##### Table of Contents









UNITED STATES

SECURITIES AND EXCHANGE COMMISSION


Washington, DC 20549




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FORM 10-Q



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(Mark One)



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

For the quarterly period ended
February 28, 2002

OR



| |   |                                                                                          
| | - | -----------------------------------------------------------------------------------------
| | o | TRANSITION REPORT PURSUANT TO SECTION 13 OR
	15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from

to
.

Commission File Number: 0-26880

VERITY, INC.

(Exact name of registrant as specified in its
charter)


|                                                                |  |                                      
|--------------------------------------------------------------- |  | -------------------------------------
|Delaware                                                        |  | 77-0182779                           
|(State or other jurisdiction of
	incorporation or organization) |  | (I.R.S. Employer
	Identification No.)

894 Ross Drive

Sunnyvale, California 94089


(408) 541-1500


(Address and telephone number of principal
executive offices)


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

Yes þ     No o

The number of shares outstanding of the
Registrants Common Stock, $0.001 par value, was 35,669,578
as of March 31, 2002.



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TABLE OF CONTENTS



|                             |                                                                                              |                                                      |  |  |  |  |  | 
|---------------------------- | -------------------------------------------------------------------------------------------- | ---------------------------------------------------- |  |  |  |  |  | 
|PART I.FINANCIAL INFORMATION
|                             | Item 1.Financial Statements                                                                 
|                             |                                                                                              | CONDENSED CONSOLIDATED BALANCE SHEETS               
|                             |                                                                                              | CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS     
|                             |                                                                                              | CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS     
|                             |                                                                                              | NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
|                             | Item 2.Managements Discussion and Analysis of Financial Condition and Results of Operations
|RISK FACTORS                
|                             | Item 3.Quantitative and Qualitative Disclosures About Market Risk                           
|PART II.OTHER INFORMATION   
|                             | Item 1.Legal Proceedings                                                                    
|                             | Item 2.Changes in Securities and Use of Proceeds                                            
|                             | Item 3.Defaults upon Senior Securities                                                      
|                             | Item 4.Submission of Matters to a Vote of Security Holders                                  
|                             | Item 5.Other Information                                                                    
|                             | Item 6.Exhibits and Reports on Form 8-K                                                     
|SIGNATURE                   



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##### Table of Contents



VERITY, INC.

FORM 10-Q

TABLE OF CONTENTS

|                              |  |                                                                                                                                                                                         |    |      |    | 
|----------------------------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -- | ---- | -- | 
|                              |  |                                                                                                                                                                                         |    | Page
|                              |  |                                                                                                                                                                                         |    |     
|PART I. FINANCIAL INFORMATION
|Item 1.                       |  | Financial Statements (unaudited)                                                                                                                                                        |    |      |    | 
|                              |  | Condensed Consolidated Balance Sheets as of
	February 28, 2002 and May 31, 2001                                                                                                         |    |      | 3  | 
|                              |  | Condensed Consolidated Statements of Operations
	for the Three Months Ended February 28, 2002 and
	February 28, 2001 and the Nine Months Ended
	February 28, 2002 and February 28, 2001 |    |      | 4  | 
|                              |  | Condensed Consolidated Statements of Cash Flows
	for the Nine Months Ended February 28, 2002 and
	February 28, 2001                                                                     |    |      | 5  | 
|                              |  | Notes to Condensed Consolidated Financial
	Statements                                                                                                                                   |    |      | 6  | 
|Item 2.                       |  | Managements Discussion and Analysis of
	Financial Condition and Results of Operations                                                                                                  |    |      | 10 | 
|Item 3.                       |  | Quantitative and Qualitative Disclosures About
	Market Risk                                                                                                                             |    |      | 28 | 
|PART II. OTHER INFORMATION   
|Item 1.                       |  | Legal Proceedings                                                                                                                                                                       |    |      | 29 | 
|Item 2.                       |  | Changes in Securities and Use of Proceeds                                                                                                                                               |    |      | 29 | 
|Item 3.                       |  | Defaults upon Senior Securities                                                                                                                                                         |    |      | 29 | 
|Item 4.                       |  | Submission of Matters to a Vote of Security
	Holders                                                                                                                                    |    |      | 29 | 
|Item 5.                       |  | Other Information                                                                                                                                                                       |    |      | 29 | 
|Item 6.                       |  | Exhibits and Reports on Form 8-K                                                                                                                                                        |    |      | 29 | 
|Signature                     |  |                                                                                                                                                                                         | 30 |     

2



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##### Table of Contents






PART I. FINANCIAL INFORMATION




Item 1. Financial
Statements

VERITY, INC.






CONDENSED CONSOLIDATED BALANCE
SHEETS


(In thousands, except share and per share
data)


ASSETS

|                                |                                                                                                               |                                            |         |         |         |  |         |         |         | 
|------------------------------- | ------------------------------------------------------------------------------------------------------------- | ------------------------------------------ | ------- | ------- | ------- |  | ------- | ------- | ------- | 
|                                |                                                                                                               | February 28,                               |         | May 31,
|                                |                                                                                                               | 2002                                       |         | 2001   
|                                |                                                                                                               |                                            |         |        
|                                |                                                                                                               |                                           
|                                |                                                                                                               | (unaudited)                               
|Current assets:                 |                                                                                                               |                                            |         |         |         |  |         |        
|                                | Cash and cash equivalents                                                                                     |                                            | $       | 17,158  |         |  | $       | 12,210  |        
|                                | Short-term investments                                                                                        |                                            |         | 115,240 |         |  |         | 126,687 |        
|                                | Trade accounts receivable, net                                                                                |                                            |         | 19,195  |         |  |         | 37,741  |        
|                                | Deferred tax assets                                                                                           |                                            |         | 14,067  |         |  |         | 20,121  |        
|                                | Prepaid and other                                                                                             |                                            |         | 6,158   |         |  |         | 6,788   |        
|                                |                                                                                                               |                                            |         |         |         |  |         |        
|                                |                                                                                                               | Total current assets                       |         |         | 171,818 |  |         |         | 203,547 | 
|Property and equipment, net     |                                                                                                               |                                            | 7,176   |         |         |  | 7,804   |        
|Long-term investments           |                                                                                                               |                                            | 110,761 |         |         |  | 92,248  |        
|Deferred tax assets             |                                                                                                               |                                            | 7,311   |         |         |  |        |        
|                                |                                                                                                               |                                            |         |         |         |  |         |        
|                                |                                                                                                               | Total assets                               |         | $       | 297,066 |  |         | $       | 303,599 | 
|                                |                                                                                                               |                                            |         |         |         |  |         |        
|LIABILITIES                    
|Current liabilities:            |                                                                                                               |                                            |         |         |         |  |         |        
|                                | Accounts payable                                                                                              |                                            | $       | 7,102   |         |  | $       | 6,790   |        
|                                | Accrued compensation                                                                                          |                                            |         | 11,125  |         |  |         | 11,799  |        
|                                | Other accrued liabilities                                                                                     |                                            |         | 2,317   |         |  |         | 3,793   |        
|                                | Deferred revenue                                                                                              |                                            |         | 12,694  |         |  |         | 17,073  |        
|                                |                                                                                                               |                                            |         |         |         |  |         |        
|                                |                                                                                                               | Total current liabilities                  |         |         | 33,238  |  |         |         | 39,455  | 
|                                |                                                                                                               |                                            |         |         |         |  |         |        
|Contingencies (Note 5)          |                                                                                                               |                                            |         |         |         |  |         |        
|STOCKHOLDERS EQUITY           
|Common stock, $0.001 par value: |                                                                                                               |                                            |         |         |         |  |         |        
|                                | Authorized: 200,000,000 shares                                                                                |                                            |         |         |         |  |         |         |        
|                                | Issued and outstanding: 35,733,000 shares as of
	February 28, 2002; and 35,158,000 shares as of May 31,
	2001 |                                            |         | 36      |         |  |         | 35      |        
|Additional paid-in capital      |                                                                                                               |                                            | 253,800 |         |         |  | 252,733 |        
|Other comprehensive income      |                                                                                                               |                                            | 1,321   |         |         |  | 652     |        
|Retained earnings               |                                                                                                               |                                            | 8,671   |         |         |  | 10,724  |        
|                                |                                                                                                               |                                            |         |         |         |  |         |        
|                                |                                                                                                               | Total stockholders equity                 |         |         | 263,828 |  |         |         | 264,144 | 
|                                |                                                                                                               |                                            |         |         |         |  |         |        
|                                |                                                                                                               | Total liabilities and stockholders equity |         | $       | 297,066 |  |         | $       | 303,599 | 
|                                |                                                                                                               |                                            |         |         |         |  |         |        

The accompanying notes are an integral part of
these condensed consolidated financial statements.

3



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##### Table of Contents



VERITY, INC.






CONDENSED CONSOLIDATED STATEMENTS OF
OPERATIONS


(In thousands, except per share
data)


|                                                 |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |        |         | 
|------------------------------------------------ | -------------------------- | ------------------------ | ------ | ----------------- | ------ | ------------ | ------ | ------------ | ------ | - | ------- | ------ | ------ | - | ------ | ------ | ------- | 
|                                                 |                            |                          |        |                  
|                                                 |                            | Three Months Ended       |        | Nine Months Ended
|                                                 |                            |                          |        |                  
|                                                 |                            | February 28,             |        | February 28,      |        | February 28, |        | February 28,
|                                                 |                            | 2002                     |        | 2001              |        | 2002         |        | 2001        
|                                                 |                            |                          |        |                   |        |              |        |             
|                                                 |                            |                          |        |                  
|                                                 |                            | (unaudited)              |        | (unaudited)      
|Revenues:                                        |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|                                                 | Software products          |                          | $      | 15,968            |        |              | $      | 28,722       |        |   | $       | 39,509 |        |   | $      | 77,078 |        
|                                                 | Service and other          |                          |        | 9,077             |        |              |        | 9,293        |        |   |         | 28,201 |        |   |        | 26,747 |        
|                                                 |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|                                                 |                            | Total revenues           |        |                   | 25,045 |              |        |              | 38,015 |   |         |        | 67,710 |   |        |        | 103,825 | 
|                                                 |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|Costs of revenues:                               |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|                                                 | Software products          |                          |        | 659               |        |              |        | 378          |        |   |         | 1,845  |        |   |        | 1,110  |        
|                                                 | Service and other          |                          |        | 2,606             |        |              |        | 3,074        |        |   |         | 8,409  |        |   |        | 8,610  |        
|                                                 |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|                                                 |                            | Total costs of revenues  |        |                   | 3,265  |              |        |              | 3,452  |   |         |        | 10,254 |   |        |        | 9,720   | 
|                                                 |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|Gross profit                                     |                            |                          | 21,780 |                   |        |              | 34,563 |              |        |   | 57,456  |        |        |   | 94,105 |       
|                                                 |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|Operating expenses:                              |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|                                                 | Research and development   |                          |        | 5,819             |        |              |        | 5,849        |        |   |         | 17,710 |        |   |        | 15,261 |        
|                                                 | Marketing and sales        |                          |        | 11,461            |        |              |        | 14,733       |        |   |         | 39,455 |        |   |        | 40,557 |        
|                                                 | General and administrative |                          |        | 3,052             |        |              |        | 2,949        |        |   |         | 8,793  |        |   |        | 7,649  |        
|                                                 | Restructuring charge       |                          |        |                  |        |              |        |             |        |   |         | 1,563  |        |   |        |       |        
|                                                 | Charitable contribution    |                          |        |                  |        |              |        |             |        |   |         | 1,000  |        |   |        |       |        
|                                                 |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|                                                 |                            | Total operating expenses |        |                   | 20,332 |              |        |              | 23,531 |   |         |        | 68,521 |   |        |        | 63,467  | 
|                                                 |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|Income (loss) from operations                    |                            |                          | 1,448  |                   |        |              | 11,032 |              |        |   | (11,065 | )      |        |   | 30,638 |       
|Other income, net                                |                            |                          | 2,255  |                   |        |              | 3,417  |              |        |   | 7,754   |        |        |   | 8,522  |       
|                                                 |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|Income (loss) before provision for income
	taxes |                            |                          | 3,703  |                   |        |              | 14,449 |              |        |   | (3,311  | )      |        |   | 39,160 |       
|Provision for (benefit from) income taxes        |                            |                          | 1,407  |                   |        |              | 5,274  |              |        |   | (1,258  | )      |        |   | 14,590 |       
|                                                 |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|Net income (loss)                                |                            | $                        | 2,296  |                   |        | $            | 9,175  |              |        | $ | (2,053  | )      |        | $ | 24,570 |       
|                                                 |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|                                                
|Net income (loss) per share  basic              |                            | $                        | 0.06   |                   |        | $            | 0.27   |              |        | $ | (0.06   | )      |        | $ | 0.74   |       
|                                                 |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|Net income (loss) per share 
	diluted           |                            | $                        | 0.06   |                   |        | $            | 0.25   |              |        | $ | (0.06   | )      |        | $ | 0.67   |       
|                                                 |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|                                                
|Number of shares  basic                         |                            |                          | 35,378 |                   |        |              | 33,948 |              |        |   | 35,300  |        |        |   | 33,255 |       
|                                                 |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       
|Number of shares  diluted                       |                            |                          | 38,277 |                   |        |              | 37,000 |              |        |   | 35,300  |        |        |   | 36,587 |       
|                                                 |                            |                          |        |                   |        |              |        |              |        |   |         |        |        |   |        |       

The accompanying notes are an integral part of
these condensed consolidated financial statements.

4



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##### Table of Contents



VERITY, INC.






CONDENSED CONSOLIDATED STATEMENTS OF CASH
FLOWS


(In thousands)


|                                               |                                                                                           |                                                    |                                           |              |        |        |        |          |         |         |  
|---------------------------------------------- | ----------------------------------------------------------------------------------------- | -------------------------------------------------- | ----------------------------------------- | ------------ | ------ | ------ | ------ | -------- | ------- | ------- | -
|                                               |                                                                                           |                                                   
|                                               |                                                                                           | Nine Months Ended                                 
|                                               |                                                                                           |                                                   
|                                               |                                                                                           | February 28,                                       |                                           | February 28,
|                                               |                                                                                           | 2002                                               |                                           | 2001        
|                                               |                                                                                           |                                                    |                                           |             
|                                               |                                                                                           |                                                   
|                                               |                                                                                           | (unaudited)                                       
|Cash flows from operating
	activities:         |                                                                                           |                                                    |                                           |              |        |        |        |         
|                                               | Net income (loss)                                                                         |                                                    | $                                         | (2,053       | )      |        | $      | 24,570   |        
|                                               | Adjustments to reconcile net income
	(loss) to net cash provided by operating activities: |                                                    |                                           |              |        |        |        |          |        
|                                               |                                                                                           | Depreciation and amortization                      |                                           |              | 3,293  |        |        |          | 1,974   |        
|                                               |                                                                                           | Deferred income taxes                              |                                           |              | (1,257 | )      |        |          | 13,117  |        
|                                               |                                                                                           | Provision for doubtful accounts                    |                                           |              | 100    |        |        |          | 198     |        
|                                               |                                                                                           | Amortization of discount on securities             |                                           |              | (300   | )      |        |          | (1,041  | )      
|                                               | Changes in operating assets and liabilities:                                              |                                                    |                                           |              |        |        |        |          |        
|                                               |                                                                                           | Trade accounts receivable                          |                                           |              | 18,446 |        |        |          | (12,148 | )      
|                                               |                                                                                           | Prepaid and other current assets                   |                                           |              | 628    |        |        |          | (2,765  | )      
|                                               |                                                                                           | Accounts payable                                   |                                           |              | 308    |        |        |          | 1,936   |        
|                                               |                                                                                           | Accrued compensation and other accrued liabilities |                                           |              | (2,151 | )      |        |          | 6,318   |        
|                                               |                                                                                           | Deferred revenue                                   |                                           |              | (4,378 | )      |        |          | 3,287   |        
|                                               |                                                                                           |                                                    |                                           |              |        |        |        |         
|                                               |                                                                                           |                                                    | Net cash provided by operating activities |              |        | 12,636 |        |          |         | 35,446  |  
|                                               |                                                                                           |                                                    |                                           |              |        |        |        |         
|Cash flows from investing
	activities:         |                                                                                           |                                                    |                                           |              |        |        |        |         
|                                               | Acquisition of property and equipment                                                     |                                                    |                                           | (2,665       | )      |        |        | (4,313   | )      
|                                               | Purchases of marketable securities                                                        |                                                    |                                           | (413,787     | )      |        |        | (406,702 | )      
|                                               | Maturity of marketable securities                                                         |                                                    |                                           | 248,477      |        |        |        | 211,477  |        
|                                               | Proceeds from sale of marketable securities                                               |                                                    |                                           | 159,673      |        |        |        | 146,071  |        
|                                               |                                                                                           |                                                    |                                           |              |        |        |        |         
|                                               |                                                                                           |                                                    | Net cash used in investing activities     |              |        | (8,302 | )      |          |         | (53,467 | )
|                                               |                                                                                           |                                                    |                                           |              |        |        |        |         
|Cash flows from financing
	activities:         |                                                                                           |                                                    |                                           |              |        |        |        |         
|                                               | Proceeds from the sale of common stock, net                                               |                                                    |                                           | 13,304       |        |        |        | 23,987   |        
|                                               | Repurchase of common stock                                                                |                                                    |                                           | (12,236      | )      |        |        |         |        
|                                               |                                                                                           |                                                    |                                           |              |        |        |        |         
|                                               |                                                                                           |                                                    | Net cash provided by financing activities |              |        | 1,068  |        |          |         | 23,987  |  
|                                               |                                                                                           |                                                    |                                           |              |        |        |        |         
|Effect of exchange rate changes on cash        |                                                                                           |                                                    | (454                                      | )            |        |        | (509   | )       
|                                               |                                                                                           |                                                    |                                           |              |        |        |        |         
|                                               |                                                                                           |                                                    | Net increase in cash and cash equivalents |              |        | 4,948  |        |          |         | 5,457   |  
|Cash and cash equivalents, beginning of period |                                                                                           |                                                    | 12,210                                    |              |        |        | 7,183  |         
|                                               |                                                                                           |                                                    |                                           |              |        |        |        |         
|Cash and cash equivalents, end of period       |                                                                                           | $                                                  | 17,158                                    |              |        | $      | 12,640 |         
|                                               |                                                                                           |                                                    |                                           |              |        |        |        |         

The accompanying notes are an integral part of
these condensed consolidated financial statements.

5



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##### Table of Contents



VERITY, INC.






NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS


(Information as of February 28, 2002 and
for the three and nine months ended


February 28, 2002 and 2001 and thereafter
is unaudited)


1. Interim Financial Data
(Unaudited)

The unaudited condensed consolidated financial
statements for Verity, Inc. (the Company or
Verity) as of February 28, 2002 and for the
three and nine months ended February 28, 2002 and 2001 have
been prepared on the same basis as the Companys audited
financial statements and, in the opinion of management, include
all material adjustments, consisting of normal recurring
adjustments, necessary for a fair presentation of the financial
position and results of operations in accordance with generally
accepted accounting principles. Although certain information and
footnote disclosures normally included in financial statements
prepared in accordance with generally accepted accounting
principles have been omitted pursuant to the rules and
regulations of the Securities and Exchange Commission, the
Company believes the disclosures made are adequate to make the
information presented not misleading. The accompanying financial
statements should be read in conjunction with the Companys
annual financial statements contained in the Companys
Annual Report on Form 10-K for the year ended May 31,
2001.

The Companys balance sheet as of
May 31, 2001 was derived from the Companys audited
financial statements, but does not include all disclosures
necessary for the presentation to be in accordance with
generally accepted accounting principles.

2. Computation of Net Income (Loss) and
Net Income (Loss) Per Share

Basic earnings per share are computed using the
weighted average number of common shares outstanding during the
period. Diluted earnings per share are computed using the
weighted average number of common and common equivalent shares
outstanding during the period. Dilutive common equivalent shares
consist of stock options. All common equivalent shares have been
excluded from the computation of diluted net loss per share for
the nine months ended February 28, 2002 because the effect would
be anti-dilutive.

Basic and diluted net income (loss) per
share are calculated as follows for the three and nine months
ended February 28, 2002 and 2001 (in thousands, except per
share data):

|         |                                             |                    |   |                   |  |      |   |        |  |  |   |        |   |  |   |        | 
|-------- | ------------------------------------------- | ------------------ | - | ----------------- |  | ---- | - | ------ |  |  | - | ------ | - |  | - | ------ | 
|         |                                             |                    |   |                  
|         |                                             | Three Months Ended |   | Nine Months Ended
|         |                                             | February 28,       |   | February 28,     
|         |                                             |                    |   |                  
|         |                                             | 2002               |   | 2001              |  | 2002 |   | 2001  
|         |                                             |                    |   |                   |  |      |   |       
|Basic:   |                                             |                    |   |                   |  |      |   |        |  |  |   |        |   |  |   |       
|         | Weighted-average shares                     |                    |   | 35,378            |  |      |   | 33,948 |  |  |   | 35,300 |   |  |   | 33,255 | 
|         |                                             |                    |   |                   |  |      |   |        |  |  |   |        |   |  |   |       
|         | Net income (loss)                           |                    | $ | 2,296             |  |      | $ | 9,175  |  |  | $ | (2,053 | ) |  | $ | 24,570 | 
|         |                                             |                    |   |                   |  |      |   |        |  |  |   |        |   |  |   |       
|         | Net income (loss) per share                 |                    | $ | 0.06              |  |      | $ | 0.27   |  |  | $ | (0.06  | ) |  | $ | 0.74   | 
|         |                                             |                    |   |                   |  |      |   |        |  |  |   |        |   |  |   |       
|Diluted: |                                             |                    |   |                   |  |      |   |        |  |  |   |        |   |  |   |       
|         | Weighted-average shares                     |                    |   | 35,378            |  |      |   | 33,948 |  |  |   | 35,300 |   |  |   | 33,255 | 
|         | Common equivalent shares from stock options |                    |   | 2,899             |  |      |   | 3,052  |  |  |   |      |   |  |   | 3,332  | 
|         |                                             |                    |   |                   |  |      |   |        |  |  |   |        |   |  |   |       
|         | Shares used in per share calculation        |                    |   | 38,277            |  |      |   | 37,000 |  |  |   | 35,300 |   |  |   | 36,587 | 
|         |                                             |                    |   |                   |  |      |   |        |  |  |   |        |   |  |   |       
|         | Net income (loss)                           |                    | $ | 2,296             |  |      | $ | 9,175  |  |  | $ | (2,053 | ) |  | $ | 24,570 | 
|         |                                             |                    |   |                   |  |      |   |        |  |  |   |        |   |  |   |       
|         | Net income (loss) per share                 |                    | $ | 0.06              |  |      | $ | 0.25   |  |  | $ | (0.06  | ) |  | $ | 0.67   | 
|         |                                             |                    |   |                   |  |      |   |        |  |  |   |        |   |  |   |       

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##### Table of Contents



VERITY, INC.


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS

(Information as of February 28, 2002 and
for the three and nine months ended


February 28, 2002 and 2001 and thereafter
is unaudited)


3. Comprehensive Income (Loss)

Comprehensive income (loss) is defined as
the change in equity (net assets) of a business enterprise
during a period from transactions and other events and
circumstances from non-owner sources. The following are the
components of comprehensive income (loss) (in thousands):

|                                              |                                |                    |       |                   |   |      |       |      |  |   |        |     |  |   |        |       | 
|--------------------------------------------- | ------------------------------ | ------------------ | ----- | ----------------- | - | ---- | ----- | ---- |  | - | ------ | --- |  | - | ------ | ----- | 
|                                              |                                |                    |       |                  
|                                              |                                | Three Months Ended |       | Nine Months Ended
|                                              |                                | February 28,       |       | February 28,     
|                                              |                                |                    |       |                  
|                                              |                                | 2002               |       | 2001              |   | 2002 |       | 2001
|                                              |                                |                    |       |                   |   |      |       |     
|Net income (loss)                             |                                | $                  | 2,296 |                   |   | $    | 9,175 |      |  | $ | (2,053 | )   |  | $ | 24,570 |      
|Unrealized gains (loss) on available-for-sale |                                |                    |       |                   |   |      |       |      |  |   |        |     |  |   |        |      
|                                              | Investments or securities, net |                    |       | (877              | ) |      |       | 682  |  |   |        | 669 |  |   |        | 1,149 | 
|                                              |                                |                    |       |                   |   |      |       |      |  |   |        |     |  |   |        |      
|Comprehensive income (loss)                   |                                | $                  | 1,419 |                   |   | $    | 9,857 |      |  | $ | (1,384 | )   |  | $ | 25,719 |      
|                                              |                                |                    |       |                   |   |      |       |      |  |   |        |     |  |   |        |      

4. Business Segment

The Company has sales and marketing operations
located outside the United States in the Netherlands, United
Kingdom, France, Germany, Sweden, South Africa, Mexico,
Australia, a joint investment partnership in Brazil and a
development and technical support operation in Canada. Foreign
branch and subsidiary revenues consist primarily of maintenance
and consulting services and is being allocated based on foreign
branch and subsidiary location.

|          |        |                    |   |                   |        |      |   |        |        |  |   |        |        |  |   |        |         | 
|--------- | ------ | ------------------ | - | ----------------- | ------ | ---- | - | ------ | ------ |  | - | ------ | ------ |  | - | ------ | ------- | 
|          |        |                    |   |                  
|          |        | Three Months Ended |   | Nine Months Ended
|          |        | February 28,       |   | February 28,     
|          |        |                    |   |                  
|          |        | 2002               |   | 2001              |        | 2002 |   | 2001  
|          |        |                    |   |                   |        |      |   |       
|Revenues: |        |                    |   |                   |        |      |   |        |        |  |   |        |        |  |   |       
|          | USA    |                    | $ | 22,087            |        |      | $ | 35,646 |        |  | $ | 58,830 |        |  | $ | 97,668 |        
|          | Europe |                    |   | 2,608             |        |      |   | 2,369  |        |  |   | 8,025  |        |  |   | 6,157  |        
|          | ROW    |                    |   | 350               |        |      |   |       |        |  |   | 855    |        |  |   |       |        
|          |        |                    |   |                   |        |      |   |        |        |  |   |        |        |  |   |       
|          |        | Consolidated       |   | $                 | 25,045 |      |   | $      | 38,015 |  |   | $      | 67,710 |  |   | $      | 103,825 | 
|          |        |                    |   |                   |        |      |   |        |        |  |   |        |        |  |   |       

|                   |        |              |   |         |       |  |   |       |       | 
|------------------ | ------ | ------------ | - | ------- | ----- |  | - | ----- | ----- | 
|                   |        | February 28, |   | May 31,
|                   |        | 2002         |   | 2001   
|                   |        |              |   |        
|Long-lived assets: |        |              |   |         |       |  |   |      
|                   | USA    |              | $ | 4,951   |       |  | $ | 5,211 |      
|                   | Europe |              |   | 866     |       |  |   | 951   |      
|                   | ROW    |              |   | 1,359   |       |  |   | 1,642 |      
|                   |        |              |   |         |       |  |   |      
|                   |        | Consolidated |   | $       | 7,176 |  |   | $     | 7,804 | 
|                   |        |              |   |         |       |  |   |      

Transfers between geographic areas are recorded
at amounts generally above cost and in accordance with the rules
and regulations of the respective governing tax authorities.
Long-lived assets of geographic areas are those assets used in
the Companys operations in each area.

No single customer accounted for more than 10% of
the Companys total revenues for the three months ended
February 28, 2002. For the three months ended
February 28, 2001, revenues derived from sales to one
customer accounted for approximately 12% of the Companys
total revenues. No single customer accounted for more than 10%
of the Companys total revenues for the nine months ended
February 28, 2002 and 2001. Revenues derived from sales to
the United States government and its agencies were 5.5% and 6.4%
of the Companys total revenues for the three months ended
February 28, 2002 and 2001, respectively, and 6.0% and 6.4%
for the nine months ended February 28, 2002 and 2001,
respectively.

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VERITY, INC.


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS

(Information as of February 28, 2002 and
for the three and nine months ended


February 28, 2002 and 2001 and thereafter
is unaudited)


5. Contingencies

On June 7, 2001, Verity filed a complaint in
federal district court in the Northern District of California,
San Jose Division, against BroadVision, Inc. (Case
No. C01-20501-PVT-ADR). BroadVision is a software company
that Verity in the past has licensed to distribute Veritys
copyrighted software known as the Verity Developer Kit
(VDK). Verity alleges in its complaint that under
the terms of the parties licenses, BroadVision was
authorized to distribute certain limited portions of VDK as an
embedded component of specified software applications of
BroadVision. Verity further alleges that BroadVision has
distributed portions of VDK that it was not authorized to
distribute, failed to prevent end users from accessing
unlicensed functions and encouraged end users to make use of
unlicensed functions of VDK. Verity further alleges that it
terminated its license with BroadVision on April 24, 2001
and that BroadVision no longer has any right to distribute any
portion of VDK.

Based on the foregoing allegations, Verity has
asserted claims against BroadVision for copyright infringement,
declaratory relief, unfair competition, interference with
economic advantage, breach of contract, and breach of the
implied covenant of good faith and fair dealing. Verity seeks by
its complaint, among other things, an injunction to prohibit
BroadVision from further distribution of VDK, damages, including
statutory damages, according to proof based on
BroadVisions unauthorized distribution of VDK and
attorneys fees.

BroadVision answered Veritys complaint on
June 28, 2001 and denied the material allegations of the
Complaint and asserted affirmative defenses to Veritys
claims. BroadVision also asserted a counterclaim alleging that
Verity had breached the parties license and the implied
covenant of good faith and fair dealing contained therein
(1) by failing to pay BroadVision referral fees that it
claims Verity owes to BroadVision for BroadVisions efforts
in securing the sale of Verity Advanced K-2 Search Modules; and
(2) by failing to provide support to BroadVision for VDK
after Verity terminated the parties license. BroadVision
seeks by its counterclaim, among other things, damages according
to proof, a declaration that BroadVision has not breached the
parties license and attorneys fees.

Verity answered BroadVisions counterclaim
on July 23, 2001 and denied the material allegations of the
counterclaim and asserted various affirmative defenses to
BroadVisions claims.

The action is currently in the discovery phase. A
trial date has been set for March 10, 2003.

The Company intends to defend all of these
actions vigorously. However, there can be no assurance that any
of the complaints discussed above will be resolved without
costly litigation, or in a manner that is not materially adverse
to Veritys financial position, results of operations or
cash flows. No estimate can be made of the possible loss or
possible range of loss associated with the resolution of these
contingencies.

6. Restructuring Charge

During the quarter ended November 30, 2001,
the Company implemented a worldwide restructuring of its
corporate structure to reduce expenses due to macro-economic and
capital spending issues affecting the software industry. In
connection with the restructuring, the Company recorded in the
quarter ended November 30, 2001, a $1.6 million
restructuring charge, of which approximately $1.2 million
was related to severance costs associated with the reduction in
the worldwide workforce by 65 employees, approximately
$0.3 million to legal and other outside services in
connection with the restructuring and approximately
$0.1 million to other costs associated with the
restructuring. The restructuring impacted operations in the
U.S., Canada, the U.K., Germany, France, the Netherlands, Sweden
and South Africa.

Of the total $1.6 million restructuring
charge, approximately $0.3 million remains unpaid at
February 28, 2002. Of the $0.3 million, approximately
$0.1 million relates to severance costs to be paid in
future quarters, approximately $0.1 million to legal, and
approximately $0.1 million to other costs associated with
the restructuring.

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VERITY, INC.


NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS

(Information as of February 28, 2002 and
for the three and nine months ended


February 28, 2002 and 2001 and thereafter
is unaudited)


7. Stock Repurchase Program

Through February 28, 2002, Verity
repurchased and retired 1,038,800 shares of its common stock
through open market transactions, valued at approximately
$12.2 million, pursuant to a repurchase program announced
on September 12, 2001. Pursuant to this program, the
Company may repurchase shares of its common stock from time to
time up to a total value of $50.0 million. The program will
terminate at the end of the current fiscal year unless extended
or shortened by the Board of Directors.

8. Recent Accounting
Pronouncements

In June 1998, the Financial Accounting Standards
Board (FASB) issued Statement of Financial
Accounting Standards No. 133 (SFAS
No. 133) Accounting for Derivative Instruments
and Hedging Activities. SFAS No. 133 establishes
accounting and reporting standards for derivative instruments
and for hedging activities. This statement becomes effective for
all fiscal quarters of fiscal years beginning after
June 15, 1999. In June 1999, the FASB issued Statement of
Financial Accounting Standards No. 137 (SFAS
No. 137) Accounting for Derivative
Instruments  Deferral of the Effect Date of SFAS
Statement No. 133. SFAS No. 137 defers the
effective date of SFAS No. 133 until June 15, 2000.
The adoption of SFAS No. 133 did not affect the
Companys results of operations or financial position.

In June 2001, the FASB issued Statement of
Financial Accounting Standards No. 141 (SFAS
No. 141), Business Combinations. This
standard eliminates the pooling-of-interests method of
accounting for business combinations, except for qualifying
business combinations that were initiated prior to July 1,
2001, and applies to all business combinations accounted for
under the purchase method that are completed after June 30,
2001.

In June 2001, the FASB issued Statement of
Financial Accounting Standards No. 142 (SFAS
No. 142), Goodwill and Other Intangible
Assets. This standard eliminates the amortization of
goodwill and requires goodwill to be reviewed at least annually
for impairment, the useful lives of previously recognized
intangible assets to be reassessed and the remaining
amortization periods to be adjusted accordingly. This standard
is effective for fiscal years beginning after December 15,
2001. The implementation of SFAS No. 142 is not expected to
have a significant impact on the Companys financial
position or results of operations.

In October 2001, the FASB issued Statement of
Financial Accounting Standards No. 144 (SFAS
No. 144), Accounting for the Impairment or
Disposal of Long-Lived Assets, which supercedes SFAS
No. 121, Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be Disposed Of and the
accounting and reporting provisions of APB No. 30,
Reporting Results of Operations  Reporting the
Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and
Transactions. SFAS No. 144 addresses financial
accounting and reporting for the impairment or disposal of
long-lived assets and is effective for fiscal years beginning
after December 15, 2001 as well as interim periods within
those fiscal years. The implementation of SFAS No. 144 is
not expected to have a significant impact on the Companys
financial position or results of operations.

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##### Table of Contents






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

The following discussion should be read in
conjunction with the consolidated financial statements and
related notes, which appear in our Annual Report on
Form 10-K for the fiscal year ended May 31, 2001. The
following discussion contains forward-looking statements that
involve risks and uncertainties. Our actual results could differ
materially from those anticipated in these forward-looking
statements as a result of certain factors, including those
discussed below and elsewhere in this Quarterly Report on
Form 10-Q, particularly under the heading
 Risk Factors below.

Overview

We offer solutions and technology that address
the business portal market. The business portal market includes
corporate portals used for sharing information within an
enterprise, e-commerce portals for online selling and market
exchange portals for business-to-business activities. Business
portals provide personalized information to employees, partners,
customers and suppliers. We expect that for the foreseeable
future we will continue to derive the largest portion of our
revenues from licensing our technology for enterprise
applications and business portal solutions.

Critical Accounting Policies

The preparation of financial statements in
conformity with accounting principles generally accepted in the
United States of America requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities
at the date of the financial statements and the reported amounts
of revenues and expenses during the reporting period. Our
estimates, judgements and assumptions are continually evaluated
based on available information and experience, however actual
amounts could differ from those estimates.

Revenue Recognition

Our revenues are derived from license fees for
our software products and fees for services complementary to our
products, including software maintenance, consulting and
training. Fees for services generally are charged separately
from the license fees for our software products.

Effective for contracts entered into starting
June 1, 1998, we recognize revenue in accordance with the
American Institute of Certified Public Accountants
(AICPA) Statement of Position (SOP) 97-2,
Software Revenue Recognition, and SOP 98-9
Modification of SOP 97-2, Software Revenue Recognition,
With Respect to Certain Transactions. Based on our reading
and interpretation of these SOPs, we believe that our current
sales contract terms and business arrangements have been
properly reported. However, the AICPA and its Software Revenue
Recognition Task Force continue to issue interpretations and
guidance for applying the relevant standards to a wide range of
sales contract terms and business arrangements that are
prevalent in the software industry. Also, the Securities and
Exchange Commission (SEC) has issued Staff Accounting
Bulletin No. 101, Revenue Recognition in Financial
Statements, which provides guidance related to revenue
recognition based on interpretations and practices followed by
the SEC. Future interpretations of existing accounting standards
or changes in our business practices could result in future
changes in our revenue accounting policies that could have a
material adverse effect on our business, financial condition and
results of operations.

We recognize revenue from the sale of software
licenses when persuasive evidence of an arrangement exists, the
product has been delivered, the fees are fixed or determinable
and collection of the resulting receivable is reasonably
assured. We recognize maintenance revenues from ongoing customer
support and product upgrades ratably over the term of the
applicable maintenance agreement, which is typically twelve
months. Generally, we receive payments for maintenance fees in
advance and they are nonrefundable. We recognize revenues for
consulting and training generally when the services are
performed.

For agreements with multiple elements, such as
license, maintenance, training and consulting services, we
allocate revenue to each component of the arrangement using the
residual value method based on the fair

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value of the undelivered elements. We defer
revenue from the arrangement equivalent to the fair value of the
undelivered elements. Fair values for the ongoing maintenance
and support obligations are based on separate sales of these
items to other customers. Fair value of services, such as
training and consulting, is based upon separate sales of these
services to other customers. Any remaining amount is allocated
to the delivered elements and recognized as revenue when the
conditions set forth above are met.


We recognize maintenance fee revenue for ongoing
customer support and product updates ratably over the period of
the maintenance contract, which is typically twelve months.
Payments for maintenance fees are generally made in advance and
are non-refundable. For revenue allocated to training and
consulting services, we recognize revenue as the related
services are performed.

Sales Returns, Allowance for Doubtful
Accounts

Our management must make estimates of potential
future product returns related to current period product
revenue. Management analyzes historical returns, current
economic trends, and changes in customer demand and acceptance
of our products when evaluating the adequacy of the sales
returns allowance. Management judgments and estimates must be
made and used in connection with establishing the sales returns
allowance in any accounting period. Similarly, our management
must make estimates of the uncollectability of our accounts
receivables. Management specifically analyzes accounts
receivable and analyzes historical bad debts, customer
concentrations, customer credit-worthiness, current economic
trends and changes in our customer payment terms when evaluating
the adequacy of the allowance for doubtful accounts. Our
accounts receivable balance was $19.2 million, net of
provision for sales returns allowance of $0.2 million and
allowance for doubtful accounts of $1.3 million as of
February 28, 2002.

Accounting for Income Taxes

As part of the process of preparing our
consolidated financial statements we are required to estimate
our income taxes in each of the jurisdictions in which we
operate. Our income tax accounting process involves our
recording the estimated future tax effects of temporary
differences between the tax bases of assets and liabilities and
amounts reported in the accompanying consolidated balance
sheets, as well as operating loss and tax credit carryforwards.
These differences result in the recognition of deferred tax
assets and liabilities.

We evaluate this tax asset at each balance sheet
date to determine its realizability, considering currently
enacted tax laws. If we determine that it is not fully
realizable, a valuation allowance will be recorded to reduce the
asset balance to its realizable value through a charge to income
tax expense. Determining whether we will be able to utilize the
net operating loss carryforward requires that we estimate future
taxable income and make judgments regarding the timing of future
tax obligations. Actual taxable income could differ from our
estimates.

As of February 28, 2002, we believe it is
more likely than not that we will be able to realize the tax
asset through expected future taxable profits and therefore no
valuation allowance is recorded related to this asset. If we
conclude that this tax asset requires a valuation allowance in
the future, the effect on income tax expense could be material.

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##### Table of Contents



Results of Operations

The following table sets forth the percentage of
total revenues represented by certain items in our Condensed
Consolidated Statements of Operations for the periods indicated:

|                                                 |                            |                          |      |              |       |      |      |      |       |  |       |      |       |  |      |      |       | 
|------------------------------------------------ | -------------------------- | ------------------------ | ---- | ------------ | ----- | ---- | ---- | ---- | ----- |  | ----- | ---- | ----- |  | ---- | ---- | ----- | 
|                                                 |                            |                          |      |             
|                                                 |                            | Three Months             |      | Nine Months 
|                                                 |                            | Ended                    |      | Ended       
|                                                 |                            | February 28,             |      | February 28,
|                                                 |                            |                          |      |             
|                                                 |                            | 2002                     |      | 2001         |       | 2002 |      | 2001
|                                                 |                            |                          |      |              |       |      |      |     
|                                                 |                            |                          |      |             
|                                                 |                            | (unaudited)              |      | (unaudited) 
|Revenues:                                        |                            |                          |      |              |       |      |      |      |       |  |       |      |       |  |      |     
|                                                 | Software products          |                          |      | 63.8         | %     |      |      | 75.6 | %     |  |       | 58.4 | %     |  |      | 74.2 | %    
|                                                 | Service and other          |                          |      | 36.2         |       |      |      | 24.4 |       |  |       | 41.6 |       |  |      | 25.8 |      
|                                                 |                            |                          |      |              |       |      |      |      |       |  |       |      |       |  |      |     
|                                                 |                            | Total revenues           |      |              | 100.0 |      |      |      | 100.0 |  |       |      | 100.0 |  |      |      | 100.0 | 
|                                                 |                            |                          |      |              |       |      |      |      |       |  |       |      |       |  |      |     
|Costs of revenues:                               |                            |                          |      |              |       |      |      |      |       |  |       |      |       |  |      |     
|                                                 | Software products          |                          |      | 2.6          |       |      |      | 1.0  |       |  |       | 2.7  |       |  |      | 1.1  |      
|                                                 | Service and other          |                          |      | 10.4         |       |      |      | 8.1  |       |  |       | 12.4 |       |  |      | 8.3  |      
|                                                 |                            |                          |      |              |       |      |      |      |       |  |       |      |       |  |      |     
|                                                 |                            | Total costs of revenues  |      |              | 13.0  |      |      |      | 9.1   |  |       |      | 15.1  |  |      |      | 9.4   | 
|                                                 |                            |                          |      |              |       |      |      |      |       |  |       |      |       |  |      |     
|Gross profit                                     |                            |                          | 87.0 |              |       |      | 90.9 |      |       |  | 84.9  |      |       |  | 90.6 |     
|                                                 |                            |                          |      |              |       |      |      |      |       |  |       |      |       |  |      |     
|Operating expenses:                              |                            |                          |      |              |       |      |      |      |       |  |       |      |       |  |      |     
|                                                 | Research and development   |                          |      | 23.2         |       |      |      | 15.4 |       |  |       | 26.2 |       |  |      | 14.7 |      
|                                                 | Marketing and sales        |                          |      | 45.8         |       |      |      | 38.8 |       |  |       | 58.3 |       |  |      | 39.0 |      
|                                                 | General and administrative |                          |      | 12.2         |       |      |      | 7.7  |       |  |       | 13.0 |       |  |      | 7.4  |      
|                                                 | Restructuring charge       |                          |      |            |       |      |      |     |       |  |       | 2.3  |       |  |      |     |      
|                                                 | Charitable contribution    |                          |      |            |       |      |      |    |       |  |       | 1.5  |       |  |      |    |      
|                                                 |                            |                          |      |              |       |      |      |      |       |  |       |      |       |  |      |     
|                                                 |                            | Total operating expenses |      |              | 81.2  |      |      |      | 61.9  |  |       |      | 101.3 |  |      |      | 61.1  | 
|                                                 |                            |                          |      |              |       |      |      |      |       |  |       |      |       |  |      |     
|Income (loss) from operations                    |                            |                          | 5.8  |              |       |      | 29.0 |      |       |  | (16.4 | )    |       |  | 29.5 |     
|Other income, net                                |                            |                          | 9.0  |              |       |      | 9.0  |      |       |  | 11.5  |      |       |  | 8.2  |     
|                                                 |                            |                          |      |              |       |      |      |      |       |  |       |      |       |  |      |     
|Income (loss) before provision for income
	taxes |                            |                          | 14.8 |              |       |      | 38.0 |      |       |  | (4.9  | )    |       |  | 37.7 |     
|Provision for (benefit from) income taxes        |                            |                          | 5.6  |              |       |      | 13.9 |      |       |  | (1.9  | )    |       |  | 14.0 |     
|                                                 |                            |                          |      |              |       |      |      |      |       |  |       |      |       |  |      |     
|Net income (loss)                                |                            |                          | 9.2  | %            |       |      | 24.1 | %    |       |  | (3.0  | )%   |       |  | 23.7 | %   
|                                                 |                            |                          |      |              |       |      |      |      |       |  |       |      |       |  |      |     

Revenues

|               |                    |                       |   |              |  |        |   |       |  |  |  |       |   
|-------------- | ------------------ | --------------------- | - | ------------ |  | ------ | - | ----- |  |  |  | ----- | --
|               |                    | February 28,          |   | February 28, |  |       
|               |                    | 2002                  |   | 2001         |  | Change
|               |                    |                       |   |              |  |       
|               |                    |                       |   |             
|               |                    | (dollars in millions) |   |             
|Total revenues |                    |                       |   |              |  |        |   |       |  |  |  |      
|               | Three months ended |                       | $ | 25.0         |  |        | $ | 38.0  |  |  |  | (34.1 | )%
|               | Nine months ended  |                       | $ | 67.7         |  |        | $ | 103.8 |  |  |  | (34.8 | )%

The decreases in total revenues for the three and
nine month periods ended February 28, 2002 are attributable
to the impact of the slowdown in worldwide economic conditions
resulting in customers canceling or delaying orders, due to
their downsizing capital spending, partly offset by increased
service and other revenue derived from our installed base.

|                          |                    |                       |   |              |  |        |   |      |  |  |  |       |   
|------------------------- | ------------------ | --------------------- | - | ------------ |  | ------ | - | ---- |  |  |  | ----- | --
|                          |                    | February 28,          |   | February 28, |  |       
|                          |                    | 2002                  |   | 2001         |  | Change
|                          |                    |                       |   |              |  |       
|                          |                    |                       |   |             
|                          |                    | (dollars in millions) |   |             
|Software product revenues |                    |                       |   |              |  |        |   |      |  |  |  |      
|                          | Three months ended |                       | $ | 16.0         |  |        | $ | 28.7 |  |  |  | (44.4 | )%
|                          | Nine months ended  |                       | $ | 39.5         |  |        | $ | 77.1 |  |  |  | (48.7 | )%

The decreases for the three and nine month
periods ended February 28, 2002 are primarily a result of
the slowdown in the economy and the resulting decline in
information technology capital spending.

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##### Table of Contents



|                           |                    |                       |   |              |  |        |   |      |  |  |  |      |   
|-------------------------- | ------------------ | --------------------- | - | ------------ |  | ------ | - | ---- |  |  |  | ---- | --
|                           |                    | February 28,          |   | February 28, |  |       
|                           |                    | 2002                  |   | 2001         |  | Change
|                           |                    |                       |   |              |  |       
|                           |                    |                       |   |             
|                           |                    | (dollars in millions) |   |             
|Service and other revenues |                    |                       |   |              |  |        |   |      |  |  |  |     
|                           | Three months ended |                       | $ | 9.1          |  |        | $ | 9.3  |  |  |  | (2.3 | )%
|                           | Nine months ended  |                       | $ | 28.2         |  |        | $ | 26.7 |  |  |  | 5.4  | % 

Our service and other revenues consist primarily
of fees for software maintenance, consulting and training. The
decrease in service and other revenues for the three month
period ended February 28, 2002 was primarily related to
normal recognition of maintenance revenue being derived from a
higher level of license revenues in the same period of the prior
year. We recognize revenues associated with maintenance fees
ratably over the period of the maintenance contract, which is
typically twelve months. The increase in service and other
revenues for the nine month period ended February 28, 2002
was primarily due to an increase in maintenance revenue
resulting from the renewal of existing maintenance contracts
from prior period software revenue arrangements.

Service and other revenues from foreign
operations accounted for 11.8% and 6.2% of total revenues for
the three months ended February 28, 2002 and 2001,
respectively. For the nine months ended February 28, 2002,
and 2001, service and other revenues from foreign operations
accounted for 14.6% and 6.0% of total revenues, respectively.
Our export sales consist primarily of products licensed for
delivery outside of the United States. For the three months
ended February 28, 2002 and 2001, export sales accounted
for 22.3% and 31.3% of total revenues, respectively. For the
nine months ended February 28, 2002 and 2001, export sales
accounted for 20.7% and 29.3% of total revenues, respectively.
We expect that revenues derived from foreign operations and
export sales will continue to vary in future periods as a
percentage of total revenues.

Costs of Revenues

|                           |                    |                                        |   |              |     |        |   |     |     |   |  |      |   | 
|-------------------------- | ------------------ | -------------------------------------- | - | ------------ | --- | ------ | - | --- | --- | - |  | ---- | - | 
|                           |                    | February 28,                           |   | February 28, |     |       
|                           |                    | 2002                                   |   | 2001         |     | Change
|                           |                    |                                        |   |              |     |       
|                           |                    |                                        |   |             
|                           |                    | (dollars in millions)                  |   |             
|Costs of software products |                    |                                        |   |              |     |        |   |     |     |   |  |     
|                           | Three months ended |                                        | $ | 0.7          |     |        | $ | 0.4 |     |   |  | 74.3 | %
|                           |                    | Percentage of software product revenue |   |              | 4.1 | %      |   |     | 1.3 | % |  |      |   | 
|                           | Nine months ended  |                                        | $ | 1.8          |     |        | $ | 1.1 |     |   |  | 66.2 | %
|                           |                    | Percentage of software product revenue |   |              | 4.7 | %      |   |     | 1.4 | % |  |      |   | 

Our costs of our software products consists
primarily of product media, duplication, manuals, packaging
materials, shipping expenses and royalties, and in certain
instances, licensing of third-party software incorporated in our
products. The increase in absolute dollars of costs of software
product revenues for the three and nine month periods ended
February 28, 2002 was primarily attributable to increasing
costs of third party software components. The increase in costs
as a percentage of software product revenues for the three and
nine month periods ended February 28, 2002 was primarily
attributable to these increased costs in absolute dollars,
further influenced by decreased software product revenues. In
addition, during fiscal 2001 and 2002, we did not capitalize any
software development costs as these costs were not material.

|                           |                    |                                          |   |              |      |        |   |     |      |   |  |       |    | 
|-------------------------- | ------------------ | ---------------------------------------- | - | ------------ | ---- | ------ | - | --- | ---- | - |  | ----- | -- | 
|                           |                    | February 28,                             |   | February 28, |      |       
|                           |                    | 2002                                     |   | 2001         |      | Change
|                           |                    |                                          |   |              |      |       
|                           |                    |                                          |   |             
|                           |                    | (dollars in millions)                    |   |             
|Costs of service and other |                    |                                          |   |              |      |        |   |     |      |   |  |      
|                           | Three months ended |                                          | $ | 2.6          |      |        | $ | 3.1 |      |   |  | (15.2 | )%
|                           |                    | Percentage of service and other revenues |   |              | 28.7 | %      |   |     | 33.1 | % |  |       |    | 
|                           | Nine months ended  |                                          | $ | 8.4          |      |        | $ | 8.6 |      |   |  | (2.3  | )%
|                           |                    | Percentage of service and other revenues |   |              | 29.8 | %      |   |     | 32.2 | % |  |       |    | 

Our costs of service and other revenues consist
of costs incurred in providing consulting services, customer
training, telephone support and product upgrades to customers.
The decrease in absolute dollars of costs of service and other
revenues for the three and nine month periods ended
February 28, 2002 was

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primarily due to reduced headcount in our
professional services organization. The decrease in costs as a
percentage of service and other revenues for the three month
period ended February 28, 2002 was primarily related to the
decrease in absolute costs from reduced staffing. The decrease
in costs as a percentage of service and other revenues for the
nine month period ended February 28, 2002 was primarily due
to the decrease in absolute costs from reduced staffing combined
with an increase in service and other revenues for the period.


Operating Expenses

|                         |                    |                              |   |              |      |        |   |      |      |   |  |      |    | 
|------------------------ | ------------------ | ---------------------------- | - | ------------ | ---- | ------ | - | ---- | ---- | - |  | ---- | -- | 
|                         |                    | February 28,                 |   | February 28, |      |       
|                         |                    | 2002                         |   | 2001         |      | Change
|                         |                    |                              |   |              |      |       
|                         |                    |                              |   |             
|                         |                    | (dollars in millions)        |   |             
|Research and development |                    |                              |   |              |      |        |   |      |      |   |  |     
|                         | Three months ended |                              | $ | 5.8          |      |        | $ | 5.8  |      |   |  | (0.5 | )%
|                         |                    | Percentage of total revenues |   |              | 23.2 | %      |   |      | 15.4 | % |  |      |    | 
|                         | Nine months ended  |                              | $ | 17.7         |      |        | $ | 15.3 |      |   |  | 16.1 | % 
|                         |                    | Percentage of total revenues |   |              | 26.2 | %      |   |      | 14.7 | % |  |      |    | 

Research and development expenses in absolute
dollars for the three month period ended February 28, 2002
were flat with the comparable prior period. The increase in
research and development expenses in absolute dollars for the
nine month period ended February 28, 2002 was primarily due
to an increase in research and development headcount and outside
consulting services to focus on enhancement of existing products
and development of new products addressing the business portal
market. The increase in research and development expenses as a
percentage of total revenues for the three and nine month
periods ended February 28, 2002 was primarily due to
decreased total revenues for the periods. We anticipate that we
will continue to make significant investments in research and
development.

|                    |                    |                              |   |              |      |        |   |      |      |   |  |       |    | 
|------------------- | ------------------ | ---------------------------- | - | ------------ | ---- | ------ | - | ---- | ---- | - |  | ----- | -- | 
|                    |                    | February 28,                 |   | February 28, |      |       
|                    |                    | 2002                         |   | 2001         |      | Change
|                    |                    |                              |   |              |      |       
|                    |                    |                              |   |             
|                    |                    | (dollars in millions)        |   |             
|Marketing and sales |                    |                              |   |              |      |        |   |      |      |   |  |      
|                    | Three months ended |                              | $ | 11.5         |      |        | $ | 14.7 |      |   |  | (22.2 | )%
|                    |                    | Percentage of total revenues |   |              | 45.8 | %      |   |      | 38.8 | % |  |       |    | 
|                    | Nine months ended  |                              | $ | 39.5         |      |        | $ | 40.6 |      |   |  | (2.7  | )%
|                    |                    | Percentage of total revenues |   |              | 58.3 | %      |   |      | 39.0 | % |  |       |    | 

The decrease in marketing and sales expenses in
absolute dollars for the three and nine month periods ended
February 28, 2002 was primarily related to a decrease in
sales commissions resulting from the decrease in software
product revenue and to decreased spending on marketing programs.
For the nine month period ended February 28, 2002 the
decrease was partially offset by higher headcount during the
first two quarters of the period. The increase in marketing and
sales expenses as a percentage of total revenues for the three
and nine month periods ended February 28, 2002 was
principally related to decreased total revenues for the periods.
We anticipate that we will make significant investments in
marketing and sales.

|                           |                    |                              |   |              |      |        |   |     |     |   |  |      |   | 
|-------------------------- | ------------------ | ---------------------------- | - | ------------ | ---- | ------ | - | --- | --- | - |  | ---- | - | 
|                           |                    | February 28,                 |   | February 28, |      |       
|                           |                    | 2002                         |   | 2001         |      | Change
|                           |                    |                              |   |              |      |       
|                           |                    |                              |   |             
|                           |                    | (dollars in millions)        |   |             
|General and administrative |                    |                              |   |              |      |        |   |     |     |   |  |     
|                           | Three months ended |                              | $ | 3.1          |      |        | $ | 2.9 |     |   |  | 3.5  | %
|                           |                    | Percentage of total revenues |   |              | 12.2 | %      |   |     | 7.7 | % |  |      |   | 
|                           | Nine months ended  |                              | $ | 8.8          |      |        | $ | 7.6 |     |   |  | 15.0 | %
|                           |                    | Percentage of total revenues |   |              | 13.0 | %      |   |     | 7.4 | % |  |      |   | 

The increase in general and administrative
expenses in absolute dollars for the three month period ended
February 28, 2002 was primarily related to increased
expenses for legal, audit and tax services. The increase in
absolute dollars for the nine month period ended
February 28, 2002 was primarily related to increased
expenses for legal services, various tax studies and other
outside services. The increase as a percentage of total revenues
for the three and nine month periods ended February 28,
2002 was primarily due to the decreased

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total revenues during the periods. We anticipate
that general and administrative expenses for our fourth fiscal
quarter ending May 31, 2002 will be consistent with the
prior quarter.


|                     |                    |                              |   |              |     |        |  |   |   |  |  |   |  | 
|-------------------- | ------------------ | ---------------------------- | - | ------------ | --- | ------ |  | - | - |  |  | - |  | 
|                     |                    | February 28,                 |   | February 28, |     |       
|                     |                    | 2002                         |   | 2001         |     | Change
|                     |                    |                              |   |              |     |       
|                     |                    |                              |   |             
|                     |                    | (dollars in millions)        |   |             
|Restructuring charge |                    |                              |   |              |     |        |  |   |   |  |  |  
|                     | Three months ended |                              |   |             |     |        |  |  |   |  |  |  | 
|                     |                    | Percentage of total revenues |   |              |    |        |  |   |  |  |  |   |  | 
|                     | Nine months ended  |                              | $ | 1.6          |     |        |  |  |   |  |  |  | 
|                     |                    | Percentage of total revenues |   |              | 2.3 | %      |  |   |  |  |  |   |  | 

During the quarter ended November 30, 2001,
we implemented a worldwide restructuring of our corporate
structure to focus on reducing expenses and improving efficiency
due to macro-economic and capital spending issues affecting the
software industry. In connection with the restructuring, we
recorded in the quarter ended November 30, 2001, a
$1.6 million restructuring charge, of which approximately
$1.2 million was related to severance costs associated with
the reduction in the worldwide workforce by 65 employees,
approximately $0.3 million to legal and other outside
services in connection with the restructuring, and approximately
$0.1 million to other costs associated with the
restructuring. The restructuring impacted operations in the
U.S., Canada, the U.K., Germany, France, the Netherlands, Sweden
and South Africa. Of the total $1.6 million restructuring
charge, approximately $0.3 million remains unpaid at
February 28, 2002. Of the $0.3 million, approximately
$0.1 million relates to severance costs to be paid in
future quarters, approximately $0.1 million to legal and
other outside services, and approximately $0.1 million to
other costs associated with the restructuring.

|                        |                    |                              |   |              |     |        |  |   |   |  |  |   |  | 
|----------------------- | ------------------ | ---------------------------- | - | ------------ | --- | ------ |  | - | - |  |  | - |  | 
|                        |                    | February 28,                 |   | February 28, |     |       
|                        |                    | 2002                         |   | 2001         |     | Change
|                        |                    |                              |   |              |     |       
|                        |                    |                              |   |             
|                        |                    | (dollars in millions)        |   |             
|Charitable contribution |                    |                              |   |              |     |        |  |   |   |  |  |  
|                        | Three months ended |                              |   |             |     |        |  |  |   |  |  |  | 
|                        |                    | Percentage of total revenues |   |              |    |        |  |   |  |  |  |   |  | 
|                        | Nine months ended  |                              | $ | 1.0          |     |        |  |  |   |  |  |  | 
|                        |                    | Percentage of total revenues |   |              | 1.5 | %      |  |   |  |  |  |   |  | 

On September 14, 2001, we made a
$1 million donation to help the victims of the
September 11th terrorist attacks in New York, Pennsylvania,
and Washington D.C. Our donation kicked off the United Way
Silicon Valley 9/11 Response Fund. The donation provided
immediate support to established emergency assistance agencies,
such as the American Red Cross and Salvation Army, both of whom
are founding members of the United Way locally and nationally.

|                  |                    |                              |   |              |      |        |   |     |     |   |  |       |    | 
|----------------- | ------------------ | ---------------------------- | - | ------------ | ---- | ------ | - | --- | --- | - |  | ----- | -- | 
|                  |                    | February 28,                 |   | February 28, |      |       
|                  |                    | 2002                         |   | 2001         |      | Change
|                  |                    |                              |   |              |      |       
|                  |                    |                              |   |             
|                  |                    | (dollars in millions)        |   |             
|Other income, net |                    |                              |   |              |      |        |   |     |     |   |  |      
|                  | Three months ended |                              | $ | 2.3          |      |        | $ | 3.4 |     |   |  | (34.0 | )%
|                  |                    | Percentage of total revenues |   |              | 9.0  | %      |   |     | 9.0 | % |  |       |    | 
|                  | Nine months ended  |                              | $ | 7.8          |      |        | $ | 8.5 |     |   |  | (9.0  | )%
|                  |                    | Percentage of total revenues |   |              | 11.5 | %      |   |     | 8.2 | % |  |       |    | 

Other income consists primarily of interest
income and realized gains from our investments in marketable
securities. The decrease in other income in absolute dollars for
the three and nine month periods ended February 28, 2002
was primarily due to decreasing overall yields on our portfolio
of marketable securities caused by the decreasing interest rate
environment partially offset by higher cash balances when
compared with prior periods. The increase in other income as a
percentage of total revenues for the nine month period ended
February 28, 2002 was due to the decrease in total revenues
for the period.

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|                               |                    |                              |   |              |      |        |   |      |      |   |  |       |    | 
|------------------------------ | ------------------ | ---------------------------- | - | ------------ | ---- | ------ | - | ---- | ---- | - |  | ----- | -- | 
|                               |                    | February 28,                 |   | February 28, |      |       
|                               |                    | 2002                         |   | 2001         |      | Change
|                               |                    |                              |   |              |      |       
|                               |                    |                              |   |             
|                               |                    | (dollars in millions)        |   |             
|Income tax provision (benefit) |                    |                              |   |              |      |        |   |      |      |   |  |      
|                               | Three months ended |                              | $ | 1.4          |      |        | $ | 5.3  |      |   |  | (73.3 | )%
|                               |                    | Percentage of total revenues |   |              | 5.6  | %      |   |      | 13.9 | % |  |       |    | 
|                               | Nine months ended  |                              | $ | (1.3         | )    |        | $ | 14.6 |      |   |  | nm    |   
|                               |                    | Percentage of total revenues |   |              | (1.9 | )%     |   |      | 14.0 | % |  |       |    | 

Income tax provision (benefit) includes U.S.
and foreign income taxes, as well as the provision for U.S.
taxes on undistributed earnings of international subsidiaries.
Certain items of income and expense are not reported in tax
returns and financial statements in the same year. The tax
effect of this difference is reported as deferred income taxes.

During the quarter ended February 28, 2002,
we assessed the qualification of our research and development
expenses for state and federal research and development tax
credits. We expect the tax savings for fiscal 2002 due to
research and development tax credits to result in a marginally
lower effective tax rate and accordingly applied an effective
tax rate of 38.0% to the result of our quarter ended
February 28, 2002. We will continually reassess the impact
of our research and development expenses on our effective tax
rate in future periods.

Liquidity and Capital Resources

|                         |                                           |                       |   |              |   |  |   |       |  
|------------------------ | ----------------------------------------- | --------------------- | - | ------------ | - |  | - | ----- | -
|                         |                                           | February 28,          |   | February 28,
|                         |                                           | 2002                  |   | 2001        
|                         |                                           |                       |   |             
|                         |                                           |                      
|                         |                                           | (dollars in millions)
|Nine month periods ended |                                           |                       |   |              |   |  |   |      
|                         | Net cash provided by operating activities |                       | $ | 12.6         |   |  | $ | 35.4  |  
|                         | Net cash used in investing activities     |                       | $ | (8.3         | ) |  | $ | (53.5 | )
|                         | Net cash provided by financing activities |                       | $ | 1.1          |   |  | $ | 24.0  |  

As of February 28, 2002, we had
$243.2 million in cash and cash equivalents and
available-for-sale securities compared to $231.1 million at
May 31, 2001.

Cash provided by operating activities for the
nine month period ended February 28, 2002 was primarily due
to a $18.4 million decrease in accounts receivable,
partially offset by a loss from operations of $2.1 million,
a decrease in accrued compensation and other accrued liabilities
of $2.2 million and a decrease in deferred revenue of
$4.4 million. Cash provided by operating activities for the
nine month period ended February 28, 2001 was primarily due
to our net income of $24.6 million, a decrease in deferred
income taxes of $13.1 million, an increase in accrued
compensation and other accrued liabilities of $6.3 million
and a decrease in deferred revenue of $3.3 million. This
was offset in part by an increase in accounts receivable of
$12.1 million and an increase of $2.8 million of
prepaid and other current assets.

Cash used in investing activities for the nine
month periods ended February 28, 2002 and February 28,
2001 was the result of capital expenditures of $2.7 million
and $4.3 million in the respective periods and net
purchases of marketable securities. For the nine month periods
ended February 28, 2002 and February 28, 2001, the
capital expenditures consisted primarily of purchases for
computer hardware and software.

Cash provided by financing activities for the
nine month period ended February 28, 2002 consisted of
proceeds from the sale of common stock as a result of stock
options exercised and, to a much lesser extent, from the
issuance of common stock in connection with our Employee Stock
Purchase Plan, partially offset by repurchases of our common
stock through our stock repurchase program. Cash provided by
financing activities for the nine month period ended
February 28, 2001 consisted primarily of proceeds from the
sale of common stock as a result of stock options exercised and
from the issuance of common stock in connection with our
Employee Stock Purchase Plan.

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At February 28, 2002, our principal sources
of liquidity were our cash and cash equivalents and short-term
investments of $132.4 million. As of February 28,
2002, we had no outstanding long-term debt.

Our principal commitments as of February 28,
2002 consist of obligations under operating leases as discussed
in our May 31, 2001 Form 10-K.

On September 12, 2001, we announced a stock
repurchase program to acquire outstanding common stock in the
open market. Pursuant to this program, the Company may
repurchase shares of its common stock from time to time up to a
total value of $50.0 million. The program will terminate at
the end of the current fiscal year unless extended or shortened
by the Board of Directors. Through February 28, 2002,
Verity repurchased and retired 1,038,800 shares of its common
stock through open market transactions, valued at approximately
$12.2 million.

We believe that our current cash and cash
equivalents, interest income and cash generated from operations,
if any, will provide adequate liquidity to meet our working
capital and operating resource expenditure requirements through
at least fiscal 2003. If the global economy weakens further, our
cash, cash equivalents and investments balances may decline. As
a result, or if our spending plans materially change, we may
find it necessary to seek to obtain additional sources of
financing to support our capital needs, but we cannot assure you
that a financing will be available on commercially reasonable
terms, or at all.

Recent Accounting Pronouncements

In June 1998, the Financial Accounting Standards
Board (FASB) issued Statement of Financial
Accounting Standard No. 133 (SFAS No. 133)
Accounting for Derivative Instruments and Hedging
Activities. SFAS No. 133 establishes accounting and
reporting standards for derivative instruments and for hedging
activities. This statement becomes effective for all fiscal
quarters of fiscal years beginning after June 15, 1999. In
June 1999, the FASB issued Statement of Financial Accounting
Standards No. 137 (SFAS No. 137)
Accounting for Derivative Instruments  Deferral
of the Effect Date of SFAS Statement No. 133. SFAS
No. 137 defers the effective date of SFAS No. 133
until June 15, 2000. The adoption of SFAS No. 133 did
not affect our results of operations or financial position.

In June 2001, the FASB issued Statement of
Financial Accounting Standards No. 141 (SFAS
No. 141), Business Combinations. This
standard eliminates the pooling-of-interests method of
accounting for business combinations, except for qualifying
business combinations that were initiated prior to July 1,
2001, and applies to all business combinations accounted for
under the purchase method that are completed after June 30,
2001.

In June 2001, the FASB issued Statement of
Financial Accounting Standards No. 142 (SFAS
No. 142), Goodwill and Other Intangible
Assets. This standard eliminates the amortization of
goodwill and requires goodwill to be reviewed at least annually
for impairment, the useful lives of previously recognized
intangible assets to be reassessed and the remaining
amortization periods to be adjusted accordingly. This standard
is effective for fiscal years beginning after December 15,
2001. We do not expect the implementation of SFAS No. 142
to have a significant impact on our financial position or
results of operations.

In October 2001, the FASB issued Statement of
Financial Accounting Standards No. 144 (SFAS
No. 144), Accounting for the Impairment or
Disposal of Long-Lived Assets, which supercedes SFAS
No. 121, Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be Disposed Of and the
accounting and reporting provisions of APB No. 30,
Reporting Results of Operations  Reporting the
Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and
Transactions. SFAS No. 144 addresses financial
accounting and reporting for the impairment or disposal of
long-lived assets and is effective for fiscal years beginning
after December 15, 2001 as well as interim periods within
those fiscal years. The implementation of SFAS No. 144 is
not expected to have a significant impact on our financial
position or results of operations.

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Impact of European Monetary
Conversion

We are aware of the issues associated with the
changes in Europe resulting from the formation of a European
economic and monetary union. One change resulting from this
union required EMU member states to irrevocably fix their
respective currencies to a new currency, the Euro, as of
January 1, 1999, at which date the Euro became a functional
legal currency of these countries. Up until December 31,
2001, business in the EMU member states was conducted in both
the existing national currencies, such as the French franc or
the Deutsche mark, and the Euro. The adoption of Euro by EMU
member states has had no material impact on our operations or
financial results.

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RISK FACTORS

The risks and uncertainties described below
are not the only risks and uncertainties we face. Additional
risks and uncertainties not presently known to us or that we
currently deem immaterial also may impair our business
operations. If any of the following risks actually occur, our
business, results of operations and financial condition would
suffer. In that event, the trading price of our common stock
could decline, and our stockholders may lose all or part of
their investment in our common stock. The discussion below and
elsewhere in this report also includes forward-looking
statements, and our actual results may differ substantially from
those discussed in these forward-looking statements as a result
of the risks discussed below.

Risks Related to Our Business

We have sustained a loss for the first nine
months of this fiscal year and we may not be able to return to
fiscal year profitability

We sustained a loss for each of the first two
quarters of fiscal 2002 and, although we reported net income for
the third quarter of fiscal 2002, we reported a net loss for the
nine months ended February 28, 2002. In the future, our
revenues may decline, remain flat, or grow at a rate slower than
was experienced in periods prior to quarter ended
August 31, 2001, especially in light of the recent economic
slowdown. To achieve revenue growth and return to fiscal year
profitability, we must:



| |   |                                                                                                                
| | - | ---------------------------------------------------------------------------------------------------------------
| |  | increase market acceptance of our products;                                                                    
|
| |  | respond effectively to competitive developments;                                                               
|
| |  | execute sales despite the recent economic
	slowdown and resulting decrease in our customers capital
	spending;
|
| |  | attract, retain and motivate qualified personnel;
	and                                                         
|
| |  | upgrade our technologies and commercialize our
	products and services incorporating these technologies.        

We cannot assure you that we will be successful
in achieving any of these goals or that we will experience
increased revenues, positive cash flows, or achieve long-term
profitability.

Our revenues and operating results may
fluctuate in future periods, which could adversely affect our
stock price

The results of operations for any quarter are not
necessarily indicative of results to be expected in future
periods. We expect our stock price to vary with our operating
results and, consequently, any adverse fluctuations in our
operating results could have an adverse effect on our stock
price. Our operating results have in the past been, and will
continue to be, subject to quarterly fluctuations as a result of
a number of factors. These factors include:



| |   |                                                                                                                                                                                         
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | the downturn in capital spending by customers as
	a result of the recent economic slowdown;                                                                                             
|
| |  | the size and timing of orders;                                                                                                                                                          
|
| |  | changes in the budget or purchasing patterns of
	corporations and government agencies, foreign country exchange
	rates, or pricing pressures from competitors;                          
|
| |  | increased competition in the software and
	Internet industries;                                                                                                                         
|
| |  | the introduction and market acceptance of new
	technologies and standards in search and retrieval, Internet,
	document management, database, networking, and communications
	technology;
|
| |  | variations in sales channels, product costs, the
	mix of products sold, or the success of quality control measures;                                                                     
|
| |  | the integration of people, operations, and
	products from acquired businesses and technologies;                                                                                         

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| |   |                                                                                                                   
| | - | ------------------------------------------------------------------------------------------------------------------
| |  | changes in operating expenses and personnel;                                                                      
|
| |  | the overall trend toward industry consolidation;
	and                                                             
|
| |  | changes in general economic conditions and
	specific economic conditions in the computer and software
	industries.

Any of the factors, some of which are discussed
in more detail below, could materially and adversely impact on
our operations and financial results, and consequently our stock
price.

The size and timing of large orders may
materially affect our quarterly operating results

The size and timing of individual orders may
cause our operating results to fluctuate significantly. The
dollar amounts of large orders for our products have been
increasing, and therefore the operating results for a quarter
could be materially and adversely affected if one or more large
orders are either not received or are delayed or deferred by
customers. A significant portion of our revenues in recent
quarters has been derived from these relatively large sales to a
limited number of customers, and we currently anticipate that
future quarters will continue to reflect this trend. Sales
cycles for these customers can be up to six months or longer. In
addition, customer order deferrals in anticipation of new
products may cause our operating results to fluctuate. Like many
software companies, we have generally recognized a substantial
portion of our revenues in the last month of each quarter, with
these revenues concentrated in the last weeks of the quarter.
Accordingly, the cancellation or deferral of even a small number
of purchases of our products could harm our business in any
particular quarter. In addition, to the extent that the
significant sales occur earlier than expected, operating results
for subsequent quarters may fail to keep pace or even decline.

Our expenditures are tied to anticipated
revenues, and therefore imprecise forecasts may result in poor
operating results

Revenues are difficult to forecast because the
market for search and retrieval software is uncertain and
evolving. Because we generally ship software products within a
short period after receipt of an order, we typically do not have
a material backlog of unfilled orders, and revenues in any
quarter are substantially dependent on orders booked in that
quarter. In addition, a portion of our revenues is derived from
royalties based upon sales by third-party vendors of products
incorporating our technology. These revenues may be subject to
extreme fluctuation and are difficult for us to predict. Our
expense levels are based, in part, on our expectations as to
future revenues and are to a large extent fixed. Therefore, we
may be unable to adjust spending in a timely manner to
compensate for any unexpected revenue shortfall. Any significant
shortfall of demand in relation to our expectations or any
material delay of customer orders would have an almost immediate
adverse affect on our operating results and on our ability to
achieve profitability.

We have been sued, and are at risk of
future securities class action litigation, due to our past and
expected stock price volatility

In the past, securities class action litigation
has often been brought against a company following a decline in
the market price of its securities. For example, in December
1999 our stock price dramatically declined and a number of
lawsuits were filed against us. Because we expect our stock
price to continue to fluctuate significantly, we may be the
target of similar litigation in the future. Securities
litigation could result in substantial costs and divert
managements attention and resources, and could seriously
harm our business.

We must successfully introduce new products
or our customers will purchase our competitors
products

During the past few years, management and other
personnel have focused on modifying and enhancing our core
technology to support a broader set of search and retrieval
solutions for use on enterprise-wide systems, over online
services, over the Internet and on CD-ROM. In order for our
strategy to succeed and to remain competitive, we must leverage
our core technology to develop new product offerings by us and
by our original equipment manufacturer, or OEM, customers that
address the needs of these new markets. These development
efforts are expensive. If these products do not generate
substantial revenues, our business and

20



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results of operations will be adversely affected.
We cannot assure you that any of these products will be
successfully developed and completed on a timely basis or at
all, will achieve market acceptance or will generate significant
revenues.


Our future operating results will depend upon our
ability to increase the installed base of our information
retrieval technology and to generate significant product
revenues from our core products. Our future operating results
will also depend upon our ability to successfully market our
technology to online and Internet publishers who use this
technology to index their published information in our format.
To the extent that customers do not adopt our technology for
indexing their published information, users will be unable to
search their information using our search and retrieval
products, which in turn will limit the demand for our products.

We face intense competition from companies
with significantly greater financial, technical, and marketing
resources, which could adversely affect our ability to maintain
or increase sales of our products

The business portal software market is intensely
competitive and we cannot assure you that we will maintain our
current position of market share. A number of companies offer
competitive products addressing this market. We compete with
Alta Vista, Autonomy, Convera, Inktomi, FAST, Hummingbird/ PC
Docs/ Fulcrum, Infoseek, Lotus, Mercado, Viador, Epicentric,
Thunderstone and Microsoft, among others. We also compete
indirectly with database vendors, such as Oracle, that offer
information search and retrieval capabilities with their core
database products and web platform companies, such as Netscape.

In the future, we may encounter competition from
a number of companies. Many of our existing competitors, as well
as a number of other potential new competitors, have
significantly greater financial, technical and marketing
resources than we do. Because the success of our strategy is
dependent in part on the success of our strategic customers,
competition between our strategic customers and the strategic
customers of our competitors, or failure of our strategic
customers to achieve or maintain market acceptance could harm
our competitive position. Although we believe that our products
and technologies compete favorably with competitive products, we
cannot assure you that we will be able to compete successfully
against our current or future competitors or that competition
will not harm our business.

We rely on Regent Pacific Management
Corporation for the management of Verity, and the loss of these
services could adversely affect our business

Regent Pacific Management Corporation, a
management firm of which Gary J. Sbona is chief executive
officer, provides management services for our company under a
management services agreement. The management services provided
under our agreement with Regent Pacific include the services of
Mr. Sbona, as chairman of the board and chief executive
officer, and other Regent Pacific personnel as part of
Veritys management team. The agreement terminates on
August 31, 2002, but provides us with an option to further
extend the term of this agreement through February 2003. This
agreement may be cancelled at the option of the board after
February 2003. If the agreement with Regent Pacific were
canceled or not renewed, the loss of the Regent Pacific
personnel could negatively affect our operations, especially
during the transition phase to a new management. Similarly, if
any adverse change in Veritys relationship with Regent
Pacific occurs, it could hinder managements ability to
direct our business and materially and adversely affect our
results of operations and financial condition.

Our business may suffer due to risks
associated with international sales

Historically, our foreign operations and export
sales account for a significant portion of our annual revenues.
Our international business activities are subject to a number of
risks, each of which could impose unexpected costs on us that
would have an adverse effect on our operating results. These
risks include:



| |   |                                                                       
| | - | ----------------------------------------------------------------------
| |  | difficulties in complying with regulatory
	requirements and standards;
|
| |  | tariffs and other trade barriers;                                     
|
| |  | costs and risks of localizing products for
	foreign countries;        

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| |   |                                                           
| | - | ----------------------------------------------------------
| |  | reliance on third parties to distribute our
	products;    
|
| |  | longer accounts receivable payment cycles;                
|
| |  | potentially adverse tax consequences;                     
|
| |  | limits on repatriation of earnings; and                   
|
| |  | burdens of complying with a wide variety of
	foreign laws.

We currently engage in only limited hedging
activities to protect against the risk of currency fluctuations.
Fluctuations in currency exchange rates could cause sales
denominated in U.S. dollars to become relatively more
expensive to customers in a particular country, leading to a
reduction in sales or profitability in that country. Also, these
fluctuations could cause sales denominated in foreign currencies
to affect a reduction in the current U.S. dollar revenues
derived from sales in a particular country. Furthermore, future
international activity may result in increased foreign currency
denominated sales and, in this event, gains and losses on the
conversion to U.S. dollars of accounts receivable and
accounts payable arising from international operations may
contribute significantly to fluctuations in our results of
operations. The financial stability of foreign markets could
also affect our international sales. In addition, revenues
earned in various countries where we do business may be subject
to taxation by more than one jurisdiction, thereby adversely
affecting our earnings. We cannot assure you that any of these
factors will not have an adverse effect on the revenues from our
future international sales and, consequently, our results of
operations.

Service and other revenues derived from foreign
operations accounted for 14.6%, 6.3%, 6.7% and 6.4% of total
revenues in the nine month period ended February 28, 2002,
and in fiscal years 2001, 2000, and 1999 respectively. Our
export sales consist primarily of products licensed for delivery
outside of the United States. In the nine month period ended
February 28, 2002, and in fiscal years 2001, 2000, and
1999, export sales accounted for 20.7%, 26.0%, 19.0% and 27.1%
of total revenues, respectively. We expect that revenues derived
from foreign operations and export sales will continue to
account for a significant percentage of our revenues for the
foreseeable future. These revenues may fluctuate significantly
as a percentage of revenues from period to period. In addition,
a portion of these revenues was derived from sales to foreign
government agencies, which may be subject to risks similar to
those described immediately below. See Note 4 of Notes to
Condensed Consolidated Financial Statements under Part 1,
Item 1 of this Quarterly Report on Form 10-Q for a
discussion of our international revenues and long-lived assets
by geographic region.

A significant portion of our revenues is
derived from sales to the federal government, which are subject
to budget cuts and, consequently, the potential loss of revenues
upon which we have historically relied

Revenues derived from sales to the federal and
state governments and their agencies were 6.0%, 7.4%, 7.8% and
8.1% of total revenues in the nine month period ended
February 28, 2002, and in fiscal years 2001, 2000 and 1999,
respectively. Future reductions in government spending on
information technologies could harm our operating results. Sales
to government agencies declined as a percentage of revenues
during these periods, and may decline in the future. In recent
years, budgets of many government agencies have been reduced,
causing certain customers and potential customers of our
products to re-evaluate their needs. These budget reductions are
expected to continue over at least the next several years.

Almost all of our government contracts contain
termination clauses, which permit contract termination upon our
default or at the option of the other contracting party. We
cannot assure you a cancellation will not occur in the future,
and any termination would adversely affect our operating results.

If we are unable to enhance our existing
products to conform to evolving industry standards in our
rapidly changing markets, our products may become
obsolete

The computer software industry is subject to
rapid technological change, changing customer requirements,
frequent new product introductions, and evolving industry
standards that may render existing products and services
obsolete. As a result, our position in our existing markets or
other markets that we may enter could be eroded rapidly by
product advancements by competitors. If we are unable to develop
and introduce

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products in a timely manner in response to
changing market conditions or customer requirements, our
financial condition and results of operations would be
materially and adversely affected.


The life cycles of our products are difficult to
estimate. Our future success will depend upon our ability to
keep pace with technological developments, conform to evolving
industry standards, particularly client/ server and Internet
communication and security protocols, as well as publishing
formats such as Hypertext Markup Language, or HTML, and
Extensible Markup Language, or XML, and address increasingly
sophisticated customer needs. We cannot assure you that we will
not experience difficulties that could delay or prevent the
successful development, introduction and marketing of new
products, or that new products and product enhancements will
meet the requirements of the marketplace and achieve market
acceptance.

We strive to achieve compatibility between our
products and the text publication formats we believe are or will
become popular and widely adopted. We invest substantial
resources in development efforts aimed at achieving
compatibility. Any failure by us to anticipate or respond
adequately to technology or market developments could result in
a loss of competitiveness or revenue. For instance, to date we
have focused our efforts on integration with the Adobe PDF
and Lotus Notes environments and, more recently, the Microsoft
Exchange environment. Should any of these products or
technologies lose or fail to achieve acceptance in the
marketplace or be replaced by other products or technologies,
our business could be materially and adversely affected.

We embed our basic search engine in key OEM
application products and, therefore, our sales of information
retrieval products depend on our ability to maintain
compatibility with these OEM applications. We cannot assure you
that we will be able to maintain compatibility with these
vendors products or continue to be the search technology
of choice for OEMs. The failure to maintain compatibility with
or be selected by OEMs would materially and adversely affect our
sales. Further, the failure of the products of our key OEM
partners to achieve market acceptance could harm our results of
operations.

Our software products are complex and may
contain errors that could damage our reputation and decrease
sales

Our complex software products may contain errors
that may be detected at any point in the products life
cycles. We have in the past discovered software errors in some
of our products and have experienced delays in shipment of
products during the periods required to correct these errors. We
cannot assure you that, despite our testing and quality
assurance efforts and similar efforts by current and potential
customers, errors will not be found. The discovery of an error
may result in loss of or delay in market acceptance and sales,
diversion of development resources, injury to our reputation, or
increased service and warranty costs, any of which could harm
our business. Although we generally attempt by contract to limit
our exposure to incidental and consequential damages, and to cap
our liabilities to our proceeds under the contract, if a court
fails to enforce the liability limiting provisions of our
contracts for any reason, or if liabilities arise which are not
effectively limited, our operating results could be harmed.

If we lose key personnel, or are unable to
attract additional qualified personnel, our ability to conduct
and grow our business will be impaired

We believe that hiring and retaining qualified
individuals at all levels is essential to our success, and we
cannot assure you that we will be successful in attracting and
retaining the necessary personnel. In addition, we are highly
dependent on our direct sales force for sales of our products as
we have limited distribution channels. Continuity of technical
personnel is an important factor in the successful completion of
development projects, and any turnover of our research and
development personnel could harm our development and marketing
efforts.

Our future success also depends on our continuing
ability to identify, hire, train and retain other highly
qualified sales, technical and managerial personnel. Competition
for this type of personnel is intense, and we cannot assure you
that we will be able to attract, assimilate or retain other
highly qualified technical and managerial personnel in the
future. The inability to attract, hire or retain the necessary
sales, technical and managerial personnel could harm our
business.

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Our ability to compete successfully will
depend, in part, on our ability to protect our intellectual
property rights, which we may not be able to
protect

We rely on a combination of patent, trade
secrets, copyright and trademark laws, nondisclosure agreements
and other contractual provisions and technical measures to
protect our intellectual property rights. The source code for
our proprietary software is protected both as a trade secret and
as a copyrighted work. Policing unauthorized use of our
products, however, is difficult. Litigation may be necessary in
the future to enforce our intellectual property rights, to
protect our trade secrets, to determine the validity and scope
of the proprietary rights of others, or to defend against claims
of infringement or invalidity. Litigation could result in
substantial costs and diversion of resources and could harm our
business regardless of the outcome of the litigation.

Effective copyright and trade secret protection
may be unavailable or limited in some foreign countries. To
license our products, we frequently rely on shrink
wrap licenses that are not signed by the end user and,
therefore, may be unenforceable under the laws of several
jurisdictions. In addition, employees, consultants and others
who participate in the development of our products may breach
their agreements with us regarding our intellectual property,
and we may not have adequate remedies for any such breach. We
also realize that our trade secrets may become known through
other means not currently foreseen by us. Notwithstanding our
efforts to protect our intellectual property, our competitors
may be able to develop products that are equal or superior to
our products without infringing on any of our intellectual
property rights.

Our products employ technology that may
infringe on the proprietary rights of third parties, which may
expose us to litigation

Third parties may assert that our products
infringe their proprietary rights, or may assert claims for
indemnification resulting from infringement claims against us.
Any such claims may cause us to delay or cancel shipment of our
products, which could harm our business. In addition,
irrespective of the validity or the successful assertion of
claims, we could incur significant costs in defending against
claims.

We are dependent on proprietary technology
licensed from third parties, the loss of which could delay
shipments of products incorporating this technology and could be
costly

Some of the technology used by our products is
licensed from third parties, generally on a nonexclusive basis.
We believe that there are alternative sources for each of the
material components of technology we license from third parties.
However, the termination of any of these licenses, or the
failure of the third-party licensors to adequately maintain or
update their products, could result in delay in our ability to
ship these products while we seek to implement technology
offered by alternative sources. Any required replacement
licenses could prove costly. Also, any delay, to the extent it
becomes extended or occurs at or near the end of a fiscal
quarter, could harm our quarterly results of operations. While
it may be necessary or desirable in the future to obtain other
licenses relating to one or more of our products or relating to
current or future technologies, we cannot assure you that we
will be able to do so on commercially reasonable terms or at all.

Potential acquisitions may have unexpected
consequences or impose additional costs on us

Our business is highly competitive and our growth
is dependent upon market growth and our ability to enhance our
existing products and introduce new products on a timely basis.
One of the ways we may address the need to develop new products
is through acquisitions of complementary businesses and
technologies. From time to time, we consider and evaluate
potential business combinations both involving our acquisition
of another company and transactions involving the sale of Verity
through, among other things, a possible merger or consolidation
of our business into that of another entity. Acquisitions
involve numerous risks, including the following:



| |   |                                                                                                      
| | - | -----------------------------------------------------------------------------------------------------
| |  | difficulties in integration of the operations,
	technologies, and products of the acquired companies;
|
| |  | the risk of diverting managements attention
	from normal daily operations of the business;          

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| |   |                                                                                                                                                          
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | accounting consequences, including changes in
	purchased research and development expenses, resulting in
	variability in our quarterly earnings;         
|
| |  | potential difficulties in completing projects
	associated with purchased in-process research and development;                                            
|
| |  | risks of entering markets in which we have no or
	limited direct prior experience and where competitors in these
	markets have stronger market positions;
|
| |  | the potential loss of key employees of the
	acquired company; and                                                                                        
|
| |  | the assumption of unforeseen liabilities of the
	acquired company.                                                                                       

We cannot assure you that our future acquisitions
will be successful and will not adversely affect our business.
We must also maintain our ability to manage any growth
effectively. Failure to manage growth effectively and
successfully integrate acquisitions we make could harm our
business.

Risks Related to Our Industry

We depend on increasing use of the
Internet, intranets, extranets and portals and on the growth of
electronic commerce. If the use of the Internet, intranets,
extranets and portals and electronic commerce do not grow as
anticipated, our business will be seriously harmed

The products of most of our customers depend on
the increased acceptance and use of the Internet as a medium of
commerce and on the development of corporate intranets and
extranets and portals. As a result, acceptance and use may not
continue to develop at historical rates and a sufficiently broad
base of business customers may not adopt or continue to use the
Internet as a medium of commerce. The lack of such development
would impair demand for our products and would adversely affect
our ability to sell our products. Demand and market acceptance
for recently introduced services and products over the Internet
and the development of corporate intranets and extranets and
portals are subject to a high level of uncertainty, and there
exist few proven services and products.

The business of most of our customers would be
seriously harmed if:



| |   |                                                                                                                                                                                                         
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | use of the Internet, the Web and other online
	services does not continue to increase or increases more slowly
	than expected;                                                                          
|
| |  | the infrastructure for the Internet, the Web and
	other online services does not effectively support expansion
	that may occur; or                                                                      
|
| |  | the Internet, the Web and other online services
	do not create a viable commercial marketplace, inhibiting the
	development of electronic commerce and reducing the need for our
	products and services.

Capacity constraints may restrict the use
of the Internet as a commercial marketplace, which would
restrict our growth

The Internet may not be accepted as a viable
long-term commercial marketplace for a number of reasons. These
include:



| |   |                                                                                                                                                        
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | potentially inadequate development of the
	necessary communication and network infrastructure, particularly
	if rapid growth of the Internet continues;
|
| |  | delayed development of enabling technologies and
	performance improvements;                                                                            
|
| |  | delays in the development or adoption of new
	standards and protocols; and                                                                             
|
| |  | increased governmental regulation.                                                                                                                     

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Our ability to grow our business is dependent on
the growth of the Internet and, consequently, any adverse events
would impair our ability to grow our business.

Security risks and concerns may deter the
use of the Internet for conducting electronic commerce, which
would adversely affect the demand for our products

A significant barrier to electronic commerce and
communications is the secure transmission of confidential
information over public networks. Advances in computer
capabilities, new discoveries in the field of cryptography or
other events or developments could result in compromises or
breaches of our security systems or those of other web sites to
protect proprietary information. If any well-publicized
compromises of security were to occur, it could have the effect
of substantially reducing the use of the Internet for commerce
and communications, resulting in reduced demand for our
products, thus adversely affecting our revenues.

Security risks expose us to additional
costs and to litigation

Anyone who circumvents our security measures
could misappropriate proprietary information or cause
interruptions in our services or operations. The Internet is a
public network, and data is sent over this network from many
sources. In the past, computer viruses, software programs that
disable or impair computers, have been distributed and have
rapidly spread over the Internet. We may be required to expend
significant capital and other resources to protect against the
threat of security breaches or to alleviate problems caused by
breaches. To the extent that our activities may involve the
storage and transmission of proprietary information, such as
credit card numbers, security breaches could expose us to a risk
of loss or litigation and possible liability. Our security
measures may be inadequate to prevent security breaches, and our
business would be harmed if we do not prevent them.

Risks Related to Ownership of Our Common
Stock

The market price of our common stock will
fluctuate and you may lose all or part of your
investment

Our common stock is quoted for trading on the
Nasdaq National Market. The market price for our common stock
may continue to be highly volatile for a number of reasons
including:



| |   |                                                                                               
| | - | ----------------------------------------------------------------------------------------------
| |  | future announcements concerning Verity or its
	competitors;                                   
|
| |  | quarterly variations in operating results;                                                    
|
| |  | announcements of technological innovations;                                                   
|
| |  | the introduction of new products or changes in
	product pricing policies by us or competitors;
|
| |  | proprietary rights or other litigation; and                                                   
|
| |  | changes in earnings estimates by analysts or
	other factors.                                  

In addition, stock prices for many technology
companies fluctuate widely for reasons, which may be unrelated
to operating results. These fluctuations, as well as general
economic, market and political conditions such as recessions or
military conflicts, may materially and adversely affect the
market price of our common stock.

We have implemented certain anti-takeover
provisions that may prevent or delay an acquisition of Verity
that might be beneficial to our stockholders

Provisions of our certificate of incorporation
and bylaws, as well as provisions of Delaware law, could make it
more difficult for a third party to acquire us, even if doing so
would be beneficial to our stockholders. These provisions
include:



| |   |                                                                                                                      
| | - | ---------------------------------------------------------------------------------------------------------------------
| |  | establishment of a classified board of directors
	such that not all members of the board may be elected at one
	time;

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| |   |                                                                                                                                                                                                     
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | the ability of the board of directors to issue
	without stockholder approval up to 2,000,000 shares of preferred
	stock to increase the number of outstanding shares and thwart a
	takeover attempt;
|
| |  | no provision for cumulative voting in the
	election of directors, which would otherwise allow less than a
	majority of stockholders to elect director candidates;                                   
|
| |  | limitations on who may call special meetings of
	stockholders;                                                                                                                                      
|
| |  | prohibiting stockholder action by written
	consent, thereby requiring all stockholder actions to be taken
	at a meeting of our stockholders; and                                                    
|
| |  | establishing advance notice requirements for
	nominations for election to the board of directors or for
	proposing matters that can be acted upon by stockholders at
	stockholder meetings.         

We also have in place a Share Purchase Rights
Plan, commonly referred to as a poison pill. In
addition, the anti-takeover provisions of Section 203 of
the Delaware General Corporations Law and the terms of our stock
option plan may discourage, delay or prevent a change in control
of Verity.

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Item 3. Quantitative and
Qualitative Disclosures About Market Risk

Interest Rate Risk.The primary objective of our
investment activities is to preserve the principal while at the
same time maximizing yields without significantly increasing the
risk. To achieve this objective, we maintain our portfolio of
cash equivalents and investments in a variety of securities,
including both government and corporate obligations and money
market funds. As of February 28, 2002, approximately 54% of
our portfolio matures in one year or less, with the remainder
maturing in less than three years. We do not use derivative
financial instruments in our investment portfolio. We place our
investments with high credit quality issuers and, by policy,
limit the amount of credit exposure to any one issuer.

The following table presents the amounts of our
cash equivalents and investments that are subject to interest
rate risk by year of expected maturity and average interest
rates as of February 28, 2002:

|                       |  |                |        |        |  |        |        |        |  |       |        |            |  |   |       |   |  |   |         |  |  |   |         | 
|---------------------- |  | -------------- | ------ | ------ |  | ------ | ------ | ------ |  | ----- | ------ | ---------- |  | - | ----- | - |  | - | ------- |  |  | - | ------- | 
|                       |  | FY2002         |        | FY2003 |  | FY2004 |        | FY2005 |  | Total |        | Fair Value
|                       |  |                |        |        |  |        |        |        |  |       |        |           
|                       |  |               
|                       |  | (in thousands)
|Cash equivalents       |  | $              | 17,158 |        |  |        |       |        |  |       |       |            |  |   |      |   |  | $ | 17,158  |  |  | $ | 17,158  | 
|Average interest rate  |  |                | 1.0    | %      |  |        |       |        |  |       |       |            |  |   |      |   |  |   |         |  |  |   |         | 
|Short-term investments |  | $              | 51,341 |        |  | $      | 63,899 |        |  |       |       |            |  |   |      |   |  | $ | 115,240 |  |  | $ | 115,240 | 
|Average interest rate  |  |                | 3.0    | %      |  |        | 3.1    | %      |  |       |       |            |  |   |      |   |  |   |         |  |  |   |         | 
|Long-term investments  |  |                |       |        |  | $      | 34,360 |        |  | $     | 71,368 |            |  | $ | 5,033 |   |  | $ | 110,761 |  |  | $ | 110,761 | 
|Average interest rates |  |                |       |        |  |        | 3.8    | %      |  |       | 3.5    | %          |  |   | 4.8   | % |  |   |         |  |  |   |         | 

Foreign Currency Risk.We transact business in various
foreign currencies, including the Euro, the British pound, the
Canadian dollar, the Australian dollar, the Swedish krona, the
South African rand, the Mexican peso, the Brazilian real and the
Singaporean dollar. We have established a foreign currency
hedging program utilizing foreign currency forward exchange
contracts to hedge certain sales contracts denominated in
foreign currency. Under this program, fluctuations in foreign
currencies during the period from the signing of the contract
until payment are partially offset by realized gains and losses
on the hedging instruments. The goal of this hedging program is
to lock in exchange rates on our sales contracts denominated in
foreign currencies. The notional amount of hedged contracts and
the estimated fair value are not material.

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PART II. OTHER INFORMATION




Item 1. Legal
Proceedings

On June 7, 2001, Verity filed a complaint in
federal district court in the Northern District of California,
San Jose Division, against BroadVision, Inc. (Case
No. C01-20501-PVT-ADR). BroadVision is a software company
that Verity in the past has licensed to distribute Veritys
copyrighted software known as the Verity Developer Kit
(VDK). Verity alleges in its complaint that under
the terms of the parties licenses, BroadVision was
authorized to distribute certain limited portions of VDK as an
embedded component of specified software applications of
BroadVision. Verity further alleges that BroadVision has
distributed portions of VDK that it was not authorized to
distribute, failed to prevent end users from accessing
unlicensed functions and encouraged end users to make use of
unlicensed functions of VDK. Verity further alleges that it
terminated its license with BroadVision on April 24, 2001
and that BroadVision no longer has any right to distribute any
portion of VDK.

Based on the foregoing allegations, Verity has
asserted claims against BroadVision for copyright infringement,
declaratory relief, unfair competition, interference with
economic advantage, breach of contract, and breach of the
implied covenant of good faith and fair dealing. Verity seeks by
its complaint, among other things, an injunction to prohibit
BroadVision from further distribution of VDK, damages, including
statutory damages, according to proof based on
BroadVisions unauthorized distribution of VDK and
attorneys fees.

BroadVision answered Veritys complaint on
June 28, 2001 and denied the material allegations of the
Complaint and asserted affirmative defenses to Veritys
claims. BroadVision also asserted a counterclaim alleging that
Verity had breached the parties license and the implied
covenant of good faith and fair dealing contained therein
(1) by failing to pay BroadVision referral fees that it
claims Verity owes to BroadVision for BroadVisions efforts
in securing the sale of Verity Advanced K-2 Search Modules; and
(2) by failing to provide support to BroadVision for VDK
after Verity terminated the parties license. BroadVision
seeks by its counterclaim, among other things, damages according
to proof, a declaration that BroadVision has not breached the
parties license and attorneys fees.

Verity answered BroadVisions counterclaim
on July 23, 2001 and denied the material allegations of the
counterclaim and asserted various affirmative defenses to
BroadVisions claims.

The action is currently in the discovery stage. A
trial date has been set for March 10, 2003.




Item 2. Changes in Securities and
Use of Proceeds

Not Applicable.




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

Not Applicable.




Item 6. Exhibits and Reports on
Form 8-K

A. Exhibits See
Exhibit Index

B. Reports on Form 8-K

No Current Reports on Form 8-K were filed
during the quarter covered by this report.

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SIGNATURE

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



| |             
| | ------------
| | VERITY, INC.



| |     |                   
| | --- | ------------------
| | By: | /s/ TODD K. YAMAMI

| |                                          
| | -----------------------------------------
| |                                          
| | Todd K. Yamami                           
| | Vice President & Chief Financial
	Officer
| | (Principal Financial Officer)            

Dated: April 5, 2002

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INDEX TO EXHIBITS

|        |     |                         |  |                                                                                                              
|------- | --- | ----------------------- |  | -------------------------------------------------------------------------------------------------------------
|Exhibit |     |                        
|Number  |     | Description of Document
|        |     |                        
|        | 3.1 |                         |  | Restated Certificate of Incorporation of the
	Company.(1)                                                    
|        | 3.2 |                         |  | By-Laws.(1)                                                                                                  
|        | 4.1 |                         |  | Amended and Restated Rights Agreement dated
	August 1, 1995, as amended.(2)                                  
|        | 4.2 |                         |  | Form of Rights Agreement between Verity, Inc. and
	First National Bank of Boston dated September 18, 1996.(3)
|        | 4.3 |                         |  | First Amendment to Rights Agreement dated as of
	July 23, 1999 among Verity, Inc. and BankBoston, N.A.(4)    




|    |                                                                                                                                                                           
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Incorporated by reference from the exhibits with
	corresponding numbers from the Companys Form 10-Q for
	the quarter ended November 30, 2000.                            
|   
|(2) | Incorporated by reference from the exhibits with
	corresponding numbers from the Companys Registration
	Statement (No. 33-96228), declared effective on
	October 5, 1995.
|   
|(3) | Incorporated by reference from
	Exhibit No. 1 to the Companys Form 8-K as
	filed with the Securities and Exchange Commission on
	October 10, 1996.                       
|   
|(4) | Incorporated by reference to Exhibit 99.2
	from the Companys Current Report on Form 8-K filed on
	July 29, 1999.                                                         

31