<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 SEPTEMBER 30, 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)

<TABLE>
<S>                                             <C>
                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)
</TABLE>

                                (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 October 31, 2000, there were 25,181,016 shares of AppliedTheory
Corporation common stock, par value $.01, outstanding.


                    The Index of Exhibits appears on page 39
<PAGE>   2
                            APPLIEDTHEORY CORPORATION


                                TABLE OF CONTENTS



PART I. FINANCIAL INFORMATION

<TABLE>
<S>           <C>                                                                                     <C>
Item 1.       Financial Statements (Unaudited):

              Consolidated Balance Sheets as of December 31, 1999 and September 30, 2000...............3

              Consolidated Statements of Operations for the three and nine months ended
              September 30, 1999 and September 30, 2000................................................4

              Consolidated Statements of Cash Flows for the nine months ended
              September 30, 1999 and September 30, 2000................................................5

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

Item 2.       Management's Discussion and Analysis of Financial Condition
              and Results of Operations...............................................................14

Item 3.       Quantitative and Qualitative Disclosures about Market Risk..............................23
</TABLE>

PART II. OTHER INFORMATION
<TABLE>
<S>           <C>                                                                                     <C>
Item 1.       Legal Proceedings.......................................................................24

Item 2.       Changes in Securities and Use of Proceeds...............................................24

Item 3.       Defaults Upon Senior Securities.........................................................25

Item 4.       Submission of Matters to a Vote of Security Holders.....................................25

Item 5.       Other Information.......................................................................25

Item 6.       Exhibits and Reports on Form 8K.........................................................37

Signatures    ........................................................................................38

Exhibit Index ........................................................................................39
</TABLE>
<PAGE>   3
PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS


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

<TABLE>
<CAPTION>
                                                                                        December, 31            September 30,
                                                                                            1999                    2000
                                                                                            ----                    ----
                                                                                   (Derived from Audited        (Unaudited)
                                                                                    Financial Statements)
<S>                                                                                <C>                          <C>
                                    ASSETS
Current assets
    Cash and cash equivalents                                                             $  14,834              $    7,633
    Marketable securities                                                                    32,727                  11,796
    Accounts receivable, net of allowance of $231 and $1,060, respectively                    6,714                  17,530
    Due from related parties                                                                     59                     548
    Prepaid expenses and other assets                                                         2,133                   1,899
                                                                                          ---------              ----------
           Total current assets                                                              56,467                  39,406
Property and equipment, net                                                                  13,881                  31,428
Investment, at cost                                                                           5,000                   5,250
Goodwill                                                                                                             60,298
Other assets                                                                                  1,587                  4,165
                                                                                          ---------              ----------
           Total assets                                                                   $  76,935              $  140,547
                                                                                          =========              ==========
                     LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
    Accounts payable                                                                      $   5,025              $    6,975
    Line of credit                                                                                                    6,417
    Accrued payroll                                                                           2,012                   3,760
    Accrued expenses                                                                          4,794                   4,417
    Deferred revenue                                                                          2,476                   3,713
    Current portion of long-term debt and capital lease obligations                           1,215                   4,301
                                                                                          ---------              ----------
           Total current liabilities                                                         15,522                  29,583
Long-term debt and capital lease obligations                                                  6,783                   6,038
Convertible debenture                                                                                                26,533
Other liabilities                                                                               421                     738
Temporary equity                                                                                                     10,000

Stockholders' equity
    Common stock, $.01 par value; 90,000,000 shares authorized; issued and
       outstanding 21,413,362 shares at December 31, 1999
       and 24,835,194 shares at September 30, 2000                                              214                     248
    Additional paid-in capital                                                               84,052                 135,342
    Accumulated deficit                                                                     (29,806)                (67,927)
    Accumulated other comprehensive loss                                                       (251)                     (8)
                                                                                          ---------              ----------
           Total stockholders' equity                                                        54,209                  67,655
                                                                                          ---------              ----------
           Total liabilities and stockholders' equity                                     $  76,935              $  140,547
                                                                                          =========              ==========
</TABLE>

        The accompanying notes are an integral part of these statements.

                                      3
<PAGE>   4
                   APPLIEDTHEORY CORPORATION AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                      (IN THOUSANDS, EXCEPT PER SHARE DATA)
                                   (UNAUDITED)

<TABLE>
<CAPTION>
                                                            Three months ended                Nine months ended
                                                              September 30,                     September 30,
                                                              -------------                     -------------
                                                           1999             2000            1999            2000
                                                           ----             ----            ----            ----
<S>                                                     <C>              <C>             <C>             <C>
Net revenues
     Third-party customers                              $    7,447       $   17,282      $   18,250      $    45,606
     NYSERNet.org, Inc. customers and services               2,730            3,684           7,487            9,171
                                                        ----------       ----------      ----------      -----------

     Total net revenues                                     10,177           20,966          25,737           54,777
                                                        ----------       ----------      ----------      -----------
Costs and expenses
     Cost of revenues                                        6,818           14,561          16,710           38,350
     Sales and marketing                                     3,688            7,198           8,096           21,368
     General and administrative                              2,958            5,709           6,827           15,481
     Research and development                                   66              915             196            1,263
     Depreciation                                              879            2,868           2,286            7,333
     Amortization                                                             3,416                            8,212
     Other expenses (income)                                                     20               3             (186)
                                                        ----------       ----------      ----------      -----------

     Total costs and expenses                               14,409           34,687          34,118           91,821
                                                        ----------       ----------      ----------      -----------

     Loss from operations                                   (4,232)         (13,721)         (8,381)         (37,044)

Interest income                                               (756)            (436)         (1,279)          (1,113)
Interest expense                                               129              940             455            2,190
                                                        ----------       ----------      ----------      -----------

     NET LOSS                                               (3,605)         (14,225)         (7,557)         (38,121)

Preferred stock dividends                                                                        73
                                                        ----------       ----------      ----------      -----------

Net loss attributable to common stockholders            $   (3,605)      $  (14,225)     $   (7,630)     $   (38,121)
                                                        ==========       ==========      ==========      ===========

Basic and diluted loss per common share                 $    (0.17)      $    (0.57)     $    (0.40)     $     (1.59)
                                                        ==========       ==========      ==========      ===========

Shares used in computing basic and diluted loss
per share                                               21,180,152       24,822,053      18,858,416       23,924,826
                                                        ==========       ==========      ==========      ===========
</TABLE>

        The accompanying notes are an integral part of these statements.

                                       4
<PAGE>   5
                   APPLIEDTHEORY CORPORATION AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASHFLOWS
                                 (IN THOUSANDS)
                                   (UNAUDITED)

<TABLE>
<CAPTION>
                                                                                         Nine months ended
                                                                                            September 30,
                                                                                            -------------
                                                                                         1999           2000
                                                                                         ----           ----
<S>                                                                                    <C>            <C>
Cash flows from operating activities
         Net loss                                                                      $  (7,557)     $ (38,121)
         Adjustments to reconcile net loss to net cash used in operating
         activities:
              Depreciation                                                                 2,286          7,333
              Amortization of goodwill                                                                    8,212
              Amortization of debt discount                                                                 625
              Provision for bad debts                                                         68            506
              Payment of interest expense to NYSERNet.net, Inc.                             (270)
              (Gain) loss on sale of property and equipment                                    3              5
              Realized loss on marketable securities                                                         11
              Non-cash compensation expense                                                  940            927
              Changes in assets and liabilities, net of effects of business
                    acquisitions
                Accounts receivable                                                       (2,592)        (8,829)
                Due from related parties                                                  (2,012)        (1,019)
                Prepaid expenses and other assets                                         (1,070)          (487)
                Accounts payable                                                           2,154            476
                Accrued payroll                                                            1,004          1,339
                Accrued expenses and other liabilities                                       (51)        (3,781)
                Deferred revenue                                                             711            908
                                                                                       ---------      ---------
              Net cash used in operating activities                                       (6,386)       (31,895)
                                                                                       ---------      ---------
Cash flows from investing activities
         Purchases of property and equipment                                              (4,174)       (14,946)
         Purchase of marketable securities                                               (77,258)       (23,930)
         Investment in certain businesses, net of cash acquired                           (5,000)       (10,640)
         Proceeds from sale of marketable securities                                       25,440        45,093
         Proceeds from sale of property and equipment                                          5             16
         Payments received on notes receivable                                               122              4
                                                                                       ---------      ---------
              Net cash used in investing activities                                      (60,865)        (4,403)
                                                                                       ---------      ---------
Cash flows from financing activities
         Issuance of common stock, net of issuance costs                                  75,371          1,559
         Issuance of convertible debenture                                                               30,000
         Convertible debenture issue costs                                                               (1,010)
         Payment of preferred stock dividends                                               (493)
         Redemption of preferred stock                                                    (1,500)
         Repayment of borrowings from NYSERNet.net, Inc., net                             (2,687)
         Payments of line of credit borrowings, net                                       (1,190)           (51)
         Proceeds received from long term debt                                                            2,997
         Principal payments on long-term debt and capital leases                            (746)        (4,398)
                                                                                       ----------     ---------
              Net cash provided by financing activities                                   68,755         29,097
                                                                                       ---------      ---------
              Net increase (decrease) in cash and cash equivalents                         1,504         (7,201)
Cash and cash equivalents, beginning of period                                             1,786         14,834
                                                                                       ---------      ---------
Cash and cash equivalents, end of period                                               $   3,290      $   7,633
                                                                                       =========      =========
Supplemental disclosures of noncash investing transactions:
         Issuance of common stock for investment in certain businesses                                $  54,746
         Fixed asset acquisitions financed through capital lease obligations                              7,561
</TABLE>

        The accompanying notes are an integral part of these statements.

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

NOTE A - NATURE OF OPERATIONS AND BASIS OF PRESENTATION

     AppliedTheory Corporation (formerly AppliedTheory Communications, Inc.)
     (the "Company") 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 the
     Company), 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, the Company reorganized as a Delaware
     corporation. On January 28, 1999, AppliedTheory Communications, Inc.
     established its wholly owned subsidiary, AppliedTheory Corporation.
     AppliedTheory Communications, Inc. merged into AppliedTheory Corporation,
     which is the surviving entity.

     The consolidated financial statements include the accounts of the Company
     and its wholly owned subsidiaries (See Note B). All significant
     intercompany transactions have been eliminated in consolidation. These
     financial statements for the three and nine months ended September 30, 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 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 the Company 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 September 30, 2000 and 1999 are not
     necessarily indicative of the results that may be expected for any
     succeeding quarters or for the full year. The consolidated 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

     CRL NETWORK SERVICES, INC.
     On January 5, 2000, the Company acquired all of the capital stock of CRL
     Network Services, 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. CRL provides high speed Internet access and data networking
     solutions across the United States and owns and operates a Tier 1 network
     backbone. CRL is now a wholly owned subsidiary of the Company named
     AppliedTheory California Corporation whose results are consolidated
     beginning on the date of acquisition.

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

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

     Under escrow provisions of the Merger Agreement, the Company has placed in
     escrow 285,507 of its common stock, valued at $19.16 per share, issuable to
     CRL's former owners to cover various contingencies. Such amounts will be
     recorded as additional cost of the acquired company when the number of
     shares to be issued, if any, becomes determinable beyond a reasonable
     doubt. At September 30, 2000, no shares have been issued since the outcome
     of the contingencies were not determinable.

     In connection with the acquisition of CRL the Company entered into a put
     option agreement requiring the Company, at the option of the holders, to
     repurchase a total of up to 625,000 shares of AppliedTheory common stock in
     two equal installments, not to exceed $10,000,000, on the first and second
     anniversary of the acquisition. In the event that the average closing price
     for AppliedTheory common stock as reported on the Nasdaq National Market
     for any period of at least 30 consecutive days beginning 180 days after the
     closing of the merger shall exceed $20.00 and $24.00, the first and second
     put option, respectively, will terminate. The Company has reclassified from
     permanent equity to temporary equity an amount equal to the $10,000,000
     redemption price relating to the put option. Had this been classified as
     temporary equity in the previous quarters in 2000, total stockholders'
     equity would have been approximately $67,749,000 at March 31, 2000 and
     approximately $75,107,000 at June 30, 2000.

     THE CORDADA GROUP, INC.
     On May 23, 2000, the Company acquired all of the capital stock of The
     Cordada Group, Inc. ("Cordada") for approximately 758,219 shares of common
     stock, par value $.01 per share of the Company. Cordada provides e-Business
     solutions to businesses ranging from start-ups to Global 500 companies.
     Cordada is now a wholly owned subsidiary of the Company named AppliedTheory
     Seattle Corporation whose results are consolidated beginning on the date of
     acquisition.

     Under escrow provisions of the Merger Agreement, the Company has placed in
     escrow 160,000 shares of its common stock valued at $20.44 per share
     issuable to Cordada's former owners to cover various contingencies. Such
     amounts will be recorded as additional cost of the acquired company when
     the issuance of shares, if any, becomes determinable beyond a reasonable
     doubt. At September 30, 2000, no shares have been issued since the outcome
     of the contingencies were not determinable.

     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 amortized over 5
     years. Acquisition costs were financed using a portion of the net proceeds
     of the Company's IPO.

     TEAM TECH INTERNATIONAL, INC.
     On July 1, 2000, the Company acquired all of the capital stock of Team Tech
     International, Inc. ("Team Tech") for approximately 444,489 shares of
     common stock, par value $.01 per share of the Company. The Merger Agreement
     also includes a performance incentive payment clause whereby up to an
     additional 538,140 shares of AppliedTheory common stock will be issued by
     December 31, 2000 if specific revenue, EBITDA (earnings before interest,
     taxes, depreciation and amortization) and balance sheet targets are
     satisfied for the quarter ended September 30, 2000. At September 30, 2000,
     no shares have been issued since the performance incentive calculation has
     not been finalized. Team Tech provides Web

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

     consulting and e-Business solutions to commercial clients and government
     agencies worldwide. Team Tech is now a wholly owned subsidiary of the
     Company named AppliedTheory Austin Corporation whose results will be
     consolidated beginning on the date of acquisition.

     The financial statements reflect the preliminary allocation of the purchase
     prices of the above acquisitions 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 nine months
     ending September 30, 1999 and 2000 as if all of the Company's acquisitions
     during 2000 occurred on January 1, 1999.

<TABLE>
<CAPTION>
                                                              Nine months ended
                                                                September 30,
                                                                -------------
                                                            1999              2000
                                                            ----              ----
                                                          (in thousands except per
                                                                 share data)
<S>                                                       <C>             <C>
          Net revenues                                     $ 43,235       $  60,446
          Net loss                                          (18,830)        (45,090)
          Basic and diluted net loss per share                (0.79)          (1.64)
</TABLE>



NOTE C - COMPREHENSIVE LOSS

     Comprehensive loss for the three and nine months ended September 30, 1999
     and 2000, was as follows:


<TABLE>
<CAPTION>
                                                        Three months ended            Nine months ended
                                                           September 30,                 September 30,
                                                           -------------                 -------------
                                                       1999           2000            1999           2000
                                                       ----           ----            ----           ----
                                                          (in thousands)                 (in thousands)
<S>                                                   <C>           <C>              <C>           <C>
          Net loss attributable to common
           stockholders                               $(3,605)      $(14,225)        $(7,630)      $(38,121)
          Other comprehensive loss:
            Unrealized gain (loss) on
               marketable securities, net of
               income tax                                  21             46            (172)           243
                                                      -------       --------         -------       --------
          Comprehensive loss                          $(3,584)      $(14,179)        $(7,802)      $(37,878)
                                                      =======       ========         =======       ========
</TABLE>

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

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 average number of shares of common
     stock outstanding, adjusted for the dilutive effect of potential common
     shares issued or issuable pursuant to stock options, stock warrants, stock
     appreciation rights and conversion of convertible debentures. Potential
     common shares issued are calculated using the treasury method. Potential
     common shares of 3,013,000 and 6,646,000 at September 30, 1999 and 2000,
     respectively, 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              Nine months ended
                                                       September 30,                   September 30,
                                                       -------------                   -------------
                                                    1999           2000           1999            2000
                                                    ----           ----           ----            ----
                                                      (in thousands)                 (in thousands)
<S>                                               <C>            <C>             <C>             <C>
          Net revenues
            Internet connectivity                 $  5,081       $  8,075        $ 14,189        $ 23,405
            e-Business solutions                     4,250          9,474           9,284          24,180
            Web hosting                                846          3,417           2,264           7,192
                                                   -------       --------       ---------        --------
          Total net revenues                       $10,177        $20,966        $ 25,737        $ 54,777
                                                   =======        =======        ========        ========
</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, 1999,
     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

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

     abandoned facility and the related revenues, which are not significant, to
     be transitioned to another facility. The closure date has been delayed
     pending completion of additional data centers. As of September 30, 2000,
     the Company continues to operate this facility due to delays in its closure
     requiring a reduction in the liability of $170,000 which was recorded as
     other income. This reversal was partially offset by costs and expenses
     incurred on the facility for the nine month period ended September 30,
     2000.


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
     (7.50% at September 30, 2000). 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 October 2000 the bank verbally
     extended the line of credit agreement for a one-year term at a similar
     interest rate.

     In accordance with the terms of the credit agreement, the bank issued a
     standby letter of credit in the Company's name for $650,000, expiring
     January 19, 2001, 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.

     As a result of the acquisition of The Cordada Group, Inc., the Company
     acquired a credit agreement with a bank for $1,000,000, which expired on
     July 15, 2000 and thereafter was extended until maturity on November 15,
     2000. Interest is charged and payable on a monthly basis at the bank's
     prime rate plus 25 basis points (9.75% at September 30, 2000). The credit
     facility is collateralized by Cordada's accounts receivable and general
     intangibles.

     As a result of the acquisition of Team Tech International, Inc., the
     Company acquired a credit agreement with a bank for $750,000, which
     originally expired on July 18, 2000 but was extended until November 30,
     2000. Interest is charged and payable on a monthly basis at the bank's
     prime rate (9.50% at September 30, 2000). The credit facility is
     collateralized by Team Tech's accounts receivable and general intangibles.

     At September 30, 2000 the Company had $6,417,000 outstanding under these
     lines of credit and, as a result of certain restrictions, had $766,000 in
     additional availability as of September 30, 2000. The average interest rate
     on outstanding borrowings was 7.80% at September 30, 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

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

     capital requirements. This borrowing facility expires on January 1, 2002.
     Interest on the loans accrues at the prime rate (9.5% at September 30,
     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
     September 30, 2000.

     Lease Obligations

     The following is a summary of future minimum lease payments under capital
     leases as of September 30, 2000.


<TABLE>
<CAPTION>
                                                            (in thousands)
         Year ending December 31,
<S>                                                         <C>
         2000                                                       $  905
         2001                                                        3,466
         2002                                                        2,990
         2003                                                          890
                                                                    ------

         Total minimum lease payments                                8,251

         Less amounts representing interest                          1,187
                                                                    ------

         Present value of minimum lease obligation                  $7,064
                                                                    ======
</TABLE>


NOTE H - CONVERTIBLE DEBENTURE

     On June 5, 2000 the Company entered into a financing agreement (the
     "Financing Agreement") with seven institutional investors and issued $30
     million in 5% convertible debt financing (the "Debentures"). Under related
     agreements with these investors (the "Investors"), the Company can also
     receive up to an additional $33 million over the next five years from the
     exercise of warrants and options for the purchase and sale of the Company's
     common stock. The maximum investment by the Investors in the Company under
     the agreements is an aggregate of $63 million. See our current report on
     Form 8-K filed with the SEC on June 20, 2000 for additional information.

     The Debentures earn interest at 5% per annum payable semi-annually in June
     and December and mature on June 5, 2003. At the Company's option, interest
     can be accrued or paid. Principal and interest accrued on the Debentures
     are convertible into common stock at the option of the holder. These
     Debentures are presently convertible into 1,797,483 shares of common stock
     at a conversion price of $16.69 per share at any time until maturity. On
     June 5, 2001 and at six month intervals thereafter, ending June 5, 2003,
     the conversion price will reset downward if the average trading price
     during a period defined in the Debentures is less than AppliedTheory's
     stock price during the period when the initial conversion price was set.
     The Company may require the Investors to convert the convertible debentures
     into common stock if the volume weighted average price of the common stock
     exceeds $33.38 on each of 60 consecutive trading days.

                                       11
<PAGE>   12
                   APPLIEDTHEORY CORPORATION AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                   (UNAUDITED)


     The Investors also received detachable warrants to purchase up to
     $13,000,000 of the Company's common stock. The warrants are presently
     exercisable to purchase up to 749,279 shares of AppliedTheory for $17.35
     per share. The warrants expire on June 5, 2005. The beneficial conversion
     features of the Debentures resulted in a total non-cash interest charge of
     $192,000 over the two month period prior to August 2, 2000 when the
     Debentures became convertible. Operating results for the quarter ended
     September 30, 2000 include the impact of reducing the prior estimated
     non-cash charge of interest expense from $430,000 to $192,000.

     The Financing Agreement also provides that the Investors have the option
     until June 5, 2001 to purchase up to $10,000,000 of the Company's common
     stock, or 599,191 shares, at a purchase price of $16.69 per share and that
     the Company has the option until June 5, 2001, under certain conditions, to
     require the Investors to purchase an additional $10,000,000 of the
     Company's common stock, or 599,191 shares, at $16.69 per share. Based on an
     independent valuation of the Debentures and related warrants and options
     the Company recorded a $4.0 million debt discount and corresponding
     increase in additional paid in capital representing the allocation of
     proceeds to the detachable warrants and Investor's call option. The
     carrying value of the Debentures is being accreted to the face value of $30
     million using the interest method over the life of the Debentures. The
     accretion was $274,000 and $433,000 in the quarter and nine months ended
     September 30, 2000, respectively, after the effect of a third quarter
     adjustment of $51,000 to the original estimate recorded in the quarter
     ending June 30, 2000.


NOTE I - REDEEMABLE PREFERRED STOCK

     Holders of shares of the Company's 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 J - 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 $314,000 and $309,000 of compensation expense associated
     with these options and stock appreciation rights for the three months ended
     September 30, 1999 and 2000 and a total of $940,000 and $927,000 for the
     nine months ended September 30, 1999 and 2000, respectively.


NOTE K - 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

                                       12
<PAGE>   13
                   APPLIEDTHEORY CORPORATION AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                   (UNAUDITED)

     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:


<TABLE>
<CAPTION>
                                                  Three Months Ended                  Nine Months Ended
                                                     September 30,                       September 30,
                                                     -------------                       -------------
                                                 1999            2000                1999            2000
                                                 ----            ----                ----            ----
                                                     (in thousands)                     (in thousands)
<S>                                             <C>             <C>                 <C>             <C>
          Unrelated customers                   $  754          $  800              $2,196          $2,280
          Member institutions                    1,265           1,456               3,620           4,009
          Services to ORG                          711           1,428               1,671           2,882
                                                 -----          ------              ------          ------
                                                $2,730          $3,684              $7,487          $9,171
                                                ======          ======              ======          ======
</TABLE>

     During each of the three and nine months ended September 30, 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 $783,000 and $896,000 for the three
     months ended September 30, 1999 and 2000, and $2,256,000 and $2,458,000 for
     the nine months ended September 30, 1999 and 2000, respectively.


NOTE L  - INVESTMENT IN PLANNING TECHNOLOGIES, INC.

     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. The Company continues to account for the investments under
     the cost method.

                                       13
<PAGE>   14
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.

INDUSTRY PIONEER APPLIEDTHEORY IS ONE OF THE INTERNET INDUSTRY'S TRUE SUCCESS
STORIES.

Our mission: To help companies gain competitive advantages by providing the
expertise to build, integrate and manage world-class Internet solutions.

         Since its inception, the Internet has evolved from a data transport
mechanism to a business tool comprised of a set of strategies, technologies,
methodologies and best practices. AppliedTheory Corporation - evolved from one
of the founding institutions of the Internet - combines its unparalleled
knowledge base with the ability to build, integrate and manage Internet business
solutions for hundreds of large corporations wanting to remain competitive in an
increasingly complex online economy.

         We help businesses use the Internet to increase profit, decrease costs
and meet business objectives. As one of the industry's most reliable single
sources for large enterprise Internet needs, AppliedTheory possesses the rare
capability to provide customers with a comprehensive and fully-integrated suite
of services for mission-critical Internet applications including; managed
hosting, network, security and software applications development.

WE FOCUS ON INTEGRATED INTERNET BUSINESS SOLUTIONS.

         AppliedTheory's suite of Internet solutions is based on the strong
foundation of our e-Business solutions. We use a phased approach designed to
develop and implement a comprehensive Internet strategy for our customers. Our
core expertise is derived from our experience in developing business-to-business
and business-to-consumer Web-centric solutions.

         We believe that no business-critical Internet solution is viable
without a completely integrated hosting solution; therefore, we offer parallel
lines of hosting services to our customers. Our Web hosting solutions include
Web site and network operation and, when appropriate, application support. Our
application infrastructure provider (AIP) hosting solutions are designed for
application service providers (ASPs) who want to use our network infrastructure.

                                       14
<PAGE>   15
         Each line of hosting services offers managed application hosting as a
fully outsourced, upgradeable solution - saving time and greatly reducing
capital expenditures, risk of obsolescence and internal management
responsibilities. Our hosting services give customers a dedicated server while
they maintain their own software management.

         In addition, we provide security consulting services, VPNs and managed
firewalls for network security. We also provide direct connectivity to the
global Internet via a fully redundant, rigorously engineered, high-speed network
backbone.

         We continuously look for opportunities to help our customers implement
high impact, critical business applications. In August 2000, we launched Delta
Edge(TM), a proprietary technology designed to accelerate the delivery of
dynamic Web content by as much as 700 percent.

OUR EXPERTISE IS EVIDENT IN OUR HANDS-ON EXPERIENCE.

         AppliedTheory deploys Internet solutions to more than 1,500 customers.
Our exceptionally high customer satisfaction is reflected in our unprecedented
low churn rate of less than 1/2% per month and reflects the dedication of our
more than 600 employees nationwide.

         We have developed business-to-business extranets, portals and
e-business strategies; built corporate intranets; migrated legacy systems to the
Internet; designed Web site user interfaces; and constructed e-commerce sites
from the ground up for major businesses, mid-sized companies and start-up
companies nationwide.

         AppliedTheory provides Internet solutions to some of America's leading
companies, including AOL, Eddie Bauer, Carrier and Time Warner. We provide Web
hosting, Internet access, and customized Internet-enabled solutions to America's
Job Bank, the world's largest online employment database.

         We built a custom solution for Hedgeworld Ltd. - which serves the hedge
fund industry by linking fund managers to site members and integrating future
product offerings - by leveraging their legacy systems and databases with online
capabilities.

         By integrating numerous technologies, AppliedTheory created a Web-based
solution for the Boston Marathon that enabled event coordinators to gather,
process and present data online - a feat that eliminated concerns raised by
connectivity limitations experienced in previous years.

OUR EXPERTISE SPANS MANY INDUSTRIES.

         AppliedTheory's concentration on providing mission-critical
applications to key industries makes us an expert in numerous vertical markets,
including:

-    EDUCATION - We provide Internet solutions to many of the nation's 3,700
     colleges and universities.

-    HEALTHCARE - We develop healthcare applications for medical professionals,
     supplying technology to address and meet the demand for online healthcare
     delivery systems.

-    AUTOMOTIVE - We assist automotive manufacturers, suppliers and dealerships
     in creating Web sites and other Web-based capabilities.

-    GOVERNMENT - We have worked to develop teams with the experience and
     expertise to efficiently fulfill the special requirements that government
     institutions face.

                                       15
<PAGE>   16
WE PARTNER WITH THE BEST.

     To ensure our customers have access to today's leading technology, we have
developed various business relationships with major Internet technology
companies, including:

-    Cisco - Their high-end routers serve as the core of our network backbone.

-    Sun Microsystems - Their development, Web and file servers are the
     foundation for our UNIX hosting.

-    Microsoft - We are a Microsoft Certified Solutions provider.

-    Veritect - They supply network security integration expertise and firewall
     support.

-    Covad Communications - They provide high-speed DSL services.

-    Concentric Network - They supply access to more than 150 points-of-presence
     that bolster our dial-in service offerings.

-    IDS Scheer - They assist us in business process reengineering.

-    Planning Technologies Inc. - They provide our customers with business
     consulting services.

-    EDS - They supply high-end and large scale technology project management
     support.

-    Sprint - Our access services use Sprint's network, data-engineering,
     national IP infrastructure and support resources.

WE'RE CONTINUING TO EXPAND AND EXECUTE OUR BUSINESS PLAN.

         In 1999, we tripled our sales force and added more than eight new sales
offices in key east coast cities from Massachusetts to Florida. Already in 2000,
we have expanded in the west coast in Los Angeles, San Francisco and Seattle,
the Midwest in Detroit and the southwest United States in Austin, Texas, while
continuing our expansion in the east. 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.

         As part of our expansion strategy, we purchased several businesses
through July 31, 2000. On Jan. 5, 2000 we acquired CRL Network Services Inc.
("CRL"), a company that 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 increased our sales
presence on the west coast. It also expanded our peering arrangements to full
Tier 1 status, allowed us to acquire California CLEC status and an
interconnection agreement with SBC.

         On May 23, 2000 we acquired The Cordada Group Inc. ("Cordada"), and on
July 1, 2000 we acquired Team Tech International Inc. ("Team Tech"). Cordada and
Team Tech now provide the full suite of AppliedTheory's solutions including
managed web hosting, e-Business consulting and Internet connectivity to
customers primarily located in Seattle, Washington and Austin, Texas,
respectively. During the fourth quarter we are expanding our presence in the
e-Business and web hosting markets in Atlanta, Georgia and Denver, Colorado.
These e-Business acquisitions and expansions enable us to increase our presence
in four additional high-tech corridors in the United States and further leverage
our professional service expertise.

         The acquisitions of CRL, Cordada and Team Tech have resulted in
additional revenue and costs in 2000 that affect the comparability to the same
periods in 1999.

                                       16
<PAGE>   17
CONSOLIDATED RESULTS OF OPERATIONS

THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2000 COMPARED TO THREE AND NINE MONTHS
ENDED SEPTEMBER 30, 1999

          REVENUES

          The following table and discussion highlights the revenues of the
          Company.


<TABLE>
<CAPTION>
                                                Three months ended              Nine months ended
                                                   September 30,                  September 30,
                                                   -------------                  -------------
                                             1999      2000    Increase      1999      2000     Increase
                                             ----      ----    --------      ----      ----     --------
                                                   (in millions)                  (in millions)
<S>                                          <C>       <C>     <C>          <C>       <C>       <C>
          Net revenues
            Internet connectivity            $ 5.1     $ 8.1    $ 3.0       $ 14.2    $ 23.4      $ 9.2
            e-Business solutions               4.3       9.5      5.2          9.3      24.2       14.9
            Web hosting                        0.8       3.4      2.6          2.3       7.2        4.9
                                             -----     -----    -----       ------    ------      -----
          Total net revenues                 $10.2     $21.0    $10.8       $ 25.8    $ 54.8      $29.0
                                             =====     =====    =====       ======    ======      =====
          Percent of total revenue
            Internet connectivity               50%       39%                   55%       43%
            e-Business solutions                42        45                    36        44
            Web hosting                          8        16                     9        13
                                             -----     -----                ------    ------
          Total net revenues                   100%      100%                  100%      100%
                                             =====     =====                ======    ======
</TABLE>

         Total net revenues increased 106%, or approximately $10.8 million, from
$10.2 million in the three months ended September 30, 1999 to $21.0 million in
the three months ended September 30, 2000. Total net revenues increased 113%, or
approximately $29.1 million, from $25.7 million in the nine months ended
September 30, 1999 to $54.8 million in the nine months ended September 30, 2000.

         As the table above illustrates, revenue from e-Business solutions and
web hosting have become a more significant component of our total revenue. While
our historical base of connectivity revenue shows strong growth of 65%, our web
hosting service revenue growth of 218% and e-Business solutions revenue growth
of 160% illustrate the dramatic expansion of these services during 2000.

         INTERNET CONNECTIVITY REVENUE provided approximately $3.0 million and
$9.3 million of the total revenue growth during the three and nine months ended
September 30, 2000, respectively, as compared to the same periods in 1999. These
services include:

         -        providing high-speed broadband internet connections to
                  businesses and institutions at speeds ranging from OC-3 to
                  fractional T-1;

         -        nationwide dial access through over 150 points-of-presence;

         -        digital subscriber line (DSL) services; and

         -        infrastructure and connectivity engineering special projects.

         The continued migration of customers to higher speed connections,
expansion of connectivity customers, and increases in special project revenue
(including $0.5 million for a backbone upgrade and $0.5 million for the
implementation of six circuits for a major customer) account for $1.8 million
and $4.8 million of the increase during the three and nine months ending

                                       17
<PAGE>   18
September 30, 2000, respectively. Customers related to our acquisition of a
nationwide Tier 1 backbone in January 2000 provided $1.2 million and $4.4
million of the connectivity revenue increase during the three and nine months
ending September 30, 2000, respectively.

         E-BUSINESS SOLUTIONS REVENUE drove the increase in total net revenues
by providing $5.2 million and $14.9 million in additional revenue during the
three and nine months ended September 30, 2000, respectively, versus the same
periods in 1999. These services include:

         -        linking existing databases and legacy systems with the Web;

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

         -        developing business-to-business and business-to-consumer Web
                  sites.

         A portion of the increase in e-Business solutions revenue was derived
from additional services to the New York State Department of Labor in connection
with America's Job Bank of $0.2 million and $6.9 million during the three and
nine months ended September 30, 2000, respectively. Additionally, during the
first nine months of 2000 our revenue from other e-Business solutions customers
increased by $2.9 million to $4.0 million reflecting the continued
diversification and expansion of our customer base. During the quarter ended
September 30, 2000 revenue from other customers reached 55% of total e-Business
revenue up from 6% during the same period in 1999. Our acquisitions of Cordada
and TeamTech during 2000 contributed $3.2 and $4.2 million in incremental
e-Business solution revenue during the three and nine months ended September 30,
2000, respectively.

         WEB HOSTING REVENUE increased by approximately $2.6 million and $4.9
million during the three and nine months ended September 30, 2000, respectively.
These services include:

         -        fully managed application hosting including equipment,
                  monitoring and maintenance services;

         -        co-located and shared web hosting services in our state of the
                  art data centers; and

         -        event solutions consisting of managed hosting, integration
                  services, and a software suite of web-based event tools known
                  as CyberCentral.

         The continued expansion of our Web hosting customer base and product
line accounted for $1.1 million and $3.3 million of the increase in the three
and nine months ended September 30, 2000, respectively. In addition, $0.9
million of the increase in the quarter ended September 30, 2000 was the result
of revenue from our event solutions service called CyberCentral which consists
of managed hosting and integration services, as well as a suite of web-based
event tools. An increase in the managed web hosting services provided to
America's Job Bank provided an additional $0.3 million and $0.7 million in
hosting revenue during in the three and nine months ended September 30, 2000,
respectively.

         COSTS AND EXPENSES

         The following table and discussion highlights the costs and expenses of
the Company.

<TABLE>
<CAPTION>
                                                    Three months ended               Nine months ended
                                                      September 30,                     September 30,
                                                      -------------                     -------------
                                               1999       2000    Increase        1999      2000     Increase
                                               ----       ----    --------        ----      ----     --------
                                                    (in millions)                       (in millions)
<S>                                           <C>        <C>      <C>            <C>       <C>       <C>
          Cost of revenues                    $ 6.8      $14.6      $ 7.8        $16.7     $38.4      $21.7
          Sales and marketing                   3.7        7.2        3.5          8.1      21.4       13.3
          General and  administrative           3.0        5.7        2.7          6.8      15.5        8.7
          Research and development              0.1        0.9        0.8          0.2       1.3        1.1
          Depreciation                          0.9        2.9        2.0          2.3       7.3        5.0
          Amortization                          0.0        3.4        3.4          0.0       8.2        8.2
          Other                                (0.1)       0.0        0.1          0.0      (0.3)      (0.3)
                                              -----      -----      -----        -----     -----      -----
           Total costs and expenses           $14.4      $34.7      $20.3        $34.1     $91.8      $57.7
                                              =====      =====      =====        =====     =====      =====
</TABLE>

                                       18
<PAGE>   19
         COST OF REVENUE. Cost of revenue increased approximately $7.8 million
from $6.8 million in the three months ended September 30, 1999 to $14.6 million
in the three months ended September 30, 2000. Total cost of revenues increased
approximately $21.7 million from $16.7 million in the nine months ended
September 30, 1999 to $38.4 million in the nine months ended September 30, 2000.
The increase in cost of revenues was primarily attributable to the factors
below.

-        Increased telecommunication charges to provide Internet connectivity
         for our three data centers, to upgrade our Tier 1 network backbone, and
         to provide connectivity to our expanding customer base. These costs
         account for $2.8 million and $8.8 million of the increase in the three
         and nine months ended September 30, 2000, respectively.

-        Increased labor costs to support our revenue growth of over 100% versus
         the prior year added $3.5 million and $8.8 million in costs during the
         three and nine months ended September 30, 2000, respectively. These
         costs are a result of the expansion of web hosting services, additional
         professional services contracts, and labor to upgrade the network and
         data centers.

-        The remaining increases are a result of other costs to support our
         revenue and customer growth.

         As a percentage of revenue, cost of revenue increased to 69% in the
three months ended September 30, 2000 from 67% in the three months ended
September 30, 1999. During the nine months ended September 30, 2000 cost of
revenue increased to 70% of revenue from 65% of revenue in the nine months ended
September 30, 1999.

         SALES AND MARKETING. For the three months ended September 30, 2000 and
1999, sales and marketing expense was approximately $7.2 million and $3.7
million, respectively. For the nine months ended September 30, 2000 and 1999,
sales and marketing expense was approximately $21.4 million and $8.1 million,
respectively. The increases reflect a substantial investment in the sales and
marketing personnel necessary to support our expanded customer base and on-going
costs to establish a national sales and marketing program. The largest
components of the increase for the three and nine months ended September 30,
2000, were:

-        $2.5 million and $8.2 million in additional salary, commission and
         related benefit costs;

-        $0.4 million and $1.5 million in increased occupancy costs and other
         costs to support the nationwide sales presence;

-        $0.4 million and $2.1 million in marketing program and product
         management efforts increased costs; and

-        $0.8 million and $1.4 million in additional sales costs from acquired
         businesses.

         Sales and marketing expense, as a percentage of revenue, decreased to
approximately 34% for the three months ended September 30, 2000 from 36% for the
three months ended September 30, 1999. During the nine months ended September
30, 2000 sales and marketing increased to 39% of revenue from 31% of revenue in
the nine months ended September 30, 1999.

                                       19
<PAGE>   20
         GENERAL AND ADMINISTRATIVE. For the three months ended September 30,
2000 and 1999, general and administrative expenses were approximately $5.7
million and $3.0 million, respectively. For the nine months ended September 30,
2000 and 1999, general and administrative expenses were approximately $15.5
million and $6.8 million, respectively. The increase in general and
administrative expenses of $2.7 million and $8.7 million during the three and
nine months ended September 30, 2000, respectively, was primarily attributable
to:

         -        $1.2 million and $4.5 million in costs related to salaries and
                  recruiting new personnel;

         -        $0.3 million and $1.0 million in increased real estate
                  occupancy costs from our nationwide expansion;

         -        $0.3 million and $0.8 million in additional audit, legal and
                  other professional service costs;

         -        $0.4 million and $0.4 million in additional bad debt expense;
                  and

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

         For the quarter ended September 30, 2000, general and administrative
expense decreased as a percent of revenue to 27% from 29% for the quarter ended
September 30, 1999. For the nine months ended September 30, 2000, general and
administrative expense increased as a percent of revenue to 28% from 27% for the
quarter ended September 30, 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 September 30, 2000 and 1999, research and
development costs were approximately $0.9 million and $0.1 million,
respectively. For the nine months ended September 30, 2000 and 1999, research
and development costs were approximately $1.3 million and $0.2 million,
respectively. The increase in research and development costs of approximately
$0.8 million and $1.1 million in the three and nine month period was primarily
attributable to salaries and related costs to develop and design the very latest
in e-business and web hosting products. Such as Delta Edge, the first content
distribution technology to accelerate Internet delivery of dynamic data with
real-time changes.

         DEPRECIATION. For the three months ended September 30, 2000 and 1999,
depreciation expense was approximately $2.9 million and $0.9 million,
respectively. For the nine months ended September 30, 2000 and 1999,
depreciation expense was approximately $7.3 million and $2.3 million,
respectively. The increase of $5.0 million in the nine months ended September
30, 2000 is primarily attributable to the acquisition of computer equipment in
our upgraded data centers and 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. Acquired
businesses also contributed an additional $0.3 million and $0.9 million in
depreciation expense during the three and nine months ended September 30, 2000,
respectively.

         AMORTIZATION. For the three and nine months ended September 30, 2000,
amortization expense was approximately $3.4 million and $8.2 million,
respectively. Amortization expense relates to goodwill from businesses acquired
during 2000 and is being amortized over five years.

         INTEREST EXPENSE. Interest expense has increased $0.8 million from $0.1
million to $0.9 million for the three months ended September 30, 1999 and 2000,
respectively. Interest expense has increased from $0.5 million to $2.2 million
for the nine months ended September 30, 1999 and 2000, respectively. The
increases are a result of $0.6 million and $0.9 million in debt discount
amortization and interest expense charges on the 5% convertible debentures in
the three and nine months ended September 30, 2000, respectively. A $0.2 million
non-cash charge for the beneficial conversion features of the $30 million 5%
convertible debt issued on June 5, 2000 also increased

                                       20
<PAGE>   21
interest expense in the nine months ended September 30, 2000. The new equipment
leases and loans during 2000 account for the remainder of the increases.

         INTEREST INCOME. Interest income has decreased from $0.7 million to
$0.4 million for the three months ended September 30, 2000 and 1999,
respectively. Interest income decreased from $1.3 million to $1.1 million for
the nine months ended September 30, 2000 and 1999, respectively. These changes
are a result of usage of available proceeds from the IPO and issuance of the
debentures.

         NET LOSS. Net loss attributable to common stockholders for the quarter
ended September 30, 2000 was approximately $14.2 million, or $0.57 per share,
compared with approximately $3.6 million or $0.17 per share for the quarter
ended September 30, 1999. Net loss attributable to common stockholders for the
nine months ended September 30, 2000 was approximately $38.1 million, or $1.59
per share, compared with approximately $7.6 million or $0.40 per share for the
nine months ended September 30, 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.

         On June 5, 2000, we issued $30 million in 5% convertible debentures due
June 5, 2003 to seven institutional investors. These debentures are currently
convertible into approximately 1,797,500 shares of common stock at any time
until maturity. After payment of $1.0 million in fees and expenses net proceeds
of $29.0 million were received. See additional discussion in Note H to the
financial statements.

         At September 30, 2000, we had $7.6 million in cash and cash
equivalents, $11.8 million in marketable securities and a $9.8 million working
capital surplus. This represents a $28.1 million net decrease in available cash
and cash equivalents and marketable securities from December 31, 1999, and a
$15.5 million decrease from June 30, 2000. Although we have utilized the
available proceeds from our IPO and a portion of the proceeds from the issuance
of 5% convertible debentures we have several sources of additional funds at our
disposal. These include liquidation of marketable securities, drawing from four
available lines of credit and, if certain events occur, exercise of a $10
million put option for additional financing. Our marketable securities are
generally fixed rate short-term investment grade corporate bonds and notes. At
September 30, 2000, all of our investments are due to mature within eight months
but could be sold prior to maturity to provide working capital or finance future
acquisitions.

         Our principal uses of cash are to fund operations, working capital
requirements and capital expenditures. We had an accumulated deficit of $67.9
million at September 30, 2000, and have used $31.9 million in cash in the
aggregate to fund operations since January 1, 2000 through September 30, 2000.

-        Net cash used in operating activities for the nine months ended
         September 30, 2000 and 1999 was approximately $31.9 million and $6.4
         million. The increase of $25.5 million is principally a result of $30.6
         million in increased net losses from operations in the period and $9.5
         million in

                                       21
<PAGE>   22
         unfavorable working capital changes offset by increased amortization of
         goodwill of $8.2 million and $5.0 million in additional depreciation
         expense.

-        Net cash used in investing activities for the nine months ended
         September 30, 2000 and 1999 was approximately $4.4 million and $60.9
         million. The significant improvement of approximately $56.5 million is
         a result of a $53.3 million decrease in purchases of marketable
         securities and $19.7 million in additional proceeds from the sale of
         marketable securities. These improvements were offset by a $10.8
         million increase in property and equipment purchases and an increase in
         business investments of $5.6 million.

-        For the nine months ended September 30, 2000 and 1999 cash of
         approximately $29.1 million and $68.8 million, respectively, was
         provided by financing activities. The decrease of approximately $39.7
         million results primarily from the generation of $75.4 million in IPO
         proceeds during 1999 and the generation of $29.0 million in net
         proceeds from the issuance of convertible debentures and long term debt
         financing in 2000. These inflows are offset by repayments of debt
         consists principally of the repayment of long-term debt assumed in
         connection with the business acquired in the first quarter of 2000 and
         routine principal payments on existing loans.

         We have made capital investments in our network operations center, data
center and other capital assets totaling $14.9 million and $4.2 million in the
nine months ended September 30, 2000 and 1999, respectively. We acquired assets
under capital leases for $7.6 million in the nine months ended September 30,
2000.

         At September 30, 2000 we have four lines of credit available to provide
working capital of $7.0 million.

-        The first is a secured revolving line of credit with Fleet National
         Bank for $7.5 million which expires on January 19, 2001. During October
         2000, the bank verbally agreed to extend this line of credit for one
         year pending finalization of the new agreement. 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 September 30, 2000,
         borrowings under this line amounted to $5.5 million. As of September
         30, 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 September 30, 2000, $6.2 million was available
         under this borrowing facility.

-        As a result of our acquisition of The Cordada Group, Inc., we have a
         secured revolving line of credit with Pacific Northwest Bank for $1
         million. The line of credit originally expired on July 15, 2000 but was
         extended until maturity on November 15, 2000. The credit facility is
         collateralized by Cordada's accounts receivable and general
         intangibles. At September 30, 2000, borrowings under this line amounted
         to $0.3 million. As of September 30, 2000, as a result of restrictions
         under the line of credit, $0.6 million in additional credit was
         available under this agreement.

-        As a result of our acquisition of Team Tech International, Inc., we a
         secured revolving line of credit with Norwest Bank Texas for $0.8
         million. The line of credit originally expired on July 18, 2000 but was
         extended until maturity on November 30, 2000. The credit facility is
         collateralized by Team Tech's accounts receivable and general
         intangibles. At September 30, 2000, borrowings under this line amounted
         to $0.6 million.

                                       22
<PAGE>   23
         We also have a capital lease line with Compaq Financial Services which
provides for equipment borrowings up to $2.2 million. This line expires in
December 2000 and, as of September 30, 2000, no outstanding balance exists on
this line. In addition, two other financial institutions have provided a total
of $1.0 million in capital lease availability.

         At September 30, 2000 we had $7.6 million in cash, $11.8 million in
marketable securities, $7.0 million in availability under the aforementioned
financing agreements, $3.2 million in availability under the aforementioned
lease lines and, if certain events occur, a $10 million put option for
additional financing. Although we have various assets and sources of funding
available, 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: $1.9 million
in 2000, $4.1 million in 2001, $9.4 million in 2002 and $31.1 million in 2003.
Debt maturing in 2000 includes $0.3 million borrowed under the Pacific Northwest
Bank line of credit that expires on November 15, 2000 and $0.6 million borrowed
under the Norwest Bank Texas line of credit that expires November 30, 2000. Debt
maturing in 2002 includes $5.5 million borrowed under the Fleet National Bank
line of credit that expires January 19, 2002. Debt maturing in 2003 includes
$30.0 million in convertible debentures maturing on June 5, 2003.


ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

         At September 30, 2000, we had various financial instruments consisting
of variable rate debt and short-term investments entered into for purposes other
than trading. The majority of our outstanding lines of credit have variable
interest rates of LIBOR plus 50 basis points or prime rate less 200 basis
points. At September 30, 2000, the carrying value of our debt obligations
approximate the fair value due to debt discount recorded on the convertible
debenture and the short maturity and/or variable interest rates of the other
debt. The weighted average interest rate of our debt obligations at September
30, 2000 was approximately 6.8%.

         Our investments are generally fixed rate short-term investment grade
corporate bonds and notes. At September 30, 2000, all of our investments are due
to mature within eight months and are carried at fair value of $11.8 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 $1.2 million at September 30, 2000. We
actively monitor the capital and investing markets in analyzing our capital
raising and investing decisions.

                                       23
<PAGE>   24
PART II. OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

         The Company has been notified by the U.S. Attorney for the Western
District of New York that a relator has filed a qui tam action under seal
against the Corporation and NYSERnet. The complaint alleges that the National
Science Foundation was fraudulently induced to provide a grant of $2.45 million
to NYSERnet, a portion of which was paid by NYSERnet to the Company for services
rendered. The complaint seeks treble damages related to the alleged overpayment
for services provided by the Corporation to NYSERnet, as well as certain other
penalties and forfeitures under the False Claims Act. Although the Department of
Justice has not yet determined whether or not it will join in this action, the
Company believes that these allegations are without merit and intends to contest
them.

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 of 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. In total 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. As of September 30, 2000, NYSERNet.net owns approximately
19.0% 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., ("PTI"), for $5.0 million, by purchasing
approximately 2,976,190 shares of 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 used a portion of the IPO proceeds to
acquire 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 used a portion of the IPO proceeds to
acquire Y.C. Inc., a Michigan corporation doing business as Customnet for up to
$0.6 million in cash and 24,605 unregistered shares of our common stock.

         During 1999 and 2000 the Company used portions of the IPO proceeds for
various operating purposes more fully discussed in Liquidity and Capital
Resources. At September 30, 2000 the Company has used the remaining proceeds
from our IPO and is currently using proceeds from the issuance of $30,000,000 in
5% convertible debentures for working capital purposes.

         On July 1, 2000, the Company acquired all of the capital stock of Team
Tech International, Inc. ("Team Tech"), a Texas Corporation, for up to
approximately 444,489 unregistered shares of common stock, par value $.01 per
share of the Company. For additional information, see our current report on Form
8-K (File No. 000-25749) filed with the SEC on July 14, 2000.

                                       24
<PAGE>   25
         During the three months ended September 30, 2000, proceeds of
approximately $34,000 were generated from the exercise of options for 17,705
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. During the nine months ended September 30, 2000,
proceeds of approximately $558,000 were generated from issuances under our
Employee Stock Purchase Plan of 63,996 shares of our common stock. There were no
significant expenses, underwriting discounts or commissions attributable to
these proceeds. No issuances of common stock under our Employee Stock Purchase
Plan occurred during the three months ended September 30, 2000. The shares
issued pursuant to our 1996 Option Plan and our Employee Stock Purchase 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.

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.

                                       25
<PAGE>   26
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 September 30, 2000 and December
31, 1999 and 1998, we had an accumulated deficit of approximately $67.9 million,
$29.8 million and $15.7 million, respectively. We incurred net losses of $38.1
million in the nine months ended September 30, 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 expansion strategy. We cannot
assure you that we will achieve or sustain revenue growth or profitability on
either a quarterly or annual basis.

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 nationwide 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; and/or

         -        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 operating plan 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 operating
plan.

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.


                                       26
<PAGE>   27
         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;ding costs
                  relating to the expansion of operations; 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.

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,
amortization, 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 e-Business,
                  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.

                                       27
<PAGE>   28
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

         -        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, 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 CONTRACTS. IF WE LOSE EITHER OF THESE
CONTRACTS, 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 contracts could
significantly hurt our business. For the three months ended September 30, 2000,
revenue from NYSERNet.org, Inc. represented approximately 18% of our total
revenue. For the years ended December 31, 1999, 1998 and 1997, revenue from
NYSERNet.org, Inc. represented approximately 27%, 37%, and 47% of our total
revenue, respectively. Revenue under the agreement with the New York State
Department of Labor for the three months ended September 30, 2000 represented
24% of our total revenue. Revenue under the agreement with the New York State
Department of Labor for the years ended December 31, 1999, 1998 and 1997
represented 39%, 28%, and 16% of our total revenue, respectively.

                                       28
<PAGE>   29
         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 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 50 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.

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;

                                       29
<PAGE>   30
         -        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 coverage, capacity, scalability,
reliability and security of the network infrastructure provided to us by
telecommunications network suppliers, including AT&T Corp., Sprint Corporation,
Verizon Communications, Pacific Bell and Broadwing, Inc. Our expansion plans
require additional network resources. Without these resources, our ability to
execute our business strategy could be hurt. In addition, future expansion and
adaptation of our network 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 consolidation of network providers could adversely affect our
peering and transit arrangements 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.

                                       30
<PAGE>   31
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, prior to 2000, our market presence was limited principally to
New York State. In order to build our brand awareness, our marketing efforts
must succeed, and we must provide high quality services. 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 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
solutions,

                                       31
<PAGE>   32
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
53% of our revenues in year ended December 31, 1999 and 39% in the nine months
ended September 30, 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.

         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 16 months ending September 30, 2000 we
have acquired or invested in several companies. In the future, we intend to
acquire additional 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;

                                       32
<PAGE>   33
         -        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 consummate one or more acquisitions in which any significant
portion of the consideration consists of cash, a significant portion of our
available cash could be used to consummate the acquisitions. If we consummate
one or more acquisitions in which any significant portion of the consideration
consists 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 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

                                       33
<PAGE>   34
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 intend to use the remaining proceeds from the sale of the 5%
convertible debentures due June 5, 2003 to fund the expansion of our sales and
marketing efforts, to expand our customer support services, for making
investments or acquisitions and for general corporate and working capital
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 remaining proceeds from the sale of debentures and
existing financing arrangements will be sufficient for these purposes, we may
need to raise additional funds through public or private debt or equity
financing in order to:

         -        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 63% OF OUR
COMMON STOCK, AND THESE PARTIES MAY HAVE CONFLICTS OF INTEREST.

         Broadwing, NYSERNet.net, Inc. and Grumman Hill control approximately
24.2%, 19.0% and 12.1%, respectively, of our outstanding common stock at
September 30, 2000. In addition, our

                                       34
<PAGE>   35
executive officers and directors may be deemed to beneficially own in the
aggregate approximately 7.3% 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. 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 certain
executive officers. We have also secured key man insurance policies on the lives
of Messrs. Mandelbaum and Martin.

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.

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.

                                       35
<PAGE>   36
         The market price of our common stock could drop as a result of future
sales of a large number of shares of our common stock in the market.

         On May 5, 1999, we completed our initial public offering, or IPO, of
5,175,000 shares of our common stock pursuant to a registration statement on
Form S-1 (File No. 333-72133). In addition to our IPO as a result of our
re-offer prospectus filed on Form S-8 with the Securities and Exchange
Commission on July 19, 1999 (File No. 333-83177), approximately 4,500,000 shares
of our outstanding common stock no longer qualify as "restricted securities"
under Rule 144 of the Securities Act of 1933 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.

         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 filing a registration statement on Form S-8 with the
Securities and Exchange Commission 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 and our 1999 Stock Option
Plan as well as shares issued under our 1999 Employee Stock Purchase Plan.

         As a result of filing of a registration statement on Form S-3 with the
Securities and Exchange Commission on October 25, 2000 (File No. 333-48578),
approximately 839,881 shares of our outstanding common stock will 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.
Also, as a result of filing of a registration statement on Form S-3 with the
Securities and Exchange Commission on October 24, 2000 (File No. 333-48518),
180,145 shares of our common stock were issued and these shares may be freely
re-offered and re-sold. In addition, we are obligated to file a registration
statement so that if certain parties convert the 5% Convertible Debentures into
common stock or exercise warrants to purchase common stock, up to an additional
4,043,399 shares of our common stock would be registered and freely tradable.

         Therefore, through the S-8 re-offer prospectus, the S-3 registration
statements, 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.

         As of September 30, 2000, an additional 54% of the shares of our common
stock continue to be restricted securities. Certain of the holders of these
restricted securities have registration rights with respected to these
restricted shares and with respect to any after-acquired shares. Also, under
Rule 144 these shares become freely tradable in the future.

                                       36
<PAGE>   37
ITEM 6. EXHIBITS AND REPORTS ON FORM 8K

         (a.)     EXHIBITS.

         The following Exhibits are filed or incorporated by reference herewith:

<TABLE>
<S>                          <C>
         Exhibit 10.56       Capital Lease Agreement between Rainier Funding
                             Services, Inc. and AppliedTheory Corporation dated
                             July 3, 2000.

         Exhibit             11.1 Calculation of Basic and diluted loss per
                             share and weighted average shares used in
                             calculation for the three months ended September
                             30, 2000.

         Exhibit             11.2 Calculation of Basic and diluted loss per
                             share and weighted average shares used in
                             calculation for the nine months ended September 30,
                             2000.

         Exhibit             27.1 Financial Data Schedule for the three months
                             ended September 30, 2000, which is submitted
                             electronically to the Securities and Exchange
                             Commission for information only.

         Exhibit             27.2 Financial Data Schedule for the nine months
                             ended September 30, 2000, which is submitted
                             electronically to the Securities and Exchange
                             Commission for information only.
</TABLE>

         (b.)     REPORTS ON FORM 8K.

                  On July 14, 2000, we filed a current report on Form 8-K that
         included information relating to an agreement and plan of merger dated
         July 1, 2000 to purchase Team Tech International, Inc. ("Team Tech").
         AppliedTheory agreed to acquire all of the capital stock of Team Tech
         for up to 538,140 shares in AppliedTheory common stock. The acquisition
         was consummated on June 29, 2000.

                                       37
<PAGE>   38
                            APPLIEDTHEORY CORPORATION
                                    FORM 10-Q
                               SEPTEMBER 30, 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.

<TABLE>
<S>                           <C>
                               AppliedTheory Corporation

Date:  November 14, 2000       by:  /s/  Danny E. Stroud
                                  ----------------------------------------------
                                  Danny E. Stroud
                                  President and Chief Executive Officer
                                  (Principal Executive Officer)

Date:  November 14, 2000      and: /s/  David A, Buckel
                                  ----------------------------------------------
                                  David A. Buckel
                                  Sr. Vice President and Chief Financial Officer
                                  (Principal Financial and Accounting Officer)
</TABLE>

                                       38
<PAGE>   39
                                  EXHIBIT INDEX

         The following Exhibits are filed or incorporated by reference herewith:

<TABLE>
<S>                    <C>
    Exhibit 10.56      Capital Lease Agreement between Rainier Funding Services,
                       Inc. and AppliedTheory Corporation dated July 3, 2000.

    Exhibit 11.1       Calculation of Basic and diluted loss per share and
                       weighted average shares used in calculation for the three
                       months ended September 30, 2000.

    Exhibit 11.2       Calculation of Basic and diluted loss per share and
                       weighted average shares used in calculation for the nine
                       months ended September 30, 2000.

    Exhibit 27.1       Financial Data Schedule for the three months ended
                       September 30, 2000, which is submitted electronically to
                       the Securities and Exchange Commission for information
                       only.

    Exhibit 27.2       Financial Data Schedule for the nine months ended
                       September 30, 2000, which is submitted electronically to
                       the Securities and Exchange Commission for information
                       only.
</TABLE>

                                       39