inability to
grow through acquisitions or successfully integrate
acquisitions, technology changes, or a decline in the financial
stability of our customers. Negative developments in these or
other risk factors could have a material adverse effect on our
financial position and results of operations. A summary of our
critical accounting policies follows.

Revenue Recognition.Our revenue recognition policy is significant because our
revenues are a key component of our results of operations. We
follow very specific and detailed guidelines, discussed above,
in measuring revenues; however, certain judgments affect the
application of our revenue policy. Further, assessment of
collectibility is particularly critical in determining whether
or not revenues should be recognized in the current market
environment. We also record a small provision for estimated
sales allowances on product and service related sales in the
same period as the related revenues are recorded. These
estimates are based on historical sales allowances, analysis of
credit memo data and other known factors. If the historical data
we use to calculate these estimates does not properly reflect
future credits, revenues could be overstated.

Allowance for Doubtful
Accounts.We maintain allowances for
doubtful accounts for estimated losses resulting from the
inability of our customers to make required payments. If the
financial condition of our customers were to deteriorate,
resulting in an impairment of their ability to make payments,
additional allowances may be required which would result in an
additional general and administrative expense in the period such
determination was made.

Allowance for Deferred Tax
Assets.We record a valuation
allowance to reduce our deferred tax assets to an amount that is
more likely than not to be realized. While we have considered
future taxable income in assessing the need for the valuation
allowance, in the event we were to determine that we would be
able to realize our deferred tax assets in the future in excess
of its net recorded amount, an adjustment to the deferred tax
asset would be made, increasing income in the period in which
such determination was made.

Research and Development and Software
Development Costs.We evaluate the
establishment of technological feasibility of our products in
accordance with Statement of Financial Accounting Standards
(SFAS) No. 86, Accounting for the Cost of
Computer Software to be sold, Leased or Otherwise Marketed.
We sell products in a market that is subject to rapid
technological change, new product development and changing
customer needs; accordingly, we have concluded that
technological feasibility is not established until the
completion of a working model. To date, software development
costs incurred after technological feasibility has been
established have not been material. Therefore, we have charged
all such costs to research and development in the period
incurred.

Impairment of Long-lived Assets and
Intangibles.We evaluate the
recoverability of property and equipment and intangibles by
comparing the carrying amount of the asset against the estimated
undiscounted cash flows associated with it. Should the sum of
the expected future cash flows be less than the carrying value
of the asset being evaluated, we use the fair value in
determining the amount of impairment loss that should be
recorded. The determination of undiscounted net operating cash
flows requires management to make estimates.

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##### Table of Contents



Results of Operations

The table below shows operating data as a
percentage of total revenue for the periods indicated:

|                               |                                              |                                                                |     |      |       |      |      |      |       |    |      |      |       |   
|------------------------------ | -------------------------------------------- | -------------------------------------------------------------- | --- | ---- | ----- | ---- | ---- | ---- | ----- | -- | ---- | ---- | ----- | --
|                               |                                              |                                                               
|                               |                                              | Year Ended December 31,                                       
|                               |                                              |                                                               
|                               |                                              | 2001                                                           |     | 2000 |       | 1999
|                               |                                              |                                                                |     |      |       |     
|Statement of Operations Data:  |                                              |                                                                |     |      |       |      |      |      |       |    |      |     
|Revenue:                       |                                              |                                                                |     |      |       |      |      |      |       |    |      |     
|                               | License                                      |                                                                |     | 64.6 | %     |      |      | 69.0 | %     |    |      | 72.7 | %    
|                               | Services                                     |                                                                |     | 35.4 |       |      |      | 31.0 |       |    |      | 27.1 |      
|                               | Hardware                                     |                                                                |     |     |       |      |      |     |       |    |      | 0.2  |      
|                               |                                              |                                                                |     |      |       |      |      |      |       |    |      |     
|                               |                                              | Total revenue                                                  |     |      | 100.0 |      |      |      | 100.0 |    |      |      | 100.0 |   
|Cost of revenue:               |                                              |                                                                |     |      |       |      |      |      |       |    |      |     
|                               | License                                      |                                                                |     | 1.0  |       |      |      | 1.0  |       |    |      | 1.4  |      
|                               | Services                                     |                                                                |     | 15.7 |       |      |      | 17.5 |       |    |      | 17.1 |      
|                               | Hardware                                     |                                                                |     |     |       |      |      |     |       |    |      | 0.2  |      
|                               |                                              |                                                                |     |      |       |      |      |      |       |    |      |     
|                               |                                              | Total cost of revenue                                          |     |      | 16.7  |      |      |      | 18.5  |    |      |      | 18.7  |   
|                               |                                              |                                                                |     |      |       |      |      |      |       |    |      |     
|                               |                                              | Gross profit                                                   |     |      | 83.3  |      |      |      | 81.5  |    |      |      | 81.3  |   
|Operating expenses:            |                                              |                                                                |     |      |       |      |      |      |       |    |      |     
|                               | Sales and marketing                          |                                                                |     | 47.5 |       |      |      | 51.4 |       |    |      | 50.4 |      
|                               | Research and development                     |                                                                |     | 22.0 |       |      |      | 23.6 |       |    |      | 25.4 |      
|                               | General and administrative                   |                                                                |     | 18.8 |       |      |      | 20.0 |       |    |      | 19.2 |      
|                               | Acquired in-process research and development |                                                                |     | 7.8  |       |      |      |     |       |    |      | 15.2 |      
|                               |                                              |                                                                |     |      |       |      |      |      |       |    |      |     
|                               |                                              | Operating loss                                                 |     |      | (12.8 | )    |      |      | (13.5 | )  |      |      | (28.9 | ) 
|Interest income (expense), net |                                              |                                                                | 4.6 |      |       |      | 9.1  |      |       |    | (1.6 | )   
|                               |                                              |                                                                |     |      |       |      |      |      |       |    |      |     
|                               |                                              | Loss before provision for income taxes and
	extraordinary loss |     |      | (8.2  | )    |      |      | (4.4  | )  |      |      | (30.5 | ) 
|Provision for income taxes     |                                              |                                                                | 0.2 |      |       |      |     |      |       |    |     |     
|                               |                                              |                                                                |     |      |       |      |      |      |       |    |      |     
|                               |                                              | Loss before extraordinary loss                                 |     |      | (8.4  | )%   |      |      | (4.4  | )% |      |      | (30.5 | )%
|Extraordinary loss             |                                              |                                                                |    |      |       |      | (0.6 | )    |       |    |     |     
|                               |                                              |                                                                |     |      |       |      |      |      |       |    |      |     
|                               |                                              | Net loss                                                       |     |      | (8.4  | )%   |      |      | (5.0  | )% |      |      | (30.5 | )%
|                               |                                              |                                                                |     |      |       |      |      |      |       |    |      |     



| |        
| | -------
| | Revenue

Total revenue increased 41% in 2001 to
$61.8 million and 91% in 2000 to $43.9 million from
$23.0 million in 1999. Our revenue growth was attributable
to increases in the number of sites licensed to new and existing
customers. Our customer base grew to 885 sites at the end of
2001 from 593 sites at the end of 2000 and 325 sites at the end
of 1999.

License revenue increased 32% in 2001 to
$39.9 million and 81% in 2000 to $30.3 million from
$16.7 million in 1999, representing 64.6%, 69.0% and 72.7%
of total revenue, respectively. During 2001, 2000 and 1999, 47%,
57% and 54%, respectively, of license revenue were attributable
to new customers compared to follow-on revenue from our existing
customer base. We receive follow-on revenue from our customers
when they purchase additional user licenses at existing sites
and when they license our products at new sites.

Services revenue increased 61% in 2001 to
$21.9 million and 119% in 2000 to $13.6 million from
$6.2 million in 1999, representing 35.4%, 31.0% and 27.1%
of total revenue, respectively. The growth in installation and
training revenue was closely tied to the growth in software
license revenue. Maintenance revenue increased due to new
customer sites and renewals of annual maintenance contracts from
existing customer sites. Services revenue as a percentage of
total revenue increased due to the compounding effect of
maintenance revenue from both new customer sites and renewals of
maintenance contracts from existing customer sites, and, to a
lesser extent, the addition of business consulting services
which began during the latter half of 2001.

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We discontinued the sale of hardware during the
first quarter of 1999.



| |                
| | ---------------
| | Cost of Revenue

Total cost of revenue increased 27% in 2001 to
$10.3 million and 89% in 2000 to $8.1 million from
$4.3 million in 1999, representing gross profit margins of
83.3%, 81.5% and 81.3%, respectively. The increased gross profit
margins in 2001 were driven by improved services margins that
resulted primarily from the increase in maintenance services
revenue. Gross profit margins increased slightly in 2000 due to
the discontinuance of hardware sales in the first quarter of
1999.

Cost of license revenue increased 38% in 2001 to
$602,000 and 33% in 2000 to $436,000 from $327,000 in 1999,
representing 1.0%, 1.0% and 1.4% of total revenue, respectively.
The increases in absolute dollars were due to increased
royalties for third-party software resulting from increased
license revenue. During 2001 and 2000, we released new products
and enhanced some of our existing products, both of which
contained additional third-party software components. We expect
cost of license revenue in absolute dollars, and as a percentage
of license revenue, to increase as a greater proportion of
revenue is originated from products containing third-party
software components.

Cost of services revenue increased 26% in 2001 to
$9.7 million and 96% in 2000 to $7.7 million from
$3.9 million in 1999; representing 44.4%, 56.4% and 63.0%
of services revenue, respectively. The increases in absolute
dollars were a result of increases in the number of employees
engaged in installation, training and customer maintenance
services. The improvement in the services margins in 2001 and
2000 was due to greater efficiencies in our customer support
center. We expect to continue growing our customer services
organization and the related costs as our customer base expands,
and we anticipate that cost of services revenue in absolute
dollars will continue to increase.



| |                   
| | ------------------
| | Operating Expenses

Sales and Marketing.Sales and marketing expenses increased
30% in 2001 to $29.3 million and 95% in 2000 to
$22.6 million from $11.6 million in 1999, representing
47.5%, 51.4% and 50.4% of total revenue, respectively. The 2001
increase in absolute dollars was primarily due to an increase in
sales and marketing personnel costs, marketing programs,
facilities expenses and the establishment of additional sales
offices in Europe, Asia Pacific and Latin America. The increase
in absolute dollars in 2000 was primarily due to an increase in
sales personnel, advertising, and, to a lesser extent, an
increase in marketing program expenses. We expect that the
absolute dollar amount of sales and marketing expenses will
continue to increase due to the planned growth of our sales
force, including the expansion of the North American sales force
and the establishment of additional sales offices
internationally in Europe, Asia Pacific and Latin America. We
also expect additional increases in advertising, marketing
programs and other promotional activities.

Research and Development.Research and development expenses
increased 31% in 2001 to $13.6 million and 78% in 2000 to
$10.4 million from $5.8 million in 1999, representing
22.0%, 23.6% and 25.4% of total revenue, respectively. The 2001
increase in absolute dollars was primarily due to an increase in
the number of employees and consultants engaged in research and
development activities, as well as increased costs related to
our additional test lab facilities. The increase in absolute
dollars in 2000 was primarily due to an increase in the number
of employees and consultants engaged in research and development
activities. We expect research and development expenses to
increase in absolute dollars as we continue to commit
substantial resources to enhance existing product functionality
and to developing new products. Furthermore, we may incur
additional research and development charges associated with
software-based technology acquisitions (for further information
see Liquidity and Capital Resources).

General and Administrative.General and administrative expenses
increased 33% in 2001 to $11.6 million and 99% in 2000 to
$8.8 million from $4.4 million in 1999, representing
18.8%, 20.0% and 19.2% of total revenue, respectively. The 2001
increase in absolute dollars was primarily due to the increased
provision for bad debt expense, increased corporate expenses in
the executive, finance and administrative functions to support a
larger organization, and increased facilities expense due to the
larger headquarters facility. The increase in absolute dollars
in 2000 was primarily due to an increase in the number of
employees

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and related expenses in the executive, finance
and administrative functions to manage the growth of our
company. We expect general and administrative expenses to
increase in absolute dollars as we continue to add
infrastructure to support a growing organization and continue to
invest in our international expansion.


During the second quarter of 2000, we adopted a
plan to relocate our corporate headquarters to a larger facility
within the Atlanta metropolitan area. In accordance with the
Emerging Issues Task Forces abstract No. 94-3, we
estimated that the net costs associated with our then existing
facilities, which are under non-cancellable leases expiring on
June 30, 2002, would be approximately $525,000. We recorded
this obligation during the second quarter of 2000. During the
second quarter of 2001, one of the sublessees was unable to
fulfill its obligations and the sublease was terminated. As a
result, we recorded an additional obligation of $155,000 in the
second quarter of 2001 to cover the additional estimated loss.
As of December 31, 2001, the accrual balance was $154,000.

In order to secure the new corporate headquarters
facility and furniture leases, we entered into irrevocable
standby letters of credit in the aggregate amount of
$4.9 million in 2000 and 2001. During the second quarter of
2001, we replaced our pledged short-term investments, serving as
collateral on the letters of credit, with cash and cash
equivalents and, accordingly, reclassified them as restricted
cash on the December 31, 2001 balance sheet. The letters of
credit and related restricted funds have decreasing schedules
that ultimately expire in 2002 and 2007, which correspond with
their classification on the accompanying balance sheets.

During 1999, we incurred a deferred stock
compensation charge of $1.0 million for the difference between
the exercise price and the deemed fair value of certain stock
option grants. This charge is being amortized over the vesting
period of the underlying options, generally four years. Deferred
stock compensation was $171,000, $271,000 and $13,000 in 2001,
2000 and 1999, respectively, and has been classified into the
respective department functional areas. In addition, we incurred
other personnel costs of $665,000 during 1999, which related to
severance payments for terminated executives, as well as bonus
and relocation costs in connection with recruiting a new
executive. Such costs were allocated whereby $40,000 was
classified as research and development and $625,000 as general
and administrative.

Acquired In-Process Research and Development.In 2001 and 1999, we purchased
software-based research and development from third parties
totaling $4.8 million and $3.5 million, respectively. We
recorded an expense for these purchases when we acquired the
assets and we classified the expense as acquired in-process
research and development (IPR&D) in the accompanying
consolidated statements of operations.

The IPR&D purchase in 1999 related to the
development of technology to store and retrieve substantially
larger volumes of data than our software was previously capable
of storing and retrieving. We purchased this technology in
exchange for 841,120 shares of our common stock valued at $4.14
per share. As a result, we recorded a charge of
$3.5 million in the accompanying consolidated statement of
operations. At the time of the purchase, we estimated that it
would take up to a year to complete the development of this
technology and that it would cost an additional
$3.3 million to complete these efforts. This project was
successfully completed in the third quarter of 2001.

During 2000, we entered into an option agreement
to purchase IPR&D technologies relating to the development
of electronic-media data capture and optimization. As of
December 31, 2000, the options carrying value was
$650,000 and was classified in intangible and other assets, net
in the accompanying consolidated balance sheet. In March 2001,
we paid $2.0 million to exercise this option to purchase
the underlying technology. Also, during the first quarter of
2001, we purchased additional IPR&D for $1.1 million
relating to similar development issues. At the time of the
purchases, we estimated that it would take up to a year to
complete these development projects and we estimated that we
would incur at least an additional $3 million to complete
these projects. These projects were successfully completed by
the end of 2001.

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##### Table of Contents



In June 2001, we purchased software-based
IPR&D technology relating to the development of on-line
analytical processing and multi-dimensional analysis
capabilities for $1.1 million. At that time, we estimated
that it would take up to a year for us to complete the
development of this technology and that it would cost at least
an additional $1 million. We currently expect this project
to be completed during 2002.

At the date of the aforementioned transactions,
the acquired IPR&D technologies had not progressed to a
stage where they met technological feasibility as defined by
SFAS No. 86. At the time of each transaction, we estimated
the stage of completion of the project and the time and
resources required to complete the project by creating a product
design plan and evaluating the progress of the acquired
technology towards this plan. A significant amount of
uncertainty existed as to our ability to complete the
development projects within a timeframe acceptable to the
market, and failure to do so could cause our competitive
position in the market to erode. Additionally, the amount of
development required to enable the acquired technology to
integrate with our primary product was estimated to be
significant, which increased the uncertainty surrounding its
successful development. The acquired technologies did not have
alternative future uses.



| |                               
| | ------------------------------
| | Interest Income (Expense), Net

Interest income (expense), net decreased 28% in
2001 to $2.9 million due primarily to lower yields and a lower
investment balance which was only partially offset by the full
year of interest earned in 2001 compared to less than eleven
months in 2000 as a result of the initial public offering
(IPO) proceeds received in February 2000. Interest
income (expense), net increased to $4.0 million in 2000 from
($364,000) in 1999 due to the investment of the proceeds from
our IPO.



| |                           
| | --------------------------
| | Provision for Income Taxes

We recorded a provision for state income tax,
federal alternative minimum tax and foreign income tax in 2001.
Prior to 2001, no provision for federal, state or foreign income
taxes was recorded, primarily due to net operating loss
carryforwards. Deferred tax assets are normally recognized for
deductible temporary differences and net operating loss and tax
credit carryforwards. We have recorded a valuation allowance in
full for deferred tax asset generated as the future realization
of their tax benefit is not currently considered more likely
than not.

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##### Table of Contents



Quarterly Results of Operations

The following tables present unaudited quarterly
statements of operations data for each of the last eight
quarters in the period ended December 31, 2001, as well as
the percentage of total revenue represented by each item. The
information has been derived from our unaudited consolidated
financial statements, which have been prepared on substantially
the same basis as the audited consolidated financial statements
contained in this report. The unaudited consolidated financial
statements contain all adjustments, consisting only of normal
recurring adjustments that we consider to be necessary to
present fairly this information when read in conjunction with
the consolidated financial statements and notes thereto
appearing elsewhere in this report. The results of operations
for any quarter are not necessarily indicative of the results to
be expected for any future period.

|                                                                        |                                              |                       |        |           |        |          |        |           |        |          |        |           |        |          |        |           |        |   |        |        |        |   |        |       |        |   |        |       |        |   |        |       |       | 
|----------------------------------------------------------------------- | -------------------------------------------- | --------------------- | ------ | --------- | ------ | -------- | ------ | --------- | ------ | -------- | ------ | --------- | ------ | -------- | ------ | --------- | ------ | - | ------ | ------ | ------ | - | ------ | ----- | ------ | - | ------ | ----- | ------ | - | ------ | ----- | ----- | 
|                                                                        |                                              |                      
|                                                                        |                                              | Three Months Ended   
|                                                                        |                                              |                      
|                                                                        |                                              | Dec. 31,              |        | Sept. 30, |        | June 30, |        | March 31, |        | Dec. 31, |        | Sept. 30, |        | June 30, |        | March 31,
|                                                                        |                                              | 2001                  |        | 2001      |        | 2001     |        | 2001      |        | 2000     |        | 2000      |        | 2000     |        | 2000     
|                                                                        |                                              |                       |        |           |        |          |        |           |        |          |        |           |        |          |        |          
|Revenue:                                                                |                                              |                       |        |           |        |          |        |           |        |          |        |           |        |          |        |           |        |   |        |        |        |   |        |       |        |   |        |       |        |   |        |      
|                                                                        | License                                      |                       | $      | 10,508    |        |          | $      | 9,649     |        |          | $      | 9,010     |        |          | $      | 10,759    |        |   | $      | 10,057 |        |   | $      | 8,056 |        |   | $      | 6,976 |        |   | $      | 5,218 |      
|                                                                        | Services                                     |                       |        | 6,601     |        |          |        | 5,608     |        |          |        | 5,313     |        |          |        | 4,330     |        |   |        | 4,078  |        |   |        | 3,810 |        |   |        | 3,281 |        |   |        | 2,432 |      
|                                                                        | Hardware                                     |                       |        |          |        |          |        |          |        |          |        |          |        |          |        |          |        |   |        |       |        |   |        |      |        |   |        |      |        |   |        |      |      
|                                                                        |                                              |                       |        |           |        |          |        |           |        |          |        |           |        |          |        |           |        |   |        |        |        |   |        |       |        |   |        |       |        |   |        |      
|                                                                        |                                              | Total revenue         |        |           | 17,109 |          |        |           | 15,257 |          |        |           | 14,323 |          |        |           | 15,089 |   |        |        | 14,135 |   |        |       | 11,866 |   |        |       | 10,257 |   |        |       | 7,650 | 
|Cost of revenue:                                                        |                                              |                       |        |           |        |          |        |           |        |          |        |           |        |          |        |           |        |   |        |        |        |   |        |       |        |   |        |       |        |   |        |      
|                                                                        | License                                      |                       |        | 178       |        |          |        | 105       |        |          |        | 135       |        |          |        | 184       |        |   |        | 110    |        |   |        | 141   |        |   |        | 124   |        |   |        | 61    |      
|                                                                        | Services                                     |                       |        | 2,431     |        |          |        | 2,344     |        |          |        | 2,401     |        |          |        | 2,528     |        |   |        | 2,275  |        |   |        | 2,069 |        |   |        | 1,923 |        |   |        | 1,414 |      
|                                                                        | Hardware                                     |                       |        |          |        |          |        |          |        |          |        |          |        |          |        |          |        |   |        |       |        |   |        |      |        |   |        |      |        |   |        |      |      
|                                                                        |                                              |                       |        |           |        |          |        |           |        |          |        |           |        |          |        |           |        |   |        |        |        |   |        |       |        |   |        |       |        |   |        |      
|                                                                        |                                              | Total cost of revenue |        |           | 2,609  |          |        |           | 2,449  |          |        |           | 2,536  |          |        |           | 2,712  |   |        |        | 2,385  |   |        |       | 2,210  |   |        |       | 2,047  |   |        |       | 1,475 | 
|                                                                        |                                              |                       |        |           |        |          |        |           |        |          |        |           |        |          |        |           |        |   |        |        |        |   |        |       |        |   |        |       |        |   |        |      
|Gross profit                                                            |                                              |                       | 14,500 |           |        |          | 12,808 |           |        |          | 11,787 |           |        |          | 12,377 |           |        |   | 11,750 |        |        |   | 9,656  |       |        |   | 8,210  |       |        |   | 6,175  |      
|Operating expenses:                                                     |                                              |                       |        |           |        |          |        |           |        |          |        |           |        |          |        |           |        |   |        |        |        |   |        |       |        |   |        |       |        |   |        |      
|                                                                        | Sales and marketing                          |                       |        | 7,978     |        |          |        | 6,972     |        |          |        | 7,302     |        |          |        | 7,087     |        |   |        | 6,816  |        |   |        | 5,817 |        |   |        | 5,726 |        |   |        | 4,228 |      
|                                                                        | Research and development                     |                       |        | 3,374     |        |          |        | 3,167     |        |          |        | 3,451     |        |          |        | 3,619     |        |   |        | 3,031  |        |   |        | 2,689 |        |   |        | 2,415 |        |   |        | 2,244 |      
|                                                                        | General and administrative                   |                       |        | 3,099     |        |          |        | 3,274     |        |          |        | 2,762     |        |          |        | 2,494     |        |   |        | 2,596  |        |   |        | 2,310 |        |   |        | 2,199 |        |   |        | 1,665 |      
|                                                                        | Acquired in-process research and development |                       |        |          |        |          |        |          |        |          |        | 1,100     |        |          |        | 3,723     |        |   |        |       |        |   |        |      |        |   |        |      |        |   |        |      |      
|                                                                        |                                              |                       |        |           |        |          |        |           |        |          |        |           |        |          |        |           |        |   |        |        |        |   |        |       |        |   |        |       |        |   |        |      
|Operating income (loss)                                                 |                                              |                       | 49     |           |        |          | (605   | )         |        |          | (2,828 | )         |        |          | (4,546 | )         |        |   | (693   | )      |        |   | (1,160 | )     |        |   | (2,130 | )     |        |   | (1,962 | )    
|Interest income, net                                                    |                                              |                       | 486    |           |        |          | 625    |           |        |          | 747    |           |        |          | 1,008  |           |        |   | 1,159  |        |        |   | 1,180  |       |        |   | 1,151  |       |        |   | 489    |      
|                                                                        |                                              |                       |        |           |        |          |        |           |        |          |        |           |        |          |        |           |        |   |        |        |        |   |        |       |        |   |        |       |        |   |        |      
|Income (loss) before provision for income
	taxes and extraordinary loss |                                              |                       | 535    |           |        |          | 20     |           |        |          | (2,081 | )         |        |          | (3,538 | )         |        |   | 466    |        |        |   | 20     |       |        |   | (979   | )     |        |   | (1,473 | )    
|Provision for income taxes                                              |                                              |                       | 32     |           |        |          |       |           |        |          |       |           |        |          | 84     |           |        |   |       |        |        |   |       |       |        |   |       |       |        |   |       |      
|                                                                        |                                              |                       |        |           |        |          |        |           |        |          |        |           |        |          |        |           |        |   |        |        |        |   |        |       |        |   |        |       |        |   |        |      
|Income (loss) before extraordinary loss                                 |                                              |                       | 503    |           |        |          | 20     |           |        |          | (2,081 | )         |        |          | (3,622 | )         |        |   | 466    |        |        |   | 20     |       |        |   | (979   | )     |        |   | (1,473 | )    
|Extraordinary loss                                                      |                                              |                       |       |           |        |          |       |           |        |          |       |           |        |          |       |           |        |   |       |        |        |   |       |       |        |   |       |       |        |   | (248   | )    
|                                                                        |                                              |                       |        |           |        |          |        |           |        |          |        |           |        |          |        |           |        |   |        |        |        |   |        |       |        |   |        |       |        |   |        |      
|Net income (loss)                                                       |                                              | $                     | 503    |           |        | $        | 20     |           |        | $        | (2,081 | )         |        | $        | (3,622 | )         |        | $ | 466    |        |        | $ | 20     |       |        | $ | (979   | )     |        | $ | (1,721 | )    
|                                                                        |                                              |                       |        |           |        |          |        |           |        |          |        |           |        |          |        |           |        |   |        |        |        |   |        |       |        |   |        |       |        |   |        |      

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|                                                                        |                                              |                       |      |           |       |          |      |           |       |          |       |           |       |          |       |           |       |  |      |      |       |  |      |      |       |  |       |      |       |  |       |      |       | 
|----------------------------------------------------------------------- | -------------------------------------------- | --------------------- | ---- | --------- | ----- | -------- | ---- | --------- | ----- | -------- | ----- | --------- | ----- | -------- | ----- | --------- | ----- |  | ---- | ---- | ----- |  | ---- | ---- | ----- |  | ----- | ---- | ----- |  | ----- | ---- | ----- | 
|                                                                        |                                              |                      
|                                                                        |                                              | Three Months Ended   
|                                                                        |                                              |                      
|                                                                        |                                              | Dec. 31,              |      | Sept. 30, |       | June 30, |      | March 31, |       | Dec. 31, |       | Sept. 30, |       | June 30, |       | March 31,
|                                                                        |                                              | 2001                  |      | 2001      |       | 2001     |      | 2001      |       | 2000     |       | 2000      |       | 2000     |       | 2000     
|                                                                        |                                              |                       |      |           |       |          |      |           |       |          |       |           |       |          |       |          
|As a Percentage of Total Revenue:                                       |                                              |                       |      |           |       |          |      |           |       |          |       |           |       |          |       |           |       |  |      |      |       |  |      |      |       |  |       |      |       |  |       |     
|Revenue:                                                                |                                              |                       |      |           |       |          |      |           |       |          |       |           |       |          |       |           |       |  |      |      |       |  |      |      |       |  |       |      |       |  |       |     
|                                                                        | License                                      |                       |      | 61.4      | %     |          |      | 63.2      | %     |          |       | 62.9      | %     |          |       | 71.3      | %     |  |      | 71.1 | %     |  |      | 67.9 | %     |  |       | 68.0 | %     |  |       | 68.2 | %    
|                                                                        | Services                                     |                       |      | 38.6      |       |          |      | 36.8      |       |          |       | 37.1      |       |          |       | 28.7      |       |  |      | 28.9 |       |  |      | 32.1 |       |  |       | 32.0 |       |  |       | 31.8 |      
|                                                                        | Hardware                                     |                       |      |          |       |          |      |          |       |          |       |          |       |          |       |          |       |  |      |     |       |  |      |     |       |  |       |     |       |  |       |     |      
|                                                                        |                                              |                       |      |           |       |          |      |           |       |          |       |           |       |          |       |           |       |  |      |      |       |  |      |      |       |  |       |      |       |  |       |     
|                                                                        |                                              | Total revenue         |      |           | 100.0 |          |      |           | 100.0 |          |       |           | 100.0 |          |       |           | 100.0 |  |      |      | 100.0 |  |      |      | 100.0 |  |       |      | 100.0 |  |       |      | 100.0 | 
|                                                                        |                                              |                       |      |           |       |          |      |           |       |          |       |           |       |          |       |           |       |  |      |      |       |  |      |      |       |  |       |      |       |  |       |     
|Cost of revenue:                                                        |                                              |                       |      |           |       |          |      |           |       |          |       |           |       |          |       |           |       |  |      |      |       |  |      |      |       |  |       |      |       |  |       |     
|                                                                        | License                                      |                       |      | 1.0       |       |          |      | 0.7       |       |          |       | 0.9       |       |          |       | 1.2       |       |  |      | 0.8  |       |  |      | 1.2  |       |  |       | 1.2  |       |  |       | 0.7  |      
|                                                                        | Services                                     |                       |      | 14.2      |       |          |      | 15.4      |       |          |       | 16.8      |       |          |       | 16.8      |       |  |      | 16.1 |       |  |      | 17.4 |       |  |       | 18.8 |       |  |       | 18.6 |      
|                                                                        | Hardware                                     |                       |      |          |       |          |      |          |       |          |       |          |       |          |       |          |       |  |      |     |       |  |      |     |       |  |       |     |       |  |       |     |      
|                                                                        |                                              |                       |      |           |       |          |      |           |       |          |       |           |       |          |       |           |       |  |      |      |       |  |      |      |       |  |       |      |       |  |       |     
|                                                                        |                                              | Total cost of revenue |      |           | 15.2  |          |      |           | 16.1  |          |       |           | 17.7  |          |       |           | 18.0  |  |      |      | 16.9  |  |      |      | 18.6  |  |       |      | 20.0  |  |       |      | 19.3  | 
|                                                                        |                                              |                       |      |           |       |          |      |           |       |          |       |           |       |          |       |           |       |  |      |      |       |  |      |      |       |  |       |      |       |  |       |     
|Gross profit                                                            |                                              |                       | 84.8 |           |       |          | 83.9 |           |       |          | 82.3  |           |       |          | 82.0  |           |       |  | 83.1 |      |       |  | 81.4 |      |       |  | 80.0  |      |       |  | 80.7  |     
|Operating expenses:                                                     |                                              |                       |      |           |       |          |      |           |       |          |       |           |       |          |       |           |       |  |      |      |       |  |      |      |       |  |       |      |       |  |       |     
|                                                                        | Sales and marketing                          |                       |      | 46.7      |       |          |      | 45.6      |       |          |       | 50.9      |       |          |       | 47.0      |       |  |      | 48.2 |       |  |      | 49.0 |       |  |       | 55.8 |       |  |       | 55.2 |      
|                                                                        | Research and development                     |                       |      | 19.7      |       |          |      | 20.8      |       |          |       | 24.1      |       |          |       | 24.0      |       |  |      | 21.4 |       |  |      | 22.7 |       |  |       | 23.5 |       |  |       | 29.3 |      
|                                                                        | General and administrative                   |                       |      | 18.1      |       |          |      | 21.5      |       |          |       | 19.3      |       |          |       | 16.5      |       |  |      | 18.4 |       |  |      | 19.5 |       |  |       | 21.4 |       |  |       | 21.8 |      
|                                                                        | Acquired in-process research and development |                       |      |          |       |          |      |          |       |          |       | 7.7       |       |          |       | 24.6      |       |  |      |     |       |  |      |     |       |  |       |     |       |  |       |     |      
|                                                                        |                                              |                       |      |           |       |          |      |           |       |          |       |           |       |          |       |           |       |  |      |      |       |  |      |      |       |  |       |      |       |  |       |     
|Operating income (loss)                                                 |                                              |                       | 0.3  |           |       |          | (4.0 | )         |       |          | (19.7 | )         |       |          | (30.1 | )         |       |  | (4.9 | )    |       |  | (9.8 | )    |       |  | (20.7 | )    |       |  | (25.6 | )   
|Interest income, net                                                    |                                              |                       | 2.8  |           |       |          | 4.1  |           |       |          | 5.2   |           |       |          | 6.7   |           |       |  | 8.2  |      |       |  | 10.0 |      |       |  | 11.2  |      |       |  | 6.3   |     
|                                                                        |                                              |                       |      |           |       |          |      |           |       |          |       |           |       |          |       |           |       |  |      |      |       |  |      |      |       |  |       |      |       |  |       |     
|Income (loss) before provision for income
	taxes and extraordinary loss |                                              |                       | 3.1  |           |       |          | 0.1  |           |       |          | (14.5 | )         |       |          | (23.4 | )         |       |  | 3.3  |      |       |  | 0.2  |      |       |  | (9.5  | )    |       |  | (19.3 | )   
|Provision for income taxes                                              |                                              |                       | 0.2  |           |       |          |     |           |       |          |      |           |       |          | 0.6   |           |       |  |     |      |       |  |     |      |       |  |      |      |       |  |      |     
|                                                                        |                                              |                       |      |           |       |          |      |           |       |          |       |           |       |          |       |           |       |  |      |      |       |  |      |      |       |  |       |      |       |  |       |     
|Income (loss) before extraordinary loss                                 |                                              |                       | 2.9  |           |       |          | 0.1  |           |       |          | (14.5 | )         |       |          | (24.0 | )         |       |  | 3.3  |      |       |  | 0.2  |      |       |  | (9.5  | )    |       |  | (19.3 | )   
|Extraordinary loss                                                      |                                              |                       |     |           |       |          |     |           |       |          |      |           |       |          |      |           |       |  |     |      |       |  |     |      |       |  |      |      |       |  | (3.2  | )   
|                                                                        |                                              |                       |      |           |       |          |      |           |       |          |       |           |       |          |       |           |       |  |      |      |       |  |      |      |       |  |       |      |       |  |       |     
|Net income (loss)                                                       |                                              |                       | 2.9  | %         |       |          | 0.1  | %         |       |          | (14.5 | )%        |       |          | (24.0 | )%        |       |  | 3.3  | %    |       |  | 0.2  | %    |       |  | (9.5  | )%   |       |  | (22.5 | )%  
|                                                                        |                                              |                       |      |           |       |          |      |           |       |          |       |           |       |          |       |           |       |  |      |      |       |  |      |      |       |  |       |      |       |  |       |     

During 2001 and 2000, license revenue as a
percentage of total revenue generally decreased from quarter to
quarter while services revenue as a percentage of total revenue
increased due to the compounding effect of maintenance renewals
and the expansion of our service offerings. We expect that
services revenue will continue to grow relative to license
revenue throughout 2002. Gross profit margins increased from
quarter to quarter during 2001 and we expect the gross profit
margins for 2002 to be comparable to 2001.

Operating expenses, excluding the acquired
IPR&D, remained relatively constant during 2001 primarily
due to our redeployment of resources in light of the uncertainty
that developed in the economy in 2001. During 2000, operating
expenses increased each quarter primarily as a result of the
increase in the number of employees engaged in all areas of our
business.

We believe that our quarterly operating results
may experience seasonal fluctuations in the future. For
instance, quarterly results may fluctuate based on customer
calendar-year budgeting cycles, slow summer purchasing patterns
and compensation policies that tend to compensate sales
personnel, typically in the latter half of the year, for
achieving annual quotas.

As a result of the foregoing and other factors,
we believe that quarter to quarter comparisons of results are
not necessarily meaningful, and such comparisons should not be
relied upon as indications of future performance.

Liquidity and Capital Resources

During 2001, net cash used for operating
activities was $5.3 million, including $4.0 million used to
purchase IPR&D. Net cash used in investing activities was
$2.6 million and net cash provided by financing activities was
$1.6 million. Our December 31, 2001 cash and cash
equivalents decreased by $6.4 million since the prior year
primarily due to the funding of the 2001 operating loss and
capital expenditures.

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In February 2000, we completed our IPO in which
we issued 3.8 million shares at an offering price of $20.00 per
share. Simultaneously, our underwriters exercised their
over-allotment option to issue an additional 570,000 shares,
219,269 shares of which were sold by us. Net proceeds to us were
$74.8 million, after deducting underwriting discounts and
commissions and selling stockholders net proceeds. Since
the IPO, we repaid all of our long-term debt totaling of $2.8
million, including $67,000 in prepayment penalties. We recorded
an extraordinary loss on the early extinguishment of debt of
$248,000 during 2000 due to the write-off of unamortized debt
discount and deferred financing fees and the payment of the
prepayment penalty.

At December 31, 2001, we had $61.0 million
of cash and cash equivalents, restricted cash and short-term
investments and $56.0 million of working capital. We had no debt
outstanding at December 31, 2001. We had irrevocable
standby letters of credit in the aggregate amount of $4.8
million as of December 31, 2001 to secure the corporate
headquarters facility and furniture leases. During 2001, we
replaced our pledged short-term investments, serving as
collateral on the letters of credit, with cash and cash
equivalents and, accordingly, reclassified them as restricted
cash on the December 31, 2001 accompanying consolidated
balance sheet. The letters of credit and related restricted
funds have decreasing schedules that ultimately expire in 2002
and 2007, which correspond with their classification on the
accompanying consolidated balance sheets.

Our future contractual obligations include
minimum lease payments under operating leases at
December 31, 2001, and are as follows (in thousands):

|           |  |              |        | 
|---------- |  | ------------ | ------ | 
|           |  | December 31,
|           |  |             
|2002       |  | $            | 3,328  | 
|2003       |  |              | 2,594  | 
|2004       |  |              | 2,589  | 
|2005       |  |              | 2,622  | 
|2006       |  |              | 2,666  | 
|Thereafter |  |              | 2,483  | 
|           |  |              |        | 
|           |  | $            | 16,282 | 
|           |  |              |        | 

As of December 31, 2001, we did not have any
other contractual commitments or off-balance sheet arrangements.

Our interest income is sensitive to changes in
the general level of U.S. interest rates, particularly since the
majority of our investments are in short-term instruments. Due
to the nature of our short-term instruments, we do not have
material market risk exposure. During 2001, we experienced a
significant decline in interest income as a result of declining
investment yields originating from the economic slowdown during
the year. We expect that interest income in 2002 will be
significantly less than in 2001 due to lower interest rates.

The primary objective of our investment
activities is to preserve principal while at the same time
maximizing the income we receive from our investments without
significantly increasing risk. Some of the securities that we
have invested in may be subject to market risk. To minimize this
risk, our investment policy guidelines specify that we invest in
the highest investment grade securities and maintain a weighted
average maturity of nine months. Our investment portfolio may
contain securities with maturities of up to three years. We feel
that this minimizes our market risk exposure.

The majority of our operations are based in the
United States and, accordingly, the majority of our transactions
are denominated in U.S. dollars. However, we do have
foreign-based operations where transactions are denominated in
foreign currencies and are subject to market risk with respect
to fluctuations in the relative value of currencies. Currently,
we have operations in Australia, Canada, Japan, Mexico and the
United Kingdom and conduct transactions in either the local
currency of the location or in U.S. dollars. To date, the impact
of fluctuations in the relative value of other currencies has
not been material.

We expect to have total capital expenditures of
approximately $5.5 million in 2002. We anticipate that our
capital expenditures will increase over the next several years
as we expand our facilities and acquire equipment to support the
expansion of our research and development activities and
internal management information systems.

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We expect to continue to experience growth in our
operating expenses. We anticipate that operating expenses and
planned capital expenditures will continue to be a material use
of our cash resources. We intend to use our cash and cash
equivalents and short-term investments primarily to fund our
sales and marketing and research and development expenses, and
other working capital needs and for general corporate purposes,
including the development of our product lines through
acquisitions of products, technologies and businesses. We
believe that our existing cash and cash equivalents and
short-term investments, offset by any cash used in operating
activities, will be more than sufficient to meet our anticipated
cash needs for working capital and capital expenditures for the
next 12 months and the foreseeable future. If cash
generated from operations is insufficient to satisfy our
liquidity requirements, we may seek to sell additional equity or
debt securities or establish new financing arrangements. The
sale of additional equity or convertible debt securities could
result in additional dilution to our stockholders. We cannot
assure that any financing arrangements will be available in
sufficient amounts or on acceptable terms.

Our accounts receivable days sales outstanding
increased to 72 days for the fourth quarter of 2001 from
54 days for the fourth quarter of 2000, primarily due to a
greater proportion of our revenue originating from international
operations, where payment is typically slower than in the United
States and due to the general decline in the overall economy. We
expect our days sales outstanding to increase as we derive a
greater proportion of our revenue from international operations.

During the first half of 2001, we observed a
number of factors indicating a slowdown in corporate spending
for information technology and in the general economy. At the
beginning of the year, our sales cycle lengthened as our
prospects and customers confidence in the economy
deteriorated. During the second half of 2001, while some of our
prospects and customers renewed their commitments to us, others
continued to reevaluate or delay their capital plans due to
their own budget uncertainties. We cannot predict how long any
economy related trends will continue or the extent to which this
economic uncertainty will continue to impact our prospects and
customers. A deterioration in the economy, a reduction in the
level of corporate spending for information technology or other
matters may cause us to experience a material adverse effect on
our business, financial condition and results of operations.

Transactions
with Management

During the first quarter of 2002, notes
receivable due from certain officers totaling $363,800 were
satisfied by selling, at current fair market value, mature
shares of our common stock to us, which were retired
immediately. Notes receivable from our CFO were refinanced with
a full recourse note for approximately $1.5 million with
floating monthly interest of 325 basic points plus the
Federal Funds Rate. The note is payable in three payments of
principal and interest due annually through February 2005.

Recent Accounting Pronouncements

In November 2001, the staff of the Financial
Accounting Standards Board (FASB) issued an
announcement on the topic of Income Statement
Characterization of Reimbursements Received for Out of Pocket
Expenses Incurred. This announcement requires companies to
characterize reimbursements received for out-of-pocket expenses
incurred as revenue in the income statement. This announcement
should be applied in financial reporting periods beginning after
December 15, 2001 and comparative financial statements for
prior periods should be reclassified to comply with the guidance
in this announcement. Historically, we have recorded
reimbursements as a reduction of services cost of revenue and as
a result of this pronouncement, we will include these amounts in
revenue. The adoption of this pronouncement will not have a
material impact our results of operations or financial position.
However, the adoption of this pronouncement will reduce gross
profit margins and other measures of profitability to revenues.

In October 2001, the FASB issued SFAS
No. 144, Accounting for the Impairment or Disposal of
Long-lived Assets, which supersedes SFAS No. 121,
Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed of,and APB Opinion
No. 30, Reporting the Results of Operations 
Reporting the Effects of Disposal of a Segment of a Business,
and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions. SFAS No. 144 amends accounting and
reporting standards for the

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disposal of segments of a business and addresses
various issues related to the accounting for impairments or
disposals of long-lived assets. This SFAS is effective for
fiscal years beginning after December 15, 2001. The
adoption of this SFAS will not have a material impact on our
results of operations or financial position.


In August 2001, the FASB issued SFAS
No. 143, Accounting for Asset Retirement
Obligations, which addresses financial accounting and
reporting for obligations associated with the retirement of
tangible long-lived assets and the associated asset retirement
costs. This SFAS is effective for fiscal years beginning after
June 15, 2002. The adoption of this SFAS will not have a
material impact on our results of operations or financial
position.

In July 2001, the FASB issued SFAS No. 141,
Business Combinations, and SFAS No. 142, Goodwill
and Other Intangible Assets, effective for fiscal years
beginning after December 15, 2001. Under the new rules, the
pooling-of-interests method is no longer permitted, and goodwill
and other intangible assets that have indefinite useful lives
will no longer be amortized but will be subject to annual
impairment tests in accordance with the statements. Most other
intangible assets will continue to be amortized over their
useful lives. Goodwill and intangibles assets acquired after
June 30, 2001 will be subject to the new rules. The
adoption of this SFAS will not have a material impact on our
results of operations or financial position.

Factors That May Affect Our Future Results and
Market Price of Our Stock

Our future operating results may vary
substantially from period to period. The price of our common
stock will fluctuate in the future, and an investment in our
common stock is subject to a variety of risks, including but not
limited to the specific risks identified below. Inevitably, some
investors in our securities will experience gains while others
will experience losses depending on the prices at which they
purchase and sell securities. Prospective and existing investors
are strongly urged to carefully consider the various cautionary
statements and risks set forth in this report and our other
public filings.

Important factors currently known to our
management that could cause actual results to differ materially
from those in forward-looking statements include the disclosures
contained in this report as well as the following risks:

Our quarterly revenue, expenses and operating
results have fluctuated and are likely to continue to fluctuate,
which may cause our stock price to decline

Our quarterly revenue, expenses and operating
results could vary significantly from period to period. In
particular, we derive a significant portion of our software
license revenue in each quarter from a small number of
relatively large orders. A delay in the recognition of revenue
from one of these orders may cause our results of operations
during a quarter to be lower than we expect. The delay or
failure to close anticipated sales in a particular quarter could
reduce our revenue in that quarter and subsequent quarters over
which revenue for the sale could be recognized. In addition,
because our revenue from implementation, maintenance and
training services largely correlates with our license revenue, a
decline in license revenue could also cause a decline in our
services revenue in the same quarter or in subsequent quarters.
Our revenue, expenses and operating results may vary
significantly in response to the risk factors described in this
section, as well as the following factors, some of which are
beyond our control:



| |   |                                                                                                                                                                                            
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | a decrease in demand for our software or, more
	generally, for products that record and analyze the interactions
	between a business and its customers and/or provide electronic
	learning;
| |  | announcements or introductions of new products
	and services by our competitors;                                                                                                           
| |  | product pricing decisions by our competitors;                                                                                                                                              
| |  | the timely payment of fees due to us by our
	customers;                                                                                                                                    
| |  | our ability to develop, market and manage new
	software, software enhancements and services;                                                                                               
| |  | the deferral of orders for our software or delays
	in the implementation of our software from one quarter to a
	later quarter;                                                             
| |  | how quickly we are able to develop new software,
	software enhancements and services that our customers require;                                                                           
| |  | how much money we have to spend to improve our
	software, services and operations;                                                                                                         

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| |   |                                                                                                                                                                                                                                            
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | delays in installments of our software;                                                                                                                                                                                                    
| |  | the lengthiness and unpredictability of sales
	cycles for our software;                                                                                                                                                                    
| |  | the mix of revenue generated by software licenses
	and related services;                                                                                                                                                                   
| |  | spending limitations imposed on our customers or
	potential customers because of economic factors and decreased
	capital spending budgets, including limitations imposed after
	the sales cycle has begun but before a deal is consummated;
| |  | the timing and size of our capital expenditures
	and changes in our working capital;                                                                                                                                                       
| |  | the failure of our customers to renew their
	annual maintenance, either because they consolidate their
	contact centers or they stop using our product company-wide;                                                                       
| |  | general economic factors and changes in
	technology that could cause our existing and potential customers
	to decrease what they spend on customer relationship management
	software;                                                      
| |  | the economic conditions of the companies within
	the financial services and telecommunications industry verticals
	into which we have historically sold and expect to sell our
	software;                                                  
| |  | how successfully our reseller partners are able
	to resell our software; and                                                                                                                                                               
| |  | how successful we are in selling our products in
	new geographic markets.                                                                                                                                                                  

Due to the foregoing factors, we believe that
quarter-to-quarter comparisons of our operating results may not
be a good indication of our future performance, and you should
not rely on them to predict our future performance or the future
performance of our stock price. Historically, our revenue growth
has fluctuated from as low as a 5% decline to as high as a 58%
growth from one quarter to the next. If our future revenue or
operating results fall below the expectations of investors or
securities analysts, the price of our common stock would likely
decline.

We may make acquisitions or investments that
are not successful and that adversely affect our ongoing
operations

We may acquire or make investments in companies,
products, services and technologies which complement our
software and services. Because of the increasing use of new
customer interaction mediums such as the Internet and e-mail, we
believe that it may be important for us to acquire complementary
technology to quickly bring new products to market. We have very
limited experience in making acquisitions and investments. As a
result, our ability to identify prospects, conduct acquisitions
and to properly manage the integration of acquisitions is
unproven. If we fail to properly evaluate and execute
acquisitions or investments, it may seriously harm our business
and operating results. In making or attempting to make
acquisitions or investments, we face a number of risks,
including:



| |   |                                                                                                                                                                                                                           
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | the difficulty of identifying suitable
	acquisition or investment candidates, performing appropriate due
	diligence, identifying potential liabilities and negotiating
	acceptable terms for acquisitions and investments;
| |  | the potential distraction of our management,
	diversion of our resources and disruption of our business;                                                                                                                  
| |  | our retention and motivation of key employees of
	the acquired companies;                                                                                                                                                 
| |  | our entry into geographic markets in which we
	have little or no prior experience;                                                                                                                                        
| |  | competition for acquisition opportunities with
	competitors that are larger than us or have greater financial
	and other resources than we have;                                                                          
| |  | our inability to accurately forecast the
	financial impact of an acquisition or investment;                                                                                                                               
| |  | our inability to maintain good relations with the
	customers and suppliers of the acquired company; and                                                                                                                   
| |  | our inability to effectively integrate
	acquisition or investments into the company and achieve expected
	synergies.                                                                                                      

In addition, if we make or finance acquisitions
using convertible debt or equity securities with terms different
from our common stock, our existing stockholders may be diluted,
which could cause the market price of our stock to decline.

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Our software has a long sales cycle that makes
it difficult to plan our expenses and forecast our
results

Although it typically takes three to twelve
months from the time we qualify a sales lead until we sign a
contract with the customer, we occasionally experience a longer
sales cycle. It is therefore difficult to predict the quarter in
which a particular sale will occur. If our sales cycle
unexpectedly lengthens for one or more large orders or a
significant number of small orders, it would adversely affect
the timing of our revenue and the timing of our corresponding
expenditures. This could harm our ability to meet our financial
forecasts for a given quarter. Our customers decisions
regarding their purchase of our software and services is
relatively long due to several factors, including:



| |   |                                                                                                                                         
| | - | ----------------------------------------------------------------------------------------------------------------------------------------
| |  | the complex nature of our software;                                                                                                     
| |  | our need to educate potential customers about the
	uses and benefits of our software;                                                   
| |  | competition for a shrinking amount of corporate
	resources because of a slowing economy;                                                
| |  | the investment of money and other resources
	required by customers to purchase and implement our software;                              
| |  | customers budget cycles and operating
	activities, which affect the timing of their purchases;                                         
| |  | the competitive evaluation and internal approval
	process many of our customers undertake before purchasing our
	software and services; 
| |  | delayed purchases due to announcements or planned
	introductions of new software or software enhancements by us or
	our competitors; and
| |  | the length of time some of our larger customers
	require to make a decision to purchase our software and services.                      

Although we have recently achieved a quarterly
operating profit, we may experience quarterly losses from
operations in the future

We have only recently achieved a quarterly
operating profit. We have incurred substantial losses since our
inception and we may continue to suffer losses in the future. As
a result of our accumulated operating losses, we had an
accumulated deficit of $28.0 million as of December 31,
2001. In addition, we expect to continue to devote substantial
resources to research and development, professional services,
and sales and marketing activities. As a result, we will need to
generate significant revenue to sustain profitability in any
future period. If we do not continue to achieve profitability
from operations, or if we do not remain profitable on a net
basis, we may need to obtain additional financing. The financing
from other sources upon which we have historically relied may
not be available to us on acceptable terms. If we fail to remain
profitable, it will materially and adversely affect the market
price of our stock.

We rely heavily on sales of our eQuality
Balance and eQuality Evaluation software

Our financial performance has depended, and will
continue to depend, on our ability to develop and maintain
market acceptance of our eQuality Balance software and new and
enhanced versions of it. Historically, nearly all of our license
revenue has been derived from the sale of our eQuality Balance
and eQuality Evaluation software, and we expect revenue from
these two products to continue to account for most of our
revenue for the foreseeable future. Through December 31,
2001, we have recognized less than 5% of our revenue from
products other than eQuality Balance and eQuality Evaluation. As
a result, factors which adversely affect the pricing or demand
for our eQuality Balance and eQuality Evaluation software, such
as competitive pressures, technological change or evolution in
customer preferences, could materially and adversely affect our
business, financial condition and results of operations. Many of
these factors are beyond our control and difficult to predict.

If we fail to expand and manage our
international operations, we may be unable to reach or maintain
our desired levels of revenue or profitability

Revenue from customers located outside of North
America accounted for approximately 9% and 6% of our total
revenue for years ended December 31, 2001 and 2000,
respectively. We intend to continue to expand our international
operations through internal business expansion and strategic
business relationships. Our

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operations outside of North America at
December 31, 2001 consisted of 34 dedicated employees
located in Australia, Canada, Germany, Japan, Mexico, the
Netherlands and the United Kingdom. Most of our international
revenue through December 31, 2001 has come from
international branches of our customers based in North America.
We have established relationships with a small number of
international resellers but, through December 31, 2001, we
have not recognized a material amount of revenue from these
relationships. In addition to general risks associated with
international expansion, such as foreign currency fluctuations
and political and economic instability, our plans to expand
internationally may be adversely affected by a number of risks,
including:




| |   |                                                                                                                                                        
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | limited development of an international market
	for our software and services;                                                                         
| |  | the challenges we face in expanding and training
	our international sales force and support operations;                                                
| |  | expenses associated with customizing products for
	multiple countries;                                                                                 
| |  | longer payment cycles, different accounting
	procedures and difficulties in collecting accounts receivable;
	and                                       
| |  | multiple, conflicting and changing governmental
	laws and regulations governing intellectual property, call
	monitoring and the recording of employees.

As we further expand our operations outside the
United States, we will face new competitors and competitive
environments. In addition to the risks associated with our
domestic competitors, foreign competitors may pose an even
greater risk, as they may possess a better understanding of
their local markets and better working relationships with local
infrastructure providers and others. In particular, because
telephone protocols and standards are unique to each country,
local competitors will have more experience with, and may have a
competitive advantage in, these markets. We may not be able to
obtain similar levels of local knowledge or similar
relationships in foreign markets, which could place us at a
significant competitive disadvantage.

Conducting business internationally poses
risks that could affect our financial results

Even if we are successful in expanding our
operations internationally, conducting business outside North
America poses many risks that could adversely affect our
operating results. In particular, we may experience gains and
losses resulting from fluctuations in currency exchange rates,
for which hedging activities may not adequately protect us.
Moreover, exchange rate risks can have an adverse effect on our
ability to sell our products in foreign markets. Where we sell
our products in U.S. dollars, our sales could be adversely
affected by declines in foreign currencies relative to the
dollar, thereby making our products more expensive in local
currencies. Where we sell our products in local currencies, we
could be competitively unable to change our prices to reflect
fluctuations in the exchange rate. In recent periods, for
example, our revenues in Europe have been adversely affected by
the decline in the value of the Euro and its component
currencies relative to the U.S. dollar. Additional risks we face
in conducting business internationally include the following:
longer payment cycles; difficulties in staffing and managing
international operations; problems in collecting accounts
receivable; and the adverse effects of tariffs, duties, price
controls or other restrictions that impair trade. In addition,
we have limited experience in developing local language versions
of our products or in marketing our products to international
customers. We may not be able to successfully translate, market,
sell, and deliver our products internationally.

We face intense competition that could
adversely affect our revenue, profitability and market
share

The market for products that record customer
interactions, analyze performance and/or provide electronic
learning is intensely competitive, evolving and experiences
rapid changes in technology. We believe our principal
competitors include, but are not limited to:



| |   |                                                              
| | - | -------------------------------------------------------------
| |  | quality monitoring suppliers to the contact
	center industry;
| |  | traditional call-logging vendors;                            
| |  | electronic learning vendors;                                 
| |  | analytics vendors;                                           
| |  | systems integrators and consulting firms; and                

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| |   |                                                                                                                                                                        
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | new, larger and more established entities that
	may acquire, invest in or form joint ventures with providers of
	recording or performance enhancing software solutions.

Many of our current and potential competitors
have longer operating histories, more established business
relationships, larger customer bases, a broader range of
products and services, greater name recognition and
substantially greater financial, technical, marketing,
personnel, management, service, support and other resources than
we do. This could allow our current and potential competitors to
respond more quickly than we can to new or emerging technologies
and changes in customer requirements, take better advantage of
acquisitions and other opportunities, devote greater resources
to the marketing and sale of their products and services and
adopt more aggressive pricing policies. These competitors may
distinguish themselves from us on the basis of their longer
operating histories and ability to withstand difficult economic
conditions. Our competitors may also be able to offer products
at lower prices or with other incentives that we cannot match.
Additionally, the scope of our products and services may be
viewed as too narrow because some of our competitors offer a
broader range of products and services.

In addition, many of our competitors market their
products through resellers and companies that integrate their
technology and products with those of the competitor. These
resellers and technology partners of our competitors often have
strong business relationships with our customers and potential
customers. For example, some of our competitors have a better
and more long standing relationship with telephone switch
vendors. Our competitors may use these business relationships to
market and sell their products and compete for customers with
us. We cannot assure you that our competitors will not offer or
develop products and services that are superior to ours. In
addition, it is possible that resellers or technology partners,
such as certain telephone switch vendors, may acquire one or
more of our competitors, which would further solidify their
business relationships.

In addition, we have developed, and intend to
continue to develop, relationships with companies that resell
our software and companies that provide us with customer
referrals or leads, some of which may become competitors.
Revenue from our resellers accounted for approximately 2% and 8%
of our total revenue for the years ended December 31, 2001
and 2000, respectively. We expect revenue from our resellers,
and accordingly our dependence on resellers, to increase as we
establish more relationships with companies to resell our
software worldwide. We engage in joint marketing and sales
efforts with our resellers, and rely on them for recommendations
of our software during the evaluation stage of the purchase
process. When we enter into agreements with these companies, the
agreements are not exclusive and may ordinarily be terminated by
either party. Some of these companies have similar, and often
more established, relationships with our competitors, and may
recommend the products and services of our competitors to
customers instead of our software and services. In addition,
through their relationships with us, these companies could learn
about our software and the market for our software and services
and could develop and sell competing products and services. As a
result, our relationships with these companies could lead to
increased competition for us.

We expect that competition will increase as other
established and emerging companies enter our market and as new
products, services and technologies are introduced. Increased
competition may result in price reductions, lower gross margins
and loss of our market share. This could materially and
adversely affect our business, financial condition and results
of operations.

If we fail to develop new software or improve
our existing software to meet or adapt to the changing needs and
standards of our target market, sales of our software and
services may decline

Our future success depends upon our ability to
develop and introduce new software and software enhancements
which meet the needs of companies seeking to record and analyze
their interactions with customers and/or deliver electronic
learning to their employees. To achieve increased market
acceptance of our software and services, we must, among other
things, continue to:



| |   |                                                                                                 
| | - | ------------------------------------------------------------------------------------------------
| |  | improve our existing software and introduce new
	software solutions;                            
| |  | incorporate new technology into our software and
	services on a timely and cost-effective basis;
| |  | keep pace with the products and services of our
	competitors;                                   
| |  | satisfy the changing requirements of our current
	and potential customers;                      

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| |   |                                                                                                                                                     
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------
| |  | improve the effectiveness of our software,
	particularly in implementations involving very large databases
	and large numbers of simultaneous users;
| |  | enhance our softwares ease of
	administration;                                                                                                     
| |  | improve our softwares ability to extract
	data from existing software systems; and                                                                 
| |  | adapt to rapidly changing computer operating
	system, database and software platform standards and Internet
	technology.                            

In addition, industry standards may not be
established, or we may not be able to conform to new standards
in a timely fashion to remain competitive. Our failure to
conform to prevailing technology standards in our industry could
limit our ability to compete and adversely affect our business.

We may require substantial product development
expenditures and lead-time to keep pace and ensure compatibility
with new technology in our industry. If we fail to develop and
introduce new software and enhancements for our existing
software, our software and services may not achieve market
acceptance and we may be unable to attract new customers. We may
also lose existing customers, to whom we seek to sell additional
software and services. During the years ended December 31,
2001 and 2000, we introduced five new eQuality product
modules  eQuality Discover, Interactive, Response,
Connect, and Now. These new modules generated less than 5% of
our total license revenue during the years ended
December 31, 2001 and 2000. The success of these modules is
dependent upon contact centers, adoption of new technologies
that will enable them to interact with their customers via
e-mail and collaborative Web chat sessions and the adoption of
electronic learning applications in the customer contact center.
We cannot predict how quickly, if ever, contact centers will
adopt this new technology. If this does not happen, it could
materially and adversely affect our business, financial
condition, and results of operations.

If we encounter problems with the release of
the new version of our eQuality Balance product or if the
product does not achieve market acceptance, it may adversely
affect our future revenues and profitability

We released for general availability version six
of our eQuality Balance product in July 2001. As with any new
version of a product there are significant factors that may
adversely affect anticipated future revenues, including:



| |   |                                                                                                                      
| | - | ---------------------------------------------------------------------------------------------------------------------
| |  | unexpected delays in the introduction and
	implementation of the product;                                            
| |  | unexpected problems or defects with the product;                                                                     
| |  | changes required to the integrations connections
	between our product and the surrounding operating environment;
	and
| |  | market acceptance of the product.                                                                                    

Because of these and additional risks, both known
and unknown, we cannot be certain that future revenues generated
by this product will meet expectations. Failure of these
revenues to develop could have a material adverse effect on our
business, results of operations and financial condition.

Our products may fail to perform properly,
which may cause us to incur additional expenses or lose
sales

Our software is used in a complex operating
environment that requires its integration with computer and
telephone networks and other business software applications.
Furthermore, the hardware, software and network systems
generally used in conjunction with our software, particularly
telephone standards and protocols, change rapidly. The evolution
of these standards may cause our products to function slowly or
improperly. Poor product performance may necessitate
redevelopment of our product or other costly reengineering
measures which may divert our management and product development
resources and funds. Due to the large number of, and variations
in, computer and telephone network systems and applications, as
well as the rapid changes in these products, our testing process
may be unable to duplicate all possible environments in which
our software is expected to perform. Any errors or defects that
are discovered after we release new or enhanced software could
cause us to lose revenue, cause a delay in the market acceptance
of our software, damage our customer relationships and
reputation and increase our service and warranty costs. All of
these problems could be exacerbated as we move our product to
the latest software technologies and platforms.

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Our failure to protect our intellectual
property may lead to third parties using our technology for
their own benefit and our failure to access third-party
technology could delay the development or sale of our
software

Our success depends to a significant degree upon
the legal protection of our software and other proprietary
technology rights. We rely on a combination of patent, trade
secret, copyright and trademark laws and confidentiality and
non-disclosure agreements with employees and third parties to
establish and protect our proprietary rights. These measures may
not be sufficient to protect our proprietary rights, and we
cannot be certain that third parties will not misappropriate our
technology and use it for their own benefit. Also, most of these
protections do not preclude our competitors from independently
developing products with functionality or features substantially
equivalent or superior to our software. Any failure to protect
our intellectual property could have a material adverse effect
on our business.

As of March 15, 2002, we have four U.S.
registered trademarks, one patent generally relating to our
voice/data synchronization technology and data capture technique
and six patent applications pending. There is no guarantee that
our pending applications will result in issued patents or, if
issued, that they will provide us with any competitive
advantages. We cannot assure you that we will file further
patent, trademark or copyright applications, that any future
applications will be approved, that any existing or future
patents, trademarks or copyrights will adequately protect our
intellectual property or that any existing or future patents,
trademarks or copyrights will not be challenged by third
parties. Furthermore, one or more of our existing or future
patents, trademarks or copyrights may be found to be invalid or
unenforceable.

We are aware of certain uses, U.S. trademark
registrations, and U.S. trademark applications for the trademark
eQuality and its variations that predate our use of,
and U.S. trademark application for, our trademark eQuality. It
is possible that the U.S. Patent and Trademark Office will deny
our U.S. trademark application. In addition, it is possible that
the owner of legal rights resulting from one or more of these
prior uses, U.S. trademark registrations, or U.S. trademark
applications will bring legal action to prevent us from
registering and/or using the trademark eQuality, and may also
seek compensation for damages resulting from our use of this
trademark. As a result, we cannot assure you that our efforts to
use and register this trademark will ultimately be successful,
or that this use will not result in liability for trademark
infringement, trademark dilution, and/or unfair competition.

Moreover, the laws of other countries in which we
market our products may afford little or no effective protection
of our proprietary technology. If we resort to litigation to
enforce our intellectual property rights, the proceedings could
be burdensome and expensive, would likely divert valuable
management and product development resources and could involve a
high degree of risk, regardless of whether we win or lose the
litigation.

We rely on technology licensed from third
parties, including databases, application programming
interfaces, developmental tools and software necessary to
integrate our software with third-party technology and products.
In addition, third-party products are bundled with our software.
If we lose access to this technology, or if it is not available
to us on reasonable terms, it could cause delays in our
development and introduction of new and enhanced software until
we can obtain equivalent or replacement technology, if
available, or develop this technology internally, if feasible.
If we lost access to technology that is bundled with our
software, this would require us to modify or redesign our
software and could cause a delay in our ability to market and
sell our current software, or a delay in our ability to develop,
market and sell new or enhanced software. This delay or a
failure to obtain replacement technology could have a material
adverse effect on our business, financial condition and results
of operations.

Claims by other companies that our software
infringes their intellectual property could require us to incur
substantial expenses or prevent us from selling our software or
services

If any of our software violates the intellectual
property rights of others, we may be required to reengineer or
redevelop our software, seek to obtain licenses from third
parties to continue offering our software without substantial
reengineering, or conduct studies of such intellectual property
rights so as to evaluate whether such intellectual property
rights are valid or enforceable. Any efforts to reengineer our
software or obtain licenses

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from third parties may not be successful, could
be extremely costly and would likely divert valuable management
and product development resources. Our efforts to study the
intellectual property rights of third parties may not be
successful and could reveal that such intellectual property
rights are valid and enforceable, could be extremely costly and
would likely divert valuable management and product development
resources.


In addition, in the rapidly developing
technological environment in which we operate, third parties may
have filed a number of patent applications, many of which are
confidential when filed. If our software is found to violate
these patents when they are issued or any other intellectual
property of others, we may become subject to claims for
infringement. An infringement claim against us could result in
the loss of our proprietary rights and, whether meritorious or
not, could be time-consuming, result in costly litigation or
require us to pay damages or enter into royalty or licensing
agreements on terms that are unfavorable to us. Royalty or
licensing agreements might not be available to us on reasonable
terms or at all. In addition, our customers may become subject
to claims if the software they license from us is alleged to
infringe the intellectual property of others.

If we decide to, or are forced to, litigate any
of these claims, the litigation could be expensive and
time-consuming, could divert our managements attention
from other matters, and could otherwise materially and adversely
affect our business, financial condition and results of
operations, regardless of the outcome of the litigation.
Litigation and intellectual property claims against us could
also disrupt our sale of software. Additionally, it could lead
to claims by third parties against our customers and others
using our software. Our customers and these other users of our
software would likely hold us responsible for these claims and
any resulting harm they suffer.

We expect that we and other participants in our
industry and related industries will be increasingly subject to
infringement claims as the number of competitors with patent and
other intellectual property portfolios in these industries
grows. Although patent and intellectual property disputes may be
settled through licensing or similar arrangements, costs
associated with these arrangements may be substantial and we
cannot assure you that necessary licenses or similar
arrangements will be made available to us on a reasonable basis
or at all. Consequently, if we become subject to an adverse
determination in a judicial or administrative proceeding or we
fail to obtain necessary licenses it could prevent us from
producing and selling some or potentially all of the components
of our software. This would have a material adverse effect on
our business, financial condition and results of operations.

We believe that our future success also
depends upon the continued ability of our software to be
compatible with the products and other technologies offered by
other software and hardware companies

Our software must integrate with software and
hardware solutions provided by a number of our existing and
potential competitors. These competitors or their business
partners could alter their products so that our software no
longer integrates well with them, or they could delay or deny
our access to software releases that allow us to timely adapt
our software to integrate with their products. They could thus
effectively prevent us from modifying our software to keep pace
with the changing technology of their products. If we cannot
adapt our software to changes in our competitors
technology, it may significantly impair our ability to compete
effectively, particularly if our software must integrate with
the software and hardware solutions of our competitors.

New products may not be compatible with our
software, but may be compatible with the products of our
competitors. For example, our products must integrate with phone
switches made by the telephone switch vendors, and computer
telephony software applications offered by other software
providers. If our products are not compatible with the new
technologies offered by other software and hardware companies,
it would have a material adverse effect on our business and
results of operations.

If the market in which we sell our software
and services does not grow as we anticipate, we will be unable
to continue our growth

The market for customer relationship management
software, including software that records and analyzes customer
interactions, is still emerging. In addition, we are continuing
to expand our product offering with products such as eQuality
Discover. If the market for this software does not grow as
quickly or become as

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large as we anticipate, we may not be able to
continue our growth or may grow more slowly than expected.
Continued growth in demand for this software remains uncertain
because our potential customers may:




| |   |                                                                                                                                                                                                              
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | not understand the benefits of using customer
	relationship management software generally or, more
	specifically, software which records and analyzes the
	interactions between a business and its customers;
| |  | not achieve favorable results using this software;                                                                                                                                                           
| |  | experience technical difficulty in implementing
	this software; or                                                                                                                                           
| |  | use alternative methods such as online self-help
	to solve the same business problems this software is intended to
	address.                                                                                 

In addition, our software is designed to address
the needs of contact centers. If the number of contact centers
does not increase as we expect, or if it grows more slowly than
we anticipate, we may not be able to continue our growth or may
grow more slowly than expected.

If we do not continue to expand the
distribution of our products through direct and indirect sales
channels, we may be unable to expand our market share or
increase our revenue

To expand our market share and revenue, attract
new customers and increase sales to existing customers, we will
need to expand our direct and indirect channels of distribution.
Although we received approximately 98% of our revenue from
direct sales for the year ended December 31, 2001, we will
require an increase in our direct sales to achieve our growth
plans. To accomplish this, we will need to expand our direct
sales force by hiring additional sales personnel and management,
and increase the number of relationships we have with companies
that provide us with customer referrals or leads for new
business. Historically, it has taken us up to six months to
train new sales personnel before they reach an acceptable level
of productivity. We have also experienced difficulty in finding
new sales personnel with experience in computer and telephone
integration technologies. We cannot assure you that we will be
able to continue to find an adequate number of new sales
personnel meeting our specific needs. If the personnel we hire
are less qualified, it may take us more time to train them and
they may take a longer time to reach an acceptable level of
productivity. We cannot assure you that we will be able to hire
the necessary sales personnel and management on reasonable
terms, or at all. Moreover, we will be required to train any new
personnel, and the new personnel may not reach full productivity
for a long period of time.

We also intend to derive revenue from our
indirect sales channel through relationships with companies that
resell our software. In particular, we intend to use resellers
to increase our sales internationally and to market our software
to small and medium contact centers.

Through December 31, 2001, we have entered
into agreements with only a small number of companies that
resell our software and companies that provide us with customer
referrals. For the years ended December 31, 2001 and 2000,
approximately 2% and 8%, respectively, of our revenue was
generated through these resellers. When we enter into agreements
with these companies, they are not exclusive and may ordinarily
be terminated by either party. Some of these companies have
similar, and often more established, relationships with our
competitors, and may recommend the products and services of our
competitors to customers instead of our software and services.
We cannot assure you that we will be able to maintain productive
relationships or that we will be able to establish similar
relationships with additional companies on a timely basis, or at
all. In addition, we cannot be certain that these distribution
partners will devote adequate resources to selling our software
and services. If we are unable to maintain and expand our direct
sales force and indirect distribution channels, we will not be
able to increase our revenue and our business will suffer.

If our internal professional services
employees do not provide installation services effectively and
according to schedule, our customers may not use our
implementation services or may stop using our software

Customers that license our products ordinarily
purchase installation, training and maintenance services, which
they typically obtain from our internal professional services
organization. Because our software must be installed to work
with a number of computer and telephone network systems,
installation of our software can be difficult. These systems
vary greatly from one customer site to another, and the versions
and integration

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requirements of these third-party systems change
frequently. We believe that the speed and quality of
installation services are competitive factors in our industry.
If our installation services are not satisfactory to our
customers, the customers may choose to not use our
implementation services to install software they license from
us. In addition, these customers may determine that they will
not license our software and instead will use the products and
services of one of our competitors. If this happens, we would
lose licensing and services revenue from these customers, and it
would likely harm our reputation in the industry in which we
compete. This could materially and adversely affect our
business, financial condition and results of operations.


If we need additional financing to maintain or
expand our business, it may not be available on favorable terms,
or at all

Although we believe our current cash and
borrowing capacity will be sufficient to meet our anticipated
cash needs for working capital and capital expenditures for at
least the next 12 months and the foreseeable future, we may
need additional funds to expand or meet all of our operating
needs. If we need additional financing, we cannot be certain
that it will be available to us on favorable terms, or at all.
If we raise additional funds by issuing equity securities, the
ownership interest of our stockholders would be significantly
diluted, and any additional equity securities we issue may have
rights, preferences or privileges senior to the rights of our
stockholders. Also, the terms of any additional financing we
obtain may significantly limit our future financing and
operating activities. If we need funds and cannot raise them on
acceptable terms, we may be forced to sell assets or seek to
refinance our outstanding obligations. We may also be unable to:



| |   |                                                                         
| | - | ------------------------------------------------------------------------
| |  | develop and enhance our software to remain
	competitive;                
| |  | take advantage of future opportunities, such as
	acquisitions;          
| |  | respond to changing customer needs and our
	competitors innovations; or
| |  | attract and retain qualified key personnel.                             

Any of these events could significantly harm our
business and financial condition and limit our growth.

Seasonal trends in sales of business software
or customer interaction levels may affect our quarterly
revenue

The market for business software has experienced
seasonal fluctuations in demand. The first and third quarters of
the year have been typically characterized by slightly longer
sales cycles related to holiday and vacation schedules. We
believe that these fluctuations are caused in part by customer
buying patterns, which are influenced by year-end budgetary
pressures and by sales force commission structures. Customer
interaction centers typically experience much higher volumes of
customer contact during and immediately following the year-end
holiday season. As a result, many customers may elect to defer
installation of our software during this time. This has caused
us to experience, and we expect to continue to experience,
seasonal fluctuations in our revenue.

We expect to face difficulty in attracting and
retaining key personnel, which are necessary to effectively
manage and expand our business

Our future success will depend in large part on
our ability to hire, train, retain and motivate a sufficient
number of qualified personnel, particularly in sales, marketing,
research and development, service and support. In particular,
competition for research and development personnel with computer
and telephone integration skills is intense, and turnover of
technical personnel is particularly high in our industry. We
expect to face additional difficulties retaining personnel who
have stock options with exercise prices above the fair market
value of our stock. In order to retain some of our personnel, we
will need to grant additional options to purchase common stock
to these employees with exercise prices equal to the fair market
value of our stock, which will cause dilution to our
stockholders. If we are unable to attract and retain qualified
personnel or if we experience high personnel turnover, it would
increase our costs of operations and could prevent us from
effectively managing and expanding our business.

Our future success also depends upon the
continued service of our executive officers, particularly our
Chairman and Chief Executive Officer, David Gould. We have an
employment agreement with Mr. Gould

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and limited non-compete agreements with all of
our executive officers. However, any of our executive officers
and other employees could terminate his or her relationship with
us at any time. The loss of the services of our executive
officers or other key personnel could materially and adversely
affect our business. In addition, if one or more of our
executive officers or key employees were to join one of our
competitors or otherwise compete with us, it could harm our
business.


Our failure to properly manage our rapid
growth could strain our resources and make it difficult to
support our future operations

Our business could suffer if we fail to
effectively manage our growth. Our revenue increased
approximately 41% and 91% during the years ended December 31,
2001 and 2000, respectively, from the previous year. Although we
expect revenue to grow on an annual basis, we do not expect to
maintain this same rate of revenue growth year over year. From
December 31, 2000 to December 31, 2001, the number of
our employees increased from approximately 275 to 327. This
growth in our revenue and number of employees has placed, and
will continue to place, a significant strain on our management,
personnel, systems, controls and other resources. If we are
unable to effectively manage our growth, it may be difficult to
support our future operations. To manage growth effectively, we
must:



| |   |                                                                                                                                    
| | - | -----------------------------------------------------------------------------------------------------------------------------------
| |  | accurately predict the growth in demand for our
	software and expand our capacity and implementation services to
	meet that demand;
| |  | expand and improve our operating and financial
	systems, procedures and controls;                                                  
| |  | attract, train, motivate, manage and retain key
	personnel;                                                                        
| |  | expand our facilities;                                                                                                             
| |  | successfully integrate the operations and
	personnel of any businesses we acquire; and                                             
| |  | respond quickly and effectively to unanticipated
	changes in our industry.                                                         

Government regulation of telephone and
Internet monitoring could cause a decline in the use of our
software, result in increased expenses for us or subject us and
our customers to liability

As the telecommunications industry continues to
evolve, state, federal and foreign governments may increasingly
regulate the monitoring of telecommunications and telephone and
Internet monitoring and recording products, such as our
software. We believe that increases in regulation could come in
the form of a number of different kinds of laws, including
privacy and employment regulations. The adoption of new laws
governing the use of our software or changes made to existing
laws could cause a decline in the use of our software and could
result in increased expenses for us, particularly if we are
required to modify our software to accommodate these new or
changing laws. Moreover, new laws or changes to existing laws
could subject us and our customers to liability. In addition,
whether or not these laws are adopted, if we do not adequately
address the privacy concerns of consumers, companies may be
hesitant to use our software. If any of these events occur, it
could materially and adversely affect our business.

Our management and affiliates control a large
percentage of our voting stock and could exert significant
influence over matters requiring stockholder approval

At March 15, 2002, our executive officers
and directors and their affiliates together controlled
approximately 27% of our outstanding common stock. As a result,
these stockholders, if they act together, will be able to exert
significant influence over all matters requiring stockholder
approval, including the election of our directors and the
approval of significant corporate transactions. This control may
have the effect of delaying, preventing or deterring a change in
control of Witness Systems and could deprive our stockholders of
an opportunity to receive a premium for their common stock as
part of any sale or acquisition.

Future sales of common stock and the rights of
some of our stockholders to register sales of their stock could
adversely affect the market price of our stock

Sales of a substantial number of shares of our
common stock can cause the market price of our common stock to
decline or can make it more difficult for us to raise funds
through the sale of equity in the future. The

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shares of common stock sold in our initial public
offering generally are freely tradable without restriction. At
March 15, 2002, 6,676,530 shares of common stock
outstanding are restricted securities as defined in
Rule 144 under the Securities Act. The holders of these
shares of common stock may sell them in the future without
registration under the Securities Act if they comply with
Rule 144, Rule 701 or any other applicable exemption
under the Securities Act.


Some of our existing stockholders have the right
to require us to register under the Securities Act shares of
their common stock at any time. Once we register these shares,
they can be freely sold in the public market.

Our stock price has been volatile

The market price of our common stock could be
subject to significant fluctuations in response to variations in
quarterly operating results and other factors. In addition, the
securities markets have experienced significant price and volume
fluctuations from time to time that have often been unrelated or
disproportionate to the operating performance of particular
companies. Any announcement with respect to any adverse variance
in revenue or earnings from levels generally expected by
securities analysts or investors for a given period could have
an immediate and significant adverse effect on the trading price
of our common stock. In addition, factors such as announcements
of technological innovations or new products by us, our
competitors or third parties, changing conditions in the market
for products that record and analyze customer interactions,
changes in estimates by securities analysts, announcements of
extraordinary events, such as acquisitions or litigation, or
general economic conditions may have an adverse effect on the
market price of the common stock.

Our certificate of incorporation and bylaws,
as well as Delaware law, may prevent or delay a future
takeover

Our amended and restated certificate of
incorporation and bylaws contain provisions which could make it
harder for a third party to acquire us without consent of our
board of directors. For example, if a potential acquirer were to
make a hostile bid for us, the acquirer would not be able to
call a special meeting of stockholders to remove our board of
directors or act by written consent without a meeting. In
addition, our board of directors has staggered terms which makes
it difficult to remove all our directors at once. The acquirer
would also be required to provide advance notice of its proposal
to remove directors at an annual meeting.

Our board of directors has the ability to issue
preferred stock which would significantly dilute the ownership
of a hostile acquirer. In addition, Delaware law limits business
combination transactions with 15% stockholders that have not
been approved by the board of directors. These provisions and
other similar provisions make it more difficult for a third
party to acquire us without negotiation.




Item 7A.     Qualitative
and Quantitative Disclosures About Market Risk

None.




Item 8.     Financial
Statements and Supplementary Data

Our consolidated financial statements, together
with related notes and the report of KPMG LLP, our independent
auditors, are set forth on the pages indicated in Item 14.




Item 9.     Changes
in and Disagreements with Accountants on Accounting and
Financial Disclosures

None.

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PART III

Certain information required by Part III is
omitted from this Report in that the Company will file a
definitive proxy statement within 120 days after the end of
this fiscal year pursuant to Regulation 14A (the
Proxy Statement) for its 2002 Annual Meeting of
Stockholders proposed to be held on May 29, 2002, and the
information included therein is incorporated herein by reference.




Item 10.     Directors
and Executive Officers of Registrant

The information required by this Item is
incorporated by reference from the Proxy Statement under the
headings Election of Directors and Executive
Compensation.




Item 11.     Executive
Compensation

The information required by this Item is
incorporated by reference from the Proxy Statement under the
heading Executive Compensation.




Item 12.     Security
Ownership of Certain Beneficial Owners and
Management

The information required by this Item is
incorporated by reference from the Proxy Statement under the
heading Security Ownership of Certain Beneficial Owners
and Management.




Item 13.     Certain
Relationships and Related Transactions.

The information required by this Item is
incorporated by reference from the Proxy Statement under the
heading Executive Compensation.




Item 14.     Exhibits,
Financial Statement Schedules and Reports on
Form 8-K

a) The following documents are filed as part
of this report:

|                                |                                                            |      |  |      | 
|------------------------------- | ---------------------------------------------------------- | ---- |  | ---- | 
|                                |                                                            | Page
|                                |                                                            |     
|1. Financial Statements         |                                                            |      |  |     
|                                | Independent Auditors Report                               |      |  | F-2  | 
|                                | Consolidated Balance Sheets                                |      |  | F-3  | 
|                                | Consolidated Statements of Operations                      |      |  | F-4  | 
|                                | Consolidated Statements of Stockholders
	Equity (Deficit) |      |  | F-5  | 
|                                | Consolidated Statements of Cash Flows                      |      |  | F-6  | 
|                                | Notes to Consolidated Financial Statements                 |      |  | F-7  | 
|2. Financial Statement Schedule |                                                            |      |  |     
|                                | Schedule II  Valuation and Qualifying
	Accounts           |      |  | F-20 | 

b) Reports on Form 8-K:

No reports on Form 8-K were filed by the
Registrant during the fiscal quarter ended December 31,
2001.

(c) Exhibits

38



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##### Table of Contents



|        |          |  |  |             |  |                                                                                                                                                                              
|------- | -------- |  |  | ----------- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Exhibit |          |  |  |            
|Number  |          |  |  | Description
|        |          |  |  |            
|        | 3.1(2)   |  |  |            |  | Fifth Amended and Restated Certificate of
	Incorporation of the Company.                                                                                                     
|        | 3.2(1)   |  |  |            |  | Amended and Restated Bylaws of the Company.                                                                                                                                  
|        | 4.1(2)   |  |  |            |  | See Exhibit 3.1 for provisions of the Fifth
	Amended and Restated Certificate of Incorporation of the Company
	defining rights of the holders of Common Stock of the Company.
|        | 4.2(4)   |  |  |            |  | See Exhibit 3.2 for provisions of the
	Amended and Restated Bylaws of the Company defining rights of
	the holders of Common Stock of the Company.                            
|        | 4.3(1)   |  |  |            |  | Specimen Stock Certificate.                                                                                                                                                  
|        | 10.1(1)  |  |  |            |  | Office Lease Agreement between Regency Park West
	Associates, L.P. and the Company, dated April 15, 1997.                                                                    
|        | 10.2(3)  |  |  |            |  | Lease Agreement between Company and Colonial
	Center at Mansell Overlook/ Colonial Business Center dated
	July 28, 2000.                                                     
|        | 10.3(1)  |  |  |            |  | Amended and Restated Stock Incentive Plan of the
	Company.                                                                                                                   
|        | 10.4(2)  |  |  |            |  | Amendment No. 1 to the Companys
	Amended and Restated Stock Incentive Plan                                                                                                  
|        | 10.5(5)  |  |  |            |  | Form of Stock Option Grant Certificate.                                                                                                                                      
|        | 10.6(1)  |  |  |            |  | Form of Amendment to Stock Option Grant
	Certificate between the Company and certain of the officers of
	the Company.                                                        
|        | 10.7(4)  |  |  |            |  | Employee Stock Purchase Plan of the Company.                                                                                                                                 
|        | 10.8(1)  |  |  |            |  | Employment Agreement entered into between David
	B. Gould and the Company effective February 2, 1999.                                                                        
|        | 10.9(1)  |  |  |            |  | Amendment No. 1 to Employment Agreement
	entered into between David B. Gould and the Company, dated as of
	August 2, 1999.                                                   
|        | 10.10*   |  |  |            |  | Promissory Note dated March 15, 2002,
	between the Company and David Gould.                                                                                                  
|        | 10.11*   |  |  |            |  | Form of Pledge Agreement between the Company and
	David Gould.                                                                                                               
|        | 10.12(1) |  |  |            |  | Restricted Stock Award Agreement dated
	March 31, 1999, between the Company and David Gould.                                                                                 
|        | 10.13(1) |  |  |            |  | Amended and Restated Registration Rights
	Agreement dated as of August 2, 1999, as amended, among the
	Company and certain shareholders of the Company.                      
|        | 10.14(1) |  |  |            |  | Subsidiary License and Distribution Agreement.                                                                                                                               
|        | 10.15(1) |  |  |            |  | Form of Indemnification Agreement for executive
	officers and directors of the Company.                                                                                      
|        | 21.1*    |  |  |            |  | List of subsidiaries.                                                                                                                                                        
|        | 23.1*    |  |  |            |  | Independent Auditors Report on Financial
	Statement Schedule of KPMG LLP.                                                                                                   
|        | 23.2*    |  |  |            |  | Independent Auditors Consent of KPMG LLP.                                                                                                                                   






| |   |               
| | - | --------------
| | * | Filed herewith

|    |                                                                                                                                             
|--- | --------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Incorporated by reference to exhibits previously
	filed with the Companys Registration Statement on
	Form S-1 (File No. 333-91383)         
|(2) | Incorporated by reference to exhibits previously
	filed with the Companys Registration Statement on
	Form S-8 (File No. 333-67416)         
|(3) | Incorporated by reference to exhibits previously
	filed with the Companys Quarterly Report on Form 10-Q
	for the period ended June 30, 2000
|(4) | Incorporated by reference to exhibits previously
	filed with the Companys Annual Report on Form 10-K
	for the year ended December 31, 1999 
|(5) | Incorporated by reference to exhibits previously
	filed with the Companys Annual Report on Form 10-K
	for the year ended December 31, 2000 

39



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##### Table of Contents



WITNESS SYSTEMS, INC.

INDEX TO CONSOLIDATED FINANCIAL
STATEMENTS

|                                                                                                                  |  |      |     | 
|----------------------------------------------------------------------------------------------------------------- |  | ---- | --- | 
|                                                                                                                  |  | Page
|                                                                                                                  |  |     
|Independent Auditors Report                                                                                      |  |      | F-2 | 
|Consolidated Balance Sheets as of
	December 31, 2001 and 2000                                                     |  |      | F-3 | 
|Consolidated Statements of Operations for the
	years ended December 31, 2001, 2000, and 1999                      |  |      | F-4 | 
|Consolidated Statements of Stockholders
	Equity (Deficit) for the years ended December 31, 2001,
	2000, and 1999 |  |      | F-5 | 
|Consolidated Statements of Cash Flows for the
	years ended December 31, 2001, 2000, and 1999                      |  |      | F-6 | 
|Notes to Consolidated Financial Statements                                                                        |  |      | F-7 | 

F-1



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##### Table of Contents



INDEPENDENT AUDITORS REPORT

The Board of Directors

Witness Systems, Inc.:


We have audited the accompanying consolidated
balance sheets of Witness Systems, Inc. and subsidiaries (the
Company) as of December 31, 2001 and 2000, and
the related consolidated statements of operations,
stockholders equity (deficit) and cash flows for each
of the years in the three-year period ended December 31,
2001. These consolidated financial statements are the
responsibility of the Companys management. Our
responsibility is to express an opinion on these consolidated
financial statements based on our audits.

We conducted our audits in accordance with
auditing standards generally accepted in the United States of
America. Those standards require that we plan and perform the
audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant
estimates made by management as well as evaluating the overall
financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.

In our opinion, the consolidated financial
statements referred to above present fairly, in all material
respects, the financial position of Witness Systems, Inc. and
subsidiaries at December 31, 2001 and 2000, and the results
of their operations and their cash flows for each of the years
in the three-year period ended December 31, 2001 in
conformity with accounting principles generally accepted in the
United States of America.



| |             
| | ------------
| | -s- KPMG LLP

Atlanta, Georgia

January 25, 2002


F-2



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##### Table of Contents



WITNESS SYSTEMS, INC. AND
SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

|                                      |                                                                                                                                                                   |                            |        |         |        |   |        |         |        | 
|------------------------------------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------- | -------------------------- | ------ | ------- | ------ | - | ------ | ------- | ------ | 
|                                      |                                                                                                                                                                   |                           
|                                      |                                                                                                                                                                   | December 31,              
|                                      |                                                                                                                                                                   |                           
|                                      |                                                                                                                                                                   | 2001                       |        | 2000   
|                                      |                                                                                                                                                                   |                            |        |        
|                                      |                                                                                                                                                                   |                           
|                                      |                                                                                                                                                                   | (In thousands, except     
|                                      |                                                                                                                                                                   | share data)               
|ASSETS                               
|Current assets:                       |                                                                                                                                                                   |                            |        |         |        |   |        |        
|                                      | Cash and cash equivalents                                                                                                                                         |                            | $      | 23,209  |        |   | $      | 29,590  |       
|                                      | Restricted cash                                                                                                                                                   |                            |        | 1,088   |        |   |        |        |       
|                                      | Short-term investments                                                                                                                                            |                            |        | 32,500  |        |   |        | 34,747  |       
|                                      | Accounts receivable, net of allowance for
	doubtful accounts of $1,454 in 2001 and $775 in 2000                                                                   |                            |        | 13,765  |        |   |        | 8,278   |       
|                                      | Prepaid and other current assets                                                                                                                                  |                            |        | 3,503   |        |   |        | 2,775   |       
|                                      |                                                                                                                                                                   |                            |        |         |        |   |        |        
|                                      |                                                                                                                                                                   | Total current assets       |        |         | 74,065 |   |        |         | 75,390 | 
|Restricted cash and investments       |                                                                                                                                                                   |                            | 4,170  |         |        |   | 3,660  |        
|Property and equipment, net           |                                                                                                                                                                   |                            | 5,230  |         |        |   | 4,907  |        
|Intangible and other assets, net      |                                                                                                                                                                   |                            | 701    |         |        |   | 2,509  |        
|                                      |                                                                                                                                                                   |                            |        |         |        |   |        |        
|                                      |                                                                                                                                                                   | $                          | 84,166 |         |        | $ | 86,466 |        
|                                      |                                                                                                                                                                   |                            |        |         |        |   |        |        
|LIABILITIES AND STOCKHOLDERS
	EQUITY
|Current liabilities:                  |                                                                                                                                                                   |                            |        |         |        |   |        |        
|                                      | Accounts payable                                                                                                                                                  |                            | $      | 3,343   |        |   | $      | 2,770   |       
|                                      | Accrued expenses                                                                                                                                                  |                            |        | 6,564   |        |   |        | 8,592   |       
|                                      | Deferred revenue                                                                                                                                                  |                            |        | 8,205   |        |   |        | 5,516   |       
|                                      |                                                                                                                                                                   |                            |        |         |        |   |        |        
|                                      |                                                                                                                                                                   | Total current liabilities  |        |         | 18,112 |   |        |         | 16,878 | 
|                                      |                                                                                                                                                                   |                            |        |         |        |   |        |        
|                                      |                                                                                                                                                                   | Total liabilities          |        |         | 18,112 |   |        |         | 16,878 | 
|                                      |                                                                                                                                                                   |                            |        |         |        |   |        |        
|Commitments and contingencies         |                                                                                                                                                                   |                            |        |         |        |   |        |        
|Stockholders equity:                 |                                                                                                                                                                   |                            |        |         |        |   |        |        
|                                      | Preferred stock, $.01 par value; 10,000,000
	shares authorized, no shares issued or outstanding                                                                   |                            |        |        |        |   |        |        |       
|                                      | Common stock, $.01 par value; 50,000,000 shares
	authorized, 22,479,360 and 21,907,593 shares issued and
	outstanding at December 31, 2001 and 2000, respectively |                            |        | 225     |        |   |        | 219     |       
|                                      | Additional paid-in capital                                                                                                                                        |                            |        | 96,224  |        |   |        | 94,565  |       
|                                      | Accumulated deficit                                                                                                                                               |                            |        | (27,985 | )      |   |        | (22,805 | )     
|                                      | Notes receivable for stock                                                                                                                                        |                            |        | (2,322  | )      |   |        | (2,413  | )     
|                                      | Accumulated other comprehensive (loss) income                                                                                                                     |                            |        | (88     | )      |   |        | 22      |       
|                                      |                                                                                                                                                                   |                            |        |         |        |   |        |        
|                                      |                                                                                                                                                                   | Total stockholders equity |        |         | 66,054 |   |        |         | 69,588 | 
|                                      |                                                                                                                                                                   |                            |        |         |        |   |        |        
|                                      |                                                                                                                                                                   | $                          | 84,166 |         |        | $ | 86,466 |        
|                                      |                                                                                                                                                                   |                            |        |         |        |   |        |        

See accompanying notes to consolidated financial
statements.

F-3



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##### Table of Contents



WITNESS SYSTEMS, INC. AND
SUBSIDIARIES

CONSOLIDATED STATEMENTS OF
OPERATIONS

|                                                                      |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |        |       |        |  
|--------------------------------------------------------------------- | -------------------------------------------- | ------------------------------------------------------------- | -------------------------------------------------------------- | ------ | ------ | ------ | ----- | ------ | ------ | ------ | ------ | ------ | ----- | ------ | -
|                                                                      |                                              |                                                              
|                                                                      |                                              | December 31,                                                 
|                                                                      |                                              |                                                              
|                                                                      |                                              | 2001                                                          |                                                                | 2000   |        | 1999  
|                                                                      |                                              |                                                               |                                                                |        |        |       
|                                                                      |                                              |                                                              
|                                                                      |                                              | (In thousands, except per share data)                        
|Revenue:                                                              |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|                                                                      | License                                      |                                                               | $                                                              | 39,926 |        |        | $     | 30,307 |        |        | $      | 16,706 |      
|                                                                      | Services                                     |                                                               |                                                                | 21,852 |        |        |       | 13,601 |        |        |        | 6,221  |      
|                                                                      | Hardware                                     |                                                               |                                                                |       |        |        |       |       |        |        |        | 46     |      
|                                                                      |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|                                                                      |                                              |                                                               | Total revenue                                                  |        |        | 61,778 |       |        |        | 43,908 |        |        |       | 22,973 |  
|                                                                      |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|Cost of revenue:                                                      |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|                                                                      | License                                      |                                                               |                                                                | 602    |        |        |       | 436    |        |        |        | 327    |      
|                                                                      | Services                                     |                                                               |                                                                | 9,704  |        |        |       | 7,681  |        |        |        | 3,921  |      
|                                                                      | Hardware                                     |                                                               |                                                                |       |        |        |       |       |        |        |        | 46     |      
|                                                                      |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|                                                                      |                                              |                                                               | Total cost of revenue                                          |        |        | 10,306 |       |        |        | 8,117  |        |        |       | 4,294  |  
|                                                                      |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|                                                                      |                                              |                                                               | Gross profit                                                   |        |        | 51,472 |       |        |        | 35,791 |        |        |       | 18,679 |  
|Operating expenses:                                                   |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|                                                                      | Sales and marketing                          |                                                               |                                                                | 29,339 |        |        |       | 22,587 |        |        |        | 11,585 |      
|                                                                      | Research and development                     |                                                               |                                                                | 13,611 |        |        |       | 10,379 |        |        |        | 5,825  |      
|                                                                      | General and administrative                   |                                                               |                                                                | 11,629 |        |        |       | 8,770  |        |        |        | 4,403  |      
|                                                                      | Acquired in-process research and development |                                                               |                                                                | 4,823  |        |        |       |       |        |        |        | 3,506  |      
|                                                                      |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|                                                                      |                                              |                                                               | Operating loss                                                 |        |        | (7,930 | )     |        |        | (5,945 | )      |        |       | (6,640 | )
|Interest income (expense), net                                        |                                              |                                                               | 2,866                                                          |        |        |        | 3,979 |        |        |        | (364   | )     
|                                                                      |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|                                                                      |                                              |                                                               | Loss before provision for income taxes and
	extraordinary loss |        |        | (5,064 | )     |        |        | (1,966 | )      |        |       | (7,004 | )
|Provision for income taxes                                            |                                              |                                                               | 116                                                            |        |        |        |      |        |        |        |       |       
|                                                                      |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|                                                                      |                                              |                                                               | Loss before extraordinary loss                                 |        |        | (5,180 | )     |        |        | (1,966 | )      |        |       | (7,004 | )
|Extraordinary loss on early extinguishment of debt                    |                                              |                                                               |                                                               |        |        |        | (248  | )      |        |        |       |       
|                                                                      |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|                                                                      |                                              |                                                               | Net loss                                                       |        |        | (5,180 | )     |        |        | (2,214 | )      |        |       | (7,004 | )
|Preferred stock dividends and accretion                               |                                              |                                                               |                                                               |        |        |        | (611  | )      |        |        | (1,815 | )     
|                                                                      |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|                                                                      |                                              |                                                               | Net loss applicable to common stockholders                     |        | $      | (5,180 | )     |        | $      | (2,825 | )      |        | $     | (8,819 | )
|                                                                      |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|Net loss per share (see Note 1(n) for pro forma
	net loss per share): |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|                                                                      | Basic and diluted:                           |                                                               |                                                                |        |        |        |       |        |        |        |        |        |      
|                                                                      |                                              | Loss before extraordinary loss                                |                                                                | $      | (0.23  | )      |       | $      | (0.13  | )      |        | $      | (1.37 | )     
|                                                                      |                                              | Extraordinary loss                                            |                                                                |        |       |        |       |        | (0.01  | )      |        |        |      |       
|                                                                      |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|                                                                      |                                              |                                                               | Net loss                                                       |        | $      | (0.23  | )     |        | $      | (0.14  | )      |        | $     | (1.37  | )
|                                                                      |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       
|                                                                      |                                              | Basic and diluted weighted-average common shares
	outstanding |                                                                |        | 22,258 |        |       |        | 19,997 |        |        |        | 6,424 |       
|                                                                      |                                              |                                                               |                                                                |        |        |        |       |        |        |        |        |       

See accompanying notes to consolidated financial
statements.

F-4



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##### Table of Contents



WITNESS SYSTEMS, INC. AND
SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS
EQUITY (DEFICIT)

|                             |                                                                               |                                          |                          |        |   |            |    |             |   |                |     |             |   |           |         |               |        |       |      |        |   |  |       |        |   |   |        |        |   |  |   |     |     |   |         |         |        |        |  
|---------------------------- | ----------------------------------------------------------------------------- | ---------------------------------------- | ------------------------ | ------ | - | ---------- | -- | ----------- | - | -------------- | --- | ----------- | - | --------- | ------- | ------------- | ------ | ----- | ---- | ------ | - |  | ----- | ------ | - | - | ------ | ------ | - |  | - | --- | --- | - | ------- | ------- | ------ | ------ | -
|                             |                                                                               |                                          |                          |        |   |            |    |             |   |                |     |             |   |           |         |              
|                             |                                                                               | Common Stock                             |                          |        |   |            |    |             |   |                |     |             |   |           |         |              
|                             |                                                                               |                                          |                          |        |   |            |    |             |   |                |     |             |   |          
|                             |                                                                               |                                          |                          |        |   |            |    |             |   | Treasury Stock |     | Accumulated |   |          
|                             |                                                                               | Number of                                |                          |        |   | Additional |    |             |   | Notes          |     |             |   | Other     |         |              
|                             |                                                                               | Shares                                   |                          |        |   | Paid-In    |    | Accumulated |   | Receivable     |     | Number of   |   | Amount    |         | Comprehensive |        |      
|                             |                                                                               | Issued                                   |                          | Amount |   | Capital    |    | Deficit     |   | for Stock      |     | Shares      |   | (At Cost) |         | (Loss) Income |        | Total
|                             |                                                                               |                                          |                          |        |   |            |    |             |   |                |     |             |   |           |         |               |        |      
|                             |                                                                               |                                         
|                             |                                                                               | (In thousands)                          
|Balance at December 31, 1998 |                                                                               |                                          | 8,206                    |        |   | $          | 82 |             |   | $              | 137 |             |   | $         | (13,587 | )             |        | $     | (108 | )      |   |  | 1,260 |        |   | $ | (1,900 | )      |   |  |  |     |     | $ | (15,376 | )      
|                             | Accretion on Series A, Series B, and
	Series C convertible preferred stock    |                                          |                          |       |   |            |    |            |   |                |     | (1,747      | ) |           |         |              |        |       |      |       |   |  |       |       |   |   |        |       |   |  |   |    |     |   |         | (1,747  | )     
|                             | Dividends accrued on Series A convertible
	preferred stock                    |                                          |                          |       |   |            |    |            |   |                |     | (68         | ) |           |         |              |        |       |      |       |   |  |       |       |   |   |        |       |   |  |   |    |     |   |         | (68     | )     
|                             | Exercise of stock options                                                     |                                          |                          | 390    |   |            |    | 4           |   |                |     | 430         |   |           |         |              |        |       |      | (333   | ) |  |       |       |   |   |        |       |   |  |   |    |     |   |         | 101     |       
|                             | Fair value of common stock warrants issued                                    |                                          |                          |       |   |            |    |            |   |                |     | 275         |   |           |         |              |        |       |      |       |   |  |       |       |   |   |        |       |   |  |   |    |     |   |         | 275     |       
|                             | Purchase of treasury stock                                                    |                                          |                          |       |   |            |    |            |   |                |     |            |   |           |         |              |        |       |      |       |   |  |       | 1,800  |   |   |        | (5,350 | ) |  |   |    |     |   |         | (5,350  | )     
|                             | Issuance of common stock for notes                                            |                                          |                          | 880    |   |            |    | 9           |   |                |     | 1,847       |   |           |         |              |        |       |      | (2,261 | ) |  |       | (270   | ) |   |        | 405    |   |  |   |    |     |   |         |        |       
|                             | Fair value of shares issued for acquired
	in-process research and development |                                          |                          | 841    |   |            |    | 8           |   |                |     | 3,473       |   |           |         |              |        |       |      |       |   |  |       |       |   |   |        |       |   |  |   |    |     |   |         | 3,481   |       
|                             | Forgiveness of note receivable for stock                                      |                                          |                          |       |   |            |    |            |   |                |     |            |   |           |         |              |        |       |      | 108    |   |  |       | 650    |   |   |        | (76    | ) |  |   |    |     |   |         | 32      |       
|                             | Comprehensive loss:                                                           |                                          |                          |        |   |            |    |             |   |                |     |             |   |           |         |               |        |       |      |        |   |  |       |        |   |   |        |        |   |  |   |     |     |   |         |         |       
|                             |                                                                               | Net loss                                 |                          |        |  |            |    |             |  |                |     |             |  |           |         |               | (7,004 | )     |      |        |  |  |       |        |  |   |        |        |  |  |   |     |    |   |         |         | (7,004 | )     
|                             |                                                                               |                                          |                          |        |   |            |    |             |   |                |     |             |   |           |         |               |        |       |      |        |   |  |       |        |   |   |        |        |   |  |   |     |     |   |         |        
|                             |                                                                               |                                          | Total comprehensive loss |        |   |            |    |             |   |                |     |             |   |           |         |               |        |       |      |        |   |  |       |        |   |   |        |        |   |  |   |     |     |   |         |         |        | (7,004 | )
|                             |                                                                               |                                          |                          |        |   |            |    |             |   |                |     |             |   |           |         |               |        |       |      |        |   |  |       |        |   |   |        |        |   |  |   |     |     |   |         |        
|                             | Balance at December 31, 1999                                                  |                                          |                          | 10,317 |   |            |    | 103         |   |                |     | 4,347       |   |           |         | (20,591       | )      |       |      | (2,594 | ) |  |       | 3,440  |   |   |        | (6,921 | ) |  |   |    |     |   |         | (25,656 | )     
|                             | Accretion on Series A, Series B, and
	Series C convertible preferred stock    |                                          |                          |       |   |            |    |            |   |                |     | (604        | ) |           |         |              |        |       |      |       |   |  |       |       |   |   |        |       |   |  |   |    |     |   |         | (604    | )     
|                             | Dividends accrued on Series A convertible
	preferred stock                    |                                          |                          |       |   |            |    |            |   |                |     | (7          | ) |           |         |              |        |       |      |       |   |  |       |       |   |   |        |       |   |  |   |    |     |   |         | (7      | )     
|                             | Conversion of preferred stock upon initial public
	offering                   |                                          |                          | 10,410 |   |            |    | 104         |   |                |     | 23,344      |   |           |         |              |        |       |      |       |   |  |       |       |   |   |        |       |   |  |   |    |     |   |         | 23,448  |       
|                             | Common stock issued upon initial public offering,
	net                        |                                          |                          | 4,019  |   |            |    | 40          |   |                |     | 73,197      |   |           |         |              |        |       |      |       |   |  |       |       |   |   |        |       |   |  |   |    |     |   |         | 73,237  |       
|                             | Exercise of stock options and warrants                                        |                                          |                          | 563    |   |            |    | 6           |   |                |     | 665         |   |           |         |              |        |       |      |       |   |  |       |       |   |   |        |       |   |  |   |    |     |   |         | 671     |       
|                             | Shares issued under employee stock purchase plan                              |                                          |                          | 39     |   |            |    |            |   |                |     | 510         |   |           |         |              |        |       |      |       |   |  |       |       |   |   |        |       |   |  |   |    |     |   |         | 510     |       
|                             | Retirement of treasury stock                                                  |                                          |                          | (3,440 | ) |            |    | (34         | ) |                |     | (6,887      | ) |           |         |              |        |       |      |       |   |  |       | (3,440 | ) |   |        | 6,921  |   |  |   |    |     |   |         |        |       
|                             | Repayment of notes receivable for stock                                       |                                          |                          |       |   |            |    |            |   |                |     |            |   |           |         |              |        |       |      | 181    |   |  |       |       |   |   |        |       |   |  |   |    |     |   |         | 181     |       
|                             | Comprehensive loss:                                                           |                                          |                          |        |   |            |    |             |   |                |     |             |   |           |         |               |        |       |      |        |   |  |       |        |   |   |        |        |   |  |   |     |     |   |         |         |       
|                             |                                                                               | Foreign currency translation adjustments |                          |        |  |            |    |             |  |                |     |             |  |           |         |               |       |       |      |        |  |  |       |        |  |   |        |        |  |  |   |     | (75 | ) |         |         | (75    | )     
|                             |                                                                               | Unrealized gain on investments, net      |                          |        |  |            |    |             |  |                |     |             |  |           |         |               |       |       |      |        |  |  |       |        |  |   |        |        |  |  |   |     | 97  |   |         |         | 97     |       
|                             |                                                                               | Net loss                                 |                          |        |  |            |    |             |  |                |     |             |  |           |         |               | (2,214 | )     |      |        |  |  |       |        |  |   |        |        |  |  |   |     |    |   |         |         | (2,214 | )     
|                             |                                                                               |                                          |                          |        |   |            |    |             |   |                |     |             |   |           |         |               |        |       |      |        |   |  |       |        |   |   |        |        |   |  |   |     |     |   |         |        
|                             |                                                                               |                                          | Total comprehensive loss |        |   |            |    |             |   |                |     |             |   |           |         |               |        |       |      |        |   |  |       |        |   |   |        |        |   |  |   |     |     |   |         |         |        | (2,192 | )
|                             |                                                                               |                                          |                          |        |   |            |    |             |   |                |     |             |   |           |         |               |        |       |      |        |   |  |       |        |   |   |        |        |   |  |   |     |     |   |         |        
|                             | Balance at December 31, 2000                                                  |                                          |                          | 21,908 |   |            |    | 219         |   |                |     | 94,565      |   |           |         | (22,805       | )      |       |      | (2,413 | ) |  |       |       |   |   |        |       |   |  |   | 22  |     |   |         | 69,588  |       
|                             | Exercise of stock options and warrants                                        |                                          |                          | 518    |   |            |    | 5           |   |                |     | 1,174       |   |           |         |              |        |       |      |       |   |  |       |       |   |   |        |       |   |  |   |     |     |   |         | 1,179   |       
|                             | Shares issued under employee stock purchase plan                              |                                          |                          | 53     |   |            |    | 1           |   |                |     | 485         |   |           |         |              |        |       |      |       |   |  |       |       |   |   |        |       |   |  |   |    |     |   |         | 486     |       
|                             | Repayment of notes receivable for stock                                       |                                          |                          |       |   |            |    |            |   |                |     |            |   |           |         |              |        |       |      | 91     |   |  |       |       |   |   |        |       |   |  |   |    |     |   |         | 91      |       
|                             | Comprehensive loss:                                                           |                                          |                          |        |   |            |    |             |   |                |     |             |   |           |         |               |        |       |      |        |   |  |       |        |   |   |        |        |   |  |   |     |     |   |         |         |       
|                             |                                                                               | Foreign currency translation adjustments |                          |        |  |            |    |             |  |                |     |             |  |           |         |               |       |       |      |        |  |  |       |        |  |   |        |        |  |  |   |     | (54 | ) |         |         | (54    | )     
|                             |                                                                               | Unrealized (loss) on investments, net    |                          |        |  |            |    |             |  |                |     |             |  |           |         |               |       |       |      |        |  |  |       |        |  |   |        |        |  |  |   |     | (56 | ) |         |         | (56    | )     
|                             |                                                                               | Net loss                                 |                          |        |  |            |    |             |  |                |     |             |  |           |         |               | (5,180 | )     |      |        |  |  |       |        |  |   |        |        |  |  |   |     |    |   |         |         | (5,180 | )     
|                             |                                                                               |                                          |                          |        |   |            |    |             |   |                |     |             |   |           |         |               |        |       |      |        |   |  |       |        |   |   |        |        |   |  |   |     |     |   |         |        
|                             |                                                                               |                                          | Total comprehensive loss |        |   |            |    |             |   |                |     |             |   |           |         |               |        |       |      |        |   |  |       |        |   |   |        |        |   |  |   |     |     |   |         |         |        | (5,290 | )
|                             |                                                                               |                                          |                          |        |   |            |    |             |   |                |     |             |   |           |         |               |        |       |      |        |   |  |       |        |   |   |        |        |   |  |   |     |     |   |         |        
|                             | Balance at December 31, 2001                                                  |                                          |                          | 22,479 |   |            | $  | 225         |   |                | $   | 96,224      |   |           | $       | (27,985       | )      |       | $    | (2,322 | ) |  |       |       |   |   |        |       |   |  | $ | (88 | )   |   | $       | 66,054  |       
|                             |                                                                               |                                          |                          |        |   |            |    |             |   |                |     |             |   |           |         |               |        |       |      |        |   |  |       |        |   |   |        |        |   |  |   |     |     |   |         |        

See accompanying notes to consolidated financial
statements.

F-5



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##### Table of Contents



WITNESS SYSTEMS, INC. AND
SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH
FLOWS

|                                                 |                                                                                                        |                                                       |                                   |                                                       |       |        |        |         |       |        |         |        |       |        |        |  
|------------------------------------------------ | ------------------------------------------------------------------------------------------------------ | ----------------------------------------------------- | --------------------------------- | ----------------------------------------------------- | ----- | ------ | ------ | ------- | ----- | ------ | ------- | ------ | ----- | ------ | ------ | -
|                                                 |                                                                                                        |                                                      
|                                                 |                                                                                                        | December 31,                                         
|                                                 |                                                                                                        |                                                      
|                                                 |                                                                                                        | 2001                                                  |                                   | 2000                                                  |       | 1999  
|                                                 |                                                                                                        |                                                       |                                   |                                                       |       |       
|                                                 |                                                                                                        |                                                      
|                                                 |                                                                                                        | (In thousands)                                       
|Cash flows used in operating activities:         |                                                                                                        |                                                       |                                   |                                                       |       |        |        |         |       |        |         |       
|                                                 | Net loss before extraordinary loss                                                                     |                                                       | $                                 | (5,180                                                | )     |        | $      | (1,966  | )     |        | $       | (7,004 | )    
|                                                 | Adjustments to reconcile net loss before
	extraordinary loss to net cash used in operating activities: |                                                       |                                   |                                                       |       |        |        |         |       |        |         |        |      
|                                                 |                                                                                                        | Depreciation and amortization                         |                                   |                                                       | 3,165 |        |        |         | 1,895 |        |         |        | 1,248 |       
|                                                 |                                                                                                        | Provision for doubtful accounts                       |                                   |                                                       | 1,624 |        |        |         | 544   |        |         |        | 226   |       
|                                                 |                                                                                                        | Stock issued for in-process research and
	development |                                   |                                                       |      |        |        |         |      |        |         |        | 3,481 |       
|                                                 |                                                                                                        | Other noncash expenses                                |                                   |                                                       | 171   |        |        |         | 271   |        |         |        | 174   |       
|                                                 |                                                                                                        | Changes in operating assets and liabilities:          |                                   |                                                       |       |        |        |         |       |        |         |        |       |       
|                                                 |                                                                                                        |                                                       | Accounts receivable               |                                                       |       | (7,115 | )      |         |       | (4,820 | )       |        |       | (1,777 | )     
|                                                 |                                                                                                        |                                                       | Prepaid expenses and other assets |                                                       |       | 659    |        |         |       | (5,038 | )       |        |       | (1,136 | )     
|                                                 |                                                                                                        |                                                       | Accounts payable                  |                                                       |       | 583    |        |         |       | 1,100  |         |        |       | 935    |       
|                                                 |                                                                                                        |                                                       | Accrued expenses                  |                                                       |       | (1,894 | )      |         |       | 1,547  |         |        |       | 3,203  |       
|                                                 |                                                                                                        |                                                       | Deferred revenue                  |                                                       |       | 2,689  |        |         |       | 1,791  |         |        |       | 266    |       
|                                                 |                                                                                                        |                                                       |                                   |                                                       |       |        |        |         |       |        |         |       
|                                                 |                                                                                                        |                                                       |                                   | Net cash flows used in operating activities           |       |        | (5,298 | )       |       |        | (4,676  | )      |       |        | (384   | )
|                                                 |                                                                                                        |                                                       |                                   |                                                       |       |        |        |         |       |        |         |       
|Cash flows used in investing activities:         |                                                                                                        |                                                       |                                   |                                                       |       |        |        |         |       |        |         |       
|                                                 | Capital expenditures                                                                                   |                                                       |                                   | (3,316                                                | )     |        |        | (5,530  | )     |        |         | (1,660 | )    
|                                                 | Purchases of short-term investments                                                                    |                                                       |                                   | (40,994                                               | )     |        |        | (99,637 | )     |        |         |       |      
|                                                 | Proceeds from sales and maturities of short-term
	investments                                          |                                                       |                                   | 46,950                                                |       |        |        | 66,208  |       |        |         |       |      
|                                                 | Purchases of other assets                                                                              |                                                       |                                   |                                                      |       |        |        | (1,664  | )     |        |         | (500   | )    
|                                                 | Allocation to restricted cash                                                                          |                                                       |                                   | (5,258                                                | )     |        |        |        |       |        |         |       |      
|                                                 |                                                                                                        |                                                       |                                   |                                                       |       |        |        |         |       |        |         |       
|                                                 |                                                                                                        |                                                       |                                   | Net cash flows used in investing activities           |       |        | (2,618 | )       |       |        | (40,623 | )      |       |        | (2,160 | )
|                                                 |                                                                                                        |                                                       |                                   |                                                       |       |        |        |         |       |        |         |       
|Cash flows from financing activities:            |                                                                                                        |                                                       |                                   |                                                       |       |        |        |         |       |        |         |       
|                                                 | Proceeds from exercise of stock options                                                                |                                                       |                                   | 1,064                                                 |       |        |        | 671     |       |        |         | 101    |      
|                                                 | Proceeds from employee stock purchase plan                                                             |                                                       |                                   | 486                                                   |       |        |        | 510     |       |        |         |       |      
|                                                 | Repayments of notes receivable from stockholders                                                       |                                                       |                                   | 91                                                    |       |        |        | 181     |       |        |         |       |      
|                                                 | Proceeds from issuance of common stock, net                                                            |                                                       |                                   |                                                      |       |        |        | 73,801  |       |        |         |       |      
|                                                 | Proceeds from long-term debt                                                                           |                                                       |                                   |                                                      |       |        |        |        |       |        |         | 3,000  |      
|                                                 | Repayments on long-term debt                                                                           |                                                       |                                   |                                                      |       |        |        | (2,862  | )     |        |         | (1,801 | )    
|                                                 | Purchase of treasury shares                                                                            |                                                       |                                   |                                                      |       |        |        |        |       |        |         | (5,350 | )    
|                                                 | Proceeds from sale of Series C convertible
	preferred stock, net                                       |                                                       |                                   |                                                      |       |        |        |        |       |        |         | 8,312  |      
|                                                 |                                                                                                        |                                                       |                                   |                                                       |       |        |        |         |       |        |         |       
|                                                 |                                                                                                        |                                                       |                                   | Net cash flows provided by financing activities       |       |        | 1,641  |         |       |        | 72,301  |        |       |        | 4,262  |  
|                                                 |                                                                                                        |                                                       |                                   |                                                       |       |        |        |         |       |        |         |       
|Effect of exchange rate changes on cash          |                                                                                                        |                                                       | (106                              | )                                                     |       |        | (42    | )       |       |        |        |       
|                                                 |                                                                                                        |                                                       |                                   | Net (decrease) increase in cash and cash
	equivalents |       |        | (6,381 | )       |       |        | 26,960  |        |       |        | 1,718  |  
|Cash and cash equivalents at beginning of period |                                                                                                        |                                                       | 29,590                            |                                                       |       |        | 2,630  |         |       |        | 912     |       
|                                                 |                                                                                                        |                                                       |                                   |                                                       |       |        |        |         |       |        |         |       
|Cash and cash equivalents at end of period       |                                                                                                        | $                                                     | 23,209                            |                                                       |       | $      | 29,590 |         |       | $      | 2,630   |       
|                                                 |                                                                                                        |                                                       |                                   |                                                       |       |        |        |         |       |        |         |       
|Supplemental cash flow information:              |                                                                                                        |                                                       |                                   |                                                       |       |        |        |         |       |        |         |       
|                                                 | Cash paid for interest                                                                                 |                                                       | $                                 |                                                      |       |        | $      | 68      |       |        | $       | 298    |      
|                                                 |                                                                                                        |                                                       |                                   |                                                       |       |        |        |         |       |        |         |       
|                                                 | Cash paid for income taxes                                                                             |                                                       |                                   | 163                                                   |       |        |        |        |       |        |         |       |      
|                                                 |                                                                                                        |                                                       |                                   |                                                       |       |        |        |         |       |        |         |       

See accompanying notes to consolidated financial
statements.

F-6



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##### Table of Contents



(1) Summary of Significant Accounting
Policies



| |                            
| | ---------------------------
| | (a) Description of Business

Witness Systems, Inc. and subsidiaries (the
Company) provides customer interaction recording,
performance analysis and electronic learning management software
that enables companies to optimize their customer relationships
across multiple communications media and to improve their
customer relationship management. The Company is headquartered
in Roswell, Georgia with other offices in the United States,
Australia, Brazil, Canada, Germany, Japan, Mexico and the United
Kingdom.

The Company was originally incorporated in 1988
in Georgia and was reincorporated in Delaware on March 13,
1997.



| |                                                       
| | ------------------------------------------------------
| | (b) Principles of Consolidation and
	Reclassifications

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

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



| |                     
| | --------------------
| | (c) Use of Estimates

The preparation of financial statements in
conformity with accounting principles generally accepted in the
United States of America requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosures of contingent assets and liabilities
at the date of the financial statements and the reported amounts
of revenue and expenses during the reporting period. Actual
results could differ from those estimates.



| |                                              
| | ---------------------------------------------
| | (d) Revenue Recognition and Deferred
	Revenue

The Company recognizes revenue in accordance with
Statement of Position (SOP) 97-2, Software
Revenue Recognition, and SOP 98-9, Modification of SOP
97-2, Software Revenue Recognition, With Respect to Certain
Transactions. Revenue is derived from licensing software and
providing related services and is allocated to each element of
the arrangement based on their relative fair values, which is
established by the price charged when the respective element is
sold separately.

Revenue from license fees is recognized when
persuasive evidence of an agreement exists, delivery of the
product has occurred, the fee is fixed or determinable and
collection is probable. Software services include installation,
training and maintenance. Revenue from installation and training
are recognized upon performance of the related services.
Installation and training services are offered and billed as
separate elements of contracts. The functionality of the
software is not dependent on installation and training services.
Maintenance is offered as a separate element and includes the
right to unspecified upgrades on a when-and-if available basis.
Maintenance revenue is deferred and recognized ratably over the
term of the related contract, usually one year. Specified
upgrades are not typically offered to customers.

Accounts receivable include amounts due from
customers for which revenue has been recognized. Deferred
revenue consists of amounts collected from customers for license
and software services that have not met the criteria for revenue
recognition.



| |                                                          
| | ---------------------------------------------------------
| | (e) Cash and Cash Equivalents and
	Short-Term Investments

The Company considers all highly liquid debt
instruments with original maturities of three months or less to
be cash equivalents. The Companys investments are
classified as available for sale and are carried at fair market
value. Unrealized holding gains and losses on such investments
are reported as a part of accumulated other comprehensive
income. Realized gains and losses from sales are based on the
specific identification method.

F-7



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##### Table of Contents



At December 31, 2001, restricted cash
balances of $5.3 million were held in the form of a money market
and served to collateralize supporting standby letters of credit
issued in connection with the Companys headquarters
facility and office furniture leases.



| |                                      
| | -------------------------------------
| | (f) Prepaid and Other Current
	Assets

Prepaid and other current assets consist
principally of prepayments of certain operating expenses,
unbilled services revenue, prepaid software royalties and
investment interest receivable.



| |                           
| | --------------------------
| | (g) Property and Equipment

Property and equipment are stated at cost, less
accumulated depreciation and amortization. Property and
equipment are depreciated on a straight-line basis over the
estimated useful lives of the assets, typically 18 months
to five years. Leasehold improvements are amortized using the
straight-line method over the shorter of the estimated life of
the asset or the remaining term of the lease. Property and
equipment are comprised of the following:

|                       |                               |                |        |       |  |   |       |       | 
|---------------------- | ----------------------------- | -------------- | ------ | ----- |  | - | ----- | ----- | 
|                       |                               |               
|                       |                               | December 31,  
|                       |                               |               
|                       |                               | 2001           |        | 2000 
|                       |                               |                |        |      
|                       |                               |               
|                       |                               | (In thousands)
|Property and equipment |                               |                |        |       |  |   |       |      
|                       | Computer equipment            |                | $      | 6,275 |  |   | $     | 4,316 | 
|                       | Software                      |                |        | 2,874 |  |   |       | 1,950 | 
|                       | Other equipment               |                |        | 1,390 |  |   |       | 1,246 | 
|                       | Furniture and fixtures        |                |        | 217   |  |   |       | 987   | 
|                       | Leasehold improvements        |                |        | 1,214 |  |   |       | 1,262 | 
|                       |                               |                |        |       |  |   |       |      
|                       |                               |                | 11,970 |       |  |   | 9,761 |      
|                       | Less accumulated depreciation |                |        | 6,740 |  |   |       | 4,854 | 
|                       |                               |                |        |       |  |   |       |      
|                       |                               | $              | 5,230  |       |  | $ | 4,907 |      
|                       |                               |                |        |       |  |   |       |      

In December of 2000, when the corporate
headquarters was relocated, the Company accelerated the
depreciation of certain of its furniture and fixtures and
leasehold improvements that were no longer to be utilized in the
new headquarters.



| |                                
| | -------------------------------
| | (h) Intangible and Other Assets

Other assets include principally prepaid software
royalties and deposits. Intangible assets consist of purchased
technology and are being amortized using the straight-line
method generally over three years. During 2001 and 2000, the
Company amortized to research and development expense $488,000
and $538,000 of purchased technology, respectively. There was no
amortization in 1999.



| |                                     
| | ------------------------------------
| | (i) Impairment of Long-Lived
	Assets

Long-lived and intangible assets are reviewed for
impairment whenever events or changes in circumstances indicate
that the carrying amount of an asset may not be recoverable.
Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of the assets to the future
net cash flows expected to be generated by the assets. If such
assets are considered to be impaired, the impairment to be
recognized is measured by the amount by which the carrying
amount of the assets exceeds the fair value of the assets.



| |                      
| | ---------------------
| | (j) Advertising Costs

We expense advertising costs as they are
incurred. Advertising expenses were $665,000, $1.1 million
and $191,000 in 2001, 2000 and 1999, respectively.

F-8



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##### Table of Contents



(k) Research
and Development and Software Development Costs

Research and development costs are expensed as
incurred. SFAS No. 86, Accounting for the Cost of
Computer Software to Be Sold, Leased or Otherwise Marketedrequires capitalization of certain software development
costs subsequent to the establishment of technological
feasibility. Costs incurred subsequent to establishing
technological feasibility, in the form of a working model, are
capitalized and amortized over their estimated useful lives. To
date, software development costs incurred after technological
feasibility has been established have not been material.

(l) Income
Taxes

Income taxes are accounted for under the asset
and liability method. Deferred tax assets and liabilities are
recognized for the future tax consequences attributable to
differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases
and operating loss and tax credit carryforwards. Deferred tax
assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled.
The effect on deferred tax assets and liabilities of a change in
tax rates is recognized in income in the period that includes
the enactment date.

(m) Stock
Compensation

The Company applies the intrinsic value-based
method of accounting prescribed by Accounting Principles Board
(APB) Opinion No. 25, Accounting for Stock
Issued to Employees,and related interpretations, in
accounting for its fixed plan stock options. As such,
compensation expense is recorded on the date of grant only if
the current estimated fair value of the underlying stock exceeds
the exercise price. The Company has also provided pro forma
disclosures as if the fair value-based method of accounting
prescribed by Statement of Financial Accounting Standards
(SFAS) No. 123, Accounting for Stock Based
Compensation,had been used to account for its fixed plan
stock options (Note 6(c)).

(n) Computation
of Historical and Unaudited Pro Forma Net Loss Per
Share

The Company has presented historical net loss per
share pursuant to SFAS No. 128, Earnings Per Share,and the Securities and Exchange Commission Staff Accounting
Bulletin (SAB) No. 98. Pursuant to SFAS
No. 128, unvested stock is excluded from basic earnings per
share and included in diluted earnings per share if dilutive.
Pursuant to SAB No. 98, common stock and convertible
preferred stock issued for nominal consideration, prior to the
effective date of an initial public offering, are required to be
included in the calculation of basic and diluted net loss per
share, as if they were outstanding for all periods presented.
The Company has not had any such issuances or grants for nominal
consideration.

The unaudited pro forma net loss per share for
the years ended December 31, 2000 and 1999 is calculated using
the historical weighted-average common shares outstanding and
reflecting: (1) the subsequent conversions of
Series A, Series B and Series C convertible
preferred stock, including conversions of accrued dividends on
the Series A convertible preferred stock, into shares of
the Companys common stock, as if such conversions had
occurred on January 1, 1999, or at the date of issuance, if
later; and (2) the vesting of certain restricted common
shares held by an officer of the Company which became fully
vested upon the Companys initial public offering in
February 2000, as if such vesting became effective on the date
such shares were issued (Note 5). The numerator of the
calculation excludes preferred stock dividends and accretion of
$611,000 and $1.8 million for the years ended December 31,
2000 and 1999, respectively.

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Following is a reconciliation of the numerator
and denominator used in the calculation of historical and pro
forma basic and diluted net loss per share (in thousands, except
per share data):

|            |                                                                 |                                            |   |        |        |      |   |        |        |   |   |        |        |  
|----------- | --------------------------------------------------------------- | ------------------------------------------ | - | ------ | ------ | ---- | - | ------ | ------ | - | - | ------ | ------ | -
|            |                                                                 |                                           
|            |                                                                 | Year Ended December 31,                   
|            |                                                                 |                                           
|            |                                                                 | 2001                                       |   | 2000   |        | 1999
|            |                                                                 |                                            |   |        |        |     
|Historical: |                                                                 |                                            |   |        |        |      |   |        |        |   |   |       
|            | Net loss before extraordinary loss                              |                                            | $ | (5,180 | )      |      | $ | (1,966 | )      |   | $ | (7,004 | )     
|            | Preferred stock dividends and accretion                         |                                            |   |       |        |      |   | (611   | )      |   |   | (1,815 | )     
|            |                                                                 |                                            |   |        |        |      |   |        |        |   |   |       
|            |                                                                 | Net loss applicable to common stockholders |   | $      | (5,180 | )    |   | $      | (2,577 | ) |   | $      | (8,819 | )
|            |                                                                 |                                            |   |        |        |      |   |        |        |   |   |       
|            | Basic and diluted common shares outstanding                     |                                            |   | 22,258 |        |      |   | 19,997 |        |   |   | 6,424  |       
|            |                                                                 |                                            |   |        |        |      |   |        |        |   |   |       
|            | Basic and diluted net loss per share before
	extraordinary loss |                                            | $ | (0.23  | )      |      | $ | (0.13  | )      |   | $ | (1.37  | )     
|            |                                                                 |                                            |   |        |        |      |   |        |        |   |   |       

|                                   |                                                                                     |                                        |                                                        |        |   |        |        |        |     |        |        |       |       |        | 
|---------------------------------- | ----------------------------------------------------------------------------------- | -------------------------------------- | ------------------------------------------------------ | ------ | - | ------ | ------ | ------ | --- | ------ | ------ | ----- | ----- | ------ | 
|                                   |                                                                                     |                                       
|                                   |                                                                                     | Year Ended December 31,               
|                                   |                                                                                     |                                       
|                                   |                                                                                     | 2001                                   |                                                        | 2000   |   | 1999  
|                                   |                                                                                     |                                        |                                                        |        |   |       
|Net loss before extraordinary loss |                                                                                     | $                                      | (5,180                                                 | )      |   | $      | (1,966 | )      |     | $      | (7,004 | )    
|Unaudited pro forma:               |                                                                                     |                                        |                                                        |        |   |        |        |        |     |        |        |      
|                                   | Historical basic and diluted common shares
	outstanding                             |                                        |                                                        | 22,258 |   |        |        | 19,997 |     |        |        | 6,424 |      
|                                   | Adjustment at December 31, 2000 and 1999 to
	reflect the initial public offering:   |                                        |                                                        |        |   |        |        |        |     |        |        |       |      
|                                   |                                                                                     | Conversion of Series A preferred stock |                                                        |        |  |        |        |        | 664 |        |        |       | 5,776 |       
|                                   |                                                                                     | Conversion of Series B preferred stock |                                                        |        |  |        |        |        | 240 |        |        |       | 2,128 |       
|                                   |                                                                                     | Conversion of Series C preferred stock |                                                        |        |  |        |        |        | 269 |        |        |       | 993   |       
|                                   |                                                                                     | Vesting of restricted common shares    |                                                        |        |  |        |        |        | 62  |        |        |       | 434   |       
|                                   |                                                                                     |                                        |                                                        |        |   |        |        |        |     |        |        |      
|                                   |                                                                                     |                                        | Pro forma basic and diluted common shares
	outstanding |        |   | 22,258 |        |        |     | 21,232 |        |       |       | 15,755 | 
|                                   |                                                                                     |                                        |                                                        |        |   |        |        |        |     |        |        |      
|                                   | Unaudited pro forma basic and diluted net loss
	per share before extraordinary loss |                                        | $                                                      | (0.23  | ) |        | $      | (0.09  | )   |        | $      | (0.44 | )    
|                                   |                                                                                     |                                        |                                                        |        |   |        |        |        |     |        |        |      

The Company has excluded all convertible
preferred stock, warrants for common and preferred shares,
nonvested restricted common shares, and outstanding stock
options from the calculation of historical diluted net loss per
common share because all such securities are anti-dilutive for
the periods presented. The total number of shares excluded from
the calculations of diluted net loss per share was 1,573,445,
2,178,846, and 14,014,876 for the years ended December 31,
2001, 2000 and 1999, respectively (see Notes 5 and 6 for further
information).

(o) Business
and Credit Concentration

No customer accounted for more than 10% of the
Companys revenue in 2001, 2000 and 1999.

The Company estimates an allowance for doubtful
accounts and sales and services concessions based on the
creditworthiness of its customers, general economic conditions,
and other factors. Consequently, an adverse change in those
factors could affect the Companys estimate of its
provision for its doubtful accounts and allowances.

(p) Segment
and Geographic Information

SFAS No. 131, Disclosures about Segments
of an Enterprise and Related Information,requires use of
the management approach model for segment reporting.
The Company operates and manages its business in one segment,
that being a software and services provider to the customer
interaction recording and analysis market. The Company markets
its products worldwide. The Companys revenue derived from
customers outside the United States, principally in Canada, the
United Kingdom, Australia, Mexico and Japan were
$10 million, $3.9 million and $1.5 million in 2001,
2000 and 1999, respectively. All significant long-lived assets
are located in the United States.

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(q) Fair
Value of Financial Instruments

At December 31, 2001 and 2000, the
Companys financial instruments included cash and cash
equivalents, short-term and long-term investments, accounts
receivables and accounts payable. The Company believes all of
the financial instruments recorded values approximate
current values because of the short maturities of these
instruments (Note 3).

(r) Foreign
Currency

For most of the Companys foreign
subsidiaries and operations, the functional currency has been
determined to be the local currency, and therefore, assets and
liabilities are translated at year-end exchange rates, and
income statement items are translated at average exchange rates
prevailing during the year. Such translation adjustments are
recorded in aggregate as a component of stockholders
equity and other comprehensive (loss) income. Gains and
losses from foreign currency denominated transactions are
included in other income (expense) and are not material.

(s) Recent
Accounting Pronouncements

In November 2001, the staff of the Financial
Accounting Standards Board (FASB) issued an
announcement on the topic of Income Statement
Characterization of Reimbursements Received for Out of Pocket
Expenses Incurred. This announcement requires companies to
characterize reimbursements received for out-of-pocket expenses
incurred as revenue in the income statement. This announcement
should be applied in financial reporting periods beginning after
December 15, 2001 and comparative financial statements for
prior periods should be reclassified to comply with the guidance
in this announcement. Historically, the Company has recorded
reimbursements as a reduction of services cost of revenue and as
a result of this pronouncement, the Company will include these
amounts in revenue. The Company believes the adoption of this
pronouncement will not have a material impact on the
Companys results of operations or financial position.
However, the adoption of this pronouncement will reduce gross
profit margins and other measures of profitability to revenues.

In October 2001, the FASB issued SFAS
No. 144, Accounting for the Impairment or Disposal of
Long-lived Assets, which supersedes SFAS No. 121,
Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed of,and APB Opinion
No. 30, Reporting the Results of Operations 
Reporting the Effects of Disposal of a Segment of a Business,
and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions. SFAS No. 144 amends accounting and
reporting standards for the disposal of segments of a business
and addresses various issues related to the accounting for
impairments or disposals of long-lived assets. This SFAS is
effective for fiscal years beginning after December 15,
2001. The adoption of this SFAS will not have a material impact
on the Companys results of operations or financial
position.

In August 2001, the FASB issued SFAS
No. 143, Accounting for Asset Retirement
Obligations, which addresses financial accounting and
reporting for obligations associated with the retirement of
tangible long-lived assets and the associated asset retirement
costs. This SFAS is effective for fiscal years beginning after
June 15, 2002. The adoption of this SFAS will not have a
material impact on the Companys results of operations or
financial position.

In July 2001, the FASB issued SFAS No. 141,
Business Combinations, and SFAS No. 142, Goodwill
and Other Intangible Assets, effective for fiscal years
beginning after December 15, 2001. Under the new rules, the
pooling-of-interests method is no longer permitted, and goodwill
and other intangible assets that have indefinite useful lives
will no longer be amortized but will be subject to annual
impairment tests in accordance with the statements. Most other
intangible assets will continue to be amortized over their
useful lives. Goodwill and intangibles assets acquired after
June 30, 2001 will be subject to the new rules. The
adoption of this SFAS will not have a material impact on the
Companys results of operations or financial position.

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|    |                                                                  
|--- | -----------------------------------------------------------------
|(2) | Acquired In-Process Research and Development
	and Related Charges

In 2001 and 1999, the Company purchased
software-based research and development from third parties
totaling $4.8 million and $3.5 million, respectively. The
Company recorded an expense for these purchases when they
acquired the assets and classified the expense as acquired
in-process research and development (IPR&D) in the
accompanying consolidated statements of operations.

The IPR&D purchase in 1999 related to the
development of technology to store and retrieve substantially
larger volumes of data than the Companys software was
previously capable of storing and retrieving. The Company
purchased this technology in exchange for 841,120 shares of its
common stock valued at $4.14 per share. As a result, the Company
recorded a charge of $3.5 million in the accompanying
consolidated statement of operations. At the time of the
purchase, the Company estimated that it would take up to a year
to complete the development of this technology and that it would
cost an additional $3.3 million to complete these efforts.

During 2000, the Company entered into an option
agreement to purchase IPR&D technologies relating to the
development of electronic-media data capture and optimization.
As of December 31, 2000, the options carrying value
was $650,000 and was classified in intangible and other assets,
net in the accompanying consolidated balance sheet. In March
2001, the Company paid $2.0 million to exercise this option to
purchase the underlying technology. Also, during the first
quarter of 2001, the Company purchased additional IPR&D for
$1.1 million relating to similar development issues. At the time
of the purchases, the Company estimated that it would take up to
a year to complete these development projects and we estimated
that we would incur at least an additional $3 million to
complete these projects.

In June 2001, the Company purchased
software-based IPR&D technology relating to the development
of on-line analytical processing and multi-dimensional analysis
capabilities for $1.1 million. At that time, the Company
estimated that it would take up to a year for us to complete the
development of this technology and that it would cost at least
an additional $1 million.

At the date of the aforementioned transactions,
the acquired IPR&D technologies had not progressed to a
stage where they met technological feasibility as defined by
Statement of Financial Accounting Standards (SFAS)
No. 86, Accounting for the Cost of Computer Software to
Be Sold, Leased or Otherwise Marketed. At the time of each
transaction, the Company estimated the stage of completion of
the project and the time and resources required to complete the
project by creating a product design plan and evaluating the
progress of the acquired technology towards this plan. A
significant amount of uncertainty existed as to the
Companys ability to complete the development projects
within a timeframe acceptable to the market, and failure to do
so could cause its competitive position in the market to erode.
Additionally, the amount of development required to enable the
acquired technology to integrate with its primary product was
estimated to be significant, which increased the uncertainty
surrounding its successful development. The acquired
technologies did not have alternative future uses.

F-12



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##### Table of Contents



(3) Investments

The amortized cost and fair market value of
investments available for sale as of December 31, 2001 and
2000, were as follows:

|                           |                                       |                                 |        |        |        |      |   |        |    |  |   |     |     |   |        |        |        | 
|-------------------------- | ------------------------------------- | ------------------------------- | ------ | ------ | ------ | ---- | - | ------ | -- |  | - | --- | --- | - | ------ | ------ | ------ | 
|                           |                                       |                                
|                           |                                       | Unrealized                     
|                           |                                       |                                
|December 31, 2001          |                                       | Cost                            |        | Gain   |        | Loss |   | Market
|                           |                                       |                                 |        |        |        |      |   |       
|                           |                                       |                                
|                           |                                       | (In thousands)                 
|Cash and cash equivalents: |                                       |                                 |        |        |        |      |   |        |    |  |   |     |     |   |        |       
|                           | Cash                                  |                                 | $      | 1,818  |        |      |   |       |    |  |   |    |     |   | $      | 1,818  |       
|                           | Money market fund                     |                                 |        | 11,649 |        |      |   |       |    |  |   |    |     |   |        | 11,649 |       
|                           | Auction rate securities               |                                 |        | 15,000 |        |      |   |       |    |  |   |    |     |   |        | 15,000 |       
|                           |                                       |                                 |        |        |        |      |   |        |    |  |   |     |     |   |        |       
|                           |                                       | Total cash and cash equivalents |        |        | 28,467 |      |   |        |   |  |   |     |    |   |        |        | 28,467 | 
|                           | Less: Restricted cash and investments |                                 |        | (5,258 | )      |      |   |       |    |  |   |    |     |   |        | (5,258 | )     
|                           |                                       |                                 |        |        |        |      |   |        |    |  |   |     |     |   |        |       
|                           |                                       | $                               | 23,209 |        |        |      |  |        |    |  |  |     |     | $ | 23,209 |       
|                           |                                       |                                 |        |        |        |      |   |        |    |  |   |     |     |   |        |       
|Short-term investments:    |                                       |                                 |        |        |        |      |   |        |    |  |   |     |     |   |        |       
|                           | Auction rate securities               |                                 | $      | 3,850  |        |      |   |       |    |  |   |    |     |   | $      | 3,850  |       
|                           | Corporate debt securities             |                                 |        | 10,927 |        |      | $ | 52     |    |  |   |    |     |   |        | 10,979 |       
|                           | U.S. Government Agency securities     |                                 |        | 17,682 |        |      |   | 7      |    |  | $ | (18 | )   |   |        | 17,671 |       
|                           |                                       |                                 |        |        |        |      |   |        |    |  |   |     |     |   |        |       
|                           |                                       | Total short-term investments    |        | $      | 32,459 |      |   | $      | 59 |  |   | $   | (18 | ) |        | $      | 32,500 | 
|                           |                                       |                                 |        |        |        |      |   |        |    |  |   |     |     |   |        |       

|                           |                                       |                                 |        |        |        |      |    |        |    |  |   |   |   |   |        |        |        | 
|-------------------------- | ------------------------------------- | ------------------------------- | ------ | ------ | ------ | ---- | -- | ------ | -- |  | - | - | - | - | ------ | ------ | ------ | 
|                           |                                       |                                
|                           |                                       | Unrealized                     
|                           |                                       |                                
|December 31, 2000          |                                       | Cost                            |        | Gain   |        | Loss |    | Market
|                           |                                       |                                 |        |        |        |      |    |       
|                           |                                       |                                
|                           |                                       | (In thousands)                 
|Cash and cash equivalents: |                                       |                                 |        |        |        |      |    |        |    |  |   |   |   |   |        |       
|                           | Cash                                  |                                 | $      | 4,502  |        |      |    |       |    |  |   |  |   |   | $      | 4,502  |       
|                           | Money market fund                     |                                 |        | 8,699  |        |      |    |       |    |  |   |  |   |   |        | 8,699  |       
|                           | Commercial paper                      |                                 |        | 14,389 |        |      |    |       |    |  |   |  |   |   |        | 14,389 |       
|                           | Auction rate securities               |                                 |        | 2,000  |        |      |    |       |    |  |   |  |   |   |        | 2,000  |       
|                           |                                       |                                 |        |        |        |      |    |        |    |  |   |   |   |   |        |       
|                           |                                       | Total cash and cash equivalents |        | $      | 29,590 |      |    |        |   |  |   |   |  |   |        | $      | 29,590 | 
|                           |                                       |                                 |        |        |        |      |    |        |    |  |   |   |   |   |        |       
|Short-term investments:    |                                       |                                 |        |        |        |      |    |        |    |  |   |   |   |   |        |       
|                           | Commercial paper                      |                                 | $      | 14,427 |        |      |    |       |    |  |   |  |   |   | $      | 14,427 |       
|                           | Corporate debt securities             |                                 |        | 17,883 |        |      | $  | 92     |    |  |   |  |   |   |        | 17,975 |       
|                           | U.S. Government Agency securities     |                                 |        | 6,000  |        |      |    | 5      |    |  |   |  |   |   |        | 6,005  |       
|                           |                                       |                                 |        |        |        |      |    |        |    |  |   |   |   |   |        |       
|                           |                                       | Total short-term investments    |        |        | 38,310 |      |    |        | 97 |  |   |   |  |   |        |        | 38,407 | 
|                           | Less: Restricted cash and investments |                                 |        | (3,660 | )      |      |    |       |    |  |   |  |   |   |        | (3,660 | )     
|                           |                                       |                                 |        |        |        |      |    |        |    |  |   |   |   |   |        |       
|                           |                                       | $                               | 34,650 |        |        | $    | 97 |        |    |  |  |   |   | $ | 34,747 |       
|                           |                                       |                                 |        |        |        |      |    |        |    |  |   |   |   |   |        |       

At December 31, 2001, the estimated fair
market value of investments with maturity dates ranging from
91 days to one year totaled $4.5 million and investments
with maturity dates ranging from one to three years totaled
$19.9 million. At December 31, 2000, the estimated fair
market value of investments with maturity dates ranging from
91 days to one year totaled $32.4 million and investments
with maturity dates ranging from one to two years totaled $6.0
million. There were no realized gains or losses during 2001 and
2000.

At December 31, 2001 and 2000, restricted
cash and investments represented the collateral pledged to
secure three standby letters of credit of $4.8 million and two
standby letters of credit of $3.8 million, respectively, issued
in connection with the lease of the Companys headquarters
facility and office furniture (Note 10). During 2001, the
Company replaced its pledged short-term investments with cash
equivalents and, accordingly, reclassified them as restricted
cash on the December 31, 2001 balance sheet. The letters of
credit and restricted cash and investments contractually
decrease over time to zero no later than May 31, 2007.

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(4) Other Balance Sheet
Information

Accrued expenses consisted of the following:

|                 |                                        |                |       |       |  |   |       |       | 
|---------------- | -------------------------------------- | -------------- | ----- | ----- |  | - | ----- | ----- | 
|                 |                                        |               
|                 |                                        | December 31,  
|                 |                                        |               
|                 |                                        | 2001           |       | 2000 
|                 |                                        |                |       |      
|                 |                                        |               
|                 |                                        | (In thousands)
|Accrued expenses |                                        |                |       |       |  |   |       |      
|                 | Accrued compensation and benefits      |                | $     | 2,748 |  |   | $     | 2,974 | 
|                 | Sales taxes payable                    |                |       | 988   |  |   |       | 1,151 | 
|                 | Accrued property and equipment payable |                |       |      |  |   |       | 1,236 | 
|                 | Other miscellaneous accrued expenses   |                |       | 2,828 |  |   |       | 3,231 | 
|                 |                                        |                |       |       |  |   |       |      
|                 |                                        | $              | 6,564 |       |  | $ | 8,592 |      
|                 |                                        |                |       |       |  |   |       |      

Accumulated other comprehensive
(loss) income consisted of the following:

|                                              |                                                      |                |     |      |   |   |     |     |  
|--------------------------------------------- | ---------------------------------------------------- | -------------- | --- | ---- | - | - | --- | --- | -
|                                              |                                                      |               
|                                              |                                                      | December 31,  
|                                              |                                                      |               
|                                              |                                                      | 2001           |     | 2000
|                                              |                                                      |                |     |     
|                                              |                                                      |               
|                                              |                                                      | (In thousands)
|Accumulated other comprehensive (loss) income |                                                      |                |     |      |   |   |     |    
|                                              | Cumulative foreign currency translation
	adjustments |                | $   | (129 | ) |   | $   | (75 | )
|                                              | Unrealized gain on investments, net                  |                |     | 41   |   |   |     | 97  |  
|                                              |                                                      |                |     |      |   |   |     |    
|                                              |                                                      | $              | (88 | )    |   | $ | (22 | )  
|                                              |                                                      |                |     |      |   |   |     |    

(5) Stockholders Equity

(a) Initial
Public Offering

On February 9, 2000, the Securities and
Exchange Commission declared the Companys initial public
offering (IPO) of its common stock effective, and
public trading of the registered shares commenced
February 10, 2000. The initial public offering consisted of
3,800,000 newly issued shares followed by the underwriters
exercise of their over-allotment option for 570,000 shares
(219,269 of which were newly issued and 350,731 which were sold
by certain stockholders). The Company received $74.8 million in
proceeds, net of underwriting discounts and commissions, less
offering costs of $1.5 million.

(b) Redeemable
Convertible Preferred Stock

During 1997, the Company issued 3,184,000 shares
of Series A convertible preferred stock
(Series A) for $2.145 per share. The holders of
Series A shares were entitled to participation rights and
cumulative preferred dividends (payable at redemption or upon
the Companys initial public offering) at $.02145 per share
per annum to be paid in Series A shares or cash. From
inception date through the IPO, the Company recorded accretion
and dividends due each year to the Series A stockholders.
During 1998, the Company issued 1,181,954 shares of
Series B convertible preferred stock
(Series B) for $4.65 per share, resulting in
net proceeds of $5.5 million. During 1999, the Company issued
1,325,028 shares of Series C convertible preferred stock
(Series C) for $6.30 per share, resulting in
net proceeds of $8.3 million.

From each inception date through the IPO, the
Company recorded accretion equal to the net proceeds received
and the redemption amount, as defined through the contractual
redemption date.

In February 2000, upon the closing of the
Companys IPO, the holders of the convertible preferred
stock were entitled to convert each share of the Companys
convertible preferred stock converted into 1.8 shares of the
Companys common stock resulting in the issuance of
10,409,978 shares of common stock, of which 166,211 shares
represented the conversion of the Series A preferred stock
dividends.

(c) Stock
Repurchases

In August 1999, the Company entered into Stock
Repurchase Agreements with three directors of the Company, under
which the Company repurchased 1,800,000 shares of the
Companys common stock for

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##### Table of Contents



$5.4 million. Such consideration was paid
concurrent with the sale of the Series C convertible
preferred stock (Note 6(a)). The Company retired these shares in
2000.


(d) Notes
Receivable from Stock Sales

In March 1999, the Company issued 879,763 shares
of restricted common stock to the CEO of the Company in exchange
for a note receivable of $1.5 million. In August 1999, the CEO
was granted and exercised options to acquire 112,230 shares of
the Companys common stock in exchange for a note
receivable of $334,000. Under the terms of such arrangements,
the underlying restricted stock was fully vested and the
maturity dates of the notes are February 2002 as a result of the
Companys IPO. These notes were extended subsequent to the
year ended December 31, 2001 with a full recourse note
vesting over a three-year period.

In August 1999, the Company issued 269,195 shares
of common stock (from treasury shares) to certain officers and
directors of the Company in exchange for individual notes
receivable aggregating $800,000. As of December 31, 2001,
there was an aggregate remaining balance of $527,000. The
remaining notes have maturity dates of February 2002 as a result
of the Companys IPO. These notes were satisfied subsequent
to the year ended December 31, 2001.

(e) Warrants

During 1999, the Company granted, in connection
with certain of its long-term debt arrangements, a warrant to
purchase 117,000 shares of common stock for $2.58 per share. The
warrant vested immediately and was exercised in full in April
2001. The fair value of the warrant, estimated at $198,000 in
April 1999, was recorded as a debt discount and was amortized
over the term of the debt. The remaining balance was written off
in connection with the early extinguishment of the related debt
in February 2000 (Note 8).

During 2001, the Company paid $5,000 to cancel a
performance-based warrant, which was granted during 2000, to
purchase 10,000 shares of common stock for $19.25 per share.

(f) Stock
Split

On December 27, 1999, the Company effected a
1.8-for-1 stock split which became effective immediately. All
common share and per share information has been adjusted to
reflect the stock split as if it had occurred at the inception
of the Company.

(6) Employee Benefit Plans

(a) Stock
Incentive Plan

As of December 31, 2001, under the 1999
Stock Incentive Plan (the Stock Plan) the
Companys Board of Directors may grant up to 9,159,325
shares of common stock in the form of stock options, restricted
stock awards, or stock appreciation rights to employees and key
persons affiliated with the Company, as defined in the Stock
Plan document. The Stock Plan remains in effect until the
earlier of the tenth anniversary of its effective date or the
date on which all reserved shares have been issued or are no
longer available for use under the Stock Plan. In May 2001, the
stockholders approved an amendment to the Stock Plan to
authorize an additional 2,000,000 shares subject to grant, and
modified a provision to increase, without further approval
required, the number of shares authorized each year beginning on
January 1, 2002 by a number equal to the lesser of 10% of
the total number of shares of common stock then outstanding or
3,000,000 shares. Through December 31, 2001, the Company
had issued 1,199,409 shares of restricted common stock awards.
As of December 31, 2001, 1,104,844 shares remain available
for grant under the Stock Plan.

The Companys Stock Plan provides for
accelerated option vesting terms if the Company undergoes a
change in control, as defined, and there is a change in an
employees responsibilities as a result of the change in
control. To the extent that these events occur, the Company
would have a charge based on the fair market value of the
options at that time.

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Options granted under the Stock Plan and approved
by the Board of Directors may be incentive stock options
(ISO), which qualify for certain U.S. tax benefits,
or nonqualified stock options. Only employees are eligible to
receive ISOs, which must be granted at a price not less than the
estimated fair value of the stock on the grant date, or not less
than 110% of the estimated fair value if granted to a
participant who is a greater than 10% stockholder of the
Company. Nonqualified stock options may be granted to employees
and key persons at a price that may be greater than, equal to,
or less than the estimated fair value of the stock on the grant
date. Option vesting terms are established by the Board of
Directors at the time of grant, and typically range from three
to four years. The expiration date of options granted under the
Stock Plan is determined at the time of grant and may not exceed
ten years from the date of the grant for a non-10% owner of the
Company, or five years from the date of the grant in the case of
an ISO granted to a participant who is a greater than 10% owner
of the Company. Since January 2001, the Company has not granted
ISOs.

During 1999, the Company incurred a deferred
stock compensation charge in the amount of $1.0 million
representing the difference between the exercise price of
certain stock option grants for 278,658 shares of common stock
with a weighted-average exercise price of $6.99 per share and
the deemed pre-IPO fair value of the Companys common stock
at the time of such grants which was $11.70 per share. The
compensation is being amortized over the vesting periods, which
is generally four years. For the years ended December 31,
2001, 2000 and 1999, the Company incurred $171,000, $271,000 and
$13,000, respectively, in related charges that have been
classified into their respective department functional areas.

The following summarizes stock option activity:

|                             |           |           |           |           |   |   |      |       | 
|---------------------------- | --------- | --------- | --------- | --------- | - | - | ---- | ----- | 
|                             |           |           |           | Weighted-
|                             |           |           |           | Average  
|                             |           | Number    |           | Exercise 
|                             |           | of Shares |           | Price    
|                             |           |           |           |          
|Balance at December 31, 1998 |           |           | 1,550,194 |           |   | $ | 0.74 |      
|                             | Granted   |           |           | 2,039,628 |   |   |      | 3.26  | 
|                             | Exercised |           |           | (389,571  | ) |   |      | 1.11  | 
|                             | Cancelled |           |           | (318,193  | ) |   |      | 1.10  | 
|                             |           |           |           |           |   |   |      |      
|Balance at December 31, 1999 |           |           | 2,882,058 |           |   | $ | 2.44 |      
|                             | Granted   |           |           | 1,811,871 |   |   |      | 11.22 | 
|                             | Exercised |           |           | (534,724  | ) |   |      | 1.25  | 
|                             | Cancelled |           |           | (360,722  | ) |   |      | 5.76  | 
|                             |           |           |           |           |   |   |      |      
|Balance at December 31, 2000 |           |           | 3,798,483 |           |   | $ | 6.43 |      
|                             | Granted   |           |           | 2,637,630 |   |   |      | 9.02  | 
|                             | Exercised |           |           | (422,455  | ) |   |      | 2.52  | 
|                             | Cancelled |           |           | (643,241  | ) |   |      | 7.94  | 
|                             |           |           |           |           |   |   |      |      
|Balance at December 31, 2001 |           |           | 5,370,147 |           |   | $ | 7.82 |      
|                             |           |           |           |           |   |   |      |      

The following table summarizes information about
stock options outstanding at December 31, 2001:

|                |                 |             |  |           |           |           |  |             |           |                |  |   |       |  |  |  |           |  |  |   |       | 
|--------------- | --------------- | ----------- |  | --------- | --------- | --------- |  | ----------- | --------- | -------------- |  | - | ----- |  |  |  | --------- |  |  | - | ----- | 
|                |                 |             |  |           |           |           |  |            
|                |                 |             |  |           |           |           |  | Exercisable
|                |                 |             |  | Weighted- |           | Weighted- |  |            
|                |                 |             |  | Average   |           | Average   |  |             |           | Weighted-     
|Range of        |                 | Number      |  | Remaining |           | Exercise  |  | Number      |           | Average       
|Exercise Prices |                 | Outstanding |  | Life      |           | Price     |  | of Shares   |           | Exercise Price
|                |                 |             |  |           |           |           |  |             |           |               
|                | $ 0.12 - $ 2.22 |             |  |           | 966,898   |           |  |             | 6.7 years |                |  | $ | 1.29  |  |  |  | 759,345   |  |  | $ | 1.22  | 
|                | $ 2.23 - $ 7.95 |             |  |           | 2,222,725 |           |  |             | 8.1 years |                |  |   | 6.69  |  |  |  | 527,251   |  |  |   | 6.59  | 
|                | $ 7.96 - $11.95 |             |  |           | 1,160,893 |           |  |             | 9.4 years |                |  |   | 9.07  |  |  |  | 55,490    |  |  |   | 8.55  | 
|                | $11.96 - $38.25 |             |  |           | 1,019,631 |           |  |             | 9.3 years |                |  |   | 15.04 |  |  |  | 166,945   |  |  |   | 17.03 | 
|                |                 |             |  |           |           |           |  |             |           |                |  |   |       |  |  |  |           |  |  |   |       | 
|                |                 |             |  |           | 5,370,147 |           |  |             |           |                |  |   |       |  |  |  | 1,509,031 |  |  |   |       | 
|                |                 |             |  |           |           |           |  |             |           |                |  |   |       |  |  |  |           |  |  |   |       | 

The weighted-average remaining contractual life
of options outstanding at December 31, 2001 was
8.4 years.

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(b) Employee
Stock Purchase Plan

The Companys employee stock purchase plan
(ESPP) became effective upon the Companys IPO
and there were 990,000 shares of common stock reserved for
issuance. Under the ESPP, the Companys employees may
purchase shares of common stock at a price per share that is 85%
of the lesser of the fair market value as of the beginning or
end of the semi-annual option period. The ESPP includes a
provision to increase, without further approval required, the
number of shares authorized each year on January 1 by a number
equal to the lesser of 2% of the total number of shares of
common stock then outstanding or 900,000 shares. As of
December 31, 2001, 92,630 shares of common stock were
issued under the ESPP.

(c) Accounting
for Stock-Based Compensation

The Company applies the provisions of APB Opinion
No. 25 in accounting for its Stock Plan and ESPP and,
accordingly, no compensation cost has been recognized in the
accompanying financial statements, except for the amounts
disclosed in Note 6(a). Had the Company determined
compensation cost based on the fair value at the grant date for
its stock options and purchase rights under SFAS No. 123,
the Companys net loss would have been increased to the pro
forma amounts indicated below (in thousands, except per share
data):

|                                               |  |                         |         |      |  |      |        |   |  |   |        |  
|---------------------------------------------- |  | ----------------------- | ------- | ---- |  | ---- | ------ | - |  | - | ------ | -
|                                               |  |                        
|                                               |  | Year Ended December 31,
|                                               |  |                        
|                                               |  | 2001                    |         | 2000 |  | 1999
|                                               |  |                         |         |      |  |     
|Historical net loss                            |  | $                       | (5,180  | )    |  | $    | (2,214 | ) |  | $ | (7,004 | )
|Pro forma net loss                             |  |                         | (14,458 | )    |  |      | (7,117 | ) |  |   | (7,623 | )
|Pro forma basic and diluted net loss per share |  |                         | (0.65   | )    |  |      | (0.36  | ) |  |   | (1.47  | )

The weighted-average fair value of stock options
granted during 2001, 2000, and 1999 was $7.23, $10.27 and $1.65
per share, respectively, on the date of grant using the
Black-Scholes option-pricing model with the following
weighted-average assumptions: 2001  assumed
volatility of 90%, expected dividend yield of 0%, risk-free
interest rate of 4.5%, and an expected life of 7.5 years;
2000  assumed volatility of 120%, expected dividend
yield of 0%, risk-free interest rate of 5.8%, and an expected
life of 7.5 years; 1999  assumed volatility of
0%, expected dividend yield of 0%, risk-free interest rate of
6%, and an expected life of 7.3 years.

The weighted-average fair value of the
employees purchase rights under the ESPP granted during
2001 and 2000 was $5.09 and $10.53 per share, respectively,
using the Black-Scholes option-pricing model with the following
weighted-average assumptions: for each of the two six-month
periods in 2001  assumed volatility of 90%, expected
dividend yield of 0%, and risk-free interest rate of 4.5%;
2000  assumed volatility of 120%, expected dividend
yield of 0%, and risk-free interest rate of 5.8%.



| |                    
| | -------------------
| | (d) Retirement Plan

The Company maintains a U.S. tax-qualified
defined contribution plan under Section 401(k) of the
Internal Revenue Code (the 401(k) Plan). Employees
are eligible to participate the first of the month following
their date of hire. The 401(k) Plan allows participants to
contribute by salary reduction up to 20% of eligible
compensation, subject to U.S. Internal Revenue Service
limitations. The 401(k) Plan also provides for discretionary
employer matching contributions. The Company contributed
$315,000 and $204,000 in 2001 and 2000, respectively. No Company
contributions were made prior to 2000.

(7) Income Taxes

The components of the provision for income taxes
for 2001 are as follows (in thousands):

|        |       |         |    |          |  |       |   |   |  |   |    |     | 
|------- | ----- | ------- | -- | -------- |  | ----- | - | - |  | - | -- | --- | 
|        |       | Current |    | Deferred |  | Total
|        |       |         |    |          |  |      
|Federal |       | $       | 52 |          |  |       |  |   |  | $ | 52 |    
|State   |       |         | 32 |          |  |       |  |   |  |   | 32 |    
|Foreign |       |         | 32 |          |  |       |  |   |  |   | 32 |    
|        |       |         |    |          |  |       |   |   |  |   |    |    
|        | Total |         | $  | 116      |  |       |   |  |  |   | $  | 116 | 
|        |       |         |    |          |  |       |   |   |  |   |    |    

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During 2000, and 1999, no income taxes were
recorded because the Company and its subsidiaries did not earn
operating profits and had no recognizable benefits. Income tax
expense (benefit) differed from the amounts computed by
applying the statutory U.S. federal income tax rate of 34% to
loss before income taxes as a result of the following (in
thousands):

|                                                     |                                                                          |                         |        |       |   |      |      |      |   |   |        |       |  
|---------------------------------------------------- | ------------------------------------------------------------------------ | ----------------------- | ------ | ----- | - | ---- | ---- | ---- | - | - | ------ | ----- | -
|                                                     |                                                                          |                        
|                                                     |                                                                          | Year Ended December 31,
|                                                     |                                                                          |                        
|                                                     |                                                                          | 2001                    |        | 2000  |   | 1999
|                                                     |                                                                          |                         |        |       |   |     
|Computed expected tax benefit                      |                                                                          | $                       | (1,732 | )     |   | $    | (753 | )    |   | $ | (2,381 | )    
|Increase (decrease) in income taxes
	resulting from: |                                                                          |                         |        |       |   |      |      |      |   |   |        |      
|                                                     | State income taxes, net of federal income taxes                          |                         |        | (186  | ) |      |      | (54  | ) |   |        | (269  | )
|                                                     | Nondeductible meals & entertainment                                      |                         |        | 127   |   |      |      | 113  |   |   |        | 85    |  
|                                                     | Other nondeductible items                                                |                         |        | (206  | ) |      |      | (33  | ) |   |        | 19    |  
|                                                     | Income tax effect attributable to foreign
	operations at different rates |                         |        | (160  | ) |      |      | 272  |   |   |        |      |  
|                                                     | Generation of research and experimentation credit
	carryforward          |                         |        | (332  | ) |      |      | (100 | ) |   |        |      |  
|                                                     | Other, net                                                               |                         |        | 16    |   |      |      | 2    |   |   |        | (228  | )
|                                                     | Increase in valuation allowance                                          |                         |        | 2,589 |   |      |      | 553  |   |   |        | 2,774 |  
|                                                     |                                                                          |                         |        |       |   |      |      |      |   |   |        |      
|                                                     |                                                                          | $                       | 116    |       |   | $    |     |      |   | $ |       |      
|                                                     |                                                                          |                         |        |       |   |      |      |      |   |   |        |      

The income tax effects of temporary differences
that give rise to significant portions of the Companys
deferred income tax assets and liabilities are presented below
(in thousands):

|                                 |                                                                           |                                        |   |        |       |   |   |        |       | 
|-------------------------------- | ------------------------------------------------------------------------- | -------------------------------------- | - | ------ | ----- | - | - | ------ | ----- | 
|                                 |                                                                           |                                       
|                                 |                                                                           | December 31,                          
|                                 |                                                                           |                                       
|                                 |                                                                           | 2001                                   |   | 2000  
|                                 |                                                                           |                                        |   |       
|Deferred income tax assets:      |                                                                           |                                        |   |        |       |   |   |       
|                                 | Allowance for bad debts                                                   |                                        | $ | 589    |       |   | $ | 309    |      
|                                 | Accruals not deducted for tax                                             |                                        |   | 184    |       |   |   | 462    |      
|                                 | Property and equipment, principally due to
	differences in depreciation   |                                        |   | 2,458  |       |   |   | 1,886  |      
|                                 | Net operating loss and research and
	experimentation credit carryforwards |                                        |   | 5,542  |       |   |   | 3,478  |      
|                                 |                                                                           |                                        |   |        |       |   |   |       
|                                 |                                                                           | Total gross deferred income tax assets |   |        | 8,773 |   |   |        | 6,135 | 
|                                 | Less valuation allowance                                                  |                                        |   | (8,530 | )     |   |   | (5,941 | )    
|                                 |                                                                           |                                        |   |        |       |   |   |       
|                                 |                                                                           | Net deferred income tax assets         |   |        | 243   |   |   |        | 194   | 
|Deferred income tax liabilities: |                                                                           |                                        |   |        |       |   |   |       
|                                 | Deferred stock compensation                                               |                                        |   | (243   | )     |   |   | (194   | )    
|                                 |                                                                           |                                        |   |        |       |   |   |       
|                                 |                                                                           | $                                      |  |        |       | $ |  |       
|                                 |                                                                           |                                        |   |        |       |   |   |       

The net change in the valuation allowance for
deferred income tax assets for 2001, 2000, and 1999 was an
increase of $2.6 million, $0.6 million, and
$2.8 million, respectively. In assessing the realizability
of deferred tax assets, management considers whether it is more
likely than not that some portion or all of the deferred income
tax assets will not be realized. The ultimate realization of
deferred income tax assets is dependent upon the generation of
future taxable income during the periods in which those
temporary differences become deductible. Management considers
the scheduled reversal of deferred income tax liabilities,
projected future taxable income, and tax planning strategies in
making this assessment.

As a result of the exercise of certain stock
options during 2001, 2000 and 1999, the Company is entitled to a
tax deduction of approximately $2.0 million to be applied
against future taxable income generated by the Company, if any.
In accordance with APB Opinion No. 25, any income tax
benefit derived from this deduction will be reflected as
additional paid-in capital at the time the Company recognizes
such income tax benefit.

At December 31, 2001, the Company has net
operating loss and research and experimentation credit
carryforwards for U.S. federal income tax purposes of
$6.7 million and $0.7 million, respectively, which
expire in varying amounts beginning in the year 2014. The
Company also has incurred foreign losses in the amount of
$6.1 million, which are available to offset future taxable
income in foreign jurisdictions. These foreign losses expire in
varying amounts beginning in 2005.

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##### Table of Contents



Losses before income taxes from foreign
operations were ($2.6) million, ($3.3) million, and
($0.7) million in 2001, 2000, and 1999, respectively.
Income (losses) before income taxes from U.S. operations
were ($2.5) million, $1.0 million, and
($6.3) million in 2001, 2000, and 1999, respectively.

(8) Long-Term Debt

In February 2000, the Company used a portion
of the proceeds from its IPO to repay all of its existing
borrowings under its financing arrangements. As a result, the
Company incurred an extraordinary loss on the early
extinguishment of debt of $248,000.

(9) Other Costs

During 1999, the Company incurred $315,000 of
severance costs for terminated executives and $350,000 for bonus
and relocation costs in connection with recruiting a new
executive. Such costs were charged to each departments
functional area of the organization, accordingly.

(10) Commitments and
Contingencies

During 2000, the Company adopted a plan to
relocate its corporate headquarters to a larger facility within
the Atlanta metropolitan area. In accordance with the Emerging
Issues Task Forces abstract No. 94-3, the Company
estimated that the net costs associated with its then existing
facilities, which are under noncancellable leases expiring on
June 30, 2002, would be approximately $525,000. The Company
recorded this obligation during the second quarter of 2000.
During 2001, two of the sublessees were unable to fulfill their
obligations and the subleases were terminated. As a result, the
Company recorded an additional obligation of $155,000 in 2001
for the additional estimated loss. As of December 31, 2001,
the remaining accrual balance was $154,000.

The Company executed three irrevocable standby
letters of credit to secure the new corporate headquarters
facility and furniture leases in the aggregate amount of $4.8
million as of December 31, 2001. The letters of credit and
related restricted funds have decreasing schedules that
ultimately expire in 2002 and 2007, which correspond with their
classification on the accompanying balance sheets.

The Company leases its office facilities,
including its corporate headquarters, and certain office
equipment under various noncancelable operating lease agreements
that expire at various times through 2007. Future minimum
payments under these leases at December 31, 2001, are as
follows (in thousands):

|           |  |              |        | 
|---------- |  | ------------ | ------ | 
|           |  | December 31,
|           |  |             
|2002       |  | $            | 3,328  | 
|2003       |  |              | 2,594  | 
|2004       |  |              | 2,589  | 
|2005       |  |              | 2,622  | 
|2006       |  |              | 2,666  | 
|Thereafter |  |              | 2,483  | 
|           |  |              |        | 
|           |  | $            | 16,282 | 
|           |  |              |        | 

The future minimum payments exclude sublease
income on a noncancelable lease of $59,000 due in the future.
Rent expense for the years ended December 31, 2001, 2000,
and 1999 was $3.4 million, $2.1 million, and $0.7 million
respectively.

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##### Table of Contents






SCHEDULE II

VALUATION AND QUALIFYING ACCOUNTS

|                                 |                              |                   |   |                  |  |            |   |            |  |             |   |     |  |  |   |      |   |  |   |       | 
|-------------------------------- | ---------------------------- | ----------------- | - | ---------------- |  | ---------- | - | ---------- |  | ----------- | - | --- |  |  | - | ---- | - |  | - | ----- | 
|                                 |                              | Balance at        |   | Charges to Costs |  | Charged to |   |            |  | Balance at 
|                                 |                              | Beginning of Year |   | and Expenses     |  | Revenue    |   | Deductions |  | End of Year
|                                 |                              |                   |   |                  |  |            |   |            |  |            
|Allowance for Doubtful Accounts: |                              |                   |   |                  |  |            |   |            |  |             |   |     |  |  |   |      |   |  |   |      
|                                 | Year ended December 31, 2001 |                   | $ | 775              |  |            | $ | 1,624      |  |             | $ |    |  |  | $ | (945 | ) |  | $ | 1,454 | 
|                                 | Year ended December 31, 2000 |                   |   | 438              |  |            |   | 544        |  |             |   |    |  |  |   | (207 | ) |  |   | 775   | 
|                                 | Year ended December 31, 1999 |                   |   | 300              |  |            |   | 226        |  |             |   |    |  |  |   | (88  | ) |  |   | 438   | 
|Sales Allowances:                |                              |                   |   |                  |  |            |   |            |  |             |   |     |  |  |   |      |   |  |   |      
|                                 | Year ended December 31, 2001 |                   |   | 229              |  |            |   |           |  |             |   | 120 |  |  |   | (235 | ) |  |   | 114   | 
|                                 | Year ended December 31, 2000 |                   |   | 225              |  |            |   |           |  |             |   | 170 |  |  |   | (166 | ) |  |   | 229   | 
|                                 | Year ended December 31, 1999 |                   |   | 225              |  |            |   |           |  |             |   | 47  |  |  |   | (47  | ) |  |   | 225   | 
|Hardware Warranty Reserve:       |                              |                   |   |                  |  |            |   |            |  |             |   |     |  |  |   |      |   |  |   |      
|                                 | Year ended December 31, 2001 |                   |   | 90               |  |            |   |           |  |             |   |    |  |  |   | (72  | ) |  |   | 18    | 
|                                 | Year ended December 31, 2000 |                   |   | 163              |  |            |   |           |  |             |   |    |  |  |   | (73  | ) |  |   | 90    | 
|                                 | Year ended December 31, 1999 |                   |   | 217              |  |            |   |           |  |             |   |    |  |  |   | (54  | ) |  |   | 163   | 

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##### Table of Contents






SIGNATURES

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



| |                      
| | ---------------------
| | WITNESS SYSTEMS, INC.

Dated: March 29, 2002




| |                                     
| | ------------------------------------
| | By: /s/ DAVID B. GOULD              
| |                                     
| | David B. Gould                      
| | Chairman of the Board, President and
| | Chief Executive Officer             

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

|                                     |  |                                                               |  |                |  | 
|------------------------------------ |  | ------------------------------------------------------------- |  | -------------- |  | 
|                                    
|/s/ DAVID B. GOULDDavid B. Gould     |  | Chairman of the Board, President and Chief
	Executive Officer |  | March 29, 2002
|                                    
|/s/ JON W. EZRINEJon W. Ezrine       |  | Chief Financial Officer and Assistant
	Secretary              |  | March 29, 2002
|                                    
|/s/ THOMAS J. CROTTYThomas J. Crotty |  | Director                                                      |  | March 29, 2002
|                                    
|/s/ JOEL G. KATZJoel G. Katz         |  | Director                                                      |  | March 29, 2002
|                                    
|/s/ PETER SINISGALLIPeter Sinisgalli |  | Director                                                      |  | March 29, 2002
|                                    
|/s/ DAN LAUTENBACHDan Lautenbach     |  | Director                                                      |  | March 29, 2002

F-21