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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549



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FORM 10-Q

(MARK ONE)

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|[X]  |  | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES 
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|     |  | EXCHANGE ACT OF 1934                                               
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|     |  | FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2001                       
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|[  ] |  | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
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|     |  | EXCHANGE ACT OF 1934                                               

For the transition period from ________ to ________

Commission File number 25737

_______________

USinternetworking, Inc.
(Exact name of registrant as specified in its charter)

|                                |  |                    
|------------------------------- |  | -------------------
|Delaware                        |  | 52-2078325         
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|(State or other jurisdiction of |  | (I.R.S. Employer   
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|incorporation or organization)  |  | Identification No.)

One USi Plaza, Annapolis, MD 21401-7478
(Address of principal executive offices)
(Zip Code)

(410) 897-4400
Registrants telephone number, including area code:

_______________

Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]

Shares outstanding of the Registrants common stock

|                              |  |                               |             | 
|----------------------------- |  | ----------------------------- | ----------- | 
|Class                         |  | Outstanding
at August 3, 2001
|                              |  |                              
|Common Stock, $.001 par value |  |                               | 145,013,172 | 



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1



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INDEX

USinternetworking, Inc.

|           |  |                                                                                                                                                                     |  |      |    | 
|---------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ---- | -- | 
|           |  |                                                                                                                                                                     |  | Page
|           |  |                                                                                                                                                                     |  |     
|PART I     |  | FINANCIAL INFORMATION                                                                                                                                               |  |      | 3  | 
|          
|          
|          
|          
|Item 1.    |  | Consolidated Financial Statements of USinternetworking, Inc.                                                                                                       
|          
|          
|          
|          
|           |  | Consolidated Balance Sheets as of June 30, 2001 (unaudited)
and December 31, 2000                                                                                   |  |      | 3  | 
|          
|          
|          
|          
|           |  | Consolidated Statements of Operations for the three months
ended June 30, 2001 and 2000 (unaudited) and for the six
months ended June 30, 2001 and 2000 (unaudited) |  |      | 4  | 
|          
|          
|          
|          
|           |  | Consolidated Statement of Stockholders Equity for the six
months ended June 30, 2001 (unaudited)                                                                   |  |      | 5  | 
|          
|          
|          
|          
|           |  | Consolidated Statements of Cash Flows for the six months
ended June 30, 2001 and 2000 (unaudited)                                                                   |  |      | 6  | 
|          
|          
|          
|          
|           |  | Notes to Consolidated Financial Statements                                                                                                                          |  |      | 7  | 
|          
|          
|          
|          
|Item 2.    |  | Managements Discussion and Analysis of Financial Condition
and Results of Operations                                                                               |  |      | 12 | 
|          
|          
|          
|          
|Item 3.    |  | Quantitative and Qualitative Disclosure of Market Risk                                                                                                              |  |      | 18 | 
|          
|          
|          
|          
|PART II    |  | OTHER INFORMATION                                                                                                                                                   |  |      | 19 | 
|          
|          
|          
|          
|Item 1.    |  | Legal Proceedings                                                                                                                                                   |  |      | 19 | 
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|          
|          
|          
|Item 2.    |  | Changes in Securities and Use of Proceeds                                                                                                                           |  |      | 19 | 
|          
|          
|          
|          
|Item 4.    |  | Submission of Matters to a Vote of Security Holders                                                                                                                 |  |      | 19 | 
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|          
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|Item 5.    |  | Other Information                                                                                                                                                   |  |      | 19 | 
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|          
|          
|          
|Item 6.    |  | Exhibits and Reports on Form 8-K                                                                                                                                    |  |      | 19 | 
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|          
|          
|          
|SIGNATURES |  |                                                                                                                                                                     |  |      | 20 | 

2



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PART I. FINANCIAL INFORMATION

Item 1.Consolidated Financial Statements

USinternetworking, Inc.

Consolidated Balance Sheets

(Dollar amounts in thousands, except per share amounts)

|                                                             |                                                               |                                                          |                                      |          |         |             |         |              |         |   |  | 
|------------------------------------------------------------ | ------------------------------------------------------------- | -------------------------------------------------------- | ------------------------------------ | -------- | ------- | ----------- | ------- | ------------ | ------- | - |  | 
|                                                             |                                                               |                                                          |                                      |          |         | June 30,    |         | December 31,
|                                                             |                                                               |                                                          |                                      |          |         | 2001        |         | 2000        
|                                                             |                                                               |                                                          |                                      |          |         |             |         |             
|                                                             |                                                               |                                                          |                                      |          |         | (unaudited)
|                                                             |                                                               |                                                          |                                      | ASSETS  
|                                                            
|                                                            
|                                                            
|                                                            
|Current assets:                                             
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Cash and cash equivalents                                     |                                                          | $                                    | 79,168   |         |             | $       | 56,962       |        
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Restricted cash                                               |                                                          |                                      | 5,552    |         |             |         | 3,102        |        
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Accounts receivable, less allowance of $1,819 in 2001 and    
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             |                                                               | $1,785 in 2000                                           |                                      |          | 32,212  |             |         |              | 35,312  |  
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Due from director                                             |                                                          |                                      | 2,553    |         |             |         | 2,158        |        
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Prepaid hardware and software maintenance costs               |                                                          |                                      | 7,965    |         |             |         | 9,115        |        
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Prepaid expenses and other current assets                     |                                                          |                                      | 3,780    |         |             |         | 4,232        |        
|                                                             |                                                               |                                                          |                                      |          |         |             |         |             
|                                                             |                                                               | Total current assets                                     |                                      |          | 131,230 |             |         |              | 110,881 |  
|                                                            
|                                                            
|                                                            
|                                                            
|Deferred iMAP costs, net of accumulated amortization of     
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | $32,431 in 2001 and $18,820 in 2000                           |                                                          |                                      | 27,858   |         |             |         | 29,943       |        
|                                                            
|                                                            
|                                                            
|                                                            
|Software licenses, net of accumulated amortization of       
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | $12,534 in 2001 and $9,727 in 2000                            |                                                          |                                      | 16,224   |         |             |         | 20,548       |        
|                                                            
|                                                            
|                                                            
|                                                            
|Property and equipment, net of accumulated depreciation of  
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | $81,169 in 2001 and $52,336 in 2000                           |                                                          |                                      | 218,550  |         |             |         | 218,563      |        
|                                                            
|                                                            
|                                                            
|                                                            
|Goodwill, net of accumulated amortization of $20,625 in 2001
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | and $15,723 in 2000                                           |                                                          |                                      | 27,143   |         |             |         | 27,560       |        
|                                                            
|                                                            
|                                                            
|                                                            
|Deferred financing costs and other assets, net of           
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | accumulated amortization of $1,826 in 2001 and $1,232 in
2000 |                                                          |                                      | 12,118   |         |             |         | 11,288       |        
|                                                             |                                                               |                                                          |                                      |          |         |             |         |             
|                                                             |                                                               | Total assets                                             |                                      | $        | 433,123 |             |         | $            | 418,783 |  
|                                                             |                                                               |                                                          |                                      |          |         |             |         |              |        
|                                                             |                                                               |                                                          | LIABILITIES AND STOCKHOLDERS EQUITY
|                                                            
|                                                            
|                                                            
|                                                            
|Current liabilities:                                        
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Accounts payable                                              |                                                          | $                                    | 12,100   |         |             | $       | 23,259       |        
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Accrued compensation and benefits                             |                                                          |                                      | 15,409   |         |             |         | 14,718       |        
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Other accrued expenses                                        |                                                          |                                      | 9,612    |         |             |         | 6,098        |        
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Deferred revenue                                              |                                                          |                                      | 22,567   |         |             |         | 20,478       |        
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Current portion of capital lease obligations                  |                                                          |                                      | 32,497   |         |             |         | 21,802       |        
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Current portion of long-term debt                             |                                                          |                                      | 16,230   |         |             |         | 22,020       |        
|                                                             |                                                               |                                                          |                                      |          |         |             |         |             
|                                                             |                                                               | Total current liabilities                                |                                      |          | 108,415 |             |         |              | 108,375 |  
|                                                            
|                                                            
|                                                            
|                                                            
|Capital lease obligations, less current portion              |                                                               |                                                          | 41,755                               |          |         |             | 39,238  |             
|                                                            
|                                                            
|                                                            
|                                                            
|Long-term debt, less current portion                         |                                                               |                                                          | 33,298                               |          |         |             | 29,187  |             
|                                                            
|                                                            
|                                                            
|                                                            
|Convertible subordinated notes                               |                                                               |                                                          | 125,000                              |          |         |             | 125,000 |             
|                                                            
|                                                            
|                                                            
|                                                            
|Other long-term liabilities                                  |                                                               |                                                          | 1,087                                |          |         |             |        |             
|                                                             |                                                               |                                                          |                                      |          |         |             |         |             
|                                                             |                                                               | Total liabilities                                        |                                      |          | 309,555 |             |         |              | 301,800 |  
|                                                            
|                                                            
|                                                            
|                                                            
|Commitments and contingent liabilities                       |                                                               |                                                          |                                     |          |         |             |        |             
|                                                            
|                                                            
|                                                            
|                                                            
|Stockholders equity:                                       
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Preferred stock, $.001 par value, 1,000,000 shares           
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             |                                                               | authorized, none issued and outstanding                  |                                      |          |        |             |         |              |        |  
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Common stock, $.001 par value, 450,000,000 shares            
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             |                                                               | authorized; issued and outstanding shares of 145,054,352
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             |                                                               | in 2001 and 115,063,871 in 2000                          |                                      |          | 145     |             |         |              | 115     |  
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Additional paid-in capital                                    |                                                          |                                      | 545,581  |         |             |         | 444,878      |        
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Note receivable from director for purchase of common         
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             |                                                               | stock                                                    |                                      |          | (2,250  | )           |         |              | (2,250  | )
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Unearned compensation                                         |                                                          |                                      | (12,258  | )       |             |         | (15,029      | )      
|                                                            
|                                                            
|                                                            
|                                                            
|                                                             | Accumulated deficit                                           |                                                          |                                      | (407,650 | )       |             |         | (310,731     | )      
|                                                             |                                                               |                                                          |                                      |          |         |             |         |             
|                                                             |                                                               | Total stockholders equity                               |                                      |          | 123,568 |             |         |              | 116,983 |  
|                                                             |                                                               |                                                          |                                      |          |         |             |         |             
|                                                             |                                                               | Total liabilities and stockholders equity               |                                      | $        | 433,123 |             |         | $            | 418,783 |  
|                                                             |                                                               |                                                          |                                      |          |         |             |         |              |        

See accompanying notes.

3



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USinternetworking, Inc.

Consolidated Statements of Operations

(Dollar amounts in thousands, except per share amounts)

|                                                        |                                      |                                  |         |                    |         |                  |         |        |         |      |         |         |         |   |         |        |         |  
|------------------------------------------------------- | ------------------------------------ | -------------------------------- | ------- | ------------------ | ------- | ---------------- | ------- | ------ | ------- | ---- | ------- | ------- | ------- | - | ------- | ------ | ------- | -
|                                                        |                                      |                                  |         | Three months ended |         | Six months ended
|                                                        |                                      |                                  |         | June 30,           |         | June 30,        
|                                                        |                                      |                                  |         |                    |         |                 
|                                                        |                                      |                                  |         | 2001               |         | 2000             |         | 2001   |         | 2000
|                                                        |                                      |                                  |         |                    |         |                  |         |        |         |     
|                                                        |                                      |                                  |         | (unaudited)        |         | (unaudited)     
|Revenue                                                 |                                      | $                                | 32,176  |                    |         | $                | 26,223  |        |         | $    | 68,839  |         |         | $ | 44,012  |       
|                                                        |                                      |                                  |         |                    |         |                  |         |        |         |      |         |         |         |   |         |       
|Costs and expenses:                                    
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Direct cost of services              |                                  |         | 17,054             |         |                  |         | 17,287 |         |      |         | 36,464  |         |   |         | 28,536 |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Network and infrastructure costs     |                                  |         | 7,158              |         |                  |         | 6,222  |         |      |         | 15,124  |         |   |         | 12,312 |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | General and administrative           |                                  |         | 7,580              |         |                  |         | 6,787  |         |      |         | 14,339  |         |   |         | 13,012 |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Sales and marketing                  |                                  |         | 12,477             |         |                  |         | 17,680 |         |      |         | 27,699  |         |   |         | 34,936 |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Product research and development     |                                  |         | 662                |         |                  |         | 829    |         |      |         | 1,371   |         |   |         | 1,341  |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Restructuring charge                 |                                  |         | 7,833              |         |                  |         |       |         |      |         | 8,853   |         |   |         |       |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Impairment loss                      |                                  |         | 1,348              |         |                  |         |       |         |      |         | 1,348   |         |   |         |       |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Non-cash stock compensation expense:
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        |                                      | Direct cost of services          |         |                    | 1,145   |                  |         |        | 881     |      |         |         | 2,490   |   |         |        | 1,475   |  
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        |                                      | Network and infrastructure costs |         |                    | 1,119   |                  |         |        | 1,311   |      |         |         | 2,372   |   |         |        | 2,448   |  
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        |                                      | General and administrative       |         |                    | 1,587   |                  |         |        | 2,017   |      |         |         | 4,172   |   |         |        | 3,081   |  
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        |                                      | Sales and marketing              |         |                    | 1,483   |                  |         |        | 1,530   |      |         |         | 3,278   |   |         |        | 2,849   |  
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        |                                      | Product research and development |         |                    | 2       |                  |         |        | 12      |      |         |         | 5       |   |         |        | 22      |  
|                                                        |                                      |                                  |         |                    |         |                  |         |        |         |      |         |         |         |   |         |       
|                                                        |                                      |                                  | 5,336   |                    |         |                  | 5,751   |        |         |      | 12,317  |         |         |   | 9,875   |       
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Depreciation and amortization        |                                  |         | 19,245             |         |                  |         | 11,600 |         |      |         | 37,792  |         |   |         | 20,930 |        
|                                                        |                                      |                                  |         |                    |         |                  |         |        |         |      |         |         |         |   |         |       
|                                                        |                                      | Total costs and expenses         |         |                    | 78,693  |                  |         |        | 66,156  |      |         |         | 155,307 |   |         |        | 120,942 |  
|                                                        |                                      |                                  |         |                    |         |                  |         |        |         |      |         |         |         |   |         |       
|Operating loss                                          |                                      |                                  | (46,517 | )                  |         |                  | (39,933 | )      |         |      | (86,468 | )       |         |   | (76,930 | )     
|                                                       
|                                                       
|                                                       
|                                                       
|Other income (expense):                                
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Interest income                      |                                  |         | 1,264              |         |                  |         | 2,595  |         |      |         | 3,309   |         |   |         | 4,498  |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Interest expense                     |                                  |         | (6,222             | )       |                  |         | (4,635 | )       |      |         | (13,760 | )       |   |         | (9,187 | )      
|                                                        |                                      |                                  |         |                    |         |                  |         |        |         |      |         |         |         |   |         |       
|                                                        |                                      |                                  | (4,958  | )                  |         |                  | (2,040  | )      |         |      | (10,451 | )       |         |   | (4,689  | )     
|                                                        |                                      |                                  |         |                    |         |                  |         |        |         |      |         |         |         |   |         |       
|                                                        |                                      | Net loss                         |         | $                  | (51,475 | )                |         | $      | (41,973 | )    |         | $       | (96,919 | ) |         | $      | (81,619 | )
|                                                        |                                      |                                  |         |                    |         |                  |         |        |         |      |         |         |         |   |         |       
|Basic and diluted loss per common share attributable to
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | common stockholders                  |                                  | $       | (0.37              | )       |                  | $       | (0.43  | )       |      | $       | (0.70   | )       |   | $       | (0.86  | )      
|                                                        |                                      |                                  |         |                    |         |                  |         |        |         |      |         |         |         |   |         |       

See accompanying notes.

4



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USinternetworking, Inc.

Consolidated Statement of Stockholders Equity

Six months ended June 30, 2001

(Dollar amounts in thousands, except share amounts)

|                                     |                                                          |                                          |             |         |              |   |            |   |            |   |              |       |              |   |        |   |   |   |         |       |      |   | 
|------------------------------------ | -------------------------------------------------------- | ---------------------------------------- | ----------- | ------- | ------------ | - | ---------- | - | ---------- | - | ------------ | ----- | ------------ | - | ------ | - | - | - | ------- | ----- | ---- | - | 
|                                     |                                                          |                                          |             |         |              |   | Additional |   | Note      
|                                     |                                                          |                                          |             |         | Common
Stock |   | Paid-in    |   | Receivable |   | Unearned    
|                                     |                                                          |                                          |             |         | Shares       |   | Par value  |   | Capital    |   | From Officer |       | Compensation
|                                     |                                                          |                                          |             |         |              |   |            |   |            |   |              |       |             
|Balance at January 1, 2001           |                                                          |                                          | 115,063,871 |         |              | $ | 115        |   |            | $ | 444,878      |       |              | $ | (2,250 | ) |   | $ | (15,029 | )    
|                                    
|                                    
|                                    
|                                    
|                                     | Issuance of common stock for cash, net of offering costs
|                                    
|                                    
|                                    
|                                    
|                                     |                                                          | of $6,664                                |             |         | 28,634,815   |   |            |   | 29         |   |              |       | 90,145       |   |        |   |  |   |         |       |     |  
|                                    
|                                    
|                                    
|                                    
|                                     | Issuance of restricted stock in connection with employee
|                                    
|                                    
|                                    
|                                    
|                                     |                                                          | bonus plan                               |             |         | 240,193      |   |            |   |           |   |              |       | 636          |   |        |   |  |   |         |       | (428 | )
|                                    
|                                    
|                                    
|                                    
|                                     | Common stock issued upon exercise of stock options       |                                          |             | 205,241 |              |   |            |  |            |   |              | 386   |              |   |        |  |   |   |         |      |     
|                                    
|                                    
|                                    
|                                    
|                                     | Common stock issued for employee stock purchase plan     |                                          |             | 454,904 |              |   |            | 1 |            |   |              | 821   |              |   |        |  |   |   |         |      |     
|                                    
|                                    
|                                    
|                                    
|                                     | Contribution of common stock to employee benefit plan    |                                          |             | 455,328 |              |   |            |  |            |   |              | 1,097 |              |   |        |  |   |   |         |      |     
|                                    
|                                    
|                                    
|                                    
|                                     | Stock compensation expense for issuance of common       
|                                    
|                                    
|                                    
|                                    
|                                     |                                                          | stock options at below fair market value |             |         |             |   |            |   |           |   |              |       | 7,618        |   |        |   |  |   |         |       |     |  
|                                    
|                                    
|                                    
|                                    
|                                     | Amortization of unearned compensation                    |                                          |             |        |              |   |            |  |            |   |              |      |              |   |        |  |   |   |         | 3,199 |     
|                                    
|                                    
|                                    
|                                    
|                                     | Net loss for the period January 1, 2001 through June    
|                                    
|                                    
|                                    
|                                    
|                                     |                                                          |                                          | 30, 2001    |         |              |  |            |   |            |  |              |       |              |  |        |   |   |  |         |       |      |  | 
|                                     |                                                          |                                          |             |         |              |   |            |   |            |   |              |       |              |   |        |   |   |   |         |      
|Balance at June 30, 2001 (unaudited) |                                                          |                                          | 145,054,352 |         |              | $ | 145        |   |            | $ | 545,581      |       |              | $ | (2,250 | ) |   | $ | (12,258 | )    
|                                     |                                                          |                                          |             |         |              |   |            |   |            |   |              |       |              |   |        |   |   |   |         |      

[Additional columns below]

[Continued from above table, first column(s) repeated]

|                                     |                                                          |                                    |          |   |             |         |               |       |        |         |  
|------------------------------------ | -------------------------------------------------------- | ---------------------------------- | -------- | - | ----------- | ------- | ------------- | ----- | ------ | ------- | -
|                                     |                                                          |                                    |          |   |             |         |               |       | Total 
|                                     |                                                          |                                    |          |   | Accumulated |         | Stockholders'
|                                     |                                                          |                                    |          |   | Deficit     |         | Equity       
|                                     |                                                          |                                    |          |   |             |         |              
|Balance at January 1, 2001           |                                                          | $                                  | (310,731 | ) |             | $       | 116,983       |      
|                                    
|                                    
|                                    
|                                    
|                                     | Issuance of common stock for cash, net of offering costs
|                                    
|                                    
|                                    
|                                    
|                                     |                                                          | of $6,664                          |          |   |            |         |               |       | 90,174 |        
|                                    
|                                    
|                                    
|                                    
|                                     | Issuance of restricted stock in connection with employee
|                                    
|                                    
|                                    
|                                    
|                                     |                                                          | bonus plan                         |          |   |            |         |               |       | 208    |        
|                                    
|                                    
|                                    
|                                    
|                                     | Common stock issued upon exercise of stock options       |                                    |          |  |             |         |               | 386   |       
|                                    
|                                    
|                                    
|                                    
|                                     | Common stock issued for employee stock purchase plan     |                                    |          |  |             |         |               | 822   |       
|                                    
|                                    
|                                    
|                                    
|                                     | Contribution of common stock to employee benefit plan    |                                    |          |  |             |         |               | 1,097 |       
|                                    
|                                    
|                                    
|                                    
|                                     | Stock compensation expense for issuance of common stock 
|                                    
|                                    
|                                    
|                                    
|                                     |                                                          | options at below fair market value |          |   |            |         |               |       | 7,618  |        
|                                    
|                                    
|                                    
|                                    
|                                     | Amortization of unearned compensation                    |                                    |          |  |             |         |               | 3,199 |       
|                                    
|                                    
|                                    
|                                    
|                                     | Net loss for the period January 1, 2001 through June    
|                                    
|                                    
|                                    
|                                    
|                                     |                                                          |                                    | 30, 2001 |   |             | (96,919 | )             |       |        | (96,919 | )
|                                     |                                                          |                                    |          |   |             |         |               |      
|Balance at June 30, 2001 (unaudited) |                                                          | $                                  | (407,650 | ) |             | $       | 123,568       |      
|                                     |                                                          |                                    |          |   |             |         |               |      

See accompanying notes

5



---



USinternetworking, Inc.

Consolidated Statements of Cash Flows

(Dollar amounts in thousands, except per share amounts)

|                                                         |                                                |                                              |                                           |        |                  |         |         |         |        |         |  
|-------------------------------------------------------- | ---------------------------------------------- | -------------------------------------------- | ----------------------------------------- | ------ | ---------------- | ------- | ------- | ------- | ------ | ------- | -
|                                                         |                                                |                                              |                                           |        | Six months ended
|                                                         |                                                |                                              |                                           |        | June 30,        
|                                                         |                                                |                                              |                                           |        |                 
|                                                         |                                                |                                              |                                           |        | 2001             |         | 2000   
|                                                         |                                                |                                              |                                           |        |                  |         |        
|                                                         |                                                |                                              |                                           |        | (unaudited)     
|Operating Activities                                    
|                                                        
|                                                        
|                                                        
|                                                        
|Net loss                                                 |                                                | $                                            | (96,919                                   | )      |                  | $       | (81,619 | )      
|                                                        
|                                                        
|                                                        
|                                                        
|Adjustments to reconcile net loss to net cash used in   
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         | operating activities:                         
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         |                                                | Depreciation                                 |                                           |        | 32,890           |         |         |         | 17,186 |        
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         |                                                | Amortization                                 |                                           |        | 4,902            |         |         |         | 3,744  |        
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         |                                                | Non-cash stock compensation expense          |                                           |        | 12,317           |         |         |         | 9,875  |        
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         |                                                | Non-cash interest expense                    |                                           |        |                 |         |         |         | 133    |        
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         |                                                | Changes in operating assets and liabilities:
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         |                                                |                                              | Accounts receivable                       |        |                  | 3,100   |         |         |        | (9,943  | )
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         |                                                |                                              | Prepaid expenses and other current assets |        |                  | (1,243  | )       |         |        | (10,008 | )
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         |                                                |                                              | Deferred iMAP costs                       |        |                  | 2,085   |         |         |        | (13,159 | )
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         |                                                |                                              | Accounts payable                          |        |                  | (11,159 | )       |         |        | 16,095  |  
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         |                                                |                                              | Accrued compensation                      |        |                  | 691     |         |         |        | 5,993   |  
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         |                                                |                                              | Other accrued expenses                    |        |                  | 2,301   |         |         |        | 479     |  
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         |                                                |                                              | Deferred revenue                          |        |                  | 2,089   |         |         |        | 8,135   |  
|                                                         |                                                |                                              |                                           |        |                  |         |         |        
|Net cash used in operating activities                    |                                                |                                              | (48,946                                   | )      |                  |         | (53,089 | )      
|                                                        
|                                                        
|                                                        
|                                                        
|Investing Activities                                    
|                                                        
|                                                        
|                                                        
|                                                        
|Purchases of property and equipment                      |                                                |                                              | (18,585                                   | )      |                  |         | (62,723 | )      
|                                                        
|                                                        
|                                                        
|                                                        
|Proceeds from sale-leaseback transaction                 |                                                |                                              | 17,900                                    |        |                  |         |        |        
|                                                        
|                                                        
|                                                        
|                                                        
|Purchases of available-for-sale securities               |                                                |                                              |                                          |        |                  |         | (17,546 | )      
|                                                        
|                                                        
|                                                        
|                                                        
|Proceeds from sale of available-for-sale securities      |                                                |                                              |                                          |        |                  |         | 37,571  |        
|                                                        
|                                                        
|                                                        
|                                                        
|Payments to shareholders of acquired businesses          |                                                |                                              | (2,185                                    | )      |                  |         |        |        
|                                                        
|                                                        
|                                                        
|                                                        
|Changes in other assets                                  |                                                |                                              | (830                                      | )      |                  |         |        |        
|                                                         |                                                |                                              |                                           |        |                  |         |         |        
|Net cash used in investing activities                    |                                                |                                              | (3,700                                    | )      |                  |         | (42,698 | )      
|                                                        
|                                                        
|                                                        
|                                                        
|Financing Activities                                    
|                                                        
|                                                        
|                                                        
|                                                        
|Proceeds from exercise of employee stock options         |                                                |                                              | 386                                       |        |                  |         | 1,421   |        
|                                                        
|                                                        
|                                                        
|                                                        
|Proceeds from issuance of common stock to Employee Stock
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         | Purchase Plan                                  |                                              |                                           | 822    |                  |         |         |        |       
|                                                        
|                                                        
|                                                        
|                                                        
|Proceeds from issuance of common stock, net of offering 
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         | costs                                          |                                              |                                           | 90,174 |                  |         |         | 119,238 |       
|                                                        
|                                                        
|                                                        
|                                                        
|Proceeds from issuance of long-term debt                 |                                                |                                              | 18,053                                    |        |                  |         | 28,150  |        
|                                                        
|                                                        
|                                                        
|                                                        
|Payments on long-term debt                               |                                                |                                              | (17,808                                   | )      |                  |         | (7,896  | )      
|                                                        
|                                                        
|                                                        
|                                                        
|Payments on capital lease obligations                    |                                                |                                              | (16,775                                   | )      |                  |         | (4,224  | )      
|                                                         |                                                |                                              |                                           |        |                  |         |         |        
|Net cash provided by financing activities                |                                                |                                              | 74,852                                    |        |                  |         | 136,689 |        
|                                                         |                                                |                                              |                                           |        |                  |         |         |        
|Net increase in cash and cash equivalents                |                                                |                                              | 22,206                                    |        |                  |         | 40,902  |        
|                                                        
|                                                        
|                                                        
|                                                        
|Cash and cash equivalents at beginning of period         |                                                |                                              | 56,962                                    |        |                  |         | 112,302 |        
|                                                         |                                                |                                              |                                           |        |                  |         |         |        
|Cash and cash equivalents at end of period               |                                                | $                                            | 79,168                                    |        |                  | $       | 153,204 |        
|                                                         |                                                |                                              |                                           |        |                  |         |         |        
|Supplemental cash flow information:                     
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         | Additional capital assets acquired via capital
|                                                        
|                                                        
|                                                        
|                                                        
|                                                         |                                                | leases                                       |                                           | $      | 9,967            |         |         | $       | 18,322 |        
|                                                         |                                                |                                              |                                           |        |                  |         |         |        

See accompanying notes.

6



---



USinternetworking, Inc.

Notes to Consolidated Financial Statements
June 30, 2001
(unaudited)

1. Basis of Presentation

The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for
interim financial information and with the instructions to Form 10-Q and
Article 10 of Regulation S-X. Accordingly, they do not include all of the
information and disclosures required by generally accepted accounting
principles for complete financial statements. In the opinion of management, all
adjustments (consisting of normal recurring accruals) considered necessary for
a fair presentation have been included. For further information, refer to the
consolidated financial statements and notes thereto included in the Companys
annual report on Form 10-K for the year ended December 31, 2000. Operating
results for the six months ended June 30, 2001 are not necessarily indicative
of the results that may be expected for the year ending December 31, 2001.

2. Recent Accounting Pronouncements

As of January 1, 2001, the Company adopted Financial Accounting Standards
Board Statement No. 133, Accounting for Derivative Instruments and Hedging
Activities.The Statement requires the Company to recognize all derivatives on
the balance sheet at fair value. Derivatives that are not hedges must be
adjusted to fair value through income. If the derivative is a hedge, depending
on the nature of the hedge, changes in the fair value of derivatives are either
offset against the change in fair value of assets, liabilities, or firm
commitments through earnings or recognized in comprehensive income until the
hedged item is recognized in earnings. The ineffective portion of a
derivatives change in fair value will be immediately recognized in earnings.

Upon adoption of the Statement on January 1, 2001, the Company maintained
an interest rate swap agreement in the notional amount of $4,750 related to
outstanding notes payable. The interest rate swaps effectively fix the rate of
interest on a portion of the Companys floating rate term loans, and are
settled as the related term notes mature. The adoption of the Statement was
immaterial to the Companys financial condition and results of operations.

In June 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standard No. 142, Goodwill and Other Intangible Assets,
effective for fiscal years beginning after December 15, 2001. Under the new
rules, goodwill and other intangible assets deemed to have indefinite lives
will no longer be amortized but will be subject to annual impairment tests in
accordance with the Statement. Other intangible assets will continue to be
amortized over their useful lives.

The Company will apply the new rules on accounting for goodwill and other
intangible assets beginning in the first quarter of 2002. The Company recorded
goodwill amortization of $4,902 for the six months ended June 30, 2001, and
expects that goodwill amortization will approximate $10,350 for the full year.
During 2002, the Company will perform the first of the required impairment
tests of goodwill and indefinite lived intangible assets as of January 1, 2002.
Currently, management has not yet determined the effect of these tests.

7



---



3. Loss Per Share

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

|                                        |                                                   |                                                             |       |                    |             |                  |       |         |            |      |       |         |             |   |       |         |            | 
|--------------------------------------- | ------------------------------------------------- | ----------------------------------------------------------- | ----- | ------------------ | ----------- | ---------------- | ----- | ------- | ---------- | ---- | ----- | ------- | ----------- | - | ----- | ------- | ---------- | 
|                                        |                                                   |                                                             |       | Three months ended |             | Six months ended
|                                        |                                                   |                                                             |       | June 30,           |             | June 30,        
|                                        |                                                   |                                                             |       |                    |             |                 
|                                        |                                                   |                                                             |       | 2001               |             | 2000             |       | 2001    |            | 2000
|                                        |                                                   |                                                             |       |                    |             |                  |       |         |            |     
|Numerator:                             
|                                       
|                                       
|                                       
|                                       
|                                        | Net loss                                          |                                                             | $     | (51,475            | )           |                  | $     | (41,973 | )          |      | $     | (96,919 | )           |   | $     | (81,619 | )         
|                                        |                                                   |                                                             |       |                    |             |                  |       |         |            |      |       |         |             |   |       |         |           
|Denominator:                           
|                                       
|                                       
|                                       
|                                       
|                                        | Weighted-average number of shares of common stock
|                                       
|                                       
|                                       
|                                       
|                                        |                                                   | outstanding and not subject to repurchase during the
period |       |                    | 140,015,601 |                  |       |         | 96,684,431 |      |       |         | 139,090,306 |   |       |         | 94,925,540 | 
|                                        |                                                   |                                                             |       |                    |             |                  |       |         |            |      |       |         |             |   |       |        
|Basic and diluted loss per common share |                                                   | $                                                           | (0.37 | )                  |             | $                | (0.43 | )       |            | $    | (0.70 | )       |             | $ | (0.86 | )      
|                                        |                                                   |                                                             |       |                    |             |                  |       |         |            |      |       |         |             |   |       |         |           

Basic loss per share is based upon the average number of shares of common
stock outstanding during the periods.

Diluted loss per common share is equal to basic loss per common share
because if potentially dilutive securities were included in the computation,
the result would be anti-dilutive. These potentially dilutive securities
consist of unvested restricted common stock, stock options and warrants.

4. Capital Lease Obligations

The Company has entered into capital lease agreements to acquire certain
equipment. Property and equipment includes the following amounts for leases
that have been capitalized.

|                         |       |   |          |        |              |   |         |        | 
|------------------------ | ----- | - | -------- | ------ | ------------ | - | ------- | ------ | 
|                         |       |   | June 30, |        | December 31,
|                         |       |   | 2001     |        | 2000        
|                         |       |   |          |        |             
|Computers and software   |       | $ | 106,310  |        |              | $ | 79,356  |       
|                        
|                        
|                        
|                        
|Accumulated amortization |       |   | (31,589  | )      |              |   | (20,688 | )     
|                         |       |   |          |        |              |   |         |       
|                         | Total |   | $        | 74,721 |              |   | $       | 58,668 | 
|                         |       |   |          |        |              |   |         |       

Amortization of leased property is included in depreciation and
amortization expense.

Future minimum payments under capital lease obligations consist of the
following at June 30, 2001:

|                                           |                              |   |         |        | 
|------------------------------------------ | ---------------------------- | - | ------- | ------ | 
|2001                                       |                              | $ | 20,171  |       
|                                          
|                                          
|                                          
|                                          
|2002                                       |                              |   | 37,749  |       
|                                          
|                                          
|                                          
|                                          
|2003                                       |                              |   | 20,125  |       
|                                          
|                                          
|                                          
|                                          
|2004                                       |                              |   | 985     |       
|                                           |                              |   |         |       
|                                           | Total minimum lease payments |   |         | 79,030 | 
|                                          
|                                          
|                                          
|                                          
|Amounts representing interest              |                              |   | (4,778  | )     
|                                           |                              |   |         |       
|Present value of capital lease obligations |                              |   | 74,252  |       
|                                          
|                                          
|                                          
|                                          
|Current portion                            |                              |   | (32,497 | )     
|                                           |                              |   |         |       
|Capital lease obligations, non-current     |                              | $ | 41,755  |       
|                                           |                              |   |         |       

5. Long-Term Debt

Long-term debt consists of the following:

|                                                            |                                                                                                                                                                                                                                                                                                                                            |  |          |     |              |  |   |     | 
|----------------------------------------------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ |  | -------- | --- | ------------ |  | - | --- | 
|                                                            |                                                                                                                                                                                                                                                                                                                                            |  | June 30, |     | December 31,
|                                                            |                                                                                                                                                                                                                                                                                                                                            |  | 2001     |     | 2000        
|                                                            |                                                                                                                                                                                                                                                                                                                                            |  |          |     |             
|Note payable to bank due in June 2002 and bearing interest 
|                                                            | at 9% per annum. This note is payable in aggregate monthly
installments of principal and interest of $7 with all
unpaid principal and interest due at maturity. This note
is secured by a mortgage on the real property purchased
with the proceeds and with restricted cash equal to the
principal
balance pledged as additional security |  | $        | 582 |              |  | $ | 795 | 
|                                                           
|                                                           
|                                                           
|                                                           
|Notes payable due September 1, 2002 through May 1, 2003 and
|                                                            | bearing interest at 11.3% to 13.61% per annum. These notes
are payable in aggregate monthly installments of principal                                                                                                                                                                                                                     

8



---



|                                                            |                                                                                                                                                                                                                                                                                                            |       |        |        |        |   |        |        |        | 
|----------------------------------------------------------- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ----- | ------ | ------ | ------ | - | ------ | ------ | ------ | 
|                                                            | and interest of $303 and are collateralized by certain
furniture, fixtures, equipment, and software                                                                                                                                                                                                        |       |        | 5,113  |        |   |        | 13,568 |       
|Notes payable due January 2002 through March 2002 and      
|                                                            | bearing interest at 10.0% to 11.9% per annum. These notes
are payable in quarterly installments of $1,071 with all
unpaid principal and interest due at maturity. These notes
are collateralized by certain software licenses                                                                              |       |        | 3,122  |        |   |        | 9,030  |       
|Notes payable due in May 2002 and bearing interest at 12.4%
|                                                            | and 13.1% per annum. The notes are payable in aggregate
monthly installments of principal and interest of $446 and
are collateralized by certain equipment                                                                                                                                                 |       |        | 5,345  |        |   |        | 7,235  |       
|Notes payable due on February 2005 through May 2006 and    
|                                                            | bearing interest at 7.5% per annum. The notes are payable
in aggregate monthly installments of principal and
interest of $79 with all unpaid principal and interest due
at maturity. The notes are secured by a mortgage on the
real property purchased with the proceeds                                  |       |        | 8,062  |        |   |        | 8,232  |       
|Notes payable due on March 1, 2001 and bearing interest at 
|                                                            | 6.6% per annum. These notes were payable in aggregate
monthly installments of principal and interest of $39 and
were collateralized by the general assets of the
Company                                                                                                                                   |       |        |       |        |   |        | 154    |       
|Notes payable due between March 2003 and September 2004 and
|                                                            | bearing interest at rates from 8.25% to 10.25% per annum
The notes are payable in aggregate monthly installments of
principal and interest of $2 and are secured by
automobiles purchased with the proceeds                                                                                                |       |        | 90     |        |   |        | 99     |       
|Note payable due on December 29, 2003 bearing interest at  
|                                                            | 9.8% per annum. The note is payable in monthly principal
installments of $99 plus interest and is collateralized by
restricted cash equal to the principal balance and certain
building improvements                                                                                                       |       |        | 3,068  |        |   |        | 3,563  |       
|Note payable due on January 9, 2002 and bearing interest at
|                                                            | 6.85% per annum. The note is payable in aggregate monthly
installments of principal and interest of $96 and is
collateralized by the general assets of the Company                                                                                                                                         |       |        | 654    |        |   |        |       |       
|Note payable due June 1, 2010 and bearing interest at 8.80%
|                                                            | per annum. The note is payable in aggregate monthly
installments of principal and interest of $55 with all
unpaid principal and interest due at maturity. This note
is secured by a mortgage on the real property purchased
with the proceeds and restricted cash for a portion of the
outstanding balance |       |        | 6,681  |        |   |        | 6,719  |       
|Amount outstanding under revolving credit line. Credit line
|                                                            | expires on January 2, 2004 and bears interest based on a
floating rate. Current rate is LIBOR plus 4.75%. Note is
interest only with principal due upon facility expiration
The note is secured by the general assets of the
Company                                                                       |       |        | 15,000 |        |   |        |       |       
|Note payable to former shareholders of Conklin, bearing    
|                                                            | interest at 10% per annum and due with accrued interest on
October 8, 2001                                                                                                                                                                                                                                 |       |        | 2,000  |        |   |        | 2,000  |       
|                                                            |                                                                                                                                                                                                                                                                                                            |       |        |        |        |   |        |       
|                                                            |                                                                                                                                                                                                                                                                                                            | Total |        |        | 49,717 |   |        |        | 51,395 | 
|Less: current portion                                       |                                                                                                                                                                                                                                                                                                            |       | 16,230 |        |        |   | 22,020 |       
|Less: discounts                                             |                                                                                                                                                                                                                                                                                                            |       | 189    |        |        |   | 188    |       
|                                                            |                                                                                                                                                                                                                                                                                                            |       |        |        |        |   |        |       
|                                                            |                                                                                                                                                                                                                                                                                                            | $     | 33,298 |        |        | $ | 29,187 |       
|                                                            |                                                                                                                                                                                                                                                                                                            |       |        |        |        |   |        |       

Aggregate maturities of long-term debt at June 30, 2001 are as follows:

|                                       |       |   |        |        | 
|-------------------------------------- | ----- | - | ------ | ------ | 
|July 1, 2001 through December 31, 2001 |       | $ | 10,294 |       
|                                      
|                                      
|                                      
|                                      
|2002                                   |       |   | 8,421  |       
|                                      
|                                      
|                                      
|                                      
|2003                                   |       |   | 2,372  |       
|                                      
|                                      
|                                      
|                                      
|2004                                   |       |   | 15,567 |       
|                                      
|                                      
|                                      
|                                      
|2005                                   |       |   | 6,545  |       
|                                      
|                                      
|                                      
|                                      
|2006 and thereafter                    |       |   | 6,518  |       
|                                       |       |   |        |       
|                                       | Total |   | $      | 49,717 | 
|                                       |       |   |        |       

At June 30, 2001, the fair value of long-term debt approximates its
carrying value.

6. Property and Equipment

Property and equipment consists of the following:

9



---



|                          |       |   |          |         |              |   |         |         | 
|------------------------- | ----- | - | -------- | ------- | ------------ | - | ------- | ------- | 
|                          |       |   | June 30, |         | December 31,
|                          |       |   | 2001     |         | 2000        
|                          |       |   |          |         |             
|Building and land         |       | $ | 50,463   |         |              | $ | 42,430  |        
|                         
|                         
|                         
|                         
|Furniture and fixtures    |       |   | 5,860    |         |              |   | 5,820   |        
|                         
|                         
|                         
|                         
|Equipment and automobiles |       |   | 11,924   |         |              |   | 11,328  |        
|                         
|                         
|                         
|                         
|Computers and software    |       |   | 219,385  |         |              |   | 199,436 |        
|                         
|                         
|                         
|                         
|Leasehold improvements    |       |   | 12,087   |         |              |   | 11,885  |        
|                          |       |   |          |         |              |   |         |        
|                          | Total |   |          | 299,719 |              |   |         | 270,899 | 
|                         
|                         
|                         
|                         
|Accumulated depreciation  |       |   | (81,169  | )       |              |   | (52,336 | )      
|                          |       |   |          |         |              |   |         |        
|                          | Total |   | $        | 218,550 |              |   | $       | 218,563 | 
|                          |       |   |          |         |              |   |         |        

Substantially all property and equipment is collateralized under financing
arrangements.

7. Segment Information

The following tables set forth the Companys operating segments:

|                          |                                    |  |                    |        |                  |  |      |        |      |  |   |        |  |  |   |        | 
|------------------------- | ---------------------------------- |  | ------------------ | ------ | ---------------- |  | ---- | ------ | ---- |  | - | ------ |  |  | - | ------ | 
|                          |                                    |  | Three months ended |        | Six months ended
|                          |                                    |  | June 30,           |        | June 30,        
|                          |                                    |  |                    |        |                 
|                          |                                    |  | 2001               |        | 2000             |  | 2001 |        | 2000
|                          |                                    |  |                    |        |                  |  |      |        |     
|Revenues:                
|                         
|                         
|                         
|                         
|                          | Enterprise Wide Solutions          |  | $                  | 14,893 |                  |  | $    | 10,450 |      |  | $ | 32,090 |  |  | $ | 18,210 | 
|                         
|                         
|                         
|                         
|                          | E-Commerce and Web Based Solutions |  |                    | 17,283 |                  |  |      | 15,773 |      |  |   | 36,749 |  |  |   | 25,802 | 
|                          |                                    |  |                    |        |                  |  |      |        |      |  |   |        |  |  |   |       
|                          | Consolidated                       |  | $                  | 32,176 |                  |  | $    | 26,223 |      |  | $ | 68,839 |  |  | $ | 44,012 | 
|                          |                                    |  |                    |        |                  |  |      |        |      |  |   |        |  |  |   |        | 
|Segment operating profit:
|                         
|                         
|                         
|                         
|                          | Enterprise Wide Solutions          |  | $                  | 4,618  |                  |  | $    | 2,673  |      |  | $ | 11,330 |  |  | $ | 5,635  | 
|                         
|                         
|                         
|                         
|                          | E-Commerce and Web Based Solutions |  |                    | 10,503 |                  |  |      | 6,263  |      |  |   | 21,045 |  |  |   | 9,841  | 
|                          |                                    |  |                    |        |                  |  |      |        |      |  |   |        |  |  |   |       
|                          | Consolidated                       |  | $                  | 15,121 |                  |  | $    | 8,936  |      |  | $ | 32,375 |  |  | $ | 15,476 | 
|                          |                                    |  |                    |        |                  |  |      |        |      |  |   |        |  |  |   |        | 

A reconciliation of segment operating profit to net loss during the
periods presented is as follows:

|                                          |  |                    |         |                  |  |      |         |      |  |   |         |   |  |   |         |  
|----------------------------------------- |  | ------------------ | ------- | ---------------- |  | ---- | ------- | ---- |  | - | ------- | - |  | - | ------- | -
|                                          |  | Three months ended |         | Six months ended
|                                          |  | June 30,           |         | June 30,        
|                                          |  |                    |         |                 
|                                          |  | 2001               |         | 2000             |  | 2001 |         | 2000
|                                          |  |                    |         |                  |  |      |         |     
|Segment operating profit for all segments |  | $                  | 15,121  |                  |  | $    | 8,936   |      |  | $ | 32,375  |   |  | $ | 15,476  |  
|                                         
|                                         
|                                         
|                                         
|Network and infrastructure costs          |  |                    | (7,158  | )                |  |      | (6,222  | )    |  |   | (15,124 | ) |  |   | (12,312 | )
|                                         
|                                         
|                                         
|                                         
|General and administrative                |  |                    | (7,580  | )                |  |      | (6,787  | )    |  |   | (14,339 | ) |  |   | (13,012 | )
|                                         
|                                         
|                                         
|                                         
|Sales and marketing                       |  |                    | (12,477 | )                |  |      | (17,680 | )    |  |   | (27,699 | ) |  |   | (34,936 | )
|                                         
|                                         
|                                         
|                                         
|Product research and development          |  |                    | (662    | )                |  |      | (829    | )    |  |   | (1,371  | ) |  |   | (1,341  | )
|                                         
|                                         
|                                         
|                                         
|Non-cash stock compensation expense       |  |                    | (5,336  | )                |  |      | (5,751  | )    |  |   | (12,317 | ) |  |   | (9,875  | )
|                                         
|                                         
|                                         
|                                         
|Restructuring charge                      |  |                    | (7,833  | )                |  |      |        |      |  |   | (8,853  | ) |  |   |        |  
|                                         
|                                         
|                                         
|                                         
|Impairment loss                           |  |                    | (1,348  | )                |  |      |        |      |  |   | (1,348  | ) |  |   |        |  
|                                         
|                                         
|                                         
|                                         
|Depreciation and amortization             |  |                    | (19,245 | )                |  |      | (11,600 | )    |  |   | (37,792 | ) |  |   | (20,930 | )
|                                         
|                                         
|                                         
|                                         
|Interest income                           |  |                    | 1,264   |                  |  |      | 2,595   |      |  |   | 3,309   |   |  |   | 4,498   |  
|                                         
|                                         
|                                         
|                                         
|Interest expense                          |  |                    | (6,222  | )                |  |      | (4,635  | )    |  |   | (13,760 | ) |  |   | (9,187  | )
|                                          |  |                    |         |                  |  |      |         |      |  |   |         |   |  |   |         |  
|Net loss                                  |  | $                  | (51,475 | )                |  | $    | (41,973 | )    |  | $ | (96,919 | ) |  | $ | (81,619 | )
|                                          |  |                    |         |                  |  |      |         |      |  |   |         |   |  |   |         |  

8. Restructuring Charge

In December 2000, the Company accrued a restructuring charge of $2,110.
The restructuring charge consisted of accrued severance costs of $727 related
to the involuntary termination of 3 employees and non-cancelable lease
obligations of $1,383 related to the closing of three sales offices. During the
first six months of 2001, the Company accrued $8,853 related to additional
restructuring efforts. In January 2001, the Company accrued a restructuring
charge of $1,020 related to severance costs for the involuntary termination of
144 employees of the Company. Additionally, $556 was recognized as a reduction
to the December 2000 estimated accrual for the termination of various
non-cancelable leases. In May 2001, the Company recognized restructuring
charges of $7,833, which consists of severance costs of $4,875 due to the
involuntary termination of 219 employees and non-cancelable lease obligations
of $2,958 resulting from the closing of six offices. The Company is in the
process of negotiating lease termination settlements on the properties. The
following table summarizes the activity related to the accrued restructuring
charges for the six-month period ended June 30, 2001.

10



---



|                             |                                               |   |               |        |                |   |       |       |   |   |       |        |  
|---------------------------- | --------------------------------------------- | - | ------------- | ------ | -------------- | - | ----- | ----- | - | - | ----- | ------ | -
|                             |                                               |   | Severance and |        | Non-cancelable
|                             |                                               |   | related costs |        | lease costs    |   | Total
|                             |                                               |   |               |        |                |   |      
|Balance at December 31, 2000 |                                               | $ | 727           |        |                | $ | 1,383 |       |   | $ | 2,110 |       
|                            
|                            
|                            
|                            
|                             | Restructuring charge in 2001                  |   |               | 5,895  |                |   |       | 2,958 |   |   |       | 8,853  |  
|                            
|                            
|                            
|                            
|                             | Payments in 2001                              |   |               | (4,979 | )              |   |       | (587  | ) |   |       | (5,566 | )
|                            
|                            
|                            
|                            
|                             | Changes in estimate for restructuring accrual |   |               |       |                |   |       | (556  | ) |   |       | (556   | )
|                             |                                               |   |               |        |                |   |       |       |   |   |       |       
|Balance at June 30, 2001     |                                               | $ | 1,643         |        |                | $ | 3,198 |       |   | $ | 4,841 |       
|                             |                                               |   |               |        |                |   |       |       |   |   |       |       

Of the remaining $4,841 accrued restructuring charge at June 30, 2001,
$3,754 is included in other accrued expenses and $1,087 in other long term
liabilities.

9. Impairment Loss on Software Licenses

During the quarter ended June 30, 2001, the Company determined that the
value of certain software licenses acquired for sublicense to iMAP customers
was impaired due to uncertainties surrounding their usage. The Company
recorded an impairment charge of $1,348 in the quarter based on an assessment
of likely cash flows resulting from the sale or sublicense of these software
licenses.

10. Stock Warrants

In connection with shares of common stock issued for cash on January 2,
2001, the Company granted warrants to purchase 9,457,721 shares of common stock
at an exercise price of $4.08 per share, which expire in January 2006. All of
the warrants remained outstanding at June 30, 2001. For further information,
refer to notes to the consolidated financial statements included in the
Companys annual report on Form 10-K for the year ended December 31, 2000.

11



---



Item 2.Managements Discussion and Analysis of Financial Condition and
Results of Operations

You should read the following discussion of our results of operations and
financial condition in conjunction with our consolidated financial statements
and related notes included elsewhere in this Form 10-Q. This discussion
contains forward-looking statements based on current expectations that involve
risks and uncertainties. Actual results and the timing of certain events may
differ significantly from those projected in such forward-looking statements
due to a number of factors. Dollar amounts stated herein are in thousands
except per share amounts.

Overview

We have developed an advanced, integrated service offering that provides
our clients the ability to use leading business software applications through
our state-of-the-art GSP environment. During 1998, we devoted substantially all
of our efforts to developing our network infrastructure, recruiting and
training personnel, establishing strategic business partnerships with
application software providers, completing two strategic acquisitions and
raising capital. During our first full year of operations in 1999, we continued
the development activities started in 1998 and began to market and sell our new
iMAP offerings. In 2000, we completed our development activities, increased our
client base, and expanded our iMAP offerings. We have incurred a cumulative net
loss since inception and expect to incur additional losses for the foreseeable
future. As of June 30, 2001, we had an accumulated deficit of $407,650.

As of June 30, 2001, we had 216 signed contracts with 142 clients
accounting for total revenue, assuming payment over the full contract terms, of
over $380,525. While we have experienced growth in revenue under contract in
recent periods, prior growth rates should not be considered as necessarily
indicative of future growth rates or operating results for 2001.

In August 2000, we purchased the assets of EnableVision, LLC, a
comprehensive provider of Lawson financial and human resources system
implementation services. The purchase price consisted of cash of $2,000 and
290,640 shares of restricted stock valued at $4,000 on the purchase date.

In October 1999, we purchased the assets of Conklin & Conklin, Inc., a
comprehensive provider of Lawson financial and human resources system
implementation services and a certified reseller of Lawson software licenses.
The purchase price consisted of cash of $7,700, assumed liabilities of $1,500,
and a $2,000 secured note. The secured note is due on October 8, 2001, and
bears interest at 10%, with interest payable monthly until the maturity date.
In addition, the purchase price consists of contingent payments of up to $4,600
in cash. $2,300 of the contingent payments will be paid to Conklin shareholders
on or before January 2, 2002.

Revenue.We generate revenue from iMAP services and information
technology services. Revenues from professional IT services are recognized as
services are provided. iMAP revenues consist of fees for the Companys iMAP
services. iMAP service fees are consideration for access to our network of
Enterprise Data Centers or EDCs, hosting application software, and the
implementation and management of that software. iMAP contracts generally have a
three-to-five year term and revenues are recognized ratably over the contract
term. Payments received in advance of revenue recognition, even if
non-refundable, are recorded as deferred revenue and recognized ratably over
the term of the iMAP service contract. Some contracts permit termination
without cause by the clients. Contracts permitting termination without cause
generally provide for termination payments to us that will be recognized as
revenue when collectibility is assured.

Costs and expenses.We incur operating costs and expenses related to the
delivery of iMAP and professional IT services. They include direct cost of
services, network and infrastructure costs, general and administrative, sales
and marketing, product research and development, non-cash stock compensation,
and depreciation and amortization expenses.

We incur up-front costs related to the delivery of iMAP services. Product
research and development costs and the cost to operate our network and data
centers are recognized as period costs. Costs related to the acquisition of
hardware are capitalized and depreciated over the estimated useful life of the
hardware of five years. Costs related to the acquisition of software licenses
are capitalized and amortized over the lesser of either three years or the term
of the individual client contract, depending on the terms of the software
license agreement. Amortization is recorded on a straight-line basis over the
remaining useful life. Direct costs related to the integration of software
applications for a client on our network are capitalized and amortized over the
related contract period.

12



---



Historical Results of Operations

Revenue

|                                   |               |   |               |        |               |   |               |        |               |   |        |        |  |   |        |        | 
|---------------------------------- | ------------- | - | ------------- | ------ | ------------- | - | ------------- | ------ | ------------- | - | ------ | ------ |  | - | ------ | ------ | 
|                                   |               |   | Three months  |        | Three months  |   | Six months    |        | Six months   
|                                   |               |   | ended         |        | ended         |   | ended         |        | ended        
|                                   |               |   | June 30, 2001 |        | June 30, 2000 |   | June 30, 2001 |        | June 31, 2000
|                                   |               |   |               |        |               |   |               |        |              
|iMAP                               |               | $ | 29,964        |        |               | $ | 21,720        |        |               | $ | 63,286 |        |  | $ | 35,543 |       
|                                  
|                                  
|                                  
|                                  
|Professional IT services           |               |   | 2,212         |        |               |   | 4,503         |        |               |   | 5,553  |        |  |   | 8,469  |       
|                                   |               |   |               |        |               |   |               |        |               |   |        |        |  |   |        |       
|                                   | Total revenue |   | $             | 32,176 |               |   | $             | 26,223 |               |   | $      | 68,839 |  |   | $      | 44,012 | 
|                                   |               |   |               |        |               |   |               |        |               |   |        |        |  |   |        |       
|Enterprise Wide Solutions          |               | $ | 14,893        |        |               | $ | 10,450        |        |               | $ | 32,090 |        |  | $ | 18,210 |       
|                                  
|                                  
|                                  
|                                  
|E-Commerce and Web Based Solutions |               |   | 17,283        |        |               |   | 15,773        |        |               |   | 36,749 |        |  |   | 25,802 |       
|                                   |               |   |               |        |               |   |               |        |               |   |        |        |  |   |        |       
|                                   | Total revenue |   | $             | 32,176 |               |   | $             | 26,223 |               |   | $      | 68,839 |  |   | $      | 44,012 | 
|                                   |               |   |               |        |               |   |               |        |               |   |        |        |  |   |        |       

Direct cost of services

|                                   |                                               |                      |        |               |        |               |        |               |        |               |        |   |        |   |        |   |        | 
|---------------------------------- | --------------------------------------------- | -------------------- | ------ | ------------- | ------ | ------------- | ------ | ------------- | ------ | ------------- | ------ | - | ------ | - | ------ | - | ------ | 
|                                   |                                               |                      |        | Three months  |        | Three months  |        | Six months    |        | Six months   
|                                   |                                               |                      |        | ended         |        | ended         |        | ended         |        | ended        
|                                   |                                               |                      |        | June 30, 2001 |        | June 30, 2000 |        | June 30, 2001 |        | June 30, 2000
|                                   |                                               |                      |        |               |        |               |        |               |        |              
|iMAP                               |                                               | $                    | 15,674 |               |        | $             | 14,359 |               |        | $             | 32,874 |   |        | $ | 23,089 |  
|                                  
|                                  
|                                  
|                                  
|Professional IT services           |                                               |                      | 1,380  |               |        |               | 2,928  |               |        |               | 3,589  |   |        |   | 5,447  |  
|                                  
|                                  
|                                  
|                                  
|Network and infrastructure         |                                               |                      | 7,158  |               |        |               | 6,222  |               |        |               | 15,124 |   |        |   | 12,312 |  
|                                   |                                               |                      |        |               |        |               |        |               |        |               |        |   |        |   |        |  
|                                   | Total direct cost of services and Network and
|                                  
|                                  
|                                  
|                                  
|                                   |                                               | infrastructure costs |        | $             | 24,212 |               |        | $             | 23,509 |               |        | $ | 51,587 |   |        | $ | 40,848 | 
|                                   |                                               |                      |        |               |        |               |        |               |        |               |        |   |        |   |        |  
|Enterprise Wide Solutions          |                                               | $                    | 10,275 |               |        | $             | 7,777  |               |        | $             | 20,760 |   |        | $ | 12,575 |  
|                                  
|                                  
|                                  
|                                  
|E-Commerce and Web Based Solutions |                                               |                      | 6,779  |               |        |               | 9,510  |               |        |               | 15,703 |   |        |   | 15,961 |  
|                                  
|                                  
|                                  
|                                  
|Network and infrastructure         |                                               |                      | 7,158  |               |        |               | 6,222  |               |        |               | 15,124 |   |        |   | 12,312 |  
|                                   |                                               |                      |        |               |        |               |        |               |        |               |        |   |        |   |        |  
|                                   | Total direct cost of services and Network and
|                                  
|                                  
|                                  
|                                  
|                                   |                                               | infrastructure costs |        | $             | 24,212 |               |        | $             | 23,509 |               |        | $ | 51,587 |   |        | $ | 40,848 | 
|                                   |                                               |                      |        |               |        |               |        |               |        |               |        |   |        |   |        |  

Comparison of the three-month period ended June 30, 2001 to the three-month
period ended June 30, 2000

Revenue.For the three months ended June 30, 2001, we generated $32,176
of revenue as compared to $26,223 for the same prior year period.

The increase of $8,244 in iMAP revenue is attributable to the increase in
client iMAP contracts. At June 30, 2001, we had 216 iMAP contracts versus 187
at June 30, 2000. Included in the second quarter 2001 iMAP revenues was a
one-time fee of $1,164 related to the early termination of a portion of our
business with an E-Commerce client. Professional IT services revenue decreased
$2,291, primarily due to shifting resources from traditional IT clients to
iMAP.

The increase of $4,443 in Enterprise Wide Solutions revenue is mainly
attributable to additional iMAP contracts for our financial management, human
resource and customer relationship management products. The increase of $1,510
in E-Commerce and Web Based Solutions revenue is primarily attributable to
additional client iMAP contracts for our E-business products and the early
termination of a portion of our business with an E-Commerce client.

Gross margins, direct costs of services, network and infrastructure costs.
For the three months ended June 30, 2001, we incurred $24,212 for direct costs
of services and network and infrastructure costs as compared to $23,509 for the
same prior year period. The relatively modest increase of $703 is mainly
attributable to our increase in the volume of iMAP services and cost
efficiencies gained as the company continues to improve processes.

For the three months ended June 2001, we incurred $15,674 and $1,380 of
direct costs related to the delivery of our iMAP and professional IT services,
respectively. For the same period in 2000, we incurred $14,359 of direct costs
related to iMAP services and $2,928 of direct costs related to professional IT
services. The $1,315 increase in iMAP services costs is directly attributable
to our increase in iMAP contracts. In addition, we also wrote-off $134 of
deferred iMAP costs related to the early termination of a contract for which we
received a termination fee. The $1,548 decrease in professional IT services
costs is directly related to the decrease in professional services revenue.

In addition, we incurred $7,158 of costs related to the maintenance of our
network and infrastructure costs for the three months

13



---



ended June 30, 2001 and $6,222 in related costs during the same period in
2000. The increase of $936 is attributable to costs required to support our
business growth.

Gross margins, including iMAP network and infrastructure costs, for the
three months ended June 30, 2001 were 23.8% and 37.6% for iMAP and professional
IT services, respectively. These margins for the comparable 2000 period were
5.2% and 35.0%, respectively. Our margins for iMAP services are expected to
continue to improve because our business model contemplates a much smaller
increase in network and infrastructure costs as revenues increase. Professional
IT services margins are expected to remain constant for the foreseeable future.

For the three months ended June 30, 2001, we incurred $10,275 and $6,799
of direct costs related to the delivery of our Enterprise Wide Solutions and
E-Commerce and Web Based Solutions, respectively. For the same period in 2000,
we incurred $7,777 of direct costs related to Enterprise Wide Solutions and
$9,510 of direct costs related to E-Commerce and Web Based Solutions. The
increase in the Enterprise Wide Solution costs are directly attributable to
incremental client costs associated with our increase in iMAP client contracts.
The decrease in the E-Commerce and Web Based Solutions costs results from the
changing product mix within the company and the restructuring efforts as
described in note 8 to the financial statements.

Segment operating profit margins, which exclude iMAP networking and
infrastructure costs, for Enterprise Wide Solutions improved to 31.0% for the
three months ended June 30, 2001 as compared to 25.6% for the same period in
2000. Segment operating profit margins for E-Commerce and Web Based Solutions
improved to 60.8% for the three months ended June 30, 2001 as compared to 39.7%
for the same period in 2000. Both of these improvements reflect the utilization
of the investment made in 2000 to support the increase in iMAP contracts.

General and administrative expenses.For the three months ended June 30,
2001, we incurred $7,580 of general and administrative expenses compared to
$6,787 for the same period in 2000. The increase of $793 principally reflects
the costs associated with a sign-on bonus for a new executive and additional
leased office space. We anticipate general and administrative expenses to
decrease in future periods due to the restructuring efforts initiated in
January 2001.

Sales and marketing expenses.For the three months ended June 30, 2001,
we incurred $12,477 of sales and marketing expenses compared to $17,680 for the
same period in 2000. The decrease of $5,203 reflects lower marketing and
advertising costs incurred for the three months ended June 30, 2001.
Additionally, the number of product management and sales personnel has
decreased due to the consolidation of business units from eight in 2000 to two
in 2001 and the restructuring efforts during 2001 as further described in note
8 to the financial statements.

Product research and development expenses.For the three months ended
June 30, 2001, we incurred $662 of product research and development expenses
compared to $829 for the same period in 2000. This decrease results from the
companys focus on core product offerings and the consolidation of business
units in 2001. We expect our product research and development costs to remain
constant for the foreseeable future.

Non-cash stock compensation expense.For the three months ended June 30,
2001, we incurred a total of $5,336 in non-cash stock compensation expenses
compared to $5,751 for the same period in 2000. During fiscal year 2000, the
company offered employee stock options granted for nominal exercise prices in
lieu of cash bonuses. Non-cash stock compensation decreased period over period
as the stock options related to 2000 bonuses vested earlier in 2001. This
program was discontinued in December 2000. The decrease was offset by
increased contributions to the employee retirement plans, resulting in a net
decrease of $415. We expect to incur up to $11,356 of non-cash stock
compensation expense over the next three to four years as a result of a stock
option swap program implemented in November 2000. This program allowed
employees to exchange stock options granted since January 2000 at a rate of two
options for one share of restricted stock. We also expect to incur up to $8,011
in non-cash stock compensation expense through 2002 related to the intrinsic
value of 1999 and 2000 stock option grants.

Depreciation and amortization.For the three months ended June 30, 2001,
we incurred $19,245 in depreciation and amortization expenses, compared to
$11,600 for the same period in 2000. Of the $7,645 million increase, $7,145
represents depreciation of our increasing investment in property and equipment
and the amortization of our prepaid software licenses. The remaining amount of
$500 represents the amortization of the goodwill recorded upon our acquisitions
of Conklin, ACR, IIT and EnableVision.

Interest income and expense.For the three months ended June 30, 2001, we
incurred $6,222 in interest expense and generated $1,264 of interest income.
For three months ended June 30, 2000, we incurred $4,635 of interest expense
and generated $2,595 of interest income. Our interest expense has increased as
we continue to finance through long-term debt and capital lease obligations

14



---



investments in our client solutions and in our network and infrastructure.
See Notes 4 and 5 to our June 30, 2001 consolidated financial statements for a
summary of our capital lease and long-term debt obligations at June 30, 2001.

We generated interest income in the second quarter of 2001 from the
temporary investments of our proceeds from our November 2000 and January 2001
debt and equity transactions. During the same prior year period, we generated
interest income from the temporary investment of the proceeds of our February
2000 common stock offering and our November 1999 debt offering.

Comparison of the six-month period ended June 30, 2001 to the six-month period
ended June 30, 2000

Revenue.For the six months ended June 30, 2001, we generated $68,839 of
revenue as compared to $44,012 for the same prior year period.

The increase of $27,743 in iMAP revenue is attributable to the increase in
client iMAP contracts. At June 30, 2001, we had 216 cummulative iMAP contracts
compared to 187 at June 30, 2000. Included in our 2001 iMAP revenues were
one-time fees of $3,914 related to the early termination of a two E-Commerce
contracts. Professional IT services revenue decreased $2,916, primarily due to
shifting resources from traditional IT clients to iMAP.

The increase of $13,880 in Enterprise Wide Solutions revenue is mainly
attributable to additional iMAP contracts for our financial management, human
resource and customer relationship management products. The increase of $10,947
in E-Commerce and Web Based Solutions is mainly attributable to additional
client iMAP contracts for our E-Commerce and E-business products. In addition,
two early terminations of E-Commerce contracts contributed $3,914 to revenue in
the six-month period ended June 30, 2001.

Gross margins, direct costs of services, network and infrastructure costs.
For the six months ended June 30, 2001, we incurred $51,587 for direct costs
of services and network and infrastructure costs as compared to $40,848 for the
same prior year period. The increase of $10,739 is mainly attributable to our
increase in the volume of iMAP services.

For the six months ended June 2001, we incurred $32,874 and $3,589 of
direct costs related to the delivery of our iMAP and professional IT services,
respectively. For the same period in 2000, we incurred $23,089 of direct costs
related to iMAP services and $5,447 of direct costs related to professional IT
services. The $9,785 increase in iMAP services costs is directly attributable
to our increase in the volume of iMAP services. In addition, we wrote-off $943
of deferred iMAP costs related to the early termination of two contracts for
which we received a termination fee. The $1,858 decrease in professional IT
services costs is directly related to the decrease in professional services
revenue.

In addition, we incurred $15,124 of costs related to the maintenance of
our network and infrastructure costs for the six months ended June 30, 2001 and
$12,312 in related costs during the same period in 2000. The increase of $2,812
is attributable to costs required to support our business growth.

Gross margins, including iMAP network and infrastructure costs, for the
six months ended June 30, 2001 were 24.2% and 35.4% for iMAP and professional
IT services, respectively. These margins for the comparable 2000 period were
0.4% and 35.7%, respectively. Our margins for iMAP services are expected to
continue to improve because our business model contemplates a much smaller
increase in network and infrastructure costs as revenues increase. Professional
IT services margins are expected to remain constant for the foreseeable future.

For the six months ended June 30, 2001, we incurred $20,760 and $15,703 of
direct costs related to the delivery of our Enterprise Wide Solutions and
E-Commerce and Web Based Solutions, respectively. For the same period in 2000,
we incurred $12,575 of direct costs related to Enterprise Wide Solutions and
$15,961 of direct costs related to E-Commerce and Web Based Solutions. The
increase in the Enterprise Wide Solution costs are directly attributable to
incremental client costs associated with our increase in iMAP client contracts.
E-Commerce and Web Based Solutions costs remained consistent period over
period.

Segment operating profit margins, which exclude iMAP networking and
infrastructure costs, for Enterprise Wide Solutions improved to 35.3% for the
six months ended June 30, 2001 as compared to 30.9% for the same period in
2000. Segment operating profit margins for E-Commerce and Web Based Solutions
improved to 57.3% for the six months ended June 30, 2001 as compared to 38.1%
for the same period in 2000. Both of these improvements reflect the utilization
of the investment made in 2000 to support the increase in iMAP contracts.

General and administrative expenses.For the six months ended June 30,
2001, we incurred $14,339 of general and administrative

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expenses compared to $13,012 for the same period in 2000. The increase of
$1,327 principally reflects the costs associated with a sign-on bonus for a new
executive and additional leased office space. We anticipate general and
administrative expenses to decrease in future periods due to the restructuring
efforts initiated in January 2001.

Sales and marketing expenses.For the six months ended June 30, 2001, we
incurred $27,699 of sales and marketing expenses compared to $34,936 for the
same period in 2000. The decrease of $7,237 reflects lower marketing and
advertising costs incurred for the six months ended June 30, 2001.
Additionally, the number of product management and sales personnel has
decreased due to the consolidation of business units from eight in 2000 to two
in 2001 and the restructuring efforts in the second quarter of 2001 as further
described in note 8 to the financial statements.

Product research and development expenses.For the six months ended June
30, 2001, we incurred $1,371 of product research and development expenses
compared to $1,341 for the same period in 2000. We expect our product research
and development costs to remain constant for the foreseeable future.

Non-cash stock compensation expense.For the six months ended June 30,
2001, we incurred a total of $12,317 in non-cash stock compensation expenses
compared to $9,875 for the same period in 2000. Of the $2,442 increase,$408
reflects the periods expense in connection with the employee retirement
benefit plan with the remaining amount of $2,034 reflects the amortization of
unearned compensation for awards in prior periods. We expect to incur up to
$11,356 of non-cash stock compensation expense over the next three to four
years as a result of a stock option swap program implemented in November 2000.
This program allowed employees to exchange stock options granted since January
2000 at a rate of two options for one share of restricted stock. We also expect
to incur up to $8,011 in non-cash stock compensation expense through 2002
related to the intrinsic value of 1999 and 2000 stock option grants.

Depreciation and amortization.For the six months ended June 30, 2001, we
incurred $37,792 in depreciation and amortization expenses, compared to $20,930
for the same period in 2000. Of the $16,862 million increase, $15,862
represents depreciation of our increasing investment in property and equipment
and the amortization of our prepaid software licenses. The remaining amount of
$1,000 represents the amortization of the goodwill recorded upon our
acquisitions of Conklin, ACR, IIT and EnableVision.

Interest income and expense.For the six months ended June 30, 2001, we
incurred $13,760 in interest expense and generated $3,309 of interest income.
For six months ended June 30, 2000, we incurred $9,187 of interest expense and
generated $4,498 of interest income. Our interest expense has increased as we
continue to finance through long-term debt and capital lease obligations
investments in our client solutions and in our network and infrastructure. See
Notes 4 and 5 to our June 30, 2001 consolidated financial statements for a
summary of our capital lease and long-term debt obligations at June 30, 2001.

We generated interest income in the first six months of 2001 from the
temporary investments of our proceeds from our November 2000 and January 2001
debt and equity transactions. During the same prior year period, we generated
interest income from the temporary investment of the proceeds of our February
2000 common stock offering and our November 1999 debt offering.

Future Assessment of Recoverability and Impairment of Goodwill

In connection with our acquisition of IIT, ACR, Conklin, and EnableVision
LLC, we recorded goodwill that is being amortized on a straight-line basis over
its estimated useful life. At June 30, 2001 the unamortized portion of these
intangibles was $27,143, which represented 6% of total assets and 22% of
stockholders equity. Goodwill represents the amount that we paid for these
acquired businesses in excess of the fair value of the acquired tangible and
separately measurable intangible net assets. We have estimated the useful life
of our goodwill to be between three to five years based upon several factors,
the most significant of which is the susceptibility of acquired businesses to
change as a result of technological advances and the rapidly changing needs of
their customers.

We periodically review the carrying value and recoverability of our
unamortized goodwill and other intangible assets for impairment. If the facts
and circumstances suggest that the goodwill or other intangible assets may be
impaired, the carrying value of this goodwill will be adjusted by an immediate
charge against income during the period of the adjustment. The length of the
remaining amortization period may also be shortened, which will result in an
increase in the amount of goodwill amortization during the period of adjustment
and each period thereafter until fully amortized. Once adjusted, there can be
no assurance that there will not be further adjustments for impairment and
recoverability in future periods. We have integrated the acquired businesses
into our primary iMAP service offerings. Therefore, in evaluating impairment a
principal factor we consider is the failure to achieve expected cash flows from
operations. (See the Recent Accounting Pronouncements section below.)

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Liquidity and Capital Resources

At June 30, 2001, we had cash and cash equivalents of $79,168. Cash in
excess of operating requirements is invested in high-grade liquid financial
instruments with maturities less than 90 days.

For the six months ended June 30, 2001, we used $48,946 of cash for
operating activities, $3,700 of cash in investing activities and generated
$74,852 of cash (net of debt repayments) through financing activities. Cash
used in operating activities was primarily used to fund operating losses. Our
accounts receivable balance was $32,212 at June 30, 2001, including unbilled
accounts receivable of $10,929. During the first six months of 2001, we
wrote-off $2,693 and reserved an additional $2,750 of accounts receivable
related to several early-stage companies that were experiencing financial
difficulty. At June 30, 2001 our accounts receivable balance has no specific
industry or customer concentration. We do not believe that delinquent payments
on our accounts receivable will materially affect our liquidity.

We used cash in investing activities in the first six months of 2001 and
2000, primarily to purchase computer hardware and software required to support
our shared infrastructure and new iMAP clients. During the first six months of
2001, we acquired $28,552 of property and equipment, including equipment
financed with capital leases, compared to $81,045 purchased in the first six
months of 2000. During 2001, we also received $17,900 of cash in a
sale-leaseback transaction of equipment we purchased in a prior period. The
majority of the base infrastructure required to provide our iMAP offerings has
been purchased. As a result, we expect that our capital expenditures for the
next several years will now largely be success-based, consisting of software
licenses, hardware and the expansion of existing data center facilities
required to implement iMAP offerings for our new customers. We expect to
expend between $10,000 and $20,000 on capital expenditures for the remainder of 2001,
depending on our success in signing new contracts, including $1,500 committed to improve our facilities.

During the first six months of 2001, we paid contingent consideration of
$2,185 to the former shareholders of Conklin and Conklin, Inc., a company we
acquired in 1999. At June 30, 2001, we finalized the contingent payments due
these shareholders, and have accrued an additional $2,300 due in January 2002.

During the first six months of 2001, we continued to obtain needed capital
through the sale of common stock, borrowings on our $50,000 line of credit, and
equipment financing arrangements. In January 2001, we received net proceeds of
$90,174 from the sale of 26,634,815 shares of our common stock. During the six
months ended June 30, 2001, we also received cash of $18,053 from our long-term
borrowing arrangements, including $15,000 from our line of credit. We made
principal payments during the six months ended June 30, 2001 of $34,583 for our
long-term debt and capital lease obligations, compared to $12,120 for the six
months ended June 30, 2000. Our debt and capital lease arrangements for the
remainder of 2001 require principal payments of $25,034.

As of June 30, 2001, we have arrangements with lenders and investors that
provide us with additional financing if certain conditions are met. These
arrangements are as follows:



| |  |  | We maintain a $50,000 revolving line of credit with a group of
lenders led by GE Capital. The revolving line of credit was amended
during the quarter. The amendment bases availability under this line on
our accounts receivable balance, maintaining the lines
capacity but reducing its current availability. The line requires that
we meet certain financial covenants including the achievement of
certain revenue and capital-raising targets prior to September 30, 2001.
If we are unable to comply with these convenants and are required to
repay the outstanding balance ($15,000 at June 30, 2001), we believe
that sufficient financial resources will be available to retire the
obligation.
The line is secured by substantially all of our assets.
As of June 30, 2001, we had the ability to draw an additional $1,250 under the line.                                                                                                                                                                                                                                                                                                
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | We have commitments from equipment vendors to finance up to
approximately $10,000 of equipment. These commitments expire between
August 17, 2001 and September 30, 2001. We continue to work with our
other hardware providers and expect to be able to secure additional
vendor financing in the future.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|
| |  |  | We have entered into an equity draw-down agreement with Acqua
Wellington North American Equities Fund Ltd., which permits us to sell
shares of our common stock to Acqua Wellington at our sole discretion,
depending upon our needs. To date, Acqua Wellington has purchased
$5,000 of our common stock under this agreement. The shares are sold at
a 4% to 6.5% discount based on the market price of our common stock at the
time of the draw. The amount of stock sold in a given draw period is
based on the stock price during such draw period. Below $1 per share,
Acqua Wellington is not obligated to purchase our common stock. Our
stock price in August 2001 has been below $1, and there can be no
assurance that Aqua Wellington will agree to purchase our stock in
future periods if our stock price is not above $1. The total amount of
securities available under the purchase agreement, as amended and
restated, does not exceed 10% of the aggregate market value of our
outstanding common stock that was held by non-affiliates within sixty
days prior to the date of the original agreement. The agreement
provides that Acqua

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| |  |  | Wellington is committed to purchase up to $60,800 of our common stock over
the 28-month term of the purchase agreement. During the three months ended
June 30, 2001, we made no draw downs under this line.
| |  |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

At our current levels of operations, we will need to identify and obtain
additional sources of capital in order to reach cash-flow breakeven.
Based on our current plans and expectations, we will need additional
sources of capital beginning in 2002.
We have engaged our
investment bank to assist us in this effort and to evaluate other strategic
alternatives. We are also exploring alternatives to reduce the capital
needs of its business. The timing and amount of our capital needs will vary
depending on a number of factors, including the level and pace of our
operations, the availability and terms of our existing financing sources, unexpected
increases in our working capital needs, and the rate of our expansion and
growth.

We cannot be sure that we will be able to obtain the additional financing
to satisfy our cash requirements or to implement our growth strategy on
acceptable terms, or at all. If we cannot obtain such financing on terms
acceptable to us, we may be required to curtail our planned business expansion
and may be unable to fund our ongoing operations at their current levels.

Restructuring

In December 2000, we accrued a restructuring charge of $2,110 related to
severance costs associated with the involuntary termination of certain
employees of USi and non-cancelable lease costs associated with the closing of
three sales offices. In January 2001, we accrued a restructuring charge of
$1,020 related to severance costs associated with the involuntary termination
of certain employees of USi. In May 2001, we accrued an additional
restructuring charge of $7,833 related to severance costs associated with the
involuntary termination of certain employees and an estimated accrual for the
termination of various non-cancelable lease costs. We anticipate that
substantially all of the restructuring accrual will be paid in the next twelve
months.

Recent Accounting Pronouncements

In June 2001, the Financial Accounting Standards Board approved the
issuance of Statement No. 141, Business Combinations, and Statement No. 142,
Goodwill and Other Intangible Assets. Statement No. 141 on business
combinations changes current practice by requiring the use of the purchase
method for all business combinations initiated after June 30, 2001, thereby
eliminating the use of the pooling-of-interest method of accounting.
Additionally, Statement No. 141 provides new criteria for determining whether
acquired intangible assets should be recognized separately from goodwill and
continues to ensure that the presentation of pro forma information required
under Accounting Principal Board No. 16, Business Combinations,be included in
the financial statements.

Statement No. 142, Goodwill and Other Intangibles, eliminates the
requirement to amortize goodwill over finite lives. Rather the asset will be
tested for impairment at least annually at the reporting unit level using an
approach defined by the Statement. Upon adoption, goodwill amortization will
cease. Any impairment loss recognized as a result of a transitional impairment
test of goodwill is recognized as the effect of a change in accounting
principle in the period of adoption. Statement No. 142 will be effective for
fiscal years beginning January 1, 2002. Currently, management has not yet
determined the effect of adopting the pronouncement

Item 3.Quantitative and Qualitative Disclosures About Market Risk

We are exposed to market risk from changes in interest rates. Market risk
is the risk of loss to future earnings, to fair value or to future cash flows
that may result from the changes in the price of financial instruments. At June
30, 2001, we had cash and cash equivalents of $79,168, which consisted of
demand deposit and money market accounts. The accounts are interest rate
sensitive; however, these investments have short maturities mitigating this
sensitivity. A hypothetical 100 basis point change in interest rates would
result in an immaterial change in our net loss for the six months ended June
30, 2001. At June 30, 2001, the fair value of long-term debt and capital leases
approximates its carrying value. A hypothetical 100 basis point change in
interest rates would result in an immaterial change in the fair value of the
long-term debt and capital leases. Changes in the quoted market price of our
common stock affects the fair value of our convertible subordinated notes. At
June 30, 2001, we had $125,000 of convertible subordinated notes outstanding,
bearing interest at 7%, that mature November 1, 2004. The estimated fair value
of these notes was $15,625 at June 30, 2001, which represents a 76% decrease in
the estimated fair value from December 31, 2000. We continue to manage our
exposure to this risk through our regular operating and financing activities.
There have been no other significant changes in our interest rate risk and
other market risks.

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PART II. OTHER INFORMATION

Item 1.Legal Proceedings

We are not a party to any material legal proceedings.

Item 2.Changes in Securities and Use of Proceeds

On January 2, 2001, we issued 27,022,059 shares of common stock with
certain registration rights for an aggregate purchase price of $91,875,000 to
our Chairman Christopher R. McCleary, Chief Executive Officer Andrew A. Stern,
certain venture investors, Microsoft, Inc., CFE, Inc., (a wholly owned
subsidiary of GE Capital) and Aether Systems. We also issued to these
shareholders warrants to purchase 9,457,721 shares of common stock for $4.08
per shares.

The offer and sale of the securities above were made in reliance on the
exemption from registration under the Securities Act, provided by Section 4(2)
thereunder. The purchasers of these securities represented that they had
adequate access to information about the Company and were experienced in making
such investments.

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

On May 23, 2001, we held our Annual Meeting of Stockholders at the
Maryland Hall for the Creative Arts, 801 Chase Street, Annapolis, Maryland at
3:00p.m. At the meetings, stockholders considered and approved the following
proposals by the margins indicated:

Proposal 1: To elect four directors for the three-year terms expiring at
the 2004 annual meeting.

|                   |  |           |            |          |  |  |           | 
|------------------ |  | --------- | ---------- | -------- |  |  | --------- | 
|Director           |  | Voted For |            | Withheld
|                   |  |           |            |         
|Frank A. Adams     |  |           | 76,522,507 |          |  |  | 262,442   | 
|                  
|                  
|                  
|                  
|Stephen E. McManus |  |           | 76,539,618 |          |  |  | 245,331   | 
|                  
|                  
|                  
|                  
|Andrew A. Stern    |  |           | 74,878,766 |          |  |  | 1,906,183 | 
|                  
|                  
|                  
|                  
|John H. Wyant      |  |           | 76,521,167 |          |  |  | 263,782   | 

Proposal 2: The ratification of the appointment of Ernst & Young LLP as
independent auditors of the Company to serve for the 2001 fiscal year. Votes
for 76,245,595, votes against 489,483, abstentions 49,871.

Item 5.Other Information

In July and August 2001, three
of our directors, Cathy M. Brienza, Benjamin Diesbach and David J.
Poulin resigned principally because of increasing time constraints or work
commitments. None of these directors resigned because of a
disagreement with us on any matter relating to our operations,
policies or practices, as set forth in Item 6 of Form 8-K of
the Securities Exchange Act of 1934. We do not presently plan on filling the
vacancies created by the resignations of these directors.

Item 6.Exhibits and Reports on Form 8-K

(a) The following exhibits are included herein:

Employment agreement between the Company and William Washecka, Executive
Vice President and Chief Financial Officer

(b) Reports on Form 8-K.

We filed a Current Report on Form 8-K dated June 18, 2001 under which we
filed an amendment to the Companys agreement with Acqua Wellington North
American Equities Fund Ltd.

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SIGNATURES

Pursuant to the requirements of the Securities Act of 1934, as amended,
USinternetworking, Inc. has duly caused this registration statement to be
signed on its behalf by the undersigned, thereunto duly authorized, in
Annapolis, Maryland on August 14, 2001.

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|USINTERNETWORKING, INC.                                                                                                 
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 /s/ ANDREW A. STERN                                                                
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Andrew A. SternChief Executive Officer                                 
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 /s/ WILLIAM H. WASHECKA                                                                
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William H. WasheckaExecutive Vice President and Chief Financial Officer
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 /s/ MARK J. MCENEANEY                                                                  
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Mark J. McEneaneySenior Vice President and Chief Accounting Officer    

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