##### Table of Contents





UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549





FORM 10-Q





(Mark One)

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

For the quarterly period ended March 31, 2011

OR



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

For the transition period from  to

Commission File Number: 0-21541





BITSTREAM INC.

(Exact name of registrant as specified in its charter)







|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|Delaware                                                       |  | 04-2744890                          
|(State or other jurisdiction of
incorporation or organization) |  | (I.R.S. Employer Identification No.)

500 Nickerson Road, Marlborough,
Massachusetts 01752-4695

(Address of principal executive offices and zip code)

(617) 497-6222

(Registrants telephone number, including area code)





Indicate by
checkmark 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 (the Exchange Act) 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   ̈

Indicate by checkmark whether the registrant has submitted electronically and posted on its Web site, if any, every Interactive Data File
required to be submitted and posted pursuant to Rule 405 of Regulation S-T ( 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). (the Registrant is not
yet required to submit Interactive Data)    Yes   ̈    No   ̈

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller
reporting company. See definitions of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act.



|                        |  |   |  |                           |  |  
|----------------------- |  | - |  | ------------------------- |  | -
|Large accelerated filer |  |  ̈ |  | Accelerated filer         |  |  ̈
|                        |  |   | 
|Non-accelerated filer   |  |  ̈ |  | Smaller reporting company |  | x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange
Act).    Yes   ̈    No  x

On May 10, 2011, there were 10,359,356 shares of Class A Common Stock, par value $0.01 per share, issued and outstanding, and
no shares of Class B Common Stock, par value $0.01 per share, issued or outstanding.









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INDEX



|           |  |                                                                                                              |    |             |    | 
|---------- |  | ------------------------------------------------------------------------------------------------------------ | -- | ----------- | -- | 
|           |  |                                                                                                              |    | PAGENUMBERS |   
|           |  | PART I. FINANCIAL INFORMATION                                                                                |    |             |    | 
|           |  |                                                                                                             
|ITEM 1.    |  | FINANCIAL STATEMENTS                                                                                         |    |             |    | 
|           |  |                                                                                                             
|           |  | UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS AS OF MARCH 31, 2011 AND DECEMBER 31,
2010                   |    |             | 2  | 
|           |  |                                                                                                             
|           |  | UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 2011 AND 2010 |    |             | 3  | 
|           |  |                                                                                                             
|           |  | UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE THREE MONTHS ENDED MARCH 31, 2011 AND 2010 |    |             | 4  | 
|           |  |                                                                                                             
|           |  | NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS                                               |    |             | 5  | 
|           |  |                                                                                                             
|ITEM 2.    |  | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS                        |    |             | 19 | 
|           |  |                                                                                                             
|ITEM 3.    |  | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                                                   |    |             | 26 | 
|           |  |                                                                                                             
|ITEM 4.    |  | CONTROLS AND PROCEDURES                                                                                      |    |             | 27 | 
|           |  |                                                                                                             
|           |  | PART II. OTHER INFORMATION                                                                                   |    |             |    | 
|           |  |                                                                                                             
|ITEM 1.    |  | LEGAL PROCEEDINGS                                                                                            |    |             | 27 | 
|           |  |                                                                                                             
|ITEM 1A.   |  | RISK FACTORS                                                                                                 |    |             | 28 | 
|           |  |                                                                                                             
|ITEM 2.    |  | UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS                                                  |    |             | 28 | 
|           |  |                                                                                                             
|ITEM 3.    |  | DEFAULTS UPON SENIOR SECURITIES                                                                              |    |             | 28 | 
|           |  |                                                                                                             
|ITEM 4.    |  | (RESERVED)                                                                                                   |    |             | 28 | 
|           |  |                                                                                                             
|ITEM 5.    |  | OTHER INFORMATION                                                                                            |    |             | 28 | 
|           |  |                                                                                                             
|ITEM 6.    |  | EXHIBITS                                                                                                     |    |             | 29 | 
|           | 
|SIGNATURES |  |                                                                                                              | 29 |            



1



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##### Table of Contents

PART I  FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

BITSTREAM INC. AND SUBSIDIARIES

CONDENSED
CONSOLIDATED BALANCE SHEETS

(IN THOUSANDS, EXCEPT PER-SHARE AMOUNTS)

(Unaudited)



|                                                                                                                                                                        |  |               |         |   |                  |   |         |  
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------- | ------- | - | ---------------- | - | ------- | -
|                                                                                                                                                                        |  | March 31,2011 |         |   | December 31,2010 |  
|ASSETS                                                                                                                                                                  |  |               |         |   |                  |   |         |  
|Current assets:                                                                                                                                                         |  |               |         |   |                  |   |         |  
|Cash and cash equivalents                                                                                                                                               |  | $             | 3,293   |   |                  | $ | 3,057   |  
|Accounts receivable, net of allowance of $30 and $33 at March 31, 2011 and December 31, 2010,
respectively.                                                             |  |               | 1,535   |   |                  |   | 1,999   |  
|Prepaid expenses and other current assets                                                                                                                               |  |               | 801     |   |                  |   | 750     |  
|Investments                                                                                                                                                             |  |               | 114     |   |                  |   | 114     |  
|                                                                                                                                                                        |  |               |         |   |                  |   |         |  
|Total current assets                                                                                                                                                    |  |               | 5,743   |   |                  |   | 5,920   |  
|                                                                                                                                                                        |  |              
|Property and equipment, net                                                                                                                                             |  |               | 614     |   |                  |   | 606     |  
|Restricted cash                                                                                                                                                         |  |               | 198     |   |                  |   | 144     |  
|Other                                                                                                                                                                   |  |               | 46      |   |                  |   | 43      |  
|Goodwill                                                                                                                                                                |  |               | 3,526   |   |                  |   | 3,526   |  
|Intangible assets, net                                                                                                                                                  |  |               | 3,379   |   |                  |   | 3,479   |  
|Long-term investments                                                                                                                                                   |  |               | 8,049   |   |                  |   | 8,097   |  
|                                                                                                                                                                        |  |               |         |   |                  |   |         |  
|Total assets                                                                                                                                                            |  | $             | 21,555  |   |                  | $ | 21,815  |  
|                                                                                                                                                                        |  |               |         |   |                  |   |         |  
|LIABILITIES AND STOCKHOLDERS EQUITY                                                                                                                                    |  |               |         |   |                  |   |         |  
|Current liabilities:                                                                                                                                                    |  |               |         |   |                  |   |         |  
|Accounts payable                                                                                                                                                        |  | $             | 1,643   |   |                  | $ | 1,155   |  
|Accrued payroll and other compensation                                                                                                                                  |  |               | 761     |   |                  |   | 746     |  
|Other accrued expenses                                                                                                                                                  |  |               | 713     |   |                  |   | 667     |  
|Deferred revenue                                                                                                                                                        |  |               | 2,322   |   |                  |   | 2,413   |  
|                                                                                                                                                                        |  |               |         |   |                  |   |         |  
|Total current liabilities                                                                                                                                               |  |               | 5,439   |   |                  |   | 4,981   |  
|Long-term deferred revenue                                                                                                                                              |  |               | 225     |   |                  |   | 105     |  
|Long-term deferred rent                                                                                                                                                 |  |               | 525     |   |                  |   | 530     |  
|                                                                                                                                                                        |  |               |         |   |                  |   |         |  
|Total liabilities                                                                                                                                                       |  |               | 6,189   |   |                  |   | 5,616   |  
|                                                                                                                                                                        |  |               |         |   |                  |   |         |  
|Commitments and contingencies (Note 7)                                                                                                                                  |  |               |         |   |                  |   |         |  
|Stockholders equity:                                                                                                                                                   |  |               |         |   |                  |   |         |  
|                                                                                                                                                                        |  |              
|Preferred stock, $0.01 par value: 6,000 shares authorized; no shares issued or outstanding                                                                              |  |               |        |   |                  |   |        |  
|Common stock, $0.01 par value: Class A: 30,000 shares authorized; 10,359 and 10,349 shares issued and outstanding at
March 31, 2011 and December 31, 2010, respectively |  |               | 104     |   |                  |   | 103     |  
|Class B: 500 shares authorized, no shares issued or outstanding                                                                                                         |  |               |        |   |                  |   |        |  
|Additional paid-in capital                                                                                                                                              |  |               | 35,832  |   |                  |   | 35,612  |  
|Accumulated deficit                                                                                                                                                     |  |               | (20,744 | ) |                  |   | (19,710 | )
|Accumulated other comprehensive income                                                                                                                                  |  |               | 174     |   |                  |   | 194     |  
|                                                                                                                                                                        |  |               |         |   |                  |   |         |  
|Total stockholders equity                                                                                                                                              |  |               | 15,366  |   |                  |   | 16,199  |  
|                                                                                                                                                                        |  |               |         |   |                  |   |         |  
|Total liabilities and stockholders equity                                                                                                                              |  | $             | 21,555  |   |                  | $ | 21,815  |  
|                                                                                                                                                                        |  |               |         |   |                  |   |         |  

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



2



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BITSTREAM INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(IN THOUSANDS, EXCEPT PER-SHARE AMOUNTS)

(Unaudited)



|                                                      |  |                              |        |   |      |   |       |  
|----------------------------------------------------- |  | ---------------------------- | ------ | - | ---- | - | ----- | -
|                                                      |  | Three Months EndedMarch 
31, |       
|                                                      |  | 2011                         |        |   | 2010 |  
|Revenue:                                              |  |                              |        |   |      |   |       |  
|Software licenses                                     |  | $                            | 5,204  |   |      | $ | 4,017 |  
|Services                                              |  |                              | 1,609  |   |      |   | 1,191 |  
|                                                      |  |                              |        |   |      |   |       |  
|Total revenue                                         |  |                              | 6,813  |   |      |   | 5,208 |  
|                                                      |  |                              |        |   |      |   |       |  
|Cost of revenue:                                      |  |                              |        |   |      |   |       |  
|Software licenses                                     |  |                              | 2,756  |   |      |   | 2,211 |  
|Services                                              |  |                              | 566    |   |      |   | 462   |  
|                                                      |  |                              |        |   |      |   |       |  
|Total cost of revenue                                 |  |                              | 3,322  |   |      |   | 2,673 |  
|                                                      |  |                              |        |   |      |   |       |  
|Gross profit                                          |  |                              | 3,491  |   |      |   | 2,535 |  
|                                                      |  |                              |        |   |      |   |       |  
|Operating expenses:                                   |  |                              |        |   |      |   |       |  
|Marketing and selling                                 |  |                              | 1,055  |   |      |   | 803   |  
|Research and development                              |  |                              | 2,198  |   |      |   | 1,392 |  
|General and administrative                            |  |                              | 1,243  |   |      |   | 743   |  
|                                                      |  |                              |        |   |      |   |       |  
|Total operating expenses                              |  |                              | 4,496  |   |      |   | 2,938 |  
|                                                      |  |                              |        |   |      |   |       |  
|Operating loss                                        |  |                              | (1,005 | ) |      |   | (403  | )
|Interest and other income, net                        |  |                              | 24     |   |      |   | 13    |  
|                                                      |  |                              |        |   |      |   |       |  
|Loss before provision for income taxes                |  |                              | (981   | ) |      |   | (390  | )
|Provision for income taxes                            |  |                              | 53     |   |      |   | 8     |  
|                                                      |  |                              |        |   |      |   |       |  
|Net loss                                              |  | $                            | (1,034 | ) |      | $ | (398  | )
|                                                      |  |                              |        |   |      |   |       |  
|Basic and diluted net loss per share                  |  | $                            | (0.10  | ) |      | $ | (0.04 | )
|                                                      |  |                              |        |   |      |   |       |  
|Basic and diluted weighted average shares outstanding |  |                              | 10,151 |   |      |   | 9,953 |  
|                                                      |  |                              |        |   |      |   |       |  

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



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BITSTREAM INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(IN THOUSANDS)

(Unaudited)



|                                                                                    |  |                             |        |   |      |   |        |  
|----------------------------------------------------------------------------------- |  | --------------------------- | ------ | - | ---- | - | ------ | -
|                                                                                    |  | Three Months
EndedMarch 31, |       
|                                                                                    |  | 2011                        |        |   | 2010 |  
|CASH FLOWS FROM OPERATING ACTIVITIES                                                |  |                             |        |   |      |   |        |  
|Net loss                                                                            |  | $                           | (1,034 | ) |      | $ | (398   | )
|Adjustments to reconcile net loss to net cash provided by operating activities:     |  |                             |        |   |      |   |        |  
|Stock-based compensation                                                            |  |                             | 221    |   |      |   | 227    |  
|Depreciation and amortization                                                       |  |                             | 64     |   |      |   | 69     |  
|Amortization of intangible assets                                                   |  |                             | 104    |   |      |   | 7      |  
|Amortization of purchased premium on marketable securities                          |  |                             | 28     |   |      |   | 4      |  
|Changes in operating assets and liabilities, net of the effects of the acquisition: |  |                             |        |   |      |   |        |  
|Accounts receivable                                                                 |  |                             | 464    |   |      |   | 990    |  
|Prepaid expenses and other assets                                                   |  |                             | (54    | ) |      |   | (180   | )
|Accounts payable                                                                    |  |                             | 615    |   |      |   | 741    |  
|Accrued payroll and other compensation                                              |  |                             | 15     |   |      |   | 181    |  
|Other accrued expenses                                                              |  |                             | (81    | ) |      |   | (184   | )
|Deferred revenue (long and short-term)                                              |  |                             | 29     |   |      |   | 106    |  
|Deferred rent (long and short-term)                                                 |  |                             | (5     | ) |      |   | 1      |  
|                                                                                    |  |                             |        |   |      |   |        |  
|Net cash provided by operating activities                                           |  |                             | 366    |   |      |   | 1,564  |  
|                                                                                    |  |                             |        |   |      |   |        |  
|CASH FLOWS FROM INVESTING ACTIVITIES                                                |  |                             |        |   |      |   |        |  
|Purchases of property and equipment                                                 |  |                             | (72    | ) |      |   | (28    | )
|Additions to intangible assets                                                      |  |                             | (4     | ) |      |   | (7     | )
|Purchase of marketable securities                                                   |  |                             |       |   |      |   | (5,585 | )
|Increase in restricted cash                                                         |  |                             | (54    | ) |      |   |       |  
|                                                                                    |  |                             |        |   |      |   |        |  
|Net cash used in investing activities                                               |  |                             | (130   | ) |      |   | (5,620 | )
|                                                                                    |  |                             |        |   |      |   |        |  
|CASH FLOWS FROM FINANCING ACTIVITIES                                                |  |                             |        |   |      |   |        |  
|Proceeds from exercise of stock options                                             |  |                             |       |   |      |   | 95     |  
|                                                                                    |  |                             |        |   |      |   |        |  
|Net cash provided by financing activities                                           |  |                             |       |   |      |   | 95     |  
|                                                                                    |  |                             |        |   |      |   |        |  
|                                                                                    |  |                            
|Effect of foreign currency exchange rates on cash and cash equivalents              |  |                             |       |   |      |   | 2      |  
|                                                                                    |  |                             |        |   |      |   |        |  
|                                                                                    |  |                            
|Net Increase (Decrease) in Cash and Cash Equivalents                                |  |                             | 236    |   |      |   | (3,959 | )
|Cash and Cash Equivalents, beginning of period                                      |  |                             | 3,057  |   |      |   | 17,915 |  
|                                                                                    |  |                             |        |   |      |   |        |  
|Cash and Cash Equivalents, end of period                                            |  | $                           | 3,293  |   |      | $ | 13,956 |  
|                                                                                    |  |                             |        |   |      |   |        |  

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



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BITSTREAM INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

All references to Bitstream, we, us, our, or Company refer to Bitstream Inc. and its subsidiaries. Except as otherwise noted, all reported
dollar amounts are in thousands.



|(1) | Operations and Significant Accounting Policies
|--- | ----------------------------------------------

The Company is a software development company focused on bringing innovative and proprietary software products to a wide variety of markets. Our core software products include award-winning fonts and font
rendering technologies, mobile browsing and messaging technologies, variable data publishing and web-to-print technologies, and multi-channel communications technologies. The Company operates in one business segment and we conduct our operations
through Bitstream Inc. and two foreign subsidiaries; Bitstream India Pvt. Ltd. and Bitstream Israel LTD.

The Company is
subject to risks common to technology-based companies, including dependence on key personnel, rapid technological change, competition from alternative product offerings and larger companies, and challenges to the development and marketing of
commercial products and services. The Company has also experienced net losses in the current year, as well as prior years, and as of March 31, 2011 has an accumulated deficit of approximately $21 million. For a complete discussion of our
business risks, see the Risk Factors under Part I, Item 1A. beginning on page 18 of the Companys Annual Report on Form 10-K for the year ended December 31, 2010.

(a) Use of Estimates

The accompanying condensed consolidated financial
statements reflect the application of certain accounting policies as described in this note and elsewhere in the accompanying condensed consolidated financial statements and notes. The preparation of the accompanying condensed consolidated financial
statements requires the use of certain estimates by us in determining our assets, liabilities, revenues and expenses. Significant estimates in these financial statements include revenue recognition, the valuation acquired intangible assets and
goodwill, share-based compensation, income taxes and the valuation of deferred tax assets, and the allowance for doubtful accounts receivable. Actual results may differ from these estimates.

(b) Basis of Presentation

Our unaudited condensed consolidated financial
statements presented herein have been prepared pursuant to the rules of the Securities and Exchange Commission (the SEC) for quarterly reports on Form 10-Q and do not include all of the information and footnote disclosures required by
generally accepted accounting principles (GAAP). The balance sheet information as of December 31, 2010 has been derived from our audited consolidated financial statements but does not include all disclosures required by GAAP. These
statements should be read in conjunction with the consolidated financial statements and notes thereto for the year ended December 31, 2010 included in our Annual Report on Form 10-K, which was filed with the SEC on March 31, 2011. The
condensed consolidated balance sheet as of March 31, 2011, the condensed consolidated statements of operations for the three months ended March 31, 2011 and 2010, and the condensed consolidated statements of cash flows for the three months
ended March 31, 2011 and 2010, and the notes to each are unaudited, but in the opinion of management include all adjustments necessary for a fair presentation of the condensed consolidated financial position, results of operations, and cash
flows of the Company for these interim periods. The results of operations for the three months ended March 31, 2011 may not necessarily be indicative of the results to be expected for the year ending December 31, 2011.

Certain prior year amounts have been reclassified to conform with the current years presentation. The Company evaluated subsequent
events through May 13, 2011 to determine whether or not any such events required disclosure in this Form 10-Q. See Note 10 for our subsequent event disclosure.



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BITSTREAM INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)



(c) Property and Equipment, in thousands

Property and equipment are stated at cost, less accumulated depreciation and amortization. Property and equipment consists of the
following:



|                                                 |  |               |       |  |                  |   |       | 
|------------------------------------------------ |  | ------------- | ----- |  | ---------------- | - | ----- | 
|                                                 |  | March 31,2011 |       |  | December 31,2010 |  
|Equipment and computer software                  |  | $             | 2,061 |  |                  | $ | 2,027 | 
|Purchased software                               |  |               | 442   |  |                  |   | 439   | 
|Furniture and fixtures                           |  |               | 624   |  |                  |   | 624   | 
|Leasehold improvements                           |  |               | 114   |  |                  |   | 100   | 
|                                                 |  |               |       |  |                  |   |       | 
|                                                 |  |               | 3,241 |  |                  |   | 3,190 | 
|Less  Accumulated depreciation and amortization |  |               | 2,627 |  |                  |   | 2,584 | 
|                                                 |  |               |       |  |                  |   |       | 
|Property and equipment, net                      |  | $             | 614   |  |                  | $ | 606   | 
|                                                 |  |               |       |  |                  |   |       | 

Depreciation expense for the three months ended March 31, 2011 and 2010 was $64 and $69, respectively.

During the three months ended March 31, 2011, we disposed of $21 of fully depreciated property and equipment which was
no longer in service.

(d) Off-Balance Sheet Risk and Concentration of Credit Risk, dollar amounts in thousands

Financial instruments that potentially expose the Company to concentrations of credit risk consist primarily of cash and cash equivalents,
investments in marketable securities, and trade accounts receivable. The Company places a majority of its cash and cash equivalents in one highly-rated financial institution and holds its marketable securities in a custodial account at another
highly-rated financial institution. The Company evaluated its accounts receivable balance at March 31, 2011 and determined that its allowance for bad debts of $30 was adequate. Due to these factors, no additional credit risk beyond amounts
provided for collection losses is believed by us to be inherent in our accounts receivable. At March 31, 2011, one customer accounted for 17% of our accounts receivable. At December 31, 2010, two customers accounted for 23% and 16% of our
accounts receivable. We do not have any off-balance sheet risks as of March 31, 2011 or December 31, 2010. For the three months ended March 31, 2011 and 2010, no single customer accounted for 10% or more of our revenue.



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BITSTREAM INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)



(e) Comprehensive Loss, in thousands

Comprehensive loss consists of net loss and adjustments to stockholders equity for historical foreign currency translation
adjustments and unrealized losses from investments in marketable securities classified as available-for-sale. For the purposes of comprehensive loss disclosures, the Company does not record tax provisions or benefits for the net changes in the
foreign currency translation adjustment, as it intends to permanently reinvest undistributed earnings in its foreign subsidiaries in accordance with the applicable accounting guidance. For purposes of comprehensive loss disclosures, the Company also
does not record tax provisions or benefits for unrealized gains or losses on investments in marketable securities as it has recorded a full valuation allowance against its deferred tax asset and is not currently recording a tax liability.

The components of comprehensive loss are as follows:



|                                                             |  |                             |        |   |      |   |      |  
|------------------------------------------------------------ |  | --------------------------- | ------ | - | ---- | - | ---- | -
|                                                             |  | Three Months EndedMarch 31, |       
|                                                             |  | 2011                        |        |   | 2010 |  
|Net loss                                                     |  | $                           | (1,034 | ) |      | $ | (398 | )
|Unrealized loss on investments in marketable securities, net |  |                             | (20    | ) |      |   | (25  | )
|Foreign currency adjustment, net of tax of $0                |  |                             |       |   |      |   | 2    |  
|                                                             |  |                             |        |   |      |   |      |  
|Total comprehensive loss                                     |  | $                           | (1,054 | ) |      | $ | (421 | )
|                                                             |  |                             |        |   |      |   |      |  

Accumulated other comprehensive income consisted of the following:



|                                                             |  |               |     |  |                  |   |     | 
|------------------------------------------------------------ |  | ------------- | --- |  | ---------------- | - | --- | 
|                                                             |  | March 31,2011 |     |  | December 31,2010 |  
|Unrealized gain on investments in marketable securities, net |  | $             | 174 |  |                  | $ | 194 | 
|                                                             |  |               |     |  |                  |   |     | 

(f) Recently Issued Accounting Standards

The Company reviews and evaluates recent pronouncements that have had or may have a significant effect on its financial statements. The Company has not included a discussion of recent pronouncements below
as none are anticipated to have an impact on or are unrelated to its financial condition, results of operations, or disclosures.



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BITSTREAM INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)



(g) Fair Value Hierarchy, in thousands

The accounting standards codification for fair value measurements specifies a hierarchy for disclosure of fair value measurement. The classification of assets and liabilities within the hierarchy is based
on whether the inputs to the valuation methodology used for measurement are observable or unobservable. Observable inputs reflect market-derived or market-based information obtained from independent sources, while unobservable inputs reflect our
estimates about market data. The three levels are defined as follows:



| | Level 1 | Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities for the instrument or security to be valued.
| | ------- | ------------------------------------------------------------------------------------------------------------------------------------------------



| | Level 2 | Level 2 inputs are inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly through corroboration with observable
market data for substantially the full term of the asset or liability.
| | ------- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | Level 3 | Level 3 inputs are derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable and are significant to the
fair value of the assets or liabilities.
| | ------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

This hierarchy requires the use of observable market data when
available. We maintain policies and procedures to value instruments using the best and most relevant data available. Further, we used internal sources and considered external sources to assist us in valuing certain instruments.

Assets and liabilities of the Company measured at fair value on a recurring basis are summarized as follows as of March 31, 2011:



|                                 |  |         |       |  |                                                            |   |       |                                           |  |   |                                        |  |  |   |   | 
|-------------------------------- |  | ------- | ----- |  | ---------------------------------------------------------- | - | ----- | ----------------------------------------- |  | - | -------------------------------------- |  |  | - | - | 
|                                 |  |         |       |  | Fair Value Measurements at Reporting Date Using            |  
|Description                      |  | Balance |       |  | Quoted Pricesin
ActiveMarkets
forIdenticalAssets(Level 
1) |   |       | SignificantOtherObservableInputs(Level 2) |  |   | SignificantUnobservableInputs(Level 3) | 
|Assets- March 31, 2011           |  |         |       |  |                                                            |   |       |                                           |  |   |                                        |  |  |   |   | 
|Money market funds               |  | $       | 301   |  |                                                            | $ | 301   |                                           |  | $ |                                       |  |  | $ |  | 
|Certificates of deposit          |  |         | 250   |  |                                                            |   | 250   |                                           |  |   |                                       |  |  |   |  | 
|Government bonds                 |  |         | 1,200 |  |                                                            |   | 1,200 |                                           |  |   |                                       |  |  |   |  | 
|Corporate bonds                  |  |         | 6,849 |  |                                                            |   | 6,849 |                                           |  |   |                                       |  |  |   |  | 
|                                 |  |         |       |  |                                                            |   |       |                                           |  |   |                                        |  |  |   |   | 
|Total assets  March 31, 2011    |  | $       | 8,600 |  |                                                            | $ | 8,600 |                                           |  | $ |                                       |  |  | $ |  | 
|                                 |  |         |       |  |                                                            |   |       |                                           |  |   |                                        |  |  |   |   | 
|                                 |  |         |       | 
|Assets- December 31, 2010        |  |         |       |  |                                                            |   |       |                                           |  |   |                                        |  |  |   |   | 
|Money market funds               |  | $       | 169   |  |                                                            | $ | 169   |                                           |  | $ |                                       |  |  | $ |  | 
|Certificates of deposit          |  |         | 250   |  |                                                            |   | 250   |                                           |  |   |                                       |  |  |   |  | 
|Government bonds                 |  |         | 1,201 |  |                                                            |   | 1,201 |                                           |  |   |                                       |  |  |   |  | 
|Corporate bonds                  |  |         | 6,896 |  |                                                            |   | 6,896 |                                           |  |   |                                       |  |  |   |  | 
|                                 |  |         |       |  |                                                            |   |       |                                           |  |   |                                        |  |  |   |   | 
|Total assets  December 31, 2010 |  | $       | 8,516 |  |                                                            | $ | 8,516 |                                           |  | $ |                                       |  |  | $ |  | 
|                                 |  |         |       |  |                                                            |   |       |                                           |  |   |                                        |  |  |   |   | 

See Note 2 for further disclosure regarding our cash, cash equivalents, and marketable securities.



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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)



(h) Foreign Currency Remeasurement and Transactions, in thousands

The functional currency for the Companys foreign subsidiaries is the U.S. Dollar. For financial reporting purposes, assets and
liabilities of subsidiaries outside the United States of America denominated in other currencies are remeasured into U.S. dollars using period-end and historical exchange rates. Revenue and expense accounts are remeasured at the monthly average
rates in effect during the period. The effects of the remeasurement of the balances of our Israel and India subsidiaries are included as gains (losses) and reported as Interest and other income, net in the condensed and consolidated statements of
operations.

Transaction gains (losses) for the three months ended March 31, 2011 and 2010 were $(36) and $2,
respectively. Transaction gains (losses) were recorded as Interest and other income, net in the condensed consolidated statements of operations.



|(2) | Cash, Cash Equivalents and Investments in Marketable Securities, in thousands
|--- | -----------------------------------------------------------------------------

Cash equivalents are short-term, highly liquid investments with original maturity dates of three months or less at the date of
acquisition. Cash equivalents are carried at cost plus accrued interest, which approximates fair value. The Companys investments in marketable securities, corporate and government bonds, are classified as available-for-sale and are recorded at
fair value with any unrealized gain or loss recorded as an element of stockholders equity. Purchased interest is included in interest receivable and reported as other current assets in our condensed consolidated balance sheet. The amortized
cost of debt securities in this category is adjusted for amortization of premiums and accretion of discounts to maturity. Such amortization and accretion is included in interest and other income, net of expense. The cost of securities sold is based
on the specific identification method. Interest and dividends on securities classified as available-for-sale are included in interest and other income, net of expense. The fair value of investments in marketable securities is determined based on
quoted market prices at the reporting date for those instruments.

As of March 31, 2011, cash and cash equivalents
included bank deposits and money market instruments. As of March 31, 2011 and December 31, 2010 cash equivalents were $301 and $169, respectively.



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BITSTREAM INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)



As of March 31, 2011 and December 31, 2010, aggregate investments in
marketable securities consisted of:



|                   |  |               |       |  |                      |   |     |                       |  |   |                 |   |  |   |       | 
|------------------ |  | ------------- | ----- |  | -------------------- | - | --- | --------------------- |  | - | --------------- | - |  | - | ----- | 
|                   |  | AmortizedCost |       |  | GrossUnrealizedGains |   |     | GrossUnrealizedLosses |  |   | FairMarketValue |  
|March 31, 2011:    |  |               |       |  |                      |   |     |                       |  |   |                 |   |  |   |       | 
|Government bonds   |  | $             | 1,175 |  |                      | $ | 28  |                       |  | $ | (3              | ) |  | $ | 1,200 | 
|Corporate bonds    |  |               | 6,700 |  |                      |   | 154 |                       |  |   | (5              | ) |  |   | 6,849 | 
|                   |  |               |       |  |                      |   |     |                       |  |   |                 |   |  |   |       | 
|Total              |  | $             | 7,875 |  |                      | $ | 182 |                       |  | $ | (8              | ) |  | $ | 8,049 | 
|                   |  |               |       |  |                      |   |     |                       |  |   |                 |   |  |   |       | 
|                   |  |               |       | 
|December 31, 2010: |  |               |       |  |                      |   |     |                       |  |   |                 |   |  |   |       | 
|Government bonds   |  | $             | 1,177 |  |                      | $ | 26  |                       |  | $ | (2              | ) |  | $ | 1,201 | 
|Corporate bonds    |  |               | 6,731 |  |                      |   | 169 |                       |  |   | (4              | ) |  |   | 6,896 | 
|                   |  |               |       |  |                      |   |     |                       |  |   |                 |   |  |   |       | 
|Total              |  | $             | 7,908 |  |                      | $ | 195 |                       |  | $ | (6              | ) |  | $ | 8,097 | 
|                   |  |               |       |  |                      |   |     |                       |  |   |                 |   |  |   |       | 



|(3) | Acquisition, dollar amounts in thousands
|--- | ----------------------------------------

On June 3, 2010, the Company completed the acquisition of certain of the assets of Press-Sense Ltd. (Press-Sense) pursuant to terms of a Purchase and Sale Agreement dated May 31,
2010 by and among the Company, Bitstream Israel Ltd., a wholly-owned subsidiary of the Company organized under the Laws of the State of Israel and the court appointed Special Manager of Press-Sense Ltd., an Israeli company in temporary liquidation
under the supervision of the District Court of Haifa. The purchase price of $6,528, including $28 of VAT, was paid in cash. Assets purchased include all Press-Sense software and know-how and related intellectual property rights (both source code and
object code), some fixed and tangible assets, and all trademarks, transferable licenses and customer data. No liabilities were acquired in the transaction. The results of operations of the Press-Sense assets have been included in the condensed
consolidated financial statements since June 3, 2010. The acquisition was accounted for using the purchase method of accounting in accordance with appropriate standards.

Goodwill was recognized for the excess purchase price over the fair value of the assets acquired. Goodwill is primarily attributable to the expected growth from synergies related to the integration of
Press-Sense assets acquired with the Companys Pageflex automated marketing communication and print production software. Goodwill from the acquisition of Press-Sense Ltd. assets will be included within the Companys one reporting unit and
will be included in the Companys enterprise-level annual review for impairment. Goodwill is deductible for tax purposes.



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BITSTREAM INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)



The following table reflects the fair value of the acquired identifiable intangible
assets and related estimates of useful lives:



|                             |  |            |       |  |                    |  |      | 
|---------------------------- |  | ---------- | ----- |  | ------------------ |  | ---- | 
|                             |  | Fair Value |       |  | Useful life(Years) | 
|                             |  |           
|Developed product technology |  | $          | 1,410 |  |                    |  | 7.5  | 
|Customer relationships       |  |            | 2,200 |  |                    |  | 11.5 | 
|                             |  |            |       |  |                    |  |      | 
|Total                        |  | $          | 3,610 |  |                    |  |      | 
|                             |  |            |       |  |                    |  |      | 

The following table presents the pro forma results of the historical condensed consolidated
statements of operations of the Company and Press-Sense Ltd. for the three months ended March 31, 2011 and 2010, giving effect to the merger as if it occurred on January 1, 2010:



|                              |  |                             |        |   |      |   |        |  
|----------------------------- |  | --------------------------- | ------ | - | ---- | - | ------ | -
|                              |  | Three Months
EndedMarch 31, |       
|                              |  | 2011                        |        |   | 2010 |  
|                              |  |                            
|Pro forma revenue             |  | $                           | 6,813  |   |      | $ | 7,334  |  
|Pro forma net loss            |  | $                           | (1,034 | ) |      | $ | (1,830 | )
|                              |  |                            
|Pro forma loss per share:     |  |                             |        |   |      |   |        |  
|Basic and Diluted             |  | $                           | (0.10  | ) |      | $ | (0.18  | )
|Pro forma shares outstanding: |  |                             |        |   |      |   |        |  
|Basic and Diluted             |  |                             | 10,151 |   |      |   | 9,953  |  

The pro forma net
loss and loss per share for each period presented primarily includes adjustments for amortization of intangibles, depreciation, interest income, and income taxes. This pro forma information does not purport to indicate the results that would have
actually been obtained had the acquisition been completed on the assumed date, or which may be realized in the future.



|(4) | Goodwill & Other Intangible Assets, in thousands
|--- | ------------------------------------------------

Goodwill

Goodwill resulted from the acquisitions of Type Solutions,
Inc. and Alaras Corporation, both acquired in 1998, as well as the purchase of certain assets from Press-Sense Ltd. on June 3, 2010. Goodwill was $3,526 at March 31, 2011 and December 31, 2010.

The Company follows the accounting and reporting requirements for goodwill and other intangible assets as required by authoritative
standards. Under these standards, goodwill is not amortized, but is required to be reviewed annually for impairment, or more frequently if impairment indicators arise. The Company has determined that it does not have separate reporting units and
thus goodwill is tested for impairment based upon an enterprise wide valuation. The Company has not recorded any impairment charges related to goodwill since the time of the change to the authoritative guidance which called for goodwill to be
reviewed for impairment based on the results of impairment tests rather than amortized.



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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)



Other Intangible Assets

The carrying amounts of other intangible assets were $3,379 and $3,479 as of March 31, 2011 and December 31, 2010, respectively.
Intangible assets acquired in a business combination are recorded under the purchase method of accounting at their estimated fair values at the date of acquisition. The Company amortizes other intangible assets over their estimated useful lives on a
straight-line basis. Marketing-related intangibles have useful lives of four to eight years. Technology-based intangible assets have useful lives of five to twelve years. The weighted average useful life of other intangible assets is 9 years. The
components of the Companys amortized intangible assets are as follows:



|                  |  |                      |       |  |                         |   |      |                    |  |   |       | 
|----------------- |  | -------------------- | ----- |  | ----------------------- | - | ---- | ------------------ |  | - | ----- | 
|                  |  | March 31, 2011       |      
|                  |  | Gross CarryingAmount |       |  | AccumulatedAmortization |   |      | NetCarrying Amount | 
|                  |  |                      |      
|Marketing-related |  | $                    | 2,296 |  |                         | $ | (244 | )                  |  | $ | 2,052 | 
|Technology-based  |  |                      | 2,069 |  |                         |   | (742 | )                  |  |   | 1,327 | 
|                  |  |                      |       |  |                         |   |      |                    |  |   |       | 
|Total             |  | $                    | 4,365 |  |                         | $ | (986 | )                  |  | $ | 3,379 | 
|                  |  |                      |       |  |                         |   |      |                    |  |   |       | 
|                  | 
|                  |  | December 31, 2010    |      
|                  |  | Gross CarryingAmount |       |  | AccumulatedAmortization |   |      | NetCarrying Amount | 
|                  |  |                      |      
|Marketing-related |  | $                    | 2,292 |  |                         | $ | (195 | )                  |  | $ | 2,097 | 
|Technology-based  |  |                      | 2,069 |  |                         |   | (687 | )                  |  |   | 1,382 | 
|                  |  |                      |       |  |                         |   |      |                    |  |   |       | 
|Total             |  | $                    | 4,361 |  |                         | $ | (882 | )                  |  | $ | 3,479 | 
|                  |  |                      |       |  |                         |   |      |                    |  |   |       | 

Amortization expense for marketing-related intangible assets included in marketing and selling expense for
the three months ended March 31, 2011 and 2010 was $48 and $0, respectively. Amortization expense for technology-related intangible assets included as cost of revenue for the three months ended March 31, 2011 and 2010 was $47 and $0,
respectively. Amortization expense for intangible assets included as general and administrative expense for the three months ended March 31, 2011 and 2010 was $9 and $7, respectively. Estimated amortization for succeeding years is as follows:



|                                |  |   |       | 
|------------------------------- |  | - | ----- | 
|Estimated Amortization Expense: |  |   |      
|                                | 
|2011, remaining                 |  | $ | 404   | 
|2012                            |  |   | 405   | 
|2013                            |  |   | 397   | 
|2014                            |  |   | 392   | 
|2015                            |  |   | 384   | 
|Thereafter                      |  |   | 1,397 | 
|                                |  |   |       | 
|Total                           |  | $ | 3,379 | 
|                                |  |   |       | 



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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)



|(5) | Income Per Share, in thousands
|--- | ------------------------------

Basic earnings or loss per share is determined by dividing net income or loss by the weighted average number of shares of common stock outstanding during the period, excluding unvested restricted shares
of 204 and 145 for the three month periods ended March 31, 2011 and 2010. Diluted earnings per share reflect the effect of the conversion of potentially dilutive securities, such as stock options, warrants, and restricted shares, based on the
treasury stock method. In computing diluted earnings per share, common stock equivalents are not considered in periods in which a net loss is reported, as the inclusion of the common stock equivalents would be antidilutive. As a result there is no
difference between the Companys basic and diluted loss per share for the three month periods ended March 31, 2011 or 2010. The Companys basic and diluted weighted average shares outstanding are as follows:



|                                                            |  |                              |        |  |      |  |       | 
|----------------------------------------------------------- |  | ---------------------------- | ------ |  | ---- |  | ----- | 
|                                                            |  | Three Months EndedMarch 
31, |       
|                                                            |  | 2011                         |        |  | 2010 | 
|Basic and fully diluted weighted average shares outstanding |  |                              | 10,151 |  |      |  | 9,953 | 
|                                                            |  |                              |        |  |      |  |       | 

If the Company had reported a profit for the three month periods ended March 31, 2011 and 2010, the
potential common shares would have increased the weighted average shares outstanding by 413 and 677, respectively. In addition, unvested restricted stock and options to purchase 523 and 389 shares of common stock for the three month periods ended
March 31, 2011 and 2010, respectively, were not included in the calculation of diluted net income per share as their effect would be antidilutive.



|(6) | Equity-Based Compensation Expense, in thousands
|--- | -----------------------------------------------

The Company accounts for stock-based compensation in accordance with authoritative guidance, under which stock-based compensation cost is measured at the grant date based on the fair value of the award
and is recognized as expense on a straight-line basis over the requisite service period, which is the vesting period, net of estimated forfeitures.

The Company currently estimates the fair value of stock options using the Black-Scholes valuation model. Key input assumptions used to estimate the fair value of stock options include the exercise price
of the award, the expected option term, the expected volatility of its stock over the options expected term, the risk-free interest rate over the options expected term, and its expected annual dividend yield. The Company does not
anticipate paying any cash dividends in the foreseeable future and therefore uses an expected dividend yield of zero in the option valuation model. The Company estimates forfeitures at the time of grant and revises those estimates in subsequent
periods if actual forfeitures differ from those estimates. The Company uses historical data to estimate pre-vesting option forfeitures and records stock-based compensation expense only for those awards that are expected to vest. The Company believes
that the valuation technique and the approach utilized to develop the underlying assumptions are appropriate in calculating the fair values of our stock options. Estimates of fair value are not intended to predict actual future events or the value
ultimately realized by persons who receive equity awards. These amounts, and the amounts applicable to future quarters, are also subject to future quarterly adjustments based upon a variety of factors, which include but are not limited to, the
issuance of new share-based awards.

The risk-free interest rate utilized is based upon published U.S. Treasury yield curves
at the date of the grant for the expected option term. Expected stock price volatility is based upon the historical volatility of our common stock price over the expected term of the option. We use historical exercise, forfeiture, and cancellation
information to determine expected term and forfeiture rates.



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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)



No stock options were granted during the three months ended March 31, 2011 and
2010. We granted restricted stock awards of 10.5 and 25 during the three months ended March 31, 2011 and 2010, respectively, which were valued at the fair market value at the grant date.

All options granted have a contractual ten-year term. All options granted prior to January 1, 2006 vested in equal installments on
the first, second, and third year anniversaries over a three year period of continuous employee service. All options granted subsequent to January 1, 2006 vest in equal installments on the first, second, third, and fourth year anniversaries
over a four year period of continuous employee service. All restricted stock awards made prior to January 1, 2010 vest in equal installments on the first, second, third, fourth and fifth year anniversaries over a five year period of continuous
employee service. All restricted stock awards made subsequent to January 1, 2010 vest in twenty equal installments on the quarterly anniversaries from the date of grant over a five-year period.

The Companys results for the three months ended March 31, 2011 and 2010 include $221 and $227, respectively, of share-based
compensation within the applicable expense classification where it reports the share-based award holders compensation expense. The following table presents share-based compensation expense included in the Companys condensed consolidated
statements of operations:



|                                  |  |                              |     |  |      |   |     | 
|--------------------------------- |  | ---------------------------- | --- |  | ---- | - | --- | 
|                                  |  | Three Months EndedMarch 
31, |    
|                                  |  | 2011                         |     |  | 2010 |  
|                                  |  |                             
|Cost of revenue-software licenses |  | $                            |    |  |      | $ | 1   | 
|Cost of revenue-services          |  |                              | 6   |  |      |   | 19  | 
|Marketing and selling             |  |                              | 10  |  |      |   | 13  | 
|Research and development          |  |                              | 81  |  |      |   | 92  | 
|General and administrative        |  |                              | 124 |  |      |   | 102 | 
|                                  |  |                              |     |  |      |   |     | 
|                                  |  | $                            | 221 |  |      | $ | 227 | 
|                                  |  |                              |     |  |      |   |     | 



|(7) | Commitments and Contingencies, dollar amounts in thousands
|--- | ----------------------------------------------------------

Lease commitments

The Company conducts its operations in leased
facilities. In June 2009, the Company entered into a ten-year lease agreement for 27 thousand square feet of office space with the right of first refusal on an additional 4 thousand square feet in a building located in Marlborough,
Massachusetts. This lease agreement commenced September 1, 2009 and obligates us to make minimum lease payments plus our pro-rata share of future real estate tax increases and certain operating expense increases above the base year. The lease
payments began after three (3) free months of rent and increase by approximately 2% per annum. The remaining commitment under the lease at March 31, 2011 is approximately $4,728. The Company records rent expense on a straight-line
basis, taking into consideration the free rent period, the tenant allowance received at the outset of the lease, and annual incremental increases to the lease payments. The Companys current lease agreement also requires it to maintain a Letter
of Credit in the amount of $136 through October 31, 2019, which the Company collateralized with a certificate of deposit classified as a long-term restricted asset on the condensed consolidated balance sheets.



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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)



In July 2008, Bitstream India Pvt. Ltd., our wholly-owned subsidiary, entered into a
33-month lease agreement in Nodia, India. This lease agreement commenced May 1, 2008 and obligates the Company to make monthly payments including service taxes. In January 2011, Bitstream India Pvt. Ltd., exercised the option to renew the lease
agreement for an additional twenty-seven (27) months. The remaining commitment at March 31, 2011 is approximately $136 U.S. dollars.

In January 2011, Bitstream Israel Ltd., our wholly-owned subsidiary, entered into a thirty-six (36) month lease agreement in Caesarea, Israel. This lease agreement commences April 15, 2011 and
obligates us to make semi-annual payments including service taxes. The remaining commitment at March 31, 2011 is approximately $320 U.S. dollars. This lease agreement also required us to obtain a bank guarantee in the amount of approximately
$54 U.S. dollars to be in place through May 14, 2014. The bank guarantee is classified as restricted cash on our condensed consolidated balance sheets.

Royalties

The Company has certain royalty commitments associated with the
shipment and licensing of products. Royalty expense is based on a dollar amount per unit shipped or a percentage of the underlying revenue. Royalty expense is recorded under our cost of software license revenue on the condensed consolidated
statement of operations.

Guarantees

The Company enters into standard indemnification agreements in the ordinary course of business. Pursuant to these agreements, the Company indemnifies, holds harmless, and agrees to reimburse the
indemnified party for losses suffered or incurred by the indemnified party, generally business partners or customers, in connection with any U.S. patent, copyright or other intellectual property infringement claim by any third party with respect to
the Companys products. The term of these indemnification agreements is generally perpetual after execution of the agreement. The maximum potential amount of future payments we could be required to make under these indemnification agreements is
unlimited. The Company has never incurred costs to defend lawsuits or settle claims related to these indemnification agreements. As a result, we believe the estimated fair value of these agreements is minimal.

Legal Actions

From time
to time, the Company is subject to legal proceedings and claims in the ordinary course of business, including claims of infringement of third-party patents and other intellectual property rights, and claims involving commercial, employment and other
matters. In accordance with generally accepted accounting principles, the Company makes a provision for a liability when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. This provision is
reviewed at least quarterly. As of March 31, 2011, there are no material pending legal proceedings to which we are a party, and no liability was recorded. Litigation is inherently unpredictable and it is possible that the Companys
financial position, cash flows, or results of operations could be materially affected in any particular period by the resolution of any such contingencies or the costs involved in seeking the resolution of any such contingencies.



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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)



|(8) | Income Taxes, in thousands
|--- | --------------------------

The Company accounts for income taxes under the liability method in accordance with authoritative guidance, under which a deferred tax asset or liability is determined based on the difference between the
financial statement and the tax basis of assets and liabilities, as measured by enacted tax rates in effect when these differences are expected to reverse.

The following is a summary of the components of the provision for income taxes:



|         |  |                              |    |  |      |   |   | 
|-------- |  | ---------------------------- | -- |  | ---- | - | - | 
|         |  | Three Months EndedMarch 
31, |   
|         |  | 2011                         |    |  | 2010 |  
|Current: |  |                              |    |  |      |   |   | 
|Federal  |  | $                            | 18 |  |      | $ |  | 
|State    |  |                              |   |  |      |   |  | 
|Foreign  |  |                              | 35 |  |      |   | 8 | 
|         |  |                              |    |  |      |   |   | 
|Total    |  | $                            | 53 |  |      | $ | 8 | 
|         |  |                              |    |  |      |   |   | 

Foreign taxes include foreign withholding taxes from OEM license royalties from customers in countries who
are a party to tax conventions with the United States including Korea, Israel and Poland, as well as foreign taxes paid by Bitstream India Pvt. Ltd., our subsidiary in India and by Bitstream Israel Ltd. our subsidiary in Israel. Federal income tax
is related to the deferred tax liability from the amortization of Goodwill for tax purposes.

At December 31, 2010, the
Company had U.S. federal and state NOL carryforwards of $14,716 and $3,567, respectively, of which the benefit of approximately $9,030 and $973, respectively, when realized, will be recorded as a credit to additional paid-in capital. The
Companys NOL carryforwards begin to expire in 2020 for federal purposes and in 2011 for state purposes. The Company also had U.S. federal and state research and development credit (R&D Credit) carryforwards of $1,088 and $409,
respectively. These R&D credit carryforwards begin to expire in 2011 for federal purposes and 2016 for state purposes. As of December 31, 2010, we have foreign tax credit carryforwards of $726. These foreign tax credit carryforwards begin
to expire in 2012.

The Company continued to provide a full valuation allowance for its net deferred tax assets at
March 31, 2011, as it believes it is more likely than not that the future tax benefits from accumulated net operating losses and deferred taxes will not be realized. The Company continues to assess the need for the valuation allowance at each
balance sheet date based on all available evidence. However, it is possible that the more likely than not criterion could be met in future periods, which could result in the reversal of a significant portion or all of the valuation
allowance, which, at that time, would be recorded as a tax benefit in the condensed consolidated statement of operations.



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BITSTREAM INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)



In June 2006, the FASB issued authoritative guidance clarifying the criteria that an
individual tax position must satisfy for some or all of the benefits of that position to be recognized in a companys financial statements. The Company adopted this guidance on January 1, 2007, the implementation of which did not have a
material impact on the Companys consolidated financial statements, results of operations or cash flows. At the adoption date of January 1, 2007, and also at December 31, 2010 and March 31, 2011, the Company had no unrecognized
tax benefits.

The Company recognizes interest and penalties related to uncertain tax positions in income tax expense. As of
March 31, 2011, the Company had no accrued interest or penalties related to uncertain tax positions. The Companys 2006 through 2010 tax years remain open to examination by the material taxing jurisdictions to which it is subject. The
Company has determined that it is more likely than not that the deferred tax assets will not be realized, therefore, a valuation allowance has reduced the deferred tax assets to zero.



|(9) | Geographical Reporting, in thousands
|--- | ------------------------------------

The Company reports revenue and income under one reportable segment. Company management assesses operating results on an aggregate basis to make decisions about the allocation of resources. Revenue by
geography is based on the billing address of the customer. The following tables set forth revenue and long-lived assets by geographic area:



|                                                       |  |                              |       |  |      |   |       | 
|------------------------------------------------------ |  | ---------------------------- | ----- |  | ---- | - | ----- | 
|                                                       |  | Three Months EndedMarch 
31, |      
|                                                       |  | 2011                         |       |  | 2010 |  
|*Revenue:                                              |  |                              |       |  |      |   |       | 
|United States                                          |  | $                            | 6,003 |  |      | $ | 4,569 | 
|United Kingdom (UK)                                    |  |                              | 223   |  |      |   | 235   | 
|Other (Countries less than 5% individually, by Region) |  |                              |       |  |      |   |       | 
|Europe, excluding UK                                   |  |                              | 353   |  |      |   | 156   | 
|Asia                                                   |  |                              | 103   |  |      |   | 103   | 
|Other, including Canada                                |  |                              | 131   |  |      |   | 145   | 
|                                                       |  |                              |       |  |      |   |       | 
|Total revenue                                          |  | $                            | 6,813 |  |      | $ | 5,208 | 
|                                                       |  |                              |       |  |      |   |       | 



|* | If revenue attributable to a specific country is greater than 5% in any period, revenue attributable to that country is disclosed for all periods. E-commerce credit
card revenue is all included as attributable to the United States.
|- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Long-lived tangible assets by geographic area are as
follows:



|              |  |               |     |  |                  |   |     | 
|------------- |  | ------------- | --- |  | ---------------- | - | --- | 
|              |  | March 31,2011 |     |  | December 31,2010 |  
|United States |  | $             | 482 |  |                  | $ | 524 | 
|India         |  |               | 55  |  |                  |   | 39  | 
|Israel        |  |               | 77  |  |                  |   | 43  | 
|              |  |               |     |  |                  |   |     | 
|Total         |  | $             | 614 |  |                  | $ | 606 | 
|              |  |               |     |  |                  |   |     | 



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##### Table of Contents

|(10) | Subsequent Events
|---- | -----------------

On May 1, 2011, Ms. Chagnon resigned as President, Chief Executive Officer and an employee of the Company and as a member of the
Board of Directors. In connection with Ms. Chagnons resignation, the Board of Directors elected Amos Kaminski, the Chairman of the Board, as Chief Executive Officer of the Company on an interim basis at a salary of $1,500 per day.

In connection with Ms. Chagnons resignation, the Company entered into a Resignation Agreement with
Ms. Chagnon which provides for the following payments and benefits:



| |  |  | A lump sum cash payment of $611,539 to be paid on or before May 9, 2011, consisting of two years of base salary equal to $600,000 and $11,539 for
accrued but unused vacation time;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | The vesting of 2,000 shares of restricted common stock scheduled to vest on May 20, 2011, 500 shares of restricted common stock scheduled to vest
on May 12, 2011, and 2,000 shares of restricted common stock scheduled to vest on May 24, 2011 with an aggregate value of $27,918 based on a $6.204 closing price of the Companys common stock as reported on the NASDAQ Capital Market
on April 29, 2011;
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | The vesting of 5,000 common stock options with an exercise price of $8.12 per share scheduled to vest on May 24, 2011 and 12,500 common stock
options with an exercise price of $6.15 per share scheduled to vest on May 20, 2011;
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | The suspension of future vesting and forfeiture as of November 1, 2011 of 22,500 unvested shares of restricted common stock and 60,000 common
stock options, provided, however, that upon a Change in Control of the Company on or before November 1, 2011, all such unvested securities shall become fully vested as of the date of such Change in Control; and
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| |  |  | Reimbursement of up to $15,000 in Ms. Chagnons reasonable attorneys fees in connection with her resignation.
| | - |  | --------------------------------------------------------------------------------------------------------------



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##### Table of Contents

PART I, ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF
FINANCIAL

CONDITION AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with the unaudited condensed consolidated financial statements and notes thereto.
All references to Bitstream, we, us, our, or Company refer to Bitstream Inc. and its subsidiaries. Except as otherwise noted, all reported dollar amounts are in thousands.

OVERVIEW

Bitstream is a software development company focused on bringing innovative and proprietary software products to a wide variety of
markets. Our core software products include award-winning fonts and font rendering technologies; mobile browsing technologies; and variable data publishing, Web-to-print, and multi-channel communications technologies.

Mobile Browsing Technologies.BOLT provides a consistent, full desktop-style browsing experience on almost any handset. Based upon
the Companys ThunderHawk technology, BOLT was released into private beta in January 2009, launched into public beta in February 2009, and launched out of beta in October 2009 with the release of BOLT 1.5. As part of the Companys strategy
to build market awareness through rapid market penetration, Bitstream gave BOLT away for free to consumers through an extensive viral marketing campaign. As a result of the Companys efforts, BOLT was installed over 20 million times from
January 2009 to March 2011 by mobile phone users looking for a better mobile browsing experience. The BOLT mobile browser offers faithful rendering of Web pages and it is the only browser for mobile phones of all types to support streaming video
from popular media sharing sites such as YouTube and MySpace. Compatible with most handsets that support the J2ME or BREW/BMP operating systems, BOLTs advanced features include W3C based widget support, direct Twitter integration, six levels
of magnification, international localization, copy/paste, FOTA updates, and additional usability features such as auto-complete url, save page, secure browsing, patented split-screen minimap, password manager, rss subscriptions, automatic socket
support, history and keypad shortcuts. BOLT is a WebKit based cloud-computing mobile browser. This cloud computing architecture is the key to BOLTs capabilities. Web pages are first loaded by the BOLT servers, then transcoded and sent to the
BOLT mobile browser client on handsets. This client/server approach maintains the integrity of Web page layouts, reduces packet consumption on data networks, dramatically improves page load speeds, and enables advanced features such as video
streaming.

Fonts and Font Rendering Technologies. Bitstream is a leading developer of font
technology solutions that enable developers to display high-quality text in any language for any device or application. We work with partners from around the world to provide complete text composition and font rendering solutions for consumer
electronics devices, mobile handsets, set-top boxes, digital TVs, printers, graphics and software applications, and embedded systems. Our solutions include Bitstream Panorama for text composition and Font Fusion® for font rendering. Bitstream font technology supports all international languages. With our technology, developers
can render any scalable industry-standard and compact font format. Developers rely on Bitstream for complete font solutions, including a certified Simplified Mainland Chinese font, MobileFonts, the Tiresias Screenfont, the Closed Captioned TV
(CCTV) Font Set, the TV Font Pack, delta-hinted screen fonts, and compact stroke-based Asian fonts. Bitstream also delivers high-quality font solutions for developers, ad agencies, graphic designers, desktop publishers, corporations, small
businesses, and home office users. Our library includes over 1,000 high-quality fonts in OpenType, TrueType, and PostScript Type 1 formats for Windows, Macintosh, Unix, and Linux. We also sell our fonts and fonts from other foundries and designers
on MyFontsSM, a showcase of the worlds fonts
available from one easy-to-use website. MyFonts provides the largest collection of fonts ever assembled for on-line delivery, and offers easy ways to find and purchase fonts on-line. MyFonts also offers unique typographic resources for research and
reference, including WhatTheFontSM, a unique font
identifier that accepts image files of fonts uploaded by users, analyzes the images, and then displays the fonts on the MyFonts site that most closely match the font shapes captured in the image. WhatTheFont is also available as an iPhone
application.



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##### Table of Contents

Automated Marketing Communication and Print Production Variable
Technologies.The Pageflex® product line from Bitstream enables companies across the globe to communicate
their marketing messages more easily and effectively. It is the advanced technology for brand management, web-to-print applications, and sophisticated personalized communications based on customer information. We pioneered flexible variable data
software in 1997 and have been a technology innovator in the document customization arena ever since. The platform produces rich, creative, award-winning document designs that look like they were given the individual attention of a graphic designer
but were, in reality, created on-the-fly with Pageflex variable publishing technology. Print service providers, marketing service providers, corporate marketers, and publishers use Pageflex products to ensure design integrity and brand control while
empowering local users to customize and personalize print collateral, email campaigns, and 1-to-1 marketing Web sites. Pageflex Persona is desktop software that produces personalized print and email documents using data from a database.
Pageflex Studio ID is a plug-in to Adobe InDesign for producing personalized print pieces. Pageflex Storefront is a turnkey solution for producing web portals for document customization and online purchasing of print documents. Pageflex Server
provides an enterprise solution for high-volume document customization driven by a database or requests from a web site. Pageflex iWay provides business flow automation for printing companies. Pageflex Campaign Manager lets companies develop
personal conversations with their customers in print, email, and online. And finally, Pageflex Chart works with these Pageflex products to add dynamic charts and graphs to print documents. Pageflex products enable companies worldwide to manage,
streamline, and automate their document production processes, communicate more personally with their customers, and control their brand and market messaging while enabling their remote employees, franchises, and consumers to use a self-serve model
to order customized communications. Pageflex products are purchased by both corporations and the printing companies that support them, who also use the software to control and track production processes in order to improve their business ROI.

CRITICAL ACCOUNTING POLICIES

Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles
generally accepted in the United States of America consistently applied. The preparation of these consolidated financial statements requires us to make significant estimates and judgments that affect the amounts reported in our consolidated
financial statements and the accompanying notes. These items are regularly monitored and analyzed by management for changes in facts and circumstances, and material changes in these estimates could occur in the future. Changes in estimates are
recorded in the period in which they become known. We base our estimates on historical experience and various other assumptions that we believe to be reasonable under the circumstances. Actual results may differ from our estimates.

While all of our accounting policies impact the consolidated financial statements, certain policies are viewed to be critical. Critical
accounting policies are those that are both most important to the portrayal of our financial condition and results of operations and that require managements most subjective or complex judgments and estimates. We consider the following
accounting policies to be critical in fully understanding and evaluating our financial results:



| |  |  | cash, cash equivalents and marketable securities;
| | - |  | -------------------------------------------------



| |  |  | accounts receivable;
| | - |  | --------------------



| |  |  | revenue recognition;
| | - |  | --------------------



| |  |  | impairment of goodwill and other long-lived assets;
| | - |  | ---------------------------------------------------



| |  |  | stock-based compensation; and
| | - |  | -----------------------------



| |  |  | income taxes.
| | - |  | -------------

Please refer to the critical accounting policies set forth in our Annual Report on Form 10-K for the fiscal year ended December 31, 2010, filed with the Securities and Exchange Commission, or the
SEC, on March 31, 2011, for a description of all critical accounting policies.



20



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##### Table of Contents

The critical accounting policies included in our Annual Report on Form 10-K for the fiscal
year ended December 31, 2010 have not materially changed.

FORWARD-LOOKING STATEMENTS

Certain statements in this report, other than purely historical information, including estimates, projections, statements relating to our
business plans, objectives and expected operating results, and the assumptions upon which those statements are based, are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995,
Section 27A of the Securities Act of 1933, as amended (the Securities Act), and Section 21E of the Securities Exchange Act of 1934, as amended (the Exchange Act). These forward-looking statements generally are
identified by the words believes, project, expects, anticipates, estimates, intends, strategy, plan, may, will,
would, will be, will continue, will likely result, and similar expressions. Investors are cautioned that forward-looking statements are inherently uncertain. Actual performance and results of
operations may differ materially from those projected or suggested in the forward-looking statements due to certain risks and uncertainties, including, without limitation, market acceptance of our products, competition and the timely introduction of
new products. Additional information concerning certain risks and uncertainties that would cause actual results to differ materially from those projected or suggested in the forward-looking statements is contained in our filings with the SEC,
including those risks and uncertainties discussed under the sections entitled Special Note about Forward-Looking Statements and Part I. Item 1A. Risk Factors contained in our Annual Report on Form 10-K for the fiscal
year ended December 31, 2010 filed with the SEC on March 31, 2011, as supplemented in our Quarterly Reports on Form 10-Q. The forward-looking statements contained herein represent our judgment as of the date of this report, and we caution
readers not to place undue reliance on such statements. We undertake no obligation to publicly release any revisions to the forward-looking statements or reflect events or circumstances after the date of this document.



21



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##### Table of Contents

RESULTS OF OPERATIONS

Revenue and Gross Profit:



|                      |  |                              |       |  |         |  |       |      |  |   |         |  |  |         |       |   |         |   |       |  |  |  |      |  
|--------------------- |  | ---------------------------- | ----- |  | ------- |  | ----- | ---- |  | - | ------- |  |  | ------- | ----- | - | ------- | - | ----- |  |  |  | ---- | -
|                      |  | Three Months Ended March 31, |       |  |         |  |       |      | 
|                      |  |                              |       |  | % of    |  |       |      |  |   | % of    |  |  | Change  |      
|                      |  | 2011                         |       |  | Revenue |  |       | 2010 |  |   | Revenue |  |  | Dollars |       |   | Percent |  
|Revenue               |  |                              |       |  |         |  |       |      |  |   |         |  |  |         |       |   |         |   |       |  |  |  |      |  
|Software licenses     |  | $                            | 5,204 |  |         |  | 76.4  | %    |  | $ | 4,017   |  |  |         | 77.1  | % |         | $ | 1,187 |  |  |  | 29.5 | %
|Services              |  |                              | 1,609 |  |         |  | 23.6  |      |  |   | 1,191   |  |  |         | 22.9  |   |         |   | 418   |  |  |  | 35.1 | %
|                      |  |                              |       |  |         |  |       |      |  |   |         |  |  |         |       |   |         |   |       |  |  |  |      |  
|Total revenue         |  |                              | 6,813 |  |         |  | 100.0 |      |  |   | 5,208   |  |  |         | 100.0 |   |         |   | 1,605 |  |  |  | 30.8 | %
|                      |  |                              |       |  |         | 
|Cost of Revenue       |  |                              |       |  |         |  |       |      |  |   |         |  |  |         |       |   |         |   |       |  |  |  |      |  
|Software licenses     |  |                              | 2,756 |  |         |  | 53.0  |      |  |   | 2,211   |  |  |         | 55.0  |   |         |   | 545   |  |  |  | 24.6 | %
|Services              |  |                              | 566   |  |         |  | 35.2  |      |  |   | 462     |  |  |         | 38.8  |   |         |   | 104   |  |  |  | 22.5 | %
|                      |  |                              |       |  |         |  |       |      |  |   |         |  |  |         |       |   |         |   |       |  |  |  |      |  
|Total cost of revenue |  |                              | 3,322 |  |         |  | 48.8  |      |  |   | 2,673   |  |  |         | 51.3  |   |         |   | 649   |  |  |  | 24.3 | %
|                      |  |                              |       |  |         |  |       |      |  |   |         |  |  |         |       |   |         |   |       |  |  |  |      |  
|Gross Profit          |  | $                            | 3,491 |  |         |  | 51.2  | %    |  | $ | 2,535   |  |  |         | 48.7  | % |         | $ | 956   |  |  |  | 37.7 | %
|                      |  |                              |       |  |         |  |       |      |  |   |         |  |  |         |       |   |         |   |       |  |  |  |      |  

License Revenue

Revenue from software licenses increased $1,187, or 29.5% for the three months ended March 31, 2011, as compared to $4,017 for the three months ended March 31, 2010. The direct sales channel
accounted for the largest increase in software license revenue for the three months ended March 31, 2011 with an increase in of $819, or 25.3%, to $4,059, as compared to $3,240 for the three months ended March 31, 2010. This increase was
primarily due to a significant increase in sales of fonts from our e-commerce site resulting from an increase in both volume and variety of fonts sold, as well as the release of Webfonts during the first quarter of 2011. Software license revenue
from Original Equipment Manufacturers (OEMs) and Independent Software Vendors (ISVs) increased $249, or 36.7%, to $928 for the three months ended March 31, 2011, as compared to $679 for the three months ended
March 31, 2010. This increase in OEM sales resulted from sales of the iWay product acquired from Press-Sense during June 2010. Software license revenue from resellers increased $119, or 121.4%, to $217 for the three months ended March 31,
2011, as compared to $98 for the three months ended March 31, 2010, primarily from increased sales to new publishing customers in 2011.

Service Revenue

Revenue from services increased $418, or 35.1%, to $1,609
for the three months ended March 31, 2011, as compared to $1,191 for the three months ended March 31, 2010. This increase is related to customer support contracts from the iWay product acquired in June 2010. Revenue from consulting,
graphic design and training services vary with specific requirements of customers, and revenue remained consistent with the three months ended March 31, 2010.

We recognize license revenue from direct sales and licensing agreements of our products and products from third parties including e-commerce sales made via our websites, licensing agreements with OEMs and
ISVs, and from the resale of our products through various resellers. We recognize reseller revenue if collection is probable, upon notification from the reseller that it has sold the product or, if for a physical product, upon delivery of the
software. E-commerce sales include revenue from the licensing of Bitstream fonts and font technology, licensing of mobile browsing products, licensing of fonts and font technology developed by third parties and from fees received from referring
customers to other sites for which we have referral agreements. Referral income for the three months ended March 31, 2011 was $11. There are minimal costs associated with referral revenue, and such costs primarily represent the time to load
copies of the fonts provided by each participating foundry to the MyFonts.com database. We expense those costs as incurred.

Cost of License Revenue

Cost of license revenue includes royalties and fees paid to third parties for the development of, or license of rights to, technology and/or unique typeface designs, and costs associated with the
duplication, packaging and shipping of products. These costs include depreciation and amortization on acquired-technology from the acquisition of assets from Press-Sense Ltd.



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##### Table of Contents

The increase in cost of license revenue for the three months ended March 31, 2011, as
compared to the three months ended March 31, 2010 was primarily due to increased direct costs, including royalty and credit card processing expenses, of $545, or 24.6%, to $2,756 for the three months ended March 31, 2011, as compared to
$2,211 for the three months ended March 31, 2010. This increase resulted from royalties related to increased sales of third party products including those conducted via e-commerce transactions, as well as increased credit card fees. In
addition, cost of licenses increased $47 from the amortization of the iWay technology acquired in June 2010.

Cost of
Service Revenue

Cost of service revenue includes costs incurred in the fulfillment of custom orders and costs incurred in
providing customer support, maintenance, and training.

Cost of services revenue increased $104, or 22.5%, for the three month
ended March 31, 2011, as compared to the three months ended March 31, 2010 primarily due to the addition of support and consulting services for the iWay product which was acquired as part of the acquisition of the Press-Sense Ltd. assets
in June 2010 and the discontinuance of certain consulting resources who had been assigned to research and development projects which lowered costs of services during the three months ended March 31, 2010.

Operating Expenses:



|                           |  |                              |       |  |         |  |      |      |  |   |         |  |  |         |      |   |         |   |       |  |  |  |      |  
|-------------------------- |  | ---------------------------- | ----- |  | ------- |  | ---- | ---- |  | - | ------- |  |  | ------- | ---- | - | ------- | - | ----- |  |  |  | ---- | -
|                           |  | Three Months Ended March 31, |       |  |         |  |      |      | 
|                           |  |                              |       |  | % of    |  |      |      |  |   | % of    |  |  | Change  |     
|                           |  | 2011                         |       |  | Revenue |  |      | 2010 |  |   | Revenue |  |  | Dollars |      |   | Percent |  
|                           |  |                              |       |  |         | 
|Marketing and selling      |  | $                            | 1,055 |  |         |  | 15.5 | %    |  | $ | 803     |  |  |         | 15.4 | % |         | $ | 252   |  |  |  | 31.4 | %
|Research and development   |  |                              | 2,198 |  |         |  | 32.3 |      |  |   | 1,392   |  |  |         | 26.7 |   |         |   | 806   |  |  |  | 57.9 |  
|General and administrative |  |                              | 1,243 |  |         |  | 18.2 |      |  |   | 743     |  |  |         | 14.3 |   |         |   | 500   |  |  |  | 67.3 |  
|                           |  |                              |       |  |         |  |      |      |  |   |         |  |  |         |      |   |         |   |       |  |  |  |      |  
|Total operating expenses   |  | $                            | 4,496 |  |         |  | 66.0 | %    |  | $ | 2,938   |  |  |         | 56.4 | % |         | $ | 1,558 |  |  |  | 53.0 | %
|                           |  |                              |       |  |         |  |      |      |  |   |         |  |  |         |      |   |         |   |       |  |  |  |      |  

Marketing and Selling (M&S) Expense

M&S expense consists primarily of salaries and benefits, commissions, travel expense and facilities costs related to sales and
marketing personnel, as well as marketing program-related costs including trade shows and advertising. M&S expenses increased $252, or 31.4%, to $1,055 for the three months ended March 31, 2011 as compared to $803 for the three months ended
March 31, 2010. This increase resulted primarily from the addition of personnel and travel costs for sales personnel associated with the iWay and BOLT products, as well as $48 amortization of intangible assets acquired from Press-Sense in June
2010. We expect M&S expense to continue to increase during the remainder of 2011 as we increase resources for our BOLT and iWay products.

Research and Development (R&D) Expense

R&D expense
consists primarily of salary and benefit costs, contracted third-party development costs, and facility costs related to software developers and management. The increase in R&D expense of $806, or 57.9%, to $2,198 for the three months ended
March 31, 2011, as compared to $1,392 for the three months ended March 31, 2010, was primarily the result of an increase in personnel related costs of $102 including salaries, benefits and facility related costs due to increases in R&D
personnel for the publishing and browsing product lines and $626 related to the addition of R&D personnel for the iWay product. The increase in R&D expense also included $66 related to hosting costs associated with the browsing product line.
We expect our 2011 R&D expense to remain above the levels recorded for 2010 due to the iWay acquisition, and to approximate the level recorded in the first quarter of 2011.



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##### Table of Contents

General and Administrative (G&A) Expense

G&A expense consists primarily of salaries, benefits, and other related costs including travel and facility expenses for finance,
human resource, legal and executive personnel, legal and accounting professional services, provision for bad debts and director and officer insurance. The increase in G&A expense for the three month period ended March 31, 2011 of $500, or
67.3%, to $1,243, as compared to $743 for the same period ended March 31, 2010, resulted from the addition of $228 in personnel costs in both Israel and the US, as well as operating costs of $34 related to the Israel office which was
established upon the acquisition of assets of Press-Sense in June 2010. Professional fees also increased $144 for business advisory services during the three months ended March 31, 2011. Additional increases totaling approximately $70 include
increases in directors fees, penalties, and the change in bad debt expense to $2 in the first quarter 2011 as compared to ($25) in the first quarter 2010. G&A expense for our second quarter will increase approximately $685 reflecting the
resignation agreement with our former CEO, which includes salary, vacation pay, stock awards and attorneys fees. We expect that G&A expenses, other than those associated with the resignation agreement, will remain at similar levels for the
remainder of 2011.

Other Income, Net:



|                               |  |                              |    |  |         |  |     |      |  |   |         |  |  |         |     |   |         |   |    |  |  |  |      |  
|------------------------------ |  | ---------------------------- | -- |  | ------- |  | --- | ---- |  | - | ------- |  |  | ------- | --- | - | ------- | - | -- |  |  |  | ---- | -
|                               |  | Three Months Ended March 31, |    |  |         |  |     |      | 
|                               |  |                              |    |  | % of    |  |     |      |  |   | % of    |  |  | Change  |    
|                               |  | 2011                         |    |  | Revenue |  |     | 2010 |  |   | Revenue |  |  | Dollars |     |   | Percent |  
|                               |  |                              |    |  |         | 
|Interest and other income, net |  | $                            | 24 |  |         |  | 0.4 | %    |  | $ | 13      |  |  |         | 0.2 | % |         | $ | 11 |  |  |  | 84.6 | %
|                               |  |                              |    |  |         |  |     |      |  |   |         |  |  |         |     |   |         |   |    |  |  |  |      |  

Other income is primarily interest income earned on cash, marketable securities, and money market
instruments, interest expense primarily related to the amortization of bond premium, and foreign currency transaction gains and losses. Net interest income for the three months ended March 31, 2011 and 2010 was $59 and $12, respectively.
Foreign currency transaction gains (losses) for the three months ended March 3, 2011 and 2010 were $(36) and $2, respectively. Net interest income has increased, as compared to the same periods in the prior year, as we have invested a portion
of our cash in corporate bonds and government and agency bonds.

Provision for Income Taxes:



|                           |  |                              |    |  |         |  |     |      |  |   |         |  |  |         |     |   |         |   |    |  |  |  |       |  
|-------------------------- |  | ---------------------------- | -- |  | ------- |  | --- | ---- |  | - | ------- |  |  | ------- | --- | - | ------- | - | -- |  |  |  | ----- | -
|                           |  | Three Months Ended March 31, |    |  |         |  |     |      | 
|                           |  |                              |    |  | % of    |  |     |      |  |   | % of    |  |  | Change  |    
|                           |  | 2011                         |    |  | Revenue |  |     | 2010 |  |   | Revenue |  |  | Dollars |     |   | Percent |  
|                           |  |                              |    |  |         | 
|Provision for income taxes |  | $                            | 53 |  |         |  | 0.8 | %    |  | $ | 8       |  |  |         | 0.2 | % |         | $ | 45 |  |  |  | 562.5 | %
|                           |  |                              |    |  |         |  |     |      |  |   |         |  |  |         |     |   |         |   |    |  |  |  |       |  

Foreign taxes include foreign withholding taxes which vary with OEM license royalties from customers in
countries who are a party to tax conventions with the United States including Korea, Israel and Poland, as well as, foreign taxes paid by Bitstream India Pvt. Ltd., our subsidiary in India and by Bitstream Israel Ltd. our subsidiary is Israel.
Federal income tax is related to the deferred tax liability from the amortization of Goodwill for tax purposes. The following is a summary of the components of the provision for and (benefit from) income taxes:



|         |  |                              |    |  |      |   |   | 
|-------- |  | ---------------------------- | -- |  | ---- | - | - | 
|         |  | Three Months EndedMarch 
31, |   
|         |  | 2011                         |    |  | 2010 |  
|Current: |  |                              |    |  |      |   |   | 
|Federal  |  | $                            | 18 |  |      | $ |  | 
|State    |  |                              |   |  |      |   |  | 
|Foreign  |  |                              | 35 |  |      |   | 8 | 
|         |  |                              |    |  |      |   |   | 
|Total    |  | $                            | 53 |  |      | $ | 8 | 
|         |  |                              |    |  |      |   |   | 



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LIQUIDITY AND CAPITAL RESOURCES

The Company has funded its operations primarily through the public sale of equity securities, cash flows from operations, cash received
from the sale of our MediaBank and InterSep OPI product lines to Inso Providence Corporation in August of 1998, and cash received from the sale of our investment in DiamondSoft to Extensis in July of 2003. As of March 31, 2011, we had net
working capital of $304 versus $939 at December 31, 2010, a decrease of $635 or 67%. Including long-term available-for-sale marketable securities, classified as long-term due to stated maturity dates that are longer than one year, we had
adjusted net working capital of $8,353 at March 31, 2011 versus $9,036 at December 31, 2010.

Our primary source of
liquidity comes from our cash, cash equivalents and investments, which totaled $11,456 at March 31, 2011. Our investments are classified as available-for-sale and consist of securities that are readily convertible to cash, including government,
government agency, and corporate bonds. Based on our current expectations, we anticipate that some portion of our existing cash, cash equivalents and investments may be consumed by operations.

Our operating activities generated cash during the three months ended March 31, 2011 and 2010 of $366 and $1,564, respectively. The
major components of cash provided by operating activities for the three months ended March 31, 2011 was our loss of $1,034 less non cash expenditures of $417, a decrease in prepaid expenses of $54, and a decrease in other accrued expenses of
$81, offset by cash generated by the collection of accounts receivable of $464, and an increase in accounts payable of $615. Cash from operating activities for the three months ended March 31, 2010 was generated primarily by our net loss of
$398 less non cash expenditures of $307, a decrease in prepaid expenses of $180, and a decrease in accrued expenses of $184, offset by cash generated by the collection of accounts receivable of $990, an increase in accounts payable of $741, an
increase in deferred revenue of $106 and an increase in accrued payroll and other compensation of $181 during the period.

Cash used in investing activities during the three months ended March 31, 2011 was $130 and consisted primarily of purchases of
property and equipment of $72 and an increase in restricted cash of $54. Cash used in investing activities during the three months ended March 31, 2010 was $5,620 and consisted primarily of purchases of marketable securities of $5,585 and
property and equipment of $28 during the period.

Our financing activities for the three months ended March 31, 2011 and
2010 provided cash of $0 and $95 (from the exercise of stock options), respectively.

As of March 31, 2011, we had no
material commitments for capital expenditures.

On May 1, 2011, Ms. Chagnon resigned as President, Chief Executive
Officer and an employee of the Company and as a member of the Board of Directors. In connection with Ms. Chagnons resignation, the Board of Directors elected Mr. Kaminski as Chief Executive Officer of the Company on an interim basis
at a salary of $1,500 per day. Also in connection with Ms. Chagnons resignation, the Company entered into a Resignation Agreement with Ms. Chagnon which provides for the following payments and benefits: A lump sum cash payment of
$611,539 to be paid on or before May 9, 2011, consisting of two years of base salary equal to $600,000 and $11,539 for accrued but unused vacation time; and the reimbursement of up to $15,000 in Ms. Chagnons reasonable
attorneys fees in connection with her resignation.

We believe our current cash and cash equivalent and investments in
marketable securities balances will be sufficient to meet our operating and capital requirements for at least the next 12 months. There can be no assurance, however, that we will not require additional financing in the future. If we were required to
obtain additional financing in the future, there can be no assurance that sources of capital would be available on terms favorable to us, if at all.



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From time to time, we evaluate potential acquisitions of products, businesses and
technologies that may complement or expand our business. If we were to pursue any such transaction, we may use a portion of our working capital, the proceeds of marketable securities, or raise funding for such activities through the issuance of
equity or debt securities.

Off-Balance Sheet Arrangements

We do not have any material off-balance sheet arrangements as such term is defined in Item 303(a)(4) of Regulation S-K.

Stock Repurchase Plan

We may, from time to time, as business conditions
warrant, purchase stock in the open market or through private transactions and may enter into structured stock repurchase agreements with third parties. Purchases may be increased, decreased or discontinued at any time without prior notice. Any
repurchase program is subject to certain repurchase conditions, including daily volume limitations, as provided under the applicable SEC safe harbor rules.

RECENT ACCOUNTING PRONOUNCEMENTS

The Company reviews and evaluates recent
pronouncements that have had or may have a significant effect on our financial statements. The Company has not included a discussion of recent pronouncements below as none are anticipated to have an impact on or are unrelated to our financial
condition, results of operations, or disclosures.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT
MARKET RISK

Derivative Financial Instruments, Other Financial Instruments and Derivative Commodity Instruments

As of March 31, 2011, we did not participate in any derivative financial instruments or other financial and commodity instruments for
which fair value disclosure would be required. Our investments include bank deposits, short-term money market accounts and investments in marketable securities including corporate bonds and government and government agency bonds that are carried on
our books at fair value.

Interest Rate Sensitivity

The primary objective of our current investment activities is to preserve investment principal while maximizing income without significantly increasing risk. To meet these objectives, we invest funds not
immediately required for operations only in high quality debt securities. We also limit the percentage of total investments that may be invested in any one issuer. Investments in corporate bonds as a group are also limited to a maximum percentage of
our investment portfolio. We maintain a portfolio of cash equivalents and short-term and long-term investments in a variety of securities including money market funds, corporate bonds and government debt securities. These available-for-sale
investments are subject to interest rate risk and may decline in value if market interest rates increase. If market interest rates increased immediately and uniformly by 10 percent from levels at March 31, 2011, the fair value of the portfolio
would decline by approximately $835. We have the ability to hold our fixed income investments until maturity, and therefore do not expect our operating results or cash flows to be affected to any significant degree by the effect of a sudden change
in market interest rates on our investment portfolio.



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In addition to interest rate risk, we are subject to market risk on our investments. We
monitor all of our investments for impairment on a periodic basis. In the event that the carrying value of the investment exceeds its fair value and the decline in value is determined to be other than temporary, the carrying value is reduced to its
current fair market value. In the absence of other overriding factors, we consider a decline in market value to be a potential indicator of an other than temporary impairment when a publicly traded stock or a debt security has traded below amortized
cost for a consecutive six-month period. If an investment continues to trade below amortized cost for more than six months, and mitigating factors such as general economic and industry specific trends, including the creditworthiness of the issuer
are not present, this investment would be evaluated for impairment and written down to a balance equal to the estimated fair value at the time of impairment, with the amount of the write-down recorded in Interest and other income, net, on the
consolidated statements of operations. If management concludes it does not intend to sell an impaired debt security and it is not more likely than not that it will be required to sell the debt security before the recovery of its amortized cost
basis, and the issuers of the securities are creditworthy, no other-than-temporary impairment is deemed to exist.

ITEM 4. CONTROLS AND PROCEDURES

Managements evaluation of our disclosure controls and procedures

Our
principal executive officer and principal financial officer, after evaluating the effectiveness of our disclosure controls and procedures, (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act), with the participation
of our management, have concluded that, as of the end of the period covered by this Quarterly Report on Form 10-Q, our disclosure controls and procedures were effective and were designed to ensure that information we are required to disclose in the
reports that we file or submit under the Exchange Act is accumulated and communicated to management, including our principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure,
and is recorded, processed, summarized and reported within the time periods specified in the SECs rules and forms. It should be noted that any system of controls is designed to provide reasonable, but not absolute, assurances that the system
will achieve its stated goals under reasonably foreseeable future circumstances. Our principal executive officer and principal financial officer have concluded that, as of such date, the Companys disclosure controls and procedures are
effective at a level that provides such reasonable assurances.

Changes in internal control over financial reporting

There was no change in our internal control over financial reporting that occurred during the quarter ended March 31, 2011 that
materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II  OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

From time to time we are subject to legal proceedings and claims in the ordinary course of business, including claims of infringement of
third-party patents and other intellectual property rights, and claims involving commercial, employment and other matters. In accordance with generally accepted accounting principles, we make a provision for a liability when it is both probable that
a liability has been incurred and the amount of the loss can be reasonably estimated. This provision is reviewed at least quarterly. As of March 31, 2011, there are no material pending legal proceedings to which we are a party, and no liability
was recorded. Litigation is inherently unpredictable and it is possible that our financial position, cash flows, or results of operations could be materially affected in any particular period by the resolution of any such contingencies or the costs
involved in seeking the resolution of any such contingencies.



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ITEM 1A. RISK FACTORS

We incorporate herein by reference the section entitled Managements Discussion and Analysis of Financial Condition and Results
of Operation  Risk Factors contained in Part I, Item 1A of our Annual Report on Form 10-K for the fiscal year ended December 31, 2010 and filed with the SEC on March 31, 2011. In connection with the resignation of
Ms. Chagnon on May 1, 2011 and the appointment of Mr. Kaminski as chief executive officer on an interim basis, we hereby provide the following supplemental risk factor to those Risk Factors disclosed in Part I,
Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2010:

Failure to attract and retain a new
chief executive officer and other talented employees may have a material adverse effect on our operations and financial results. Our performance depends to a significant extent on the continued service of our senior management and key technical
employees. Our future results will depend upon our ability to attract and retain a new chief executive officer to execute our business plan as well as other highly skilled technical, managerial, and marketing personnel. Competition for such
personnel in the software industry is intense. We rely on competitive compensation packages to recruit and retain highly skilled employees in a competitive environment, but we do not enter into employment agreements with our personnel. There can be
no assurance that we will be successful in attracting and retaining the personnel required to sustain our business. Failure to attract and retain such personnel could have a material adverse effect on our business, financial condition and results of
operations.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS



|(a) | None.
|--- | -----



|(b) | Not applicable.
|--- | ---------------



|(c) | None.
|--- | -----

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

Not applicable.

ITEM 4. (Removed and Reserved)

ITEM 5. OTHER INFORMATION



| | (a) | None.
| | --- | -----



| | (b) | None.
| | --- | -----



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|ITEM 6. | EXHIBITS
|------- | --------



| | (a) | Exhibits
| | --- | --------



|      |  |                                                                                                                                                                                                                                
|----- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|10.1  |  | Resignation Agreement between Bitstream Inc. and Anna Chagnon dated May 1, 2011 (filed as Exhibit 10.1 to Bitstream Inc. Current Report on Form 8-K as filed with the SEC on
May 3, 2011 and incorporated herein by reference).
|      | 
|*31.1 |  | Certification of Principal Executive Officer required by Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.                        
|      | 
|*31.2 |  | Certification of Principal Financial Officer required by Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.                        
|      | 
|*32.1 |  | Certification of Principal Executive Officer and Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002.                                         



|* | Filed herewith.
|- | ---------------

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.

BITSTREAM INC.

(Registrant)



|                  |  |                                                                                           |  |             
|----------------- |  | ----------------------------------------------------------------------------------------- |  | ------------
|SIGNATURE         |  | TITLE                                                                                     |  | DATE        
|                  |  |                                                                                          
|/s/ Amos Kaminski |  | Executive Chairman of the Board and Chief Executive Officer (Principal Executive Officer) |  | May 13, 2011
|Amos Kaminski     |  |                                                                                           | 
|                  |  |                                                                                          
|/s/ James P. Dore |  | Vice President and Chief Financial Officer (Principal Financial Officer)                  |  | May 13, 2011
|James P. Dore     |  |                                                                                           | 



29