U.S. SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

                                   FORM 10-QSB

(Mark One)

    |X|           QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
                      OF THE SECURITIES EXCHANGE ACT OF 1934

                  For the quarterly period ended March 31, 2000
    |_|           TRANSITION REPORT PURSUANT TO SECTION 13 OR
                  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

                         Commission File Number 0-27102

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

             PENNSYLVANIA                              23-2694937
    (State or other jurisdiction of                  (IRS Employer
     incorporation or organization)               Identification Number)

                      2000 Cabot Boulevard West, Suite 110
                            Langhorne, PA 19047-1811
                    (address of Principal executive offices)

          Issuer's Telephone Number, Including Area Code: 215-750-6606

                                 Not Applicable
                     (Former name, former address and former
                   fiscal year, if changed since last report.)

Check  whether  the issuer  (1) has filed all  reports  required  to be filed by
Section 13 or 15(d) of the Securities  Exchange Act of 1934 during the preceding
12 months (or for such shorter  period that the  registrant was required to file
such reports), and (2) has been subject to such filing requirements for the past
90 days.

                                Yes ( X ) No ( )

                APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY
                  PROCEEDINGS DURING THE PRECEDING FIVE YEARS:

Indicate  by check mark  whether  the  registrant  has filed all  documents  and
reports  required  to be filed by  Sections  12,  13 or 15(d) of the  Securities
Exchange Act of 1934 subsequent to the  distribution of securities  under a plan
confirmed by a court.

                                 Yes ( ) No ( )

                      APPLICABLE ONLY TO CORPORATE ISSUERS

State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date:  9,749,975 shares of common stock, no
par value per share, as of May 12, 2000.

Transitional Small Business Disclosure Format (check one): Yes (   )   No ( X )


<PAGE>


                                  eGames, Inc.

                                      INDEX

                                                                           Page
                                                                           ----
Part I.       Financial Information

Item 1.       Financial Statements:

              Consolidated Balance Sheet as of March 31, 2000.............   3

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

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

              Notes to Consolidated Financial Statements..................  6-8

Item 2.       Management's Discussion and Analysis of Financial
                  Condition and Results of Operations ....................  9-15

              Risk Factors ............................................... 15-20

Part II.      Other Information

Item 1.       Legal Proceedings...........................................   20


Item 6.       Exhibits and Reports on Form 8-K............................   20

Signatures    ............................................................   21

Exhibit Index ............................................................   22

Exhibits      ............................................................   23






<PAGE>


Item 1.  Financial Statements

                                  eGames, Inc.
                           Consolidated Balance Sheet
                                   (Unaudited)
<TABLE>
<CAPTION>

                                                                   As of
                                                                 March 31,
                                     ASSETS                        2000
                                                                 ---------

<S>                                                             <C>
Current assets:
   Cash and cash equivalents                                    $   601,291
   Accounts receivable, net of allowances totaling $2,923,980     3,179,966
   Inventory                                                      2,281,456
   Prepaid expenses                                                 128,246
                                                                -----------
          Total current assets                                    6,190,959

Furniture and equipment, net                                        379,599
Other assets                                                        347,250
                                                                -----------
          Total assets                                          $ 6,917,808
                                                                ===========


                   LIABILITIES AND STOCKHOLDERS' EQUITY

Current liabilities:
   Note payable                                                 $    53,610
   Accounts payable                                               1,646,650
   Revolving line of credit                                         500,000
   Accrued expenses                                                 540,231
   Convertible subordinated debt                                    150,000
   Capital lease obligations                                         21,329
                                                                -----------
          Total current liabilities                               2,911,820

Capital lease obligations                                             6,616
Note payable                                                        134,220
                                                                 ----------
          Total liabilities                                       3,052,656

Stockholders' equity:

   Common stock, no par value (40,000,000 shares authorized;
          9,981,875 issued and 9,749,975 outstanding)             9,134,234
   Additional paid in capital                                     1,148,550
   Accumulated deficit                                           (5,887,701)
   Treasury stock, at cost - 231,900 shares                        (501,417)
   Accumulated other comprehensive loss                             (28,514)
                                                                -----------
          Total stockholders' equity                              3,865,152
                                                                -----------
          Total liabilities and stockholders' equity            $ 6,917,808
                                                                ===========

</TABLE>








        See accompanying notes to the consolidated financial statements.


<PAGE>


                                  eGames, Inc.
                      Consolidated Statements of Operations
                                   (Unaudited)
<TABLE>
<CAPTION>


                                                  Three months ended           Nine months ended
                                                       March 31,                   March 31,
                                              --------------------------    ------------------------

                                                  2000           1999          2000          1999
                                                  ----           ----          ----          ----
<S>                                           <C>            <C>           <C>           <C>
Net sales                                     $ 1,923,600    $ 2,521,715   $10,562,565   $ 8,639,041

Cost of sales                                     832,858        937,492     3,997,803     2,954,800
                                              -----------    -----------   -----------   -----------

Gross profit                                    1,090,742      1,584,223     6,564,762     5,684,241

Operating expenses:
    Product development                           201,479        260,534       665,071       703,166
    Selling, general and administrative         1,848,215      1,165,769     5,429,217     3,464,272
                                              -----------    -----------   -----------   -----------
        Total operating expenses                2,049,694      1,426,303     6,094,288     4,167,438
                                              -----------    -----------   -----------   -----------

Operating income (loss)                          (958,952)       157,920       470,474     1,516,803

Interest expense, net                               1,634          8,146        11,711        32,427
                                              -----------    -----------   -----------   -----------

Income (loss) before income taxes                (960,586)       149,774       458,763     1,484,376

Provision (benefit) for income taxes             (163,106)        74,520        78,296       158,787
                                              -----------    -----------   -----------   -----------

Net income (loss)                             ($  797,480)   $    75,254   $   380,467   $ 1,325,589
                                              ===========    ===========   ===========   ===========




Net income (loss) per common share:
            - basic                           ($     0.08)   $      0.01   $      0.04   $      0.14
                                              ===========    ===========   ===========   ===========
            - diluted                         ($     0.08)   $      0.01   $      0.04   $      0.13
                                              ===========    ===========   ===========   ===========

Weighted average common shares
    outstanding - basic                         9,745,820      9,467,659     9,692,426     9,459,673

Dilutive effect of common stock equivalents         - 0 -        762,102       422,848       427,189
                                              -----------    -----------   -----------   -----------

 Weighted average common shares
    outstanding - diluted                       9,745,820     10,229,761    10,115,274     9,886,862
                                              ===========    ===========   ===========   ===========


</TABLE>





        See accompanying notes to the consolidated financial statements.


<PAGE>


                                  eGames, Inc.
                      Consolidated Statements of Cash Flows
                                   (Unaudited)
<TABLE>
<CAPTION>

                                                                   Nine months ended
                                                                       March 31,

                                                                   2000           1999
                                                                   ----           ----
<S>                                                            <C>            <C>
Cash flows from operating activities:
    Net income                                                 $   380,467    $ 1,325,589
    Adjustment to reconcile net income to net cash
        (used in) provided by operating activities:
    Depreciation and amortization                                  331,641        299,073
    Changes in items affecting operations net of effect
        from acquired business:
             Restricted cash                                        17,560           (765)
             Accounts receivable                                (1,240,147)      (673,972)
             Prepaid expenses                                      (18,895)         1,703
             Inventory                                          (1,126,524)      (154,900)
             Accounts payable                                      604,991        (17,311)
             Accrued expenses                                      (88,132)       328,227
                                                               -----------    -----------
Net cash (used in) provided by operating activities             (1,139,039)     1,107,644
                                                               -----------    -----------

Cash flows from investing activities:
    Acquisition, net of cash acquired                                - 0 -        (12,428)
    Purchase of furniture and equipment                           (181,246)      (185,457)
    Purchase of software rights and other assets                   (16,225)       (98,490)
                                                               -----------    -----------
Net cash used in investing activities                             (197,471)      (296,375)
                                                               -----------    -----------

Cash flows from financing activities:

    Purchase of treasury stock                                       - 0 -       (277,928)
    Proceeds from exercise of warrants and options                 259,345        407,063
    Borrowing under revolving line of credit                       750,000          - 0 -
    Repayment under revolving line of credit                      (250,000)         - 0 -
    Repayment of notes payable                                    (117,118)       (74,778)
    Repayment of lease obligations                                 (19,178)       (57,860)
                                                               -----------    -----------
Net cash (used in) provided by financing activities                623,049         (3,503)
                                                               -----------    -----------


Effect of exchange rate changes on cash and cash equivalents           899          - 0 -

Net (decrease) increase in cash and cash equivalents              (712,562)       807,766

Cash and cash equivalents:
    Beginning of period                                          1,313,853        953,648
                                                               -----------    -----------
    End of period                                              $   601,291    $ 1,761,414
                                                               ===========    ===========

Supplemental cash flow information:

Cash paid for interest                                         $    20,722    $    43,272
                                                               ===========    ===========
Cash paid for income taxes                                     $   236,000    $   112,051
                                                               ===========    ===========

Non cash investing and financing activities:

    Capital lease additions                                    $     - 0 -    $    26,809
                                                               ===========    ===========
    150,000 shares of Common Stock issued in connection
        with an acquisition                                    $     - 0 -    $   213,000
                                                               ===========    ===========

        See accompanying notes to the consolidated financial statements.

</TABLE>

<PAGE>


                                  eGames, Inc.

Notes to Consolidated Financial Statements

1.  Summary of Significant Accounting Policies

Basis of Presentation

The  accompanying  unaudited  interim  consolidated  financial  statements  were
prepared in accordance with generally accepted accounting principles for interim
financial information.  Accordingly,  they do not include all of the information
and footnotes required by generally accepted accounting  principles for complete
financial statements. The Notes to Consolidated Financial Statements included in
the Company's Form 10-KSB for the fiscal year ended June 30, 1999 should be read
in conjunction with the accompanying  statements.  These statements  include all
adjustments  the Company  believes are necessary for a fair  presentation of the
statements.  The interim operating results are not necessarily indicative of the
results for a full year.

Description of Business

eGames, Inc. (the "Company"),  a Pennsylvania  corporation  incorporated in July
1992,  develops,  publishes,  markets and sells a  diversified  line of personal
computer software  primarily for consumer  entertainment.  The Company's product
line  enables  it  to  serve   customers  who  are  seeking  a  broad  range  of
high-quality,  value-priced  software.  The  Company's  sales  are made  through
various  national  distributors on a  non-exclusive  basis in addition to direct
relationships with certain national and regional retailers.

Consolidation

The consolidated  financial  statements  include the accounts of the Company and
its wholly-owned  subsidiary.  All inter-company  balances and transactions have
been eliminated.

2.  Acquisition

On August 14,  1998,  the  Company  acquired  all of the  outstanding  shares of
Software Partners Publishing and Distribution Limited ("Software Partners"),  in
exchange  for  150,000  shares  of  the  Company's   Common  Stock,   valued  at
approximately  $213,000,  which was the fair value of the Company's Common Stock
on the closing date of the acquisition.  This acquisition was accounted for as a
purchase and the corresponding goodwill in the approximate amount of $308,000 is
being amortized over five years. On March 31, 1999,  Software  Partners  changed
its name to eGames Europe  Limited  ("eGames  Europe").  For the quarters  ended
March 31,  2000 and 1999,  eGames  Europe  contributed  $568,000  and  $774,000,
respectively, in net sales as well as $83,000 and $183,000, respectively, in net
income exclusive of inter-company  charges.  For the nine months ended March 31,
2000  and  1999,   eGames  Europe   contributed   $1,757,000   and   $1,794,000,
respectively,  in net sales as well as $274,000 and $447,000,  respectively,  in
net income exclusive of inter-company charges.

The following summary of unaudited pro-forma financial  information gives effect
to the eGames  Europe  acquisition  as though it had  occurred  on July 1, 1998,
after  giving  effect to  certain  adjustments,  primarily  the  elimination  of
inter-company  sales and  amortization  of  goodwill.  The  pro-forma  financial
information,  which is for  informational  purposes  only, is based upon certain
assumptions  and  estimates  and does not  necessarily  reflect the results that
would have  occurred  had the  acquisition  taken place at the  beginning of the
period  presented,  nor are they necessarily  indicative of future  consolidated
results.


<PAGE>


Notes to Consolidated Financial Statements (continued)


Unaudited Pro-Forma Financial Information

                                                Nine Months Ended
                                                  March 31, 1999
                                                  --------------

Net sales                                          $ 8,697,000
Net income                                         $ 1,217,000
Net income per diluted share                       $      0.12

3.  Comprehensive Income (Loss)

On July 1, 1998, the Company adopted SFAS 130, "Reporting Comprehensive Income".
This Statement  requires that all items that are required to be recognized under
accounting  standards as  components  of  comprehensive  income be reported in a
financial  statement  that is  displayed  with  the  same  prominence  as  other
financial statements. Comprehensive income (loss) is computed as follows:
<TABLE>
<CAPTION>

                                                  Three Months Ended           Nine Months Ended
                                                      March 31,                    March 31,
                                             --------------------------    ----------------------
                                                 2000          1999            2000         1999
                                                 ----          ----            ----         ----
<S>                                          <C>            <C>            <C>           <C>
Net income (loss)                            $   797,000)   $    75,000    $   380,000   $ 1,326,000

Other comprehensive income (loss):
   Foreign currency translation adjustment        (9,000)       (19,000)         2,000       (18,000)
                                             -----------    -----------    -----------   -----------

Comprehensive income (loss)                  ($  806,000)   $    56,000    $   382,000   $ 1,308,000
                                             ===========    ===========    ===========   ===========
</TABLE>


4.  Common Stock

On October 26, 1998, the Company's Board of Directors  authorized the Company to
purchase up to $1,000,000 of its shares of Common Stock in open-market purchases
on the Nasdaq SmallCap  Market.  During the nine months ended March 31, 2000 the
Company did not purchase any shares of its Common  Stock.  As of March 31, 2000,
the Company had acquired 231,900 shares of its Common Stock, with an approximate
cost of $501,000, pursuant to its stock repurchase program.

5.  Operations by Reportable Segments and Geographic Area

The Company  adopted SFAS No. 131,  "Disclosure  about Segments of an Enterprise
and Related Information", as of July 1, 1998. SFAS No. 131 establishes standards
for reporting  information about an enterprise's  operating segments and related
disclosures about its products, geographic areas and major customers.

The Company publishes interactive  entertainment  software for PCs. Based on its
organizational  structure,  the  Company  operates  in only one  non-geographic,
reportable segment, which is publishing.

The President and Chief  Executive  Officer  allocates  resources to each of the
geographical  areas in which the Company  operates  using  information  on their
respective  revenues  and  operating  profits  before  interest  and taxes.  The
President and Chief Executive Officer has been identified as the Chief Operating
Decision Maker as defined by SFAS No. 131.

The accounting policies of these segments are the same as those described in the
Summary of Significant  Accounting Policies.  Revenue derived from sales between
segments is eliminated in consolidation.

Geographic information for the quarters and nine months ended March 31, 2000 and
1999 is based  on the  location  of the  selling  entity.  The  Company  records
international  sales from both the United States and United  Kingdom  locations.
Information about the Company's operations by segmented geographic locations for
the quarters and nine months ended March 31, 2000 and 1999 is presented below.


<PAGE>


Notes to Consolidated Financial Statements (continued)

Quarters ended
--------------
<TABLE>
<CAPTION>
                         United States   United Kingdom   Eliminations    Consolidated
                         -------------   --------------   ------------    ------------
March 31, 2000:
---------------
<S>                       <C>             <C>            <C>              <C>
Sales                     $ 1,637,000     $   568,000    ($   281,000)    $ 1,924,000
Operating income (loss)  ($   911,000)   ($    48,000)    $     - 0 -    ($   959,000)
Assets                    $ 7,361,000     $ 1,391,000    ($ 1,834,000)    $ 6,918,000

March 31, 1999:
---------------
Sales                     $ 2,014,000     $   774,000    ($   266,000)    $ 2,522,000
Operating income (loss)  ($    67,000)    $   225,000     $     - 0 -     $   158,000
Assets                    $ 5,962,000     $ 1,185,000    ($   389,000)    $ 6,758,000

</TABLE>


Nine months ended
-----------------
<TABLE>
<CAPTION>
                         United States   United Kingdom   Eliminations    Consolidated
                         -------------   --------------   ------------    ------------
March 31, 2000:
---------------
<S>                       <C>             <C>             <C>             <C>
Sales                     $ 9,527,000     $ 1,757,000     ($  721,000)    $10,563,000
Operating income (loss)   $   474,000    ($     4,000)     $    - 0 -     $   470,000
Assets                    $ 7,361,000     $ 1,391,000     ($1,834,000)    $ 6,918,000

March 31, 1999:
---------------
Sales                     $ 7,356,000     $ 1,794,000     ($  511,000)    $ 8,639,000
Operating income (loss)   $   985,000     $   532,000      $    - 0 -     $ 1,517,000
Assets                    $ 5,962,000     $ 1,185,000     ($  389,000)    $ 6,758,000

</TABLE>


6.  Revolving Line of Credit

On September 28, 1999,  the Company  entered into an agreement with a commercial
lender to extend and increase its existing $1.0 million revolving line of credit
to a $1.5 million  revolving  line of credit  expiring  October 31,  2000.  This
revolving  line of credit  was  established  to  provide,  among  other  things,
additional working capital to support the Company's anticipated growth.  Amounts
outstanding under this revolving line of credit are charged interest at one-half
of one  percent  above the bank's  current  prime rate and such  interest is due
monthly. The revolving line of credit is collaterallized by substantially all of
the Company's assets.  The revolving line of credit requires the Company,  among
other  things,  to  achieve  certain  levels  of income  ("earnings  covenant"),
throughout its fiscal year and to maintain certain financial ratios,  such as: a
minimum working capital balance of $1,500,000 and a maximum debt to net tangible
assets  ratio  of 1.50 to  1.00.  As of  March  31,  2000,  the  Company  was in
compliance with or had obtained waivers for all of those covenants.  The Company
and its  commercial  lender have discussed the  probability  that the Company is
likely to be in  technical  default of the line of  credit's  existing  earnings
covenant  for the year ending  June 30,  2000.  The  Company and its  commercial
lender are currently  evaluating how to address this potential  default prior to
its  occurrence.  As of May  12,  2000,  the  Company  did  not  have a  balance
outstanding under this revolving line of credit.

On September 30, 1999, the Company's  United Kingdom  operation  entered into an
agreement  with a commercial  bank to extend and  increase its existing  $80,000
revolving  line of credit to a $160,000  line of credit  expiring  September 30,
2000. Amounts  outstanding under this line of credit are charged interest at two
and one-half percent above the bank's current base rate and such interest is due
monthly. As of May 12, 2000, the Company had not utilized this line of credit.


<PAGE>


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

The accompanying  consolidated financial statements as of March 31, 2000 include
the accounts of eGames, Inc. (the "Company") and its wholly-owned subsidiary.

Forward-Looking Statements

This Quarterly Report on Form 10-QSB and in particular  Management's  Discussion
and  Analysis  of  Financial   Condition  and  Results  of  Operations  contains
forward-looking  statements  about  circumstances  that  have not yet  occurred,
including, without limitation, statements regarding the Company's product return
reserves for sales into the food and drug retail  channels and reductions in the
quantities of products that it ships into these retail  channels;  the Company's
efforts to increase distribution of its products via the Internet; the Company's
intention  to  work  towards  increasing   advertising  revenues  by  selling  a
customized  "branded  browser"  within its products;  the  Company's  efforts to
secure non-promotional  product positioning in the food and drug retail channels
through  its "Store in a Store"  concept;  the ability of the "Store in a Store"
concept  to  attract   consumer   interest  and  drive   impulse   purchases  of
value-priced,  Family-Friendly(TM)  software products; the ability of the "Store
in a Store" strategy is to secure better merchandising of displays,  more timely
product  replenishment,  and fewer  product  returns in the food and drug retail
channels; the potential for marketing promotional costs to decline over time, as
a percent of net sales,  as well as the potential for the Company's newer retail
relationships  to develop and mature from a  promotional  product  launch phase,
into a more established and recurring order phase; the continued distribution of
the Company's products through GT Value Products; the Company's estimated annual
tax  rate  and  the   availability   of  the  Company's   net   operating   loss
carry-forwards;  the  probability  that the Company is likely to be in technical
default  of its $1.5  million  commercial  line of  credit's  existing  earnings
covenant for the year ending June 30,  2000,  and the ability of the Company and
its  commercial  lender to reach a  satisfactory  resolution  to this  potential
default prior to its  occurrence;  the  sufficiency  of the  Company's  cash and
working  capital  balances to fund the Company's  operations for the foreseeable
future;  the costs the Company expects to incur in defending its position in the
Hasbro  litigation  described under Part II, Item I "Legal  Proceedings" and the
impact of such ongoing  expenses on the Company's  future  liquidity and capital
resources;  as well as other  statements  including words such as  "anticipate",
"believe" or "expect" and statements in the future tense. These  forward-looking
statements are subject to business and economic risks,  and actual events or the
Company's actual future results could differ  materially from those set forth in
the forward-looking statements due to such risks and uncertainties.  The Company
will not necessarily  update  information if any forward looking statement later
turns out to be inaccurate.

The  following  important  factors,  among  others  discussed  elsewhere in this
report, could cause the Company's actual results to differ materially from those
indicated by the forward-looking statements contained in this report: the market
acceptance and  successful  sell-through  results for the Company's  products at
retail stores and the ability of the Company to accurately estimate sell-through
volume when an order is shipped;  the amount of unsold  product that is returned
to the Company by retail stores; the Company's ability to accurately predict the
amount of product  returns  that will  occur and the  adequacy  of the  reserves
established for such returns;  the Company's  ability to successfully  implement
its Store within a Store program on commercially acceptable terms; the Company's
ability  to  successfully  sell its  "branded  browser"  concept  on terms  that
generate  advertising  revenues;  the  success  of  the  Company's  distribution
strategy,  including its ability to enter into new distribution and direct sales
relationships on commercially acceptable terms; the allocation of adequate shelf
space for the  Company's  products in major retail chain  stores;  the Company's
ability to negotiate lower product  promotional  costs in its  distribution  and
retail  relationships;  the Company's  ability to collect  outstanding  accounts
receivable  and  establish  adequate  reserves  for  uncollectible  receivables;
increased selling,  general and administrative costs,  including increased legal
expenses;  the  continued  increase in the number of computers in homes in North
America  and the world;  the  ability to deliver  products in response to orders
within  a  commercially   acceptable  time  frame;  downward  pricing  pressure;
fluctuating costs of developing, producing and marketing the Company's products;
the Company's  ability to license or develop  quality  content for its products;
the  Company's  ability  to access  alternative  distribution  channels  and the
success of the  Company's  efforts to develop  its  Internet  sales;  consumers'
continued  demand  for  value-priced  software;  increased  competition  in  the
value-priced  software  category;  and various other factors,  many of which are
beyond  the  Company's  control.  Risks and  uncertainties  that may  affect the
Company's future results and performance also

<PAGE>


Item 2.  Management's Discussion and Analysis of Financial Condition and
         Results of Operations (continued)

include,  but are not  limited  to,  those  discussed  under the  heading  "Risk
Factors"  below at pages 15 to 20, as well as in the Company's  Annual Report on
Form 10-KSB for the fiscal year ended June 30, 1999 as filed with the Securities
and Exchange Commission and other documents filed with the Commission.

Results of Operations

Three Months Ended March 31, 2000 and 1999

Net Sales

Net sales for the  quarter  ended  March 31,  2000 were  $1,924,000  compared to
$2,522,000  for the quarter  ended March 31,  1999,  representing  a decrease of
$598,000 or 24%. For the quarter ended March 31, 2000, the Company  recorded net
sales into the following  distribution  channels:  $1,383,000 to North  American
distributors, $745,000 to International markets, $477,000 in direct shipments to
North  American  traditional  software  retailers,  and  $681,000 in net product
returns from North American food and drug retailers. For the quarter ended March
31,  1999,  the  Company  recorded  net sales  into the  following  distribution
channels:  $1,659,000 to North American distributors,  $863,000 to International
markets,  with no  direct  shipments  to  North  American  traditional  software
retailers or to North American food and drug  retailers.  The primary reason for
the $598,000  decrease in quarterly sales in the quarter ended March 31, 2000 as
compared to the quarter ended March 31, 1999,  was the greater than  anticipated
amount of product  returns  realized  during the quarter ended March 31, 2000 in
connection with the completion of various short-term promotional programs in the
North American food and drug retail channels.  In response to these greater than
anticipated  returns,  the Company has increased its product return reserves for
sales into these food and drug retail channels and is reducing the quantities of
products  that it ships into these food and drug retail  channels on a per store
basis.

Additionally,  for the  quarter  ended March 31,  2000,  compared to the quarter
ended March 31, 1999, the Company  experienced a $940,000  increase in net sales
as a result of new  distribution  relationships,  which was offset by a $953,000
decrease in sales to GT Value  Products,  a division of GT Interactive  Software
Corporation.  Until April 1999,  GT Value  Products  distributed  the  Company's
entertainment  software  in North  America  through  an  exclusive  distribution
agreement that the Company terminated during April 1999. As a result of this new
distribution  strategy, the Company has diversified its distribution channels to
retailers,  provided for more effective inventory management,  merchandising and
communications with retailers and diminished the Company's dependence on any one
third-party  distributor  for  sales  of the  Company's  products.  The  Company
continues  to  distribute   its  products   through  GT  Value   Products  on  a
non-exclusive  basis  to  certain  mass  merchandise   retailers  that  purchase
value-priced  software exclusively through GT Value Products.  The Company's net
sales to GT Value Products  accounted for 42% and 70% of the Company's net sales
for the quarters ended March 31, 2000 and 1999, respectively.

The Company has continued to take steps to increase distribution of its products
via the Internet,  including improving and expanding its web site;  establishing
electronic  distribution  capabilities  over  the  Internet;  and  incorporating
on-line  functionality into existing  products.  Sales of the Company's products
via the  Internet  represented  3% and 1% of the  Company's  net  sales  for the
quarters ended March 31, 2000 and 1999, respectively.  Additionally,  all of the
Company's   current   software   titles  now  include  an   Internet-based   and
advertising-enabled  "browser" interface,  which contains links to the Company's
website and has the capability to deliver  advertising  content  directly to the
consumer.  To date  advertising  revenues from this browser  interface have been
minimal.  The  Company  intends to work  towards  increasing  these  revenues by
selling  a  customized  "branded"  version  of the  browser,  combined  with the
Company's game content, to third parties seeking a branding medium.


<PAGE>


Item 2.  Management's Discussion and Analysis of Financial Condition and
         Results of Operations (continued)

During the quarters ended March 31, 2000 and 1999, the Company's  provisions for
product returns were approximately $1,751,000 and $449,000, respectively, or 48%
and 15% of the Company's  gross sales,  respectively.  The Company has increased
its  provision  for  product  returns  primarily  as a result of the higher than
expected  product returns that have been experienced in the newly developed food
and drug retail  channels.  Sales in these  channels have been primarily part of
short-term promotional programs. The Company has experienced substantially lower
return rates in  traditional  retail  software  channels as a result of securing
longer-term,  non-promotional  shelf-space  for its  products  at  these  retail
stores. In an effort to secure similar product  positioning in the food and drug
retail  channels,  the Company is now marketing its "Store in a Store"  concept.
This concept  groups  together an assortment of the  Company's  software  titles
along  with a  select  number  of other  publishers'  software  titles  within a
designated  section of the store, which is intended to attract consumer interest
and  drive  impulse  purchases  of  value-priced,  Family-Friendly(TM)  software
products. One of the Company's intended goals of its "Store in a Store" strategy
is to secure longer-term, non-promotional shelf-space for the Company's products
in the food and drug retail  channels which would provide for a longer period of
time  for  products  to be  purchased  by  consumers,  better  merchandising  of
displays,  and more timely  product  replenishment,  which may in turn result in
fewer product returns.

Cost of Sales and Gross Profit Margin

Cost of sales for the quarter  ended March 31,  2000 were  $833,000  compared to
$938,000  for the  quarter  ended  March 31,  1999,  representing  a decrease of
$105,000 or 11%. This decrease was caused  primarily by decreased  product costs
associated  with the 24%  decrease in product  sales and a reduction in per-unit
product costs achieved through volume discounts,  which were partially offset by
increased reclamation and freight costs related to product returns from the food
and drug retail channels during the quarter ended March 31, 2000.  Product costs
consist mainly of replicated compact discs, printed materials,  protective jewel
cases and boxes for certain products.  Gross profit margin for the quarter ended
March 31, 2000  decreased to 56.7%,  from 62.8% for the quarter  ended March 31,
1999. This decrease in gross profit margin was caused  primarily by increases in
reclamation  and freight  costs as a percent of sales due to returns  from sales
into the food and drug  retail  channels  recognized  during  the  quarter.  The
decrease in gross profit  margin was  partially  offset by a decrease in product
costs  resulting  from a  reduction  in  per-unit  product  costs  due to volume
discounts and higher selling prices of the Company's titles compared to the same
quarter last year.

Operating Expenses

Product development expenses for the quarter ended March 31, 2000, were $202,000
compared to $261,000 for the quarter ended March 31, 1999, a decrease of $59,000
or 23%. This decrease was caused primarily by a decrease in outside labor costs,
which was partially  offset by an increase in salary and related costs  incurred
to improve the Company's product development and quality assurance efforts.

Selling,  general and  administrative  expenses for the quarter  ended March 31,
2000 were  $1,848,000  compared to  $1,166,000  for the quarter  ended March 31,
1999, an increase of $682,000 or 58%.  This increase was caused  primarily by an
increase in marketing promotional costs incurred to gain additional retail shelf
space at both new and  existing  retail  stores,  and to promote  the  Company's
products in these retail channels.  The Company believes that these  promotional
costs will  continue to be incurred,  but may decline over time, as a percent of
net sales, as the Company's newer retail relationships develop and mature from a
promotional  product launch phase,  into a more  established and recurring order
phase. Marketing promotional costs primarily include: shelf-space fees, in-store
ads, mail-in consumer rebates and display costs.

Interest Expense, net

Net interest expense for the quarter ended March 31, 2000 was $2,000 compared to
$8,000 for the quarter  ended March 31,  1999,  a decrease of $6,000 or 75%. The
primary  reason for this decrease was the reduction in notes payable and capital
lease obligations due to scheduled principal payments.


<PAGE>


Item 2.  Management's Discussion and Analysis of Financial Condition and
         Results of Operations (continued)

Provision (Benefit) for Income Taxes

(Benefit)  for income  taxes for the quarter  ended March 31, 2000 was  $163,000
compared to a  provision  of $75,000 for the  quarter  ended March 31,  1999,  a
decrease in the  provision  for income taxes of $238,000.  This  decrease in the
provision for income taxes was  primarily  attributable  to the  Company's  loss
before income taxes of $961,000 for the quarter  ended March 31, 2000,  compared
to income  before income taxes of $150,000 for the quarter ended March 31, 1999.
Additionally  impacting  the  provision  for income  taxes was the change in the
estimated  annual  income  tax rate as of March 31,  2000,  due to the  expected
utilization of net operating loss carry-forwards.

Management  calculates the income tax expense for each quarter under APB Opinion
28 and FAS  Statement  109  based  on its  estimate  of the  effective  tax rate
expected to be applicable for the full fiscal year. Adjustments to the estimated
annual tax rate are reflected in the quarter in which the adjustments occur. The
estimated annual tax rate is determined based on expected income tax results for
the fiscal  year,  after  considering  the  availability  of the  Company's  net
operating loss carry-forwards.

Net Income (Loss)

Net (loss) for the quarter ended March 31, 2000 was  ($797,000)  compared to net
income of $75,000 for the quarter ended March 31, 1999, a decrease in net income
of $872,000.  This decrease in profitability resulted primarily from higher than
anticipated  product  returns from the food and drug retail  channels,  combined
with an  increase  in  marketing  promotional  expenses  incurred to support the
Company's product sales as part of its revised distribution strategy.

Results of Operations

Nine Months Ended March 31, 2000 and 1999

Net Sales

Net sales for the nine months ended March 31, 2000 were $10,563,000  compared to
$8,639,000 for the nine months ended March 31, 1999, representing an increase of
$1,924,000  or 22%.  For the nine  months  ended  March 31,  2000,  the  Company
recorded net sales into the following distribution channels: $4,926,000 to North
American distributors, $2,160,000 to International markets, $1,970,000 in direct
shipments to North American  traditional  software retailers,  and $1,507,000 in
direct shipments to North American food and drug retailers.  For the nine months
ended  March  31,  1999,  the  Company  recorded  net sales  into the  following
distribution channels: $6,517,000 to North American distributors,  $2,122,000 to
International  markets,  with no direct shipments to North American  traditional
software  retailers or food and drug  retailers.  Factors  contributing  to this
$1,924,000  increase in net sales include:  increases in net sales into the food
and  drug  and  direct  retail  channels  and  International   markets  totaling
$1,507,000, $1,970,000 and $38,000, respectively, which were partially offset by
a  $1,591,000  decrease in sales  through  North  American  distributors.  These
changes  in the  Company's  distribution  channels  are a result of the  revised
distribution  strategy that the Company implemented during the fourth quarter of
fiscal  1999.   This   distribution   strategy  has  diversified  the  Company's
distribution  channels  to  retailers,  provided  for more  effective  inventory
management,  merchandising and communications  with retailers and diminished the
Company's  dependence  on any one  third-party  distributor,  such  as GT  Value
Products,  for  sales  of the  Company's  products.  The  Company  continues  to
distribute its products  through GT Value Products on a  non-exclusive  basis to
certain  mass  merchandise   retailers  that  purchase   value-priced   software
exclusively  through  GT Value  Products.  The  Company's  net sales to GT Value
Products  accounted  for 20% and 74% of the  Company's  net  sales  for the nine
months ended March 31, 2000 and 1999, respectively.

For the nine months ended March 31, 2000 and 1999,  the Company's  provision for
product returns was approximately $3,598,000 and $561,000,  respectively, or 25%
and 6% of the Company's gross sales, respectively. The Company has increased its
provision for product returns  primarily as a result of the higher than expected
product  returns  realized in the Company's  newly developed North American food
and drug retail channels. In response to these greater than anticipated returns,
the Company has increased its product return  reserves for sales into these food
and drug retail  channels and is reducing  the  quantities  of products  that it
ships into these food and drug  retail  channels on a per store  basis.

<PAGE>

Item 2.  Management's  Discussion  and  Analysis of  Financial  Condition  and
         Results of Operations (continued)

Cost of Sales and Gross Profit Margin

Cost of sales for the nine months ended March 31, 2000 were $3,998,000  compared
to $2,955,000 for the nine months ended March 31, 1999, representing an increase
of  $1,043,000  or 35%.  This  increase was caused  primarily by product  costs,
freight and royalty  costs  associated  with the 22% increase in product  sales,
which were  partially  offset by a reduction in per-unit  product costs achieved
through volume  discounts.  Product costs consist  mainly of replicated  compact
discs, printed materials, protective jewel cases and boxes for certain products.
Gross profit margin for the nine months ended March 31, 2000  decreased to 62.2%
from 65.8% for the nine months  ended  March 31,  1999.  This  decrease in gross
profit  margin was caused  primarily by  increases in royalty and freight  costs
associated with the Company selling more of its full-release  products into more
retail  locations,  which was  partially  offset by a decrease in product  costs
resulting from a reduction in per-unit product costs due to volume discounts and
higher selling prices of the Company's  titles  compared to the same nine months
last year.

Operating Expenses

Product  development  expenses  for the nine  months  ended  March 31, 2000 were
$665,000  compared to  $703,000  for the nine months  ended  March 31,  1999,  a
decrease of $38,000 or 5%. This  decrease was caused  primarily by a decrease in
outside  labor costs,  which was  partially  offset by an increase in salary and
related costs incurred to improve the Company's product  development and quality
assurance efforts.

Selling, general and administrative expenses for the nine months ended March 31,
2000 were $5,429,000  compared to $3,464,000 for the nine months ended March 31,
1999, an increase of $1,965,000 or 57%. This increase was caused primarily by an
increase in marketing promotional costs incurred to gain additional retail shelf
space at both new and  existing  retail  stores,  and to promote  the  Company's
products.  The Company believes that the above-mentioned  promotional costs will
continue to be incurred,  but may decline,  as a percent of net sales, over time
as  the  Company's  newer  retail  relationships   develop  and  mature  from  a
promotional  product launch phase,  into a more  established and recurring order
phase.  Short-term  promotional retail programs typically carry higher marketing
promotional  costs  than  longer-term,  non-promotional  shelf-space.  Marketing
promotional costs primarily  include:  shelf-space  fees,  in-store ads, mail-in
consumer rebates and display costs.

Interest Expense, net

Net  interest  expense  for the nine  months  ended  March 31,  2000 was $12,000
compared  to $32,000 for the nine months  ended  March 31,  1999,  a decrease of
$20,000 or 63%. The primary  reason for this decrease was the reduction in notes
payable and capital lease obligations due to scheduled principal payments.

Provision for Income Taxes

Provision  for income taxes for the nine months ended March 31, 2000 was $78,000
compared to $159,000  for the nine months  ended March 31,  1999,  a decrease of
$81,000. This decrease was primarily attributable to the Company's income before
income taxes of $459,000  for the nine months  ended March 31, 2000  compared to
income  before  income taxes of  $1,484,000  for the nine months ended March 31,
1999.  Additionally  impacting  the provision for income taxes was the change in
the estimated  annual income tax rate as of March 31, 2000,  due to the expected
utilization of net operating loss carry-forwards.

Management  calculates  the income tax expense for each period under APB Opinion
28 and FAS  Statement  109  based  on its  estimate  of the  effective  tax rate
expected to be applicable for the full fiscal year. Adjustments to the estimated
annual tax rate are reflected in the period in which the adjustments  occur. The
estimated annual tax rate is determined based on expected income tax results for
the fiscal  year,  after  considering  the  availability  of the  Company's  net
operating loss carry-forwards.


<PAGE>


Item 2.  Management's Discussion and Analysis of Financial Condition and
         Results of Operations (continued)

Net Income

Net income for the nine months  ended March 31,  2000 was  $380,000  compared to
$1,326,000 for the nine months ended March 31, 1999, a decrease in net income of
$946,000. This decrease in profitability resulted primarily from the higher than
anticipated product returns in the food and drug retail channels,  combined with
increases in marketing  promotional  expenses  incurred to support the Company's
product sales as part of its revised distribution strategy.

Liquidity and Capital Resources

As of March 31, 2000,  the  Company's  cash and working  capital  balances  were
$601,000 and $3,279,000,  respectively,  and the Company's  total  stockholders'
equity balance at March 31, 2000 was $3,865,000.  The Company's cash balance has
decreased by $713,000 since June 30, 1999, primarily as a result of reduced cash
collections from the Company's  customers and additional cash payments  relating
to  promotional  activities  incurred to support the 22% growth in net sales for
the nine months ended March 31, 2000 compared to the same nine-month period last
fiscal year.

Net cash used in operating  activities  for the nine months ended March 31, 2000
was $1,139,000 and net cash provided by operating activities for the nine months
ended March 31, 1999 was  $1,108,000.  The  primary  causes for this  $2,247,000
reduction in net cash generated  from  operating  activities for the nine months
ended March 31, 2000  compared to the nine months ended March 31, 1999 include a
decrease  in  relative  year-to-date  net income of  $946,000,  in  addition  to
relative year-to-date increases in inventory and accounts receivable of $972,000
and $566,000, respectively.

Net cash used in investing  activities  for the nine months ended March 31, 2000
and 1999 was $197,000 and $296,000,  respectively. The $197,000 in net cash used
in  investing  activities  for the nine months  ended  March 31,  2000  resulted
primarily  from the purchase of additional  furniture  and  equipment  needed to
support the increase in personnel  necessary to facilitate the continued  growth
in the Company's sales.

Net cash  provided by financing  activities  for the nine months ended March 31,
2000 was $623,000 and net cash used in financing  activities for the nine months
ended March 31, 1999 was $4,000.  The main factors causing the $627,000 increase
in net cash generated from investing  activities for the nine months ended March
31, 2000  compared to the nine months  ended March 31, 1999 include the $500,000
increase in net cash provided by borrowings  under the revolving line of credit,
in addition to the $278,000 decrease in the Company's repurchasing of its shares
under its stock repurchase program.

On September 28, 1999,  the Company  entered into an agreement with a commercial
lender to extend and increase its existing $1.0 million revolving line of credit
to a $1.5 million  revolving  line of credit  expiring  October 31,  2000.  This
revolving  line of credit  was  established  to  provide,  among  other  things,
additional working capital to support the Company's anticipated growth.  Amounts
outstanding under this revolving line of credit are charged interest at one-half
of one  percent  above the bank's  current  prime rate and such  interest is due
monthly. The revolving line of credit is collaterallized by substantially all of
the Company's assets.  The revolving line of credit requires the Company,  among
other  things,  to  achieve  certain  levels of income,  ("earnings  covenant"),
throughout its fiscal year and to maintain certain financial ratios,  such as: a
minimum working capital balance of $1,500,000 and a maximum debt to net tangible
assets  ratio  of 1.50 to  1.00.  As of  March  31,  2000,  the  Company  was in
compliance with or had obtained waivers for all of those covenants.  The Company
and its  commercial  lender have discussed the  probability  that the Company is
likely to be in  technical  default of the line of  credit's  existing  earnings
covenant  for the year ending  June 30,  2000.  The  Company and its  commercial
lender are currently  evaluating how to address this potential  default prior to
its  occurrence.  As of May  12,  2000,  the  Company  did  not  have a  balance
outstanding under this revolving line of credit.


<PAGE>


Item 2.  Management's Discussion and Analysis of Financial Condition and
         Results of Operations (continued)

On October 26, 1998, the Company's Board of Directors  authorized the Company to
purchase up to $1,000,000  of its shares of Common Stock in the Nasdaq  SmallCap
Market.  During the nine  months  ended  March 31,  2000,  the  Company  did not
purchase any shares of its Common Stock.  As of March 31, 2000,  the Company had
acquired 231,900 shares of its Common Stock, at an approximate cost of $501,000,
pursuant to its stock repurchase program.

The Company's  ability to achieve and maintain positive cash flow depends upon a
variety of factors,  including the  timeliness  and success of the collection of
outstanding  accounts  receivable,  the creditworthiness of the distributors and
retailers that purchase the Company's products,  the successful  development and
sell-through of the Company's products,  the costs of developing,  producing and
marketing such products, and various other factors, some of which are beyond the
Company's  control.  In the  future,  the  Company  expects its cash and working
capital  requirements  to be  affected  by each of these  factors.  The  Company
believes  cash and  working  capital  balances  will be  sufficient  to fund the
Company's  operations  for the  foreseeable  future.  However,  there  can be no
assurances that the Company will be able to achieve and maintain a positive cash
flow or that additional  financing will be available if and when required or, if
available, will be on terms satisfactory to the Company.

In connection  with the Hasbro  litigation  that is described in Part II, Item 1
under  "Legal  Proceedings",  as of March 31,  2000,  the Company  had  incurred
approximately  $60,000 in legal  expenses in connection  with its defense of the
Company's  position in this matter.  The Company  expects to continue  incurring
similar costs for the  foreseeable  future as the Company  continues to actively
defend its  position in this  matter.  Such  ongoing  expenses  could impact the
Company's future liquidity and capital resources.

Risk Factors

The  Company's  business is subject to many risks and  uncertainties,  which may
affect its  future  financial  performance.  Some of those  important  risks and
uncertainties  which may cause the Company's  operating results to vary or which
may  materially  and  adversely  affect the Company's  operating  results are as
follows:

Early Stage  Company;  Consumer  Entertainment  Software  Business;  Maintaining
Profitability.  The  Company  commenced  operations  in July 1992.  The  Company
experienced  significant  losses from inception  through the end of fiscal 1997.
Fiscal 1998 was the first year that the Company  earned a profit.  After earning
$463,000 and $1,253,000 in fiscal 1999 and 1998,  respectively,  the accumulated
deficit for the Company at June 30, 1999 was approximately  $6,268,000.  For the
nine months ended March 31, 2000, the Company earned  $380,000 in net income and
the accumulated deficit was approximately $5,888,000.  Prior to fiscal 1998, the
Company's  operations were funded primarily  through proceeds from the Company's
initial public  offering of Common Stock in October 1995 and through the sale in
private  offerings of preferred stock and Common Stock warrants in November 1996
and in  January  and April  1997.  Subsequently,  the  Company  has  funded  its
activities mainly through income from operations. The Company's operations today
are still subject to all of the risks inherent in the  development of a recently
profitable business,  particularly in a highly competitive industry,  including,
but not  limited  to,  development,  distribution  and  marketing  difficulties,
competition and unanticipated  costs and expenses.  The Company's future success
will  depend  upon its  ability  to  increase  revenues  from  the  development,
marketing and  distribution  of its current and future  software  products.  The
development of multimedia software products, which can combine text, sound, high
quality graphics,  images and video, is difficult and time consuming,  requiring
the coordinated  participation of various technical and marketing  personnel and
outside developers. Other factors that could affect the Company's future success
include, but are not limited to, the ability of the Company to overcome problems
and delays in product  development,  market  acceptance of products,  successful
implementation  of its  sales,  distribution  and  marketing  strategy,  and the
outcome of the litigation  discussed under Part II, Item 1, "Legal Proceedings."
There can be no assurance  the Company will be  successful  in  maintaining  and
expanding a sustainable consumer entertainment software business.


<PAGE>


Risk Factors (continued)

Dependence On Distributors  And Retailers;  Risk Of Customer  Business  Failure;
Product  Returns.  Many of the largest  mass-market  retailers have  established
exclusive  buying  relationships  under which such  retailers  will buy consumer
entertainment  software only from certain distributors.  In such instances,  the
Company will not be able to sell its products to such  mass-market  retailers if
these   distributors  are  unwilling  to  distribute  the  Company's   products.
Additionally,  even if the  distributors  are willing to purchase the  Company's
products, the distributor is frequently able to dictate the price or other terms
on which the Company  sells to such  retailers,  or the Company may be unable to
sell to such retailers on terms that the Company deems acceptable. The inability
of the Company to negotiate commercially viable distribution  relationships with
these and other distributors,  or the loss of, or significant reduction in sales
attributable to, any of the Company's principal  distributors or retailers could
adversely  affect  the  Company's  business,  operating  results  and  financial
condition.

Distributors  and  retailers  in the  computer  industry  have from time to time
experienced  significant  fluctuations in their businesses and there have been a
number of business  failures  among these  entities.  The insolvency or business
failure of any  significant  retailer or distributor  of the Company's  products
could  have a  material  adverse  effect on the  Company's  business,  operating
results and financial condition.  Sales are typically made on credit, with terms
that vary depending upon the customer and the nature of the product. The Company
does not hold collateral to secure payment.

The  Company  has  a  non-exclusive  distribution  relationship  with  GT  Value
Products,  which is terminable  by either party at any time for any reason,  and
therefore  there can be no assurance  that GT Value  Products  will  continue to
distribute  the  Company's  products.  The  loss  of  GT  Value  Products  as  a
distributor or an inability to collect receivables from GT Value Products or any
other adverse change in the Company's  relationship with GT Value Products would
have a material  adverse effect on the Company's  business,  operating  results,
liquidity and financial condition.

The Company maintains allowances for uncollected receivables that it believes to
be adequate,  but the actual allowance maintained may not be sufficient in every
circumstance.  The failure to pay an  outstanding  receivable  by a  significant
customer or  distributor  could have a material  adverse effect on the Company's
business,  operating results and financial  condition.  Although the Company has
established  allowances for returns that it believes are adequate,  there can be
no assurance  that actual returns will not exceed such  allowances.  The Company
may  also  accept   substantial   product  returns  in  order  to  maintain  its
relationships  with  retailers  and its access to  distribution  channels.  As a
result of the Company's termination of its exclusive  distribution  relationship
with GT Value Products,  and its new  non-exclusive  distribution  relationships
with  other  distributors,  including  GT Value  Products,  the  Company  is now
increasingly  exposed to the risk of product  returns from these  retailers  and
distributors.  Product returns that exceed the Company's allowances could have a
material  adverse  effect  on the  Company's  business,  operating  results  and
financial condition.

Highly  Competitive  Market;   Pricing  Concerns;   Rapidly  Changing  Marketing
Environment;  Competition  for Retail  Shelf  Space.  The  market  for  consumer
entertainment  software is highly competitive,  particularly at the retail shelf
level where a rapidly increasing number of software titles are competing for the
same  amount of shelf  space.  Retailers  have a limited  amount of shelf  space
relative to the number of consumer entertainment software products competing for
that space. Therefore, there is intense competition among consumer entertainment
software  publishers for adequate levels of shelf space and promotional  support
from  retailers.  As the number of software  titles  continues to increase,  the
competition  for shelf  space  continues  to  intensify,  resulting  in  greater
leverage for retailers and distributors in negotiating terms of sale,  including
price discounts and product return policies.  The Company's products represent a
relatively small percentage of any retailer's sales volume,  and there can be no
assurance  that  retailers  will continue to purchase the Company's  products or
promote  the  Company's  products  with  adequate  levels  of  shelf  space  and
promotional  support.  Most  of the  Company's  competitors  have  substantially
greater sales,  marketing,  development and financial resources.  Moreover,  the
Company's present or future  competitors may be able to develop products,  which
are  comparable or superior to those offered by the Company,  offer lower priced
products or adapt more quickly than the Company to new  technologies or evolving
customer requirements. The Company's competitors may


<PAGE>


Risk Factors (continued)

also have more money to spend on marketing  promotions and advertising  efforts.
Competition  is expected to intensify.  In order to be successful in the future,
the Company must respond to  technological  change,  customer  requirements  and
competitors'  current products and  innovations.  There can be no assurance that
the Company  will be able to continue  to compete  effectively  in its market or
that future  competition will not have a material adverse effect on its business
operating results and financial condition.

Need for Additional Funds. The Company's future capital requirements will depend
on many  factors,  but  particularly  on cash flow from  sales of the  Company's
products.  If the Company is not able to maintain cash flow from operations at a
level sufficient to support  continued  growth of its business,  the Company may
require  additional  funds  to  sustain  and  expand  its  product  development,
marketing and sales  activities.  Adequate  funds for these  purposes may not be
available  or may be available  only on terms that would  result in  significant
dilution or otherwise be unfavorable to existing stockholders. If the Company is
unable to  secure  additional  funding,  or if the  Company  is unable to obtain
adequate  funds from  operations or other external  sources when  required,  the
Company's  inability  to do so  would  have a  material  adverse  effect  on the
long-term viability of the Company.

Possible Inadequacy of Protection of Trade Names; Software Technology; and Other
Proprietary  Rights.  The Company  either owns or has  obtained  licenses to the
rights to copyrights on the products,  manuals,  advertising and other materials
owned by it. The Company also either owns trademark  rights or is in the process
of applying for such rights in the Company's name and logo, and the names of the
products owned or licensed by the Company. The Company's success depends in part
on its ability to protect its proprietary rights to the trademarks,  trade names
and content used in its principal products.  The Company relies on a combination
of  copyrights,   trademarks,  trade  secrets,  confidentiality  procedures  and
contractual  provisions  to  protect  its  proprietary  rights.  There can be no
assurance that the Company's  existing or future copyrights,  trademarks,  trade
secrets or other  intellectual  property  rights will be of sufficient  scope or
strength  to  provide  meaningful  protection  or  commercial  advantage  to the
Company. Also, in selling certain of its products, the Company relies on "shrink
wrap"  licenses  that  are  not  signed  by  licensees  and,  therefore,  may be
unenforceable under the laws of certain jurisdictions.  In addition, the laws of
some foreign  countries do not protect the Company's  proprietary  rights, as do
the laws of the United States. There can be no assurance that such factors would
not have a  material  adverse  effect on the  Company's  business  or  operating
results.

The Company may from time to time be notified  that it is  infringing on certain
patent or  intellectual  property  rights of  others.  Combinations  of  content
acquired  through past or future  acquisitions  and content  licensed from third
party  developers  will create new products and technology that may give rise to
claims of  infringement.  The Company has recently  been sued for  trademark and
copyright  infringement by Hasbro  Interactive,  Inc. (the "Hasbro Action") (See
Part II, Item 1, "Legal Proceedings"). The Company intends to defend this action
vigorously.  There can be no assurance  that  additional  third parties will not
initiate  infringement  actions  against the  Company in the future.  The Hasbro
Action, as well as any other future claims,  could result in substantial cost to
and  diversion  of  resources  of the  Company.  If the  Company  is found to be
infringing  the rights of others,  no assurance can be given that licenses would
be obtainable on acceptable terms or at all, that  significant  damages for past
infringement would not be assessed,  or that further litigation  relative to any
such licenses or usage would not occur. The failure to obtain necessary licenses
or other  rights,  or the advent of  litigation  arising out of any such claims,
could have a material adverse effect on the Company's operating results.

Fluctuations  in Quarterly  Results;  Uncertainty of Future  Operating  Results;
Seasonality. The Company's quarterly operating results have varied significantly
in the past and will  likely  vary  significantly  in the  future  depending  on
numerous  factors,  many of which are not under the  Company's  control.  Future
operating results will depend upon many factors including:  the size and rate of
growth  of the  consumer  entertainment  software  market;  the  demand  for the
Company's  products;  the level of product and price  competition;  the level of
product  returns;  the  length of the  Company's  sales  cycle;  seasonality  of
individual customer buying patterns; the timing of new product introductions and
product  enhancements by the Company and its  competitors;  the timing of orders
from major  customers;  delays in shipment of products;  access to  distribution
channels;  product  defects and other  quality  problems;  product  life cycles;




<PAGE>


Risk Factors (continued)

levels of international  sales;  changes in foreign currency exchange rates; and
the ability of the Company to develop and market new products and control costs.
Products are usually shipped as orders are received so the Company operates with
little or no backlog.  Therefore,  net revenues in any quarter are  dependent on
orders booked and shipped during that quarter.

The consumer  entertainment software industry is somewhat seasonal due primarily
to  holiday  shopping  and  back-to-school  buying  patterns.   Accordingly,  in
descending  order, the calendar  fourth,  first and third quarters are typically
the  strongest  quarters for sales  results,  with the calendar  second  quarter
typically the weakest.

Therefore,  net sales and  operating  results  for any  future  quarter  are not
predictable with any significant degree of accuracy.  Consequently,  the Company
believes that  period-to-period  comparisons  of its  operating  results are not
necessarily  meaningful  and should not be relied upon as  indications of future
performance.

Uncertainty  of Market  Acceptance;  Short  Product Life Cycles.  The market for
consumer  entertainment  software has been  characterized  by shifts in consumer
preferences   and  short   product  life  cycles.   Consumer   preferences   for
entertainment  software  products  are  difficult  to predict  and few  products
achieve sustained market acceptance. There can be no assurance that new products
introduced  by the  Company  will  achieve  any  significant  degree  of  market
acceptance,  that such acceptance will be sustained for any significant  period,
or that product life cycles will be  sufficient to permit the Company to recover
development,  marketing  and other  associated  costs.  In  addition,  if market
acceptance  is not achieved,  the Company could be forced to accept  substantial
product returns to maintain its  relationships  with  distributors and retailers
and its access to distribution  channels.  Failure of new products to achieve or
sustain  market  acceptance  or  product  returns  in  excess  of the  Company's
expectations  would have a material  adverse  effect on the Company's  business,
operating results and financial condition.

Rapid  Technological   Change;   Product   Development.   Frequent  new  product
introductions  and  enhancements,  rapid  technological  developments,  evolving
industry standards and swift changes in customer  requirements  characterize the
market for the Company's products.  The Company's continued success depends upon
its ability to continue to quickly and  efficiently  develop and  introduce  new
products and enhance existing products to incorporate technological advances and
responses  to  customer  requirements.  If  any  of  the  Company's  competitors
introduce  products more quickly than the Company,  or if they introduce  better
products,  the Company's business could be adversely  affected.  There can be no
assurance  that the Company will be successful  in developing  and marketing new
products or enhancements to its existing  products on a timely basis or that any
new or enhanced  products  will  adequately  address the  changing  needs of the
marketplace.  From time to time, the Company or its competitors may announce new
products,  capabilities  or  technologies  that have the potential to replace or
shorten  the life cycles of the  Company's  existing  products.  There can be no
assurance  that  announcements  of  currently  planned or other new  products by
competitors  will not cause  customers  to delay their  purchasing  decisions in
anticipation of such products, which could have a material adverse effect on the
Company's business, liquidity and operating results.

Risk of Defects.  Products offered by the Company can contain errors or defects.
The PC hardware  environment is  characterized by a wide variety of non-standard
peripherals,  such as sound and graphics  cards,  and  configurations  that make
pre-release  testing for  programming  or  compatibility  errors  difficult  and
time-consuming. Despite the extensive testing performed by the Company's quality
assurance  personnel,  new  products or releases may contain  errors  discovered
after  shipments  have  commenced,  resulting  in a loss of or delay  in  market
acceptance,  which  could  have a  material  adverse  effect  on  the  Company's
business, operating results and financial condition.

Dependence on Key  Management  and Technical  Personnel.  The Company's  success
depends to a  significant  degree upon the  continued  contributions  of its key
management, marketing, technical and operational personnel, including members of
senior  management.  The loss of the services of one or more key employees could
have a material adverse effect on the Company's  operating results.  The Company
also  believes its future  success will depend in large part upon its ability to


<PAGE>


Risk Factors (continued)

attract and retain additional highly skilled management,  technical,  marketing,
product development and operational personnel. Competition for such personnel is
intense,  and there can be no assurance  that the Company will be  successful in
attracting and retaining such personnel.

International  Sales.  For the nine months ended March 31,  2000,  international
sales  represented 20% of net sales as compared to 25% of net sales for the nine
months ended March 31, 1999. The Company expects international sales to continue
to comprise a  significant  percentage  of the  Company's  sales.  The Company's
international business is subject to certain risks including: varying regulatory
requirements;  tariffs and trade barriers;  political and economic  instability;
reduced  protection  for  intellectual  property  rights in  certain  countries;
difficulties in supporting foreign  customers;  difficulties in managing foreign
distributors; potentially adverse tax consequences; the burden of complying with
a wide variety of complex  operations;  customs,  foreign laws,  regulations and
treaties;  fluctuating currency valuations;  and the possibility of difficulties
in collecting accounts receivable.

Stock Price  Volatility.  The Company  believes  that a variety of factors could
cause the price of its Common Stock to fluctuate, perhaps substantially,  over a
short  period of time  including:  quarter to quarter  variations  in  operating
results; announcements of developments related to its business;  fluctuations in
its order levels;  general  conditions in the technology sector or the worldwide
economy;  announcements  of technological  innovations,  new products or product
enhancements  by the Company or its  competitors;  key management  changes;  and
developments in the Company's relationships with its customers, distributors and
suppliers.  In addition,  in recent  years the stock market in general,  and the
market for shares of software,  high technology stocks,  micro-cap and small cap
stocks in particular,  has  experienced  extreme price  fluctuations  which have
often been unrelated to the operating  performance of affected  companies.  Such
fluctuations  could  adversely  affect the market price of the Company's  Common
Stock.

Listing of Securities;  Risk of Low Priced Stocks. The Company's Common Stock is
listed on the Nasdaq SmallCap Market under the symbol EGAM. A listed company may
be de-listed if it fails to maintain  minimum  levels of  Stockholders'  equity,
shares publicly held, number of Stockholders or aggregate market value, or if it
violates other aspects of its listing agreement.  At March 31, 2000, the Company
satisfied  the  minimum  level of  Stockholders'  equity  that is required to be
listed ($2,000,000) and all other aspects of its listing agreement.

If the Company fails to maintain the criteria for trading on the Nasdaq SmallCap
Market,  its  Common  Stock may be  de-listed.  Public  trading,  if any,  would
thereafter be conducted in the  over-the-counter  market in the so-called  "pink
sheets," or on the NASD's "Electronic  Bulletin Board." If the Common Stock were
de-listed,  it may be more difficult to dispose of, or even to obtain quotations
as to the price of, the Common Stock and the price  offered for the Common Stock
may be substantially reduced.

In  addition,  if the  Common  Stock is  de-listed  from  trading  on the Nasdaq
SmallCap  Market,  and the trading  price of the Common Stock is less than $5.00
per share,  or the  Company  has less than $2 million  in net  tangible  assets,
trading in the Common Stock would be subject to the  requirements  of Rule 15g-9
promulgated under the Securities Exchange Act of 1934, as amended (the "Exchange
Act"). Under this rule,  broker/dealers who recommend such securities to persons
other  than   established   customers  and   accredited   investors   (generally
institutions with assets in excess of $5 million or individuals with a net worth
in excess of $1 million  or an annual  income  exceeding  $200,000  or  $300,000
jointly  with  their   spouses)   must  make  a  special   written   suitability
determination for the purchaser and receive the purchaser's written agreement to
a transaction prior to sale. The requirements of Rule 15g-9, if applicable,  may
affect the ability of  broker/dealers  to sell the Company's  securities and may
also  affect the ability of  purchasers  to sell their  shares in the  secondary
market. The Securities  Enforcement  Remedies and Penny Stock Reform Act of 1990
(the "Penny Stock Rule") also requires additional  disclosure in connection with
any trades  involving  a stock  defined as penny  stock (any  non-Nasdaq  equity
security that has a market price or exercise  price of less than $5.00 per share
and less than $2 million in net tangible assets, subject to certain exceptions).
Unless  exempt,  the  rules  require  the  delivery,  prior  to any  transaction
involving a penny stock, of a disclosure schedule prepared by the SEC explaining
important  concepts involving the penny stock market, the nature of such market,
terms  used in such  market,  the  broker/dealer's  duties  to the  customer,  a
toll-free telephone number for inquiries about the broker/dealer's


<PAGE>


Risk Factors (continued)

disciplinary  history and the customer's rights and remedies in case of fraud or
abuse in the sale.  Disclosure  must also be made about  commissions  payable to
both the broker/dealer and the registered representative, and current quotations
for the securities.  Finally,  monthly statements must be sent disclosing recent
price information for the penny stock held in the account and information on the
limited market in penny stocks.

Part II. Other Information

Item 1.  Legal Proceedings

On February 9, 2000, Hasbro Interactive,  Inc., Atari Interactive, Inc., and Zao
Elorg d/b/a Elorg Corporation (collectively, the "Plaintiffs") filed suit in the
United  States  District  Court for the  District of  Massachusetts  against the
Company and Xtreme Games LLC, GT Interactive Software Corporation, MVP Software,
Inc., Webfoot Technologies,  Inc. and Varcon Systems, Inc. The suit alleges that
certain of the Company's  products  infringe  copyrights and trademarks owned by
the  Plaintiffs,  and also  alleges  that the  Company  has  engaged  in  unfair
competition.  The suit seeks to have the Company  enjoined  from  manufacturing,
marketing, distributing and selling the Company's allegedly infringing games and
from using the allegedly infringing  trademarks;  to have the Company recall the
allegedly  infringing  products and related  materials from the distributors and
retailers  currently  selling these products;  to require the Company to pay the
Plaintiffs the profits derived from the allegedly infringing  products;  and the
award of Plaintiffs'  legal fees and costs.  The Company  intends to defend this
action vigorously.

Item 6.  Exhibits and Reports on Form 8-K

(a) Exhibits

      Exhibit No.                       Description of Exhibit
      -----------                       ---------------------------

       27.1                             Financial Data Schedule


(b) Reports on Form 8-K

On April 27,  2000,  the  Company  filed a report on Form 8-K  regarding a press
release  announcing the Company's  anticipated  unaudited  results for the third
quarter and nine months ended March 31, 2000.

On May 2, 2000, the Company filed a report on Form 8-K regarding a press release
announcing the Company's unaudited results for the third quarter and nine months
ended March 31, 2000.




<PAGE>


                                   SIGNATURES



In accordance with the  requirements of the Exchange Act, the registrant  caused
this  report to be  signed on its  behalf  by the  undersigned,  thereunto  duly
authorized.



                                        eGames, Inc.
                                        (Registrant)




Date: May 15, 2000                      /s/  Gerald W. Klein
      ------------                      --------------------
                                        Gerald W. Klein, President, Chief
                                        Executive Officer and Director


Date: May 15, 2000                      /s/ Thomas W. Murphy
      ------------                      --------------------
                                        Thomas W. Murphy, Chief Financial
                                        Officer and Chief Accounting Officer



<PAGE>



                                  Exhibit Index



    Exhibit No.              Description of Exhibit               Page Number
    -----------              ----------------------               -----------

       27.1                  Financial Data Schedule                   23