<PAGE>

================================================================================



                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

                                  --------------

                                    FORM 10-Q

(MARK ONE)

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

     FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2002

                                       OR

[_]  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: 000-31097

                         SPEECHWORKS INTERNATIONAL, INC.
             (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

             DELAWARE                                           04-3239151
  (STATE OR OTHER JURISDICTION                               (I.R.S. EMPLOYER
OF INCORPORATION OR ORGANIZATION)                            IDENTIFICATION NO.)

                      695 ATLANTIC AVENUE, BOSTON, MA 02111
               (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)

                                 (617) 428-4444
               REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE

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

                      APPLICABLE ONLY TO CORPORATE ISSUERS:

     As of May 8, 2002, the registrant had 32,590,012 shares of common stock,
par value $0.001 per share, outstanding.

================================================================================



<PAGE>

                         SPEECHWORKS INTERNATIONAL, INC.
                                      INDEX

                                                                          PAGE
                                                                           NO.

PART I--FINANCIAL INFORMATION (UNAUDITED)

     Item 1.        Financial Statements.............................

                    Consolidated Balance Sheet as of March 31, 2002
                    and December 31, 2001............................         1

                    Consolidated Statement of Operations for the
                    Three Months Ended March 31, 2002 and 2001.......         2

                    Consolidated Statement of Cash Flows for the
                    Three Months Ended March 31, 2002 and 2001.......         3

                    Notes to Consolidated Financial Statements.......         4

     Item 2.        Management's Discussion and Analysis of
                    Financial Condition and Results of Operations....         8

     Item 3.        Quantitative and Qualitative Disclosures about
                    Market Risk......................................        23

PART II--OTHER INFORMATION

     Item 2.        Changes in Securities and Use of Proceeds........        23

     Item 6.        Exhibits and Reports on Form 8-K.................        23

SIGNATURES...........................................................        24



<PAGE>

                         SPEECHWORKS INTERNATIONAL, INC.
                           CONSOLIDATED BALANCE SHEET
                                   (UNAUDITED)

<TABLE>
<CAPTION>
                                                                                     MARCH 31,         DECEMBER 31,
                                                                                       2002              2001
                                                                                 ----------------   ---------------
                                                                                       (IN THOUSANDS, EXCEPT
                                                                                        SHARE INFORMATION)
<S>                                                                              <C>                <C>
ASSETS
Current assets:
   Cash and cash equivalents...................................................         $  52,400         $  55,534
   Marketable securities.......................................................            16,119            24,264
   Accounts receivable, net of allowance for doubtful accounts of $1,454 and
      $1,428, respectively.....................................................            12,101            12,725
   Prepaid expenses and other current assets...................................             1,932             2,207
                                                                                         ---------         ---------
      Total current assets.....................................................            82,552            94,730
Fixed assets, net..............................................................             6,731             6,719
Intangible assets, net.........................................................             9,030            10,271
Goodwill, net..................................................................            10,707            10,707
Other assets...................................................................             2,210             2,361
                                                                                        ---------         ---------
      Total assets.............................................................         $ 111,230         $ 124,788
                                                                                        =========         =========

LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
   Accounts payable............................................................         $     806         $   2,074
   Accrued compensation........................................................             2,020             3,574
   Accrued expenses............................................................             2,464             3,063
   Deferred revenue............................................................             5,122             6,125
   Current portion of notes payable............................................               767               892
                                                                                        ---------         ---------
      Total current liabilities................................................            11,179            15,728
Notes payable, net of current portion..........................................             1,051             1,201
                                                                                        ---------         ---------
      Total liabilities........................................................            12,230            16,929
                                                                                        ---------         ---------

Stockholders' equity:
   Preferred stock, $0.001 par value; 10,000,000 shares authorized; zero
      shares issued and outstanding............................................                --                --
   Common stock, $0.001 par value; 100,000,000 shares authorized; 32,536,151
      and 32,347,954 shares issued and outstanding, respectively...............                33                32
   Additional paid-in capital..................................................           235,299           234,563
   Deferred stock compensation.................................................           (11,824)          (13,889)
   Accumulated other comprehensive loss........................................              (140)              (46)
   Accumulated deficit.........................................................          (124,368)         (112,801)
                                                                                        ---------         ---------
      Total stockholders' equity...............................................            99,000           107,859
                                                                                        ---------         ---------
      Total liabilities and stockholders' equity...............................         $ 111,230          $124,788
                                                                                        =========         =========
</TABLE>
              The accompanying notes are an integral part of these
                       consolidated financial statements.

                                       1

<PAGE>

                         SPEECHWORKS INTERNATIONAL, INC.
                      CONSOLIDATED STATEMENT OF OPERATIONS
                                   (UNAUDITED)

<TABLE>
<CAPTION>
                                                                                  THREE MONTHS ENDED MARCH 31,
                                                                                  ---------------------------
                                                                                     2002              2001
                                                                                  ---------         ---------
                                                                                   (IN THOUSANDS, EXCEPT PER
                                                                                           SHARE DATA)
<S>                                                                              <C>                <C>
Revenues:
   Product licenses............................................................      $4,595           $ 6,092
   Professional services.......................................................       5,205             4,493
   Other revenues..............................................................         349               952
   Non-cash stock compensation.................................................        (676)             (674)
                                                                                  ---------         ---------
      Total revenues...........................................................       9,473            10,863
                                                                                  ---------         ---------

Cost of revenues:
   Cost of product licenses....................................................          36                54
   Cost of professional services -- non-cash stock compensation................         154               154
                                 -- all other expenses.........................       2,866             3,448
   Cost of other revenues......................................................         365               751
   Amortization of purchased technology........................................         283               283
                                                                                  ---------         ---------
      Total cost of revenues...................................................       3,704             4,690
                                                                                  ---------         ---------
Gross profit ..................................................................       5,769             6,173
                                                                                  ---------         ---------
Operating expenses:
   Selling and marketing -- non-cash stock compensation .......................         990               991
                         -- all other expenses ................................       7,589             6,902
   Research and development -- non-cash stock compensation ....................         140               140
                            -- all other expenses .............................       3,882             3,984
   General and administrative -- non-cash stock compensation ..................         106               106
                              -- all other expenses ...........................       3,776             3,934
   Amortization of intangible assets ..........................................         958             1,627
                                                                                  ---------         ---------
      Total operating expenses ................................................      17,441            17,684
                                                                                  ---------         ---------
Loss from operations ..........................................................     (11,672)          (11,511)
Interest income ...............................................................         300             1,504
Interest expense ..............................................................         (17)              (15)
Other expenses, net ...........................................................        (111)              (30)
                                                                                  ---------         ---------
Loss before income taxes ......................................................     (11,500)          (10,052)
Provision for income taxes ....................................................          67                26
                                                                                  ---------         ---------
Net loss ......................................................................    $(11,567)         $(10,078)
                                                                                  =========         =========

Basic and diluted net loss per common share ...................................      $(0.36)           $(0.32)
Shares used in computing basic and diluted net loss per common share ..........      32,426            31,408
</TABLE>
              The accompanying notes are an integral part of these
                       consolidated financial statements.

                                       2

<PAGE>

                         SPEECHWORKS INTERNATIONAL, INC.
                      CONSOLIDATED STATEMENT OF CASH FLOWS
                                   (UNAUDITED)

<TABLE>
<CAPTION>
                                                                                  THREE MONTHS ENDED MARCH 31,
                                                                                  ---------------------------
                                                                                     2002              2001
                                                                                  ---------         ---------
                                                                                         (IN THOUSANDS)
<S>                                                                              <C>                <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss ......................................................................    $(11,567)         $(10,078)
Adjustments to reconcile net loss to net cash used in operating activities:
    Depreciation and amortization .............................................         727               763
    Amortization of intangible assets .........................................       1,241             1,910
    Stock compensation expense ................................................       2,066             2,065
    Provision for doubtful accounts ...........................................          46                --
    Changes in operating assets and liabilities, net of effect of acquisition:
        Accounts receivable ...................................................         578            (1,220)
        Prepaid expenses and other current assets .............................         274                (8)
        Other assets ..........................................................         151               (87)
        Accounts payable ......................................................      (1,268)              469
        Accrued compensation ..................................................      (1,554)           (2,562)
        Accrued other expenses ................................................        (599)             (718)
        Deferred revenue ......................................................      (1,003)              154
                                                                                  ---------         ---------
            Net cash used in operating activities .............................     (10,908)           (9,312)
                                                                                  ---------         ---------

CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of fixed assets .....................................................        (739)           (1,292)
Cash paid to acquire business, including acquisition costs,
    net of cash acquired ......................................................          --            (5,377)
Purchases of marketable securities ............................................          --            (9,174)
Maturities of marketable securities ...........................................       8,134            11,288
                                                                                  ---------         ---------
           Net cash provided by (used in) investing activities ................       7,395            (4,555)
                                                                                  ---------         ---------

CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on notes payable ...........................................        (275)             (125)
Proceeds from exercise of common stock options and warrants ...................         737               663
                                                                                  ---------         ---------
          Net cash provided by financing activities ...........................         462               538
                                                                                  ---------         ---------
Effects of changes in exchange rates on cash ..................................         (83)              (43)
                                                                                  ---------         ---------
          Net decrease in cash and cash equivalents ...........................      (3,134)          (13,372)
                                                                                  ---------         ---------
Cash and cash equivalents, beginning of period ................................      55,534            99,203
                                                                                  ---------         ---------
Cash and cash equivalents, end of period ......................................    $ 52,400          $ 85,831
                                                                                  =========         =========
</TABLE>

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

                                       3

<PAGE>

                         SPEECHWORKS INTERNATIONAL, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                   (UNAUDITED)

1.   BASIS OF PRESENTATION

     The unaudited consolidated financial statements have been prepared by the
Company in accordance with instructions to Form 10-Q and Article 10 of
Regulation S-X. The consolidated financial statements include the accounts of
the Company and its wholly-owned subsidiaries. All intercompany accounts and
transactions have been eliminated. In the opinion of management, all
adjustments, consisting only of normal recurring adjustments, considered
necessary for a fair presentation have been included. The results of operations
for the three month period ended March 31, 2002 are not necessarily indicative
of the results to be expected for the full year or for any future periods.
Certain amounts in the prior year's financial statements have been reclassified
to conform to current year presentation. These reclassifications had no effect
on reported net loss. The accompanying consolidated financial statements should
be read in conjunction with the audited consolidated financial statements for
the year ended December 31, 2001 contained in the Company's 2001 Annual Report
on Form 10-K filed with the Securities and Exchange Commission.

2.   NET LOSS PER SHARE

     Basic net loss per common share is computed by dividing net loss
attributable to common stockholders by the weighted average number of common
shares outstanding. Diluted net loss per share is computed by dividing the net
loss attributable to common stockholders by the weighted average number of
shares of common stock and potential common stock outstanding during the period,
if dilutive. There is no difference between basic and diluted net loss per share
for all periods presented since potential common shares from the exercise of
common stock options and warrants were anti-dilutive for all periods presented.
The calculation of diluted net loss per common share for the three month periods
ended March 31, 2002 and 2001 does not include 6,819,382 and 5,984,346 potential
shares of common stock equivalents, respectively, related to common stock
options and warrants.

3.   COMPREHENSIVE LOSS

     For the three months ended March 31, 2002 and 2001, total comprehensive
loss was as follows:

                                              THREE MONTHS ENDED MARCH 31,
                                           ---------------------------------
                                                2002             2001
                                           ---------------- ----------------
                                                    (IN THOUSANDS)

Net loss                                        $ (11,567)        $ (10,078)
                                                ---------         ---------

Other comprehensive income (loss):
    Unrealized gain (loss) on investments             (11)                3
    Foreign currency translation adjustment           (83)              (43)
                                                ---------         ---------

Total other comprehensive income (loss)               (94)              (40)
                                                ---------         ---------

        Total comprehensive loss                $ (11,661)        $ (10,118)
                                                =========         =========


                                       4

<PAGE>

4.   DEFERRED STOCK COMPENSATION

     In connection with the sale of common stock in private placements to
America Online ("AOL") and Net2Phone, concurrent with the Company's initial
public offering, the Company recorded deferred stock compensation within
stockholders' equity of $5.4 million. This amount represents the difference
between the price of the common stock of the Company sold in the public offering
of $20.00 per share and the $12.46 per share price paid by AOL and Net2Phone.
Additionally, SpeechWorks issued a warrant to purchase 765,422 shares of common
stock to AOL in connection with a long-term marketing arrangement. The estimated
value of this warrant upon its issuance, utilizing the Black-Scholes valuation
model, of $11.2 million was recorded as deferred stock compensation within
stockholders' equity. The aggregate amount of $16.6 million is presented as a
reduction of stockholders' equity and is being amortized to the statement of
operations over the three-year term of the concurrently entered arrangements.
Prior to January 1, 2002, in each reporting period, the amortization of the
common stock issued below fair market value was reflected first as a reduction
of revenues resulting from the arrangements during the reporting period and to
the extent that the amortization exceeded such revenues, the residual was
reflected as selling and marketing expense; the amortization of the warrant
value was recognized as selling and marketing expense.

     Effective January 1, 2002, SpeechWorks adopted Emerging Issues Task Force
issue No. 01-09, Accounting for Consideration Given by a Vendor to a Customer or
a Reseller of the Vendor's Products ("EITF 01-09"). EITF 01-09 addresses whether
a vendor should recognize consideration, including equity instruments, given to
a customer as an expense or an offset to revenue being recognized from that same
customer. Consideration given to a customer is presumed to be a reduction of
revenue unless both the following conditions are met:

     o    SpeechWorks receives an identifiable benefit in exchange for the
          consideration, and the identified benefit is sufficiently separable
          from the customer's purchase of SpeechWorks' products and services
          such that SpeechWorks could have purchased the products from a third
          party, and

     o    SpeechWorks can reasonably estimate the fair value of the benefit
          received.

     If both of these conditions are met, consideration paid to the customer may
be recognized as expense. If consideration, including equity instruments, does
not meet the above criteria, SpeechWorks must characterize the recognition of
such consideration as a reduction of revenue, to the extent there is cumulative
revenue from such customer or reseller. Any recognition in excess of cumulative
revenue for such consideration is recorded as an expense.

     Upon adopting EITF 01-09, SpeechWorks determined that the AOL and Net2Phone
arrangements were required to be accounted for in accordance with EITF 01-09.
The Company determined that it did not meet the condition that a sufficiently
separable benefit had been received from AOL and Net2Phone; accordingly,
recognition of the consideration must be recorded as a reduction of cumulative
revenue from these customers. As SpeechWorks had recognized cumulative revenue
under these arrangements as of March 31, 2001 in excess of amounts previously
recorded as a revenue offset, for the three months ended March 31, 2001
SpeechWorks reclassified $362,000 of selling and marketing non-cash stock
compensation expense as an offset to revenue. For the three months ended March
31, 2002, the Company recognized $676,000 as an offset to revenue associated
with these arrangements, in accordance with EITF 01-09. Amounts of $713,000 and
$716,000, which exceed the amount of cumulative revenue under each of the
arrangements during the three months ended March 31, 2002 and 2001,
respectively, were included as selling and marketing non-cash stock compensation
expense.

                                       5

<PAGE>

5.   INTANGIBLE ASSETS AND GOODWILL

     The following table summarizes intangible assets:

<TABLE>
<CAPTION>
                                                        MARCH 31, 2002             DECEMBER 31, 2001
                                                        --------------             -----------------
                                                                      (IN THOUSANDS)

                                                   GROSS                         GROSS
                                                  CARRYING     ACCUMULATED      CARRYING     ACCUMULATED
                                                   AMOUNT      AMORTIZATION      AMOUNT      AMORTIZATION
                                                  --------     -------------   ----------   -------------
<S>                                               <C>       <C>                <C>          <C>
Acquired intellectual property and
   collaborative rights .......................   $ 11,497        $ 6,706       $ 11,497        $ 5,748
Completed technology ..........................      5,653          1,414          5,653          1,131
                                                  --------        -------       --------        -------
                                                  $ 17,150        $ 8,120       $ 17,150        $ 6,879
                                                  ========        =======       ========        =======
</TABLE>


     On June 5, 2000, the Company entered into a development and license
agreement with AT&T Corp. to develop and sell products that use AT&T speech
technology. Pursuant to this agreement, in exchange for 1,045,158 shares of the
Company's common stock, the Company received development and distribution
licenses to AT&T's speech software, text-to-speech software and certain other
technology related to computer processing of the human voice. In addition, the
parties agreed to collaborate in certain marketing efforts and additional
technology development. In connection with this agreement, the Company recorded
$11,497,000 of acquired intellectual property and collaborative rights, equal to
the fair value of the common stock issued, which is being amortized on a
straight-line basis over a three-year period. Amortization expense for the
acquired intellectual property and collaborative rights was $958,000 for both
three-month periods ended March 31, 2002 and 2001, respectively.

     On January 5, 2001, the Company acquired all of the outstanding capital
stock of Eloquent Technology, Inc. ("ETI"), a supplier of speech synthesis, or
text-to-speech technology. In connection with the acquisition, the Company paid
$5,250,000 in cash and issued 299,873 shares of its common stock valued at
$13,457,000. Additionally, the Company incurred acquisition-related costs of
$132,000, which are included in the total purchase price for accounting
purposes. The acquisition was accounted for using the purchase method of
accounting. Accordingly, the fair market values of the acquired assets and
assumed liabilities have been included in the Company's consolidated financial
statements as of the acquisition date, and the results of operations of ETI have
been included in the Company's consolidated financial statements thereafter. The
purchase price of $18,839,000 has been allocated to net tangible assets and
liabilities acquired of ($196,000), completed technology of $5,653,000 and
goodwill of $13,382,000. The completed technology, reported as intangible
assets, is being amortized on a straight-line basis through December 2005. For
both three-month periods ended March 31, 2002 and 2001, the Company recorded
amortization expense for completed technology of $283,000. As of January 1,
2002, the Company ceased amortization of the goodwill in compliance with
Statements of Financial Accounting Standards (SFAS) No. 142, Goodwill and Other
Intangible Assets; for the three months ended March 31, 2001, the Company
recorded $669,000 of goodwill amortization. Pursuant to SFAS 142, the Company
will complete its test for goodwill impairment during the second quarter 2002
and is required to complete additional impairment analyses annually thereafter,
or more frequently when events or circumstances occur indicating that goodwill
might be impaired. The Company is currently evaluating the effect that the
impairment review may have on its consolidated results of operations and
financial position, however an impairment charge is not expected to be recorded.

     The Company expects quarterly amortization of all intangible assets to be
$1.2 million through the quarter ended June 30, 2003; thereafter, the Company
expects quarterly amortization to be $283,000 through the quarter ended December
31, 2005.

                                       6

<PAGE>

     The following summary reflects the results of operations as if SFAS 142 had
been applicable at the beginning of the periods presented:

                                                        THREE MONTHS ENDED
                                                             MARCH 31,
                                                        --------------------
                                                        2002            2001
                                                        ----            ----
                                                     (IN THOUSANDS, EXCEPT NET
                                                       LOSS PER SHARE AMOUNTS)

Reported net loss .................................... $(11,567)       $(10,078)
Goodwill amortization.................................       --             669
                                                       --------        --------
Adjusted net loss..................................... $(11,567)       $ (9,409)
                                                       ========        ========

Reported basic and diluted net loss per common share..   $(0.36)         $(0.32)
Goodwill amortization.................................       --            0.02
                                                       --------        --------
Adjusted basic and diluted net loss per common share..   $(0.36)         $(0.30)
                                                       ========        ========



6.   REIMBURSABLE OUT-OF-POCKET EXPENSES

     Effective January 1, 2002, the Company adopted EITF issue No. 01-14, Income
Statement Characterization of Reimbursements Received for `Out-of-Pocket'
Expenses Incurred ("EITF 01-14"). EITF 01-14 requires that reimbursements
received for out-of-pocket expenses incurred be characterized as revenue in the
statement of operations with offsetting costs recorded as costs of revenue. The
Company's out-of-pocket expenses generally include, but are not limited to,
expenses related to airfare, mileage, hotel stays and out-of-town meals. Upon
adoption of EITF 01-14, the Company reclassified all prior periods to conform to
current year presentation. As a result of adoption of EITF 01-14, the Company
has included $68,000 and $125,000 during the three months ended March 31, 2002
and 2001, respectively, in professional service revenues, with an equal amount
of professional services cost of revenue, for reimbursable out-of-pocket
expenses.

                                       7

<PAGE>

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 included elsewhere in this
Quarterly Report on Form 10-Q. The results shown herein are not necessarily
indicative of the results to be expected for the full year or any future
periods.

     This Quarterly Report on Form 10-Q contains forward-looking statements,
within the meaning of Section 27A of the Securities Act and Section 21E of the
Exchange Act, including but not limited to our expectations for results over the
balance of the year, regarding expense trends, cash positions and our outlook
for the Company, as well as our expectations, beliefs, intentions or strategies
regarding the future. All forward-looking statements included in this Quarterly
Report on Form 10-Q are based on information available to us on the date hereof,
and we assume no obligation to update any such forward-looking statements, even
if our estimates change. Important factors that could cause future results to
differ materially from such expectations include: spending patterns of our
customers based upon economic conditions; the timing of sales of the Company's
products and services; market acceptance of the Company's speech-activated
systems; the Company's reliance on a limited number of large orders for much of
its revenue; uncertainties related to current economic, political and national
security conditions; the Company's ability to develop new products and services
in the face of rapidly evolving technology; the Company's ability to effectively
integrate operations of any acquired companies; the uncertainties related to the
Company's planned international operations; the Company's ability to manage
growth of its business; the Company's ability to protect its intellectual
property; the Company's reliance on resellers and original equipment
manufacturers for a significant portion of its sales; the Company's ability to
respond to competitive developments; and the Company's reliance on attracting,
retaining and motivating key technical and management personnel. These and other
important factors are detailed in the Company's filings with the Securities and
Exchange Commission. As a result of these and other important factors, there can
be no assurances that the Company will not experience material fluctuations in
future operating results on a quarterly or annual basis.

OVERVIEW

     We are a leading provider of software products and professional services
that enable enterprises, carriers and voice portals to offer automated,
speech-activated services over any telephone. With our network-based speech
recognition solutions, consumers can direct their own calls, obtain information
and conduct transactions automatically, simply by speaking naturally over any
telephone, anytime. With our network-based text-to-speech ("TTS") solutions,
consumers can experience natural sounding synthesized speech that supports a
number of applications, including unified messaging. With our embedded
technologies in both speech recognition and TTS, SpeechWorks can enable
automobile and device manufacturers to support both speech recognition and TTS
on the device or in the automobile itself.

     For network-based speech applications, we currently offer the OpenSpeech
product suite, a line of speech recognition solutions for over-the-telephone
applications designed to meet industry standards, with specific tuning for high
performance over wireless networks. The OpenSpeech Product line includes the
OpenSpeech Recognizer; OpenSpeech DialogModules, building blocks that support
VoiceXML standards; OpenSpeech Platform Integration Kit, a `get started' toolkit
for platform partners to accelerate support for VoiceXML; and OpenSpeech Server,
a standards-based client-server architecture. In addition to the OpenSpeech
line, we offer our industry leading legacy recognizer, SpeechWorks 6.5, and the
SpeechSite package. Our TTS, or speech synthesis network-based solution,
Speechify, allows callers to hear text read to them by a computer in a natural
sounding voice. Finally, we offer a speaker verification solution, called
SpeechSecure, which authenticates callers by their unique voiceprint. We
complement our suite of network-based products with a professional services
organization that offers a range of services, including application development
and project management.

     Suitable for incorporation in mobile devices, automobiles and set-top
boxes, we offer our embedded speech technology product, Speech2Go, a recognizer
that supports a 1,000 word vocabulary with a footprint under 8MB. Our embedded
TTS product, ETI-Eloquence, is highly flexible and features a footprint of
approximately 1MB.

                                       8

<PAGE>

     Since shipping our first products in 1996, we have received numerous awards
for our product capabilities and our industry leadership, including Industry
Week's Technology of the Year Award and Frost & Sullivan's Market Strategy
Leadership Award. To date, we have licensed our software to more than 500
clients worldwide in a variety of industries including retail, financial
services, pharmaceuticals, telecommunications, technology, distribution and
travel. Our clients include America Online, Amtrak, AT&T, Continental Airlines,
CSFB, e-Plus, E*TRADE, First Union Corporation, GMAC Commercial Mortgage,
Hyundai Securities, iBasis/Price Interactive, McKessonHBOC, NetByTel, Nortel
Networks, The Hartford Insurance, United Airlines, Yahoo and WorldCom.

     We market our products and services primarily in North America, Europe, and
Asia-Pacific. We sell our products and professional services to our enterprise
and carrier clients through our direct sales force, and indirectly through
value-added resellers and original equipment manufacturers ("OEMs"). We also
sell our products and services to service bureaus, application service
providers, and portals that use them to offer speech-enabled services to their
customers. We currently have relationships with over 150 value-added resellers
and OEMs.

     For the three months ended March 31, 2002, no customer accounted for over
10% of our total revenue. For the three months ended March 31, 2001, one
customer represented 19.0% of our total revenue, while another customer
represented 14.2% of our total revenue.

     Prior to 2002, general and administrative expenses included all occupancy
related expenses and all depreciation expense. Beginning in 2002, we are
allocating these shared costs to cost of professional services, selling and
marketing expense and research and development expense, based upon employee
headcount in these areas. We believe that this more accurately reflects our
results of operations. Prior year financial statements amounts have been
reclassified to conform to current year presentation. These reclassifications
had no effect on reported net loss.

     Our cost of revenue consists of the cost of our product licenses, cost of
professional services and cost of resold hardware and services, including
SpeechSite hardware. Cost of product licenses consists of royalties that we pay
to Massachusetts Institute of Technology and International Business Machines
that are equal to a percentage of our product license revenue for automated
speech recognition and certain text-to-speech products, respectively. Cost of
professional services revenue consists of our direct labor and related benefits
costs, taxes, project-specific travel expenses and allocated corporate overhead
costs. Cost of other revenue consists of the cost of third-party hardware, which
we resell, and payments to the third-party providers of outsourced facilities
management services and SpeechSite hardware. Amortization of purchased
technology represents expense recognition of technology acquired in the purchase
of Eloquent Technology, Inc. ("ETI"). These technologies are being amortized
over their expected useful life of 60 months.

     Our selling and marketing expenses consist primarily of compensation and
related expenses, sales commissions and travel expenses, along with other
marketing expenses, including advertising, trade shows, public relations, direct
mail campaigns, seminars and other promotional expenses and allocated corporate
overhead costs. Our research and development expenses consist primarily of
compensation and related expenses for our personnel and, to a lesser extent,
independent contractors, who work on new products, enhancements to existing
products and the implementation of our products in new languages and allocated
corporate overhead costs. Our general and administrative expenses consist
primarily of compensation for our administrative, financial and information
technology personnel and company-wide professional fees, including recruiting,
legal and accounting fees, as well as increases to our allowance for doubtful
accounts.

     We receive interest income by investing the proceeds that we raised in our
prior equity financings and our initial public offering. Interest expense is
incurred primarily from amounts we owe under our line of credit and capital
lease lines of credit.

     Due to our operating losses, we have recorded no provision or benefit for
U.S. federal or state income taxes in relation to these losses for any period
since our inception. As of December 31, 2001, we had $47.3 million of net
operating loss carryforwards for federal income tax purposes, which expire
beginning in 2011. Our ability to use these net operating losses in future
periods is not sufficiently assured and therefore, these tax assets carry no
value on the balance sheet.

                                       9

<PAGE>

CRITICAL ACCOUNTING POLICIES AND SIGNIFICANT JUDGMENTS AND ESTIMATES

     Changes in our critical accounting policies and significant judgments
and estimates are described below; a complete summary of all of our critical
accounting policies and significant judgments and estimates is included in our
2001 Annual Report on Form 10-K filed with the Securities and Exchange
Commission.

     Effective January 1, 2002, we adopted Emerging Issues Task Force issue
No. 01-09, Accounting for Consideration Given by a Vendor to a Customer or a
Reseller of the Vendor's Products ("EITF 01-09"). EITF 01-09 addresses whether a
vendor should recognize consideration, including equity instruments, given to a
customer as an expense or an offset to revenue being recognized from that same
customer. Consideration given to a customer is presumed to be a reduction of
revenue unless both the following conditions are met:

     .    We receive an identifiable benefit in exchange for the consideration,
          and the identified benefit is sufficiently separable from the
          customer's purchase of our products and services such that we could
          have purchased the products from a third party, and

     .    we can reasonably estimate the fair value of the benefit received.

     If both of these conditions are met, consideration paid to the customer may
be recognized as expense. If consideration, including equity instruments, does
not meet the above criteria, we must characterize the recognition of such
consideration as a reduction of revenue, to the extent there is cumulative
revenue from such customer or reseller. Any recognition in excess of cumulative
revenue for such consideration is recorded as an expense.

     Upon adopting EITF 01-09, we determined that the AOL and Net2Phone
arrangements were required to be accounted for in accordance with EITF 01-09. We
determined that it did not meet the condition that a sufficiently separable
benefit had been received from AOL and Net2Phone; accordingly, recognition of
the consideration must be recorded as a reduction of cumulative revenue from
these customers. As we had recognized cumulative revenue under these
arrangements as of March 31, 2001 in excess of amounts previously recorded as a
revenue offset, for the three months ended March 31, 2001 we reclassified
$362,000 of selling and marketing non-cash stock compensation expense as an
offset to revenue. For the three months ended March 31, 2002, we recognized
$676,000 as an offset to revenue associated with these arrangements, in
accordance with EITF 01-09. Amounts of $713,000 and $716,000, which exceed the
amount of cumulative revenue under each of the arrangements during the three
months ended March 31, 2002 and 2001, respectively, were included as selling and
marketing non-cash stock compensation expense.

     Identifying transactions that are within the scope of EITF 01-09,
determining whether those transactions meet the criteria for recognition as an
expense and determining the methodology of cost recognition associated with
these arrangements, requires us to make significant judgments. If we reached
different conclusions, reported revenue could be materially different.

                                       10

<PAGE>

RESULTS OF OPERATIONS

     The following table sets forth consolidated financial data for the periods
indicated as a percentage of our total revenues.

<TABLE>
<CAPTION>
                                                                                  THREE MONTHS ENDED
                                                                                      MARCH 31,
                                                                                  ------------------
                                                                                   2002        2001
                                                                                  ------      ------
<S>                                                                               <C>         <C>
Revenues:
   Product licenses ...........................................................       48%         56%
   Professional services ......................................................       55          41
   Other revenues .............................................................        4           9
   Non-cash stock compensation ................................................       (7)         (6)
                                                                                  ------      ------
       Total revenues .........................................................      100%        100%
                                                                                  ======      ======

Cost of revenues:
   Cost of product licenses ...................................................       --%         --%
   Cost of professional services -- non-cash stock compensation ...............        2           1
                                 -- all other expenses.........................       30          32
   Cost of other revenues .....................................................        4           7
   Amortization of purchased technology .......................................        3           3
                                                                                  ------      ------
       Total cost of revenues .................................................       39          43
                                                                                  ------      ------
          Gross profit ........................................................       61          57
                                                                                  ------      ------
Operating expenses:
   Selling and marketing -- non-cash stock compensation .......................       10           9
                         -- all other expenses ................................       80          64
   Research and development -- non-cash stock compensation ....................        2           1
                            -- all other expenses .............................       41          37
   General and administrative -- non-cash stock compensation ..................        1           1
                              -- all other expenses ...........................       40          36
   Amortization of intangible assets ..........................................       10          15
                                                                                  ------      ------
       Total operating expenses ...............................................      184         163
                                                                                  ------      ------
Loss from operations ..........................................................     (123)       (106)
Interest and other income, net ................................................        2          13
                                                                                  ------      ------
Loss before income taxes ......................................................     (121)        (93)
Provision for income taxes ....................................................        1          --
                                                                                  ------      ------
Net loss ......................................................................     (122)%       (93)%
                                                                                  ======      ======
</TABLE>

COMPARISON OF THE THREE MONTHS ENDED MARCH 31, 2002 AND 2001

     Total revenues. Our total revenues, including non-cash stock compensation,
decreased by 12.8% to $9.5 million for the three-month period ended March 31,
2002 from $10.9 million for the same period in 2001. International revenues
increased by 59.7% to $1.6 million for the three-month period ended March 31,
2002 from $1.0 million in the same period in 2001. International revenues
represented 17.1% and 9.3% of total revenues for the three months ended March
31, 2002 and 2001, respectively.

     Revenues from product licenses. Revenues from the licensing of proprietary
software decreased 24.6% to $4.6 million for the three-month period ended March
31, 2002 from $6.1 million in the same period in 2001. This decline in product
license revenues resulted primarily from a slowdown in the economy, most
noticeably in the carrier market, as

                                       11

<PAGE>

telecommunication companies continue to report downturns in their businesses.
Additionally, there was a decline in demand from one reseller, who previously
had accounted for over 10% of our revenue.

     Revenues from professional services. Revenues from fees we receive for
professional services increased 15.8% to $5.2 million in the three months ended
March 31, 2002 from $4.5 million in the same period in 2001. The growth in
revenues from professional services resulted primarily from the increased demand
for custom speech applications from existing and new clients and increased
maintenance revenues from an expanding installed license base.

     Other revenues. Other revenues for the resale of computer hardware and
facilities management services were $349,000 for the three-month period ended
March 31, 2002 compared to $952,000 for the same period in 2001. Other revenues
accounted for 3.7% of total revenues for the three-month period ended March 31,
2002 and 8.8% of total revenues for the same period in 2001. The decrease in
other revenues reflects fewer hardware platforms purchased directly from us as
part of overall client projects during 2002 compared to the same period in 2001.

     Non-cash stock compensation offset to revenues. In connection with the sale
of common stock in private placements to AOL and Net2Phone, concurrent with our
initial public offering, we recorded deferred stock compensation, within
stockholders' equity, of $5.4 million. This amount represents the difference
between the price of our common stock sold in our public offering of $20.00 per
share and the $12.46 per share price paid by AOL and Net2Phone. This amount is
presented as a reduction of stockholders' equity and is being amortized to the
statement of operations over the three-year term of the concurrently entered
arrangements. Prior to January 1, 2002, in each reporting period, the
amortization of this amount was reflected first as a reduction of revenues
resulting from the arrangements during the reporting period and to the extent
that the amortization exceeded such revenues, the residual was reflected in
operating expenses. Additionally, we issued a warrant to purchase 765,422 shares
of common stock to AOL in connection with a long-term marketing arrangement. The
estimated value of this warrant upon its issuance, utilizing the Black-Scholes
valuation model, was $11.2 million, which is being amortized over the three-year
term of the agreement.

     Effective January 1, 2002, we adopted Emerging Issues Task Force issue
No. 01-09, Accounting for Consideration Given by a Vendor to a Customer or a
Reseller of the Vendor's Products ("EITF 01-09"). EITF 01-09 addresses whether a
vendor should recognize consideration, including equity instruments, given to a
customer as an expense or an offset to revenue being recognized from that same
customer. Upon adopting EITF 01-09, we determined that the AOL and Net2Phone
arrangements were required to be accounted for in accordance with EITF 01-09;
accordingly, recognition of the consideration must be recorded as a reduction of
cumulative revenue from these customers. As we had recognized cumulative revenue
under these arrangements as of March 31, 2001 in excess of amounts previously
recorded as a revenue offset, for the three months ended March 31, 2001 we
reclassified $362,000 of selling and marketing non-cash stock compensation
expense as an offset to revenue. For the three months ended March 31, 2002, we
recognized $676,000 as an offset to revenue associated with these arrangements,
in accordance with EITF 01-09. Amounts of $713,000 and $716,000, which exceed
the amount of cumulative revenue under each of the arrangements during the three
months ended March 31, 2002 and 2001, respectively, were included as selling and
marketing non-cash stock compensation expense.

     Cost of product licenses revenues. Cost of product licenses revenues
decreased by 33.3% to $36,000 for the three months ended March 31, 2002 from
$54,000 for the same period in 2001. This cost represented 0.8% and 0.9% of
product licenses revenues for the three months ended March 31, 2002 and 2001,
respectively. We expect the royalty rate owed to MIT to remain at its current
level until the next cumulative product sales milestone is achieved. We expect
the overall royalty rate to increase as we sell more ETI-Eloquence products.

     Cost of professional services revenues. Cost of professional services
revenues decreased 16.9% to $2.9 million for the three months ended March 31,
2002 from $3.4 million for the same period in 2001. The decrease was due
primarily to increased usage of project managers and user interface designers on
sales support projects during the three-month period ended March 31, 2002. These
costs are recognized as selling and marketing expense. The cost represented
55.1% and 76.7% of professional services revenues for the three months ended
March 31, 2002 and 2001, respectively. The lower cost of professional services
as a percentage of related revenues reflects more efficient delivery and a
higher component of maintenance revenues which have higher margins.

     Cost of other revenues. Cost of other revenues decreased 51.4% to $365,000
for the three months ended March 31,

                                       12

<PAGE>

2002 from $751,000 for the same period in 2001. The cost of other revenues as a
percentage of other revenues increased to 104.6% for the three months ended
March 31, 2002 from 78.9% for the same period in 2001. This increase in cost of
other revenues as a percentage of related revenues for the three months ended
March 31, 2002 reflects lower margins on hardware related arrangements, and
certain incidental costs incurred related to our SpeechSite product line.

     Amortization of purchased technology. In connection with our acquisition of
ETI on January 5, 2001, we acquired completed technology valued at $5.6 million,
which we are incorporating with our products and will continue to sell to third
parties. During the three months ended March 31, 2002 and 2001, amortization of
purchased technology of $283,000 for each period was recorded as a cost of
revenues.

     Total operating expenses. Our total operating expenses decreased 1.4% to
$17.4 million for the three months ended March 31, 2002 from $17.7 million for
the same period in 2001. These decreases primarily represent lower spending for
outside technical resources in research and development, as well as lower
spending on recruiting and outside legal costs in general and administrative.
These reductions were offset by increases in selling and marketing expenses.
Total headcount grew to 412 as of March 31, 2002, compared to headcount of 384
as of March 31, 2001. As a percentage of total revenues, our operating expenses
were 184.1% for the three months ended March 31, 2002, and 162.8% for the same
period in 2001. Total operating expenses include certain non-cash charges for
the three months ended March 31, 2002 and 2001, as discussed below.

     Selling and marketing. Selling and marketing expenses consist primarily of
compensation and related expenses, sales commissions and travel expenses, along
with other marketing expenses, including advertising, trade shows, public
relations, direct mail campaigns, seminars and other promotional expenses and
allocated corporate overhead costs. These expenses increased 10.0% to $7.6
million for the three months ended March 31, 2002 from $6.9 million for the same
period in 2001. Selling and marketing expenses, as a percentage of total
revenues, were 80.1% for the three months ended March 31, 2002 and 63.5% for the
same period in 2001. The increase in selling and marketing expenses resulted
primarily from our investment in sales and marketing personnel and marketing
programs. The number of sales personnel increased to 91 from 84, and the number
of employees in marketing increased to 35 from 33 at March 31, 2002 and 2001,
respectively. In addition, the cost of engineers devoted to technical sales
support, recorded as a selling expense, has increased steadily as more sales
engineers have been added to support the growth in the sales organization.

     Research and development. Research and development expenses consist
primarily of compensation and related expenses for our personnel and, to a
lesser extent, independent contractors, who work on new products, enhancements
to existing products and the implementation of our products in new languages and
allocated corporate overhead costs. These expenses decreased by 2.6% to $3.9
million for the three-month period ended March 31, 2002 from $4.0 million for
the same period in 2001. The decrease was driven by the decreased usage of
outside consultants on certain development projects, partially offset by payroll
and related costs for additional personnel. Research and development expenses as
a percentage of total revenues increased to 41.0% for the three months ended
March 31, 2002 from 36.7% for the same period in 2001. The number of personnel
involved in research and development increased to 121 at March 31, 2002 from 112
at March 31, 2001.

     General and administrative. General and administrative expenses consist
primarily of compensation for our administrative, financial and information
technology personnel and company-wide professional fees, including recruiting,
legal and accounting fees, as well as increases to our allowance for doubtful
accounts. These expenses decreased 4.0% to $3.8 million for the three-month
period ended March 31, 2002 from $3.9 million for the same period in 2001. The
decrease was primarily due to lower spending on outside legal fees and lower
recruiting costs. General and administrative expenses as a percentage of total
revenues increased to 39.9% for the three months ended March 31, 2002 from 36.2%
for the same period in 2001.

     Non-cash stock compensation. Non-cash stock compensation charges are being
recorded as identified components of professional services costs, selling and
marketing expenses, research and development expenses and general and
administrative expenses. In connection with the grant of certain options to
employees through June 30, 2000, we recorded deferred stock compensation within
stockholders' equity of $10.7 million, representing the difference between the
estimated fair market value of the common stock for accounting purposes and the
exercise price of these options at the date of grant. Such amount is presented
as a reduction of stockholders' equity and is being amortized over the vesting
period of the

                                       13

<PAGE>

applicable options. We recorded amortization of deferred stock compensation of
$677,000 and $675,000 for the three months ended March 31, 2002 and 2001,
respectively. We expect the amortization of deferred stock compensation relating
to employee stock options to be approximately $2.7 million per year through 2002
and decreasing thereafter through 2004.

     Sales and marketing expenses - non-cash stock compensation charges in the
three month periods ended March 31, 2002 and 2001 also include non-cash stock
compensation of $713,000 and $716,000, respectively, related to common stock
issued to AOL and Net2Phone at below fair market value and to warrants issued to
AOL. In accordance with EITF 01-09, deferred compensation is first recorded as
an offset to cumulative revenue recognized with each customer. To the extent
that amortization expense is in excess of cumulative revenue from each customer
relationship, the excess amount is recognized as expense. Amounts reported in
prior periods have been reclassified to conform to EITF 01-09 presentation.

     Amortization of intangible assets. On June 5, 2000, we entered into a
development and license agreement with AT&T Corp. to develop and sell products
that use AT&T speech technology. Pursuant to this agreement, in exchange for
1,045,158 shares of our common stock, we received development and distribution
licenses to AT&T's speech software, text-to-speech software and certain other
technology related to computer processing of the human voice. In addition, the
parties agreed to collaborate in certain marketing efforts and additional
technology development. In connection with this agreement we recorded $11.5
million for the acquired intellectual property and collaborative rights, equal
to the fair market value of the common stock issued, which is being amortized
over a three-year period. Amortization expense for the acquired intellectual
property and collaborative rights for the three months ended March 31, 2002 and
2001 was $958,000 for both periods.

     On January 5, 2001, we acquired all of the outstanding capital stock of
ETI. The purchase price of $18.8 million has been allocated to net tangible
assets and liabilities acquired of ($0.2 million), completed technology of $5.6
million and goodwill of $13.4 million. The completed technology, reported as
intangible assets, is being amortized on a straight-line basis through December
2005. For both three-month periods ended March 31, 2002 and 2001, we recorded
amortization expense for completed technology of $283,000. As of January 1,
2002, we ceased amortization of the goodwill in compliance with Statements of
Financial Accounting Standards (SFAS) No. 142, Goodwill and Other Intangible
Assets; for the three months ended March 31, 2001, we recorded $669,000 of
goodwill amortization. Pursuant to SFAS 142, we will complete our test for
goodwill impairment during the second quarter 2002 and are required to complete
additional impairment analyses annually thereafter, or more frequently when
events or circumstances occur indicating that goodwill might be impaired. We are
currently evaluating the effect that the impairment review may have on our
consolidated results of operations and financial position, however an impairment
charge is not expected to be recorded.

     Interest and other income, net. Interest income was $300,000 for the three
months ended March 31, 2002 and $1.5 million for the same period in 2001.
Interest expense was $17,000 for the three months ended March 31, 2002 and
$15,000 for the same period in 2001. The decrease in interest income for the
three months ended March 31, 2002 compared to the year earlier period was due to
lower cash balances available for investing along with lower average interest
rates earned on these investments. Other expenses include other non-operating
costs, including local and state franchise taxes and foreign currency
transaction gains and losses.

     Provision for income taxes. The provision for income taxes of $67,000 and
$26,000 for the three-month periods ending March 31, 2002 and 2001,
respectively, represents income taxes in foreign jurisdictions.

LIQUIDITY AND CAPITAL RESOURCES

     From inception through July 31, 2000, we funded our operations primarily
through private placements of convertible preferred stock totaling $60.0 million
and, to a lesser extent, through bank borrowings and capital equipment lease
financing. In August 2000, we raised approximately $109.0 million through the
completion of our initial public offering of common stock and the concurrent
private placements of common stock with AOL and Net2Phone. As of March 31, 2002,
we had cash and cash equivalents of $52.4 million and marketable securities of
$16.1 million. Our revolving line of credit provides for available borrowings up
to $5.0 million, based upon certain eligible accounts receivable. As of March
31, 2002, there was $3.6 million available for borrowings under this line of
credit, with $1.4 million committed under the line of credit for outstanding
letters of credit. Any amounts borrowed under this facility would be due as of
December 1, 2002. Under the financing arrangement, we are required to comply
with certain financial covenants related to total tangible net worth. As of

                                       14

<PAGE>

March 31, 2002, we were in compliance with these financial covenants. Based on
our financial projections, we believe that we will continue to meet the
financial covenants required in the financing agreement. Our operating
activities resulted in net cash outflows of $10.9 million for the three months
ended March 31, 2002 and $9.3 million for the same period in 2001. The operating
cash outflows for these periods resulted primarily from our significant
investment in research and development, sales and marketing and infrastructure.

     During the three month period ended March 31, 2002, our investing
activities included the redemption of $8.1 million of maturing marketable
securities. During the three month period ended March 31, 2001, our investing
activities included the net redemption of $2.1 million of maturing marketable
securities. Capital expenditures for property and equipment were $739,000 for
the three month period ended March 31, 2002 and $1.3 million for the same period
in 2001. These capital expenditures consisted primarily of computer hardware for
new employees and software costs related to upgrading our corporate
infrastructure. During the three month period ended March 31, 2001, our
investing activities included the payment of $5.4 million for the acquisition of
ETI, including acquisition-related costs.

     In December 2001, we entered into an equipment line of credit with a bank.
Under this agreement, we obtained the right to draw down up to $6.0 million to
finance purchases of fixed assets. Borrowings under this line are collateralized
by the fixed assets purchased and bear interest at the annual prime rate (4.75%
at March 31, 2002), which is payable monthly over a period of 36 months. During
December 2001, we borrowed $1.8 million under this line with monthly payments
beginning in January 2002 and ending December 2004. As of March 31, 2002, $1.6
million was outstanding under this facility. Under the financing agreement, we
are obligated to comply with certain financial covenants related to total
tangible net worth. As of March 31, 2002, we were in compliance with these
financial covenants. Based on our financial projections, we believe that we will
continue to meet the financial covenants required in the financing agreement.

     We had an equipment line of credit that we converted into a term loan in
the amount of $1.5 million. The term loan bears interest at an annual rate of
prime plus 0.75% (5.5% at March 31, 2002), and principal and interest under the
term loan are payable in 36 monthly installments through September 2002. As of
March 31, 2002, $167,000 was outstanding under this facility.

     Our financing activities generated cash of $462,000 and $538,000 for the
three months ended March 31, 2002 and 2001, respectively. The issuance of common
stock through stock option and warrant exercises generated net proceeds of
$737,000 and $663,000, for the three months ended March 31, 2002 and 2001,
respectively. Repayment of bank borrowings was $275,000 and $125,000 during the
three months ended March 31, 2002 and 2001, respectively.

     We believe that our existing cash and cash equivalents and marketable
securities and borrowings available under our bank financing agreements, will be
sufficient to meet our working capital and capital expenditure requirements for
at least the next 12 months. In the event we require additional financing, we
believe that we would be able to obtain such funding, however, there can be no
assurances that we would be successful in doing so or that we could do so on
terms favorable to us.

CONTRACTUAL OBLIGATIONS

     The following table sets forth future payments that we are obligated to
make under existing long-term debt and operating lease commitments:

<TABLE>
<CAPTION>
         CONTRACTUAL OBLIGATION                                            PAYMENTS DUE BY PERIOD
                                                                ---------------------------------------------
                                                                                (IN THOUSANDS)
                                                                             YEARS       YEARS        YEAR 6
                                                      TOTAL      YEAR 1     2 AND 3     4 AND 5     AND LATER
                                                     ------     ------      -------     -------     ---------
<S>                                                  <C>        <C>        <C>         <C>         <C>
         Long-Term Debt............................  $ 1,818    $  767      $1,051      $   --       $    --
         Operating Leases..........................   22,605     2,527       6,785       2,818        10,475
                                                     -------    ------      ------      ------       -------
         Total Contractual Cash Obligations........  $24,423    $3,294      $7,836      $2,818       $10,475
                                                     =======    ======      ======      ======       =======
</TABLE>


                                       15

<PAGE>

OTHER COMMERCIAL COMMITMENTS

     The following table sets forth other financial commitments under existing
banking arrangements. We currently have standby letters of credit at a bank that
are used as security deposits for various office leases. In the event of default
on these lease commitments, the landlord would be eligible to draw down against
their respective standby letter of credit. At present we are not in default on
any of our leased facilities.

<TABLE>
<CAPTION>
         OTHER COMMERCIAL COMMITMENTS

                                                                     AMOUNT OF COMMITMENT EXPIRATION BY PERIOD
                                                              --------------------------------------------------------
                                                                                  (IN THOUSANDS)
                                                                              YEARS            YEARS           YEAR 6
                                              TOTAL           YEAR 1         2 AND 3          4 AND 5        AND LATER
                                              -----           ------         -------          -------        ---------
<S>                                           <C>             <C>            <C>              <C>            <C>
         Standby Letters of Credit.........   $1,350            $164            $352              $47            $787
</TABLE>

ROYALTY COMMITMENTS

         Under the terms of the ETI acquisition, we assumed the royalty
commitments to IBM for the sale of software products developed under an
agreement between ETI and IBM. Under the terms of the agreement, the maximum
amount of royalties owed to IBM will be $5.0M. As of December 31, 2001 we have
reported the first two years of minimum royalties, totaling $500,000, from this
agreement. We are obligated to pay an annual minimum royalty of $50,000 to MIT
for the sale of software products developed using their technology. The
following table sets forth the future minimum royalties owed to IBM and MIT
under these agreement, along with the royalty rates.

<TABLE>
<CAPTION>
                                                                 AMOUNT OF MINIMUM ROYALTY COMMITMENT BY PERIOD
                                                             ----------------------------------------------------
                                                                                  (IN THOUSANDS)
         ROYALTY COMMITMENTS-                    TOTAL       2002        2003       2004        2005    THEREAFTER
                                                 -----       ----        ----       ----        ----    ----------
<S>                                             <C>          <C>         <C>        <C>        <C>      <C>

         Royalty Rate-IBM..................                    11%         12%        12%         12%          12%
         Royalty Commitment - IBM..........      $4,450      $150        $200       $200        $500       $3,400
         Royalty Rate - MIT................                     1%          1%         1%          1%           1%
         Royalty Commitment - MIT..........        $238       $38         $50        $50         $50         $ 50
</TABLE>


CAUTIONARY STATEMENTS REGARDING FORWARD-LOOKING INFORMATION

     We undertake no obligation to publicly update or revise any forward-looking
statements, whether as a result of new information, future events or otherwise.
Our actual results may differ significantly from the results discussed in
forward-looking statements. Important factors that could cause future results to
differ materially from such expectations include: spending patterns of our
customers based upon economic conditions; the timing of sales of our products
and services; market acceptance of our speech-activated systems; our reliance on
a limited number of large orders for much of our revenue; uncertainties related
to current economic, political and national security conditions; our ability to
develop new products and services in the face of rapidly evolving technology;
our ability to effectively integrate operations of any acquired companies; the
uncertainties related to our planned international operations; our ability to
manage growth of our business; our ability to protect our intellectual property;
our reliance on resellers and original equipment manufacturers for a significant
portion of our sales; our ability to respond to competitive developments; and
our reliance on attracting, retaining and motivating key technical and
management personnel. These and other important factors are detailed in our
filings with the Securities and Exchange Commission. As a result of these and
other important factors, there can be no assurances that we will not experience
material fluctuations in future operating results on a quarterly or annual
basis.

                                       16

<PAGE>

WE HAVE A HISTORY OF LOSSES AND WE EXPECT TO CONTINUE TO INCUR NET LOSSES FOR
THE FORESEEABLE FUTURE THAT MAY DEPRESS OUR COMMON STOCK PRICE.

     We had an accumulated deficit of $124.4 million at March 31, 2002, and we
expect to incur net losses for the foreseeable future. Net losses were $46.8
million for the year ended December 31, 2001, $29.6 million for the year ended
December 31, 2000 and $15.5 million for the year ended December 31, 1999. We
anticipate continuing to incur significant sales and marketing, research and
development and general and administrative expenses and, as a result, we will
need to generate higher revenues to achieve and sustain profitability. We cannot
be certain we will realize sufficient revenues to achieve profitability.
Moreover, if we were to achieve profitability, we may not be able to sustain or
increase our profitability on a quarterly or annual basis. Any additional
financing that we may require in the future may not be available at all or, if
available, may be on terms unfavorable to us. Failure to achieve or maintain
profitability may depress the market price of our common stock.

WE EXPECT OUR QUARTERLY REVENUES AND OPERATING RESULTS TO FLUCTUATE. IF OUR
QUARTERLY OPERATING RESULTS FAIL TO MEET THE EXPECTATIONS OF FINANCIAL ANALYSTS
AND INVESTORS, THE TRADING PRICE OF OUR COMMON STOCK MAY DECLINE.

     Our revenues and operating results are likely to vary significantly from
quarter to quarter. A number of important factors are likely to cause these
variations, including:

     .    the timing of sales of our products and services, particularly in
          light of our dependence on a relatively small number of large orders,

     .    the timing of product implementations, particularly large client
          design projects,

     .    unexpected delays in introducing new products and services,

     .    variation in capital spending budgets of our clients and potential
          clients,

     .    increased expenses, whether related to sales and marketing, product
          development or administration,

     .    deferral of recognition of our revenue in accordance with applicable
          accounting principles due to the time required to complete projects,

     .    the mix of product license and services revenue,

     .    the mix of domestic and international sales, and

     .    costs related to possible acquisitions of technology or businesses.

     Because of the volatility of our quarterly results and the difficulty in
predicting our future performance, our operating results may fall below the
expectations of analysts or investors and, as a result, the price of our common
stock may decline.

THE SLOWDOWN IN THE ECONOMY HAS AFFECTED THE MARKET FOR INFORMATION TECHNOLOGY
PRODUCTS, AND OUR FUTURE FINANCIAL RESULTS WILL DEPEND IN PART UPON WHETHER THIS
SLOWDOWN CONTINUES.

     As a result of recent unfavorable economic conditions and reduced capital
spending by our customers and potential customers, demand for our products and
services has been adversely affected. This has resulted in decreased revenues
and a decline in our growth rate. Many of our customers are in the
telecommucations and airline industries, which have been strongly affected by
the current economic downturn. If the current economic conditions continue or
worsen, we may experience a material adverse impact on our business, operating
results and financial condition.

SOME OF OUR CUSTOMERS AND PARTNERS ARE NEWLY FORMED BUSINESSES OR BUSINESSES
THAT ARE NOT YET PROFITABLE. IF THESE COMPANIES FAIL OR EXPERIENCE FINANCIAL
DIFFICULTIES, OUR BUSINESS COULD BE NEGATIVELY AFFECTED.

     Some of our customers and partners are financed by investments from venture
capital investors. Given the current general economic conditions and investment
climate, these companies could face difficulties in securing additional

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financing to fund their operations. If these companies are not yet profitable or
self-sustaining based on their operations, they could be unable to satisfy their
commitments to us. Even if they are able to meet current obligations to us, they
may not be able to buy additional products and services from us. If these
companies cannot meet their current obligations to us or fail, our business
could be significantly harmed and our revenue could decline.

SPEECH-ACTIVATED SYSTEMS ARE RELATIVELY NEW PRODUCTS, AND OUR SUCCESS WILL
DEPEND ON OUR ABILITY TO CONTINUE TO EDUCATE PROSPECTIVE CLIENTS ON THE
COMMERCIAL VIABILITY OF THE PRODUCTS. IF OUR POTENTIAL CLIENTS AND THEIR
CUSTOMERS DO NOT ACCEPT SPEECH-ACTIVATED SYSTEMS, OUR BUSINESS WILL BE HARMED.

     Our business would be harmed if use of speech-activated, e-business
solutions does not continue to develop, or develops more slowly than we expect.
Our market is relatively new and rapidly evolving. Our future success depends on
the acceptance by current and future clients and their customers of
speech-activated services as an integral part of their businesses. The size of
our market will depend in part on consumer acceptance of automated speech
systems and the actual and perceived quality of these systems. The adoption of
speech-activated services could be hindered by the perceived costs of this new
technology, as well as the reluctance of enterprises that have invested
substantial resources in existing call centers, touch-tone-based systems or
internet-based infrastructures to replace or enhance their current systems with
this new technology. Accordingly, in order to achieve commercial acceptance, we
will have to educate prospective clients, including large, established
telecommunications companies, about the uses and benefits of speech-activated
services in general and our products in particular. If these efforts fail, or if
speech-activated software platforms do not achieve broad commercial acceptance,
our business could be significantly harmed and our revenues could decline. In
addition, the continued development of new and evolving wireless technologies
using a visual web browser interface could adversely affect the demand for
speech-activated services.

WE CURRENTLY RELY ON A LIMITED NUMBER OF LARGE ORDERS FOR A SIGNIFICANT PORTION
OF OUR REVENUES. AS A RESULT, OUR INABILITY TO SECURE ADDITIONAL SIGNIFICANT
CLIENTS DURING A GIVEN PERIOD OR THE LOSS OF ONE MAJOR CLIENT COULD CAUSE OUR
QUARTERLY RESULTS OF OPERATION TO SUFFER. OUR STOCK PRICE MAY ALSO BE ADVERSELY
AFFECTED BY UNEXPECTED QUARTERLY REVENUE DECLINES CAUSED BY DELAYS IN REVENUE
RECOGNITION.

     Due to the nature of our business, in any quarter we are dependent upon a
limited number of orders that are relatively large in relation to our overall
revenues. For example, one customer of ours accounted for 19.3% of our total
revenue in 2001 and 16.1% of our total revenue in 2000. For the three months
ended March 31, 2002, no one client accounted for more than 10% of our total
revenue. Our speech-activated products and services require significant
expenditures by our clients and typically involve lengthy sales cycles. We may
spend significant time and incur substantial expenses educating and providing
information to prospective clients. Any failure to complete a sale to a
prospective client during a quarter could result in revenues and operating
results for the quarter that are lower than expected.

     In addition, as a result of the significant time required to deliver or
perform a client order, we may be unable to recognize revenue related to a
client order until well after we receive the order. Our dependence on large
client orders and the delay in recognizing revenue relating to these orders
makes it difficult to forecast quarterly operating results. This could cause our
stock price to be volatile or to decline.

IF WE FAIL TO DEVELOP NEW PRODUCTS AND SERVICES IN THE FACE OF OUR INDUSTRY'S
RAPIDLY EVOLVING TECHNOLOGY, OUR FUTURE OPERATING RESULTS MAY BE ADVERSELY
AFFECTED.

     Our growth and future operating results will depend, in part, on our
ability to keep pace with:

     .    rapidly changing speech recognition and speech synthesis technology,

     .    evolving industry standards and practices,

     .    frequent new speech-activated service and product introductions and
          enhancements, and

     .    changing client requirements and preferences for their automated
          speech systems.


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     Any delay or failure on our part in responding quickly, cost-effectively
and sufficiently to these developments could render our existing
speech-activated products and services noncompetitive or obsolete and have an
adverse effect on our competitive position. We may have to incur substantial
expenditures to modify or adapt our speech-activated products and services to
respond to technological changes. We must stay abreast of cutting-edge
technological developments and evolving service offerings to remain competitive
and increase the utility of our speech-activated services. We must be able to
incorporate new technologies into the speech-activated solutions we design and
develop to address the increasingly complex and varied needs of our client base.
If we are unable, for technological or other reasons, to develop and introduce
new and enhanced products and to respond to changing client requirements and
preferences in a timely manner, we may lose existing customers and fail to
attract new customers, which could result in a significant decline in our
revenues.

DEVELOPMENT AND COMMERCIAL RELEASE OF OUR NEW PRODUCT LINE COULD IMPAIR OUR
ABILITY TO SELL EXISTING PRODUCT LINES, AND RESULT IN A DECREASE IN ASSOCIATED
SERVICES REVENUES.

     The release of our OpenSpeech/TM/ products could have a negative effect on
sales of our existing speech recognition products, including our SpeechWorks
product, and the prices we could charge for these products. Additionally, in the
event of such a negative effect, the maintenance and support revenues associated
with the sales of these products, as well as any potential consulting services
revenues that would have been otherwise associated with certain sales of these
products, may be delayed or impaired. We may also divert sales and marketing
resources from our current products in order to promote and support our new Open
Speech product line. This diversion of resources could have a further negative
effect on sales of our current products and services.

OUR APPLICATION SOFTWARE MAY CONTAIN DEFECTS, WHICH COULD RESULT IN DELAYED OR
LOST REVENUE, EXPENSIVE CORRECTIONS, LIABILITY TO OUR CLIENTS AND CLAIMS AGAINST
US.

     We design, develop and implement complex speech-activated solutions that
are crucial to the operation of our clients' products and businesses. Defects in
the solutions we develop could result in delayed or lost revenue, adverse client
reaction and negative publicity about us or our products and services or require
expensive and time consuming corrections. Also, due to the developing nature of
speech recognition technology and text-to-speech technology, our products are
not currently and may never be accurate in every instance. In addition, third
party technology that is included in our products could contain errors or
defects. Clients who are not satisfied with our products or services could bring
claims against us for substantial damages, which, even if unsuccessful, would
likely be time consuming and could result in costly litigation and payment of
damages. Such claims could have an adverse effect on our financial results and
competitive position.

OUR CURRENT AND POTENTIAL COMPETITORS IN THE SPEECH-ACTIVATED SOLUTIONS MARKET,
SOME OF WHOM HAVE GREATER RESOURCES AND EXPERIENCE THAN WE DO, MAY OFFER
PRODUCTS AND SERVICES THAT MAY CAUSE DEMAND FOR, AND THE PRICES OF, OUR PRODUCTS
TO DECLINE.

     A number of companies have developed, or are expected to develop, products
that compete with our products. Competitors in the speech recognition and
text-to-speech software market include AT&T, Elan, Fonix, IBM, Lucent
Technologies, Microsoft, Nuance Communications, Philips Communications,
Rhetorical, ScanSoft, and Phonetic Systems. Furthermore, we expect consolidation
in our industry, and other companies may enter our markets by acquiring or
entering into strategic relationships with our competitors. Current and
potential competitors have established, or may establish, cooperative
relationships among themselves or with third parties to increase the abilities
of their advanced speech and language technology products to address the needs
of our prospective customers.

     Many of our current and potential competitors have longer operating
histories, significantly greater financial, technical, product development and
marketing resources, greater name recognition and/or larger client bases than we
do. Our present or future competitors may be able to develop speech-activated
products and services comparable or superior to those we offer, adapt more
quickly than we do to new technologies, evolving industry trends and standards
or client requirements, or devote greater resources to the development,
promotion and sale of their products and services than we do. Accordingly, we
may not be able to compete effectively in our markets, competition may intensify
and future

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<PAGE>

competition may cause demand for and the prices of our products to decline,
which could adversely affect our sales and profitability.

IF THE STANDARDS WE HAVE SELECTED TO SUPPORT ARE NOT ADOPTED AS THE INDUSTRY
STANDARDS FOR SPEECH-ACTIVATED SOFTWARE, BUSINESSES MIGHT NOT USE OUR
SPEECH-ACTIVATED SOFTWARE PLATFORMS FOR DELIVERY OF APPLICATIONS AND SERVICES,
AND OUR REVENUES COULD BE NEGATIVELY AFFECTED.

     The market for speech-activated services software is new and emerging and
industry software standards have not yet been fully established. We may not be
competitive unless our products support changing industry software standards.
The emergence of industry standards other than those we have selected to
support, whether through adoption by official standards committees or widespread
usage, could require costly and time consuming redesign of our products. If
these standards become widespread and our products do not support them, our
clients and potential clients may not purchase our products, and our revenues
could be adversely affected. Multiple standards in the marketplace could also
make it difficult for us to design our products to support all applicable
standards, which could also result in decreased sales of our products.

WE HAVE AND INTEND TO CONTINUE EXPANDING OUR INTERNATIONAL OPERATIONS. BECAUSE
OF RISKS INVOLVED WITH OPERATING A BUSINESS IN FOREIGN COUNTRIES, WE MAY NOT BE
SUCCESSFUL AND OUR BUSINESS COULD BE HARMED.

     Our international sales represented 17.1% of our revenue for the three
months ended March 31, 2002, 9.4% of our revenue in 2001, 13.8% in 2000 and 2.6%
in 1999. We have recently expanded our direct and indirect international sales
force with the expectation of increasing international revenues. We have limited
experience in international operations and international product and service
sales, and there can be no assurance we will be successful in continuing to grow
our international business. We are subject to a variety of risks associated with
conducting business internationally, any of which could harm our business. These
risks include:

     .    difficulties and costs of staffing and managing foreign operations,

     .    difficulties in establishing and maintaining an effective
          international reseller network,

     .    the burden of complying with a wide variety of foreign laws,
          particularly with respect to intellectual property and license
          requirements,

     .    political and economic instability outside the United States,

     .    import or export licensing and product certification requirements,

     .    tariffs, duties, price controls or other restrictions on foreign
          currencies or trade barriers imposed by foreign countries,

     .    potential adverse tax consequences, including higher marginal rates,

     .    unfavorable fluctuations in currency exchange rates, and

     .    limited ability to enforce agreements, intellectual property rights
          and other rights in some foreign countries.

IN ORDER TO INCREASE OUR INTERNATIONAL SALES, WE MUST DEVELOP LOCALIZED VERSIONS
OF OUR PRODUCTS. IF WE ARE UNABLE TO DO SO, WE MAY BE UNABLE TO GROW OUR REVENUE
AND EXECUTE OUR BUSINESS STRATEGY.

     In order to expand our international sales, we intend to continue to invest
significant resources to create and refine different speech recognition and
synthesis models for particular languages or dialects. These speech-processing
models are required to create versions of our products that understand or
reproduce the local language or dialect. If we fail to develop localized
versions of our products, our ability to address international market
opportunities and to grow our business will be limited. In addition, we are
required to invest resources to develop these versions of our products in

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<PAGE>

advance of the receipt of revenues. We may be unable to recognize revenues
sufficient to render these products profitable.

GROWTH IN OUR OPERATIONS MAY STRAIN OUR RESOURCES, MANAGEMENT INFORMATION
SYSTEMS AND CONTROLS, WHICH MAY REDUCE OUR CHANCES OF ACHIEVING PROFITABILITY.

     We have experienced significant growth in the past. From December 31, 2000
to December 31, 2001 the number of our employees increased from 317 to 409. We
intend to continue to expand our business operations in the future. If we are
successful, this growth may place a strain on the ability of our management team
to execute our business plan. In addition, we will be required to make
significant investments in personnel, management systems and resources. The
expansion of these systems may place a significant burden on our management team
and our information technology staff, and these systems may not be effective
once implemented. If we do not manage this growth, our business will suffer.

WE RELY ON OUR INTELLECTUAL PROPERTY RIGHTS, AND IF WE ARE UNABLE TO PROTECT
THESE RIGHTS, WE MAY FACE INCREASED COMPETITION. PROTECTION OF OUR INTELLECTUAL
PROPERTY RIGHTS IS UNCERTAIN AND MAY BE COSTLY.

     Intellectual property rights are important in our industry. We rely on a
combination of patent, copyright, trademark and trade secret laws, as well as
confidentiality, assignment of rights to inventions, and/or license agreements
with our employees, consultants and corporate or strategic partners to protect
our intellectual property rights. These legal protections afford only limited
protection and may be time-consuming and expensive to obtain and maintain.
Further, despite our efforts, we may be unable to prevent third parties from
unauthorized use of our intellectual property. Monitoring unauthorized use of
our intellectual property is difficult, and we cannot be certain that the steps
we have taken will be effective to prevent unauthorized use.

     Litigation may be necessary to enforce our intellectual property rights and
trade secrets. These lawsuits, regardless of their success, would likely be time
consuming and expensive to resolve and would divert management's time and
attention away from our business.

WE MAY UNDERTAKE STRATEGIC ACQUISITIONS OR INVESTMENTS IN THE FUTURE AND ANY
DIFFICULTIES FROM INTEGRATING SUCH ACQUISITIONS OR INVESTMENTS COULD DAMAGE OUR
ABILITY TO ATTAIN OR MAINTAIN PROFITABILITY. THE ANTICIPATED BENEFITS OF
STRATEGIC ACQUISITIONS OR INVESTMENTS MAY NEVER BE REALIZED.

     We may acquire or make significant investments in businesses and
technologies that complement or augment our existing business and technologies.
Integrating any newly acquired businesses or technologies could be expensive and
time-consuming and could divert management's time and attention away from our
on-going business. We may not be able to integrate any acquired business,
products, employees or technology successfully and our failure to do so could
harm our business. We cannot guarantee that we will realize any anticipated
benefits from such acquisitions or investments. Moreover, we may need to raise
additional funds through public or private debt or equity financing to acquire
or make significant investments in any businesses or technologies, which may
result in dilution to our current stockholders and the incurrence of
indebtedness. We may not be able to operate acquired businesses profitably.

WE MAY EXPEND SIGNIFICANT RESOURCES TO DEFEND AGAINST CLAIMS OF INFRINGEMENT BY
THIRD PARTIES, AND IF WE ARE NOT SUCCESSFUL WE MAY LOSE SIGNIFICANT RIGHTS OR BE
REQUIRED TO ENTER INTO DISADVANTAGEOUS LICENSE OR ROYALTY AGREEMENTS.

     Currently, in the software industry there are frequent assertions of patent
infringement by owners of patents, and assertions of other violations of
intellectual property rights such as trademarks, copyrights, and trade secrets.
In addition, there are a large number of patents in the speech processing area.
Although we do not believe that we are infringing on any patent rights, the
holders of patents may claim that we are doing so. If any claim was made against
us, our business could be harmed, particularly if we are unsuccessful in
defending such claim. If we are forced to defend any claim, whether it is with
or without merit or is determined in our favor, then we may face costly
litigation, diversion of technical and management personnel, delays in future
product releases or injunctions preventing us from selling our products and

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<PAGE>

services. We may also be required to enter into costly and burdensome royalty
and licensing agreements. Any royalty or licensing agreements, if required, may
not be available on terms acceptable to us, or at all.

OUR PRODUCTS INCORPORATE TECHNOLOGY WE LICENSE FROM OTHERS. OUR INABILITY TO
MAINTAIN THESE LICENSES COULD HAVE A MATERIAL ADVERSE EFFECT ON OUR BUSINESS.

     Some of the technology included in, or operating in conjunction with our
products is licensed by us from others. For example, we currently license
certain text-to-speech technology from IBM, text-to-speech and other technology
relating to computer processing of the human voice from AT&T and software and
technology from MIT. Certain of these license agreements are for limited terms.
If for any reason these license agreements terminate, we may be required to seek
alternative vendors and may be unable to obtain similar technology on favorable
terms, or at all. If we are unable to obtain alternative license agreements, we
could be required to modify some features of our products, which could adversely
affect sales of our products and services.

WE RELY ON RESELLERS AND ORIGINAL EQUIPMENT MANUFACTURERS FOR A PORTION OF OUR
SALES. THE LOSS OF ONE OR MORE SIGNIFICANT RESELLERS OR ORIGINAL EQUIPMENT
MANUFACTURERS COULD LIMIT OUR ABILITY TO SUSTAIN AND GROW OUR REVENUES.

     In 2001, 55.7% of our sales were attributable to our resellers and original
equipment manufacturers, or OEMs, especially InterVoice-BRITE that accounted for
19.3% of our sales in 2001. We intend to increase our sales through resellers in
the future. As a result, we are in part dependent upon the continued success and
viability of our resellers and OEMs, as well as their continued interest in
selling our products. The loss of a key reseller or OEM or our failure to
develop and sustain new reseller and OEM relationships could limit our ability
to sustain and grow our revenues.

     Our contracts with our resellers and OEMs generally do not require them to
purchase our products. Our resellers and OEMs are independent companies over
which we have limited control. Our resellers and OEMs could cease to market our
products or devote significant resources to the sale of our products. Any
failure of our resellers or OEMs to successfully market and sell our products
could result in revenues that are lower than anticipated. In addition, our
resellers and OEMs possess confidential information concerning our products and
operations. Although we have nondisclosure agreements with our resellers and
OEMs, a reseller or OEM could use our confidential information in competition
with us, which could adversely affect our competitive position and revenues.

WE RELY UPON THE CONTINUED SERVICE AND PERFORMANCE OF A RELATIVELY SMALL NUMBER
OF SENIOR MANAGEMENT AND KEY TECHNICAL PERSONNEL. MOREOVER, COMPETITION FOR
QUALIFIED PERSONNEL IS INTENSE. WE MAY NOT BE ABLE TO RETAIN OR RECRUIT
NECESSARY PERSONNEL, WHICH COULD IMPACT THE MANAGEMENT AND DEVELOPMENT OF OUR
BUSINESS.

     Our future success depends on our retention of a small number of senior
management and key technical personnel, such as Stuart R. Patterson, our
President and Chief Executive Officer, and Michael S. Phillips, our Chief
Technology Officer and co-founder. We do not have key person life insurance
policies covering any of our employees. The loss of services of any of our
executive officers or key personnel could have a negative effect on our ability
to grow our business.

     We need to attract and retain managerial and highly skilled technical
personnel for whom there is intense competition. If we are unable to attract and
retain managerial and qualified technical personnel, our operations could suffer
and we may never achieve profitability.

OUR BUSINESS WILL BE HARMED IF WE FAIL TO HIRE OR RETAIN QUALIFIED SALES
PERSONNEL, OR IF NEWLY HIRED SALES PEOPLE FAIL TO DEVELOP THE NECESSARY SALES
SKILLS OR DEVELOP THESE SKILLS MORE SLOWLY THAN WE ANTICIPATE.

     Our financial success depends to a large degree on the ability of our
direct and indirect sales force to increase sales. Therefore, our ability to
increase revenue in the future depends considerably upon our success in
recruiting, training and retaining additional direct and indirect sales
personnel and the success of the sales force. Also, it may take a new
salesperson a number of months before he or she becomes a productive member of
our sales force.

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     A portion of our business is conducted outside the United States through
our foreign subsidiaries and branches. We have foreign currency exposure related
to our operations in international markets where we transact business in foreign
currencies and accordingly, are subject to exposure from adverse movements in
foreign currency exchange rates. Currently, we do not engage in any foreign
currency hedging transactions. The functional currency of our foreign
subsidiaries is the local currency. Substantially all of our revenues are
invoiced and collected in U.S. dollars. Assets and liabilities of foreign
subsidiaries which are denominated in foreign currencies are remeasured into
U.S. dollars at rates of exchange in effect at the end of the period. Revenues
and expense amounts are remeasured using the average exchange rates for the
period. Net unrealized gains and losses resulting from foreign currency
remeasurement are included in other comprehensive loss, which is a separate
component of stockholders' equity. Net realized gains and losses resulting from
foreign currency transactions are included in the consolidated statement of
operations as other income or expense and have not been material to date.

     We are exposed to market risk related to changes in interest rates
associated with our cash equivalents and marketable securities. Cash equivalents
and marketable securities are recorded on the balance sheet at market value,
with any unrealized gain or loss recorded in comprehensive income or loss. We
believe that the effect of any reasonably possible near-term changes in interest
rates would not have a material impact on the fair market value of these
instruments due to their short maturity.

PART II. OTHER INFORMATION

ITEMS 1, 3, 4 AND 5 NOT APPLICABLE.

ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.

     On July 31, 2000, the Securities and Exchange Commission declared the
Company's Registration Statement on Form S-1 (File no. 333-35164) effective.
There has been no material change with respect to the Company's use of proceeds
from its initial public offering from the information discussed in its Annual
Report on Form 10-K for the period ended December 31, 2001.

ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K

(a)  Exhibits

          None

(b)  Reports on Form 8-K

          None

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                                   SIGNATURES

     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.

                                            SPEECHWORKS INTERNATIONAL, INC.

Date: May 15, 2002                          By: /s/ Richard J. Westelman
                                            Richard J. Westelman
                                            Chief Financial Officer
                                            (Chief Accounting Officer)



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