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


                                    FORM 10-Q


[X]            Quarterly Report Pursuant to Section 13 or 15(d) of the
               Securities Exchange Act of 1934

                   For the quarter ended   DECEMBER 31, 1999
                                           -----------------

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

For the transition period from ____________________ to ____________________


                         Commission File Number 0-15949

                   INTERNATIONAL MICROCOMPUTER SOFTWARE, INC.
             ------------------------------------------------------
             (Exact name of registrant as specified in its charter)


<TABLE>
<S>                                                      <C>
               CALIFORNIA                                   94-2862863
               ----------                                   ----------
        (State or other jurisdiction of                  (I.R.S. Employer
         incorporation or organization)                  identification No.)

        75 ROWLAND WAY, NOVATO, CA                              94945
        --------------------------                              -----
        (Address of principal executive offices)              (Zip code)
</TABLE>


                                 (415) 878-4000
                                 --------------
               (Registrant's telephone number including area code)


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

                                 YES [X] NO [ ]


As of April 26, 2000, 9,469,366 shares of Registrant's common stock, no par
value, were outstanding.


<PAGE>   2
                   INTERNATIONAL MICROCOMPUTER SOFTWARE, INC.
                                AND SUBSIDIARIES
                                      INDEX


<TABLE>
<CAPTION>
                                                                                          Page
                                                                                          ----
<S>                                                                                       <C>
PART I - FINANCIAL INFORMATION

Item 1.  Condensed Consolidated Financial Statements

         Condensed Consolidated Balance Sheets at December 31, 1999 and June 30, 1999       3


         Condensed Consolidated Statements of Operations for the three and six
               months ended December 31, 1999 and 1998                                      4

         Condensed Consolidated Statements of Cash Flows for the six months ended
                   December 31, 1999 and 1998                                               5

         Notes to Condensed Consolidated Financial Statements                               6

Item 2.  Management's Discussion and Analysis of Financial Condition and
                   Results of Operations                                                   17

Item 3.  Quantitative and Qualitative Disclosures About Market Risk                        24

PART II - OTHER INFORMATION

Item 1.  Legal Proceedings                                                                 24
Item 2.  Changes in Securities and Use of Proceeds                                         24
Item 3.  Defaults upon Senior Securities                                                   24
Item 4.  Submission of Matters to a Vote of Security Holders                               25
Item 5.  Other Information                                                                 25
Item 6.  Exhibits and Reports on Form 8-K                                                  25

SIGNATURES                                                                                 26
</TABLE>


                                       2


<PAGE>   3
           INTERNATIONAL MICROCOMPUTER SOFTWARE, INC. AND SUBSIDIARIES
                      CONDENSED CONSOLIDATED BALANCE SHEETS
                      (IN THOUSANDS, EXCEPT SHARE AMOUNTS)


<TABLE>
<CAPTION>
                                                                  December 31, 1999    June 30, 1999
                                                                  -----------------    -------------
                                                                     (Unaudited)
<S>                                                               <C>                  <C>
ASSETS
Current assets:
  Cash and cash equivalents                                          $      2,256       $      3,681
  Receivables, less allowances for doubtful
    Accounts, discounts and returns of $7,101 and $7,445                    2,592              4,933
  Inventories                                                                 741              2,895
  Prepaid royalties and licenses                                            1,501              1,858
  Income tax refund receivable                                                335              3,751
  Other current assets                                                        839                758
                                                                     ------------       ------------
      Total current assets                                                  8,264             17,876

Furniture and equipment                                                     2,952              3,632
Deferred tax assets                                                            --                465
Capitalized software development costs                                      2,357              2,856
Other assets                                                                2,036              2,315
                                                                     ------------       ------------
       Total assets                                                  $     15,609       $     27,144
                                                                     ============       ============

LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
Current liabilities:
   Short term borrowings                                             $      8,816       $      7,110
   Trade accounts payable                                                   2,124              2,256
   Accrued and other liabilities                                            4,046              5,119
   Accrued arbitration award                                                2,600                 --
   Accrued restructuring charges                                              980              1,440
   Deferred revenue                                                         3,598              3,178
                                                                     ------------       ------------
     Total current liabilities                                             22,164             19,103

Long term debt and other obligations                                        2,548              6,599
                                                                     ------------       ------------
Total current liabilities                                                  24,712             25,702

Commitments and contingencies                                                  --                 --

Shareholders' equity (deficit):
   Common stock, no par value; 300,000,000 authorized;
        Issued and outstanding 7,278,293 and 7,014,078 shares              28,053             27,526
   Accumulated deficit                                                    (37,045)           (25,963)
   Accumulated other comprehensive income                                     139                129
   Notes receivable from shareholders                                        (250)              (250)
                                                                     ------------       ------------
      Total shareholders' equity (deficit)                                 (9,103)             1,442
                                                                     ------------       ------------
           Total liabilities and shareholders' equity (deficit)      $     15,609       $     27,144
                                                                     ============       ============
</TABLE>


            See Notes to Condensed Consolidated Financial Statements


                                       3


<PAGE>   4
           INTERNATIONAL MICROCOMPUTER SOFTWARE, INC. AND SUBSIDIARIES
                 CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
                    (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
                                    UNAUDITED


<TABLE>
<CAPTION>
                                      THREE MONTHS ENDED DECEMBER 31,        SIX MONTHS ENDED DECEMBER 31,
                                      -------------------------------       -------------------------------
                                          1999               1998               1999                1998
                                      ------------       ------------       ------------       ------------
                                                          (Restated)                           (Restated)
<S>                                   <C>                <C>                <C>                <C>
Net revenues                          $      6,282       $     10,275       $     11,916       $     23,970
Product costs                                5,083              6,998              8,266             12,467
                                      ------------       ------------       ------------       ------------
Gross margin                                 1,199              3,277              3,350             11,503

Costs and expenses:
   Sales and marketing                       2,245              5,407              4,285             11,090
   General and administrative                2,980              1,798              4,894              3,542
   Research and development                  1,181              2,177              2,492              4,458
   Restructuring charge                       (138)                                 (138)                --
                                      ------------       ------------       ------------       ------------
Total operating expenses                     6,268              9,382             11,523             19,090

                                      ------------       ------------       ------------       ------------
Operating loss                              (5,069)            (6,105)            (7,883)            (7,587)

Gain on product line sale                       --                 --              1,440                 --
Interest and other expense, net             (1,061)              (526)            (1,524)              (705)

Accrued arbitration award                   (2,600)                               (2,600)
                                      ------------       ------------       ------------       ------------
Loss before income taxes                    (8,730)            (6,631)           (10,567)            (8,292)

Income tax provision (benefit)                 499             (2,357)               515             (2,912)
                                      ------------       ------------       ------------       ------------
Net loss                                   $(9,229)           $(4,274)          $(11,082)           $(5,380)
                                      ============       ============       ============       ============

Basic and diluted loss per share            $(1.30)            $(0.74)            $(1.57)             $(0.94)


Shares used in computing loss
   per share                                 7,109              5,778              7,062              5,722
</TABLE>


            See Notes to Condensed Consolidated Financial Statements


                                       4


<PAGE>   5
                   INTERNATIONAL MICROCOMPUTER SOFTWARE, INC.
                                AND SUBSIDIARIES
                 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
                   SIX MONTHS ENDED DECEMBER 31, 1999 AND 1998
                                 (IN THOUSANDS)
                                   (UNAUDITED)


<TABLE>
<CAPTION>
                                                                            1999                1998
                                                                        ------------       ------------
                                                                                           (Restated)
<S>                                                                     <C>                <C>
Cash flows from operating activities:
  Net cash (used) provided by operating activities                      $       (539)      $      1,491
                                                                        ------------       ------------

Cash flows from investing activities:
   Proceeds from sale of product line                                          1,500                 --
   Purchase of equipment                                                        (111)              (482)
   Acquisition of software development and in-process technologies              (131)            (1,834)
   Purchase of Zedcor and Org Plus                                                --               (300)
   Other                                                                          (4)               (98)
                                                                        ------------       ------------
   Net cash provided (used) by investing activities                            1,254             (2,714)
                                                                        ------------       ------------

Cash flows from financing activities:
   Credit line borrowings                                                         --              2,025
   Credit line repayments                                                       (820)            (1,000)
   Borrowings (repayments) of term loan                                         (750)             1,938
   Repayment of capital lease obligations                                       (599)              (464)
   Proceeds from issuance of common stock                                         19                 --
                                                                        ------------       ------------
  Net cash (used) provided by financing activities                            (2,150)             2,499
                                                                        ------------       ------------

Effect of exchange rate changes on cash and cash equivalents                      10                200
                                                                        ------------       ------------
Net increase (decrease) in cash and cash equivalents                          (1,425)             1,476
Cash and cash equivalents at beginning of period                               3,681              2,093
                                                                        ------------       ------------
Cash and cash equivalents at end of the period                          $      2,256       $      3,569
                                                                        ============       ============



SUPPLEMENTAL DISCLOSURES OF NON-CASH
FINANCING AND INVESTING ACTIVITIES
Equipment acquired through capital lease obligations                    $         --       $        239
Purchase of technology and assets in exchange for notes
  payable                                                               $         --       $      4,030
Purchase of technology and assets in exchange for common stock          $         --       $        970
IMSI common stock received in satisfaction of receivable                $         --       $        320
Conversion of long-term debt to common stock                            $        500       $         --
</TABLE>


            See Notes to Condensed Consolidated Financial Statements


                                       5


<PAGE>   6
                   INTERNATIONAL MICROCOMPUTER SOFTWARE, INC.
                                AND SUBSIDIARIES
              NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1.  BASIS OF PRESENTATION

The interim condensed consolidated financial statements have been prepared from
the records of International Microcomputer Software, Inc. and Subsidiaries
("IMSI") without audit. In the opinion of management, all adjustments, which
consist only of normal recurring adjustments (other than those described below),
necessary to present fairly the financial position at December 31, 1999 and the
results of operations and cash flows as of and for the periods ended December
31, 1999 and 1998 have been made. The interim condensed consolidated financial
statements should be read in conjunction with our consolidated financial
statements and notes thereto contained in IMSI's Annual Report on Form 10-K for
the fiscal year ended June 30, 1999. The results of operations for the three
months and six months ended December 31, 1999 and 1998 are not necessarily
indicative of the results to be expected for any other interim period or for the
full year.

2.  REALIZATION OF ASSETS

The financial statements have been prepared on a basis that contemplates IMSI's
continuation as a going concern and the realization of our assets and
liquidation of our liabilities in the ordinary course of business. We have an
accumulated deficit of $37.0 million and negative working capital of $13.9
million at December 31, 1999. Under the guidance of CMA Business Credit
Services, on February 18, 2000 IMSI held a formally noticed general meeting of
its creditors. At this meeting a committee was elected to represent creditor
interests. The committee agreed to give IMSI a 120 day stand-still period to
prepare and present a plan to the creditors for paying off its debts. We are
currently in the process of preparing this plan. In conjunction with these
actions, we have ceased interest and principal payments on all borrowings, debt
or other interest bearing obligations, with the exception of monthly interest
payments to Union Bank of California on the outstanding line of credit.
Accordingly, we are in default of various covenants of these agreements.

These matters, among others, raise substantial doubt about our ability to remain
a going concern for a reasonable period of time. The financial statements do not
include any adjustments relating to the recoverability or classification of
assets or the amounts and classification of liabilities that might result from
the outcome of this uncertainty. IMSI's continued existence is dependent on its
ability to obtain additional financing sufficient to allow it to meet its
obligations as they become due and to achieve profitable operations.

To a large extent, IMSI has planned to meet its working capital needs in the
current fiscal year through sales or licensing of non-core product lines. We
sold the rights to the Easy Language product line for $1.7 million in August
1999. To date, IMSI has been unsuccessful in closing any additional product line
sales. Due to our working capital needs, we are exploring all reasonable offers
for the purchase of our retail software product lines. Currently, we are in
discussion with several outside companies who wish to purchase certain of our
retail software product lines. The sale or licensing of the rights to these
product lines is consistent with our restructuring strategy of focusing on our
core products while transitioning to the Internet. This strategy also includes
reducing our costs through manufacturing and warehouse outsourcing, facilities
consolidation, and personnel reductions. There can be no assurance that we will
be successful in our efforts.


                                       6


<PAGE>   7
In January 2000, IMSI retained the investment banking firm of Heartland
Financial to explore ways to raise capital and increase shareholder value. In
addition to the sale of product lines, this may include the sale of either or
both of our Internet business units, the restructuring of debt, and the infusion
of new capital. There can be no assurance that we will be successful in our
efforts to raise additional funds.

IMSI received $2.1 million in income tax refunds during the second quarter of
fiscal year 2000 and $1.3 million in income tax refunds during the first quarter
of fiscal year 2000. We anticipate receiving approximately an additional
$335,000 in income tax refunds during the remainder of fiscal year 2000.

3. RESTATEMENT OF FISCAL 1998 FINANCIAL STATEMENTS

IMSI's management, after review of certain licensing agreements and consultation
with our current and former auditors, determined that we should have deferred
the recognition of revenue related to three advanced royalty payments recorded
in fiscal 1998 for certain technology-licensing agreements. Previously, IMSI
recognized revenue in the amount of these advanced payments upon execution of
the licensing agreement. The revenue related to these advance payments should
have been recognized as it was earned as royalties under the terms of the
agreements. As a result, the financial statements as of and for the year ended
June 30, 1998 were restated from amounts previously reported to defer
recognition of revenue until earned as royalties in subsequent periods. A total
of $407,000 of royalty income was deferred from fiscal year 1998 to subsequent
periods. Royalty income of $335,000 and $14,000 has been added to the quarters
ended September 30, 1998 and December 31, 1998, respectively.

As of July 1, 1998, IMSI changed the amortization period for visual content from
36 months to 60 months. In the fourth quarter of fiscal year 1999, reevaluating
the amortization periods, the Company's management revised the amortization
period for visual content back to 36 months, effective for the entire fiscal
year. As a result, additional amortization charges of $99,000 are attributable
to the quarterly period ended September 30, 1998 and $85,0000 for the quarterly
period ended December 31, 1999. The following table shows the effect of these
restatements for the three and six month periods ended December 31, 1998.


<TABLE>
<CAPTION>
                                               Quarter Ending                     Six Months Ending
                                             December 31, 1998                    December 31, 1998
                                      -------------------------------       -------------------------------
                                           As                                    As
                                        Reported           Restated           Reported           Restated
                                      ------------       ------------       ------------       ------------
<S>                                   <C>                <C>                <C>                <C>
Net revenues                          $     10,261       $     10,275       $     23,621       $     23,970
Product costs                                6,912              6,998             12,283             12,467
                                      ------------       ------------       ------------       ------------
Gross margin                                 3,349              3,277             11,338             11,503
                                      ============       ============       ============       ============

Operating loss                              (6,033)            (6,105)            (7,752)            (7,587)

Income before Taxes                         (6,561)            (6,631)            (8,457)            (8,292)
Provision for Income Taxes                  (2,362)            (2,357)            (3,045)            (2,912)
                                      ------------       ------------       ------------       ------------
Net Loss                                    (4,199)            (4,274)            (5,412)            (5,380)
                                      ============       ============       ============       ============

Basic and diluted loss per share      $      (0.73)      $      (0.74)      $      (0.95)      $      (0.94)
                                      ============       ============       ============       ============
</TABLE>


                                       7


<PAGE>   8
See Note 16 to the June 30, 1999 consolidated financial statements included in
IMSI's fiscal 1999 Form 10-K.


4.  REVENUE RECOGNITION

Revenue is recognized when earned. IMSI has adopted American Institute of
Certified Public Accountants Statement of Position ("SOP") 97-2, Software
Revenue Recognition, and SOP 98-9, Modification of SOP 97-2, With Respect to
Certain Transactions. Revenue from packaged product sales to distributors,
resellers and end users is recorded when related products are shipped. For
software delivered via the Internet, revenue is recorded when the customer
downloads the software. Subscription revenue is recognized ratably over the
contract period, generally 12 to 15 months. Revenue from hybrid products is
allocated to the underlying components based on the ratio of the value of each
component to the total price. Non-refundable advanced payments received under
license agreements are recognized as revenue when the customer accepts the
delivered software. Revenue from software licensed to developers, including
royalties earned in excess of non-refundable advanced payments, is recorded as
the developers ship products containing the licensed software. Costs related to
post-contract customer support, which are minimal and include limited telephone
support and limited on-line maintenance for certain products, are accrued. Sales
to distributors permit limited rights of return upon termination or when a
product is defective. Reserves for returns, price discounts and rebates are
estimated using historical averages and a consideration of open return requests.
Beginning with the quarter ended December 31, 1998, the Company also considers
channel inventories, recent product sell-through activity and market conditions
in establishing its reserves.

5.  INVENTORIES

Inventories, consisting primarily of diskettes, manuals, hardware, freight in,
production costs and packing supplies, are valued at the lower of cost or market
and are accounted for on a first-in, first-out basis. Management performs
periodic assessments to determine the existence of obsolete, slow moving and
non-salable inventories, and records necessary provisions to reduce such
inventories to net realizable value. Inventories consist of:


<TABLE>
<CAPTION>
                                      December 31, 1999    June 30, 1999
                                      -----------------    -------------
<S>                                   <C>                  <C>
Raw materials                            $        671       $      2,343
Finished goods                                  1,714              3,897
                                         ------------       ------------
                                                2,385              6,240
Reserves for obsolescence                      (1,644)            (3,345)
                                         ------------       ------------
                                         $        741       $      2,895
                                         ============       ============
</TABLE>


6.  CAPITALIZED SOFTWARE DEVELOPMENT COSTS

Total capitalized software development costs were $8,361,000 at December 31,
1999 and $8,289,000 at June 30, 1999 less accumulated amortization of $6,004,000
and $5,433,000, respectively.


                                       8


<PAGE>   9
7.   DEBT

IMSI's short-term borrowings and long term debt and other obligations consist of
the following (in thousands):


<TABLE>
<CAPTION>
                                                                December 31,       June 30,
                                                                   199 9             1999
                                                                ------------      ------------
<S>                                                             <C>               <C>
Short term borrowings
  Non-revolving, reducing loan with interest at bank's
      reference rate plus 3%, 11.25% at December 31, 1999       $      4,600      $      5,400
  Term loan with interest at bank's reference rate plus 3%                --               750
  Senior subordinated convertible note due May 2002
      with interest at 9% net of unamortized warrant cost
      at December 31, 1999 of $906                                     3,594                --
  Capital lease obligations                                              622               960
                                                                ------------      ------------
         Total short term borrowings                            $      8,816      $      7,110
                                                                ============      ============

Long term debt and other obligations
  Subordinated loan facility due November 2001 with
      interest at 12% net of unamortized warrant cost
      of $474 and $604, respectively                            $      2,026      $      1,896
  Senior subordinated convertible note due May 2002
      with interest at 9% net of unamortized warrant cost
      at June 30, 1999 of $1,100                                          --             3,900
  Capital lease obligations                                              522               803
                                                                ------------      ------------
         Total long term debt and other obligations             $      2,548      $      6,599
                                                                ============      ============
</TABLE>


IMSI is in default of many of the covenants under its agreements relating to the
non-revolving, reducing loan with Union Bank of California ("Union"). The loan
was due September 30, 1999 and remains unpaid. Under the terms of the loan
agreement, Union can declare the loan to be immediately due and payable and can
commence immediate enforcement and collection actions.

IMSI is in default on its senior subordinated convertible note with BayStar
Capital L.P. ("BayStar") because of failure to pay a penalty for failing to have
a registration statement effective no later than September 21, 1999 covering the
resale of shares issuable to BayStar. The penalty is 1% per month of the
principal balance outstanding. We have accrued a liability for this penalty
through December 31, 1999 in our financial statements. BayStar has the right
under the note to declare all sums due and payable but has not done so.
Accordingly, the full amount of the note is recorded as a current liability.
Because of the default, BayStar has the right to convert its convertible note at
the price of $2 per share. BayStar converted $500,000 of the note on December 2,
1999 into common stock of IMSI at a price of $2.00 per share.


                                       9


<PAGE>   10
8.  ACCRUED RESTRUCTURING CHARGES

The following table details the rollforward activity in the accrued
restructuring liability account.


<TABLE>
<CAPTION>
                                             Balance                              Balance
                                             June 30,                           December 31,
                                               1999            Activity            1999
                                           ------------      ------------       ------------
<S>                                        <C>               <C>                <C>
Warehouse closure:
    Accrued rent                           $    249,000      $   (317,000)      $    566,000
    Broker's fee                                103,000                --            103,000
Warehouse transition costs                      284,000           177,000            107,000
Facilities consolidation:
    Novato:
       Rent                                     180,000           180,000                 --
       Broker's fee                              65,000            32,000             33,000
       Excess furniture lease                    14,000             7,000              7,000
       Additional walls and doors                29,000            15,000             14,000
       Miscellaneous charges                      3,000             2,000              1,000
Tech support facility                           110,000            25,000             85,000
Consolidation of  Foreign Offices                 6,000             6,000                 --
Personnel reductions                            397,000           333,000             64,000
                                           ------------      ------------       ------------
Total accrued restructuring liability      $  1,440,000      $    460,000       $    980,000
                                           ============      ============       ============
</TABLE>


The following table reflects the rollforward activity of planned terminations
under the restructuring plan.


<TABLE>
<CAPTION>
                                       Planned            Cumulative
                                   terminations as    Terminations as of
                                   of June 30, 1999   December 31, 1999
                                   ----------------   -----------------
<S>                                <C>                <C>
Sales and Marketing                             22                  21
General and Administrative                       8                   6
Manufacturing                                   23                  11
Research and Development                        37                  23
                                    --------------      --------------
                                                90                  61
                                    --------------      --------------
</TABLE>


During the quarter ended December 31, 1999, we increased the restructuring
accrual for warehouse rent by $438,000 due to changing our estimate of how long
it will take to sublease this facility. Also during the quarter ended December
31, 1999, we decreased the restructuring accrual for personnel reductions costs
by $138,000 primarily due to the re-hire of, and cessation of termination
benefits payable to, formerly terminated executive, Geoffrey Koblick.

9.  SEGMENT INFORMATION

IMSI has five reportable operating segments. Four of the segments are
geographic: North America, the United Kingdom, Germany and Australia. Each of
these segments generates revenues and incurs expenses related to the sale of our
PC productivity software. The last segment comprises the revenues and expenses
related to ArtToday.com (formerly Zedcor, Inc.), our graphic design Internet
subsidiary that was purchased in October 1998. Previously, ArtToday.com was
included in the results of the North America geographic segment as its


                                       10


<PAGE>   11
separate results were not material. Revenues from our precision design Internet
efforts are not yet material and the results of this segment are included in our
North American segment. The following tables provide detail of the segment
information (in thousands):


<TABLE>
<CAPTION>
Quarter Ended                 ArtToday. Other North       UK      Germany    Australia   Rest of    Elimina-      Total
December 31, 1999               Com       America                                         World       tions
-------------------------------------------------------------------------------------------------------------------------
<S>                           <C>       <C>           <C>         <C>        <C>         <C>        <C>          <C>
Net Revenues-external         $    722    $  3,460    $    339    $    708    $    538   $    515    $     --    $  6,282
            -internal               --         365          --          --          --         --        (365)         --
Income (loss) before taxes        (103)     (8,471)        120        (293)         14          3          --      (8,730)
Income tax expense (credit)         --         488          --          --          10          1          --         499
Net Income (loss)                 (103)     (8,959)        120        (293)          4          2          --      (9,229)
Identifiable assets           $  1,221    $ 10,796    $    741    $  1,342    $    916   $    593          --    $ 15,609
</TABLE>


<TABLE>
<CAPTION>
Quarter Ended                 ArtToday. Other North       UK      Germany    Australia   Rest of    Elimina-      Total
December 31, 1998               Com       America                                         World       tions
-------------------------------------------------------------------------------------------------------------------------
<S>                           <C>       <C>           <C>         <C>        <C>         <C>        <C>          <C>
Net Revenues-external         $    298    $  5,690    $    947    $  1,550    $    754   $  1,036    $     --    $ 10,275
            -internal               --       1,461          --          --          --         --      (1,461)         --
Income (loss) before taxes         (93)     (6,749)        (64)        145          77         53          --      (6,631)
Income tax expense (credit)         --      (2,400)         --          --           9         34          --      (2,357)
Net Income (loss)                  (93)     (4,349)        (64)        145          68         19          --      (4,274)
Identifiable assets           $    381    $ 33,459    $  1,194    $  3,530    $    958   $  1,046    $     --    $ 40,568
</TABLE>


<TABLE>
<CAPTION>
Six Months Ended              ArtToday. Other North       UK      Germany    Australia   Rest of    Elimina-      Total
December 31, 1999               Com       America                                         World       tions
-------------------------------------------------------------------------------------------------------------------------
<S>                           <C>       <C>           <C>         <C>        <C>         <C>        <C>          <C>
Net Revenues-external         $  1,307    $  6,080    $    687    $  1,696    $  1,065   $  1,081    $     --    $ 11,916
            -internal               --         712          --          --          --         --        (712)         --
Income (loss) before              (218)    (10,562)        130        (124)        100        107          --     (10,567)
taxes
Income tax expense (credit)         --         503          --          --          16         (4)         --         515
Net Income (loss)                 (218)    (11,065)        130        (124)         84        111          --     (11,082)
Identifiable assets           $  1,221    $ 10,796    $    741    $  1,342    $    916   $    593          --    $ 15,609
</TABLE>


<TABLE>
<CAPTION>
Six Months Ended              ArtToday. Other North       UK      Germany    Australia   Rest of    Elimina-      Total
December 31, 1998               Com       America                                         World       tions
-------------------------------------------------------------------------------------------------------------------------
<S>                           <C>       <C>           <C>         <C>        <C>         <C>        <C>          <C>
Net Revenues-external         $    298    $ 15,648    $  1,696    $  3,385    $  1,394   $  1,549    $     --    $ 23,970
            -internal               --       2,003          --          --          --         --      (2,003)         --
Income (loss) before taxes         (93)     (8,579)       (157)        312         234         (9)         --      (8,292)
Income tax expense (credit)         --      (2,964)         --          --          18         34          --      (2,912)
Net Income (loss)                  (93)     (5,615)       (157)        312         216        (43)         --      (5,380)
Identifiable assets           $    381    $ 33,459    $  1,194    $  3,530    $    958   $  1,046    $     --    $ 40,568
</TABLE>


                                       11


<PAGE>   12
10.  BASIC AND DILUTED EARNINGS PER SHARE

Net loss and the weighted average number of shares outstanding (denominator)
used to calculate basic earnings per share are reconciled to the number of
shares used in calculating diluted earnings per share as follows:


<TABLE>
<CAPTION>
                                      Three Months Ended              Six Months Ended
                                          December 31,                  December 31,
                                 ----------------------------    ----------------------------
                                     1999            1998            1999            1998
                                 ------------    ------------    ------------    ------------
                                                  (Restated)                      (Restated)
<S>                              <C>             <C>             <C>             <C>
Net loss                         $ (9,229,000)   $ (4,274,000)   $(11,082,000)   $ (5,380,000)
                                 ============    ============    ============    ============
Shares used to compute basic
   EPS                              7,109,000       5,778,000       7,062,000       5,722,000
Add effect of dilutive
securities:
   Convertible Note                 2,250,000              --       2,250,000              --
   Warrants                           298,000          30,000         298,000          30,000
   Stock options                      816,000         469,000         816,000         571,000
                                 ------------    ------------    ------------    ------------
Shares used to compute diluted
   EPS*                            10,473,000       6,277,000      10,426,000       6,323,000
                                 ============    ============    ============    ============
</TABLE>


* Not presented, as presentation would be anti-dilutive.

11.  COMPREHENSIVE INCOME (LOSS)

Comprehensive income includes changes in the balance of items that are reported
directly in a separate component of stockholders' equity on the condensed
consolidated balance sheets. The reconciliation of net loss to comprehensive
loss is as follows.


<TABLE>
<CAPTION>
                                Three Months Ended December 31,   Six Months Ended December 31,
                                -------------------------------   -----------------------------
                                      1999            1998            1999            1998
                                ----------------  -------------   ------------    -------------
                                                   (Restated)                        (Restated)
<S>                             <C>               <C>             <C>             <C>
Net Loss                          $ (9,229,000)   $ (4,274,000)   $(11,082,000)   $ (5,380,000)
Other comprehensive (loss) gain
  Foreign currency translation
  adjustments                          (28,000)         46,000          10,000         199,000
                                  ------------    ------------    ------------    ------------
Total comprehensive loss          $ (9,257,000)   $ (4,228,000)   $(11,072,000)   $ (5,181,000)
                                  ============    ============    ============    ============
</TABLE>


12. DE-LISTING FROM THE NASDAQ SMALL CAP MARKET

On November 24, 1999 Nasdaq granted IMSI an exception from the net tangible
listing requirement, allowing IMSI to transfer from the Nasdaq National Market
to the Nasdaq Small Cap Market, with the symbol IMSIC. IMSI transferred to the
Nasdaq Small Cap Market on November 30, 1999. To maintain its listing on the
Nasdaq Small Cap Market, IMSI was required to file with the Securities Exchange
Commission and Nasdaq on or before January 31, 2000 reports evidencing at least
$7 million in net tangible assets. We notified Nasdaq on January 28, 2000 that
we were unable to achieve this requirement. On January 31, 2000, IMSI was
delisted from the Nadsaq Small Cap Market and began trading on the OTC Bulletin
Board. Concurrently, the ticker symbol IMSI was appended with a "C". On February
25, 2000, the ticker symbol IMSI was appended with an "E". On March 28, 2000,
IMSI was delisted from the OTC Bulletin Board and began trading on the National
Quotation Bureau Pink Sheets.


                                       12


<PAGE>   13
Our de-listing by Nasdaq may have an adverse and material effect on the price of
IMSI's stock and on the ability of IMSI's shareholders to sell their shares. The
securities laws of several states could impose limitations on the liquidity of
the common stock. The de-listing could also adversely affect IMSI's ability to
obtain additional debt and/or equity financing and may result in the reduction
in the amount and quality of securities analyst and news media coverage of IMSI.
De-listing is also a triggering event under the convertible subordinated note
owing to BayStar, allowing the holder of the note to declare all sums due and
payable.

13.   POTENTIAL PENALTIES FOR AGREEMENTS RELATING TO REGISTRATION OF SHARES

We agreed to file one or more registration statements covering the resale of the
shares described in Notes 6 and 7 to the consolidated financial statements in
our fiscal 1999 Form 10-K, including shares issued or issuable under agreements
with The Learning Company (now owned by Mattel, Inc., "TLC"), Capital Ventures
International ("CVI"), BayStar Capital L.P. ("BayStar"), and others. We have
filed registration statements pursuant to these agreements. The Securities and
Exchange Commission ("SEC") Division of Corporate Finance has had, and may
continue to have, comments related to our recent filings. We are working with
the SEC staff to resolve these comments as soon as possible. However, as a
result of delays in the effectiveness of the registration statements, we are
liable for financial penalties or other payments under the terms of the
agreements with TLC and BayStar. The aggregate amount of these penalties or
other payments could have a material effect on our financial statements,
business, liquidity and results of operations.

BayStar

On November 17, 1999, BayStar notified IMSI that the Company is in default under
the 9% Subordinated Convertible Note due 2002 for failure to pay cash penalties
resulting from the failure to have a registration statement covering resale of
the shares issuable to BayStar under the Note and the Warrant to be declared
effective by September 21, 1999. Because of the default, BayStar converted
$507,767 of the Note and accrued interest into 253,884 shares of IMSI common
stock at $2 per share on December 2, 1999.

TLC

In January 1999, IMSI and TLC agreed to amend the terms of the Org Plus
agreement to allow IMSI to settle the $1.8 million cash obligation by the
issuance of 200,000 shares of IMSI's common stock. In April 1999, IMSI and TLC
agreed that if TLC sells any shares within 30 days following the effectiveness
of a registration statement covering the 200,000 shares issued to TLC, we will
pay TLC the difference between the sales price and $8.50 per share, such payment
to be made either in cash or by issuing shares based on the average share price
during the thirty day protection period, at IMSI's option. In September 1999,
IMSI and TLC orally agreed that, in consideration for 300,000 shares and the
waiver of a $200,000 receivable due from TLC, TLC would not terminate the April
agreement nor seek to reinstate the $1.8 million cash obligation and that TLC
would deem any claim that it may have for additional shares to be satisfied. No
written agreement was executed and no shares have been delivered.

In view of the length of time that has passed since TLC and IMSI reached a
verbal agreement, during which time IMSI's stock price has fallen and TLC's
current shares remain unregistered, it is unlikely that TLC will continue to
accept 300,000 shares in satisfaction of all claims. The nature of the claims
that TLC might assert based on the agreements described above, and the
resolution of these potential claims, is highly speculative. Based on the terms
of the April


                                       13


<PAGE>   14
agreement, no penalties have been incurred. The price protection feature of the
April agreement is contingent and a charge will be taken at the time the
contingency is resolved.

IMSI is attempting to reach a negotiated settlement with BayStar and TLC,
including negotiations for the issuance of additional shares of common stock.
There can be no assurance that such negotiations will be successful. See Notes 6
and 7 to the consolidated financial statements in our Fiscal 1999 Form 10-K.

CVI

On March 1, 2000, IMSI agreed to settle its price protection adjustment
obligations to CVI with the issuance of 2,062,363 additional shares. Under this
agreement, IMSI has no further obligation to issue any additional adjustment
shares or other consideration to CVI and is relieved of making any further
payments to CVI in connection with its failure to obtain the effectiveness of
the respective registration statement. Since this resolution provides CVI with
fewer shares than it was entitled to under the original price protection
agreement, no additional charge was required to be booked.

Zedcor

The May 1999 amendments to the Zedcor Fee Agreement provide for the issuance of
additional shares if the average market price of IMSI stock is less than $8 per
share three days before the effective date of the registration of the shares.
This price protection applies only to the 190,797 shares issued for the (i)
conversion of the note balance into 150,321 shares, and (ii) the issuance of the
additional 40,476 shares under the May amendments to the Zedcor Fee Agreement.

In the third quarter of fiscal year 2000, a verbal agreement was reached
stipulating that IMSI would issue to the former Zedcor shareholders an
additional 185,005 shares, the maximum number of additional shares to which they
were entitled under the price protection, in settlement of all claims. Written
execution of this agreement is awaiting final approval of the banks and
creditors, who have already indicated that approval will be granted. Because
IMSI was not contractually obligated to offer the price protection under the
Zedcor Fee Agreement, it will recognize a charge equal to 185,005 shares times
the market price of IMSI stock on the date of the execution of the settlement
agreement.


14. SUBSEQUENT EVENTS

Adverse Settlement in Imageline Arbitration

On January 14, 2000, Imageline, Inc. received a $2.6 million arbitration award
against IMSI for intellectual property violations and attorneys' fees. IMSI is
appealing the award in the Federal District Court in Richmond, VA. See Note 17
to IMSI's consolidated financial statements contained in IMSI's Annual Report on
Form 10-K for the fiscal year ended June 30, 1999.

Changes in Management and the Board of Directors

On February 15, 2000, Geoffrey Koblick was named president, chief executive
officer, chief financial officer and a member of the IMSI's board of directors.
Geoffrey Koblick, who founded IMSI in 1983, stepped down as chief operating
officer and chairman of the board in May of 1999. Geoffrey Koblick replaces
Costa John, who served as president, chief executive officer


                                       14


<PAGE>   15
and chief financial officer. In addition, Mark Boyer, a principal in ROI
capital, one of IMSI's largest shareholders, was appointed to the board of
directors. IMSI's other directors, Costa John, Bill Lane, Abe Ostovsky and Lisa
Crane resigned on February 15, 2000. See Form 8-K dated February 15, 2000. On
February 17, 2000, Jeffrey Morgan joined IMSI as chief financial officer,
assuming the responsibilities of that position from Geoffrey Koblick.

Establishment of Creditors' Committee

Under the guidance of CMA Business Credit Services, on February 18, 2000 IMSI
held a formally noticed general meeting of its creditors. At this meeting a
committee was elected to represent creditor interests. The committee agreed to
give IMSI a 120 day stand-still period to prepare and present a plan to the
creditors for paying off its debts. We are currently in the process of preparing
this plan. In conjunction with these actions, we have ceased interest and
principal payments on all borrowings, debt or other interest bearing
obligations. Accordingly, we are in default of these agreements.

Loss of Control of European Subsidiaries

On January 28, 2000, IMSI announced that it is exiting the retail software
business. As a result, IMSI began closing its German office and liquidating its
European subsidiaries. We already closed our United Kingdom and French office in
the first quarter of fiscal year 2000. Although we are ceasing our European
operations, the liquidation process, which is proceeding according to the legal
requirements of the respective countries, may take up to one year to complete.
Upon appointment of the liquidators, the Company will no longer have control of
its European subsidiaries and therefore will no longer consolidate these
subsidiaries within its financial statements. For the six months ended December
31, 1999, revenue from Europe was $ 3,078,000 and the operating loss was
$54,000. Once the liquidation is complete, future sales of our products in
Europe, if any, will occur through third parties primarily on a royalty basis.

The pro forma information below presents the balance sheet at December 31, 1999
as if the European subsidiaries had not been consolidated. This pro forma
presentation is presented for informational purposes only and does not purport
to be indicative of the actual adjustments at the time control is lost.


                                       15


<PAGE>   16

<TABLE>
<CAPTION>
                                                            Balances
                                                           related to
                                           Consolidated      European        Proforma       Proforma as
                                           as Reported     Subsidiaries    Adjustments*      Adjusted
                                           ------------    ------------    ------------    ------------
<S>                                        <C>             <C>             <C>             <C>
Current Assets
  Cash and cash equivalents                $      2,256    $       (900)   $         --    $      1,356
  Net receivables                                 2,592            (984)             --           1,608
  Investment and intercompany receivable             --           1,793          (1,793)             --
  Inventories                                       741            (375)             --             366
  Prepaid royalties and licenses                  1,501              --              --           1,501
  Income taxes receivable                           335              --              --             335
  Other current assets                              839             (35)             --             804
                                           ------------    ------------    ------------    ------------
    Total current assets                          8,264            (501)         (1,793)          5,970

Furniture and equipment, net                      2,952            (124)             --           2,828
Capitalized software                              2,357            (117)             --           2,240
Other assets                                      2,036              (1)             --           2,035
                                           ------------    ------------    ------------    ------------
    Total assets                           $     15,609    $       (743)   $     (1,793)   $     13,073
                                           ============    ============    ============    ============

Current Liabilities:
  Short term borrowings                    $      8,816    $         --    $         --    $      8,816
  Trade accounts payable                          2,124            (259)             --           1,865
  Accrued and other liabilities                   4,046            (741)             --           3,305
  Accrued restructuring charge                    2,600              --              --           2,600
  Accrued restructuring charges                     980              --              --             980
  Deferred revenue                                3,598              --              --           3,598
                                           ------------    ------------    ------------    ------------
    Total current liabilities                    22,164          (1,000)             --          21,164

Long term debt and other obligations              2,548                              --           2,548
                                           ------------    ------------    ------------    ------------
    Total liabilities                            24,712          (1,000)             --          23,712

Shareholders' Equity:
  Common stock, no par value                     28,053              --              --          28,053
  Retained earnings (deficit)                   (37,045)            308          (1,793)        (38,530)
  Cumulative translation adjustment                 139             (51)             --              88
  Notes receivable from shareholders               (250)             --              --            (250)
                                           ------------    ------------    ------------    ------------
    Total shareholders' equity                   (9,103)            257          (1,793)        (10,639)
                                           ------------    ------------    ------------    ------------
    Total liabilities &
     shareholders' equity                  $     15,609    $       (743)   $     (1,793)   $     13,073
                                           ============    ============    ============    ============
</TABLE>


* Write off of investment in and receivables from European subsidiaries that are
not realizable due to the liquidation.


                                       16


<PAGE>   17
2.      MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
        OF OPERATIONS

The following information should be read in conjunction with the consolidated
financial statements and the notes thereto and in conjunction with Management's
Discussion and Analysis of Financial Condition and Results of Operations in
IMSI's Fiscal 1999 Form 10-K. This quarterly report on Form 10-Q, and in
particular this "Management's Discussion and Analysis of Financial Condition and
Results of Operations," may contain forward-looking statements regarding future
events or the future performance of IMSI that involve certain risks and
uncertainties including those discussed in the "Other Factors That May Affect
Future Operating Results" section of this Form 10-Q, as well as in IMSI's Fiscal
1999 Form 10-K, as filed with the Securities and Exchange Commission ("SEC").
Actual events or the actual future results of IMSI may differ materially from
any forward-looking statements due to such risks and uncertainties. IMSI assumes
no obligation to update these forward-looking statements to reflect actual
results or changes in factors or assumptions affecting such forward-looking
statements. This analysis is not intended to serve as a basis for projection of
future events. Amounts provided for the three and six months ended December 31,
1998 have been restated. See note 3 to the condensed consolidated financial
statements.

RESULTS OF OPERATIONS

IMSI reported a net loss of $9,229,000 or $(1.30) per share for the quarter
ended December 31, 1999 and a net loss of $11,082,000 or $(1.57) for the six
months ended December 31, 1999. This compares to a net loss of $4,274,000 or
$(0.74) per share for the quarter ended December 31, 1998 and a net loss of
$5,380,000 or $(0.94) per share for the six months ended December 31, 1998. We
reported an operating loss of $5,069,000 and $7,883,000 for the three and six
months ending December 31, 1999, respectively. This compares to an operating
loss of $6,105,000 and $7,587,000 for the three and six months ended December
31, 1998.

NET REVENUES

Net revenues for the three month and six month periods ended December 31, 1999
were $6,282,000 and $11,916,000, respectively. This compares to net revenues of
$10,275,000 and $23,970,000 for the same periods in the previous fiscal year.
This change represents a decrease in net revenues of 38.9% and 50.3% for the
three and six months periods, respectively. Although net revenues for the
quarter ended December 31, 1999 were slightly higher than our net revenues in
the previous quarter ended September 30, 1999, sales have continued to decline
since IMSI reported net revenues of $16,738,000 in the quarter ending June 30,
1998.

Due to the rapid and continuing decline of IMSI's retail software sales, we
announced on January 28, 2000 that we would be exiting the retail software
business. Because our sales revenue can no longer support our existing level of
overhead, we are also discontinuing our European operations and consolidating
our domestic and Canadian offices into our facilities in Novato, California and
Tucson, Arizona. Although we will continue to sell software by direct mail and
electronic download for as long as it generates net cash, we intend to derive
our future revenue predominately from our precision design and graphic design
websites.


                                       17


<PAGE>   18
Product revenues in absolute dollars and as a percentage of total revenues for
each of IMSI's principal product categories were as follows (in thousands):


<TABLE>
<CAPTION>
                                  Three Months Ended December 31,                            Six Months Ended December 31,
                        --------------------------------------------------      --------------------------------------------------
                                  1999                       1998                        1999                       1998
                        ----------------------      ----------------------      ----------------------      ----------------------
                                                          (Restated)                                              (Restated)
                            $             %             $             %             $            %             $             %
                        --------      --------      --------      --------      --------      --------      --------      --------
<S>                     <C>           <C>           <C>           <C>           <C>           <C>           <C>           <C>
Precision Design        $  2,315            39%     $  2,510            24%     $  4,110            35%     $  3,978            17%
Graphic Design             2,014            34%        4,175            41%        4,534            39%        6,616            28%
Business Applications      1,788            30%        5,001            49%        3,794            33%       11,097            46%
Utilities                  1,446            24%        1,370            13%        2,485            21%        2,947            12%
Other Products               401             7%          999            10%          899             8%        3,143            13%
Sales Reserves            (1,682)          -33%       (3,780)          -37%       (3,906)          -36%       (3,811)          -16%
                        --------      --------      --------      --------      --------      --------      --------      --------
Net Revenues            $  6,282           100%     $ 10,275           100%     $ 11,916           100%     $ 23,970           100%
                        ========      ========      ========      ========      ========      ========      ========      ========
</TABLE>


Product category revenues are shown gross of sales reserves recorded in the
respective periods for returns, price discounts and rebates. Sales reserves are
based on estimates of future activity and by their nature are subject to certain
risks and uncertainties, which could cause actual results to differ materially
from estimates.

Net revenues in the precision design category decreased for the three-month
period ended December 31, 1999 by $195,000 or 7.76% from the comparable period
in fiscal 1998. The decline is due to a decrease in TurboCad sales. Floorplan
sales increased slightly from the same period in the previous year.

For the three-month period ended December 31, 1999, net revenue in the graphic
design category decreased by $2,161,000 or 51.76% from the comparable period in
fiscal year 1998. The decline in this category is due to a decrease in the sales
of the primary product within this category, MasterClips. The clipart market has
exhibited severe price competition. In addition, we have had no recent product
upgrade, which historically has been released every 6 to 9 months. The lack of a
product upgrade, along with an overall decline in the clipart market, caused the
decline in graphic design sales. IMSI's Internet subsidiary, ArtToday,
contributed net revenue of $722,000 within this category during the quarter
ended December 31, 1999.

Revenues in the business applications category decreased by $3,323,000 or 64.25%
in the three-month period ended December 31, 1999 as compared to the same period
in fiscal year 1998. TurboProject sales were comparable to the prior year and
HiJaak sales increased. However, consistent with IMSI's restructuring plan, a
number of other non-core products within this category were not upgraded or
actively marketed contributing to the decline in revenue.

For the three month period ended December 31, 1999, revenues in the utilities
category increased by $76,000 or 5.55% as compared to the same period in fiscal
1998. Sales in the quarter ending December 31, 1999 increased due to large
amounts of IMSI's UpdateNow and Year2000Now software product sold through one
customer, America Online. Without the America Online sales, revenues from
utility products would have declined significantly. In the United States
particularly, intense price competition and rebate programs have negatively
impacted these consumer-oriented software products. Consistent with IMSI's
restructuring plan, the utilities products are also not being updated or
actively marketed.


                                       18


<PAGE>   19
Revenues in the other products category decreased by $598,000, or 59.86% for
the three month period ended December 31, 1999 as compared to the same period in
fiscal year 1998. The decrease was primarily due to a discontinuation of
products within this category.

Net revenues from domestic sales decreased by $2,106,000 or 35.2%, to
$3,882,000, or 64.9% of net revenues, for the three month period ended December
31, 1999, from $5,988,000 or 58.3% of net revenues, for the comparable period in
the previous fiscal year.

Net revenues from international sales declined by $2,187,000 or 51.0%, and were
$2,100,000 or 35.4% of net revenues for the three month period ended December
31, 1999, compared to $4,287,000 or 41.7 % of net revenues for the three months
ended December 31, 1998.

IMSI's international net revenues in the three-month period ended December 31,
1999 were generated primarily from Germany, Australia, and the United Kingdom.
As compared to the three-month period in the prior year, sales declined 28.6% in
Australia, 30.2% in the United Kingdom, and 54.3% in Germany. As a result of
our decision in January 2000 to liquidate our European operations, we will not
consolidate our European subsidiaries in future reporting periods. This change
will result in a reduction in consolidated revenues and a loss of approximately
$1.8 million from the write off of inter-company receivables and investment in
subsidiaries. See note 9 to the condensed consolidated financial statement for
segment information.

Although IMSI believes that the risks associated with transactions in foreign
currencies are mitigated by diversified exposure to multiple currencies, our
operating results may be affected by the risks customarily associated with
international operations, including changes in the value of the dollar versus
other currencies, increases in duty rates, exchange or price controls, longer
collection cycles, government regulations, political instability and changes in
international tax laws.

Product returns often increase when IMSI introduces upgrades and new versions of
products. New version releases may result in an increase in return reserves of
previous versions. Therefore, new product introductions by competitors also
increase returns. As of December 31, 1999, management considered likely product
upgrades and factored in an appropriate return reserve for such products
accordingly. Current and planned product upgrades were and are among the factors
used to establish reserves for product inventory. Other factors considered
include product sales trends, competition from other products, product inventory
on hand and termination of distribution agreements.

On September 27, 1999, TechData notified us that it would terminate its
distribution agreement with us within 60 days as a result of a disagreement over
payment terms. Although TechData was one of our largest distributors, the
termination had only a minimal impact on sales because other distributers
assumed substantially all of the accounts previously serviced by TechData.

Our distributorship agreement with TechData allowed for product returns upon
termination. TechData returned inventory of approximately $265,000 on December
19, 1999 and approximately $257,000 on January 27, 2000, for a total of
approximately $522,000. IMSI's agreement with TechData required us to accept
returns of the products in TechData's inventory at the price paid by TechData
less any subsequent returns or credits, provided that the products were unopened
and in their original factory sealed packages. To date, we credited TechData for
only $25,000 of the $522,000 in returns because we believe the remainder of the
product inventory returned by TechData did not meet these conditions. TechData
has contested our right


                                       19


<PAGE>   20
to refuse the balance of the returns.

IMSI's receivable balance from TechData as of December 31, 1999 was
approximately $650,000. We have reserved all of this receivable as of December
31, 1999 as a bad debt. We do not anticipate paying a cash refund to TechData
for returned product.


PRODUCT COSTS

For the three months ended December 31, 1999, product costs decreased $1,915,000
from the same period in 1998 to $5,083,000. The decrease in product costs is
associated with the decrease in sales. As a percentage of revenue, product costs
increased from 68.1% to 80.9%, when compared to the same period in the previous
fiscal year. This percentage increase is due to the fixed nature of certain
product costs that do not decline during decreasing sales.

During the quarter ended December 31, 1999, IMSI wrote off all of its $547,000
accrued inventory assets related to pending product returns. Historically, IMSI
has recognized up to 20% of its outstanding sales return reserve as inventory.
In addition, IMSI increased its accrued restructuring charge by $438,000 due a
change in estimate of how long it will take to sublease its warehouse facility
in Vacaville, California. This accrued rent expense is included as a
product cost.

Product costs include royalty fees and the amortization of capitalized software
and license fees. IMSI amortizes capitalized software development costs and
license fees on a product-by-product basis. The amortization for each product is
the greater of the amount computed using (a) the ratio of current gross revenues
to the total of current and anticipated future gross revenues for the product or
(b) the economic life of such product. Generally, capitalized software
development costs are amortized over a maximum of 18 to 36 months, and license
fees are amortized over a maximum of 36 months.

SALES AND MARKETING

Sales and marketing expenses for the three months ending December 31, 1999
decreased $3,162,000 or 58.5% to $2,245,000 as compared to the same period in
the previous fiscal year. Sales and marketing expenses for the six months ending
December 31, 1999 decreased $6,805,000 or 61.4% to $4,285,0000 as compared to
the same period in the previous fiscal year. As a percentage of net revenues,
sales and marketing expenses for the three and six month periods ending December
31, 1999, were 35.7% and 36.0%, respectively, as compared with 52.7% and 46.3%,
respectively, for the previous fiscal year. The decrease in dollar and
percentage amounts is primarily due to a reduction in advertising, marketing
staff, merchandisers, corporate sales representatives and other sales overhead
expense. Due to our imminent exit from the retail software business, sales and
marketing expenses should continue to decline in future periods.

GENERAL AND ADMINISTRATIVE

General and administrative expenses for the three and six month periods ending
December 31, 1999 increased $1,082,000 or 60.2% to $2,980,000 and $1,352,000 or
38.2% to $4,894,000, respectively, as compared to the same periods in the
previous fiscal year. These increases are primarily due to increased
professional fees and legal expenses incurred in connection with our
restructuring, the restatement of financial results, the Imageline arbitration
and efforts to achieve


                                       20


<PAGE>   21
effectiveness of our registration statements. The increase in general and
administrative expenses also reflects higher accruals for bad debt expense
associated with our exit from the retail software market.

As a percentage of net revenues, general and administrative expenses for the
three and six month periods ending December 31, 1999, were 47.4% and 41.1%,
respectively, as compared with 17.5% and 14.8%, respectively, for the previous
fiscal year. The large increases in general and administrative expenses as a
percent of net revenue is primarily attributable to a lower net revenue base and
the fixed nature of these expenses. Our wholly owned Internet subsidiary,
ArtToday, had operating expenses of $730,000 that included general and
administrative expense of $406,000. Due to employee layoffs and facility
closures in February 2000, general and administrative expenses should decline
significantly in future periods.

RESEARCH AND DEVELOPMENT

Research and development expenses for the three months ended December 31, 1999
decreased $996,000 or 45.8% to $1,181,000. For the six months ending December
31, 1999, research and development expenses decreased $1,966,000 or 44.1% to
$2,492,000. As a percentage of net revenues, research and development expenses
for the three and six month periods ending December 31, 1999, were 18.8% and
20.9%, respectively, as compared with 21.2% and 18.6%, respectively, for the
previous fiscal year. This decrease reflects cost containment efforts, including
a reduction in headcount to decrease domestic employees as part of the
restructuring, and reduction in the number of products under development as part
of the streamlining of IMSI's product offerings. Research and development
expenses will significantly decline in future periods due to the closing of
IMSI's engineering facilities in Ottawa, Canada and Russia.

OTHER EXPENSE, NET

Other expense, net, which consists of interest expense on short and long-term
borrowings, financing penalties, and net gains or losses on foreign currency
transactions, increased from $526,000 to $1,061,000 for the three month period
ended December 31, 1999 compared to the same period of the previous fiscal year.
For the six months ended December 31, 1999, other expense, net, increased from
$705,000 to $1,524,000 from the previous fiscal year. Other expense, net for the
quarter ending December 31, 1999 includes $166,000 in penalties owed to Bay Star
related to registration requirements in the share purchase agreements. See Note
13 to the Condensed Consolidated Financial Statements.

PROVISION FOR INCOME TAXES

IMSI did not record a tax benefit in the three or six month periods ending
December 31, 1999 for our domestic tax losses because of the uncertainty of
realization. Our effective tax rate was 33.4% for the three and six month
periods ending December 31, 1998. We adhere to Statement of Financial Accounting
Standards (SFAS) No. 109 "Accounting for Income Taxes," which requires an asset
and liability approach to financial accounting and reporting for income taxes.
Valuation allowances are established when necessary to reduce deferred tax
assets to the amount expected to be realized. A valuation allowance of
approximately $500,000 was recorded as of December 31, 1999.


                                       21


<PAGE>   22
LIQUIDITY AND CAPITAL RESOURCES

As of December 31, 1999, we had $2,256,000 in cash and cash equivalents, a
decline of $1,425,000 from our cash and cash equivalents balance of $3,681,000
at June 30, 1999. Working capital declined by $12,673,000 from a negative
$1,227,000 at June 30, 1999 to a negative $13,900,000 at December 31, 1999.

Despite our net loss of $11,082,000 for the six months ending December 31, 1999,
operating activities used net cash of only $539,000 during this period. The
lower amount is primarily due to the collection of trade receivables and income
tax refunds. To date, IMSI has received $3.4 million in tax refunds in fiscal
year 2000. We anticipate receiving approximately an additional $335,000 in
income tax refunds in fiscal year 2000.

Our investing activities during the six months ended December 31, 1999, provided
$1,254,000 in cash from the sale of a non-core product line, offset by purchases
of equipment and technology.

Our financing activities used net cash of $2,150,000 for the six month period
ended December 31, 1999. In addition to making capital lease obligation
payments, we repaid Union Bank's $750,000 term loan and paid down the bank's
non-revolving reducing loan to us (our former credit line) by $820,000.

The loans with Union Bank were due on September 30, 1999. A balance of
$4,600,000 on the non-revolving reducing loan remains unpaid. Under the terms of
the loan agreement, Union Bank can declare the loan to be immediately due and
payable and can commence immediate enforcement and collection actions.
Enforcement and collection actions by Union Bank could have a material adverse
effect on IMSI's ability to continue as a going concern.

We will require additional working capital to meet our ongoing operating
expenses, to execute our continued transition to the Internet, to develop new
products, and to conduct other activities. We believe that our existing cash and
cash equivalents will be insufficient to satisfy IMSI's working capital and
capital expenditure requirements over the next 12 months. The large accumulated
losses of IMSI and the negative shareholder's equity of $9,103,000 as of
December 31, 1999 will make it difficult for IMSI to obtain new debt or equity
financing. See Note 2 to the condensed consolidated financial statements
concerning realization of assets and basis of presentation.

To a large extent, IMSI planned to meet its working capital needs in the current
fiscal year through sale or license of the rights to its non-core products. IMSI
sold the rights to the Easy Language product for $1.7 million in August 1999.
However, to date we have been unable to close any additional product line sales.
IMSI has engaged in, and will continue to engage in, discussions with third
parties concerning the sale or license of remaining non-core product lines. The
sale or license of the rights to these products is consistent with our strategy
of focusing on our core products while transitioning to the Internet. This
strategy also includes reducing our costs through manufacturing and warehouse
outsourcing, facilities consolidation, and personnel reductions. No assurance
can be given that we will be successful in these efforts.

Under the guidance of CMA Business Credit Services, on February 18, 2000 IMSI
held a formally noticed general meeting of its creditors. At this meeting a
committee was elected to represent creditor interests. The committee agreed to
give IMSI a 120 day stand-still period to prepare and present a plan to the
creditors for paying off its debts. We are currently in the process of preparing
this plan.


                                       22


<PAGE>   23
Our forecast period of time through which our financial resources will be
adequate to support our working capital and capital expenditure requirements is
a forward-looking statement that involves risks and uncertainties, and actual
results could vary. The factors described in "Risk Factors", here and in our
Fiscal 1999 Form 10-K, will affect our future capital requirements and the
adequacy of our available funds. No assurance can be given that needed financing
will be available on terms attractive to us, or at all. Furthermore, any
additional equity financing, if available, may be dilutive to shareholders, and
debt financing, if available, may involve restrictive covenants. If IMSI fails
to raise capital when needed, then lack of capital will hamper our ability to
continue as a going concern.

IMSI had no material commitments for capital expenditures as of December 31,
1999.

IMSI's international revenues are generally denominated in the foreign
currencies of IMSI's subsidiaries. Consequently, a decrease in the value of a
relevant foreign currency in relation to the U.S. dollar can adversely affect
IMSI's net revenues. Further, a decrease in the value of a relevant foreign
currency in relation to the U.S. dollar occurring after sale and before receipt
of payment by IMSI would have an adverse effect on IMSI's results of operations
and cash flows. IMSI had a $38,000 and $30,000 foreign exchange loss, in the six
month periods ending December 31, 1999 and 1998, respectively.

OTHER FACTORS THAT MAY AFFECT FUTURE OPERATING RESULTS

For further discussion please refer to the subheading "Future Performance and
Additional Risk Factors" in the Fiscal 1999 Form 10-K.

OPERATING RESULTS REFLECT CONTINUED LOSSES IN THE SECOND QUARTER OF FISCAL 2000.
IMSI continues to experience, deteriorating operating results due to a variety
of factors. The following table shows IMSI's operating income (loss) and net
income (loss) for the periods presented (in thousands), as restated.


<TABLE>
<CAPTION>
                      OPERATING        NET INCOME
QUARTER ENDING      INCOME (LOSS)        (LOSS)
--------------      ------------      ------------
<S>                 <C>               <C>
Fiscal 1998
(Restated)
   September 30     $     (4,668)     $     (3,114)
   December 31             2,140             1,220
   March 31                1,894             1,000
   June 30                   720               524
                    ------------      ------------
                    $         86      $       (370)
                    ===========       ============
Fiscal 1999
   September 30     $     (1,483)     $     (1,106)
   December 31            (6,103)           (4,274)
   March 31               (6,319)          (10,739)
   June 30                (9,985)          (10,847)
                    ------------      ------------
                    $    (23,890)     $    (26,966)
                    ============      ============
Fiscal 2000
  September 30      $     (2,814)     $     (1,853)
  December 31       $     (5,069)     $     (7,376)
</TABLE>


We experienced growth during fiscal 1997 and earlier years. However, starting in
fiscal year 1998, our operating results began to steadily worsen. IMSI continues
to lose money in fiscal year


                                       23


<PAGE>   24
2000. The trend of continued losses raises the question of our ability to
continue as a going concern.

Factors that may cause fluctuations of, or a continuing decline in, operating
results in the future include the market factors and competitive factors
described at page 23 in our Fiscal 1999 Form 10-K, under "Future Performance and
Additional Risk Factors."

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

IMSI is exposed to the impact of interest rate and foreign currency
fluctuations. IMSI's objective in managing its exposure to interest rate changes
and foreign currency fluctuations is to limit the impact of interest rate
changes on earnings and cash flow and to lower its overall borrowing costs.
IMSI's major market risk exposure is changing interest rates in the United
States, which would change interest expense on the our non-revolving, reducing
loan.


Most of our international revenues are denominated in foreign currencies.
Consequently a decrease in the value of a relevant foreign currency in relation
to the U.S. dollar could adversely affect our net revenues. IMSI does not hedge
foreign currency risk.

PART II - OTHER INFORMATION

ITEM 1. Legal Proceedings

On April 23, 1998 IMSI began arbitration proceedings against Imageline, Inc.
("Imageline") before the American Arbitration Association in San Francisco,
California. IMSI requested that all matters within the scope of the agreements
between Imageline and IMSI be resolved by arbitration, including a dispute in
which Imageline sued Mindscape, Inc. for alleged copyright infringement, for
which IMSI may be required to indemnify Mindscape, in whole or in part. IMSI
further requested that the arbitration decide the rights and liabilities of the
parties, and the validity of the copyrights under which Imageline asserted its
claims against IMSI. IMSI also requested compensatory damages and attorney's
fees.

On August 12, 1999, Imageline filed a counterclaim in the arbitration, alleging
breach by IMSI of an agreement between the parties, including unauthorized
sublicensing, and instituting arbitration proceedings without notice and
opportunity to cure. Imageline requested liquidated damages, alleged to be more
than $200,000, compensatory damages of at least $500,000, punitive damages,
legal fees, interest and costs.

On January 14, 2000, Imageline received a $2.6 million arbitration award against
IMSI for intellectual property violations. IMSI is appealing the award in the
federal district court in Richmond, VA.

ITEM 2. Changes in Securities and Use of Proceeds

Not Applicable

ITEM 3. Defaults upon Senior Securities


                                       24


<PAGE>   25
We are in default of our non-revolving reducing loan to Union Bank of California
and our subordinated convertible note to BayStar Capital L.P. See Note 7 to the
condensed consolidated financial statements, at page 8 above.

ITEM 4. Submission of Matters to a Vote of Security Holders

Not Applicable

ITEM 5. Other Information

On January 31, 2000, IMSI was delisted form the Nadsaq Small Cap Market. See
Note 12 to the condensed consolidated financial statements, at page 10 above.

ITEM 6. Exhibits and Reports on Form 8-K

Exhibits

        27.1 Financial Data Schedule

No report on Form 8-K was filed during the quarter ended December 31, 1999.


                                       25


<PAGE>   26
                                   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 10, 2000              INTERNATIONAL MICROCOMPUTER SOFTWARE, INC.





                                By:   /S/  GEOFFREY KOBLICK
                                    -------------------------------------
                                    Geoffrey Koblick
                                    President and Chief Executive Officer
                                    (Principal Executive Officer)

                                By: /S/ JEFFREY MORGAN
                                    -------------------------------------
                                    Jeffrey Morgan
                                    Chief Financial Officer
                                    (Principal Accounting Officer)


                                       26