<PAGE>   1
                                  UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                              WASHINGTON D.C. 20549


                                    FORM 10-Q


 [X]  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
      EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2000

                                       OR

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


                        COMMISSION FILE NUMBER 000-25759


                            APPLIEDTHEORY CORPORATION
             (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)


              DELAWARE                                         16-1491253
  (STATE OR OTHER JURISDICTION OF                           (I.R.S. EMPLOYER
   INCORPORATION OR ORGANIZATION)                         IDENTIFICATION  NO.)



      1500 BROADWAY, 3RD FLOOR                                    10036
         NEW YORK, N.Y.                                        (ZIP CODE)
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICE)

                                (212) 398-7070
               REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE

                                 NOT APPLICABLE
   (FORMER NAME, FORMER ADDRESS AND FORMER FISCAL YEAR, IF CHANGED SINCE LAST
                                  REPORT DATE)


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

As of May 2, 2000, there were 23,360,629 shares of AppliedTheory Corporation
common stock, par value $.01, outstanding.


                    The Index of Exhibits appears on page 33
<PAGE>   2
                            APPLIEDTHEORY CORPORATION



                                TABLE OF CONTENTS


<TABLE>
<S>                                                                                  <C>
PART I. FINANCIAL INFORMATION

Item 1.  Financial Statements (Unaudited):

         Consolidated Balance Sheets as of December 31, 1999 and March 31, 2000       3

         Consolidated Statements of Operations for the three months ended
         March 31, 1999 and March 31, 2000 ....................................       4

         Consolidated Statements of Cash Flows for the three months ended
         March 31, 1999 and March 31, 2000 ....................................       5

         Notes to Consolidated Financial Statements ...........................       6


Item 2.  Management's Discussion and Analysis of Financial Condition
         and Results of Operations ............................................      12

Item 3.  Quantitative and Qualitative Disclosures about Market Risk ...........      17

PART II. OTHER INFORMATION

Item 1.  Legal Proceedings ....................................................      17

Item 2.  Changes in Securities and Use of Proceeds ............................      17

Item 3.  Defaults Upon Senior Securities ......................................      18

Item 4.  Submission of Matters to a Vote of Security Holders ..................      18

Item 5.  Other Information ....................................................      19

Item 6.  Exhibits and Reports on Form 8K ......................................      31

Signatures ....................................................................      32

Exhibit Index .................................................................      33
</TABLE>
<PAGE>   3
PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS


                    APPLIEDTHEORY CORPORATION AND SUBSIDIARY
                           CONSOLIDATED BALANCE SHEETS
                        (IN THOUSANDS, EXCEPT SHARE DATA)

<TABLE>
<CAPTION>
                                                                                 December, 31           March 31,
                                                                                     1999                 2000
                                                                            ---------------------      -----------
                                                                            (Derived from Audited      (Unaudited)
                                                                            Financial Statements)
<S>                                                                         <C>                         <C>
                                    ASSETS
Current assets
    Cash and cash equivalents                                                     $  14,834             $   5,203
    Marketable securities                                                            32,727                17,053
    Accounts receivable, net of allowance of $231 and $649, respectively              6,714                 9,244
    Due from related parties                                                             59                 1,011
    Prepaid expenses and other assets                                                 2,133                 2,458
                                                                                  ---------             ---------
           Total current assets                                                      56,467                34,969
Property and equipment, net                                                          13,881                25,167
Investment, at cost                                                                   5,000                 5,000
Goodwill                                                                                                   43,496
Other assets                                                                          1,587                 1,320
                                                                                  ---------             ---------
           Total assets                                                           $  76,935             $ 109,952
                                                                                  =========             =========

                     LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
    Accounts payable                                                              $   5,025             $   6,302
    Line of credit                                                                                          5,500
    Accrued payroll                                                                   2,012                 3,081
    Accrued expenses                                                                  4,794                 5,942
    Deferred revenue                                                                  2,476                 2,652
    Current portion of long-term debt and capital lease obligations                   1,215                 3,329
                                                                                  ---------             ---------
           Total current liabilities                                                 15,522                26,806
Long-term debt and capital lease obligations                                          6,783                 4,979
Other liabilities                                                                       421                   418

Stockholders' equity:
    Common stock, $.01 par value; 90,000,000 shares authorized; issued and
       outstanding 21,413,362 shares at December 31, 1999
       and 23,282,631 shares at March 31, 2000                                          214                   233
Additional paid-in capital                                                           84,052               118,393
Accumulated deficit                                                                 (29,806)              (40,794)
Accumulated other comprehensive loss                                                   (251)                  (83)
                                                                                  ---------             ---------
           Total stockholders' equity                                                54,209                77,749
                                                                                  ---------             ---------
           Total liabilities and stockholders' equity                             $  76,935             $ 109,952
                                                                                  =========             =========
</TABLE>


        The accompanying notes are an integral part of these statements.


                                       3
<PAGE>   4
                    APPLIEDTHEORY CORPORATION AND SUBSIDIARY

                      CONSOLIDATED STATEMENTS OF OPERATIONS
                      (IN THOUSANDS, EXCEPT PER SHARE DATA)
                                   (UNAUDITED)

<TABLE>
<CAPTION>
                                                                       THREE MONTHS ENDED
                                                                            March 31,
                                                                 ---------------------------------
                                                                    1999                 2000
                                                                 ------------         ------------
<S>                                                              <C>                  <C>
Net revenues
   Third-party customers                                         $      4,833         $     13,099
   NYSERNet.org, Inc. customers and services                            2,034                2,724
                                                                 ------------         ------------

     Total net revenues                                                 6,867               15,823
                                                                 ------------         ------------

Costs and expenses
   Cost of revenues                                                     4,103               11,043
   Sales and marketing                                                  1,764                6,711
   General and administrative                                           1,814                4,909
   Research and development                                                63                  167
   Depreciation and amortization                                          616                4,117
   Other expenses (income)                                                  3                  (21)
                                                                 ------------         ------------

     Total costs and expenses                                           8,363               26,926
                                                                 ------------         ------------

     Loss from operations                                              (1,496)             (11,103)

Interest income                                                           (18)                (393)
Interest expense                                                          180                  278
                                                                 ------------         ------------

     NET LOSS                                                          (1,658)             (10,988)

Preferred stock dividends                                                  52                    0
                                                                 ------------         ------------

Net loss attributable to common stockholders                     $     (1,710)        $    (10,988)
                                                                 ============         ============

Basic and diluted loss per common share                          $      (0.11)        $      (0.48)
                                                                 ============         ============

Shares used in computing basic and diluted loss per share          15,930,258           23,105,302
                                                                 ============         ============
</TABLE>


             The accompanying notes are an integral part of these statements.


                                       4
<PAGE>   5
                    APPLIEDTHEORY CORPORATION AND SUBSIDIARY

                      CONSOLIDATED STATEMENTS OF CASHFLOWS
                                 (IN THOUSANDS)
                                   (UNAUDITED)

<TABLE>
<CAPTION>
                                                                                      THREE MONTHS ENDED
                                                                                           March 31,
                                                                                    -------------------------
                                                                                      1999             2000
                                                                                    --------         --------
<S>                                                                                 <C>              <C>
Cash flows from operating activities
         Net loss                                                                   $ (1,658)        $(10,988)
         Adjustments to reconcile net loss to net cash used in operating
         activities:
              Depreciation and amortization                                              616            1,839
              Amortization of goodwill                                                                  2,278
              Provision for bad debts                                                     23              110
              Deferred payment of interest expense to NYSERNet.net, Inc.                  52
              Loss on sale of property and equipment                                       3
              Non-cash compensation expense                                              313              309
              Changes in assets and liabilities, net of effects of business
              acquisitions
                Accounts receivable, net                                                (326)          (1,796)
                Due to (from) related parties                                             18             (952)
                Prepaid expenses and other assets                                       (284)             592
                Accounts payable                                                         840               58
                Accrued payroll                                                          284            1,069
                Accrued expenses and other liabilities                                    89           (1,517)
                Deferred revenue                                                         (59)             (41)
                                                                                    --------         --------

              Net cash used in operating activities                                      (89)          (9,039)
                                                                                    --------         --------

Cash flows from investing activities
         Purchases of property and equipment                                            (889)          (5,690)
         Investment in certain businesses, net of cash acquired                                        (9,653)
         Proceeds from sale of marketable securities                                                   15,842
         Payments received on notes receivable                                             1                1
                                                                                    --------         --------

              Net cash provided by (used in) investing activities                       (888)             500
                                                                                    --------         --------

Cash flows from financing activities
         Issuance of common stock, net of issuance costs                                 121               90
         Borrowings from NYSERNet.net, Inc.                                              800
         Proceeds from line of credit borrowings, net                                     70
         Principal payments on capital leases                                           (205)            (290)
         Principal payments on long-term debt                                                            (892)
         Security deposit on equipment financing                                        (782)
                                                                                    --------         --------

              Net cash provided by (used in) financing activities                          4           (1,092)
                                                                                    --------         --------

              Net decrease in cash and cash equivalents                                 (973)          (9,631)

Cash and cash equivalents, beginning of period                                         1,786           14,834
                                                                                    --------         --------

Cash and cash equivalents, end of period                                            $    813         $  5,203
                                                                                    ========         ========

Supplemental disclosures of noncash investing transactions:
         Issuance of common stock for investment in certain businesses                               $ 33,961
         Fixed asset acquisitions financed through capital lease obligations        $  1,149            5,029
</TABLE>


        The accompanying notes are an integral part of these statements.


                                       5
<PAGE>   6
                    APPLIEDTHEORY CORPORATION AND SUBSIDIARY
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                   (UNAUDITED)

NOTE A - NATURE OF OPERATIONS AND BASIS OF PRESENTATION

   AppliedTheory Corporation (formerly AppliedTheory Communications, Inc.) was
   incorporated in the State of New York in November 1995 as a wholly-owned
   subsidiary of NYSERNet.net, Inc. ("NET"), a not-for profit corporation. NET
   is also the sole member of NYSERNet.org, Inc. ("ORG"), a not-for-profit
   corporation (in effect, ORG is a wholly-owned subsidiary of NET). As a result
   of certain transactions completed during 1998 (the exercise of 3,559,335
   stock options, the private placement of 1,725,000 shares and NET's direct
   sale of 4,875,000 shares it owned of AppliedTheory), and the effect of the
   Company's initial public offering ("IPO") in April 1999, Net's ownership
   percentage declined to less than 50%. In conjunction with the IPO,
   AppliedTheory Communications, Inc. reorganized as a Delaware corporation. On
   January 28, 1999, the Company established its wholly owned subsidiary,
   AppliedTheory Corporation. The Company merged into AppliedTheory Corporation,
   which is the surviving entity.

   As of January 1, 2000, the consolidated financial statements include the
   accounts of AppliedTheory Corporation and its wholly owned subsidiary
   AppliedTheory California Corporation (See Note B). All significant
   intercompany transactions have been eliminated in consolidation. These
   financial statements for the three months ended March 31, 2000 and 1999 and
   the related footnote information are unaudited and have been prepared on a
   basis substantially consistent with the audited financial statements of
   AppliedTheory Corporation (the "Company") as of and for the year ended
   December 31, 1999 included in our Annual Report on Form 10-K filed with the
   Securities and Exchange Commission (SEC). The accompanying unaudited
   financial statements of AppliedTheory Corporation have been prepared in
   accordance with generally accepted accounting principles for interim
   financial information, with the instructions to Form 10-Q and Article 10 of
   Regulation S-X. All material adjustments, consisting of only normal and
   recurring adjustments, which, in the opinion of management, are necessary for
   fair presentation of the results for the interim periods have been reflected.
   Operating results for the three month periods ended March 31, 2000 and 1999
   are not necessarily indicative of the results that may be expected for any
   succeeding quarters or for the full year. The financial statements and notes
   thereto should be read in conjunction with the Company's audited financial
   statements for the year ended December 31, 1999.


NOTE B - ACQUISITIONS

   On January 5, 2000, the Company's newly formed wholly owned subsidiary,
   AppliedTheory Reef Acquisition Corp., ("Merger Sub."), a Delaware
   corporation, purchased all of the capital stock of CRL Networks, Inc. ("CRL")
   for $9,939,000 in cash and up to approximately 2,022,291 shares of common
   stock, par value $.01 per share of the Company. Also the Merger Sub. changed
   its name to AppliedTheory California Corporation. The Company owns all
   capital stock of AppliedTheory California Corporation. CRL provides high
   speed Internet access and data networking solutions across the United States
   and owns and operates a Tier 1 network backbone.

   The acquisition was accounted for using the purchase method of accounting.
   Accordingly, a portion of the purchase price was allocated to the net
   tangible assets acquired based on the estimated fair values. The balance of
   the purchase price was recorded as goodwill and is being


                                       6
<PAGE>   7
                    APPLIEDTHEORY CORPORATION AND SUBSIDIARY
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                  (UNAUDITED)

   amortized over 5 years. The acquisition was financed using a portion of the
   net proceeds of the IPO.

   The Company has retained 285,507 shares of AppliedTheory common stock valued
   at $19.16 per share payable to CRL's former owners under escrow provisions of
   the Merger Agreement to cover various contingencies. Such amounts will be
   recorded as additional cost of the acquired company when the amount to be
   paid, if any, becomes probable. At March 31, 2000, no amount had been
   recorded since the outcome of the contingencies was not determinable. In
   connection with the acquisition of CRL the Company entered into a put option
   agreement requiring the Company to re-purchase a total of 625,000 shares of
   AppliedTheory common stock on the first and second anniversary of the
   acquisition. The financial statements reflect the preliminary allocation of
   the purchase price and are subject to revision upon final settlement of all
   purchase price adjustments and the completion of evaluations and other
   studies of the fair value of all assets acquired and liabilities assumed.

   Following is the Company's unaudited proforma results for the quarters ending
   March 31, 1999 and 2000 as if the acquisition of CRL occurred on January 1,
   1999.


<TABLE>
<CAPTION>
                                         Three Months Ended
                                              March 31,
                                   ----------------------------
                                      1999                2000
                                   --------            --------
                                (in thousands, except per share amounts)
<S>                                <C>                 <C>
      Net revenues                 $  9,870            $ 15,823
      Net loss                      (10,979)            (10,988)
      Net loss per share           $  (0.48)           $  (0.48)

</TABLE>


NOTE C - COMPREHENSIVE LOSS

   Comprehensive loss for the quarter ended March 31, 1999 and 2000, was as
follows:

<TABLE>
<CAPTION>
                                             1999             2000
                                           --------         --------
                                                (in thousands)
<S>                                        <C>              <C>
      Net loss attributable to
      common stockholders                  $ (1,710)        $(10,988)

      Other comprehensive
      income(loss):
             Unrealized gain on
             marketable securities,
             net of income tax                   --             (168)
                                           --------         --------
      Comprehensive loss                   $ (1,710)        $(10,820)
                                           ========         ========
</TABLE>


NOTE D - LOSS PER SHARE

   Basic loss per share is computed using the weighted average number of shares
   of common stock outstanding during the period. Diluted loss per share is
   computed using the weighted


                                       7
<PAGE>   8
                    APPLIEDTHEORY CORPORATION AND SUBSIDIARY
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                  (UNAUDITED)

   average number of shares of common stock outstanding, adjusted for the
   dilutive effect of potential common shares issued or issuable pursuant to
   stock options and stock appreciation rights. Potential common shares issued
   are calculated using the treasury method. All potential common shares have
   been excluded from the computation of diluted loss per share as their effect
   would be antidilutive and accordingly, there is no reconciliation of basic
   and diluted loss per share for the periods presented.

NOTE E - SEGMENT AND RELATED INFORMATION

   The Company operates as one business segment, as a provider of Internet
   solutions. The Company had revenues from its major service offerings as
   follows:


<TABLE>
<CAPTION>
                                        Three Months Ended
                                            March 31,
                                     ----------------------
                                       1999           2000
                                     -------        -------
                                         (in thousands)
<S>                                  <C>            <C>
      Net revenues
        Internet connectivity        $ 4,161        $ 7,466
        e-Business solutions           2,095          6,627
        Web hosting                      611          1,730
                                     -------        -------
      Total net revenues             $ 6,867        $15,823
                                     =======        =======
</TABLE>

NOTE F - PROPERTY AND EQUIPMENT

   On December 21, 1998, the Company adopted a plan, which was approved by its
   Board of Directors, to close a leased facility, which principally is used as
   a Web-hosting data center. The facility has experienced operational
   difficulties which limited its usability as a Web-hosting site and its
   ability to generate sufficient revenues. In connection with the plan of
   abandonment, the Company recorded a $900,000 charge to operations for the
   year ended December 31, 1998 consisting of (i) a $486,000 write-down of
   equipment and leasehold improvements to management's estimate of their fair
   value, based on the anticipated discounted future cash flows through the date
   of abandonment, of approximately $70,000 in accordance with the provisions of
   SFAS No. 121, "Accounting for the Impairment of Long-Lived Assets and for
   Long-Lived Assets To Be Disposed Of" and (ii) a $414,000 accrued liability,
   included in Accrued Expenses at December 31, 1998, 1999 and at March 31,
   2000, relating to equipment leases and facility operating leases, (net of
   anticipated subrental income) expiring in October 2001 and May 2006,
   respectively, in accordance with the provisions of EITF 94-3, "Liability
   Recognition for Certain Employee Termination Benefits and Other Costs to Exit
   an Activity." This accrued liability provides for only those costs subsequent
   to exiting the facility, that was expected to occur in September 1999, and
   costs prior thereto will be recognized during the period they are incurred.
   The plan calls for the Web-hosting customer base served from this abandoned
   facility and the related revenues, which are not significant, to be
   transitioned to another facility. As of March 31, 2000, no amounts have been
   charged against this liability. The closure date has been delayed pending
   completion of additional data centers.


                                       8
<PAGE>   9
                    APPLIEDTHEORY CORPORATION AND SUBSIDIARY
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                  (UNAUDITED)

NOTE G - LONG-TERM DEBT

   Line of Credit

   On January 20, 1998, the Company entered into a credit agreement with a bank
   for an aggregate amount of $7,500,000, which expires on January 19, 2001. The
   agreement provides for the payment of the unpaid principal balance of all
   amounts advanced on January 19, 2001. Interest is charged and payable on a
   monthly basis as determined by the Company, either on a LIBOR plus 50 basis
   points or a prime rate basis less 200 basis points. The credit facility is
   collateralized by substantially all assets of the Company and by a maximum of
   $5,500,000 of cash and cash equivalents, government securities, corporate
   securities or corporate equities pledged by NET.

   In accordance with the terms of the credit agreement, as amended on August 3,
   1999, the bank issued a standby letter of credit in the Company's name for
   $650,000, expiring July 30, 2000, pursuant to the amended agreement,
   collateralizing the Company's obligation to a third party for a real property
   lease. The Company's available credit under its line of credit agreement is
   effectively reduced by the outstanding amount of the letter of credit.

   At March 31, 2000 the Company had $5,500,000 outstanding under the line of
   credit and, as a result of certain restrictions, had no additional
   availability as of March 31, 2000. The average interest rate on outstanding
   borrowings was 5.6% at March 31, 2000.

   Borrowings from NYSERNet.net, Inc.

   The Company has an unsecured borrowing facility with NET, which provides for
   borrowings to a maximum amount of $6,187,000, less any preferred stock issued
   to NET, for working capital requirements. This borrowing facility expires on
   January 1, 2002. Interest on the loans accrues at the prime rate (9.0% at
   March 31, 2000) and payments are deferred for five years from the date of
   each advance or January 1, 2002, whichever is earlier. All principal
   borrowings under this agreement are due and payable on January 1, 2002. The
   Company had no principal borrowings under this facility at December 31, 1999
   or at March 31, 2000.

   Lease Obligations

   During the three months ended March 31, 2000, the Company leased
   approximately $5,029,000 of equipment under three agreements accounted for as
   capital leases. These obligations require the Company to make monthly
   payments of approximately $30,000 through September 2002, $43,000 through
   December 2002, and $107,000 through April 2003.


                                       9
<PAGE>   10
                    APPLIEDTHEORY CORPORATION AND SUBSIDIARY
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                  (UNAUDITED)

   The following is a summary of future minimum lease payments under capital
   leases as of March 31, 2000.

<TABLE>
<CAPTION>
                                                               Capital
                                                           --------------
                                                           (in thousands)
     Year ending December 31,
<S>                                                        <C>
     2000                                                   $   2,000
     2001                                                       2,631
     2002                                                       2,157
     2003
                                                                  429
                                                             --------
     Total minimum lease payments                               7,217

     Less amounts representing interest                         1,002
                                                             --------
     Present value of minimum lease obligation               $  6,215
                                                             ========
</TABLE>


NOTE H - REDEEMABLE PREFERRED STOCK

   Holders of shares of the redeemable preferred stock were entitled to receive
   payment for cumulative dividends at the annual rate of $14.00 per share (14%)
   beginning January 1, 1999, based upon a liquidation value of $100 per share,
   payable quarterly. On May 5, 1999, the Company paid $1,993,000 to fully
   redeem the preferred stock and accrued dividends in full with the proceeds
   from the IPO.

NOTE I - STOCK OPTIONS

   Certain options and stock appreciation rights were granted in 1998 and 1999
   at exercise prices below the fair market value of the Company's stock. The
   Company recorded $313,000 and $309,000 of compensation expense associated
   with these options and stock appreciation rights for the three months ended
   March 31, 1999 and 2000 respectively.


NOTE J - RELATED PARTY TRANSACTIONS

   Transactions with NET and ORG

   The Company has entered into an Internet service provider agreement with ORG
   to serve as ORG's sole source provider for Internet solutions to ORG's
   customer base under contractual arrangements. ORG's customers consist of (i)
   unrelated customers for which ORG serves as a conduit to the sales
   transactions between the Company and these customers and (ii) member
   institutions of ORG for which ORG provides pricing terms below that charged
   by the Company to ORG. The Company's revenues from ORG's customer base for
   the following periods are:



                                       10
<PAGE>   11
                    APPLIEDTHEORY CORPORATION AND SUBSIDIARY
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                  (UNAUDITED)

<TABLE>
<CAPTION>
                                    Three months ended March 31,
                                    ----------------------------
                                      1999              2000
                                     ------            ------
                                          (in thousands)
<S>                                  <C>               <C>
      Unrelated customers            $  699            $  752
      Member institutions             1,119             1,265
      Services to ORG                   216               707
                                     ------            ------
                                     $2,034            $2,724
                                     ======            ======
</TABLE>

   During each of the three months ended March 31, 1999 and 2000, the Company
   charged NET approximately $8,000 and ORG approximately $25,000, respectively,
   in management fees.

   The excess of the Company's revenues over amounts charged by ORG to its
   member institutions was approximately $698,000 and $781,000 for the three
   months ended March 31, 1999 and 2000, respectively.


NOTE K - INVESTMENT IN PLANNING TECHNOLOGIES, INC.

   On June 22, 1999, the Company entered into a stock purchase agreement (the
   "Stock Purchase Agreement") with Planning Technologies, Inc. ("PTI"), a
   Georgia corporation, which provides consulting and network engineering
   services, along with Grumman Hill Investments III, L.P., ("Grumman Hill") and
   certain shareholders of PTI. Pursuant to the Stock Purchase Agreement, the
   Company acquired approximately 10% of the capital stock of PTI on a fully
   diluted basis, as defined in the Stock Purchase Agreement, for $5 million.
   The Company's 10% ownership interest in PTI is represented by 2,976,190
   shares of PTI's Convertible Preferred Stock, which represents approximately
   50% of PTI's outstanding Convertible Preferred Stock. The investment is being
   accounted for under the cost method.

   The Stock Purchase Agreement provides a definition of service revenues for
   PTI for the year ending December 31, 1999. In the event that PTI's service
   revenues for that period are below thresholds which are described in the
   Stock Purchase Agreement, the Company will receive additional shares of PTI
   Convertible Preferred Stock representing up to 5% of the fully diluted
   capital stock of PTI.

   On April 4, 2000, the Company converted 2,976,190 shares of PTI's Convertible
   Preferred Stock into common shares and received 1,816,173 additional shares
   of common stock in exchange for the termination of the Stock Purchase
   Agreement. This increased the Company's ownership percentage to 15% of PTI's
   common stock on a fully diluted basis. The Company also invested an
   additional $250,000 in PTI in connection with the reorganization of PTI in
   exchange for 564,498 shares of common stock. After the reorganization the
   Company owns approximately 8.5% of PTI's outstanding common stock.


                                       11
<PAGE>   12
ITEM 2.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
         RESULTS OF OPERATIONS

      You should read and consider the following discussion in conjunction with
our audited financial statements and notes thereto and the "Management's
Discussion and Analysis of Financial Condition and Results of Operations" as of
and for the year ended December 31, 1999 which is included in Form 10-K (File
No. 000-25759), as filed with the SEC.

      Certain statements in this Form 10-Q constitute "forward-looking
statements" within the meaning of the Private Securities Litigation Reform Act
of 1995. These forward-looking statements involve known and unknown risks,
uncertainties and other factors which may cause our actual results, performance
or achievements, or those of the industry in which we operate, to be materially
different from any expected future results, performance or achievements
expressed or implied by these forward-looking statements. Factors that could
cause or contribute to such differences include, but are not limited to, those
discussed below, as well as those discussed in Part II, Item 5 of this Form 10-Q
and in the Registration Statement of our initial public offering of common
stock.

      Unless the context otherwise requires, references in this Form 10-Q to
"AppliedTheory", the "Company, "we", "our" and "us" refer to AppliedTheory
Corporation.

OVERVIEW

      We are a leading provider of Internet business solutions to mid-sized
businesses, mid-sized departments of larger businesses, and specifically
targeted vertical markets. We offer an extensive array of high performance,
reliable and scalable Internet solutions that are designed to give our customers
the technological and strategic advantages necessary to compete in a global
digital economy. Our solutions, which are described below and fall into four
categories, can be tailored to meet our customers' requirements. We provide
these solutions, either as an individually tailored solution or as part of a
fully integrated comprehensive solution, both of which are supported by an
unprecedented customer care model.

-  e-Business Solutions - (formerly Internet integration and enterprise portal
   development services) Internet business strategy consulting, solution
   integration and enterprise portal development, including custom software
   application development, interactive marketing design, Web site
   implementation and deployment and integration of legacy systems to
   Internet-based applications.

-  Web Hosting Solutions - Customized suite of Unix, NT and Linux Web-hosting
   solutions supported by redundant data centers and unmatched customer care
   services. Our services include custom offerings of shared, dedicated and
   co-location services.

-  Security Solutions - Security consulting services, managed firewalls, virtual
   private networks and intrusion detection systems are a few of our offering to
   ensure the integrity of a customers network.

-  Access Solutions - Internet connectivity, including tiered dedicated,
   burstable dedicated, national dial, DSL services and Domain Name Services.

      We target mid-sized businesses and mid-sized departments of larger
businesses within the commercial markets and the public sector. Additionally, we
focus on a number of strategic vertical markets including higher education, the
federal government, state & local governments, healthcare and automotive
industries. We integrate our solutions to enable customers to extend their
businesses, leverage their legacy databases and systems, and take advantage of
Internet-based marketing opportunities. Driven by competition and governmental
mandates, public and private sector customers both benefit by making greater use
of the Internet to serve their constituencies more


                                       12
<PAGE>   13
cost-effectively with greater returns. Increasingly, these businesses and
institutions are demanding "one-stop-shop" solutions for Internet services due
to the risk, difficulty and expense associated with managing and integrating the
products and services of multiple vendors.

      We are rapidly strengthening our sales and marketing efforts nationally to
more aggressively pursue customers. This represents a change from our historic
approach of generating our revenues using a small sales force and growing our
customer base primarily through word of mouth. In 1999, we tripled our sales
force and now operate 13 sales offices in key cities throughout the east coast
of the U.S. Already in 2000, we have expanded into northern California and began
our Midwest presence with a new office opening in Detroit, Michigan. In
addition, as previously discussed we have launched a vertical sales effort to
focus on markets such as higher education, the federal government, state and
local governments, healthcare and automotive. We have also targeted
approximately 20 metropolitan areas throughout the United States with high
concentrations of businesses and intend to grow our direct and indirect sales
force to between 125 - 150 in the year 2000. We also intend to extend our
vertical market focus to strategic segments where our solutions have competitive
differentiation and the market opportunity is significant.

      As part of our expansion strategy we purchased all of the capital stock of
CRL Networks, Inc. ("CRL") on January 5, 2000. CRL provides high speed Internet
access and data networking solutions across the United States and owns and
operates a Tier 1 network backbone. This acquisition allowed us to extend our
network footprint, link the Company's data centers on the east and west coasts,
and increase our sales presence on the west coast. The acquisition of CRL
results in additional revenue and costs in the first quarter of 2000 that affect
the comparability to the first quarter of 1999.


RESULTS OF OPERATIONS

THREE MONTHS ENDED MARCH 31, 2000 COMPARED TO THREE MONTHS ENDED MARCH 31, 1999

      REVENUE. Total net revenues increased approximately $8.9 million from $6.9
million in the three months ended March 31, 1999 to $15.8 million in the three
months ended March 31, 2000. Approximately $3.3 million of this growth was from
Internet connectivity revenue, which resulted primarily from the acquired
business contributing $1.9 million in new Internet connectivity revenue during
the first quarter. The remainder of the increase is due to an expansion of
connectivity provided for NYSERNet 2000 of $.5 million and the expansion and
upgrade of service levels for the existing customer base. Web hosting revenue
increased by approximately $1.1 million during the same period. This increase
includes $.4 million in new web hosting revenue from the acquired business. The
remainder of the increase resulted from a $.5 million increase in Web
monitoring, management and hosting services dedicated web hosting customers
including $.2 million for the New York State Department of Labor in connection
with America's Job Bank. The remaining increase in total net revenues of
approximately $4.5 million was derived from e-Business solutions. These services
include:

      -     linking existing databases and legacy systems with the Web; and

      -     creating open, universal interfaces to business-critical information
            and standards-based software used to link with the systems of
            suppliers, partners and customers.

      The majority of the increase in e-Business solutions was derived from an
additional $4 million in services to the New York State Department of Labor in
connection with America's Job Bank. Additionally, during the same period our
revenue from other e-Business solutions customers increased by 730% to $.6
million reflecting the continued expansion of this solution.


                                       13
<PAGE>   14
      For the quarter ended March 31, 2000, as a percentage of total net
revenues, Internet connectivity represented 47%, e-Business solutions
represented 42% and Web hosting represented 11%. For the quarter ended March 31,
1999, as a percentage of total net revenues, Internet connectivity represented
61%, e-Business solutions represented 31% and Web hosting represented 8%.

       COST OF REVENUE. Cost of revenue for the three months ended March 31,
2000 totaled approximately $11.0 million compared with approximately $4.1
million for the three months ended March 31, 1999. The increase in cost of
revenue of $6.9 million was primarily attributable to the factors below.

-  $2.8 million of the increase is attributable to the labor and connection
   charges to upgrade our network infrastructure to establish our nationwide
   Tier 1 presence and to provide additional capacity to support continued
   customer growth;

-  the acquired business increased first quarter Internet connectivity costs of
   revenue by $1.6 million;

-  approximately $1.4 million of the increase was from increased labor and other
   professional service costs associated with the expansion of e-Business
   solutions provided to the New York State Department of Labor in connection
   with America's Job Bank and services provided to other customers; and

-  increased labor costs of $.6 million support the expansion of web hosting
   design and support services.

As a percentage of revenue, cost of revenue increased to 70% of revenue in the
three months ended March 31, 2000 from 60% of revenue in the three months ended
March 31, 1999.

      SALES AND MARKETING. For the three months ended March 31, 2000 and 1999,
sales and marketing expense was approximately $6.7 million and $1.8 million,
respectively. The $4.9 million increase reflects a substantial investment in the
sales and marketing organizations necessary to support our expanded customer
base and our efforts to establish a national sales and marketing program. The
largest components of the increase were $3 million in additional salary,
commission and related benefit costs and $.3 million in increased occupancy
costs to support the nationwide sales presence. Our aggressive product
management efforts increased costs by $.4 million and our direct and indirect
marketing program incurred $.5 million in additional costs. The acquisition of a
business also contributed an additional $.3 million in costs. Sales and
marketing expense, as a percentage of revenue, increased to approximately 42%
for the three months ended March 31, 2000 from 26% for the three months ended
March 31, 1999.

      GENERAL AND ADMINISTRATIVE. For the quarters ended March 31, 2000 and
1999, general and administrative expenses were approximately $4.9 million and
$1.8 million, respectively. The increase in general and administrative expenses
of approximately $3.1 million was primarily attributable to:

   -  $1.9 million in costs related to salaries and recruiting new personnel;

   -  $.3 million in additional audit, legal and other professional service
      costs;

   -  $.2 million in increased real estate occupancy costs;

   -  $.2 million in additional general and administrative costs associated with
      the acquisition of businesses; and

   -  other increases necessary to manage the financial, legal and
      administrative aspects of our business.


                                       14
<PAGE>   15
      For the quarter ended March 31, 2000, general and administrative expense
increased as a percent of revenue to 31% from 26% for the quarter ended March
31, 1999.

      RESEARCH AND DEVELOPMENT. Research and development costs are principally
focused in our e-Business solutions and web hosting service offerings. For the
three months ended March 31, 2000 and 1999, research and development expenses
have not significantly fluctuated.

      DEPRECIATION AND AMORTIZATION. For the three months ended March 31, 2000
and 1999, depreciation and amortization expense was approximately $4.1 million
and $.6 million, respectively. Goodwill amortization expense from the business
acquired on January 5, 2000 accounts for $2.3 million of the increase and is
expected to continue for the next five years. Depreciation expense accounts for
the remaining $1.2 million increase primarily attributable to the acquisition of
computer equipment used to support the continued expansion of our Internet
Connectivity, Web hosting and e-Business solutions. A portion of the
depreciation expense increase also resulted from additional office furniture and
equipment necessary to support our expanding customer base.

      INTEREST INCOME AND EXPENSE. Interest expense remained relatively
consistent at approximately $0.3 million for the three months ended March 31,
2000 and 1999. However an increase in interest income of $.4 million occurred
from the investment of proceeds from the IPO.

      NET LOSS. Net loss attributable to common stockholders for the quarter
ended March 31, 2000 was approximately $11.0 million, or $0.48 per share,
compared with approximately $1.7 million or $0.11 per share for the quarter
ended March 31, 1999.


LIQUIDITY AND CAPITAL RESOURCES

      On May 5, 1999, we completed our IPO of 5,175,000 shares of common stock
sold at an initial public offering price of $16.00 per share. Gross proceeds
from the offering were $82.8 million, $5.8 million of which was applied to the
underwriting discount and approximately $1.8 million was applied to expenses
related to our offering. As a result, net proceeds from the offering are
approximately $75.2 million.

      At March 31, 2000, we had $5.2 million in cash and cash equivalents, $17.1
million in marketable securities and an $8.1 million working capital surplus.
This represents a $25.3 million decrease in available cash and securities from
December 31, 1999. Of the decrease, $9.7 million was used to acquire businesses
and $5.7 million was used to purchase equipment. These expenditures were
necessary to continue the expansion of our operations and available solutions.
The remaining decrease includes $9 million used to fund operations and $1.2
million to repay debt. Although we have utilized a portion of the available
proceeds from our IPO we have several sources of additional funds at our
disposal. These include liquidation of marketable securities and drawing from
two available lines of credit. Our marketable securities are generally fixed
rate short-term investment grade corporate bonds and notes. At March 31, 2000,
all of our investments are due to mature within fourteen months but could be
sold prior to maturity to provide working capital or finance future
acquisitions.

      At March 31, 2000 we have two lines of credit available to provide working
capital.

-  The first is a secured revolving line of credit with Fleet National Bank for
   $7.5 million which expires on January 19, 2001. Borrowings under this line
   are secured by substantially all our assets and by a maximum of $5.5 million
   of assets pledged by NYSERNet.net. At March 31,


                                       15
<PAGE>   16
   2000, borrowings under this line amounted to $5.5 million. As of March 31,
   2000, as a result of restrictions under the line of credit, no additional
   credit was available under this agreement.

-  We also have an unsecured revolving borrowing facility with NYSERNet.net,
   which provides for borrowings up to a maximum amount of approximately $6.2
   million, less any preferred stock issued to NYSERNet.net. As of March 31,
   2000, $6.2 million was available under this borrowing facility.

      Our principal uses of cash are to fund operations, working capital
requirements and capital expenditures. We had an accumulated deficit of $40.8
million at March 31, 2000, and have used $9 million in cash in the aggregate to
fund operations since January 1, 2000 through March 31, 2000. Until the
successful completion of our initial public offering, we had satisfied our cash
requirements primarily through the sale of common and preferred stock and
borrowings under credit agreements and equipment financing arrangements.

      Net cash used in operating activities for the quarter ended March 31, 2000
and 1999 was approximately $9.0 million and $.1 million. The increase of $8.9
million is a result of increased net losses from operations in the quarter
offset by amortization of goodwill and depreciation expense. Net cash provided
by investing activities for the quarter ended March 31, 2000 was approximately
$.5 million and net cash used in investing activities for the quarter ended
March 31, 1999 was approximately $.9 million. The increase of approximately $1.2
million is associated with the sale of $15.8 million in marketable securities to
fund the cash portion of the first quarter acquisitions as well as $5.7 million
in fixed asset purchases to support our expanding revenue. For the quarter ended
March 31, 2000 cash of approximately $1 million was used in financing activities
and for the quarter ended March 31, 1999 cash of approximately $4,000 was
provided by financing activities. This increase of approximately $1 million
consists principally of the repayment of long-term debt assumed in connection
with the business acquired in the first quarter of 2000.

      We have made capital investments in our network operations center, data
center and other capital assets totaling $5.7 million and $.9 million in the
quarter ended March 31, 2000 and 1999, respectively. We acquired assets under
capital leases for $5.0 million in the quarter ended March 31, 2000.

      At March 31, 2000 we had $17.1 million in marketable securities, $5.2
million in cash and $6.2 million in availability under the aforementioned
financing agreements. We may need to raise additional funds through public or
private financing, strategic relationships or other arrangements. There can be
no assurance that additional financing, if needed, will be available on terms
acceptable to us, or at all. If additional financing is unavailable or delayed
we have developed contingency plans to reduce costs and expenses. Furthermore,
any additional equity financing may be dilutive to stockholders, and debt
financing, if available, may involve restrictive covenants and significant
interest expense. Strategic arrangements, if necessary to raise additional
funds, may require us to relinquish rights to some of our technologies.

COMMITMENTS

      Annual maturities of our debt obligations are as follows: $2.6 million in
2000, $8.8 million in 2001, $2.2 million in 2002 and $.2 million in 2003. Debt
maturing in 2001 includes $5.5 million borrowed under the Fleet National Bank
line of credit that expires January 19, 2001.We also had purchase commitments at
March 31, 2000 totaling approximately $2.1 million for various property, plant
and equipment associated with the expansion of our Syracuse data center.


                                       16
<PAGE>   17
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

      At March 31, 2000, we had various financial instruments consisting of
variable rate debt and short-term investments entered into for purposes other
than trading. The substantial majority of our outstanding debt obligations have
variable interest rates of LIBOR plus 50 basis points or prime rate less 200
basis points. Annual maturities of our debt obligations are as follows: $2.6
million in 2000, $8.8 million in 2001, $2.2 million in 2002 and $.2 million in
2003. At March 31, 2000, the carrying value of our debt obligations approximate
the fair value due to the short maturity and variable interest rates of a
majority of these instruments. The weighted average interest rate of our debt
obligations at March 31, 2000 was 9.0%.

      Our investments are generally fixed rate short-term investment grade
corporate bonds and notes. At March 31, 2000, all of our investments are due to
mature within fourteen months and are carried at fair value of $17.1 million.
These investments are subject to interest rate risk, market risk and in some
cases foreign currency risk. Market risk is estimated as the potential loss in
fair value resulting from a hypothetical 10% adverse change in the securities'
quoted market prices, and amounted to $1.7 million at March 31, 2000. We
actively monitor the capital and investing markets in analyzing our capital
raising and investing decisions.

PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

      There have been no material changes to the status of legal proceedings
previously reported in our annual report on Form 10-K filed with the SEC.


ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS

      On May 5, 1999, we completed our initial public offering, or IPO, of
5,175,000 shares of our common stock. The offering was made pursuant to a
registration statement on Form S-1 (File No. 333-72133) which registered up to
5,175,000 shares of our common stock and was declared effective on April 29,
1999. The offering commenced on April 30, 1999 and all 5,175,000 shares
registered in our offering were sold at an initial public offering price of
$16.00 per share. The managing underwriters were Bear, Stearns & Co. Inc., CIBC
World Markets Corp., Lehman Brothers Inc. and Wit Capital Corporation. Gross
proceeds from the offering were $82.8 million, $5.8 million of which was applied
to the underwriting discount. As of December 31, 1999, approximately $1.8
million was applied to expenses incurred for our offering. As a result, net
proceeds from the offering are approximately $75.2 million. Except as discussed
herein with respect to our repayment of a revolving line of credit and
redemption of our preferred stock to NYSERNet.net, none of the net proceeds of
our offering were paid by us, directly or indirectly, to any of our directors,
officers or any of their associates, or to any person or entity owning 10
percent or more of our equity securities or the equity securities of any of our
affiliates.

      On May 5, 1999, we paid approximately $3.8 million to repay outstanding
borrowings under our revolving line of credit with NYSERNet.net, including
accrued interest. We also paid approximately $2.0 million to redeem our
outstanding preferred stock, including accrued dividends, all of which was held
by NYSERNet.net. NYSERNet.net owns approximately 20.0% of our common stock and
has one representative on our board of directors.

      On June 22, 1999, the Company purchased 10% of the ownership interests of
Planning Technologies, Inc., or PTI, for $5.0 million, by purchasing
approximately 2,976,190 shares of


                                       17
<PAGE>   18
convertible preferred stock of PTI. For additional information about this
investment, please see our current report on Form 8-K (File No. 000-25749),
filed with the SEC on July 7, 1999.

      On January 5, 2000, the Company acquired CRL Network Services, Inc. for up
to approximately $9.9 million in cash and up to approximately 2,022,287
unregistered shares of our common stock. For additional information about this
acquisition, please see our current report on Form 8-K (File No. 000-25749),
filed with the SEC on January 20, 2000. On February 2, 2000, the Company
acquired Y.C. Inc., a Michigan corporation doing business as Customnet for up to
$.6 million in cash and 24,605 unregistered shares of our common stock.

      A portion of the IPO proceeds has been used to fund the Company's
operations and we intend to use the remaining $17.1 million of the net proceeds
from the offering for general corporate purposes and working capital
requirements, including the following:

-  to expand our sales and marketing efforts in approximately 20 metropolitan
   areas;

-  to continue to increase the size of our sales force;

-  to expand our customer support services;

-  for working capital requirements and other general corporate purposes; and

-  for possible acquisitions.

      No portion of the proceeds has been allocated for any specific purpose
referred to above. We have discretionary authority over the use of net proceeds
from the offering. In addition, we intend to use a portion of the net proceeds
from this offering to add additional data center capacity.

      Pending the above uses, we have invested the proceeds of the offering in
short-term, interest bearing investment grade securities.

      During the quarter ended March 31, 2000, proceeds of approximately $89,000
were generated from the exercise of options for 106,383 shares of our common
stock. There were no significant expenses, underwriting discounts or commissions
attributable to these proceeds. These options had been granted under our 1996
Incentive Stock Option Plan and were exercised by certain employees and
directors. The shares issued pursuant to our 1996 Option Plan were registered
through our registration statement on Form S-8 (File No.
333-83177), which we filed with the SEC on July 19, 1999.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

      Not applicable

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

      Not applicable


                                       18
<PAGE>   19
ITEM 5. OTHER INFORMATION

RISK FACTORS

      From time to time, in both written and in oral statements by our senior
management, we express expectations and other statements regarding future
performance. These forward-looking statements are inherently uncertain and you
must recognize that events could turn out to be different than such expectations
and statements. We discuss key factors impacting current and future performance
in our annual report on Form 10-K (Commission File No. 000-25759) filed with the
SEC and in our other filings and reports. In addition, you should consider the
following risk factors, as well as any other information in this Quarterly
Report in evaluating our business and us. Any investment in our common stock
involves a high degree of risk.

WE HAVE A LIMITED OPERATING HISTORY AND MAY NOT SUCCESSFULLY IMPLEMENT OUR
BUSINESS PLAN.

      We have a limited operating history, and our business model is still in
development. We were incorporated in 1995 and commenced operations in late 1996.
As an early stage Internet company we are subject to expenses and difficulties
associated with implementing our business plan that are not typically
encountered by more mature companies. The risks associated with implementing our
business plan relate to:

-  building out our operations infrastructure;

-  expanding our sales structure and marketing programs;

-  increasing awareness of our brand;

-  providing services to our customers that are reliable and cost-effective;

-  responding to technological development or service offerings by competitors;
   and

-  attracting and retaining qualified personnel.

      If we are not successful in implementing our business plan, our business
or future financial or operating results could suffer.

WE HAVE A HISTORY OF SIGNIFICANT LOSSES AND EXPECT THESE LOSSES TO INCREASE IN
THE FORESEEABLE FUTURE.

      We have incurred significant net losses and negative cash flows from
operations in each quarterly and annual period since inception and expect to
continue to do so for the foreseeable future. At March 31, 2000 and December 31,
1999, we had an accumulated deficit of approximately $40.8 million and $29.8
million, respectively. We incurred net losses of $11.0 million for the quarter
ended March 31, 2000 and $14.1 million, $7.1 million and $6.1 million in the
three years ended December 31, 1999, 1998 and 1997, respectively. In connection
with our expansion plans, we anticipate making significant investments in sales
and marketing, customer support and personnel. As a result of our expansion
plans, we expect our net losses and negative cash flows from operations on a
quarterly and annual basis to be significant in the foreseeable future. Our
ability to achieve profitability is dependent in large part upon the successful
implementation of our regional and nationwide expansion strategy. We cannot
assure you that we will achieve or sustain revenue growth or profitability on
either a quarterly or annual basis.


                                       19
<PAGE>   20
PRIOR TO 2000, MOST OF OUR REVENUES HAVE BEEN DERIVED FROM CUSTOMERS LOCATED IN
NEW YORK STATE AND WE MAY NOT SUCCESSFULLY OPERATE ON A NATIONWIDE BASIS.

      Prior to 2000, most of our revenues have been derived from customers
located in New York State. Our business strategy is to become a leading national
provider of advanced Internet technology solutions to mid-sized businesses,
mid-sized departments of larger businesses, and specifically targeted vertical
markets. The risks we may encounter in operating on a national basis include the
possibility that:

-  our solutions are not accepted beyond our current market;

-  there are significant delays in the completion of any new data centers or any
   existing data centers;

-  we fail to develop a nationally recognized brand.

OUR RAPID GROWTH STRATEGY IS LIKELY TO PLACE A SIGNIFICANT STRAIN ON OUR
RESOURCES.

      Our future success depends in large part on our ability to manage any
achieved growth in our business. For our nationwide growth strategy to succeed,
we will need:

-  to expand our business with new and current customers;

-  to develop and offer successful new products and services;

-  to retain key employees and hire new employees; and

-  to ensure that any future business we may develop or acquire will perform in
   a satisfactory manner.

      These activities are expected to place a significant strain on our
resources. Also, we cannot guarantee that any of these will occur or that we
will succeed in managing the results of any success in our nationwide growth
strategy.

OUR ANNUAL AND QUARTERLY OPERATING RESULTS ARE SUBJECT TO SIGNIFICANT
FLUCTUATIONS. AS A RESULT, PERIOD-TO-PERIOD COMPARISONS OF OUR RESULTS OF
OPERATIONS ARE NOT NECESSARILY MEANINGFUL AND SHOULD NOT BE RELIED UPON AS
INDICATIONS OF FUTURE PERFORMANCE.

      We have experienced significant fluctuations in our results of operations
on a quarterly and annual basis. We expect to continue to experience significant
fluctuations in our future quarterly and annual results of operations due to a
variety of factors, many of which are outside of our control, including:

-  demand for and market acceptance of our services;

-  customer retention;

-  the timing and success of our marketing efforts;

-  the timing and magnitude of capital expenditures, including costs relating to
   the expansion of operations;

-  the timely expansion of existing facilities and completion of new facilities;

-  the ability to increase bandwidth as necessary;

-  fluctuations in bandwidth used by customers;

-  introductions of new services or enhancements by us and our competitors;

-  increased competition in our markets;

-  economic conditions including those in the Internet access industry;

-  potential unfavorable legislative and regulatory developments;

-  growth of Internet use and establishment of Internet operations by mainstream
   enterprises; and

-  changes in our pricing policies and our competitors' pricing policies.


                                       20
<PAGE>   21
A RELATIVELY LARGE PORTION OF OUR EXPENSES ARE FIXED IN THE SHORT-TERM. AS A
RESULT, OUR RESULTS OF OPERATIONS WILL BE PARTICULARLY SENSITIVE TO FLUCTUATIONS
IN REVENUE.

      A relatively large portion of our expenses are fixed in the short-term,
particularly in respect of data and telecommunications costs, depreciation, real
estate occupancy costs, interest expense and personnel. Because we will be
required to incur these fixed expenses, irrespective of our revenue, our future
results of operations are particularly sensitive to fluctuations in revenue.

THE EXPECTED CONTINUED GROWTH IN THE MARKET FOR OUR PRODUCTS AND SERVICES MAY
NOT MATERIALIZE OR MAY MATERIALIZE IN A MANNER WE HAVE NOT ANTICIPATED.

      Our market is new and rapidly evolving. Whether, and the manner in which,
the market for our products and services will continue to grow is uncertain. The
market for our products and services may be inhibited for a number of reasons,
including:

-  the reluctance of businesses to outsource their Internet integration,
   enterprise portal development, Web hosting and Internet connectivity needs;

-  our failure to successfully market our products and services to new
   customers; and

-  the inability to maintain and strengthen our brand awareness.

OUR SUCCESS DEPENDS IN LARGE PART ON THE CONTINUED GROWTH OF THE INTERNET
MARKET.

      Our business will be hurt if Internet usage does not continue to grow.
Internet usage may be inhibited for a number of reasons, including:

-  access costs;

-  inadequate network infrastructure;

-  security concerns;

-  uncertainty of legal and regulatory issues concerning use of the Internet;

-  inconsistent quality of service; and

-  lack of availability of cost-effective, high-speed service.

      If Internet usage grows, the Internet infrastructure may not be able to
support the demands placed on it or the Internet's performance and reliability
may decline. Similarly, Web sites have experienced interruptions in their
service as a result of outages and other delays occurring throughout the
Internet network infrastructure. If these outages or delays occur frequently,
use of the Internet as a commercial or business medium could, in the future,
grow more slowly or decline. This could hurt our business.

WE OPERATE IN AN EXTREMELY COMPETITIVE MARKET AND MAY NOT BE ABLE TO COMPETE
EFFECTIVELY.

      The Internet-based services market is extremely competitive and many of
our competitors are more established and have greater financial resources than
us. In addition, there are no substantial barriers to entry in this market. We
also expect that competition will intensify in the future. Many of our
competitors have greater market presence, engineering and marketing capabilities
and financial, technological and personnel resources than we do. As a result, as
compared to us our competitors may:

-  develop and expand their network infrastructures and service offerings more
   efficiently or more quickly;

-  adapt more swiftly to new or emerging technologies and changes in customer
   requirements;

-  take advantage of acquisitions and other opportunities more effectively; and


                                       21
<PAGE>   22
-  more effectively leverage existing relationships with customers or exploit a
   more recognized brand name to market and sell their services.

      Our current and prospective competitors, both in New York State and
nationally, generally may be divided into the following three groups:

-  Internet access, VPNs and security providers including GTE Internetworking,
   Verio Inc., Qwest Communications International Inc., Sprint Corporation, AT&T
   Corp., UUNET Technologies, Inc., Concentric Network Corp., Cable & Wireless
   plc, MCI WorldCom, Inc. and other national and regional providers;

-  Web and application hosting companies including Digex, Inc., Frontier Global
   Center, GTE Internetworking, Globix Corporation, PSINet Inc., Exodus
   Communications, Inc. and other companies; and

-  e-Business solution companies including Razorfish Inc., IBM Global Services,
   Andersen Consulting, US Internetworking Inc., Scient Corp., Cambridge
   Technology Partners, Inc., Whittman-Hart Inc., Oracle Corporation, the Big 5
   accounting firms, EDS Corporation and other companies.

      We believe that we may also face competition from other large computer
hardware and software companies and other media, technology and
telecommunications companies.

      The number of businesses providing Internet-related services is rapidly
growing. We are aware of other companies, in addition to those named above, that
have entered into or are forming joint ventures or consortia to provide services
similar to those provided by us. Others may acquire the capabilities necessary
to compete with us through acquisitions.

WE COULD ENCOUNTER SIGNIFICANT PRICING PRESSURE AS A RESULT OF INCREASED
COMPETITION AND INDUSTRY CONSOLIDATION.

      As a result of increased competition and consolidation in the industry, we
could encounter significant pricing pressure, which in turn could result in
significant reductions in the average selling price of our services. We may not
be able to offset such price reductions even if we obtain an increase in the
number of our customers, derive higher revenue from enhanced services or manage
to reduce our costs. Increased price or other competition could erode our market
share and could significantly hurt our business. We cannot assure you that we
will have the financial resources, technical expertise or marketing and support
capabilities to continue to compete successfully in that environment.

OUR REVENUES ARE HEAVILY DEPENDENT ON TWO CUSTOMERS. IF WE LOSE EITHER OF THESE
CUSTOMERS, IF EITHER OF THEM REDUCES THE AMOUNT OF WORK IT DOES WITH US, OR IF
WE FAIL TO DIVERSIFY OUR CUSTOMER BASE, OUR BUSINESS WILL SUFFER.

      We currently derive a substantial portion of our total revenue from
contracts with two customers - NYSERNet.org, Inc., a not-for-profit corporation
that is also affiliated with one of our major stockholders, and the New York
State Department of Labor. The loss of either of these customers could
significantly hurt our business. For the three months ended March 31, 2000 and
1999, revenue from NYSERNet.org, Inc. represented approximately 17% and 30% of
our total revenue, respectively. Revenue under the agreement with the New York
State Department of Labor for the three months ended March 31, 2000 and 1999
represented 41% and 34% of our total revenue, respectively.

      We have an agreement with NYSERNet to provide NYSERNet and its customers
with services. Under this long term agreement we provide services to
approximately 140 different


                                       22
<PAGE>   23
customers affiliated with NYSERNet. Each of these customers makes individual
buying decisions resulting in separate agreements. As the initial agreements
with NYSERNet's customers expire some customers began contracting directly with
us. The initial master agreement has an original term of three years, ending
October 1, 2001, and is automatically renewable for successive one-year terms.
In March 2000 we extended and expanded these services through an agreement with
NYSERNet to upgrade and maintain a minimum of 10 full OC-3 network backbone
connections for NYSERNet and its customers. This agreement extends until October
2005 and it is estimated that we will receive approximately $40 million for our
services over the term of the agreement. While these agreements only allow
termination by either party under special circumstances, it is still possible
that NYSERNet could terminate the agreement or cease working with us.

      On June 14, 1999, we concluded a contract with NYSERNet to enhance,
operate and maintain NYSERNet2000, NYSERNet's next generation Internet backbone
network. We completed construction of the network in April 1999. Under the terms
of the contract, which extends until 2002, we will enhance and maintain the
first OC-12 research network backbone in New York State. We expect to receive
approximately $5.2 million for our services over the term of the contract.

      Our contract with the New York State Department of Labor is for the
development and maintenance of the America's Job Bank Web site. Although this
contract is initiated by the New York State Department of Labor, the contract
includes separate maintenance of America's Job Bank Web sites for 48 different
states and territories. Each of these states and territories make individual
buying decisions and may terminate their affiliation with America's Job Bank
annually. The America's Job Bank agreement is subject to cancellation upon 15
days notice by the New York State Department of Labor.

      We cannot assure you that revenue from these two customers, or from other
customers that have accounted for significant revenue in past periods,
individually or as a group, will continue, or if continued, will reach or exceed
historical levels in any future period. In addition, we may not succeed in
diversifying our customer base in future periods.

OUR BUSINESS MODEL ASSUMES THAT WE WILL USE THE GEMINI2000 NETWORK FOR THE
DELIVERY OF SOME OF OUR SERVICES. IF PROBLEMS OCCUR AS A RESULT OF THE CHANGE OF
OWNERSHIP OF BROADWING INTERNET SERVICES, INC. AND THE GEMINI2000 NETWORK, OUR
BUSINESS COULD SUFFER.

      Our business model assumes we will use the Gemini2000 network for delivery
of some of our services. As noted above, any failure by Broadwing to maintain
the Gemini2000 Network could hurt our business.

OUR BUSINESS AND EXPANSION MODELS ASSUME THAT WE WILL BE ABLE TO EASILY SCALE
THE NETWORK INFRASTRUCTURE WE USE TO ACCOMMODATE INCREASING NUMBERS OF CUSTOMERS
AND INCREASED TRAFFIC. HOWEVER, THE SCALABILITY OF THE GEMINI2000 NETWORK IS
UNPROVEN.

      The ability of the Gemini2000 Network to connect and manage a large number
of customers or a large quantity of traffic at high transmission speeds is
unproven. This network's ability to be scaled up to meet our expected customer
usage levels while maintaining superior performance is also unproven. As the
number of our customers grows or as network usage increases, we may need to make
additional investments to expand and adapt our network infrastructure and
maintain adequate data transmission speeds. Any future expansion and adaptation
of our telecommunications and hosting facility infrastructure could require
substantial financial, operational, technical and management resources.
Furthermore, additional network capacity may not be available from Broadwing or
other third-party suppliers as we need it. As a result, our network may not be
able to achieve or maintain a sufficiently high capacity for data transmission.
Any failure on our part to achieve or maintain high data transmission capacity
could significantly reduce customer demand for


                                       23
<PAGE>   24
our services and hurt our business. If we are required to expand our network
significantly and rapidly due to increased usage, additional stress will be
placed upon our network hardware, traffic management systems and hosting
facilities.

WE COULD EXPERIENCE SYSTEM FAILURES AND CAPACITY CONSTRAINTS, WHICH WOULD AFFECT
OUR ABILITY TO COMPETE.

      Interruptions in service to our customers could hurt our business. To
succeed, we must be able to operate our network management infrastructure 24
hours per day, seven days per week, without interruption. Our operations depend
upon our ability to protect our network infrastructure, our equipment and
customer data against damage from human error or "acts of God." Even if we take
precautions, the occurrence of a natural disaster or other unanticipated
problems could result in interruptions in the services we provide to our
customers.

      At this time, we do not have a formal disaster recovery plan. Although we
have attempted to build redundancy into our network and hosting facilities by
establishing a fully redundant, rigorously engineered national Tier 1 backbone
connected to three different data centers, our network is currently subject to
various single points of failure. For example, a problem with one of our routers
or switches could cause an interruption in the services we provide to some of
our customers. Any interruptions in service could:

-  cause end users to seek damages for losses incurred;

-  require us to spend more money and dedicate more resources to replacing
   existing equipment, expanding facilities or adding redundant facilities;

-  cause us to spend money on existing or new equipment and infrastructure
   earlier than we plan;

-  damage our reputation for reliable service;

-  cause existing end-users and resellers to cancel our contracts; or

-  make it more difficult for us to attract new end-users and partners.

      Any of these results could hurt our business.

      Failure of the national telecommunications network and Internet
infrastructure to continue to grow in an orderly manner could result in service
interruptions. While the national telecommunications network and Internet
infrastructure have historically developed in an orderly manner, there is no
guarantee that this will continue as the network expands and more services,
users and equipment connect to the network. Failure by our telecommunications
providers to provide us with the data communications capacity we require could
cause service interruptions, which could hurt our business.

WE ARE DEPENDENT ON NETWORKS BUILT AND OPERATED BY OTHERS. IF WE DO NOT HAVE
CONTINUED ACCESS TO A RELIABLE NETWORK, OUR BUSINESS WILL SUFFER.

      In delivering our services, we rely on networks, which are built and
operated by others. We do not have control over these networks, nor can we
guarantee that we will continue to have access on terms that fit our business
needs.

      Our use of the infrastructure of other communications carriers presents
risks. Our success partly depends upon the capacity, scalability, reliability
and security of the network infrastructure provided to us by telecommunications
network suppliers, including AT&T Corp., Sprint Corporation, Bell Atlantic
Corp., Pacific Bell and Broadwing. Our nationwide expansion plans require rapid
expansion of network capacity, which we expect will be satisfied through our
internal network and use of the Gemini2000 Network. Without this expanded
capacity, our ability to execute our business strategy could be hurt. In
addition, future expansion and adaptation of our network


                                       24
<PAGE>   25
infrastructure may require substantial financial, operational and management
resources. We may not be able to expand or adapt our network infrastructure on a
timely basis and at a commercially reasonable cost to meet additional demand,
changing customer requirements or evolving industry standards. In addition, if
demand for usage of our network were to increase faster than projected or were
to exceed our current forecasts, the network could experience capacity
constraints which would hurt its performance.

      The current consolidation of network providers similar to the proposed
merger of MCI WorldCom and Sprint could adversely affect our peering and transit
arrangements with Sprint and UUNet if peering criteria becomes more restrictive
or cost prohibitive. We also depend on our telecommunications suppliers to
provide uninterrupted and error-free service through their telecommunications
networks. If these suppliers greatly increased the prices for their services or
if the telecommunications capacity available to us was insufficient for our
business purposes, and we were unable to use alternative networks or pass along
any increased costs to our customers, our business could suffer.

OUR NETWORK AND SOFTWARE ARE VULNERABLE TO SECURITY BREACHES AND SIMILAR THREATS
WHICH COULD RESULT IN OUR BEING LIABLE FOR DAMAGES AND HARM OUR REPUTATION.

      Despite the implementation of network security measures, the core of our
network infrastructure is vulnerable to computer viruses, break-ins and similar
disruptive problems caused by Internet users. This could result in our being
liable for damages, and our reputation could suffer, thereby deterring potential
customers from working with us. Security problems caused by third parties could
lead to interruptions and delays or to the cessation of service to our
customers. Furthermore, inappropriate use of the network by third parties could
also jeopardize the security of confidential information stored in our computer
systems and in those of our customers.

      We rely upon encryption and authentication technology purchased from third
parties to provide the security and authentication necessary to effect secure
transmission of confidential information. Although we intend to continue to
implement industry-standard security measures, in the past some of these
standards have occasionally been circumvented by third parties. Therefore, we
cannot assure you that the measures we implement will not be circumvented. The
costs and resources required to eliminate computer viruses and alleviate other
security problems may result in interruptions, delays or cessation of service to
our customers, which could hurt our business.

OUR BRAND IS NOT AS WELL KNOWN AS SOME OF OUR COMPETITORS, AND FAILURE TO
DEVELOP BRAND RECOGNITION COULD HURT OUR BUSINESS.

      To successfully execute our strategy, we must strengthen our brand
awareness. While many of our competitors have well-established brands in
Internet services, to date, our market presence has been limited principally to
New York State. We have generated our existing revenue primarily through a small
sales force and word of mouth. In order to build our brand awareness, our
marketing efforts must succeed, and we must provide high quality services. We
expect to increase our marketing budget substantially as part of our brand
building efforts. We cannot assure you that these investments will succeed as
planned. If we do not build our brand awareness, our ability to realize our
strategic and financial objectives could be hurt.

IF WE DO NOT RESPOND EFFECTIVELY AND ON A TIMELY BASIS TO RAPID TECHNOLOGICAL
CHANGE, OUR BUSINESS COULD SUFFER.

      If we do not successfully use or develop new technologies, introduce new
services or enhance our existing services on a timely basis, or new technologies
or enhancements used or developed by us do not gain market acceptance, our
business could be hurt. The Internet industry is


                                       25
<PAGE>   26
characterized by rapidly changing technology, industry standards, customer needs
and competition, as well as by frequent new product and service introductions.
Our future success will depend, in part, on our ability to accomplish all of the
following in a timely and cost-effective manner, all while continuing to develop
our business model and rolling-out our services on a national level:

-  effectively use and integrate leading technologies;

-  continue to develop our technical expertise;

-  enhance our products and current networking services;

-  develop new products and services that meet changing customer needs;

-  have the market accept our services;

-  advertise and market our products and services; and

-  influence and respond to emerging industry standards and other changes.

      We cannot assure you that we will successfully use or develop new
technologies, introduce new services or enhance our existing services on a
timely basis, or that new technologies or enhancements used or developed by us
will achieve market acceptance. Our pursuit of necessary technological advances
may require substantial time and expense. In addition, we cannot assure you
that, if required, we will successfully adapt our network and services to
alternate access devices and conduits.

      If our services do not continue to be compatible and interoperable with
products and architectures offered by other industry members, our ability to
compete could be impaired. Our ability to compete successfully is dependent, in
part, upon the continued compatibility and interoperability of our services with
products and architectures offered by various other members of the industry.
Although we intend to support emerging standards in the market for Internet
access, we cannot assure you that we will be able to conform to new standards in
a timely fashion and maintain a competitive position in the market. Our services
rely on the continued widespread commercial use of Transmission Control
Protocol/Internetwork Protocol, commonly known as TCP/IP, which is an industry
standard to facilitate the transfer of data. Alternative open protocol and
proprietary protocol standards could emerge and become widely adopted. A
resulting reduction in the use of TCP/IP could render our services obsolete and
unmarketable. Our failure to anticipate the prevailing standard or the failure
of a common standard to emerge could hurt our business.

WE DERIVE SIGNIFICANT REVENUE FROM CONTRACTS WITH GOVERNMENT AGENCIES. THESE
CONTRACTS OFTEN ARE SUBJECT TO A COMPLEX PROCUREMENT PROCESS, REQUIRE COMPLIANCE
WITH VARIOUS GOVERNMENT REGULATIONS AND POLICIES AND MAY BE SUBJECT TO
UNILATERAL TERMINATION OR MODIFICATION BY THE GOVERNMENT. IN ADDITION, CHANGES
IN GOVERNMENT FUNDING AND OTHER POLICY DECISIONS COULD JEOPARDIZE OUR CONTRACTS
WITH GOVERNMENT AGENCIES.

      Contracts with various government agencies accounted for approximately 50%
of our revenues in quarter ended March 31, 2000. Government contracts are often
subject to a competitive bidding process, which is governed by applicable
federal and state statutes and regulations. The procurement process for
government contracts is complex and can be very time consuming.

      Because of our contracts with governmental agencies, we are required to
comply with various government regulations and policies. For instance, we are
required to maintain employment policies relating to equal opportunity, and we
are subject to audit by the government to confirm our compliance with these
policies. If we fail to comply with regulations which apply to government
contractors, we may face sanctions, including substantial fines and
disqualification from being awarded government contracts in the future.


                                       26
<PAGE>   27
      Contracts with governmental agencies are subject to the risk of unilateral
termination by the government for its convenience and reductions in services, or
modifications in contractual terms, due to changes in the government's
requirements or to budgetary restraints.

      In addition, the government may not continue to fund the projects and
programs with which we work. Even if funding continues, we may not obtain this
funding. We cannot assure you that we will be able to procure additional
government contracts, that we will be able to retain our existing government
contracts or, if retained, that these contracts will be fully funded.

WE MAY BE EXPOSED TO RISKS ASSOCIATED WITH ACQUISITIONS, INCLUDING INTEGRATION
RISKS AND RISKS ASSOCIATED WITH METHODS OF FINANCING AND THE IMPACT OF
ACCOUNTING TREATMENT. ALSO, COMPLETED ACQUISITIONS MAY NOT ENHANCE OUR BUSINESS.

      A component of our strategy is to acquire network assets, Internet-related
technologies, e-Business companies and other businesses complementary to our
operations. In the 12 months ending March 31, 2000 we have acquired or invested
in several companies. In the future, we intend to acquire additional Internet
companies that complement our existing business model and growth strategies. Any
future acquisitions would be accompanied by the risks commonly encountered in
acquisitions, including:

-  the difficulty of assimilating the operations and personnel of acquired
   companies;

-  the potential disruption of our business;

-  our management's inability to maximize our financial and strategic position
   through the incorporation of an acquired technology or business into our
   service offerings;

-  the difficulty of maintaining uniform standards, controls, procedures and
   policies;

-  the potential loss of key employees from acquired businesses, and the
   impairment of relationships with the employees and customers of an acquired
   business as a result of changes in management; and

-  the inaccuracy of financial data of acquired companies.

      We cannot assure you that any completed acquisition will enhance our
business. If we proceed with one or more acquisitions in which the consideration
consists of cash, a significant portion of our available cash, including
proceeds of our initial public offering, could be used to consummate the
acquisitions. If we were to consummate one or more acquisitions in which the
consideration consisted of stock, our stockholders could suffer significant
dilution of their interest in us. In addition, we could incur or assume
significant amounts of indebtedness in connection with acquisitions. The
purchase price of future acquisitions will most likely be significantly greater
than the fair value of the acquired net assets. Acquisitions required to be
accounted for under the purchase method could result in significant goodwill
and/or amortization charges for acquired technology.

WE ARE DEPENDENT ON OUR HARDWARE AND SOFTWARE SUPPLIERS TO PROVIDE US WITH THE
PRODUCTS AND SERVICES WE NEED TO SERVE OUR CUSTOMERS.

      We rely on outside vendors to supply us with computer hardware, software
and networking equipment. These products are available from only a few sources.
We purchase virtually all of these products from Sun Microsystems, Inc., Compaq
Computer Corporation and Cisco Systems, Inc. We cannot assure you that we will
be able to obtain the products and services that we need on a timely basis and
at affordable prices.

      We have in the past experienced delays in receiving shipments of equipment
purchased for resale. To date, these delays have not adversely affected us, but
we cannot guarantee that we will not be adversely affected by delays in the
future. We may not be able to obtain computer equipment


                                       27
<PAGE>   28
on the scale and at the times required by us at an affordable cost. Our
suppliers may enter into exclusive arrangements with our competitors or stop
selling us their products or services at commercially reasonable prices. If our
sole or limited source suppliers do not provide us with products or services,
our business, financial condition and results of operations may be significantly
hurt.

WE OPERATE IN AN UNCERTAIN REGULATORY AND LEGAL ENVIRONMENT. NEW LAWS AND
REGULATIONS COULD HARM OUR BUSINESS.

      We are not currently subject to direct regulation by the Federal
Communications Commission or any other governmental agency, other than
regulations applicable to businesses in general. However, in the future, we may
become subject to regulation by the FCC or another regulatory agency. Our
business could suffer depending on the extent to which our activities are
regulated or proposed to be regulated.

      While there are currently few laws or regulations which specifically
regulate Internet communications, laws and regulations directly applicable to
online commerce or Internet communications are becoming more prevalent. There is
much uncertainty regarding the market-place impact of these laws. In addition,
various jurisdictions already have enacted laws covering intellectual property,
privacy, libel and taxation that could affect our business by virtue of their
impact on online commerce. Further, the growth of the Internet, coupled with
publicity regarding Internet fraud, may lead to the enactment of more stringent
consumer protection laws. If we become subject to claims that we have violated
any laws, even if we successfully defend against these claims, our business
could suffer. Moreover, new laws that impose restrictions on our ability to
follow current business practices or increase our costs of doing business could
hurt our business.

WE MAY BE SUBJECT TO LEGAL LIABILITY FOR DISTRIBUTING OR PUBLISHING CONTENT OVER
THE INTERNET, WHICH COULD BE COSTLY FOR US TO DEFEND.

      It is possible that claims will be made against online service companies
and Internet access providers in connection with the nature and content of the
materials disseminated through their networks. Several private lawsuits are
pending which seek to impose liability upon online services companies and
Internet access providers as a result of the nature and content of materials
disseminated over the Internet. If any of these actions succeed, we might be
required to respond by investing substantial resources in connection with this
increased liability or by discontinuing some of our service or product
offerings. Also, any increased attention focused upon liability issues relating
to the Internet could also have a negative impact on the growth of Internet use.
Although we carry general liability insurance, it may not be adequate to
compensate us or it may not cover us in the event we become liable for
information carried on or disseminated through our networks. Any costs not
covered by insurance that we incur as a result of liability or asserted
liability for information carried on or disseminated through our networks could
hurt our business.

WE MAY NEED ADDITIONAL FUNDS WHICH, IF AVAILABLE, COULD RESULT IN DILUTION OF
YOUR SHAREHOLDINGS OR AN INCREASE IN OUR INTEREST EXPENSE. IF THESE FUNDS ARE
NOT AVAILABLE, OUR BUSINESS COULD BE HURT.

      We have and intend to use the remaining proceeds from the IPO to fund the
expansion of our sales and marketing efforts, expand our customer support
services and for working capital, making investments or acquisitions and general
corporate purposes. Our business plan includes aggressive expansion through
acquisitions funded mostly with stock but requiring some cash expenses and
consideration. While we believe that the proceeds from this offering will be
sufficient for these purposes, we may need to raise additional funds through
public or private debt or equity financing in order to:


                                       28
<PAGE>   29
-  take advantage of anticipated opportunities or acquisitions of complementary
   assets, technologies or businesses;

-  develop new products; or

-  respond to unanticipated competitive pressures.

      If additional funds become necessary, additional financing may not be
available on terms favorable to us or available at all. If adequate funds are
not available or are not available on acceptable terms when needed, our business
could be hurt.

      If additional funds are raised through the issuance of equity securities,
the percentage ownership of our then current stockholders may be reduced, and
the new equity securities may have rights, preferences or privileges senior to
those of the holders of our common stock. If additional funds are raised through
the issuance of debt securities, these securities would have some rights,
preferences and privileges senior to those of the holders of our common stock,
and the terms of this debt could impose restrictions on our operations and
result in significant interest expense to us.

SIGNIFICANT STOCKHOLDERS AND CURRENT MANAGEMENT CONTROL APPROXIMATELY 71% OF OUR
COMMON STOCK, AND THESE PARTIES MAY HAVE CONFLICTS OF INTEREST.

      Broadwing, NYSERNet.net, Inc. and Grumman Hill control approximately
24.1%, 20.1% and 12.0%, respectively, of our outstanding common stock at March
24, 2000. In addition, our executive officers and directors may be deemed to
beneficially own in the aggregate approximately 71% of our outstanding common
stock, including shares of our common stock owned by Broadwing, NYSERNet.net and
Grumman Hill that may be deemed to be owned by some of our officers and
directors as a result of their relationships with these entities. Accordingly,
Broadwing, NYSERNet.net, Grumman Hill and our officers and directors, whether
acting alone or together, are able to exert considerable influence over any
stockholder vote, including any vote on the election or removal of directors and
any merger, consolidation or sale of all or substantially all of our assets, and
control our management and affairs. Such control could discourage others from
initiating potential merger, takeover or other change in control transactions.
As a consequence, our business could be hurt. Broadwing, Grumman Hill and
NYSERNet.net each have one representative on our board of directors. In
addition, two of our directors and/or executive officers are also directors of
NYSERNet.net and NYSERNet.org, Inc., a not-for-profit corporation that is also
affiliated with NYSERNet.net. Two of our executive officers are executive
officers of NYSERNet.net and/or NYSERNet.org. Grumman Hill has a significant
equity interest in Broadwing. NYSERNet.net, NYSERNet.org, Broadwing, Grumman
Hill and our officers and directors may have conflicts of interest among
themselves, and their interests could conflict with the interests of our other
stockholders.

WE ARE DEPENDENT ON KEY PERSONNEL AND OPERATE IN AN INDUSTRY WHERE IT IS
DIFFICULT TO ATTRACT AND RETAIN QUALIFIED PERSONNEL.

      We expect that we will need to hire additional personnel in all areas of
our business. The competition for personnel throughout our industry is intense.
At times, we have experienced difficulty in attracting qualified new personnel.
If we do not succeed in attracting new, qualified personnel or retaining and
motivating our current personnel, our business could suffer. We are also
dependent on the continued services of our key personnel, including our senior
management. We have entered into employment agreements with Richard Mandelbaum,
Lawrence B. Helft, Denis J. Martin, and David A. Buckel. We have also secured
key man insurance policies on the lives of Messrs. Mandelbaum and Martin.


                                       29
<PAGE>   30
OUR STOCK PRICE MAY BE VOLATILE.

      Stock prices of technology companies, especially Internet-related
companies, have been highly volatile. The current trading price of our common
stock may not be indicative of prices that will prevail in the trading market.
Various factors could cause the market price of our common stock to fluctuate
substantially. These factors may include:

-  variations in our revenue, earnings and cash flow;

-  announcements of new service offerings, technological innovations or price
   reductions by us, our competitors or providers of alternative services;

-  changes in analysts' recommendations or projections; and

-  changes in general economic and market conditions.

      In addition, the U.S. equity markets in general have periodically had
significant price corrections, trading volume fluctuations and prolonged periods
of decline. These events would particularly impact the stock prices for
Internet-related, technology and telecommunications companies. Specifically,
recent events have adversely affected the market price of our common stock in a
significant manner. In the past, following periods of volatility in the market
price of a company's securities, securities class action litigation has often
been instituted against the company in question. If we become subject to
securities litigation, we could incur substantial costs and experience a
diversion of management's attention and resources.

      Also, a substantial number of shares of common stock issuable upon
exercise of outstanding stock options are available for resale in the public
market as a result of our registering a registration statement on Form S-8 with
the SEC on July 19, 1999 (File No. 333-83177) in order to register the shares
issued and issuable upon the exercise of options granted under our 1996
Incentive Stock Option Plan, or granted and to be granted under our 1999 Stock
Option Plan and our 1999 Employee Stock Purchase Plan.

OUR STOCK PRICE MAY BE AFFECTED BY THE AVAILABILITY OF SHARES FOR FUTURE SALE.
THE FUTURE SALE OF A LARGE AMOUNT OF OUR STOCK, OR THE PERCEPTION THAT THESE
SALES COULD OCCUR, COULD NEGATIVELY AFFECT OUR STOCK PRICE.

      The market price of our common stock could drop as a result of future
sales of a large number of shares of for common stock in the market after our
initial public offering.

      As a result of our re-offer prospectus filed on Form S-8 with the SEC on
July 19, 1999, approximately 19.2% of the shares of our outstanding common stock
no longer qualify as "restricted securities" under Rule 144 of the Securities
Act and, under the Securities Act, these shares may be freely re-offered and
re-sold. However, stockholders who sell shares of our common stock under this
re-offer prospectus must comply with the volume of sale limitations imposed
under Rule 144(e) of the Securities Act.

      As of March 24, 2000, 56.7% of the shares of our common stock continue to
be restricted securities. The holders of these restricted securities have
registration rights with respect to these restricted shares and with respect to
any after-acquired shares. Also, under Rule 144 these shares become freely
tradable in the future.

      Therefore, through the re-offer prospectus, as a result of registration
rights and under Rule 144, a large number of shares of our common stock may
become freely tradable and affect the market for our stock.


                                       30
<PAGE>   31
ITEM 6.           EXHIBITS AND REPORTS ON FORM 8K

(a.)     EXHIBITS.

      The following Exhibits are filed or incorporated by reference herewith:

      Exhibit 10.43      Amendment No. 9 to Agreement between AppliedTheory
                         Corporation and the New York State Department of
                         Labor, dated December 6, 1999.

      Exhibit 10.44      Lease Agreement between BNY Leasing Edge Corporation
                         and AppliedTheory Corporation dated September 8,
                         1999.

      Exhibit 10.45      Lease Agreement between National Leasing, Inc. and
                         AppliedTheory Corporation dated January 18, 2000.

      Exhibit 10.46      Lease Agreement between Compaq Financial Services and
                         AppliedTheory Corporation dated November 1, 1999.

      Exhibit 10.47      Amendment No. 1 to Resale Agreement between
                         AppliedTheory Corporation and NYSERNet.org, Inc.
                         dated April 18, 2000

      Exhibit 10.48      Amendment No. 1 to Resource Sharing Agreement
                         between AppliedTheory Corporation and NYSERNet.org,
                         Inc. dated April 7, 2000

      Exhibit 11.1       Calculation of Basic and diluted loss per share and
                         weighted average shares used in calculation for the
                         three months ended March 31, 2000.

      Exhibit 27.1       Financial Data Schedule, which is submitted
                         electronically to the Securities and Exchange
                         Commission for information only.

(b.)     REPORTS ON FORM 8K.

            On January 20, 2000 and March 20, 2000, we filed a current report on
      Form 8-K and a current report on Form 8-K/A that included information
      relating to an agreement and plan of merger dated December 3, 1999 to
      purchase CRL Network Services, Inc. The current report on Form 8-K/A
      included CRL's financial statements and pro forma financial information.
      AppliedTheory agreed to acquire all of the capital stock of CRL for up to
      $10 million in cash and up to 2,031,250 shares in AppliedTheory common
      stock. The acquisition was consummated on January 5, 2000.


                                       31
<PAGE>   32
                            APPLIEDTHEORY CORPORATION
                                    FORM 10-Q
                                 MARCH 31, 2000




                                   SIGNATURES

      Pursuant to the requirements of the Securities and Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereto duly authorized.

                            AppliedTheory Corporation

Date:   May 12, 2000         by:   /s/  Richard Mandelbaum
                                 ------------------------------------
                                 Richard Mandelbaum
                                 Chairman of the Board,
                                 Chief Executive Officer, and Director
                                 (Principal Executive Officer)

Date:   May 12, 2000         and:  /s/  David Buckel
                                 ------------------------------------
                                 David Buckel
                                 Sr. Vice President and Chief Financial Officer
                                 (Principal Financial and Accounting Officer)



                                       32
<PAGE>   33
                                  EXHIBIT INDEX

      The following Exhibits are filed or incorporated by reference herewith:

Exhibit 10.43     Amendment No. 9 to Agreement between AppliedTheory Corporation
                  and the New York State Department of Labor, dated December 6,
                  1999.

Exhibit 10.44     Lease Agreement between BNY Leasing Edge Corporation and
                  AppliedTheory Corporation dated September 8, 1999.

Exhibit 10.45     Lease Agreement between National Leasing, Inc. and
                  AppliedTheory Corporation dated January 18, 2000.

Exhibit 10.46     Lease Agreement between Compaq Financial Services and
                  AppliedTheory Corporation dated November 1, 1999.

Exhibit 10.47     Amendment No. 1 to Resale Agreement between AppliedTheory
                  Corporation and NYSERNet.org, Inc. dated April 18, 2000

Exhibit 10.48     Amendment No. 1 to Resource Sharing Agreement between
                  AppliedTheory Corporation and NYSERNet.org, Inc. dated
                  April 7, 2000.

Exhibit 11.1.     Calculation of Basic and diluted loss per share and weighted
                  average shares used in calculation for the three months ended
                  March 31, 2000.

Exhibit 27.1.     Financial Data Schedule, which is submitted electronically to
                  the Securities and Exchange Commission for information only.

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