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

                                    FORM 10-Q

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

                 For the quarterly period ended March 31, 1997

                                       OR

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

                         Commission file number 0-28330

                              LEGACY SOFTWARE, INC.
             (Exact name of registrant as specified in its charter)

           Delaware                              95-456-1156
(State or other jurisdiction of        (I.R.S. Employer Identification No.)
information or organization)


      5340 Alla Road
      Los Angeles, California                              90066
      (Address of principal executive offices)           (Zip Code)

                                 (310) 823-2423
              (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
                                              ---         ---

There were 2,523,115 shares outstanding of the registrant's Common Stock, par
value $.001 per share, as of May 15, 1997.


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<PAGE>   2



                              LEGACY SOFTWARE, INC.

                                      INDEX

<TABLE>
<CAPTION>
                                                                                                           Page No.
                                                                                                           --------
<S>                <C>                                                                                     <C>
                                           PART I - FINANCIAL INFORMATION

Item 1.           Financial Statements (Unaudited):

                           Balance Sheets at March 31, 1997 and
                           December 31, 1996                                                                   3

                           Statements of Operations for the three months
                           ended March 31, 1997 and 1996
                                                                                                               5

                           Statements of Cash Flows for the three months
                           ended March 31, 1997 and 1996                                                       6

                           Notes to Condensed Financial Statements                                             7

Item 2.           Management's Discussion and Analysis of Financial
                           Condition and Results of Operations for the three
                           months ended March 31, 1997                                                         9

                                             PART II - OTHER INFORMATION

Item 1.           Legal Proceedings                                                                           17

Item 2.           Changes in Securities                                                                       17

Item 3.           Defaults Upon Senior Securities                                                             17

Item 4.           Submission of Matters to a Vote of Security Holders                                         17

Item 5.           Other Information                                                                           17

Item 6.           Exhibits and Reports on Form 8-K                                                            17

Signatures                                                                                                    18

Exhibits
                  Exhibit 11
                  Exhibit 27
</TABLE>


<PAGE>   3



                         PART I - FINANCIAL INFORMATION

ITEM 1.  FINANCIAL STATEMENTS

                              LEGACY SOFTWARE, INC.

                                 BALANCE SHEETS



<TABLE>
<CAPTION>
                                                        March 31,        December 31,
                                                           1997              1996
                                                      ------------      -------------
                                                      (Unaudited)
<S>                                                  <C>               <C>       
                                       ASSETS
Current assets:
   Cash and cash equivalents ................        $  916,286        $1,804,779
   Restricted cash ..........................                --            55,240
   Accounts receivable, net .................             3,220             2,767
   Other receivables ........................            31,781           125,888
   Other current assets .....................             5,162                --
                                                     ----------        ----------

      Total current assets ..................           956,449         1,988,674

Product development costs ...................         1,461,522         1,260,478
Property and equipment, net .................           383,499           407,632
Other assets ................................            18,994            23,723
                                                     ----------        ----------
      Total assets ..........................        $2,820,464        $3,680,507
                                                     ==========        ==========
</TABLE>


See accompanying notes to condensed financial statements.


                                       3

<PAGE>   4

                              LEGACY SOFTWARE, INC.

                                 BALANCE SHEETS



<TABLE>
<CAPTION>
                                                                   March 31,         December 31,
                                                                     1997                1996
                                                                 -----------         ------------
                                                                 (Unaudited)
                       LIABILITIES AND SHAREHOLDERS' EQUITY
<S>                                                              <C>                 <C>        
Current liabilities:
   Line of credit ............................................   $        --         $    35,250
   Accounts payable ..........................................       130,889             167,097
   Accrued expenses ..........................................        66,512              70,489
   Payable to former co-development partner ..................       400,000             400,000
   Deferred revenues .........................................            --              40,388
   Notes payable, and current portion
      of long term debt, primarily related parties ...........        80,137             120,433
                                                                 -----------         -----------
       Total current liabilities .............................       677,538             833,657

Long term debt
   primarily from related parties, net of current portion ....       340,656             341,369

Commitments

Shareholders' equity
   Preferred Stock, par value $.001 per share, 5,000,000
      shares authorized; none issued and outstanding .........            --                  --
   Common Stock, par value $.001 per share, 10,000,000
      shares authorized; 2,523,115 shares issued
      and outstanding ........................................         2,522               2,522
   Additional paid in capital ................................     6,858,914           6,858,914
   Accumulated deficit .......................................    (5,059,166)         (4,355,955)
                                                                 -----------         -----------
       Total shareholders' equity ............................     1,802,270           2,505,481
                                                                 -----------         -----------
Total liabilities and shareholders' equity ...................   $ 2,820,464         $ 3,680,507
                                                                 ===========         ===========
</TABLE>



See accompanying notes to condensed financial statements.



                                       4

<PAGE>   5

                              LEGACY SOFTWARE, INC.

                            STATEMENTS OF OPERATIONS
                                   (UNAUDITED)

<TABLE>
<CAPTION>
                                                                          Three Months Ended March 31,
                                                                          ----------------------------
                                                                                1997           1996
                                                                           ------------   ------------
     Revenue:
     <S>                                                                   <C>            <C>           
        Royalties..................................                        $     42,777            --
        Software sales.............................                               3,167         4,053
                                                                           ------------   ------------
           Total revenue...........................                              45,944         4,053
                                                                           ------------   ------------

     Costs and expenses
        Cost of royalties..........................                                   -         25,500
        Cost of software sales.....................                               2,500          3,850
        Product development........................                             303,519         35,294
        General and administrative.................                             364,188        292,105
        Selling....................................                              79,173          1,795
                                                                           ------------   ------------
                                                                                749,380        358,544
                                                                           ------------   ------------

     Loss from operations..........................                            (703,436)      (354,491)
     Interest expense..............................                              14,134        392,464
     Interest income...............................                             (14,359)            --
                                                                           ------------   ------------
     Net loss......................................                        $   (703,211)  $   (746,955)
                                                                           ============   ============

     Net loss per common share.....................                        $      (0.28)  $      (0.53)
                                                                           ============   ============
     Weighted average common stock
        shares outstanding.........................                           2,523,115      1,396,218
                                                                           ============   ============
</TABLE>

See accompanying notes to condensed financial statements.


                                       5

<PAGE>   6

                              LEGACY SOFTWARE, INC.

                            STATEMENTS OF CASH FLOWS
                                   (UNAUDITED)

<TABLE>
<CAPTION>
                                                                                      Three Months Ended March 31,
                                                                                    --------------------------------
                                                                                        1997                1996
                                                                                    ------------        ------------
Cash flows from operating activities:
<S>                                                                                 <C>                 <C>         
   Net loss ................................................................        $  (703,211)        $  (746,955)
   Adjustments to reconcile net loss to net
      cash provided by (used in) operating activities:
       Amortization of product development costs ...........................                 --              25,500
       Amortization of deferred loan costs and original issue discount .....                 --             355,307
       Depreciation ........................................................             25,166               5,840
       Gain on disposal of property and equipment ..........................               (157)                 --
       Issuance of common stock in exchange for services ...................                 --              14,400
   Increase (decrease) in cash from changes in:
       Accounts receivable, net ............................................               (453)           (125,723)
       Other receivables ...................................................             94,107                  --
       Other assets ........................................................               (433)             (3,717)
       Accounts payable and accrued expenses ...............................            (40,185)            469,336
       Development expense co-funding billings in
         excess of development expense co-funding
         recognized ........................................................                 --             178,903
       Deferred revenues ...................................................            (40,388)            306,082
                                                                                    -----------         -----------
         Net cash provided by (used in) operating activities ...............           (665,554)            478,973
                                                                                    -----------         -----------
Cash flows from investing activities:
   Purchase of property and equipment ......................................             (5,238)            (13,908)
   Proceeds from the disposition of property and equipment .................              4,362                  --
   Additions to product development costs ..................................           (201,044)                 --
                                                                                    -----------         -----------
         Net cash used in investing activities .............................           (201,920)            (13,908)
                                                                                    -----------         -----------
Cash flows from financing activities:
   Payments under line of credit ...........................................            (35,250)                 --
   Payments of notes payable and long term debt ............................            (41,009)                 --
   Increase in deferred offering costs .....................................                 --            (474,392)
                                                                                    -----------         -----------
         Net cash used in financing activities .............................            (76,259)           (474,392)
                                                                                    -----------         -----------
Decrease in cash and cash equivalents ......................................           (943,733)             (9,327)
Cash and cash equivalents, at beginning of period ..........................          1,860,019             365,190
                                                                                    -----------         -----------
Cash and cash equivalents, at end of period ................................        $   916,286         $   355,863
                                                                                    ===========         ===========

Supplemental disclosure of cash flow information 
       Cash paid during the period for:
       Interest ............................................................        $    18,349         $    54,682
       Income taxes ........................................................        $        --         $        --
                                                                                    -----------         -----------
</TABLE>



See accompanying notes to condensed financial statements.



                                       6

<PAGE>   7



                              LEGACY SOFTWARE, INC.

                          NOTES TO FINANCIAL STATEMENTS

(1)    Basis of presentation

       The accompanying unaudited financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information and the instructions to Form 10-Q. Accordingly, they do not include
all of the information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management, all
adjustments (consisting of only normal recurring accruals) considered necessary
for a fair presentation of the Company's financial position at March 31, 1997,
the results of operations for the three months ended March 31, 1997 and 1996 and
the cash flows for the three months ended March 31, 1997 and 1996 have been
included. Operating results for the three-month period ended March 31, 1997, are
not necessarily indicative of the results that may be expected for the year
ending December 31, 1997.

       The information contained in this Form 10-Q should be read in conjunction
with the audited financial statements as of December 31, 1996 filed as part of
the Company's Annual Report on Form 10-K.

(2)    Deferred Revenues

       As of December 31, 1996, the Company had recorded $40,388 in deferred
revenues relating to amounts received from IBM for fourth quarter 1996 sales of
the Emergency Room title co-developed with IBM. In conjunction with the revenue
recognition policy established by the Company, this amount was recognized into
royalty revenue during March of 1997.

(3)    Earnings Per Share

       Earnings per common share for the three-month period ending March 31,
1997 are computed based upon the weighted average number of common shares
actually outstanding during the period plus the additional shares that would be
outstanding assuming the exercise of dilutive common stock options and purchase
warrants, which are considered common stock equivalents. The number of shares
that would be issued from the exercise of such options and warrants would be
reduced by the number of common shares that could have been purchased from the
assumed use of the proceeds at the average market price of the Company's common
stock during the period (treasury stock method). For the three-month period
ending March 31, 1997, all common stock equivalents were excluded from the
calculation of earnings per share as their inclusion would have been
anti-dilutive.

       Statements of Financial Standards No. 128, "Earnings Per Share"(SFAS 128)
is effective for financial statements issued for periods ending after December
15, 1997, including interim periods. Earlier application is not permitted. SFAS
128 requires dual presentation of basic and diluted earnings per share (EPS) on
the face of the income statement. It also requires a reconciliation of the
numerator and denominator of the basic EPS computation to the numerator and
denominator of the diluted EPS computation. This statement also requires
restatement of all prior-period EPS data presented. The Company has not
determined the effect on its EPS from the adoption of this statement.

(4)    Termination and Acquisition of Co-Development Partner's Rights Under 
       Agreements

       On January 3, 1997, the Company and International Business Machines
("IBM") executed a final termination agreement with respect to the District
Attorney Development and Licensing Agreement dated November 16, 1995. As
consideration for the termination and for the acquisition of IBM's rights under
the agreement, the Company will pay to IBM no later than December 15, 1997 the
aggregate sum of $400,000, representing the total amount of milestone payments
made by IBM to the Company under the DA License agreement.



                                       7

<PAGE>   8
       In February of 1997, a release and termination agreement was signed with
McGraw Hill Home Interactive ("McGraw Hill") with respect to the letter of
intent for the development and licensing of the contemplated Animal Doctor
title. In association with the release and termination a payment of $75,000 was
received from McGraw Hill in February of 1997, representing previously unfunded
development expenses related to the contemplated Animal Doctor title.
Additionally during the three months ended March 31, 1997, preliminary
conceptual development was halted for a proposed second McGraw Hill title,
Junior Astronaut, for which no agreement or letter of intent was yet signed.

(5)    Proposed Acquisition

       In February of 1997 the Company signed a letter of intent to acquire
certain assets and to assume certain liabilities of Educorp Multimedia, Inc., a
California based multimedia software publisher, and its wholly owned
subsidiaries Educorp Direct, Inc. and High Text Interactive, Inc. The total
consideration of $1,800,000 will be payable in shares of the Company's common
stock. The actual number of shares will be based on the average closing price of
the stock for thirty calendar days following the closing of this transaction,
but in no event will be less than 425,000 shares. The acquisition is expected to
be completed in May of 1997, and represents the Company's initial step in its
transition into a fully-integrated developer and distributor of entertainment
and educational software for home and school use.

(6)    Reclassifications

       Certain 1996 amounts were reclassified to conform with the 1997
presentation.



                                       8

<PAGE>   9

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
        OF OPERATION.

Cautionary Note Regarding Forward-Looking Statements

         Except for historical information contained herein, the statements in
this report (including without limitation, statements indicating that the
Company "expects," "estimates," "anticipates" or "believes" and all other
statements concerning future financial results, product offerings or other
events that have not yet occurred) are forward-looking statements that are made
pursuant to the safe harbor provisions of the Private Securities Litigation
Reform Act of 1995, Section 21E of the Securities Exchange Act of 1934, as
amended, and Section 27A of the Securities Act of 1933, as amended.
Forward-looking statements involve known and unknown factors, risks and
uncertainties which may cause the Company's actual results in future periods to
differ materially from forecasted results. Those factors, risks and
uncertainties include, but are not limited to: the positioning of the Company's
products in the Company's market segments; the Company's ability to effectively
manage its various businesses in a rapidly changing environment; the timing of
new product introductions; retail sell-through of the Company's products; the
continued emergence of the Internet, resulting in new competition and changing
consumer demands; the Company's ability to adapt and expand its product
offerings in light of changes to and developments in personal computer platforms
and the Internet environment; growth rates of the Company's market segments;
variations in the cost of, and demand for, customer service and technical
support; price pressures and the competitive environment in the consumer
software and edutainment industry; the possibility of programming errors or
other "bugs" in the Company's software games and Internet technology; the
Company's ability to establish itself successfully as a software developer,
publisher and distributor; the emergence of competition from new and existing
software gaming and Internet companies; the timing and consumer acceptance of
new product releases and services (including current users' willingness to
upgrade from older versions of the Company's products); the consummation of
possible acquisitions; and the Company's ability to integrate acquired
operations into its existing business and manage growth. Additional information
on these and other risk factors are included under "Risk Factors" and elsewhere
in this Form 10-Q.

Risk Factors

         Management of Growth; Uncertainties Relating to Acquisitions and New
Businesses. The Company is currently pursuing and, in the future may pursue, new
technologies and businesses internally and through acquisitions which involve
significant risks. For example, the proposed acquisition of assets of Educorp
Multimedia, Inc. ("Educorp") and its subsidiaries involves the issuance of
equity securities, the incurrence of contingent liabilities and the amortization
of expenses related to goodwill and other intangible assets, which have
adversely affected, or may adversely affect, the Company's operating results and
financial condition. This pending business acquisition constitutes the Company's
initial step in a planned transition from being exclusively a software producer
into becoming an integrated developer, publisher and distributor of edutainment,
"infotainment" and simulation software for both home and school use. The Company
expects the acquisition to facilitate distribution of the Company's own titles
and other titles through Educorp's distribution channels. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations -
General." The proposed acquisition of assets of Educorp and certain of its
subsidiaries will expand the Company's size, operations, personnel and
geographic locations. There can be no assurance, however, that the proposed
acquisition of Educorp and its subsidiaries will be consummated. In addition,
the Company has little experience in establishing, organizing and operating an
internal marketing, public relations and sales group to distribute its products.
The Company's ability to integrate and organize its new and proposed businesses,
including the Passport2 Internet game and information service, the catalog
distribution business of Educorp and an internal marketing, public relations and
sales group, and to predict and manage its growth will require significant
expansion in the Company's operation, financial and management information
systems. There is no assurance that the Company will be able to address these
requirements in a satisfactory manner, and the failure to do so could have a
material adverse effect on the Company's results of operations, financial
condition and business. The integration of acquired companies' operations,
technologies, products and personnel into the Company's operations has in the
past, and may in the future, result in unforeseen operating difficulties and
expenditures, requiring significant management attention that would otherwise be
available for the ongoing development of the Company's business. In addition,
future acquisitions by the Company, including but not limited to, the proposed
acquisition of assets of Educorp,


                                      9

<PAGE>   10
involve risks of, among other things, entering markets or segments in which the
Company has no or limited prior experience, the potential loss of key employees
of the acquired company and/or of Legacy and unforeseen operating and financial
difficulties. Moreover, there can be no assurance that the anticipated benefits
of any specific acquisition or the Company's internal development of a new
business segment will be realized.

         Pending Negotiations Between the Company and IBM regarding Emergency
Room Derivative Products. IBM recently has notified the Company of IBM's
position that the Company does not have the right to distribute and/or sell
derivatives of the Emergency Room title under the terms of the Multimedia Rights
License Agreement between the Company and IBM, as amended by Amendment No. 1,
Amendment No.2 and the Amendment and Termination Agreement pursuant to which the
Development and Licensing Agreement with respect to the District Attorney title
was terminated. The Company disagrees with such position, and currently is in
negotiations with IBM to resolve this matter. However, there can be no assurance
that this matter will be resolved in favor of the Company, or at all. A failure
to achieve a favorable resolution to this matter, or to resolve this matter with
IBM, would jeopardize the Company's ability to distribute and sell any and all
products which are derived from the Emergency Room title, including, without
limitation, The Best of ER, ER Intern and ER Resident, and would have a material
adverse effect on the Company's business, financial condition and results of
operation.

         Dependence on IBM for Substantially All the Company's Revenues. For the
first three months of 1997, approximately 88% of the Company's total revenues
was derived from royalty payments made by IBM to the Company on sales of the
Emergency Room title pursuant to the Company's co-development agreement with
IBM. The Company expects royalty revenue from the Emergency Room title, a
DOS-based product, to diminish significantly over the course of 1997, as it will
face increased competition from Windows-based products. Although IBM is
currently distributing and marketing the Emergency Room title on behalf of the
Company, the Company and IBM have terminated their co-development relationship
with respect to future RealPlayTM titles, including, but not limited to, the
District Attorney title. In light of the Company's dependence on IBM for the
distribution and marketing of its Emergency Room title, if sales of the
Emergency Room title by IBM were to materially decrease, if IBM were to
terminate its development and marketing relationship with the Company with
respect to the Emergency Room title, if the Company is unable to develop other
CD-ROM titles, such as the District Attorney title, or other services, such as
Passport2, or if the Company's other products and services, if any, do not
receive market acceptance, there will be a material adverse effect on the
Company's results of operations, financial condition and business. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - General, and Results of Operations."

         Significant Quarterly Fluctuations in Revenue and Operating Results and
Related Factors. The Company's quarterly operating results have fluctuated
significantly in the past, and are likely to fluctuate significantly in the
future, based on a number of factors. The Company may experience significant
quarterly fluctuations in net sales and operating results due to a variety of
factors including, but not limited to, the size and rate of growth of the
consumer edutainment and gaming software market, uncertainties relating to
acquisitions and business combinations, market acceptance of the Company's
products and those of its competitors, competition for shelf space and
promotional support, development and promotional expenses relating to the
introduction of new products or enhancements of existing products, projected and
actual changes in computer formats and platforms and the Internet, the timing
and success of product introductions, product returns, changes in pricing
policies by the Company and its competitors, the accuracy of retailers'
forecasts of consumer demand, the timing of orders from major customers, order
cancellations, delays in shipment, delays in royalty revenue received from IBM,
the effect of personal computer sales, risks from limited protection of
proprietary rights and significant price reductions in personal computer
software, and consignment shipments of the Company's products. The Company
expects to experience significant fluctuations in its quarterly operating
results as a result of changes in the mix of products with varying profit
margins sold by the Company from quarter to quarter, the timing of product
introductions and the recognition of royalty revenue received from its
co-development partner. In response to competitive pressures, the Company may
take certain pricing or marketing actions that could materially adversely affect
the Company's results of operations, business and financial condition. The
Company's expense levels are based, in part, on its expectations regarding
future sales and, as a result, operating results would be disproportionately
adversely affected by a decrease in sales or a failure to meet the Company's
sales expectations. Defective products may result in higher customer support
costs and product returns.


                                       10

<PAGE>   11
         Rapidly Changing Technologies and Markets. The markets in which the
Company competes are characterized by ongoing technological developments,
frequent new product announcements and introductions, evolving industry
standards, changing customer requirements and new competitors. The introduction
of products and services embodying new technologies and the emergence of new
industry standards and practices, including new platforms, CD-ROMs and the
Internet, can render existing products obsolete and unmarketable. The Company's
future success depends upon its ability to enhance its existing products and
services, develop new products and services that address the changing
requirements of its customers, develop additional products and services for new
or other platforms and environments, such as Windows 95 and the Internet, and
anticipate or respond to technological advances, emerging industry standards and
practices and changes in CD-ROMs, the Internet and other technologies, in a
timely, cost-effective manner. In response to major industry changes reflected
by the increasing popularity of the Internet among consumers, the Company has
expanded its Internet strategy. There can be no assurance that any of such
initiatives can be successfully implemented or that they will result in
increased revenue or profits for the Company. Conversely, there can be no
assurance that consumers' use of the Internet, particularly for entertainment
and edutainment, will continue to increase as rapidly as it has during the past
few years.

         Need for Additional Capital. The Company's ability to achieve positive
cash flow depends on a variety of factors including, but not limited to, the
successful acquisition of certain of the assets of Educorp and its subsidiaries,
and the successful operation thereof, the timeliness and market acceptance of
its current and future software titles, such as the District Attorney, The Best
of ER, ER Intern, and ER Resident titles, the costs of developing and producing
such titles, the costs associated with self distribution of the titles, and the
continued success of the Emergency Room title and various other factors, some of
which may be beyond the Company's control. Should the Company's future income be
less than anticipated or its software title production and introduction be
delayed significantly or not generate sufficient future revenues, the Company
may require additional capital, which it may seek through additional public or
private financings or other sources. The Company's prospects must be considered
in light of the risks, expenses and difficulties encountered by companies in the
early stages of development, particularly companies in new and rapidly evolving
markets. The Company has incurred net losses since inception and expects to
continue to operate at a loss during 1997.

         Competition. Each of the computer software development, Internet
technology and software retail distribution industries is intensely competitive.
The Company's competitors in each industry range from small companies with
limited resources to large, more established companies which have significantly
greater assets and greater financial, technical and personnel resources than
those of the Company. The Company expects competition to continue and increase
in each of these market segments.

         Increased competition in the software development market, resulting
from, among other things, the timing of competitive product releases and the
similarity of such products to those of the Company, may result in significant
price competition, reduced profit margins, loss of shelf space or a reduction in
sell-through of the Company's products at retail stores, any of which could have
a material adverse effect on the Company's results of operations, business or
financial condition. In addition, the Company believes that large software
companies, media companies and film studios are increasing their focus on the
interactive entertainment and edutainment sectors of the software market and, as
a result of their greater resources, name recognition, customer base and
licensed rights, are significant competitors in the software industry. Current
and future competitors with greater resources than the Company may be able to,
among other things, carry larger inventories, undertake more extensive marketing
campaigns, adopt more aggressive pricing policies and make higher offers or
guarantees to software developers and co-development partners than the Company.
New hardware formats and electronic delivery systems may be introduced into the
software market and potential new competitors may enter the software development
and distribution market, resulting in greater competition for the Company. There
can be no assurance that the Company will have the resources required to respond
effectively, or at all, to market or technological changes, or to compete
successfully with current or future competitors, or that competitive pressures
faced by the Company will not materially and adversely affect the Company's
business, operating results or financial condition.


                                       11


<PAGE>   12
         Consolidation among software companies significantly increased in 1996
and has shown signs of continuing. For example, CUC, Inc. has purchased Davidson
Software, Sierra and Knowledge Adventure, Softkey, Inc. has purchased The
Learning Company and MECC, IBM has purchased Edmark, and GT Interactive, Inc.
has purchased Humungous Entertainment, Inc. This consolidation process makes it
more difficult for small publishers to obtain broad retail distribution without
"affiliating" with larger distributors in certain channels. The Company
currently distributes the Emergency Room title through IBM but may develop
sometime in 1997 a marketing/sales organization that will distribute products
through the retail channel, direct mail, catalogs and the Internet. There can be
no assurance that the Company will develop such a marketing/sales organization
or that, if established, such organization would be able to distribute
successfully the Company's products.

         In the past, the Company focused primarily on the edutainment product
category; through the acquisition of On The Toes Of Giants in 1996, the Company
has moved into the area of Internet edutainment products and games. The Internet
category is dominated by a number of very large competitors and is subject to
rapid change in consumer preference. Should the Company increase its presence in
the Internet industry segment, it will experience these additional risks and
competitive pressures.

         The Company also faces competition resulting from its proposed
acquisition of Educorp and its affiliates. Currently, Educorp competes primarily
against other companies that publish or distribute multimedia CD-ROM software in
the education, entertainment and reference categories. As a distributor of third
party titles, the Company would compete with other direct marketing companies
such as Micro Warehouse, Tiger Direct, Multiple Zones, and Creative Computers.
On the retail level, the Company would compete with large computer retailers
such as CompUSA, Computer City, Best Buy, and Micro Center, software vendors
such as Egghead, and mass merchants such as Toys R Us, Walmart, Price/Costco and
Sears. The Company would also compete indirectly against developers and
publishers that sell multimedia titles outside of Educorp's subject focus, and
directly against software developers and publishers that offer multimedia
product for the adult consumer, higher education and corporate management and
training markets, including, among others, Softkey, Cliff Studyware, Princeton
Review and Export Software.

         Products in the market compete primarily on the basis of subjective
factors, such as entertainment value, and objective factors, such as price,
graphics and sound quality. Large diversified entertainment, cable and
telecommunications companies, in addition to large software companies such as
Microsoft Corporation, are increasing their focus on the interactive
entertainment and education software market, which will result in even greater
competition for the Company. Many of these companies have substantially greater
financial, marketing and technical resources than the Company. As competition
increases, significant price competition and reduced profit margins may result.
In response to increased competition for shelf space, the Company may need to
increase marketing expenditures. In addition, competition from new technologies
(such as new hardware platforms and the Internet) may reduce demand in markets
in which Educorp has traditionally competed. Manufacturers and developers of
cartridge-based video games, such as Nintendo and Sega and their licensees, also
are indirect competitors of Educorp and would be of the Company upon completion
of the proposed acquisition. Prolonged price competition or reduced demand as a
result of competing technologies would have a material adverse effect on the
Company's results of operations, business and financial condition. There can be
no assurance that the Company will be able to compete successfully against
current or future competitors of Educorp and its affiliates or that competitive
pressures faced by the Company upon completion of the proposed acquisition will
not materially and adversely affect the Company's business, operating results or
financial condition.

         Seasonality. Typically, revenues are highest during the fourth fiscal
quarter, decline in the first fiscal quarter and are lowest in the second and
third fiscal quarters. This seasonal pattern is due primarily to the increased
demand for the Company's products during the calendar year-end holiday selling
season. Other fluctuations in retail sales are related to the school market,
which generally purchases most products at the beginning of the school year in
September or in late spring, when software budgets must be expended. There can
be no assurance that the Company will achieve profitability and, even if
achieved, that such profitability will be consistent on a quarterly or annual
basis.


                                       12

<PAGE>   13

General

       The Company completed an initial public offering of 1,150,000 shares of
its common stock, par value $.001 per share (the "Common Stock"), on May 17,
1996. The Company was incorporated in California in 1989 and reincorporated in
Delaware in March 1996. The Company develops edutainment CD-ROM computer
software. An edutainment product combines entertainment and education content
for home and educational use, in which learning is an integral part of playing a
game. The Company is also in the final testing stages of its Internet gaming
technology, the Passport2 Network, with several interactive games currently
operational. The Company expects to begin generating revenue from the Passport2
Network during the second quarter of 1997. Additionally, the Company plans to
enter into the distribution and publishing of multimedia software during 1997,
which will involve the proposed acquisition of an existing multimedia software
developer and catalog distributor, and the development of a retail marketing
department.

       International Business Machines Corporation ("IBM") is currently
marketing the Emergency Room title, the Company's first RealPlayTM (formerly
Career SimTM) series title, which the Company co-developed with IBM. Due to the
Company's inability to reasonably estimate returns on the Emergency Room title,
the Company did not recognize royalty revenue on the accrual basis of accounting
until the fourth quarter of 1996 when the amount of returns could be reasonably
estimated in accordance with Statement of Financial Accounting Standards No. 48
("SFAS 48"). Royalty revenue recognized from the Emergency Room title during the
three months ended March 31, 1997 relates to IBM's sales from the fourth quarter
of 1996. The Company expects sales of the original DOS based version of
Emergency Room distributed and marketed by IBM to diminish over the next twelve
months.

       The Company is currently developing the District Attorney title, the
Company's second RealPlayTM series title. During the fourth quarter of 1996, the
Company and IBM mutually agreed to terminate the Development and Licensing
Agreement between the Company and IBM with respect to the District Attorney
title. The Company is currently preparing for self-distribution of the District
Attorney title through direct marketing and retail channels. As of April 30,
1997 the first two cases of the District Attorney title have been completed, and
the Company anticipates completion of the third case during May of 1997. The
Company anticipates that if unit sales of the District Attorney title are
approximately equal to the unit sales of the Emergency Room title, gross revenue
earned through self-distribution of the District Attorney title (before payment
of $400,000 to IBM) would be approximately equal to four times the royalty
revenue earned from the Emergency Room title. There can be no assurance,
however, that the District Attorney title will be successfully marketed and
distributed, or that if such title is, that unit sales will be approximately
equal to the unit sales of the Emergency Room title. Additionally there can be
no assurance that the Company will be able to successfully distribute the
product through its own efforts, which may materially adversely affect the
Company's ability to fund the development of future titles, and, as a direct
result, the ability to generate future operating cash flow.

         As of March 31, 1997 the Company was actively developing three other
CD-Rom titles, The Best of ER, consisting of 50 of the best cases from Emergency
Room, and ER Intern and ER Resident, Windows95 enhanced versions of Emergency
Room each containing 25 additional cases. The Company anticipates completion of
these titles during the second quarter of 1997, and plans to market and
distribute the titles without outside assistance. IBM recently has notified the
Company of IBM's position that the Company does not have the right to distribute
and/or sell derivatives of the Emergency Room title under the terms of the
Multimedia Rights License Agreement between the Company and IBM, as amended by
Amendment No. 1, Amendment No. 2 and the Amendment and Termination Agreement
pursuant to which the Development and Licensing Agreement with respect to the
District Attorney title was terminated. The Company disagrees with such
position, and currently is in negotiations with IBM to resolve the disagreement.
There can be no assurance, however, that such disagreement will be resolved in
favor of the Company, or at all, and a failure to do so would have a material
adverse effect on the Company's business, financial condition, and results of
operations. Although the Company has several titles in the conceptual and
pre-production phases of development, the Company does not currently plan to
begin full scale development of additional titles until such time as the
proposed distribution channels for existing titles are in place and are
operational. There can be no assurance, however, that the Company will be able
to successfully distribute the titles through its own efforts, which may
materially adversely affect the Company's ability to fund the development of
future titles, and, as a direct result, the ability to generate


                                       13



<PAGE>   14
future operating cash flow.

       In February of 1997 the Company signed a letter of intent to acquire
certain of the assets and liabilities of Educorp Multimedia, Inc., a California
based multimedia software publisher, and its wholly owned subsidiaries Educorp
Direct, Inc. and High Text Interactive, Inc. The total proposed consideration of
$1,800,000 will be payable in shares of Common Stock, and the Company expects
the transaction to be completed in May of 1997. The actual number of shares will
be based on the average closing price of the stock for thirty calendar days
following the closing of this transaction, and is subject to a minimum of
425,000 shares. The Company plans to utilize Educorp as a distribution arm for
the Company's own titles, including District Attorney, The Best of ER, ER
Intern, and ER Resident, and will substantially continue the existing operations
of Educorp, which the Company expects will contribute to 1997 consolidated
operations in the form of both revenues and cash flow. Due to the Company's lack
of experience in publishing and distribution, there can be no assurance that the
Company will be successful in its efforts to consolidate and operate the assets
acquired from Educorp, and as a direct result the Company's ability to fund the
development of future titles and ability to generate future operating cash flow
may be adversely affected.

Results of Operations

For the three months ended March 31, 1997 compared to the three months ended
March 31, 1996

       For the three months ended March 31, 1997, revenues increased by 1,034%,
from $4,053 to $45,944. This $41,891 increase is due primarily to an increase in
royalty revenue related to the Emergency Room title, which is partially offset
by a decrease in software sales of $886. In conjunction with the revenue
recognition policy established by the Company, during the three months ended
March 31, 1997, $40,388 of royalty revenue was recognized, net of estimated
returns, from the Emergency Room title that related to IBM's sales for the
fourth quarter of 1996. Due to the Company's inability to reasonably estimate
returns on its early sales of the Emergency Room title, the Company did not
recognize any royalty revenue on the accrual basis of accounting until the
fourth quarter of 1996, when the amount of future returns could be reasonably
estimated in accordance with Statement of Financial Accounting Standards No. 48
(SFAS 48). The remaining royalty revenue in the amount of $2,389 recognized
during the three months ended March 31, 1997 related to other titles. Sales of
the Company's previously released self-developed software titles decreased due
to the introduction of competing software titles designed to better take
advantage of the new personal computer hardware available, and will eventually
decline to zero, as is typical of consumer software products.

       Total cost of revenues for the three-month period ending March, 31 1997
decreased by $26,850 or 92%, as compared to the same period in 1996. This
decrease is due mostly to a decrease in cost of royalties from $25,500 to $0,
and is augmented slightly by a decrease in cost of software sales of $1,350. The
decrease in cost of royalties is due to the amortization of all remaining
capitalized product development costs associated with the development of the
Emergency Room title during 1996. The capitalized product development costs
associated with the District Attorney, The Best of ER, ER Intern and ER Resident
titles have not yet been amortized as the products are not presently ready for
general release. Cost of software sales decreased by $1,350 or 35% during the
three months ended March 31, 1997, due to a decline in sales of the Company's
self-developed software titles during the three months ended March 31, 1997, as
compared to the same period in 1996.

       Product development expenses, which are net of co-funded development
expenses, increased by $268,225. This increase is due largely to the continued
development of the Passport2 Network, which began in September of 1996, and the
continually expanding library of the Company's Internet interactive games.
During the three-month period ending March 31, 1997, all costs directly
associated with the Passport2 Network and the development of individual Internet
games were expensed. Additionally, the Company was not subject to any
co-development agreements during the first quarter of 1997, and as a result no
milestone payments were received to offset against product development expenses
as occurred in the first quarter of 1996.

       General and administrative expenses increased by 25%, from $292,105 to
$364,188. This $72,083 increase is almost entirely due to the increase in the
Company's overhead structure resulting from an increase in the number of
employees. The increase is also related to an increase in expenses incurred as a



                                       14
<PAGE>   15

result of the relocation of the Company's headquarters, including an increase in
rent expense. The general growth of the Company's overhead structure is a direct
result of the increase in the number of projects concurrently under development,
which peaked in the third quarter of 1996. Additionally, the increase is related
to personnel and organizational changes, and increases in professional fees,
that are directly associated with being a publicly traded company.

       Selling expenses for the three months ended March 31 increased by $77,378
from 1996 to 1997. The increase is primarily related to general product and
company image public relations efforts, promotional expenses related to the
Passport2 Internet gaming technology, and increases in salaries and promotional
expenses related to self-distribution efforts for the District Attorney, The
Best of ER, ER Intern, and ER Resident titles.

       Interest expense decreased from $392,464 to $14,134. This $378,330
decrease is directly related to the decrease in notes payable at March 31 from
1996 to 1997. Interest expense for the three-month period ending March 31, 1996
resulted primarily from that certain convertible note in the original principal
amount of $1,000,000 payable to the EBC Trust Corporation that was retired in
May of 1996. The Company also had interest income of $14,359 during the three
months ending March 31, 1997, primarily as a result of interest earned on the
remaining net proceeds of the initial public offering.

Liquidity and Capital Resources

       The Company's working capital position as of March 31, 1997 is $278,911
as compared to $1,155,017 as of December 31, 1996. This significant decrease is
primarily attributable to the results of the Company's continuing operations.

       The Company had $665,554 in cash outflows from operating activities for
the three months ended March 31, 1997 compared to cash inflows of $478,973 from
operating activities during the first three months of 1996. The increase in net
outflows of $1,144,527 between 1997 and 1996 operating cash flow primarily
resulted from an increase in the net loss after adjustments for non-cash items
in operations of $332,294, a decrease in the change in accounts payable and
accrued expenses of $509,521, a decrease of $178,903 in the change of
development co-funding billings in excess of development expense co-funding
recognized, and a decrease in the change in deferred revenues of $346,470. This
has been offset by a decrease in the change in accounts receivable of $125,270
and an increase in the change in other receivables of $94,107. The total net
outflows from operating activities are primarily the result of net losses caused
by research and development expenditures associated with the Company's Passport2
Network, increases in general and administrative expenses associated with the
increase in the Company's overhead structure, and increased selling costs
related to the Company's new marketing and distribution efforts.

       Investing activities in the first three months of 1997 consisted of
purchases of computer equipment and construction of leasehold improvements
totaling $5,238 and the capitalization of software development costs related to
the District Attorney and The Best of ER titles totaling $201,044. These
outflows were offset slightly by proceeds from the disposition of property and
equipment in the amount of $4,362. In the first three months of 1996 investing
activities consisted of purchases of computer equipment and construction of
leasehold improvements totaling $13,908.

       The Company had cash outflows of $76,259 from financing activities for
the first three months of 1997 compared to outflows of $474,392 for the first
three months of 1996. Financing activities for the three months ended March 31,
1997 included payments of notes payable of $41,009 and payments under a line of
credit of $35,250. Net cash outflows of $474,392 for the first three months of
1996 consisted solely of payment of deferred offering costs.

       The Company's ability to achieve positive cash flow over the next twelve
months depends on a variety of factors including the successful operation of
certain of the assets and liabilities acquired from Educorp, the timeliness and
market acceptance of its current and future software titles, most importantly
the District Attorney, The Best of ER, ER Intern, and ER Resident titles, the
costs of developing and producing such titles, the costs associated with
self-distribution of the titles, the continued success of the Emergency Room
title and various other factors, some of which may be beyond the Company's
control. Should the Company's future


                                       15


<PAGE>   16

income be less than anticipated or its software title production and
introduction be delayed significantly or not generate sufficient future
revenues, the Company may require additional capital, which it may seek through
additional public or private financings or other sources. However, there can be
no assurance that the Company would be able to obtain such financings on
favorable terms, or at all, and the failure to do so would have a material
adverse effect on the Company's business, financial condition, and results of
operations. The Company's prospects must be considered in light of the risks,
expenses and difficulties encountered by companies in the early stages of
development, particularly companies in new and rapidly evolving markets. The
Company has incurred net losses since inception and expects to continue to
operate at a loss during 1997. Similarly, the Company's future capital
requirements will be affected by, among other things, the successful operation
of certain of the assets and liabilities acquired from Educorp, the timing and
cost of producing new titles, promotional and advertising expenses required to
launch new titles, the costs associated with self distribution of existing and
future titles, debt service requirements including long term notes payable and
amounts due to a former co-development partner, various commitments under
employment agreements and operating leases, and investments in technological and
production process research.

       The Company believes that its transition from a co-developer to a
developer, publisher and distributor may improve the Company's financial results
in the future because the Company will be vertically integrated from product
development to consumer sales and marketing. There can be no assurance, however,
that this transition will be successful and, if unsuccessful, the Company could
face short-term liquidity requirements that could significantly deplete its
current cash resources. If this occurs, the Company believes that liquidity
requirements can be satisfied by eliminating costs associated with development
of future titles, significantly curtailing its Internet gaming services,
locating new affiliate arrangements for future titles and seeking additional
external financing. There can be no assurance, however, that the Company will be
able to effect any one of these objectives, and the failure to do so would have
a material adverse effect on the Company's business, financial condition and
results of operations. Although the Company believes that its operating plan and
efforts will be adequate to meet its fiscal 1997 working capital requirements,
there can be no assurance that the Company will not experience, among other
things, liquidity problems caused by adverse market conditions or other
unfavorable events outside its control.


                                       16

<PAGE>   17

                           PART II - OTHER INFORMATION

ITEM 1.  LEGAL PROCEEDINGS.

       The Company is neither currently a party to nor is any of its property
the subject of any legal proceedings which would be material to the business or
financial condition of the Company.

ITEM 2.  CHANGES IN SECURITIES.

       Not Applicable.

ITEM 3.  DEFAULTS UPON SENIOR SECURITIES.

       Not Applicable.

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

       Not Applicable.

ITEM 5.  OTHER INFORMATION.

       Not Applicable.

ITEM 6.  EXHIBITS AND REPORTS ON FORM 8-K.

       (a)        The following exhibits are included herewith:

                  Exhibit 11 -    Weighted Average of Common Stock Shares 
                                  Outstanding

                  Exhibit 27 -    Financial Data Schedule.

       (b)        The Company filed no reports on Form 8-K during the quarter
                  for which this form is filed.



                                       17

<PAGE>   18



                                   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.

Date:  May 15, 1997              LEGACY SOFTWARE, INC.



                                 /s/ WILLIAM E. SLINEY
                                 ---------------------------------------
                                 William E. Sliney
                                 Vice President and Chief Financial Officer
                                 (Duly Authorized Officer and Principal
                                 Financial and Accounting Officer)







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