EXHIBIT 13.1

ProBusiness Services, Inc.



INDEX TO FINANCIAL SECTION


|                                                                                       |                                                                                             |      |    |    | 
|-------------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------- | ---- | -- | -- | 
|                                                                                       |                                                                                             | Page
|                                                                                       |                                                                                             |     
|                                                                                      
|                                                                                      
|                                                                                      
|                                                                                      
|Managements Discussion and Analysis of
	Financial Condition and Results of Operations |                                                                                             |      | 2  |   
|                                                                                      
|                                                                                      
|                                                                                      
|                                                                                      
|Consolidated Financial Statements:                                                     |                                                                                             |      |    |   
|                                                                                      
|                                                                                      
|                                                                                      
|                                                                                      
|                                                                                       | Consolidated Balance Sheets                                                                 |      |    | 14 | 
|                                                                                      
|                                                                                      
|                                                                                      
|                                                                                      
|                                                                                       | Consolidated Statements of Operations                                                       |      |    | 15 | 
|                                                                                      
|                                                                                      
|                                                                                      
|                                                                                      
|                                                                                       | Consolidated Statements of Redeemable Convertible
	Preferred Stock and Stockholders Equity |      |    | 16 | 
|                                                                                      
|                                                                                      
|                                                                                      
|                                                                                      
|                                                                                       | Consolidated Statements of Cash Flows                                                       |      |    | 17 | 
|                                                                                      
|                                                                                      
|                                                                                      
|                                                                                      
|                                                                                       | Notes to Consolidated Financial Statements                                                  |      |    | 18 | 
|                                                                                      
|                                                                                      
|                                                                                      
|                                                                                      
|                                                                                       | Report of Independent Auditors                                                              |      |    | 34 | 
|                                                                                      
|                                                                                      
|                                                                                      
|                                                                                      
|Quarterly Financial Data                                                               |                                                                                             |      | 35 |   

1



---



MANAGEMENTS DISCUSSION AND
ANALYSIS

OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS


The previous discussion and other sections of
this Annual Report contain forward-looking statements that have
been made pursuant to the provisions of the Private Securities
Litigation Reform Act of 1995. These forward-looking statements
are based on current expectations, estimates and projections
about our industry, managements beliefs, and certain
assumptions made by management. Words such as
anticipates, expects,
intends, plans, believes,
seeks and estimates and similar
expressions are intended to identify forward-looking statements.
These statements are not guarantees of future performance and
actual actions or results may differ materially. These
statements are subject to certain risks, uncertainties and
assumptions that are difficult to predict, including those set
forth herein under Additional Factors That May Affect
Future Results. We undertake no obligation to update
publicly any forward-looking statements as a result of new
information, future events or otherwise, unless required by law.
Readers should, however, carefully review the risk factors
included in other reports or documents filed by us from time to
time with the Securities and Exchange Commission.

Overview

We are a leading provider of comprehensive
administrative outsourced services to large employers
nationwide, providing solutions that include corporate employee
payroll processing, payroll tax filing and other critical human
resources, or HR, and benefits functions. Our comprehensive and
integrated outsourced payroll processing and tax filing solution
has expanded to include a multitude of other similarly
integrated products including payroll administration, Web-based
self-service for employees, HR software and integrated
administration of health and welfare benefits, COBRA benefits
and flexible spending accounts. These services are combined into
a single, technology platform combining sophisticated
transaction processing and Internet-enabled workstations to form
a comprehensive HR outsourcing product.

We derive our revenue from fees charged to
clients for services and income earned from investing payroll
tax funds. We have experienced significant growth of our
revenue, client base and average client size. We have
successfully grown our revenues 114% and 442% over the past two
and four years, respectively, as of June 30, 2001. Revenue
increased from $104.1 million in FY2000 to
$149.9 million in FY2001, an increase of 44% over the prior
year. At June 30, 2001, our roster of payroll and tax
clients had risen to approximately 775 companies,
representing 4 million employees and including
relationships with over 10% of the Fortune 1000 companies. Our
revenue growth is primarily due to continued growth in our
payroll and payroll tax client base, an increase in the average
number of employees of our clients, the introduction of new
features and other services and a high retention rate of
existing payroll clients (approximately 90% for FY2001). We do
not anticipate that we will sustain this rate of growth in the
future.

The establishment of new client relationships
involves lengthy and extensive sales and implementation
processes. The sales process generally takes three to twelve
months or longer, and the implementation process generally takes
an additional three to nine months or longer. We have
experienced significant operating losses since our inception and
expect to incur significant operating losses in the future due
to continued client acquisition costs, investments in research
and development and costs associated with expanding sales
efforts, service offerings and operations in new geographic
regions. As of June 30, 2001, we had an accumulated deficit
of $96.4 million. There can be no assurance that we will
achieve or sustain profitability in the future.

Our cost of providing services consists primarily
of ongoing account management, tax and benefits administration
operations and production costs. General and administrative
expenses consist primarily of personnel costs, professional fees
and other overhead costs for finance and corporate services and
information technology. Research and development expenses
consist primarily of personnel costs. Client acquisition costs
consist of sales and implementation expenses and, to a lesser
extent, marketing expenses.

2



---



Results of Operations

The following table sets forth certain items
reflected in the consolidated statements of operations expressed
as a percentage of revenue:

|                                                                 |                                                 |                     |       |      |   |      |       |      |   |  |       |      |  
|---------------------------------------------------------------- | ----------------------------------------------- | ------------------- | ----- | ---- | - | ---- | ----- | ---- | - |  | ----- | ---- | -
|                                                                 |                                                 |                    
|                                                                 |                                                 | Year Ended June 30,
|                                                                 |                                                 |                    
|                                                                 |                                                 | 1999                |       | 2000 |   | 2001
|                                                                 |                                                 |                     |       |      |   |     
|Revenue:                                                         |                                                 |                     |       |      |   |      |       |      |   |  |       |     
|                                                                
|                                                                
|                                                                
|                                                                
|                                                                 | Service fees                                    |                     |       | 72.1 | % |      |       | 71.5 | % |  |       | 70.0 | %
|                                                                
|                                                                
|                                                                
|                                                                
|                                                                 | Interest income from payroll tax funds invested |                     |       | 27.9 | % |      |       | 28.5 | % |  |       | 30.0 | %
|                                                                 |                                                 |                     |       |      |   |      |       |      |   |  |       |     
|Total revenue                                                    |                                                 |                     | 100.0 | %    |   |      | 100.0 | %    |   |  | 100.0 | %   
|                                                                
|                                                                
|                                                                
|                                                                
|Operating expenses:                                              |                                                 |                     |       |      |   |      |       |      |   |  |       |     
|                                                                
|                                                                
|                                                                
|                                                                
|                                                                 | Cost of providing services                      |                     |       | 49.2 | % |      |       | 47.5 | % |  |       | 51.2 | %
|                                                                
|                                                                
|                                                                
|                                                                
|                                                                 | General and administrative                      |                     |       | 15.3 | % |      |       | 15.1 | % |  |       | 16.4 | %
|                                                                
|                                                                
|                                                                
|                                                                
|                                                                 | Research and development                        |                     |       | 14.1 | % |      |       | 11.6 | % |  |       | 12.4 | %
|                                                                
|                                                                
|                                                                
|                                                                
|                                                                 | Client acquisition costs                        |                     |       | 42.6 | % |      |       | 42.0 | % |  |       | 44.4 | %
|                                                                
|                                                                
|                                                                
|                                                                
|                                                                 | Merger Costs                                    |                     |       | 5.0  | % |      |       |     |   |  |       |     |  
|                                                                 |                                                 |                     |       |      |   |      |       |      |   |  |       |     
|Total operating expenses                                         |                                                 |                     | 126.2 | %    |   |      | 116.2 | %    |   |  | 124.4 | %   
|                                                                 |                                                 |                     |       |      |   |      |       |      |   |  |       |     
|Loss from operations                                             |                                                 |                     | (26.2 | )%   |   |      | (16.2 | )%   |   |  | (24.4 | )%  
|                                                                
|                                                                
|                                                                
|                                                                
|Interest expense                                                 |                                                 |                     | (1.0  | )%   |   |      | (0.5  | )%   |   |  | (0.6  | )%  
|                                                                
|                                                                
|                                                                
|                                                                
|Interest income and other, net                                   |                                                 |                     | 4.2   | %    |   |      | 3.3   | %    |   |  | 2.6   | %   
|                                                                 |                                                 |                     |       |      |   |      |       |      |   |  |       |     
|Loss before cumulative effect of change in
	accounting principle |                                                 |                     | (23.0 | )%   |   |      | (13.4 | )%   |   |  | (22.4 | )%  
|                                                                
|                                                                
|                                                                
|                                                                
|Cumulative effect of change in accounting
	principle             |                                                 |                     |      |      |   |      |      |      |   |  | 0.3   | %   
|                                                                 |                                                 |                     |       |      |   |      |       |      |   |  |       |     
|Net loss                                                         |                                                 |                     | (23.0 | )%   |   |      | (13.4 | )%   |   |  | (22.1 | )%  
|                                                                 |                                                 |                     |       |      |   |      |       |      |   |  |       |     

Revenue

Service fee revenue increased 41.0% in FY2001 and
increased 47.1% in FY2000, primarily due to increases in the
number and average size of our payroll and tax clients. Interest
income from payroll tax funds invested increased 51.6% in FY2001
and FY2000. These increases were primarily due to higher average
daily payroll tax funds invested. We expect interest income from
payroll tax funds invested as a percentage of total revenue to
decrease as a result of declining interest rates.

Cost of Providing Services

Cost of providing services increased 55.3% in
FY2001 and 43.1% in FY2000 and increased as a percentage of
total revenue to 51.2% in FY2001, compared with 47.5% in FY2000
and 49.2% in FY1999. The increase in absolute dollars in FY2001
was primarily due to increased personnel in operations and
account management resulting from an increase in the client base
and increased investment in our Comprehensive Outsourcing
service offering. The increase as a percentage of revenue in
FY2001 was due primarily to additional expenses incurred as a
result of the investment made in our Comprehensive Outsourcing
service offering.

General and Administrative

General and administrative expenses increased
56.8% in FY2001 and 45.8% in FY2000 and increased as a
percentage of total revenue to 16.4% in FY2001, compared with
15.1% in FY2000 and 15.3% in FY1999. The increase in absolute
dollars was primarily attributable to increased investment in
our information technology infrastructure, the hiring of
additional management and administrative personnel to support
our growth and our Comprehensive Outsourcing service offering.
The increase as a percentage of revenue in FY2001 was due
primarily to additional expenses incurred as a result of the
investment made in our Comprehensive

3



---



Outsourcing service offering. The decrease as a
percentage of total revenue in FY2000 was primarily due to the
economies realized from relatively constant fixed costs as
compared to the higher revenue.


Research and Development

Research and development expenses increased 53.7%
in FY2001 and 21.9% in FY2000 and increased as a percentage of
total revenue to 12.4% in FY2001 compared with 11.6% in FY2000
and decreased as a percentage of total revenue in FY2001
compared to 14.1% in FY1999. The increase in absolute dollars in
FY2001 was primarily a result of additional personnel and, to a
lesser extent, the development of enhancements and new features
to our existing services. The decrease as a percentage of total
revenue in FY2000 was due to higher revenues combined with
increased capitalization of software development costs
associated with our next generation application platform Golden
Gate. Capitalized software development costs were
$6.8 million, $6.5 million and $4.1 million in
FY2001, 2000 and 1999, respectively.

Client Acquisition Costs

Client acquisition costs increased 52.1% in
FY2001 and 46.5% in FY2000 and increased as a percentage of
total revenue to 44.4% in FY2001, compared to 42.0% in FY2000
and 42.6% in FY1999. The increase in absolute dollars and as a
percentage of revenue in FY2001 was primarily due to the
additional personnel costs associated with new product and
services implementation, the additional investments made to
expand the sales and services implementation capabilities for
Comprehensive Outsourcing and, to a lesser extent, expenses
related to marketing.

Merger Costs

In 1999, we charged to operations a one-time cost
related to the acquisition of Conduit Parent of
$3.5 million. These costs consisted primarily of investment
banking and professional fees and other direct costs associated
with the acquisition.

Interest Expense

Interest expense increased as a percentage of
total revenue to 0.6% in FY2001 compared to 0.5% in FY2000, and
decreased as a percentage of total revenue in FY2001 compared to
1.0% in FY1999.

Interest Income and Other, Net

Other income decreased as a percentage of total
revenue to 2.6% in FY2001 compared to 3.3% in FY2000 and 4.2% in
FY1999. The decrease of other income as a percentage of total
revenue was due to lower cash and investment balances.

Liquidity and Capital Resources

Since inception, we have financed our operations
primarily through a combination of sales of equity securities,
private debt and bank borrowings. We raised approximately
$27.0 million from our initial public offering in September
1997 and approximately $80.7 million from our secondary
public offering in September 1998. On August 1, 2000, we
authorized, issued and sold 1,132,075 shares of 6.9% redeemable
convertible preferred stock at $26.50 per share, raising
approximately $30 million. (See Note 6 of Notes to
Consolidated Financial Statements.)

At June 30, 2001, we had approximately
$28.7 million of cash and cash equivalents,
$27.1 million of short-term investments and
$3.2 million of long-term investments, as well as a
$20.0 million secured revolving line of credit, which
expires on September 30, 2001. We are currently in
negotiations with credit providers to extend of our line of
credit. At June 30, 2001, we had no outstanding borrowings
under the line of credit. (See Note 3 of Notes to
Consolidated Financial Statements.)

Net cash used in operating activities for FY2001,
FY2000 and FY1999 was $2.5 million, $6.5 million and
$1.1 million respectively. The decrease in net cash used in
operating activities in FY2001 compared to FY2000

4



---



was primarily the result of increases in accrued
liabilities, depreciation and amortization and a decrease in net
accounts receivable, partially offset by an increase in net loss
and a decrease in deferred revenue. The increase in net cash
used in operating activities in FY2000 compared to FY1999 was
primarily the result of a decrease in accrued liabilities and an
increase in net accounts receivable, partially offset by
increases in deferred revenue and depreciation and amortization
and a decrease in net loss.


Net cash used in investing activities was
$39.3 million, $40.9 million and $28.7 million
for FY2001, FY2000 and FY1999, respectively. The decrease in net
cash used in investing activities in FY2001 compared to FY2000
is primarily a result of an increase in maturities of
investments and a decrease in capital expenditures for
equipment, furniture and fixtures, partially offset by an
increase in purchases of available for sale investments. The
increase in net cash used in investing activities in FY2000
resulted primarily from the purchase of investments, partially
offset by decreases in capital expenditures for equipment,
furniture and fixtures. In addition, we capitalized software
development costs of $6.8 million, $6.5 million and
$4.1 million in FY2001, FY2000 and FY1999, respectively. We
expect to make additional capital expenditures for furniture,
equipment and fixtures to support the continued growth of our
operations. In addition, we anticipate that we will continue to
expend funds for software development in the future.

Net cash provided by financing activities was
$43.0 million, $1.4 million, and $89.4 million
for FY2001, FY2000 and FY1999, respectively. Net cash provided
by financing activities for FY2001 related primarily to
$29.8 million of net proceeds from the issuance of
redeemable convertible preferred stock and issuance of common
stock related to the employee stock purchase plan and the
exercise of employee stock options and the release of the
$4.6 million restricted cash balance. Net cash provided by
financing activities for FY2000 related primarily to
$6.2 million of net proceeds from the issuance of common
stock related to our employee stock purchase plan and the
exercise of employee stock options, partially offset by a
$4.6 million pledge, reported as restricted cash, deposited
with a secured party in relation to our purchase of derivative
based products. Net cash provided by financing activities for
FY1999 related primarily to $80.7 million of net proceeds
from our secondary public offering of common stock in September
1998.

We believe that existing cash and cash equivalent
balances, short-term investments and amounts available under a
credit facility and anticipated cash flows from operations will
be sufficient to meet our operating and capital expenditure
requirements for at least the next 12 months. We may also
utilize cash to acquire or invest in complementary businesses or
to obtain the right to use complementary technologies, although
we do not have any pending plans to do so. We may also sell
additional equity or debt securities or obtain additional credit
facilities.

Recent Accounting Pronouncements

In July 2001, the Financial Accounting Standards
Board issued SFAS No. 141, Business
Combinations, and SFAS No. 142, Goodwill and
Other Intangible Assets. SFAS No. 141 eliminates the
pooling-of-interests method of accounting for business
combinations, except for qualifying business combinations that
were initiated prior to July 1, 2001. Under SFAS
No. 142, goodwill and indefinite lived intangible assets
are no longer amortized but are reviewed annually, or more
frequently if impairment indicators arise, for impairment. We
are required to adopt SFAS No 142 on July 1, 2002. We
have not yet determined the impact, if any, that SFAS
Nos. 141 and 142 will have on our consolidated financial
statements.

Additional Factors That May Affect Future
Results

We have sustained a history of operating
losses and may not achieve profitability in the
future.We have experienced
significant operating losses since our inception. We expect to
incur significant operating losses in the future due to
continued client acquisition costs and investments in research
and development. We will also incur costs associated with
expanding our sales efforts, service offerings and operations to
new geographic regions. As of June 30, 2001, we had an
accumulated deficit of $96.4 million. While our current
target is to achieve profitability in fiscal year 2003, we may
fail to achieve profitability by such time and it is possible
that we may never achieve or sustain profitability in the
future. Failure to achieve or sustain profitability would harm
our financial condition and results of operations.

5



---



We may choose to raise additional capital to fund
our investments and/or operations through public or private
equity or debt financing. We cannot assure you that additional
financing will be available if needed on acceptable terms, or at
all. If additional capital is needed and not available, we may
need to change our business strategy or reduce our operations.
If we raise additional funds by issuing equity securities, our
stockholders will experience dilution.

Investment risks, such as interest rate
fluctuations, could harm our business.We invest funds; including payroll tax funds transferred to us
by our clients, in short-term, top-tier, high quality financial
instruments. Among other instruments, we invest in overnight
U.S. government direct and agency obligations, commercial paper
and institutional money market funds. Our investments are
subject to credit risks and interest rate fluctuations. For
example, if borrowers fail to meet the terms of their
obligations under financial instruments in which we have
invested, we would be liable for any losses on those investments.

Interest income earned from the investment of
client payroll tax funds represents a significant portion of our
revenue. As a result, interest rate fluctuations could
significantly impact our results of operations. For example, our
future results may be adversely affected as a result of recent
declines in interest rates.

We enter into interest rate swap agreements to
minimize the impact of interest rate fluctuations. However,
these swap agreements will not protect us from all interest rate
risks. In some circumstances, if interest rates rise, we would
have payment obligations under our interest rate swap
agreements, and these payments may exceed the interest we earn
on deposited funds. Any payment obligation under our swap
agreements could harm our results of operations. If we default
under our swap agreements, the default could result in
acceleration and setoff by the bank of all outstanding contracts
under the swap agreements and could result in cross-defaults of
other debt agreements. Additionally, if the party to our swap
agreements fails to meet the terms of its obligations under our
executed swap agreements, all amounts hedged under the swap
agreements would then be subject to market interest rate
fluctuation and the swap agreements could become ineffective.
Any of these consequences could harm our business and financial
condition.

Our operating results have fluctuated, and
will continue to fluctuate, from quarter to quarter, and
negative fluctuations could materially lower the price of our
common stock.Our quarterly operating
results have fluctuated in the past and will continue to
fluctuate in the future depending on a variety of factors,
including the following:



| |   |                                                                                                                      
| | - | ---------------------------------------------------------------------------------------------------------------------
| |  | the number and size of new clients starting
	services;                                                               
|
| |  | the decision of one or more clients to delay or
	cancel implementation or ongoing services;                          
|
| |  | interest rates;                                                                                                      
|
| |  | seasonality;                                                                                                         
|
| |  | our ability to timely design, develop, introduce
	and implement services and features for new and existing
	services;
|
| |  | services offerings provided by competitors:                                                                          
|
| |  | costs associated with strategic acquisitions and
	alliances or investments in technology;                            
|
| |  | the success of strategic acquisitions, alliances
	or investments;                                                    
|
| |  | costs to transition to new technologies;                                                                             
|
| |  | expenses incurred for geographic expansion;                                                                          
|
| |  | risks associated with payroll tax and benefits
	administration;                                                      
|
| |  | price competition;                                                                                                   
|
| |  | a reduction in the number of employees of our
	clients; and                                                          
|
| |  | general economic factors.                                                                                            

6



---



A substantial majority of our operating expenses,
particularly personnel and related costs, depreciation and rent,
are relatively fixed in advance of any particular quarter. As a
result, we may not be able to timely cut costs in response to
any decrease in revenue. For example, any decision by a client
to delay or cancel our services, or our under-utilization of
personnel, may cause significant variations in operating results
and could result in losses for the applicable quarters.
Additionally, as we secure larger clients, the time and expense
required to implement our services increases, which could
contribute to larger fluctuations in revenue.

The general condition of the United States
economy, and the current weakness in the economy, has and will
continue to affect our business. These effects have taken the
forms of declines in interest rates, client staff reductions,
strikes, and acquisitions of our clients by other companies,
among others. In addition, potential clients and existing
clients are also less likely to switch service providers and in
some cases are delaying or postponing purchasing decisions.
These factors could result in the reduction of the aggregate
amount of payroll that we process and the amount of interest
that we earn on such funds. In addition, the general condition
of the United States economy is affected by social, political
and military conditions. It is not possible to predict the
outcome of the recent escalation of hostilities between the
United States and certain countries and persons related to
terrorist events including the ones that took place on
September 11, 2001. Any response by the United States could
result in further weakness in the United States economy which
would have an adverse impact on our operating results and
financial condition. Our future revenue and results of
operations may vary substantially. In some future quarter our
results of operations could be below the expectations of public
market analysts and investors, which could cause the market
price of our common stock to decrease dramatically.

We need to incur substantial expenses to gain
more clients and expand our offerings, but we may not realize
profits from these expenses.Our
ability to achieve profitability will depend in part upon our
ability to attract and retain new clients, offer new services
and features and achieve market acceptance of new services.
Establishing new client relationships is a time-consuming and
expensive process. It generally takes three to twelve months or
longer, and implementing our services generally takes an
additional three to nine months or longer. These sales cycles
may lengthen as the economy continues to weaken. As we acquire
each new client, we incur substantial client acquisition costs,
which consist primarily of sales and implementation expenses
and, to a lesser extent, marketing expenses. We incur these
costs in advance of revenue, and we cannot guarantee that we
will fully recoup these costs. If we cannot maintain our
historically high client retention rate, our return on customer
acquisition cost will be significantly lower. As we expand our
service offerings, we incur substantial operating costs
associated with hiring the management and building the
operational infrastructure. We may not realize profits from
these investments, and failure to do so would harm our financial
condition and results of operations.

We incur substantial costs investing in new
technologies but may fail to successfully introduce new
offerings.We will incur substantial
costs in developing or acquiring new technologies and in
deploying new services and features to our clients. These costs
include costs associated with acquiring in-process technology
and amortization expenses related to intangible assets and costs
of additional personnel. If we cannot develop or acquire and
successfully introduce new services and new features of existing
services in a cost-effective manner, our business will suffer.
We have spent and will continue to spend significant time and
money in the development of our next generation proprietary
integrated technology and service platform, GOLDEN GATE, and in
the development and staffing of our outsourced employee
administrative services offering, Comprehensive Outsourcing. We
may not successfully develop this service or the underlying
platform on a timely basis. Even if successfully developed, our
ability to realize profits from these investments still depend
on our ability to acquire and retain a critical number of
clients. We only recently began offering Comprehensive
Outsourcing on a limited basis to certain clients based on their
needs and have minimal experience in selling, implementing and
providing the related services. Our inability to successfully
sell, implement or provide these and other new services on a
timely basis to existing or potential clients could harm our
growth strategy as well as our core operations. For example,
potential new clients may delay their purchase of our existing
services to wait to purchase Comprehensive Outsourcing and other
potential new clients may choose services offered by other
companies. In addition, existing clients may postpone their
purchase of additional services from us in anticipation of
Comprehensive Outsourcing.

7



---



Failure to adapt to evolving technologies and
standards will render our offerings obsolete and harm our
business.The technologies in which we
have invested to date are rapidly evolving and have short life
cycles. This means that we have to anticipate and rapidly adapt
to technological changes. In addition, our industry involves
increasingly sophisticated and varied needs of clients, frequent
new service and feature introductions and emerging industry
standards. The introduction of services with new technologies
and the emergence of new industry standards and practices can
render existing services obsolete and unmarketable in a short
period of time. Our future success will depend in part on our
ability to develop or acquire advanced technologies and enhance
our existing services with new features. We will also need to
add new services that address the changing needs of our clients
and respond to technological advances and emerging industry
standards and practices on a timely and cost-effective basis. If
we cannot meet these needs in a timely manner, our business will
suffer. In addition, several of our competitors invest
substantially greater amounts in research and development than
we do, which may allow them to introduce new services or
features before we do and therefore capture additional market
share.

Our revenue and expenses vary seasonally, and
our stock price may fluctuate correspondingly.We face significant seasonality in our
industry. Our revenue has fluctuated dramatically from quarter
to quarter. We realize the largest percentage of annual revenue
in our third and fourth fiscal quarters, primarily due to new
clients beginning services in the beginning of the tax year (our
third fiscal quarter) and higher interest income earned on
higher amounts of payroll tax funds invested. Our operating
expenses typically are higher as a percentage of revenue in the
first and third fiscal quarters. This results partly from our
increasing personnel to acquire new clients and to implement and
provide services to these new clients, particularly a large
percentage of new clients that begin services in the third
quarter. Seasonal fluctuation in our revenue and expenses,
especially unexpected fluctuation, could cause volatility or a
decrease in the price of our common stock

Major catastrophes and other similar problems
may cause us to lose client data and materially adversely
interrupt our operations.We currently
conduct substantially all of our payroll and payroll tax
processing at our headquarters in Pleasanton, California. We
divide the payroll printing and finishing between our Pleasanton
and Irvine, California facilities. The Irvine facility serves
both as an alternative processing center and a backup payroll
center. We conduct our Comprehensive Outsourcing operations in
Bothell, Washington. We do not have a benefits administration
back-up facility. For each payroll client, we establish a
complete set of payroll data at our Pleasanton processing
center, as well as at the clients site. In the event of a
disaster in Pleasanton, each client would have the ability to
process payroll checks based on the data they have at their own
site, if necessary. In addition, we have developed business
continuity plans for each of our mission-critical business
units. Our disaster recovery procedures, however, may not be
sufficient, and the payroll data recovered at the client site
may not be sufficient to allow the client to calculate and
produce payroll in a timely fashion.

Our operations depend on our ability to protect
our computer systems against damage from a major catastrophe
(such as an earthquake or other natural or man-made disaster),
fire, power loss, security breach, telecommunications failure or
similar event. Our facilities in California may be subject to
electrical blackouts as a consequence of a shortage of available
electrical power. If these blackouts continue or increase in
severity, they could disrupt the operations of our affected
facilities. The precautions we have taken to protect ourselves
from or minimize the impact of these and other events may be
inadequate. Any damage to our data centers, failure of
telecommunications links or breach of the security of our
computer systems could result in an interruption of our
operations, including a loss of data. Our insurance may not
cover these losses.

The loss of key personnel may lead to loss of
clients and proprietary information.Our success depends on the performance
of our senior management and other key employees. The loss of
the services of any senior management or other key employees
could harm our business. If one or more of our key employees
resigns to join or form a competitor, our business could suffer
due to the loss of personnel and any resulting loss of existing
or potential clients. If we lose any key personnel, we may be
unable to prevent the unauthorized disclosure or use of our
technical knowledge, practices, procedures or client lists by
the former employee. Disclosure of this information could harm
our business.

8



---



Our success depends on our ability to compete
effectively in the marketplace.The
market for our services is intensely competitive. It is also
subject to rapid change and significantly affected by new
service introductions and other market activities of industry
participants. In payroll processing and tax filing, we primarily
compete with several public and private service providers such
as Automatic Data Processing, Inc. and Ceridian Corporation.
Many of these companies have longer operating histories, greater
financial, technical, marketing and other resources, greater
name recognition and a larger number of clients than we do. In
addition, some of these companies offer more services or
features than we do and have processing facilities located
throughout the United States. We also compete with in-house
employee services departments and, to a lesser extent, banks and
local payroll companies. With respect to benefits administration
services, we compete with insurance companies, benefits
consultants and other local benefits outsourcing companies. We
may also compete with companies that market related products and
services that may offer payroll or administrative services in
the future. We have experienced, and expect to continue to
experience, competition from new entrants into our markets. We
have begun to see increased competition in certain portions of
our business from Big 5 accounting firms who market
complete outsourcing solutions to clients and then purchase
payroll and other services from us and our competitors.
Increased competition from these and other competitors will
result in pricing pressures, loss of market share or loss of
clients, any of which could harm our business.

We believe the principal competitive factors
affecting our market include the following:



| |   |                                      
| | - | -------------------------------------
| |  | system functionality and performance;
|
| |  | system and service flexibility;      
|
| |  | breadth of service offering;         
|
| |  | client service;                      
|
| |  | reputation and experience; and       
|
| |  | service cost.                        

Our inability to compete successfully will harm
our business and results of operations. Additionally, a
significant portion of our historic revenue growth resulted from
new client acquisition. A majority of our new clients have
historically come from our competitors. If we do not have the
same success in winning clients from our competitors in the
future, we would have to rely more on clients that are moving
from in-house operations to outsourcing. This could increase our
sales timeframe and our customer acquisition costs.

Our success depends on our ability to manage
growing and changing operations.Our
business has grown significantly in size and complexity over the
past five years. This growth has placed, and will continue to
place, significant demands on our management, systems, internal
controls and financial and physical resources. In order to meet
these demands, we intend to continue to hire new employees and
open new offices to attract and support new clients. We also
plan to continue spending on research and development, invest in
new equipment and make other capital expenditures. In addition,
we expect that we will need to develop further our financial and
managerial controls and reporting systems and procedures to
accommodate future growth. Our failure to expand successfully in
any of these areas in an efficient manner would harm our
business.

Changes in governmental policies could reduce
the need for our service offerings or otherwise harm our
business.Our services, particularly
tax filing and benefits plan administration, depend upon
government regulations that continually change. Failure to
timely implement corresponding changes to our services and
technology would harm our business and results of operations.
Changes in regulations could also reduce or eliminate the need
for our services and substantially decrease our revenue. In
addition, since we derive a significant portion of our revenue
from interest earned from investing collected but unremitted
payroll tax funds, changes in policies relating to withholding
federal or state income taxes, reductions in the time allowed to
remit tax payments owed to government authorities, or tax cuts
harm our business and results of operations. The federal
governments recent disaster relief for taxpayers, which
delays the due date for certain taxes, as well as recent tax
cuts and other measures approved by the federal government,
could harm our business and

9



---



results of operations by reducing the amount of
collected but unremitted payroll tax funds and delaying the
collection of, and correspondingly, the interest we would earn
on these funds.


We may make errors and omissions in performing
our services, which could subject us to fines and harm our
reputation.We have made errors and
omissions in the past and may make errors and omissions in
performing our services. For example, we may underpay taxes on
behalf of our clients, or we may file benefits plan forms late.
In addition to client liability, governmental authorities may
impose large cash penalties on our errors and omissions. These
errors and omissions are often not identified for several years
following the provision of the services, and there may be a
significant delay between the time an error or omission occurs
and when a penalty is imposed. To date, penalties have not been
significant. However, liabilities associated with penalties for
errors and omissions which occurred in the past and those that
may occur in the future could harm our business and results of
operations. Our reserves or insurance for any penalties may not
adequately protect us. Errors and omissions may also damage our
reputation and could harm our relationships with existing
clients and our ability to gain new clients.

Our employees may violate our relationship of
trust with our clients and lead to lawsuits against us.We have access to confidential
information and to client funds. Actions taken by our employees
in breach of our relationships with our clients may damage the
clients businesses. For example, if one or more of our
employees violates confidentiality agreements or misappropriate
funds, our clients may assert claims against us. Our fidelity
bond and errors and omissions insurance may not adequately cover
claims like these. Claims of these types could damage our client
relationships and harm our business and financial condition.

Acquisitions and investments, especially
unsuccessful ones, could harm our financial results.We have in the past and intend in the
future to make additional acquisitions and investments. Future
acquisitions could result in the issuance of dilutive equity
securities, the incurrence of debt or contingent liabilities.
Furthermore, strategic acquisitions or investments may not be
successfully integrated into our existing operations, or we may
not realize the anticipated benefits. If unsuccessful, they
could harm our business and financial condition.

We rely on third party couriers, whose failure
to deliver paychecks to our clients would harm our business.We depend on third-party courier
services to deliver paychecks to clients. We do not have formal
written agreements with any of the courier services that we use.
These courier services have failed in the past and may fail in
the future to pick up or deliver the paychecks in a timely
fashion. This failure could occur as a result of many factors,
including employee strikes, storms or other adverse weather
conditions, earthquakes or other natural or man-made disasters,
logistical or mechanical failures or accidents. Failure to
deliver client paychecks in a timely manner could damage our
reputation and harm our business.

We face substantial competition in attracting
experienced personnel, and we may be unable to grow as planned
if we cannot hire the right people.Our success depends to a significant
degree on our ability to attract and retain experienced
employees. We expect competition for experienced personnel to
continue. We have in the past and may in the future experience
difficulty in recruiting sufficient numbers of qualified
personnel. In particular, our ability to hire and train
implementation employees is critical to our ability to achieve
our growth objectives. Our inability to attract and retain
experienced personnel as required could harm our business.

Failure to improve our systems to accommodate
our geographic expansion would harm our business.Our ability to achieve significant
future revenue growth will in large part depend on our ability
to gain new clients throughout the United States. Growth and
expansion have placed and will continue to place a strain on our
operating and financial systems. To accommodate the increased
number of transactions and clients and the increased size of our
operations, we need to continue to implement and improve our
systems on a timely basis.

We may not have taken all necessary steps to
protect our intellectual property.Our
success depends in part upon our proprietary software
technology. We rely on a combination of contract, copyright and
trade secret laws to establish and protect our proprietary
technology. We have no patents, patent applications or
registered copyrights. We distribute our services under software
license agreements that grant clients licenses to use our
services and contain various provisions protecting our ownership
and the confidentiality of the

10



---



applicable technology. We generally enter into
confidentiality agreements with our employees and
confidentiality and/or license agreements with existing and
potential clients. We also limit access to and distribution of
our software, documentation and other proprietary information.
The steps taken to protect our proprietary technology may not be
adequate to deter misappropriation. Even if they are,
third-parties may develop similar or competing technologies
independently.


Claims from third parties relating to
infringement of intellectual property could harm our business.We cannot guarantee that our services
and technology do not infringe any existing patents, copyrights
or other proprietary rights of others. Third parties may assert
infringement claims against us in the future, which could
require us to incur substantial costs of defense and divert
management attention. Any resulting liabilities could also harm
our business or results of operations.

Implementation of Staff Accounting Bulletin
No. 101.Effective July 1, 2000,
we adopted the Securities and Exchange Commission (SEC) staff
issued Staff Accounting Bulletin No. 101 Revenue
Recognition in Financial Statements
(SAB 101). During the fourth quarter of FY2001
and retroactive to July 1, 2000, we changed our method of
accounting to recognize revenue from non-refundable, upfront
fees for implementation services, ratably over the contractual
term of the expected term of the customer relationship, which is
generally three years, using the straight-line method. Also, as
a result of the adoption of SAB 101, we now treat the
incremental direct costs of installation as deferred charges
that are amortized to implementation expense using the
straight-line method over the same term as the related revenue.
Previously, we recognized non-refundable, upfront fees as
revenue when the clients began services and certain related
direct costs when incurred, primarily in advance of revenues. We
believe the change in accounting principle is in accordance with
the guidance in SAB 101. The cumulative effect of the
change on prior years resulted in a decrease to the net loss of
$410,000 ($0.02 per share), which is included in net loss for
the year ended June 30, 2001. The effect of the change of
implementing SAB 101 for the year ended June 30, 2001
was to increase net loss before the cumulative effect of the
accounting change by $1.4 million ($0.06 per share). The
pro forma effect of adopting SAB 101 in prior years was not
material. We cannot be certain that we will be able to
accurately predict the impact of SAB 101 on future
quarters, however, we expect that SAB 101 will likely have
an adverse effect on our revenue recognition and may have an
adverse effect on our results of operations. However, we do not
expect SAB 101 to have an impact on our cash flow.

Our stock price has fluctuated and is likely
to continue to fluctuate.The market
price of our common stock has been and is likely to continue to
be highly volatile. Our stock price could fluctuate in response
to various factors, including the following:



| |   |                                                                                      
| | - | -------------------------------------------------------------------------------------
| |  | quarterly variations in operating results;                                           
|
| |  | announcements of technological innovations or new
	services by us or our competitors;
|
| |  | market conditions in the information services
	industry; and                         
|
| |  | changes in securities analysts estimates of
	our financial performance.             

Many of these factors are outside our control. In
addition, the stock market has experienced significant price and
volume fluctuations that have particularly affected the market
prices of equity securities of many technology and services
companies. These fluctuations are sometimes unrelated to the
operating performance of these companies. The market price of
our common stock could decline as a result of these broad market
fluctuations.

A handful of our stockholders have significant
control over our company, and their interests may differ from
yours.As of June 30, 2001, our
directors, executive officers, and principal stockholders
together controlled approximately 30% of our voting stock. If
these stockholders acted or voted together, they would have the
power to exercise a significant influence over the election of
our directors. They would also have significant control over
other matters requiring stockholder approval, including the
approval of major corporate transactions. In addition, this
concentration of ownership may delay or prevent a change in
control of our company, even when a change may be in the best
interests of the stockholders. Furthermore, the interests of
these stockholders may not always coincide with the interests of
our company or other stockholders.

11



---



Holders of our preferred stock have rights
senior to holders of our common stock, including the right to
receive dividends that will dilute the ownership of holders of
common stock.In August 2000, we sold
1,132,075 shares of 6.9% redeemable convertible preferred
stock. In the event of a merger or acquisition, the holders of
the preferred stock will receive $26.50 per share before any
amounts may be paid to holders of our common stock. The holders
of the preferred stock also will receive cumulative dividends at
an annual rate of 6.9% in the form of additional shares of
preferred stock. Therefore, the longer our preferred stock is
outstanding, the more dilution the holders of our common stock
will experience.

Our charter documents and Delaware law could
make an acquisition of our company difficult, even if an
acquisition may benefit our
stockholders.Provisions of our
certificate of incorporation, bylaws and Delaware law could make
it more difficult for a third party to acquire us, even if doing
so would benefit our stockholders. In particular, our
certificate of incorporation provides for three classes of
directors. Each director in each class is elected for a
three-year term, and a different class is elected each year.
These provisions make it difficult for a third party to gain
control of our board of directors.

We recently adopted a preferred stock rights
plan which has anti-takeover effects.We recently entered into a preferred
stock rights plan. The plan has the anti-takeover effect of
causing substantial dilution to a person or group that attempts
to acquire us on terms not approved by our board of directors.
The existence of the plan could limit the price that certain
investors might be willing to pay in the future for shares of
our common stock and could discourage, delay or prevent a merger
or acquisition that a stockholder may consider favorable.

You should not rely on forward-looking
statements because they are inherently uncertain.This annual report, including the
documents that we incorporate by reference, contains
forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and
Section 21E of the Securities Exchange Act of 1934. Any
statements about our expectations, beliefs, plans, objectives,
assumptions or future events or performance are not historical
facts and are forward-looking statements. We use words or
phrases such as anticipate, estimate,
plans, projects, continuing,
ongoing, expects, management
believes, we believe, we intend
and similar words or phrases to identify forward-looking
statements.

Forward-looking statements involve estimates,
assumptions and uncertainties that are difficult to predict and
actual results may differ materially from those expressed in
them. Any forward-looking statements are qualified in their
entirety by reference to the factors discussed throughout this
annual report. Among the key factors that could cause actual
results to differ materially from the forward-looking statements
include the items set forth in Risk Factors and the
following:



| |   |                                                                
| | - | ---------------------------------------------------------------
| |  | service offerings development;                                 
|
| |  | change in economic conditions of the various
	markets we serve;
|
| |  | opportunities or acquisitions that we pursue;                  
|
| |  | the availability and terms of capitalization or
	financing; and
|
| |  | changes to the macro economy.                                  

You should not rely on forward-looking statements
because our actual results could materially differ from those
expressed in any forward-looking statements made by us. Further,
any forward-looking statement applies only as of the date on
which it is made. We are not required to update any
forward-looking statement or statements to reflect events or
circumstances after the date on which the statement is made or
to reflect the occurrence of unanticipated events.

Quantitative and Qualitative Disclosures About
Market Risk

We invest funds from collected but unremitted
payroll tax funds. In FY2001, we held certain derivative- based
products to mitigate interest rate fluctuation risk. In FY2000
and 2001, we entered into various interest rate swap agreements
with a financial institution. The purpose of these agreements is
to convert a portion of the interest we earn from collected but
unremitted payroll tax funds from a variable to a fixed rate
basis. We

12



---



typically enter into hedge instruments with
notional amounts that cover the majority of our average daily
balance of the funds invested. Based on our derivative positions
at June 30, 2001, we reported a net asset of
$14.2 million for the fair value of our derivative
portfolio and a corresponding offset in other comprehensive
income. In FY2001, the fair value of our derivative based
products increased as a result of the downward trend in interest
rates throughout the year. Assuming a hypothetical decrease in
interest rates of 100 basis points given the June 30, 2001
derivative positions, the resulting potential increases in fair
value of the derivatives would be in the range of
$9 million to $11 million. Conversely, a corresponding
increase in interest rates would result in a comparable decrease
in fair value. This hypothetical decrease or increase in the
fair value of the portfolio would be recorded as an adjustment
to the portfolios recorded value, with an offsetting
amount recorded as other comprehensive income (loss) in the
statement of stockholders equity, with no related or
immediate impact to the results of operations.


The collateral exposure associated with our
various interest rate swap agreements are limited by interest
rate caps we hold. As of June 30, 2001, we held two
interest rate cap agreements with expiration dates of April 2002
and January 2003, both with cap rates of 8.0%. The aggregate
fair value of these cap agreements at June 30, 2001 was
$57,000.

Invested funds are primarily comprised of money
market mutual funds and other debt instruments carrying
maturities of one to three days. The portion of the invested
funds that would be subject to changes in fair value, including
commercial paper, primarily carry maturities of less than
30 days and represent less than 9% of the overall amount of
invested funds. Changes in prevailing interest rates can cause
corresponding changes in the fair value of our invested funds.
Due to the composition of our invested funds, primarily terms,
instruments, and duration, changes in interest rates would not
cause material changes in the overall fair value of our invested
funds. Our investment policy guidelines limit the size and
duration of our individual investments.

Market for Registrants Common Equity and
Related Stockholder Matters

(a)  Our Common Stock is quoted on the
Nasdaq National Market under the symbol PRBZ. The
following table sets forth, for the fiscal periods indicated,
the high and low sales prices of our Common Stock as reported by
the Nasdaq National Market.

|               |  |      |       |     |  |   |       | 
|-------------- |  | ---- | ----- | --- |  | - | ----- | 
|               |  | High |       | Low
|               |  |      |       |    
|FY2000:        |  |      |       |     |  |   |       | 
|              
|              
|              
|              
|First Quarter  |  | $    | 37.00 |     |  | $ | 25.25 | 
|              
|              
|              
|              
|Second Quarter |  | $    | 39.00 |     |  | $ | 18.25 | 
|              
|              
|              
|              
|Third Quarter  |  | $    | 35.00 |     |  | $ | 21.50 | 
|              
|              
|              
|              
|Fourth Quarter |  | $    | 28.88 |     |  | $ | 20.00 | 
|              
|              
|              
|              
|FY2001:        |  |      |       |     |  |   |       | 
|              
|              
|              
|              
|First Quarter  |  | $    | 31.30 |     |  | $ | 17.25 | 
|              
|              
|              
|              
|Second Quarter |  | $    | 35.69 |     |  | $ | 25.56 | 
|              
|              
|              
|              
|Third Quarter  |  | $    | 33.78 |     |  | $ | 20.06 | 
|              
|              
|              
|              
|Fourth Quarter |  | $    | 26.55 |     |  | $ | 20.50 | 

On August 27, 2001, there were 4,310
beneficial holders of our Common Stock. The last reported sale
price per share of our Common Stock on September 24, 2001
on the Nasdaq National Market was $17.19. We have never declared
or paid any cash dividends on our capital stock.

13



---



ProBusiness Services, Inc.



CONSOLIDATED BALANCE SHEETS


(In thousands, except share and per share
amounts)


|                                                                                                                                                                                                                                    |                                                                                                                                                                     |          |           |         |   |   |           |         |  
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -------- | --------- | ------- | - | - | --------- | ------- | -
|                                                                                                                                                                                                                                    |                                                                                                                                                                     |         
|                                                                                                                                                                                                                                    |                                                                                                                                                                     | June 30,
|                                                                                                                                                                                                                                    |                                                                                                                                                                     |         
|                                                                                                                                                                                                                                    |                                                                                                                                                                     | 2000     |           | 2001   
|                                                                                                                                                                                                                                    |                                                                                                                                                                     |          |           |        
|ASSETS                                                                                                                                                                                                                              |                                                                                                                                                                     |          |           |         |   |   |           |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|Current assets:                                                                                                                                                                                                                     |                                                                                                                                                                     |          |           |         |   |   |           |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                    | Cash and cash equivalents                                                                                                                                           |          | $         | 27,585  |   |   | $         | 28,693  |  
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                    | Short-term investments                                                                                                                                              |          |           | 13,336  |   |   |           | 27,102  |  
|                                                                                                                                                                                                                                    |                                                                                                                                                                     |          |           |         |   |   |           |        
|Total cash, cash equivalents and short-term
	investments                                                                                                                                                                            |                                                                                                                                                                     |          | 40,921    |         |   |   | 55,795    |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                    | Restricted cash                                                                                                                                                     |          |           | 4,616   |   |   |           |        |  
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                    | Accounts receivable, net of allowances of $1,685
	at June  30, 2000, and $1,968 at June 30, 2001                                                                    |          |           | 10,769  |   |   |           | 12,774  |  
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                    | Prepaid expenses and other current assets                                                                                                                           |          |           | 5,304   |   |   |           | 12,597  |  
|                                                                                                                                                                                                                                    |                                                                                                                                                                     |          |           |         |   |   |           |        
|                                                                                                                                                                                                                                    |                                                                                                                                                                     |          | 61,610    |         |   |   | 81,166    |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|Payroll tax funds invested                                                                                                                                                                                                          |                                                                                                                                                                     |          | 1,054,903 |         |   |   | 1,511,124 |        
|                                                                                                                                                                                                                                    |                                                                                                                                                                     |          |           |         |   |   |           |        
|Total current assets                                                                                                                                                                                                                |                                                                                                                                                                     |          | 1,116,513 |         |   |   | 1,592,290 |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|Long-term investments                                                                                                                                                                                                               |                                                                                                                                                                     |          | 1,999     |         |   |   | 3,200     |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|Equipment, furniture and fixtures, net                                                                                                                                                                                              |                                                                                                                                                                     |          | 40,535    |         |   |   | 44,020    |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|Other assets                                                                                                                                                                                                                        |                                                                                                                                                                     |          | 23,174    |         |   |   | 41,616    |        
|                                                                                                                                                                                                                                    |                                                                                                                                                                     |          |           |         |   |   |           |        
|Total assets                                                                                                                                                                                                                        |                                                                                                                                                                     | $        | 1,182,221 |         |   | $ | 1,681,126 |        
|                                                                                                                                                                                                                                    |                                                                                                                                                                     |          |           |         |   |   |           |        
|LIABILITIES, REDEEMABLE CONVERTIBLE PREFERRED
	STOCK
	AND STOCKHOLDERS EQUITY                                                                                                                                                      |                                                                                                                                                                     |          |           |         |   |   |           |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|Current Liabilities:                                                                                                                                                                                                                |                                                                                                                                                                     |          |           |         |   |   |           |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                    | Accounts payable                                                                                                                                                    |          | $         | 4,069   |   |   | $         | 5,845   |  
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                    | Accrued liabilities                                                                                                                                                 |          |           | 13,527  |   |   |           | 29,041  |  
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                    | Deferred revenue                                                                                                                                                    |          |           | 3,377   |   |   |           | 4,596   |  
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                    | Current portion of capital lease obligations                                                                                                                        |          |           | 458     |   |   |           | 123     |  
|                                                                                                                                                                                                                                    |                                                                                                                                                                     |          |           |         |   |   |           |        
|                                                                                                                                                                                                                                    |                                                                                                                                                                     |          | 21,431    |         |   |   | 39,605    |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|Payroll tax funds collected but unremitted                                                                                                                                                                                          |                                                                                                                                                                     |          | 1,054,903 |         |   |   | 1,511,124 |        
|                                                                                                                                                                                                                                    |                                                                                                                                                                     |          |           |         |   |   |           |        
|Total current liabilities                                                                                                                                                                                                           |                                                                                                                                                                     |          | 1,076,334 |         |   |   | 1,550,729 |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|Deferred revenue, less current portion                                                                                                                                                                                              |                                                                                                                                                                     |          | 13,061    |         |   |   | 17,760    |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|Capital lease obligations, less current portion                                                                                                                                                                                     |                                                                                                                                                                     |          | 376       |         |   |   | 137       |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|Commitments                                                                                                                                                                                                                         |                                                                                                                                                                     |          |          |         |   |   |          |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|Redeemable convertible preferred stock, $.001 par
	value; authorized: 1,8000,000 shares; issued and outstanding:
	none at June 30, 2000 and 1,132,075 shares at June 30,
	2001 (Liquidation preference of $31,400 at June 30, 2001) |                                                                                                                                                                     |          |          |         |   |   | 31,246    |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|Stockholders equity:                                                                                                                                                                                                               |                                                                                                                                                                     |          |           |         |   |   |           |        
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                    | Preferred stock, $.001 par value; authorized:
	3,200,000 shares; issued and outstanding: none at June 30,
	2000 and none at June 30, 2001                           |          |           |        |   |   |           |        |  
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                    | Common stock, $.001 par value; authorized:
	60,000,000 shares; issued and outstanding: 23,584,027 shares at
	June  30, 2000, and 24,138,617 shares at June 30, 2001 |          |           | 23      |   |   |           | 24      |  
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                    | Additional paid-in capital                                                                                                                                          |          |           | 154,528 |   |   |           | 163,411 |  
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                    | Notes receivable from stockholders                                                                                                                                  |          |           | (288    | ) |   |           | (87     | )
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                    | Accumulated deficit                                                                                                                                                 |          |           | (61,813 | ) |   |           | (96,403 | )
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                   
|                                                                                                                                                                                                                                    | Accumulated other comprehensive income                                                                                                                              |          |           |        |   |   |           | 14,309  |  
|                                                                                                                                                                                                                                    |                                                                                                                                                                     |          |           |         |   |   |           |        
|Total stockholders equity                                                                                                                                                                                                          |                                                                                                                                                                     |          | 92,450    |         |   |   | 81,254    |        
|                                                                                                                                                                                                                                    |                                                                                                                                                                     |          |           |         |   |   |           |        
|Total liabilities, redeemable convertible
	preferred stock and stockholders equity                                                                                                                                                 |                                                                                                                                                                     | $        | 1,182,221 |         |   | $ | 1,681,126 |        
|                                                                                                                                                                                                                                    |                                                                                                                                                                     |          |           |         |   |   |           |        

See accompanying notes.

14



---



ProBusiness Services, Inc.

CONSOLIDATED STATEMENTS OF
OPERATIONS

(In thousands, except per share
amounts)


|                                                                     |                                                               |                     |         |        |   |      |         |        |   |   |         |         |  
|-------------------------------------------------------------------- | ------------------------------------------------------------- | ------------------- | ------- | ------ | - | ---- | ------- | ------ | - | - | ------- | ------- | -
|                                                                     |                                                               |                    
|                                                                     |                                                               | Year Ended June 30,
|                                                                     |                                                               |                    
|                                                                     |                                                               | 1999                |         | 2000   |   | 2001
|                                                                     |                                                               |                     |         |        |   |     
|Revenue:                                                             |                                                               |                     |         |        |   |      |         |        |   |   |         |        
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|                                                                     | Service fees                                                  |                     | $       | 50,553 |   |      | $       | 74,378 |   |   | $       | 104,835 |  
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|                                                                     | Interest income from payroll tax funds invested               |                     |         | 19,592 |   |      |         | 29,694 |   |   |         | 45,026  |  
|                                                                     |                                                               |                     |         |        |   |      |         |        |   |   |         |        
|Total revenue                                                        |                                                               |                     | 70,145  |        |   |      | 104,072 |        |   |   | 149,861 |        
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Operating expenses:                                                  |                                                               |                     |         |        |   |      |         |        |   |   |         |        
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|                                                                     | Cost of providing services                                    |                     |         | 34,509 |   |      |         | 49,378 |   |   |         | 76,679  |  
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|                                                                     | General and administrative                                    |                     |         | 10,750 |   |      |         | 15,673 |   |   |         | 24,583  |  
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|                                                                     | Research and development                                      |                     |         | 9,917  |   |      |         | 12,091 |   |   |         | 18,586  |  
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|                                                                     | Client acquisition costs                                      |                     |         | 29,862 |   |      |         | 43,762 |   |   |         | 66,560  |  
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|                                                                     | Merger costs                                                  |                     |         | 3,500  |   |      |         |       |   |   |         |        |  
|                                                                     |                                                               |                     |         |        |   |      |         |        |   |   |         |        
|Total operating expenses                                             |                                                               |                     | 88,538  |        |   |      | 120,904 |        |   |   | 186,408 |        
|                                                                     |                                                               |                     |         |        |   |      |         |        |   |   |         |        
|Loss from operations                                                 |                                                               |                     | (18,393 | )      |   |      | (16,832 | )      |   |   | (36,547 | )      
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Interest expense                                                     |                                                               |                     | (685    | )      |   |      | (512    | )      |   |   | (952    | )      
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Interest income and other, net                                       |                                                               |                     | 2,969   |        |   |      | 3,427   |        |   |   | 3,898   |        
|                                                                     |                                                               |                     |         |        |   |      |         |        |   |   |         |        
|Net loss before cumulative effect of change in
	accounting principle |                                                               |                     | (16,109 | )      |   |      | (13,917 | )      |   |   | (33,601 | )      
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Cumulative effect of change in accounting
	principle (Note 1)        |                                                               |                     |        |        |   |      |        |        |   |   | 410     |        
|                                                                     |                                                               |                     |         |        |   |      |         |        |   |   |         |        
|Net loss                                                             |                                                               | $                   | (16,109 | )      |   | $    | (13,917 | )      |   | $ | (33,191 | )      
|                                                                     |                                                               |                     |         |        |   |      |         |        |   |   |         |        
|Basic and diluted net loss per share:                                |                                                               |                     |         |        |   |      |         |        |   |   |         |        
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|                                                                     | Before cumulative effect of change in accounting
	principle   |                     | $       | (0.77  | ) |      | $       | (0.60  | ) |   | $       | (1.47   | )
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|                                                                     | Cumulative effect of change in accounting
	principle (Note 1) |                     |         |       |   |      |         |       |   |   |         | 0.02    |  
|                                                                     |                                                               |                     |         |        |   |      |         |        |   |   |         |        
|Basic and diluted net loss per share                                 |                                                               | $                   | (0.77   | )      |   | $    | (0.60   | )      |   | $ | (1.45   | )      
|                                                                     |                                                               |                     |         |        |   |      |         |        |   |   |         |        
|Shares used in computing basic and diluted net
	loss per share       |                                                               |                     | 21,033  |        |   |      | 23,229  |        |   |   | 23,840  |        
|                                                                     |                                                               |                     |         |        |   |      |         |        |   |   |         |        

See accompanying notes.

15



---



ProBusiness Services, Inc.



CONSOLIDATED STATEMENTS OF REDEEMABLE
CONVERTIBLE PREFERRED STOCK


AND STOCKHOLDERS EQUITY


(In thousands, except share amounts)


|                                                                                                                |                                                             |                 |           |                 |  |                      |        |            |  |            |   |             |  |               |   |              |  |         |            |               |  |        |    |   |  |   |         |   |  |   |        |   |  |   |         |   |  |   |        |        |   |   |         |        |  
|--------------------------------------------------------------------------------------------------------------- | ----------------------------------------------------------- | --------------- | --------- | --------------- |  | -------------------- | ------ | ---------- |  | ---------- | - | ----------- |  | ------------- | - | ------------ |  | ------- | ---------- | ------------- |  | ------ | -- | - |  | - | ------- | - |  | - | ------ | - |  | - | ------- | - |  | - | ------ | ------ | - | - | ------- | ------ | -
|                                                                                                                |                                                             |                 |           |                 |  |                     
|                                                                                                                |                                                             |                 |           |                 |  | Stockholders Equity
|                                                                                                                |                                                             |                 |           |                 |  |                     
|                                                                                                                |                                                             |                 |           |                 |  |                      |        |            |  |           
|                                                                                                                |                                                             |                 |           | Preferred Stock |  | Common Stock         |        |           
|                                                                                                                |                                                             | Redeemable      |           |                 |  |                      |        |           
|                                                                                                                |                                                             | Convertible     |           |                 |  |                      |        | Notes      |  |            |   | Accumulated |  |              
|                                                                                                                |                                                             | Preferred Stock |           |                 |  |                      |        | Additional |  | Receivable |   |             |  | Other         |   | Total       
|                                                                                                                |                                                             |                 |           |                 |  |                      |        | Paid in    |  | from       |   | Accumulated |  | Comprehensive |   | Stockholders
|                                                                                                                |                                                             | Shares          |           | Amount          |  | Shares               |        | Amount     |  | Shares     |   | Amount      |  | Capital       |   | Stockholders |  | Deficit |            | Income/(Loss) |  | Equity
|                                                                                                                |                                                             |                 |           |                 |  |                      |        |            |  |            |   |             |  |               |   |              |  |         |            |               |  |       
|Balances at June  30, 1998                                                                                      |                                                             |                 | 263       |                 |  | $                    | 2,538  |            |  |            |  |             |  |               |  |              |  |         | 18,008,729 |               |  | $      | 18 |   |  | $ | 54,854  |   |  | $ | (1,175 | ) |  | $ | (31,787 | ) |  | $ |       |        |   | $ | 21,910  |       
|                                                                                                                |                                                             |                 |           |                 |  |                      |        |            |  |            |   |             |  |               |   |              |  |         |            |               |  |        |    |   |  |   |         |   |  |   |        |   |  |   |         |   |  |   |        |        |   |   |         |       
|Issuance of common stock in connection with
	public offering, net of offering costs                             |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         | 3,191,250  |               |  |        | 3  |   |  |   | 80,708  |   |  |   |       |   |  |   |        |   |  |   |       |        |   |   | 80,711  |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Exercise of common stock warrants                                                                               |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         | 178,790    |               |  |        |   |   |  |   | 450     |   |  |   |       |   |  |   |        |   |  |   |       |        |   |   | 450     |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Exercise of common stock options                                                                                |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         | 342,562    |               |  |        |   |   |  |   | 1,062   |   |  |   |       |   |  |   |        |   |  |   |       |        |   |   | 1,062   |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Conversion of redeemable and convertible
	preferred stock into common stock                                     |                                                             |                 | (263      | )               |  |                      | (2,538 | )          |  |            |  |             |  |               |  |              |  |         | 819,055    |               |  |        | 1  |   |  |   | 8,130   |   |  |   |       |   |  |   |        |   |  |   |       |        |   |   | 8,131   |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Issuance of common stock under the employee stock
	purchase plan                                                |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         | 401,976    |               |  |        | 1  |   |  |   | 2,984   |   |  |   |       |   |  |   |        |   |  |   |       |        |   |   | 2,985   |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Repayment of notes receivable from stockholders                                                                 |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         |           |               |  |        |   |   |  |   |        |   |  |   | 294    |   |  |   |        |   |  |   |       |        |   |   | 294     |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Issuance of common stock warrants                                                                               |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         |           |               |  |        |   |   |  |   | 96      |   |  |   |       |   |  |   |        |   |  |   |       |        |   |   | 96      |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Net loss and comprehensive loss                                                                                 |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         |           |               |  |        |   |   |  |   |        |   |  |   |       |   |  |   | (16,109 | ) |  |   |       |        |   |   | (16,109 | )     
|                                                                                                                |                                                             |                 |           |                 |  |                      |        |            |  |            |   |             |  |               |   |              |  |         |            |               |  |        |    |   |  |   |         |   |  |   |        |   |  |   |         |   |  |   |        |        |   |   |         |       
|Balances at June  30, 1999                                                                                      |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         | 22,942,362 |               |  |        | 23 |   |  |   | 148,284 |   |  |   | (881   | ) |  |   | (47,896 | ) |  |   |       |        |   |   | 99,530  |       
|                                                                                                                |                                                             |                 |           |                 |  |                      |        |            |  |            |   |             |  |               |   |              |  |         |            |               |  |        |    |   |  |   |         |   |  |   |        |   |  |   |         |   |  |   |        |        |   |   |         |       
|Exercise of common stock warrants                                                                               |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         |           |               |  |        |   |   |  |   | 259     |   |  |   |       |   |  |   |        |   |  |   |       |        |   |   | 259     |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Exercise of common stock options, net of
	repurchased shares                                                    |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         | 336,884    |               |  |        |   |   |  |   | 2,460   |   |  |   |       |   |  |   |        |   |  |   |       |        |   |   | 2,460   |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Issuance of common stock under the employee stock
	purchase plan                                                |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         | 304,781    |               |  |        |   |   |  |   | 3,525   |   |  |   |       |   |  |   |        |   |  |   |       |        |   |   | 3,525   |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Repayment of notes receivable from stockholders                                                                 |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         |           |               |  |        |   |   |  |   |        |   |  |   | 593    |   |  |   |        |   |  |   |       |        |   |   | 593     |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Net loss and comprehensive loss                                                                                 |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         |           |               |  |        |   |   |  |   |        |   |  |   |       |   |  |   | (13,917 | ) |  |   |       |        |   |   | (13,917 | )     
|                                                                                                                |                                                             |                 |           |                 |  |                      |        |            |  |            |   |             |  |               |   |              |  |         |            |               |  |        |    |   |  |   |         |   |  |   |        |   |  |   |         |   |  |   |        |        |   |   |         |       
|Balances at June  30, 2000                                                                                      |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         | 23,584,027 |               |  |        | 23 |   |  |   | 154,528 |   |  |   | (288   | ) |  |   | (61,813 | ) |  |   |       |        |   |   | 92,450  |       
|                                                                                                                |                                                             |                 |           |                 |  |                      |        |            |  |            |   |             |  |               |   |              |  |         |            |               |  |        |    |   |  |   |         |   |  |   |        |   |  |   |         |   |  |   |        |        |   |   |         |       
|Issuance of redeemable convertible preferred
	stock in connection with additional funding, net of funding costs |                                                             |                 | 1,132,075 |                 |  |                      | 29,847 |            |  |            |  |             |  |               |  |              |  |         |           |               |  |        |   |   |  |   |        |   |  |   |       |   |  |   |        |   |  |   |       |        |   |   |        |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Redeemable convertible preferred stock dividend                                                                 |                                                             |                 |          |                 |  |                      | 1,399  |            |  |            |  |             |  |               |  |              |  |         |           |               |  |        |   |   |  |   |        |   |  |   |       |   |  |   | (1,399  | ) |  |   |       |        |   |   | (1,399  | )     
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Exercise of common stock warrants                                                                               |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         | 23,039     |               |  |        |   |   |  |   |        |   |  |   |       |   |  |   |        |   |  |   |       |        |   |   |        |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Exercise of common stock options                                                                                |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         | 315,360    |               |  |        | 1  |   |  |   | 4,346   |   |  |   |       |   |  |   |        |   |  |   |       |        |   |   | 4,347   |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Issuance of common stock under the employee stock
	purchase plan                                                |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         | 216,191    |               |  |        |   |   |  |   | 4,537   |   |  |   |       |   |  |   |        |   |  |   |       |        |   |   | 4,537   |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Repayment of notes receivable from stockholders                                                                 |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         |           |               |  |        |   |   |  |   |        |   |  |   | 201    |   |  |   |        |   |  |   |       |        |   |   | 201     |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Net loss                                                                                                        |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         |           |               |  |        |   |   |  |   |        |   |  |   |       |   |  |   | (33,191 | ) |  |   |       |        |   |   | (33,191 | )     
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|Other comprehensive income/(loss):                                                                              |                                                             |                 |           |                 |  |                      |        |            |  |            |   |             |  |               |   |              |  |         |            |               |  |        |    |   |  |   |         |   |  |   |        |   |  |   |         |   |  |   |        |        |   |   |         |       
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                                | Cumulative effect of adoption of FAS  133                   |                 |           |                 |  |                      |        |            |  |            |   |             |  |               |   |              |  |         |            |               |  |        |    |   |  |   |         |   |  |   |        |   |  |   |         |   |  |   |        | (5,016 | ) |   |         | (5,016 | )
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                               
|                                                                                                                | Increase in fair value of derivative instruments
	and other |                 |           |                |  |                      |        |           |  |            |   |            |  |               |   |             |  |         |            |              |  |        |    |  |  |   |         |  |  |   |        |  |  |   |         |  |  |   |        | 19,325 |   |   |         | 19,325 |  
|                                                                                                                |                                                             |                 |           |                 |  |                      |        |            |  |            |   |             |  |               |   |              |  |         |            |               |  |        |    |   |  |   |         |   |  |   |        |   |  |   |         |   |  |   |        |        |   |   |         |       
|Total comprehensive loss                                                                                        |                                                             |                 |          |                 |  |                      |       |            |  |            |  |             |  |               |  |              |  |         |           |               |  |        |   |   |  |   |        |   |  |   |       |   |  |   |        |   |  |   |       |        |   |   | (18,882 | )     
|                                                                                                                |                                                             |                 |           |                 |  |                      |        |            |  |            |   |             |  |               |   |              |  |         |            |               |  |        |    |   |  |   |         |   |  |   |        |   |  |   |         |   |  |   |        |        |   |   |         |       
|Balances at June  30, 2001                                                                                      |                                                             |                 | 1,132,075 |                 |  | $                    | 31,246 |            |  |            |  |             |  |               |  |              |  |         | 24,138,617 |               |  | $      | 24 |   |  | $ | 163,411 |   |  | $ | (87    | ) |  | $ | (96,403 | ) |  | $ | 14,309 |        |   | $ | 81,254  |       
|                                                                                                                |                                                             |                 |           |                 |  |                      |        |            |  |            |   |             |  |               |   |              |  |         |            |               |  |        |    |   |  |   |         |   |  |   |        |   |  |   |         |   |  |   |        |        |   |   |         |       

See accompanying notes.

16



---



ProBusiness Services, Inc.

CONSOLIDATED STATEMENTS OF CASH
FLOWS

(In thousands)


|                                                                                                     |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |   |        |        |  
|---------------------------------------------------------------------------------------------------- | ---------------------------------------------------------------------------- | -------------------------------------------- | ----------------------------------------- | ---- | ----- | ------ | ------- | - | ------ | ------ | ------- | - | ------ | ------ | -
|                                                                                                     |                                                                              |                                             
|                                                                                                     |                                                                              | Year Ended June 30,                         
|                                                                                                     |                                                                              |                                             
|                                                                                                     |                                                                              | 1999                                         |                                           | 2000 |       | 2001  
|                                                                                                     |                                                                              |                                              |                                           |      |       |       
|Operating activities                                                                                 |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Net loss                                                                                             |                                                                              | $                                            | (16,109                                   | )    |       | $      | (13,917 | ) |        | $      | (33,191 | )
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                     | Adjustments to reconcile net loss to net cash
	used in operating activities: |                                              |                                           |      |       |        |         |   |        |        |         |   |       
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                     |                                                                              | Depreciation and amortization                |                                           |      | 7,316 |        |         |   | 10,729 |        |         |   | 15,090 |       
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                     |                                                                              | Cumulative effect of accounting change       |                                           |      |      |        |         |   |       |        |         |   | (410   | )     
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                     |                                                                              | Other                                        |                                           |      | 93    |        |         |   |       |        |         |   |       |       
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                     |                                                                              | Issuance of warrants                         |                                           |      | 96    |        |         |   |       |        |         |   |       |       
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                     |                                                                              | Changes in operating assets and liabilities: |                                           |      |       |        |         |   |        |        |         |   |        |       
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                     |                                                                              |                                              | Accounts receivable, net                  |      |       | (1,333 | )       |   |        | (6,170 | )       |   |        | (2,005 | )
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                     |                                                                              |                                              | Prepaid expenses and other current assets |      |       | (1,534 | )       |   |        | (1,527 | )       |   |        | (2,867 | )
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                     |                                                                              |                                              | Other assets                              |      |       | (777   | )       |   |        | (840   | )       |   |        | (2,129 | )
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                     |                                                                              |                                              | Accounts payable                          |      |       | 1,725  |         |   |        | 412    |         |   |        | 1,776  |  
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                     |                                                                              |                                              | Accrued liabilities                       |      |       | 6,072  |         |   |        | (6,103 | )       |   |        | 15,514 |  
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                     |                                                                              |                                              | Deferred revenue                          |      |       | 3,358  |         |   |        | 10,941 |         |   |        | 5,678  |  
|                                                                                                     |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|Net cash used in operating activities                                                                |                                                                              |                                              | (1,093                                    | )    |       |        | (6,475  | ) |        |        | (2,544  | )
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Investing activities                                                                                 |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Purchases of available for sale investments                                                          |                                                                              |                                              |                                          |      |       |        | (15,335 | ) |        |        | (43,941 | )
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Maturities of available for sale investments                                                         |                                                                              |                                              |                                          |      |       |        |        |   |        |        | 29,107  |  
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Purchases of equipment, furniture and fixtures                                                       |                                                                              |                                              | (22,223                                   | )    |       |        | (19,095 | ) |        |        | (17,697 | )
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Capitalization of software development costs                                                         |                                                                              |                                              | (4,100                                    | )    |       |        | (6,482  | ) |        |        | (6,791  | )
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Additional consideration paid in connection with
	the acquisition of BeneSphere Administrators, Inc. |                                                                              |                                              | (2,367                                    | )    |       |        |        |   |        |        |        |  
|                                                                                                     |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|Net cash used in investing activities                                                                |                                                                              |                                              | (28,690                                   | )    |       |        | (40,912 | ) |        |        | (39,322 | )
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Financing activities                                                                                 |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|(Increase) decrease in restricted cash                                                               |                                                                              |                                              |                                          |      |       |        | (4,616  | ) |        |        | 4,616   |  
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Proceeds from long-term debt and notes payable                                                       |                                                                              |                                              | 451                                       |      |       |        |        |   |        |        |        |  
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Repayments under long-term debt and notes payable                                                    |                                                                              |                                              | (323                                      | )    |       |        |        |   |        |        |        |  
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Principal payments on capital lease obligations                                                      |                                                                              |                                              | (1,263                                    | )    |       |        | (824    | ) |        |        | (574    | )
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Proceeds from issuance of redeemable convertible
	preferred stock                                    |                                                                              |                                              | 5,045                                     |      |       |        |        |   |        |        | 29,847  |  
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Proceeds from issuance of common stock                                                               |                                                                              |                                              | 85,208                                    |      |       |        | 6,244   |   |        |        | 8,884   |  
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Repayment of notes receivable from stockholder                                                       |                                                                              |                                              | 294                                       |      |       |        | 593     |   |        |        | 201     |  
|                                                                                                     |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|Net cash provided by financing activities                                                            |                                                                              |                                              | 89,412                                    |      |       |        | 1,397   |   |        |        | 42,974  |  
|                                                                                                     |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|Net increase (decrease) in cash and cash
	equivalents                                                |                                                                              |                                              | 59,629                                    |      |       |        | (45,990 | ) |        |        | 1,108   |  
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Cash and cash equivalents, beginning of period                                                       |                                                                              |                                              | 13,946                                    |      |       |        | 73,575  |   |        |        | 27,585  |  
|                                                                                                     |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|Cash and cash equivalents, end of period                                                             |                                                                              | $                                            | 73,575                                    |      |       | $      | 27,585  |   |        | $      | 28,693  |  
|                                                                                                     |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|Supplemental disclosure of cash flow
	information                                                    |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Interest paid                                                                                        |                                                                              | $                                            | 652                                       |      |       | $      | 475     |   |        | $      | 613     |  
|                                                                                                     |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|Supplemental schedule of non-cash investing
	and financing activities                                |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|Purchases of equipment under capital lease
	obligations                                              |                                                                              | $                                            | 365                                       |      |       | $      |        |   |        | $      |        |  
|                                                                                                     |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|Issuance of preferred stock in satisfaction of
	notes payable                                        |                                                                              | $                                            | 455                                       |      |       | $      |        |   |        | $      |        |  
|                                                                                                     |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|Conversion of redeemable convertible preferred
	stock to common stock                                |                                                                              | $                                            | 8,131                                     |      |       | $      |        |   |        | $      |        |  
|                                                                                                     |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|Acquisition of BeneSphere Administrations,
	Inc.                                                     |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  
|                                                                                                    
|                                                                                                    
|                                                                                                    
|                                                                                                    
|BeneSphere contingent consideration                                                                  |                                                                              | $                                            | 2,519                                     |      |       | $      |        |   |        | $      |        |  
|                                                                                                     |                                                                              |                                              |                                           |      |       |        |         |   |        |        |         |  

See accompanying notes.

17



---



PROBUSINESS SERVICES, INC.

NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS



|   |                                                            
|-- | -----------------------------------------------------------
|1. | The Company and Summary of Significant
	Accounting Policies

Operations

ProBusiness Services, Inc. (the
Company) provides outsourced integrated employee
administrative services for large employers nationwide. The
Companys primary service offerings are payroll processing,
payroll tax filing, benefits administration services,
Comprehensive Outsourcing services, human resources software and
self-service applications.

In April 1999, the Company acquired all of the
outstanding capital stock of Clemco, Inc. (Conduit
Parent), a Georgia corporation and wholly-owned
subsidiary. Conduit Parent was the parent and sole stockholder
of Conduit Software, Inc., a provider of employee relationship
management applications. The transaction was recorded using the
pooling-of-interests method of accounting, and as such, all
financial information for all dates and periods prior to the
acquisition has been restated to reflect the acquisition
(Note 11). Effective June 30, 2001, Conduit Software,
Inc. merged with Conduit Parent and then Conduit Parent merged
with the Company and is no longer a wholly-owned subsidiary.

On September 30, 1999, the Company formed a
wholly-owned subsidiary, ProBusiness Holding Company, Inc.
(ProBusiness Holdings), in order to meet the
requirements of certain customers associated with the transfer,
investment and distribution of payroll tax funds invested. All
client payroll tax funds transferred to the Company are directed
to, and maintained by, ProBusiness Holdings. ProBusiness
Holdings responsibilities are limited to the payment of
all payroll tax funds collected but unremitted and the transfer
to the Company of all interest income derived from such balances.

Basis of Presentation

The consolidated financial statements include the
accounts of the Company and its wholly-owned subsidiary. All
significant intercompany transactions and balances have been
eliminated in consolidation.

Business Activities

Payroll Processing.The Company processes time and
attendance data to calculate and produce employee paychecks,
direct deposits and reports for its clients. The Companys
clients receive paychecks and reports within approximately 24 to
48 hours of receipt of their electronically submitted data.
The system is highly configurable to meet the specialized and,
often times, complex needs of large employers, yet maintains the
ability to provide high-volume processing. The system integrates
easily with the clients general ledger, human resource,
and time and attendance systems. In addition, the Company offers
features, including the automatic enrollment and tracking of
paid time off, prorating of compensation for new hires and
integrated garnishment processing.

Payroll Tax Filing.The Company collects contributed
employer and employee payroll tax funds from clients, holds such
funds in a financial institution until payment is due (such
funds being segregated from the Companys other accounts
and, since October 1, 1999, maintained under a subsidiary
holding company, ProBusiness Holdings), remits such funds to the
appropriate taxing authorities when due, files related federal,
state and local tax returns, coupons or other required payroll
tax data and reconciles the clients account. The Company
is subject to cash penalties imposed by tax authorities for late
filings or underpayment of taxes. To date, the payment of such
penalties have not been significant. Additionally, the Company
will represent the client before tax authorities in disputes or
inquiries. A substantial portion of the Companys existing
payroll clients utilize its payroll tax filing service.

18



---



PROBUSINESS SERVICES, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

The Company records collected but unremitted
payroll tax funds at cost and invests them in various financial
instruments, which consist of the following (in thousands):

|                          |  |          |           |      |  |   |           | 
|------------------------- |  | -------- | --------- | ---- |  | - | --------- | 
|                          |  |         
|                          |  | June 30,
|                          |  |         
|Financial Instruments     |  | 2000     |           | 2001
|                          |  |          |           |     
|Money market funds        |  | $        | 178,800   |      |  | $ | 658,300   | 
|                         
|                         
|                         
|                         
|Commercial paper          |  |          | 804,500   |      |  |   | 759,100   | 
|                         
|                         
|                         
|                         
|Variable rate instruments |  |          | 20,000    |      |  |   | 41,300    | 
|                         
|                         
|                         
|                         
|Certificates of deposit   |  |          | 45,000    |      |  |   | 50,000    | 
|                         
|                         
|                         
|                         
|Cash and cash equivalents |  |          | 6,603     |      |  |   | 2,424     | 
|                          |  |          |           |      |  |   |           | 
|                          |  | $        | 1,054,903 |      |  | $ | 1,511,124 | 
|                          |  |          |           |      |  |   |           | 

As a result of the types of financial instruments
in which the Company invests, the carrying amount of such
investments approximates fair value. If borrowers fail to meet
the terms of their obligations under these financial
instruments, the Company would incur losses on these
investments. The Companys collected but unremitted payroll
tax fund investments are held primarily with one custodial
financial institution.

Benefits Administration Services.The Companys benefits
administration services include flexible benefits enrollment and
processing, COBRA administration and consolidated billing and
eligibility tracking. These services include data management,
reconciliation, transaction processing, employee inquiry
management and client service.

Human Resources Software.The Companys human resources
software tracks and reports general employee information,
including compensation, benefits, skills, performance, training,
job titles and medical history. For clients who also use the
Companys payroll service, the human resources data can be
transferred to the payroll services system, thus eliminating the
need for duplicate data entry.

Comprehensive Outsourcing.The Companys Comprehensive
Outsourcing service offering, which includes payroll
administration, serves as an extension of the clients
business as the Company fully manages employee inquiries and
other departmental administrative functions for payroll, human
resource and benefits in addition to the traditional back-office
processing services. When a client adopts the Comprehensive
Outsourcing service offering, the Company assumes the management
of such transactional administration as the recording and
verification of time, the issuance of manual checks, the
enrollment of employees in flexible spending benefit programs
and the auditing and balancing of payroll.

Web-Based Self-Service Applications.The Companys Web-based
self-service applications provide employers with a complete
range of employee relationship management applications.
Employers have a web-based tool, which not only facilitates
human resource and payroll processes, but also allows employees
to utilize self-directed administration services.

Derivative Financial Instruments

The Company adopted Statement of Financial
Accounting Standards (SFAS) No. 133,
Accounting for Derivative Instruments and Hedging
Activities, effective July 1, 2000. SFAS No. 133
requires the Company to recognize all derivatives, such as
interest rate swap agreements, on the consolidated balance sheet
at fair value regardless of the purpose for holding the
instrument. If the derivative is a hedge, depending on the
nature of the hedge, changes in the fair value of the derivative
will either be offset against the change in fair value of the
hedged assets, liabilities or firm commitments through operating
results or recognized in other comprehensive income until the
hedged item is recognized in operating results. Any ineffective
portion of a derivatives change in fair value will be
immediately recognized in operating results and any derivatives
that are not hedges must be adjusted to fair value through
operating results.

19



---



PROBUSINESS SERVICES, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

For derivative instruments that are designated
and qualify as a cash flow hedge (i.e., hedging the
exposure to variability in expected future cash flows that is
attributable to a particular risk), the effective portion of the
gain or loss on the derivative instrument is reported as a
component of other comprehensive income and reclassified into
operating results in the same period or periods during which the
hedged transaction affects operating results. The remaining gain
or loss on the derivative instrument in excess of the cumulative
change in the present value of future cash flows of the hedged
item, if any, is recognized in current operating results during
the period of change. For derivative instruments not designated
as hedging instruments, the gain or loss is recognized in
current operating results during the period of change.

The Company enters into interest rate swap
agreements, which are designated as cash flow hedges, for
interest rate risk exposure management purposes. The interest
rate swap agreements utilized by the Company effectively modify
the Companys exposure to interest rate risk by converting
a portion of the Companys floating rate interest income to
a fixed rate. These agreements, with fixed interest rates
between 4.835% and 7.355%, each have a term of two years and
expire at various dates through May 2003. Interest is paid or
received based upon the product of the contractual notional
balance multiplied by the difference in the fixed interest rate
and the contractual floating rate option. The contractual
notional balance varies on a monthly basis due to fluctuations
in projected holdings of collected but unremitted payroll tax
funds. At June 30, 2001, the notional balance was
$485 million and the average monthly notional balance for
the remaining term of the agreements was $505 million. The
agreements require collateral at the option of the financial
institution if interest rates increase and certain other
conditions are met as defined in the agreements.

During the year ended June 30, 2001, the
Company did not recognize a net gain or loss related to the
ineffective portion of its hedging instruments, and no net gain
or loss related to the portion of the hedging instrument
excluded from the assessment of hedge effectiveness. The Company
recognized no gains or losses during FY2001, for cash flow
hedges that have been discontinued.

The cumulative effect as of July 1, 2000 of
adopting FAS 133 was to record a net liability of
$5.0 million and a corresponding offset to other
comprehensive loss. During FY2001 the Company recorded an
increase in the fair value of derivative instruments of
$19.2 million and reported a net asset of
$14.2 million for the fair value of the Companys
derivative portfolio at June 30, 2001.

During FY2001, the Company held various interest
rate cap agreements. The purposes of these financial products
are to limit the collateral exposure associated with the various
interest rate swap agreements held by the Company. As of
June 30, 2001, the Company held two interest rate cap
agreements with expiration dates of April 2002 and January 2003
both with cap rates of 8.0%. The aggregate fair value of these
agreements was $57,000.

Use of
Estimates

The preparation of financial statements in
conformity with generally accepted accounting principles
requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities and the reported
amounts of revenues and expenses during the period. Such
estimates include, but are not limited to, provisions for
doubtful accounts and penalties and interest relating to payroll
tax processing and estimates regarding the recoverability of
capitalized software. Actual results could differ from these
estimates.

Cash and Cash
Equivalents

The Company considers all highly liquid
investments with an original maturity of three months or less to
be cash equivalents. At June 30, 2001, cash and cash
equivalents ($28.7 million) consisted primarily of taxable
investments in money market funds held with two domestic
financial institutions.

20



---



PROBUSINESS SERVICES, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

Restricted
Cash

There were no restricted cash balances at
June 30, 2001. Restricted cash at June 30, 2000,
consisted of $4.6 million of cash held as collateral for
the interest rate swap agreements. These funds were held with
the same financial institution as the interest rate swaps.

Investments

The Company accounts for its investments in
accordance with Statement of Financial Accounting Standards
No. 115, Accounting for Certain Investments in Debt
and Equity Securities. Management determines the
appropriate classification of debt securities at the time of
purchase and reevaluates such designation as of each balance
sheet date.

The Company has classified its short and
long-term investments as available-for-sale. Available-for-sale
investments are recorded at fair value with unrealized gains and
losses reported as other comprehensive income (loss) and
included within accumulated other comprehensive income
(loss) in the statement of stockholders equity. Fair
values of investments are based on quoted market prices, where
available. There were no material gains or losses from sales of
securities in the periods presented. Interest income is
recognized when earned.

The following summarizes the fair value of the
Companys short-term investments at June 30, 2001 (in
thousands):

|                        |  |           |        |            |  |            |    |        |  |   |    |   |  |   |        | 
|----------------------- |  | --------- | ------ | ---------- |  | ---------- | -- | ------ |  | - | -- | - |  | - | ------ | 
|                        |  |           |        | Gross      |  | Gross      |    | Fair  
|                        |  | Amortized |        | Unrealized |  | Unrealized |    | Market
|                        |  | Cost      |        | Gains      |  | Losses     |    | Value 
|                        |  |           |        |            |  |            |    |       
|Commercial paper        |  | $         | 9,746  |            |  | $          |   |        |  | $ | (3 | ) |  | $ | 9,743  | 
|                       
|                       
|                       
|                       
|Certificates of deposit |  |           | 17,348 |            |  |            | 11 |        |  |   |    |   |  |   | 17,359 | 
|                        |  |           |        |            |  |            |    |        |  |   |    |   |  |   |        | 
|                        |  | $         | 27,094 |            |  | $          | 11 |        |  | $ | (3 | ) |  | $ | 27,102 | 
|                        |  |           |        |            |  |            |    |        |  |   |    |   |  |   |        | 

The following summarizes the fair value of the
Companys long-term investments at June 30, 2001 (in
thousands):

|                 |  |           |       |            |  |            |     |        |  |   |   |  |  |   |       | 
|---------------- |  | --------- | ----- | ---------- |  | ---------- | --- | ------ |  | - | - |  |  | - | ----- | 
|                 |  |           |       | Gross      |  | Gross      |     | Fair  
|                 |  | Amortized |       | Unrealized |  | Unrealized |     | Market
|                 |  | Cost      |       | Gains      |  | Losses     |     | Value 
|                 |  |           |       |            |  |            |     |       
|Commercial paper |  | $         | 3,075 |            |  | $          | 125 |        |  | $ |  |  |  | $ | 3,200 | 
|                 |  |           |       |            |  |            |     |        |  |   |   |  |  |   |       | 

Equipment,
Furniture and Fixtures

Equipment, furniture and fixtures are stated at
cost, net of accumulated depreciation and amortization.
Depreciation of equipment, furniture and fixtures is computed
using the straight-line method over the estimated useful lives
of the assets, which range from three to seven years. Leasehold
improvements and assets under capital leases are amortized over
the shorter of the life of the asset or the term of the lease.

Revenue
Recognition

Revenue from processing and other services under
client contracts is recognized as the services are performed
provided that no other obligations are required to be performed.
Deferred revenue is recorded when the Company has future
commitments to customers. Interest income earned on unremitted
payroll tax funds invested is recognized as earned.

Effective July 1, 2000, the Company adopted
the Securities and Exchange Commission (SEC) staff issued
Staff Accounting Bulletin No. 101 Revenue Recognition
in Financial Statements (SAB 101).

21



---



PROBUSINESS SERVICES, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

During the fourth quarter of FY2001 and
retroactive to July 1, 2000, the Company changed its method
of accounting to recognize revenue from non-refundable, upfront
fees for implementation services, ratably over the contractual
term or the expected term of the customer relationship, which is
generally three years, using the straight-line method. Also, as
a result of the adoption of SAB 101, the Company now treats the
incremental direct costs of installation as deferred charges
that are amortized to implementation expense using the
straight-line method over the same term as the related revenue.
Previously, the Company recognized non-refundable, upfront fees
as revenue when the clients began services and certain related
direct costs when incurred, primarily in advance of revenues.
The Company believes the change in accounting principle is in
accordance with the guidance in SAB 101. The cumulative
effect of the change on prior years resulted in a decrease to
the net loss of $410,000 ($0.02 per share), which is included in
net loss for the year ended June 30, 2001. The effect of
the change of implementing SAB 101 for the year ended
June 30, 2001 was to increase net loss before the
cumulative effect of the accounting change by $1.4 million
($0.06 per share). The pro forma effect of adopting SAB 101
in prior years was not material.

The Companys sales are primarily to
customers in the United States. Credit evaluations are performed
as necessary, and the Company does not require collateral from
customers.

The Company generally requires its payroll tax
outsourcing customers to remit payroll tax liability funds to
the Company in advance of the applicable payroll due date, via
electronic funds transfer. These funds are classified as payroll
tax funds invested in the accompanying balance sheets. Interest
earned on invested balances resulting from timing differences
between the collection of these funds from customers and the
remittance of such funds to outside parties is included in total
revenues in the accompanying consolidated statements of
operations, as this interest income represents an integral part
of the revenue generated from the Companys services.
Interest income generated from the Companys cash, cash
equivalents and short and long-term investment balances is
included in other income in the accompanying consolidated
statements of operations, as this interest income does not
result from the Companys operating activities.

Goodwill and
Other Intangible Assets

Intangible assets, which have generally resulted
from business combinations accounted for as purchases are
included in other assets and are carried at cost less
accumulated amortization. Amortization is provided on a
straight-line basis over the respective useful lives, which
range from three to twenty years. Management periodically
reviews the carrying amounts of the Companys intangible
assets for indicators of impairment.

Long-Lived
Assets

The Company evaluates its long-lived assets in
accordance with Financial Accounting Standards Board (FASB)
Statements of Financial Accounting Standards No. 121,
Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of, which requires
impairment losses to be recorded on long-lived assets used in
operations, such as property, equipment and improvements, and
intangible assets, when indicators of impairment are present and
the undiscounted cash flows estimated to be generated by those
assets are less than the carrying amount of the assets.

In July 2001, the Financial Accounting Standards
Board issued SFAS No. 141, Business
Combinations, and SFAS No. 142, Goodwill and
Other Intangible Assets. SFAS No. 141 eliminates the
pooling-of-interests method of accounting for business
combinations, except for qualifying business combinations that
were initiated prior to July 1, 2001. Under SFAS
No. 142, goodwill and indefinite lived intangible assets
are no longer amortized but are reviewed annually, or more
frequently if impairment indicators arise, for impairment. The
Company is required to adopt SFAS No 142 on July 1,
2002. The Company has not yet determined the impact, if any,
that SFAS Nos. 141 and 142 will have on its consolidated
financial statements.

22



---



PROBUSINESS SERVICES, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

Software
Development Costs

The Company capitalizes software development
costs in accordance with SFAS No. 86, Accounting for
Costs of Computer Software to be Sold, Leased or Otherwise
Marketed, under which certain software development costs
incurred subsequent to the establishment of technological
feasibility may be capitalized and amortized over the estimated
useful lives of the products. The Company determines
technological feasibility to be established upon the completion
of a working model. The Company amortizes the capitalized
software development costs using the greater of the
straight-line basis over the estimated product life, which is
generally a 36 month period, or the ratio of current
revenue to the total of current revenue and anticipated future
revenue over the life of the related product. Such amortization
is included in cost of providing services within the
consolidated statements of operations.

In connection with the Companys acquisition
of Conduit Parent, the Company accounted for various contracts
as end-user funding arrangements. The Company recorded the costs
incurred under these arrangements as research and development
expense and the revenues earned as a reduction of research and
development expense. Research and development expense was
reduced by $1,072,000 for FY1999 for the revenues earned under
these arrangements.

Income
Taxes

The Company accounts for income taxes in
accordance with SFAS No. 109, Accounting for Income
Taxes, which requires the use of the liability method.
Under SFAS No. 109, deferred tax assets and liabilities are
measured based on differences between the financial reporting
and tax basis of assets and liabilities using enacted tax rates
and laws that are expected to be in effect when the differences
are expected to reverse. Valuation allowances are established
when necessary to reduce deferred tax assets to the net amounts
expected to be realized (Note 5).

Accounting for
Stock-Based Compensation

The Company accounts for employee stock options
in accordance with Accounting Principles Board Opinion
No. 25, Accounting for Stock Issued to
Employees (APB 25) and has adopted the
disclosure only alternative as described in SFAS
No. 123, Accounting for Stock-Based
Compensation (SFAS 123) (Note 8).

Basic and
Diluted Net Loss per Share

Shares used in computing basic and diluted net
income (loss) per share are based on the weighted average
shares outstanding in each period. Net loss applicable to common
stockholders includes the Redeemable Convertible Preferred Stock
(Preferred Stock) dividend of $1.4 million for
the year ended June 30, 2001. Basic net income
(loss) per share excludes any dilutive effects of stock
options. Diluted net income (loss) per share includes the
dilutive effect of the assumed exercise of stock options using
the treasury stock method. However, the effect of outstanding
stock options has been excluded from the calculation of diluted
net loss per share, as their inclusion would be antidilutive.

23



---



PROBUSINESS SERVICES, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

A reconciliation of shares used in the
calculation of basic and diluted net loss per share follows (in
thousands except per share information):

|                                                                                                             |  |      |         |      |  |      |         |   |  |   |         |  
|------------------------------------------------------------------------------------------------------------ |  | ---- | ------- | ---- |  | ---- | ------- | - |  | - | ------- | -
|                                                                                                             |  | 1999 |         | 2000 |  | 2001
|                                                                                                             |  |      |         |      |  |     
|Net loss                                                                                                     |  | $    | (16,109 | )    |  | $    | (13,917 | ) |  | $ | (33,191 | )
|                                                                                                            
|                                                                                                            
|                                                                                                            
|                                                                                                            
|Redeemable convertible preferred stock dividend                                                              |  |      |        |      |  |      |        |   |  | $ | (1,399  | )
|                                                                                                             |  |      |         |      |  |      |         |   |  |   |         |  
|Net loss applicable to common stockholders                                                                   |  | $    | (16,109 | )    |  | $    | (13,917 | ) |  | $ | (34,590 | )
|                                                                                                             |  |      |         |      |  |      |         |   |  |   |         |  
|Weighted average shares of common stock
	outstanding used in computing basic and diluted net loss per
	share |  |      | 21,033  |      |  |      | 23,229  |   |  |   | 23,840  |  
|                                                                                                             |  |      |         |      |  |      |         |   |  |   |         |  
|Basic and diluted net loss per share                                                                         |  | $    | (0.77   | )    |  | $    | (0.60   | ) |  | $ | (1.45   | )
|                                                                                                             |  |      |         |      |  |      |         |   |  |   |         |  

If the Company had reported net income, the
calculation of diluted earnings per share would have included
the shares used in the computation of historical net loss per
share as well as an additional 1,271,000, 907,000 and 1,744,000
common equivalent shares related to outstanding stock options,
Preferred Stock and warrants not included above (determined
using the treasury stock method) for the year ended
June 30, 1999, 2000 and 2001, respectively.

Reclassifications

Certain prior year balances have been
reclassified to conform to the current year presentation.

2.     Equipment,
Furniture and Fixtures

Equipment, furniture and fixtures consist of the
following (in thousands):

|                                               |  |          |        |      |  |   |        | 
|---------------------------------------------- |  | -------- | ------ | ---- |  | - | ------ | 
|                                               |  |         
|                                               |  | June 30,
|                                               |  |         
|                                               |  | 2000     |        | 2001
|                                               |  |          |        |     
|Equipment and leasehold improvements           |  | $        | 57,699 |      |  | $ | 72,088 | 
|                                              
|                                              
|                                              
|                                              
|Furniture and fixtures                         |  |          | 5,573  |      |  |   | 6,196  | 
|                                               |  |          |        |      |  |   |        | 
|                                               |  |          | 63,272 |      |  |   | 78,284 | 
|                                              
|                                              
|                                              
|                                              
|Less accumulated depreciation and amortization |  |          | 22,737 |      |  |   | 34,264 | 
|                                               |  |          |        |      |  |   |        | 
|                                               |  | $        | 40,535 |      |  | $ | 44,020 | 
|                                               |  |          |        |      |  |   |        | 

Equipment, furniture and fixtures include amounts
for assets acquired under capital leases, principally
production, office and computer equipment, of $4,167,000 and
$3,953,000 at June 30, 2000 and 2001, respectively.
Accumulated amortization of these assets was $3,369,000 and
$3,647,000 at June 30, 2000 and 2001, respectively.

3.     Line-of-Credit
Agreement

On June 30, 1998, the Company executed an
Amended and Restated Loan and Security Agreement with a
financial institution. The agreement provides for borrowings
that are limited to the lesser of $20,000,000, or the sum of
five times the Companys average monthly net collections,
as defined in the agreement, plus the lesser of five times the
Companys average monthly collections of the interest on
tax investment funds as defined in the agreement, or $5,000,000.
The agreement superseded all previous line-of-credit agreements.

At June 30, 2000 and 2001 no borrowings were
outstanding under the agreement, and the amount available for
borrowing under the agreement was approximately $20,000,000.
Borrowings outstanding under the agreement bear interest at the
banks prime rate plus 1% (prime rates were 9.5% at
June 30, 2000 and 6.75% at June 30, 2001) and are
collateralized by substantially all of the Companys assets
not otherwise

24



---



PROBUSINESS SERVICES, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

encumbered. The financial covenants of the
agreement require the Company to maintain minimum net worth and
earnings-to-debt service ratios. The agreement expires on
September 30, 2001.

4.     Commitments
and Contingencies

The Company leases its facilities and various
equipment under non-cancelable operating leases, which expire at
various dates through 2011. The facility leases generally
require the Company to pay operating costs, including property
taxes, insurance and maintenance, and contain renewal options
and provisions adjusting the lease payments based upon changes
in operating costs or in fixed increments. Rent expense is
reflected on a straight-line basis over the terms of the related
leases. The Company is also obligated under a number of capital
equipment leases expiring in 2003.

The future minimum lease payments under capital
and operating leases subsequent to June 30, 2001, are
summarized as follows (in thousands):

|                                                        |            |         |     |           |  |   |        |        | 
|------------------------------------------------------- | ---------- | ------- | --- | --------- |  | - | ------ | ------ | 
|                                                        |            | Capital |     | Operating
|                                                        |            | Leases  |     | Leases   
|                                                        |            |         |     |          
|Year ending June 30,                                    |            |         |     |           |  |   |        |       
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | 2002       |         | $   | 148       |  |   | $      | 6,951  | 
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | 2003       |         |     | 145       |  |   |        | 6,925  | 
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | 2004       |         |     |           |  |   |        | 6,933  | 
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | 2005       |         |     |           |  |   |        | 6,731  | 
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | 2006       |         |     |           |  |   |        | 5,999  | 
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Thereafter |         |     |           |  |   |        | 25,651 | 
|                                                        |            |         |     |           |  |   |        |       
|Total minimum lease payments                            |            | $       | 293 |           |  | $ | 59,190 |       
|                                                        |            |         |     |           |  |   |        |       
|Less amounts representing interest                      |            |         | 33  |           |  |   |        |       
|                                                        |            |         |     |           |  |   |        |       
|Present value of net minimum capital lease
	obligations |            |         | 260 |           |  |   |        |       
|                                                       
|                                                       
|                                                       
|                                                       
|Less current portion                                    |            |         | 123 |           |  |   |        |       
|                                                        |            |         |     |           |  |   |        |       
|                                                        |            | $       | 137 |           |  |   |        |       
|                                                        |            |         |     |           |  |   |        |       

Rent expense was approximately $4,543,000,
$5,013,000 and $5,569,000 for FY1999, 2000 and 2001,
respectively.

The Company is a party to routine litigation
incidental to its business. In the opinion of management such
current or pending lawsuits, either individually or in the
aggregate, are not likely to have a material adverse effect on
the Companys financial condition, results of operations or
cash flows.

5.     Income
Taxes

As of June 30, 2001, the Company had federal
net operating loss carryforwards of approximately $68,000,000.
The Company also had federal research and development tax credit
carryforwards of approximately $2,500,000. The federal net
operating loss and credit carryforwards will expire at various
dates beginning with the fiscal year ending 2004 through 2021,
if not utilized.

Utilization of the net operating losses and
credits may be subject to a substantial annual limitation due to
the ownership change limitations provided by the Internal
Revenue Code of 1986 and similar state provisions. The annual
limitation may result in the expiration of net operating losses
and credits before utilization.

25



---



PROBUSINESS SERVICES, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

Significant components of the Companys
deferred tax assets and liabilities are as follows (in
thousands):

|                               |                                               |          |         |        |   |   |         |        |  
|------------------------------ | --------------------------------------------- | -------- | ------- | ------ | - | - | ------- | ------ | -
|                               |                                               |         
|                               |                                               | June 30,
|                               |                                               |         
|                               |                                               | 2000     |         | 2001  
|                               |                                               |          |         |       
|Deferred tax assets:           |                                               |          |         |        |   |   |         |       
|                              
|                              
|                              
|                              
|                               | Net operating loss carryforwards              |          | $       | 13,226 |   |   | $       | 23,785 |  
|                              
|                              
|                              
|                              
|                               | Research and development credit carryforwards |          |         | 3,260  |   |   |         | 3,614  |  
|                              
|                              
|                              
|                              
|                               | Equipment, furniture and fixtures             |          |         | 2,503  |   |   |         | 1,463  |  
|                              
|                              
|                              
|                              
|                               | Deferred revenue                              |          |         | 5,237  |   |   |         | 7,576  |  
|                              
|                              
|                              
|                              
|                               | Accruals                                      |          |         | 3,341  |   |   |         | 6,239  |  
|                               |                                               |          |         |        |   |   |         |       
|Gross deferred tax assets      |                                               |          | 27,567  |        |   |   | 42,677  |       
|                              
|                              
|                              
|                              
|Less valuation allowance       |                                               |          | (23,476 | )      |   |   | (30,997 | )     
|                               |                                               |          |         |        |   |   |         |       
|Deferred tax assets            |                                               |          | 4,091   |        |   |   | 11,680  |       
|                              
|                              
|                              
|                              
|Deferred tax liabilities:      |                                               |          |         |        |   |   |         |       
|                              
|                              
|                              
|                              
|                               | Capitalized software development costs        |          |         | (4,091 | ) |   |         | (5,946 | )
|                              
|                              
|                              
|                              
|                               | Unrealized gain                               |          |         |       |   |   |         | (5,734 | )
|                               |                                               |          |         |        |   |   |         |       
|Gross deferred tax liabilities |                                               |          | (4,091  | )      |   |   | (11,680 | )     
|                              
|                              
|                              
|                              
|Net deferred taxes             |                                               | $        |        |        |   | $ |        |       
|                               |                                               |          |         |        |   |   |         |       

A valuation allowance has been established, and
accordingly, no benefit has been recognized for the
Companys net operating losses and deferred tax assets. The
net valuation allowance increased by $7,521,000 during the year
ended June 30, 2001. The Company believes that, based on a
number of factors, the available objective evidence creates
sufficient uncertainty regarding the realizability of the
deferred tax assets such that a full valuation allowance has
been recorded. These factors include the Companys history
of net losses since its inception and expected near-term future
losses. The Company will continue to assess the realizability of
the deferred tax assets based on actual and forecasted operating
results.

Deferred tax assets relating to net operating
loss carryforwards as of June 30, 2001, include
approximately $5,000,000 associated with stock option activity
for which any subsequently recognized tax benefits will be
credited directly to stockholders equity.

6.     Redeemable
Convertible Preferred Stock



| |                          
| | -------------------------
| | Related to Conduit Merger

As indicated in Note 11, in connection with the
Companys acquisition of Conduit Parent, the Company
restated its consolidated financial statements to include the
consolidated financial position and results of operations of
Conduit Parent.

In November 1997, Conduit Parent sold 215,800
shares of Series B redeemable convertible preferred stock
for approximately $7.80 per share, resulting in net proceeds to
the Company of $1,000,000 and the cancellation of notes payable
and accrued interest totaling $683,000. The Company has
reflected the accretion of discount as a charge to accumulated
deficit. In May 1998, Conduit Parent sold 46,980 shares of
Series C redeemable convertible preferred stock for
approximately $11.01 per share, resulting in net proceeds to the
Company of $500,000. In December 1998, Conduit Parent sold
328,715 shares of Series D redeemable convertible preferred
stock for approximately $9.91 per share, resulting in net
proceeds to the Company of $2,795,000 and the cancellation of
notes payable and accrued interest totaling $455,000. In
February 1999, Conduit Parent sold 227,560 shares of
Series D redeemable convertible preferred stock for
approximately $9.91 per share, resulting in net proceeds to the
Company of $2,250,000.

26



---



PROBUSINESS SERVICES, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

Effective with the merger of Conduit Parent with
ProBusiness, all shares of redeemable convertible preferred
stock were converted to Conduit Parent common stock and were
exchanged for 819,055 shares of ProBusiness common stock.



| |                       
| | ----------------------
| | Related to ProBusiness

On August 1, 2000, the Company authorized,
issued and sold 1,132,075 shares of Redeemable Convertible
Preferred Stock (Preferred Stock) to General
Atlantic Partners, LLC (GAP) and certain affiliates
of GAP at $26.50 per share. The Preferred Stock ranks senior to
the Companys common stock (Common Stock). The
holders of the Preferred Stock are entitled to receive
cumulative dividends at an annual rate of 6.9% in the form of
additional shares of Preferred Stock. The payment of these
dividends commenced on October 1, 2000, and these dividends
are payable quarterly on the first day of October, January,
April and July. Upon liquidation of the Company, the holders of
the Preferred Stock are entitled to be paid an amount equal to
$26.50 per share plus all accrued and unpaid dividends. Any
holder of Preferred Stock has the right to convert such
holders shares of Preferred Stock into shares of the
Companys Common Stock at a rate of one share of Preferred
Stock to one share of the Companys Common Stock, subject
to adjustments, as defined. The Company has the option to
convert all of the Preferred Stock to Common Stock for a period
of five days after August 1, 2005 if the then current
market price of the Companys Common Stock price is equal
to or greater than $26.50 per share on such date at a rate of
one share of Preferred Stock to one share of the Companys
Common Stock, subject to adjustments, as defined. If, as of any
date after August 1, 2003, the then current market price of
the Companys Common Stock is equal to or greater than
$39.00 per share, the Company may redeem any or all of the then
current outstanding Preferred Stock at $26.50 per share. The
conversion rate for the Preferred Stock is subject to adjustment
for stock splits, stock dividends and recapitalizations, among
other things, after the date of issue of such stock. In the
event of a change in control of the Company, holders of at least
two-thirds of the Preferred Stock can elect to treat the
transaction as a liquidation and for this reason the Preferred
Stock is considered to be redeemable by the holders
of the Preferred Stock.

The holders of the Preferred Stock vote, as a
single class, with the Companys common shareholders,
except that as long as GAP owns a majority of the Companys
Preferred Stock, the then holders of such Preferred Stock are
entitled to elect one director to the Companys Board of
Directors. As of June 30, 2001, a Partner of GAP is a
member of the Companys current Board of Directors.

7.     Stockholders
Equity

Warrants

At June 30, 2001 there were warrants to
purchase 50,961 shares of common stock outstanding. These
warrants were issued in November 1996 at an exercise price of
$2.65 and expire in September 2002.

During the year ended June 30, 2001, the
Company issued 23,039 shares of common stock upon exercise of
warrants, all of which were exercised pursuant to net exercise
provisions. During the year ended June 30, 2000, no
warrants were exercised. During the year ended June 30,
1999, the Company issued 178,790 shares of common stock upon
exercise of warrants, a portion of which were exercised pursuant
to net exercise provisions, for a total of $450,000.

27



---



PROBUSINESS SERVICES, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)



| |                                    
| | -----------------------------------
| | Shares reserved for future issuance

At June 30, 2001, the company has reserved
shares of common stock for future issuance as follows:

|                                                              |  |  |           | 
|------------------------------------------------------------- |  |  | --------- | 
|                                                             
|                                                             
|                                                             
|                                                             
|Redeemable convertible preferred stock outstanding            |  |  | 1,132,075 | 
|                                                             
|                                                             
|                                                             
|                                                             
|Stock options outstanding                                     |  |  | 5,108,842 | 
|                                                             
|                                                             
|                                                             
|                                                             
|Stock options available for grant                             |  |  | 908,269   | 
|                                                             
|                                                             
|                                                             
|                                                             
|Stock available for grant under employee stock
	purchase plan |  |  | 556,955   | 
|                                                             
|                                                             
|                                                             
|                                                             
|Redeemable convertible preferred stock dividends              |  |  | 52,865    | 
|                                                             
|                                                             
|                                                             
|                                                             
|Warrants outstanding                                          |  |  | 50,961    | 
|                                                              |  |  |           | 
|                                                              |  |  | 7,809,967 | 
|                                                              |  |  |           | 

8.     Stock Option
and Stock Purchase Plans

Stock Option
Plans

The Companys 1989 Stock Option Plan
(1989 Plan) provided for the granting to employees
(including officers and employee directors) of incentive
stock options within the meaning of the Internal Revenue
Code of 1999, as amended (the Code) and for the
granting to employees, directors and consultants of nonstatutory
stock options. In February 1997, the Board of Directors of the
Company increased the shares available for future grants under
the 1989 Plan by 2,063,649 for a total of 4,480,872 shares.
Options granted under the 1989 Plan before the effective date of
the amendment and restatement to the 1996 Plan in September
1997, described below, remain outstanding in accordance with
their terms; however, no further options were granted under the
1989 Plan after the effective date of the amendment and
restatement to the 1996 Plan.

In 1996, the Company established the 1996
Executive Stock Option Plan (Executive Plan), which
provides for stock options to employees and consultants. Under
the Executive Plan, the Board of Directors may grant
nonstatutory stock options to employees and consultants and
incentive stock options to employees only. The Company reserved
1,125,000 shares of common stock for exercise of stock options
under the Executive Plan. The grant of incentive stock options
to an employee who owns stock representing more than 10% of the
voting power of all classes of stock of the Company must be no
less than 110% of the fair market value per share on the date of
grant. Fair market value is determined by the Board of
Directors. For all other employees the options must be no less
than 100% of the fair market value per share on the date of
grant. All nonstatutory stock options granted are at a price
that is determined by the Board of Directors. The options
generally expire ten years from the date of grant and are
exercisable as determined by the Board of Directors.

In November 1996, the Board of Directors and
stockholders approved, effective upon the initial public
offering, an amendment and restatement of the Executive Plan to
rename the 1996 Executive Stock Option Plan to the 1996 Stock
Option Plan (1996 Plan) and authorized an increase
in the number of shares reserved for issuance under the 1996
Plan of any unused or canceled shares under the 1989 Plan, and
an annual increase equal to the lesser of (a) 375,000
shares, (b) 2% of the outstanding shares of common stock on
such date or (c) a lesser amount determined by the Board.
The 1996 Plan provides for grants to employees (including
officers and employee directors) of incentive stock options and
for the granting to employees, directors and consultants of
nonqualified stock options. Notes receivable for the purchase of
common stock are included in stockholders equity
(deficit). In November 1998, the Companys stockholders
approved an amendment to the 1996 Plan to increase the number of
shares reserved for issuance by an additional
950,000 shares. In November 1999, an additional
1,500,000 shares were approved by the Companys
stockholders.

28



---



PROBUSINESS SERVICES, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

In connection with the acquisition of Conduit
Parent, as discussed in Note 1, the Company converted
options to purchase shares of Conduit Parent common stock into
options to purchase shares of the Companys common stock.
The number of shares of the Companys common stock issuable
under each option and the exercise price for each grant were
adjusted by an exchange ratio. The Company did not assume the
Stock Incentive Plan (Conduit Parent Plan) under
which the options had been originally granted. The Conduit
Parent Plan was terminated and no further options will be
granted under the Conduit Parent Plan. The converted options
continue to be subject to the terms of the Conduit Parent Plan.
The Conduit Parent Plan provided for the granting of incentive
stock options as well as nonstatutory stock options. The
exercise prices of all options granted prior to the acquisition
were determined by the Conduit Parent Board of Directors and
were not less than the fair market value per share on the date
of grant. The options generally expire ten years from the date
of grant and are exercisable as determined by the Conduit Parent
Board of Directors at the date of the grant.

A summary of the activity under all plans is set
forth below:

|                             |           |                     |           |                  |   |   |       |       | 
|---------------------------- | --------- | ------------------- | --------- | ---------------- | - | - | ----- | ----- | 
|                             |           |                    
|                             |           | Outstanding Options
|                             |           |                    
|                             |           |                     |           | Weighted Average
|                             |           | Number of           |           | Exercise Price  
|                             |           | Shares              |           | per Share       
|                             |           |                     |           |                 
|Outstanding at June 30, 1998 |           |                     | 1,816,646 |                  |   | $ | 7.21  |      
|                            
|                            
|                            
|                            
|                             | Granted   |                     |           | 1,141,295        |   |   |       | 30.86 | 
|                            
|                            
|                            
|                            
|                             | Exercised |                     |           | (342,562         | ) |   |       | 2.88  | 
|                            
|                            
|                            
|                            
|                             | Canceled  |                     |           | (111,519         | ) |   |       | 23.74 | 
|                             |           |                     |           |                  |   |   |       |      
|Outstanding at June 30, 1999 |           |                     | 2,503,860 |                  |   |   | 17.81 |      
|                            
|                            
|                            
|                            
|                             | Granted   |                     |           | 2,807,175        |   |   |       | 21.72 | 
|                            
|                            
|                            
|                            
|                             | Exercised |                     |           | (357,978         | ) |   |       | 7.16  | 
|                            
|                            
|                            
|                            
|                             | Canceled  |                     |           | (608,451         | ) |   |       | 24.87 | 
|                             |           |                     |           |                  |   |   |       |      
|Outstanding at June 30, 2000 |           |                     | 4,344,606 |                  |   |   | 20.24 |      
|                            
|                            
|                            
|                            
|                             | Granted   |                     |           | 1,765,974        |   |   |       | 23.31 | 
|                            
|                            
|                            
|                            
|                             | Exercised |                     |           | (315,360         | ) |   |       | 13.77 | 
|                            
|                            
|                            
|                            
|                             | Canceled  |                     |           | (686,378         | ) |   |       | 24.48 | 
|                             |           |                     |           |                  |   |   |       |      
|Outstanding at June 30, 2001 |           |                     | 5,108,842 |                  |   | $ | 21.14 |      
|                             |           |                     |           |                  |   |   |       |      

As of June 30, 2001, options to purchase
1,726,217 shares of common stock were vested and exercisable at
an average exercise price of $18.00 per share and options to
purchase 908,269 shares were available for future grant. As of
June 30, 2001, there were no outstanding shares of common
stock subject to repurchase.

The weighted-average fair value of options
granted during FY1999, 2000 and 2001 were $20.99, $11.79 and
$12.23 per share, respectively.

29



---



PROBUSINESS SERVICES, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

The following table summarizes information
concerning currently outstanding and exercisable options at
June 30, 2001:

|               |  |                     |           |                  |  |                  |      |             |  |                  |       |  |  |  |           |  |  |   |       | 
|-------------- |  | ------------------- | --------- | ---------------- |  | ---------------- | ---- | ----------- |  | ---------------- | ----- |  |  |  | --------- |  |  | - | ----- | 
|               |  |                     |           |                  |  |                 
|               |  | Outstanding Options |           |                  |  |                 
|               |  |                     |           |                 
|               |  |                     |           | Weighted Average |  |                  |      | Exercisable
|               |  |                     |           | Remaining        |  |                  |      |            
|               |  |                     |           | Contractual Life |  | Weighted Average |      |             |  | Weighted Average
|Exercise Price |  | Shares              |           | (Years)          |  | Exercise Price   |      | Shares      |  | Exercise Price  
|               |  |                     |           |                  |  |                  |      |             |  |                 
|$ 0.13-$18.00  |  |                     | 1,157,932 |                  |  |                  | 7.30 |             |  | $                | 11.47 |  |  |  | 605,254   |  |  | $ | 5.86  | 
|              
|              
|              
|              
|$18.33-$18.38  |  |                     | 1,327,560 |                  |  |                  | 8.29 |             |  | $                | 18.38 |  |  |  | 387,216   |  |  | $ | 18.38 | 
|              
|              
|              
|              
|$18.75-$27.00  |  |                     | 1,831,281 |                  |  |                  | 8.62 |             |  | $                | 24.80 |  |  |  | 533,044   |  |  | $ | 25.81 | 
|              
|              
|              
|              
|$27.13-$45.00  |  |                     | 792,069   |                  |  |                  | 8.69 |             |  | $                | 31.44 |  |  |  | 200,703   |  |  | $ | 33.12 | 
|               |  |                     |           |                  |  |                  |      |             |  |                  |       |  |  |  |           |  |  |   |       | 
|               |  |                     | 5,108,842 |                  |  |                  |      |             |  |                  |       |  |  |  | 1,726,217 |  |  |   |       | 
|               |  |                     |           |                  |  |                  |      |             |  |                  |       |  |  |  |           |  |  |   |       | 

Stock-Based Compensation

As permitted under SFAS 123, the Company has
elected to continue to follow APB 25 in accounting for
stock-based awards to employees. Under APB 25, the Company has
not recognized any compensation expense with respect to such
awards, since the exercise price of the stock options awarded
are equal to the fair market value of the underlying security on
the grant date.

Disclosure of information regarding net loss and
net loss per share is required by SFAS 123, which also requires
that the information be determined on an as adjusted
basis as if the Company had accounted for its stock-based awards
to employees, under the fair value method of SFAS 123. The fair
value of the Companys stock-based awards to employees was
estimated as of the date of the grant using a Black-Scholes
option-pricing model. Limitations on the effectiveness of the
Black-Scholes option valuation model are that it was developed
for use in estimating the fair value of traded options that have
no vesting restrictions and are fully transferable and that the
model requires the use of highly subjective assumptions
including expected stock price volatility. Because the
Companys stock-based awards to employees have
characteristics significantly different from those of traded
options and because changes in the subjective input assumptions
can materially affect the fair value estimate, in
managements opinion, the existing models do not
necessarily provide a reliable single measure of the fair value
of its stock-based awards to employees. The fair value of the
Companys stock-based awards to employees was estimated
using the following weighted-average assumptions:

|                         |  |                     |       |      |  |      |       |   |  |  |       |  
|------------------------ |  | ------------------- | ----- | ---- |  | ---- | ----- | - |  |  | ----- | -
|                         |  |                    
|                         |  | Year Ended June 30,
|                         |  |                    
|                         |  | 1999                |       | 2000 |  | 2001
|                         |  |                     |       |      |  |     
|Expected life (in years) |  |                     | 4     |      |  |      | 4     |   |  |  | 4     |  
|                        
|                        
|                        
|                        
|Expected volatility      |  |                     | 0.907 |      |  |      | 0.628 |   |  |  | 0.637 |  
|                        
|                        
|                        
|                        
|Risk-free interest rate  |  |                     | 5.50  | %    |  |      | 6.30  | % |  |  | 4.81  | %
|                        
|                        
|                        
|                        
|Expected dividend yield  |  |                     | 0.00  | %    |  |      | 0.00  | % |  |  | 0.00  | %

30



---



PROBUSINESS SERVICES, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

For disclosure purposes, the adjusted estimated
fair value of the Companys stock-based awards to employees
is amortized over the vesting period for options. The
Companys adjusted information follows (in thousands,
except for per share information):

|                                           |  |                     |         |      |  |      |         |   |  |   |         |  
|------------------------------------------ |  | ------------------- | ------- | ---- |  | ---- | ------- | - |  | - | ------- | -
|                                           |  |                    
|                                           |  | Year Ended June 30,
|                                           |  |                    
|                                           |  | 1999                |         | 2000 |  | 2001
|                                           |  |                     |         |      |  |     
|Net loss, as reported                      |  | $                   | (16,109 | )    |  | $    | (13,917 | ) |  | $ | (33,191 | )
|                                          
|                                          
|                                          
|                                          
|Net loss, as adjusted                      |  | $                   | (21,058 | )    |  | $    | (21,913 | ) |  | $ | (45,169 | )
|                                          
|                                          
|                                          
|                                          
|Historical net loss per share, as reported |  | $                   | (0.77   | )    |  | $    | (.60    | ) |  | $ | (1.45   | )
|                                          
|                                          
|                                          
|                                          
|Historical net loss per share, as adjusted |  | $                   | (1.00   | )    |  | $    | (.94    | ) |  | $ | (1.95   | )

1997 Employee
Stock Purchase Plan

The Companys 1997 Employee Stock Purchase
Plan (Purchase Plan) was adopted by the Board of
Directors in November 1996 and amended in August 1997. Employees
who work a minimum of 20 hours per week at least five
months in any calendar year are eligible to participate in the
Purchase Plan. As of June 30, 2001, there were 1,650,000
shares of common stock authorized for issuance under the
Purchase Plan. Under the Purchase Plan there is an annual
increase to be added on each anniversary date of the adoption of
the Purchase Plan equal to the lesser of (a) 225,000
shares, (b) 1.5% of the outstanding shares on such date, or
(c) a lesser amount determined by the Board of Directors.
As of June 30, 2001, a total of 1,093,045 shares had been
issued under the Purchase Plan. Under the Purchase Plan, the
Companys employees, subject to certain restrictions, may
purchase shares of common stock at the lesser of 85% of the fair
market value at either the beginning of each two-year offering
period or the end of each six-month purchase period within the
two-year offering period. Purchase Plan purchases are limited to
10% of each employees compensation for offering periods
beginning on or prior to November 1, 1999 and limited to
15% for offering periods beginning on or after May 1, 2000.

9.     Employee
Benefit Plan

The Company maintains a tax deferred savings plan
under section 401(k) of the Code (the Plan),
for the benefit of certain qualified employees. Employees may
elect to contribute to the Plan, through payroll deductions of
up to 18% of their compensation, subject to certain limitations.
The Company, at its discretion, may make additional
contributions. The Company did not make any contributions to the
Plan in the years ended June 30, 1999, 2000 or 2001.

10.     Consolidated
Balance Sheet Detail

Prepaid expenses and other current assets consist
of the following (in thousands):

|                           |  |          |       |      |  |   |        | 
|-------------------------- |  | -------- | ----- | ---- |  | - | ------ | 
|                           |  |         
|                           |  | June 30,
|                           |  |         
|                           |  | 2000     |       | 2001
|                           |  |          |       |     
|Short-term derivatives     |  | $        |      |      |  | $ | 4,771  | 
|                          
|                          
|                          
|                          
|Interest income receivable |  |          | 2,806 |      |  |   | 3,625  | 
|                          
|                          
|                          
|                          
|Other                      |  |          | 2,498 |      |  |   | 4,201  | 
|                           |  |          |       |      |  |   |        | 
|                           |  | $        | 5,304 |      |  | $ | 12,597 | 
|                           |  |          |       |      |  |   |        | 

31



---



PROBUSINESS SERVICES, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

Other assets, long-term, consist of the following
(in thousands):

|                                            |  |          |        |      |  |   |        | 
|------------------------------------------- |  | -------- | ------ | ---- |  | - | ------ | 
|                                            |  |         
|                                            |  | June 30,
|                                            |  |         
|                                            |  | 2000     |        | 2001
|                                            |  |          |        |     
|Capitalized software development costs, net |  | $        | 14,502 |      |  | $ | 20,786 | 
|                                           
|                                           
|                                           
|                                           
|Long-term derivatives                       |  |          |       |      |  |   | 9,811  | 
|                                           
|                                           
|                                           
|                                           
|Goodwill and other intangible assets, net   |  |          | 6,105  |      |  |   | 5,735  | 
|                                           
|                                           
|                                           
|                                           
|Other                                       |  |          | 2,567  |      |  |   | 5,284  | 
|                                            |  |          |        |      |  |   |        | 
|                                            |  | $        | 23,174 |      |  | $ | 41,616 | 
|                                            |  |          |        |      |  |   |        | 

Accumulated amortization for capitalized software
development costs was approximately $1,817,000 and $2,378,000 at
June 30, 2000 and 2001, respectively. Accumulated
amortization for goodwill and other intangible assets was
approximately $1,823,000 and $2,193,000 at June 30, 2000
and 2001, respectively. The Company regularly reviews
capitalized software development costs to ensure that
impairments, if any, are recognized in operating results in the
period in which an impairment in value is determined to exist.

At June 30, 2000 and 2001, outstanding notes
receivable from officers and employees of the Company totaled
$1,719,000 and $2,031,000, respectively. These notes are full
recourse and bear interest at various rates between 5.42% and
7.00%. Principal and accrued interest is due at various times
from September 2001 to December 2005.

Accrued liabilities consist of the following (in
thousands):

|                                     |  |          |        |      |  |   |        | 
|------------------------------------ |  | -------- | ------ | ---- |  | - | ------ | 
|                                     |  |         
|                                     |  | June 30,
|                                     |  |         
|                                     |  | 2000     |        | 2001
|                                     |  |          |        |     
|Accrued expenses                     |  | $        | 2,470  |      |  | $ | 8,821  | 
|                                    
|                                    
|                                    
|                                    
|Accrued tax penalties                |  |          | 3,915  |      |  |   | 7,289  | 
|                                    
|                                    
|                                    
|                                    
|Accrued payroll and related expenses |  |          | 6,621  |      |  |   | 12,139 | 
|                                    
|                                    
|                                    
|                                    
|Other                                |  |          | 521    |      |  |   | 792    | 
|                                     |  |          |        |      |  |   |        | 
|                                     |  | $        | 13,527 |      |  | $ | 29,041 | 
|                                     |  |          |        |      |  |   |        | 

11.     Business
Combinations

In January 1997, the Company acquired all of the
outstanding stock of BeneSphere. The total purchase price of
$7,832,000 million consisted of $500,000 cash; warrants to
purchase 75,000 shares of the Companys common stock with a
net fair market value of $160,000, and assumption of debt
including acquisition costs of $2,445,000 plus additional
contingent consideration of $4,727,000 based on
BeneSpheres revenues in excess of certain base amounts, as
defined in the agreement.

In January 1998 and 1999, the Company accrued an
additional $2,208,000 and $2,519,000, respectively, of
contingent consideration and recorded goodwill in the same
amount related to the BeneSphere acquisition as described above.
As of June 30, 2000, the Company had no remaining
outstanding balance for accrued contingent consideration in the
accompanying consolidated balance sheet. Goodwill arising from
the acquisition is being amortized on a straight-line basis over
20 years.

In April 1999, the Company acquired Conduit
Parent, the parent and sole stockholder of Conduit Software,
Inc., a provider of employee relationship management
applications. The merger was accounted for using the pooling of
interests method of accounting and as such the Companys
historical financial results for all dates and periods prior to
the merger have been restated to reflect the merger. In
connection with the acquisition, the Company issued 1,714,973
shares of its common stock to Conduit Parents shareholders
in

32



---



PROBUSINESS SERVICES, INC.


NOTES TO CONSOLIDATED FINANCIAL
STATEMENTS  (Continued)

exchange for all of the outstanding common and
preferred stock of Conduit Parent. All outstanding options and
warrants to purchase Conduit Parents capital stock were
converted into options and warrants to purchase
82,987 shares of ProBusiness common stock. In connection
with the acquisition, the Company incurred direct transaction
costs of approximately $3,500,000, which consisted primarily of
fees for investment banking, legal and accounting services
incurred in conjunction with the acquisition. As of
June 30, 2000, the Company had no remaining outstanding
balance for accrued merger costs in the accompanying
consolidated balance sheet. The Companys consolidated
results of operations include adjustments to conform the
presentation and accounting policies of Conduit Parent to
ProBusiness accounting policies.

12.     Segment
Information

The Company adopted SFAS 131, Disclosures
About Segments of an Enterprise and Related Information,
effective July 1, 1998. SFAS 131 establishes revised
standards for public companies relating to the reporting of
financial information about operating segments. The Company has
identified one reportable operating segment based upon the
provisions of SFAS 131. The Company is a provider of
employee administrative services for large employers.

The Companys Chief Operating Decision
Maker, who is the President and Chief Executive Officer,
evaluates performance based on a measure of consolidated gross
margin, operating profit before client acquisition costs and
profit or loss from operations. The accounting policies of the
reportable segment are the same as those described in the
summary of significant accounting policies. Based on the above,
the Companys consolidated statements of operations
disclose the available financial information of its reportable
segment in accordance with SFAS 131 for FY1999, 2000 and
2001.

13.     Subsequent
events

On August 1, 2001 the Companys Board
of Directors adopted a stockholders rights plan. Under the
plan, ProBusiness Services issued a dividend of one right for
each share of common stock of the Company held by stockholders
of record as of the close of business on August 30, 2001.
The plan is designed to assure stockholders fair value in the
event of a future unsolicited business combination or similar
transaction involving the Company.

Each right will initially entitle stockholders to
purchase a fractional share of the Companys Series A
Participating Preferred Stock for $170.00. However, the rights
are not immediately exercisable and will become exercisable only
upon the occurrence of certain events. Upon the occurrence of
these events, unless redeemed for $0.001 per right, the rights
will become exercisable by holders, other than rights held by an
unsolicited third party acquirer, for shares of the Company or
of the third party acquirer having a value of twice the
rights then-current exercise price.

33



---



REPORT OF INDEPENDENT AUDITORS

The Board of Directors and Stockholders

ProBusiness Services, Inc.


We have audited the accompanying consolidated
balance sheets of ProBusiness Services, Inc. as of June 30,
2000 and 2001, and the related consolidated statements of
operations, redeemable convertible preferred stock and
stockholders equity, and cash flows for each of the three
years in the period ended June 30, 2001. These financial
statements are the responsibility of the Companys
management. Our responsibility is to express an opinion on these
financial statements based on our audits.

We conducted our audits in accordance with
auditing standards generally accepted in the United States.
Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.

In our opinion, the consolidated financial
statements referred to above present fairly, in all material
respects, the consolidated financial position of ProBusiness
Services, Inc. at June 30, 2000 and 2001, and the
consolidated results of its operations and its cash flows for
each of the three years in the period ended June 30, 2001,
in conformity accounting principles generally accepted in the
United States.



| |                       
| | ----------------------
| | /s/ ERNST & YOUNG, LLP

Walnut Creek, California

July 27, 2001, except for Note 13 as to


which the date is


August 1, 2001


34



---



PROBUSINESS SERVICES, INC.



QUARTERLY FINANCIAL DATA


(Unaudited)


(In thousands)


The Companys 2001 and 2000 unaudited
consolidated quarterly financial information, as previously
reported and restated for the adoption of SAB 101, is a
follows (in thousands):

|                                                                     |                            |               |         |          |  |            |         |         |  |            |         |          |  |         |         |        |  |   |        |        |  |   |        |        |  |   |        |        | 
|-------------------------------------------------------------------- | -------------------------- | ------------- | ------- | -------- |  | ---------- | ------- | ------- |  | ---------- | ------- | -------- |  | ------- | ------- | ------ |  | - | ------ | ------ |  | - | ------ | ------ |  | - | ------ | ------ | 
|                                                                     |                            |              
|                                                                     |                            | Quarter Ended
|                                                                     |                            |              
|                                                                     |                            |               |         |         
|                                                                     |                            | 2000          |         | 2001    
|                                                                     |                            |               |         |         
|                                                                     |                            | Previously    |         |          |  | Previously |         |         |  | Previously |         |         
|                                                                     |                            | Reported      |         |          |  | Reported   |         |         |  | Reported   |         |         
|                                                                     |                            | Sept. 30      |         | Sept. 30 |  | Dec. 31    |         | Dec. 31 |  | March 31   |         | March 31 |  | June 30
|                                                                     |                            |               |         |          |  |            |         |         |  |            |         |          |  |        
|Revenue                                                              |                            | $             | 30,821  |          |  | $          | 30,303  |         |  | $          | 35,070  |          |  | $       | 34,616  |        |  | $ | 44,021 |        |  | $ | 42,000 |        |  | $ | 42,942 |       
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Operating expenses:                                                  |                            |               |         |          |  |            |         |         |  |            |         |          |  |         |         |        |  |   |        |        |  |   |        |        |  |   |        |       
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|                                                                     | Cost of providing services |               |         | 16,418   |  |            |         | 16,418  |  |            |         | 18,552   |  |         |         | 18,552 |  |   |        | 20,514 |  |   |        | 20,514 |  |   |        | 21,195 | 
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|                                                                     | General and administrative |               |         | 5,406    |  |            |         | 5,406   |  |            |         | 6,067    |  |         |         | 6,067  |  |   |        | 6,516  |  |   |        | 6,516  |  |   |        | 6,594  | 
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|                                                                     | Research and development   |               |         | 4,962    |  |            |         | 4,962   |  |            |         | 4,279    |  |         |         | 4,279  |  |   |        | 4,798  |  |   |        | 4,798  |  |   |        | 4,547  | 
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|                                                                     | Client acquisition costs   |               |         | 14,857   |  |            |         | 14,101  |  |            |         | 16,606   |  |         |         | 15,962 |  |   |        | 19,765 |  |   |        | 18,869 |  |   |        | 17,628 | 
|                                                                     |                            |               |         |          |  |            |         |         |  |            |         |          |  |         |         |        |  |   |        |        |  |   |        |        |  |   |        |       
|Total operating expenses                                             |                            |               | 41,643  |          |  |            | 40,887  |         |  |            | 45,504  |          |  |         | 44,860  |        |  |   | 51,593 |        |  |   | 50,697 |        |  |   | 49,964 |       
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Loss from operations                                                 |                            |               | (10,822 | )        |  |            | (10,584 | )       |  |            | (10,434 | )        |  |         | (10,244 | )      |  |   | (7,572 | )      |  |   | (8,697 | )      |  |   | (7,022 | )     
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Interest expense                                                     |                            |               | (184    | )        |  |            | (184    | )       |  |            | (194    | )        |  |         | (194    | )      |  |   | (289   | )      |  |   | (289   | )      |  |   | (285   | )     
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Interest income and other, net                                       |                            |               | 1,009   |          |  |            | 1,009   |         |  |            | 1,046   |          |  |         | 1,046   |        |  |   | 1,081  |        |  |   | 1,081  |        |  |   | 762    |       
|                                                                     |                            |               |         |          |  |            |         |         |  |            |         |          |  |         |         |        |  |   |        |        |  |   |        |        |  |   |        |       
|Net loss before cumulative effect of change in
	accounting principle |                            |               | (9,997  | )        |  |            | (9,759  | )       |  |            | (9,582  | )        |  |         | (9,392  | )      |  |   | (6,780 | )      |  |   | (7,905 | )      |  |   | (6,545 | )     
|                                                                    
|                                                                    
|                                                                    
|                                                                    
|Cumulative effect of change in accounting
	principle                 |                            |               |        |          |  |            | 410     |         |  |            |        |          |  |         |        |        |  |   |       |        |  |   |       |        |  |   |       |       
|                                                                     |                            |               |         |          |  |            |         |         |  |            |         |          |  |         |         |        |  |   |        |        |  |   |        |        |  |   |        |       
|Net loss                                                             |                            | $             | (9,997  | )        |  | $          | (9,349  | )       |  | $          | (9,582  | )        |  | $       | (9,392  | )      |  | $ | (6,780 | )      |  | $ | (7,905 | )      |  | $ | (6,545 | )     
|                                                                     |                            |               |         |          |  |            |         |         |  |            |         |          |  |         |         |        |  |   |        |        |  |   |        |        |  |   |        |       
|Basic and diluted net loss per share                                 |                            | $             | (0.42   | )        |  | $          | (0.40   | )       |  | $          | (0.42   | )        |  | $       | (0.41   | )      |  | $ | (0.30  | )      |  | $ | (0.35  | )      |  | $ | (0.29  | )     
|                                                                     |                            |               |         |          |  |            |         |         |  |            |         |          |  |         |         |        |  |   |        |        |  |   |        |        |  |   |        |       
|Shares used in computing basic and diluted net
	loss per share       |                            |               | 23,588  |          |  |            | 23,588  |         |  |            | 23,739  |          |  |         | 23,739  |        |  |   | 23,952 |        |  |   | 23,952 |        |  |   | 24,081 |       
|                                                                     |                            |               |         |          |  |            |         |         |  |            |         |          |  |         |         |        |  |   |        |        |  |   |        |        |  |   |        |       

|                                                               |                            |               |        |         |  |          |        |         |  |   |        |        |  |   |        |        | 
|-------------------------------------------------------------- | -------------------------- | ------------- | ------ | ------- |  | -------- | ------ | ------- |  | - | ------ | ------ |  | - | ------ | ------ | 
|                                                               |                            |              
|                                                               |                            | Quarter Ended
|                                                               |                            |              
|                                                               |                            |               |        |        
|                                                               |                            | 1999          |        | 2000   
|                                                               |                            |               |        |        
|                                                               |                            | Sept. 30      |        | Dec. 31 |  | March 31 |        | June 30
|                                                               |                            |               |        |         |  |          |        |        
|Revenue                                                        |                            | $             | 20,954 |         |  | $        | 23,073 |         |  | $ | 30,018 |        |  | $ | 30,027 |       
|                                                              
|                                                              
|                                                              
|                                                              
|Operating expenses:                                            |                            |               |        |         |  |          |        |         |  |   |        |        |  |   |        |       
|                                                              
|                                                              
|                                                              
|                                                              
|                                                               | Cost of providing services |               |        | 11,148  |  |          |        | 11,938  |  |   |        | 12,918 |  |   |        | 13,374 | 
|                                                              
|                                                              
|                                                              
|                                                              
|                                                               | General and administrative |               |        | 3,395   |  |          |        | 3,830   |  |   |        | 4,064  |  |   |        | 4,384  | 
|                                                              
|                                                              
|                                                              
|                                                              
|                                                               | Research and development   |               |        | 3,353   |  |          |        | 2,496   |  |   |        | 3,194  |  |   |        | 3,048  | 
|                                                              
|                                                              
|                                                              
|                                                              
|                                                               | Client acquisition costs   |               |        | 10,058  |  |          |        | 11,214  |  |   |        | 11,560 |  |   |        | 10,930 | 
|                                                               |                            |               |        |         |  |          |        |         |  |   |        |        |  |   |        |       
|Total operating expenses                                       |                            |               | 27,954 |         |  |          | 29,478 |         |  |   | 31,736 |        |  |   | 31,736 |       
|                                                              
|                                                              
|                                                              
|                                                              
|Loss from operations                                           |                            |               | (7,000 | )       |  |          | (6,405 | )       |  |   | (1,718 | )      |  |   | (1,709 | )     
|                                                              
|                                                              
|                                                              
|                                                              
|Interest expense                                               |                            |               | (129   | )       |  |          | (33    | )       |  |   | (148   | )      |  |   | (202   | )     
|                                                              
|                                                              
|                                                              
|                                                              
|Interest income and other, net                                 |                            |               | 969    |         |  |          | 783    |         |  |   | 838    |        |  |   | 837    |       
|                                                               |                            |               |        |         |  |          |        |         |  |   |        |        |  |   |        |       
|Net loss                                                       |                            | $             | (6,160 | )       |  | $        | (5,655 | )       |  | $ | (1,028 | )      |  | $ | (1,074 | )     
|                                                               |                            |               |        |         |  |          |        |         |  |   |        |        |  |   |        |       
|Basic and diluted net loss per share                           |                            | $             | (0.27  | )       |  | $        | (0.24  | )       |  | $ | (0.04  | )      |  | $ | (0.05  | )     
|                                                               |                            |               |        |         |  |          |        |         |  |   |        |        |  |   |        |       
|Shares used in computing basic and diluted net
	loss per share |                            |               | 22,864 |         |  |          | 23,163 |         |  |   | 23,372 |        |  |   | 23,518 |       
|                                                               |                            |               |        |         |  |          |        |         |  |   |        |        |  |   |        |       

35