<PAGE>   1

                                  UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                              WASHINGTON, DC 20549

                                   FORM 10-QSB


(Mark One)
[X]  QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
     EXCHANGE ACT OF 1934

     For the quarterly period ended June 30, 1998

[ ]  TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT

     For the transition period from ______________ to _______________

     Commission file No. 0-12969


                         TOUCHSTONE SOFTWARE CORPORATION
--------------------------------------------------------------------------------
             (Exact name of registrant as specified in its charter)


                 Delaware                                  95-3778226
      -------------------------------                  -------------------
      (State or other jurisdiction of                   (I.R.S. Employer
      incorporation or organization)                   Identification No.)


                  2124 Main Street, Huntington Beach, CA 92648
--------------------------------------------------------------------------------
               (Address of principal executive offices)(Zip Code)


Registrant's telephone number, including area code:   (714) 969-7746


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

                            Yes  X        No 
                                ---          ---

                         As of August 3, 1998 there were
                  7,939,710 shares of Common Stock outstanding

<PAGE>   2

                         PART I - FINANCIAL INFORMATION

ITEM 1.  Financial Statements

                         TouchStone Software Corporation

                           Consolidated Balance Sheet
                                  June 30, 1998
                                   (Unaudited)
<TABLE>
<CAPTION>

A S S E T S
-----------
<S>                                                            <C>
Current assets:
  Cash and cash equivalents                                     $    958,073
  Restricted cash                                                    500,000
  Investments                                                      8,037,953
  Accounts receivable, net                                           225,919
  Inventories                                                        303,719
  Prepaid expenses and other current assets                          170,767
                                                                ------------
        Total current assets                                      10,196,431

Investments                                                        1,374,383
Property, net                                                        206,709
Other assets                                                          29,471
                                                                ------------
                                                                $ 11,806,994
                                                                ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
  Accounts payable                                              $  1,370,768
  Accrued payroll and related expenses                               395,044
  Accrued cooperative advertising expense                            791,650
  Accrued restructuring expense                                      613,736
  Other accrued liabilities                                          312,377
                                                                ------------
        Total current liabilities                                  3,483,575

Deferred compensation                                                 74,500
Deferred lease obligation                                             56,292

Shareholders' equity:
  Preferred stock, $.001 par value, 3,000,000
    shares authorized, none issued or outstanding
  Common stock, $.001 par value; 20,000,000 shares
    authorized; issued and outstanding, 7,939,460 shares               7,939
  Additional paid-in capital                                      18,739,514
  Accumulated deficit                                            (10,554,826)
                                                                ------------
        Total shareholders' equity                                 8,192,627
                                                                ------------
                                                                $ 11,806,994
                                                                ============
</TABLE>


                 See accompanying notes to consolidated financial statements

                                       2

<PAGE>   3

                               TOUCHSTONE SOFTWARE CORPORATION

                            CONSOLIDATED STATEMENTS OF OPERATIONS
                                         (UNAUDITED)

<TABLE>
<CAPTION>
                                         Three months                      Six  months
                                        ended June 30,                    ended June 30,
                                 ----------------------------      ----------------------------
                                    1998             1997             1998             1997
                                 -----------      -----------      -----------      -----------
<S>                              <C>              <C>              <C>              <C>
Revenues:
  Product sales                  $   641,405      $ 1,799,858      $ 2,598,359      $ 4,668,070
  Royalty income                      15,004           62,465           43,909          133,276
                                 -----------      -----------      -----------      -----------
        Total revenues               656,409        1,862,323        2,642,268        4,801,346
Cost of sales                        198,359          835,453          642,358        1,920,251
                                 -----------      -----------      -----------      -----------
        Gross profit                 458,050        1,026,870        1,999,910        2,881,095
Operating expenses:
  Sales and marketing                924,420        1,233,480        1,791,390        2,599,458
  General and administrative         296,453          391,047          590,672          719,256
  Research and development           577,448          739,861        1,065,297        1,295,510
  Restructuring expense              778,140                           778,140
                                 -----------      -----------      -----------      -----------
  Total operating expenses         2,576,461        2,364,388        4,225,499        4,614,224
                                 -----------      -----------      -----------      -----------
        Loss from operations      (2,118,411)      (1,337,518)      (2,225,589)      (1,733,129)
Other income, net                    158,778          187,480          324,910          366,985
                                 -----------      -----------      -----------      -----------
Net loss before income taxes      (1,959,633)      (1,150,038)      (1,900,679)      (1,366,144)
Income tax provision                     800                               800
                                 -----------      -----------      -----------      -----------
Net loss                         $(1,960,433)     $(1,150,038)     $(1,901,479)     $(1,366,144)
                                 ===========      ===========      ===========      ===========

Net loss per share               $     (0.25)     $     (0.15)     $     (0.24)     $     (0.18)
                                 ===========      ===========      ===========      ===========

Weighted average shares            7,922,000        7,842,000        7,906,000        7,827,000
                                 ===========      ===========      ===========      ===========
</TABLE>

                 See accompanying notes to consolidated financial statements

                                       3

<PAGE>   4

                         TOUCHSTONE SOFTWARE CORPORATION

                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                   (UNAUDITED)

<TABLE>
<CAPTION>
                                                                    Six months           Six months
                                                                       ended               ended
                                                                   June 30, 1998        June 30, 1997
                                                                   -------------        -------------
<S>                                                                <C>                  <C>
Cash flows from operating activities:
  Net loss                                                         $ (1,901,479)        $ (1,366,144)
  Adjustments to reconcile net loss to net cash
    flows (used in) provided by
    operating activities:
    Depreciation and amortization                                       122,995              128,132
    Loss on disposal of property                                        148,767
    Stock options issued for consulting expense                           7,276
    Provision for doubtful accounts                                      11,256               36,612
    Provision for obsolete inventories                                   66,793               48,816
    Write-off of software development costs                                                  151,073

    Change in deferred lease obligation                                  14,058               (3,624)

Changes in operating assets and liabilities:
    Income tax refund receivable                                         32,790
    Accounts receivable                                                 234,973               43,991
    Inventories                                                         (87,371)             491,537
    Prepaid expenses and other current assets                            59,645               71,954
    Other assets                                                          1,700
    Accounts payable                                                     18,468           (1,052,592)
    Accrued restructuring expense                                       613,736
    Accrued liabilities                                                (124,226)              (4,701)
                                                                   ------------         ------------
        Net cash used in operating activities                          (780,619)          (1,454,946)

Cash flows from investing activities:
  Purchase of investments                                           (20,761,418)         (14,792,042)
  Sale of investments                                                21,066,075           14,733,479
  Purchases of property                                                 (58,438)            (184,260)
                                                                   ------------         ------------
        Net cash provided by (used in) investing activities             246,219             (242,823)

Cash flows from financing activities:
  Proceeds from exercise of stock warrants and
    options and repayment on notes receivable                            58,612               30,371
                                                                   ------------         ------------
        Net cash provided by financing activities                        58,612               30,371
                                                                   ------------         ------------

Net decrease in cash and cash equivalents                              (475,788)          (1,667,398)
Cash and cash equivalents, beginning of period                        1,433,861            2,893,476
                                                                   ------------         ------------
Cash and cash equivalents, end of period                           $    958,073         $  1,226,078
                                                                   ============         ============

Supplemental cash flow information:
Interest paid                                                      $        409         $      1,483
                                                                   ============         ============
Income taxes paid                                                  $        800         $       --
                                                                   ============         ============
</TABLE>


          See accompanying notes to consolidated financial statements.

                                       4

<PAGE>   5

                         TOUCHSTONE SOFTWARE CORPORATION

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                  JUNE 30, 1997
                                   (UNAUDITED)

1.  GENERAL

        The consolidated financial statements of TouchStone Software
Corporation (the Company) include the financial statements of the Company's
wholly-owned subsidiary, TouchStone Europe Ltd. These consolidated financial
statements have been prepared by the Company, without audit, and include all
adjustments which are, in the opinion of management, necessary for a fair
presentation of the results of operations for the three and six months ended
June 30, 1998 and 1997, the financial position at June 30, 1998, and the cash
flows for the six months ended June 30, 1998 and 1997, pursuant to the rules
and regulations of the Securities and Exchange Commission. Certain information
and footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been condensed or
omitted pursuant to such rules and regulations. The results of operations for
the three and six months ended June 30, 1998 are not necessarily indicative of
the results to be expected for the full year. These condensed consolidated
financial statements should be read in conjunction with the TouchStone Software
Corporation consolidated financial statements and notes thereto included in the
Company's Annual Report filed with the Securities and Exchange Commission on
Form 10-KSB for the year ended December 31, 1997.

        Recently Issued Accounting Standards. In June 1997, the FASB issued SFAS
No. 130, Reporting Comprehensive Income, ("SFAS No. 130") (which was adopted by
the Company effective January 1, 1998). This statement establishes standards for
the reporting of comprehensive income and its components in a financial
statement that is displayed with the same prominence as other financial
statements. Comprehensive income, as defined, includes all changes in equity
(net assets) during a period from non-owner sources. Examples of items to be
included in comprehensive income, which are excluded from net income, include
foreign currency translation adjustments and unrealized gain/loss on
available-for-sale securities. There was no difference between comprehensive
income and net income as reported for the six months ended June 30, 1998 and
1997.

        In June 1997, the FASB issued SFAS No. 131, Disclosure about Segments of
an Enterprise and Related Information. SFAS No. 131 establishes standards for
the way public companies report financial information about operating segments.
The disclosures prescribed by SFAS No. 131 are effective in the year ended
December 31, 1998, but are not required for interim periods in the year of
adoption.

2.  ACCOUNTS RECEIVABLE

        At June 30, 1998, accounts receivable is presented net of allowance for
doubtful accounts, reseller rebate reserves, and product return reserves of
approximately $113,000, $514,000, and $120,000, respectively. Certain
distributors' accounts resulted in credit balances and therefore were
reclassified to accounts payable.

3.  FINANCING ARRANGEMENTS

        The Company has a bank line of credit which provides for borrowings up
to $500,000, bears interest at the bank's prime rate (8.5% at June 30, 1998) and
expires in September 1998. Borrowings are collateralized by a $500,000
certificate of deposit which is recorded as restricted cash on the accompanying
consolidated balance sheet. There were no borrowings under this line of credit
at June 30, 1998. This line of credit prohibits acquisitions of other entities
without the prior approval of the bank and restricts the payment of cash
dividends.


                                       5

<PAGE>   6

4.  EARNINGS (LOSS) PER SHARE

        The Company has adopted SFAS No. 128, Earnings per Share (EPS), which
replaces the presentation of "primary" earnings per share with "basic" earnings
per share and the presentation of "fully diluted" earnings per share with
"diluted" earnings per share. All previously reported EPS amounts have been
restated based on the provisions of the new standard. Basic EPS amounts are
based upon the weighted average number of common shares outstanding. Diluted EPS
amounts are based upon the weighted average number of common and common
equivalent shares outstanding. Common equivalent shares include stock options
using the treasury stock method. Common equivalent shares are excluded from the
calculation of diluted EPS in loss years, as the impact is antidilutive. There
was no difference between basic and diluted EPS for each period presented. The
number of shares used in computing EPS is as follows:

                                                         For the Three Months
                                                           Ended June 30,
                                                         ---------------------
                                                            1998       1997
                                                         ---------   ---------
Weighted average number of shares outstanding:

        Basic                                            7,922,000   7,842,000


                                                          For the Six Months
                                                            Ended June 30,
                                                         ---------------------
                                                            1998       1997
                                                         ---------   ---------
Weighted average number of shares outstanding:

        Basic                                            7,906,000   7,827,000


                                       6

<PAGE>   7

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION

        This quarterly report on Form 10-QSB contains forward-looking statements
that involve risks and uncertainties. The Company's actual results may differ
materially from the results discussed in the forward-looking statements. Factors
that might cause such a difference include, but are not limited to those
discussed under the caption "Business Risks" contained herein.

GENERAL

        The Company's revenues consist of product sales and royalty income.
Royalty income is derived from international sales of the Company's products
under agreements with co-publishers, and OEM customers in the U.S.

        Product revenues are recorded at the time products are shipped, less
estimated reserves for product returns. Currently the Company uses historical
experience for international shipments and retail sell-through information for
domestic shipments to establish these reserves. The Company's operations are
subject to substantial risk of product returns from distributors and retailers
either through the exercise by the Company's customers of contractual return
rights or as a result of the Company's policy of assisting customers in
balancing and updating inventories. Although the Company attempts to monitor and
manage the volume of its sales to its customers, large shipments in anticipation
of demand which is subsequently unrealized can lead to overstocking by the
distributors and substantial product returns. Certain of the Company's customer
agreements also provide for rebates to customers should the price of the
Company's products decline subsequent to shipment. The Company accrues for such
rebates when such price declines are known or become anticipated.

        Cost of sales includes the cost of blank diskettes, compact disks,
software duplication, packaging materials and user manuals, in addition to
royalties paid to other software development companies under various agreements,
and inventory obsolescence reserves. Sales and marketing expense consists
primarily of salaries and commissions paid to the Company's sales, customer
service and technical support personnel and expenditures for retail product
merchandising and promotions. The Company's products can be expected to have
short product life cycles, characterized by decreases in retail prices as a
given product's life cycle advances.

        The utility software business is part of a fast changing industry and
the ability of the Company to grow or to predict future revenue is dependent to
a large extent on the ability of the Company to develop new products and new
versions of existing products. Given the results of the last two years, and
the competitive factors affecting this industry, as discussed elsewhere in this
report, management is unable to predict at this time whether the Company can be
successful at designing and developing products that can compete profitably in
this industry. Furthermore, several of the products currently under
consideration involve complicated diagnostic technologies which are
significantly more complex than those previously encountered in the development
of the Company's products. This may result in significant delays and greater
expense than normally encountered by the Company in the development of its
products.

        In addition, in order for the Company to achieve satisfactory gross
margins, the Company will need to introduce new products to offset declining
margins associated with older products. All product development efforts include
the risk that products under development prove more difficult to develop than
currently anticipated, resulting in delays in reaching the market, significantly
greater development costs, or even in planned products having to be abandoned.
Moreover, with or without delays in bringing new products to market, it is
possible that the Company's competitors will bring to market successful
competing products which reduce the size of, or eliminate altogether, the market
for the Company's planned products. In addition, the software industry is
characterized by rapid change and technological advancement, including a trend
by hardware manufacturers to feature pre-loaded software packages in computers.
This could reduce demand for the Company's products, if such pre-loaded software
performs many of the same functions as the Company's currently marketed product
or technology currently under development.

        Research and development expense consists primarily of salaries and
related benefits paid to computer programmers to research and design new
software products. In addition to amounts expensed for research and development
activities, salaries paid to the Company's software programmers and fees paid
to outside software development consulting firms for further development,
enhancement, and translation to foreign languages after technological
feasibility of a product has been established are capitalized in accordance
with Statement of Financial Accounting Standards (SFAS) No. 86. During the six
months ended June 30, 1998, technological feasibility was not reached for any
products under development. Accordingly, the Company did not capitalize any
software development costs during the six months ended June 30, 1998.

        The Company's quarterly operating results may fluctuate significantly
due to a variety of factors, including changes in he Company's product and
customer mix, the number and timing of new product introductions by the Company
or its competitors, pricing pressures, general economic conditions, and other
factors. Products are generally shipped as orders are received and,
accordingly, the Company has historically operated with relatively little
backlog. As a result, quarterly revenue will depend on the volume and timing of
orders received during a particular quarter, both of which are difficult to
forecast. In addition, the Company will continue to incur product development,
marketing, and promotional expenses based upon management's expectations as to
future sales. Since many of these expenses are committed in advance, the
Company generally is unable to adjust spending in a timely manner to compensate
for any unexpected shortfall in sales.

                                       7

<PAGE>   8
        The decrease in revenue in the three months ended June 30, 1998 was
primarily due to a decline in the sales of the company's PC-cillin anti-virus
product and the erosion in the pricing structure of those products caused by
increasing competition and rebates. In addition, there has been a general
slowdown in the software utility market pending the release of Windows 98 which
has affected revenues for the company's diagnostic products. The sales of the
company's new CheckIt NetOptimizer, which reached retail stores in early June,
did not attain a volume during quarter sufficient to offset the reduced sales of
other products.

        Management recognizes the difficulty of competing solely in the retail
market, and believes that the Company must embark on a more balanced strategy of
developing diagnostic tools for both home consumers and for professional PC
technicians and assemblers. Currently, the Company is focused on development
efforts for the core CheckIt line with product releases planned for the third
quarter of 1998. Designed for computer technicians and advanced computer
enthusiasts, the next CheckIt products will build upon the Company's strengths
in hardware diagnostics and trouble shooting and will take advantage of new
tools in Windows 98. Additionally, the next CheckIt product will address the
Year 2000 PC hardware compatibility problem and will provide a "patch" to
correct this problem. The Company plans to continue developing products that
address the advanced needs of computer technicians. Because many commercial
markets require tools to test and verify computer components, the Company will
create products to address these needs as well.

        In regards to the strategy to broaden the Company's customer base, the
Company intends on entering new markets and, in so doing will compete against
other companies having greater resources. There is a risk that the Company will
not be able to penetrate these new markets successfully, but will nonetheless
incur sales and administrative expenses in attempting to do so, as well as
research and development costs. To a large extent, the Company's success in this
regard will be a function of the Company's ability to develop new products or
new versions of existing products, along with acceptance of the Company's
products in the commercial market as well as in the retail market.

        Without abandoning the retail market, which is important to maintain for
brand identity, the Company will concentrate on creating more commercial sales.
As a part of executing on that strategy, the Company has restructured its
operations. The loss in the second quarter includes $778,000 of restructuring
charges, which includes reduction of personnel related expenses; severance
packages related to changes in management; expensing of inventory and capital
assets; and expenses associated with a reduction in facilities.

        A fundamental part of the restructuring effort will be to improve the
Company's operations in all areas. Overall employee headcount will be reduced
approximately 30% during the third quarter of 1998. While expenses will be
reduced in some areas and overall expenses will be reduced, the Company will
concentrate on setting up its organization to support the development and sale
of its diagnostic products into the retail channel as well as directly to
businesses.

        To further support the strategy of developing products that address the
advanced needs of computer technicians, the Company signed a three-year
technology license agreement with Award Software International Inc. (Award). As
part of this agreement, the Company will gain access to technology, will engage
consultants, and will receive training from Award, a leading provider of system
enabling and management software for personal computers and embedded systems.

        As part of the Company's plan to increase focus on the development of
CheckIt products, Trend Micro, Inc. will assume responsibility for the PC-cillin
anti-virus product. Trend Micro will provide service and support for current and
future PC-cillin customers. Additionally, the Company will transfer all
PC-cillin inventory in the sales channel and in the Company's warehouse
locations to Trend Micro who will become solely responsible for the stock. The
transfer will take effect on September 30, 1998. The Company and Trend Micro
have co-developed the PC-cillin line of products since 1995.

        Management has assessed the impact of the transition to the Year 2000 on
its products and the software applications that are used internally. Management
believes that all current versions of the Company's products are, and future
releases will be, Year 2000-compliant. Management has received confirmation from
vendors of certain purchased software used internally by the Company that
current releases or upgrades eliminate any Year 2000-related issues. The Company
believes that becoming Year 2000-compliant has not had a significant impact on
the financial position or results of operations of the Company. If the Company
has failed to become Year 2000-compliant with respect to any of its products,
such failure could have a material adverse effect on the Company.


                                       8

<PAGE>   9

PRODUCTS

        The following table sets forth the products currently marketed by the
Company:

<TABLE>
<CAPTION>
                                                                                       INITIAL RELEASE  
PRODUCT TITLE                     DESCRIPTION                                               DATE        
-------------                     -----------                                          ---------------  
<S>            <C>                                                                     <C>              
CheckIt        A utility with new technology that optimizes and troubleshoots             May 1998      
NetOptimizer   users' Internet connections and modems for maximum                                       
(tm)           performance. The product's Internet Tune-Up program optimizes                            
               modem, port and Windows settings for maximum efficiency and                              
               speed, increasing throughput and download speeds on all analog                           
               modems. The CheckIt Internet Monitor automatically tracks                                
               download and connection speeds, total on-line time by day or                             
               month, and notifies surfers when connecting at below-average                             
               rates. CheckIt Redial is available to continually redial an ISP                          
               until a connection at average or above-average speed is obtained.                        
               NetOptimizer also includes Active Update allowing users to                               
               receive free program updates and enhancements.                                           
                                                                                                        
CheckIt        CheckIt version 5 for Windows 95 collects detailed system                  October 1997  
(R)            information, tests system components, pinpoints problems, locates                        
               hidden conflicts, and restores critical system files for fast and                        
               easy PC troubleshooting. CheckIt automatically detects problems,                         
               identifies exactly what isn't working, and guides the user                               
               directly to the information and tests needed to fix it.                                  
                                                                                                        
CheckIt        The CheckIt Professional Edition features the portable,                    October 1997  
Professional   self-booting diagnostics of CheckIt for DOS, new CheckIt v.5                             
Edition        for Windows 95 and the award-winning PC-cillin 3.0                                       
(R)            Anti-Virus. Professional technicians use this product to                                 
               troubleshoot PC problems, test hardware components, diagnose                             
               setup conflicts, optimize modem configuration, calibrate video                           
               components, benchmark PC performance, and conduct burn-in and                            
               certification tests. The CheckIt Professional Edition includes a                         
               year of free program upgrades via the Internet.                                          
                                                                                                        
PC-cillin      PC-cillin provides automatic protection from computer viruses. PC          November 1995 
(R)            PC-cillin monitors virus sources, adjusts protection automatically,        (last update  
               and removes viruses. PC-cillin's exclusive patent-pending                  July 1997)    
               MacroTrap(R) technology detects both known and unknown macro                             
               viruses. PC-cillin includes versions for Windows 95, Windows NT,                         
               Windows 3.x, and DOS.                                                                    
                                                                                                        
FastMove!      A file synchronization and transfer program with ZIPSync that               March 1995   
(R)            keeps the files and directories on desktop PCs, laptops,                    (last update 
               networks and Zip drives, synchronized and up-to-date with the               October 1996)
               click of a button. ZIPSync is the first utility of its kind to
               synchronize and catalog files on a Zip drive. FastMove!
               Includes an Ultra Flex Parallel Transfer Cable.
</TABLE>


                                       9


<PAGE>   10

RESULTS OF OPERATIONS

     The following information should be read in conjunction with the unaudited
consolidated financial statements included herein. All dollar amounts presented
have been rounded to the nearest thousand and all percentages are approximate.

     The following table sets forth certain statement of operations data as a
percentage of total revenues for the three and six months ended June 30, 1998
and 1997:

<TABLE>
<CAPTION>
                                     Three months               Six months
                                    ended June 30,            ended June 30,
                                 -------------------       -------------------
                                  1998         1997         1998         1997
                                 ------       ------       ------       ------
<S>                              <C>          <C>          <C>          <C>
Revenue:
    Product sales                  97.7%        96.6%        98.3%        97.2%
    Royalty income                  2.3          3.4          1.7          2.8
                                 ------       ------       ------       ------
        Total revenue             100.0        100.0        100.0        100.0
Cost of sales                      30.2         44.9         24.3         40.0
                                 ------       ------       ------       ------
        Gross profit               69.8         55.1         75.7         60.0
                                 ------       ------       ------       ------
Sales and marketing               140.8         66.2         67.8         54.1
General and administrative         45.2         21.0         22.4         15.0
Research and development           88.0         39.7         40.3         27.0
Restructuring expense             118.5           --         29.4           --
                                 ------       ------       ------       ------
Total operating expenses          392.5        126.9        159.9         96.1
                                 ------       ------       ------       ------
Loss from operations             (322.7)       (71.8)       (84.2)       (36.1)
Other income, net                  24.2         10.0         12.3          7.6
                                 ------       ------       ------       ------
Loss before income taxes         (298.5)       (61.8)       (71.9)       (28.5)
Provision for income taxes          0.1           --           --           --
                                 ------       ------       ------       ------
        Net loss                 (298.6)%      (61.8)%      (71.9)%      (28.5)%
                                 ======       ======       ======       ======
</TABLE>

COMPARISON OF THREE MONTHS ENDED JUNE 30, 1998 AND 1997

        Revenue. Product sales decreased from 1997 to 1998 primarily due to a
decline in the sales of the company's PC-cillin anti-virus product and the
erosion in the pricing structure of those products caused by increasing
competition and rebates. In addition, there has been a general slowdown in the
software utility market pending the release of Windows 98 which has affected
revenues for the company's diagnostic products. The sales of the company's new
CheckIt NetOptimizer, which reached retail stores in early June, did not attain
a volume during the quarter sufficient to offset the reduced sales of other
products.

        Royalty income remained relatively constant from 1997 to 1998. Royalty
income decreased as a percentage of total revenues, from 3.4% in 1997 to 2.3%
in 1998.


                                      10


<PAGE>   11

     Gross Profit. Gross profit as a percentage of total revenues increased from
55.1% in 1997 to 69.8% in 1998. The primary reason for this increase was due to
reduced royalty expense as the mix of products sold during 1998 included more
Company developed products.

     Sales and Marketing Expense. The decrease in sales and marketing expense
was primarily attributable to a decrease in the number of customer service and
marketing personnel in 1998 as compared to 1997. Retail promotion costs and
media advertising expenses remained relatively constant between 1997 to 1998.
Due to the decrease in product sales, sales and marketing expenses increased as
a percentage of total revenues from 66.2% in 1997 to 140.8% in 1998.

     General and Administrative Expense. The decrease in general and
administrative expense from 1997 to 1998 was primarily due to legal costs
incurred in connection with certain terminated acquisition activities in 1997
which were not incurred in 1998. As a percentage of total revenues, general and
administrative expenses increased from 21.0% in 1997 to 45.2% in 1998.

     Research and Development Expense. Included in research and development
expense during the three months ended June 30, 1997 was a one-time charge of
$151,000 to write-off previously capitalized costs incurred to develop the
Company's e.Support product. Excluding the one time charge, research and
development expense remained constant in 1998 from 1997. Research and
development expense increased as a percentage of total revenues, from 39.7% in
1997 to 88.0% in 1998.

     Restructuring Expense. As a part of the Company's strategy to concentrate
on creating more commercial sales, the Company has restructured its operations.
The loss in the second quarter includes $778,000 of restructuring charges, which
includes an executive severance package related to the changes in the office of
the Chief Executive Officer totaling approximately $524,000; cost of $42,000
related to the termination of the contract with Trend Micro Systems; $149,000 of
expenses related to the write off of capital assets; and expenses associated
with a reduction in facilities of $63,000.

     Other Income. Other income is comprised primarily of interest earned on the
Company's investments. Investment income declined in 1998 compared to 1997 as
the Company reduced investment holdings in 1998 to fund operations.

COMPARISON OF  SIX MONTHS ENDED JUNE 30, 1998 AND 1997

     Revenue. Product sales decreased from 1997 to 1998 primarily due to a
decline in the sales of the company's PC-cillin anti-virus product and the
erosion in the pricing structure caused by increasing competition and rebates.
In addition, there has been a general slowdown in the utility market pending the
release of Windows 98 which has affected revenues for the company's diagnostic
products. The sales of the company's new CheckIt NetOptimizer, which reached
retail stores in early June, did not attain a volume during the quarter
sufficient enough to offset the reduced sales of other products.




                                      11


<PAGE>   12

     Royalty income decreased in 1998 as the product mix changed from royalty
based sales to direct product sales. Royalty income decreased as a percentage of
total revenues from 2.8% in 1997 to 1.7% in 1998.

     Gross Profit. Gross profit as a percentage of total revenues increased from
60.0% in 1997 to 75.7% in 1998. The primary reason for this increase was due to
reduced royalty expense as the mix of products sold during 1998 included more
Company developed products.

     Sales and Marketing Expense. The decrease in sales and marketing expense
was primarily attributable to a decrease in the number of customer service and
marketing personnel and a reduction in media advertising expense in 1998 as
compared to 1997. Retail promotion costs remained relatively constant between
1997 to 1998. Due to the decrease in product sales, sales and marketing expenses
increased as a percentage of total revenues from 54.1% in 1997 to 67.8% in 1998.

     General and Administrative Expense. The decrease in general and
administrative expense from 1997 to 1998 was primarily due to legal costs
incurred in connection with certain terminated acquisition activities in 1997
and a decrease in telephone costs in 1998. As a percentage of total revenues,
general and administrative expenses increased from 15.0% in 1997 to 22.4% in
1998.

     Research and Development Expense. Included in research and development
expense during the six months ended June 30, 1997 was a one-time charge of
$151,000 to write-off previously capitalized costs incurred to develop the
Company's e.Support product. In addition the company reduced its use of outside
consultants. Research and development expense increased as a percentage of total
revenues, from 27.0% in 1997 to 40.3% in 1998.

     Restructuring Expense. As a part of the Company's strategy to concentrate
on creating more commercial sales, the Company has restructured its operations.
The loss in the second quarter includes $778,000 of restructuring charges, which
includes an executive severance package related to the changes in the office of
the Chief Executive Officer totaling approximately $524,000; cost of $42,000 of
related to the termination of the contract with Trend Micro Systems; $149,000 of
expenses related to the write off of capital assets; and expenses associated
with a reduction in facilities of $63,000.

     Other Income. Other income is comprised primarily of interest earned on the
Company's investments. Investment income declined in 1998 compared to 1997 as
the Company reduced investment holdings in 1998 to fund operations.

LIQUIDITY AND CAPITAL RESOURCES

     During the six months ended June 30, 1998 the Company used cash resources
of $781,000 for operating activities and purchased equipment totaling $58,000.
The Company



                                      12


<PAGE>   13

sold investments in debt securities totaling $21,066,000, and purchased similar
securities aggregating $20,761,000. The Company also received proceeds from
exercises of common stock options aggregating $59,000.

     The Company's cash, cash equivalents, restricted cash, and investments
totaled $10,870,000 at June 30, 1998. Working capital decreased from $8,401,000
at December 31, 1997 to $6,713,000 at June 30, 1998. Cash and cash equivalents
decreased from $1,434,000 at December 31, 1997 to $958,000 at June 30, 1998. The
decline in cash and cash equivalents and working capital was due primarily to
the net loss incurred by the Company in the six months ended June 30, 1998.

     The restructuring activities which began in June 1998 and will be completed
during the quarter ending September 30, 1998 with an impact of approximately
$570,000 on cash over the 18 months following the period ending June 30, 1998.

     In September 1997, the Company negotiated a bank line of credit which
allows for borrowings up to $500,000 and expires in September 1998. Borrowings
will bear interest at the bank prime rate, and are collateralized by a $500,000
certificate of deposit. The bank prime rate at June 30, 1998 was 8.5%. There
were no borrowings under the bank line of credit at June 30, 1998. This line of
credit prohibits acquisitions of other entities without the prior approval of
the bank, and restricts the payments of cash dividends.

     Management believes that the Company's existing cash, investments and
periodic borrowings under the line of credit will be sufficient to fund the
Company's operations at currently anticipated levels through June 30, 1999. The
Company plans to use its cash resources to finance new product development and
existing product enhancements, expand internationally, and expand the direct
sales force for corporate customers. The execution of such plans may include
strategic acquisitions of, or investments in, businesses, products or
technologies.

BUSINESS RISKS

     This report on Form 10-QSB contains forward-looking statements that involve
risks and uncertainties. The actual future results of the Company could differ
materially from those statements. Factors that could cause or contribute to such
differences include, but are not limited to, those discussed below and elsewhere
in this report.

     All product development efforts include the risk that products under
development prove more difficult to develop than currently anticipated,
resulting in delays in reaching the market, significantly greater development
costs, or even in planned products having to be abandoned. Moreover, with or
without delays in bringing new products to market, it is possible that the
Company's competitors will bring to market successful competing products which
reduce the size of, or eliminate altogether, the market for the Company's
planned products. In addition, the software industry is characterized by rapid
change and technological advancement, including a trend by hardware
manufacturers to feature pre-loaded software packages in computers. This could
reduce demand for the Company's products, if such pre-loaded software performs
many of the same functions as the Company's currently marketed product or
technology currently under-development.


                                      13


<PAGE>   14

     The utility software business is part of a fast changing industry and the
ability of the Company to grow or to predict future revenue is dependent to a
large extent on the ability of the Company to develop new products and new
versions of existing products. Given the results of the last two years, and the
competitive factors affecting this industry, as discussed elsewhere in this
report, management is unable to predict at this time whether the Company can be
successful at designing and developing products that can compete profitably in
this industry. Furthermore, several of the products currently under
consideration involve complicated diagnostic technologies which are
significantly more complex than those previously encountered in the development
of the Company's products. This may result in significant delays and greater
expense than normally encountered by the Company in the development of its
products.

     With respect to statements regarding the strategy to broaden the Company's
customer base, the Company intends on entering new markets and, in so doing,
will compete against other companies having greater resources. There is a risk
that the Company will not be able to penetrate these new markets successfully,
but will nonetheless incur sales and administrative expenses in attempting to do
so, as well as research and development costs. To a large extent, the Company's
success in this regard will be a function of the Company's ability to develop
new products or new versions of existing products, along with acceptance of the
Company's products in the commercial market as well as in the retail market.

     Management has assessed the impact of the transition to the year 2000 on
its products and the software applications that are used internally. Management
believes that all current versions of the Company's products are, and future
releases will be, year 2000-compliant. Management has received confirmation from
vendors of certain purchased software used internally by the Company that
current releases or upgrades eliminate any year 2000-related issues. The Company
believes that becoming year 2000-compliant has not had a significant impact on
the financial position or results of operations of the Company. If the Company
has failed to become year 2000-compliant with respect to any of its products,
such failure could have a material adverse effect on the Company.




                                      14


<PAGE>   15

                           PART II - OTHER INFORMATION

ITEM 1.  LEGAL PROCEEDINGS

     On October 9, 1996 an entity known as Intervention, Incorporated
("Intervention") filed an action against the Company in the Superior Court of
the State of California, Contra Costa County (C 96-04476). Intervention claims
that it is a non-profit corporation bringing an action for the interests of the
general public. In essence, Intervention claims that the Company is engaged in
unfair competition and is violating California's Fair Packaging and Labeling Act
by filling the Software packages to "substantially less than their capacities."
Intervention seeks injunctive relief, unspecified attorneys' fees and damages of
$1,000,000. Eight other software companies have been named as defendants in
identical lawsuits in three different counties; all of the actions have been
coordinated in the San Francisco Superior Court (No. 4006). The Court sustained
the Company's demurrer to the complaint without leave to amend on January 23,
1998 and entered judgment in the case on behalf of the defendants. The plaintiff
has filed a notice of appeal. The Company will continue to defend itself
vigorously. Based on its current knowledge, the Company does not believe that
this matter will have a material adverse effect on the financial condition or
results of operations of the Company.


ITEM 2.  CHANGES IN SECURITIES
        
         Not applicable.

ITEM 3.  DEFAULTS UPON SENIOR SECURITIES

         Not applicable.

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

         None.

ITEM 5.  OTHER INFORMATION

         None

ITEM 6.  EXHIBITS AND REPORTS ON FORM 8-K

         a.   Exhibits

              Exhibit 27 -- Financial Data Schedule.

         b.   Reports on Form 8-K

              None


                                      15


<PAGE>   16

                               S I G N A T U R E S

     Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.



                                              TOUCHSTONE SOFTWARE CORPORATION
                                                       (Registrant)


<TABLE>

<S>                           <C>                        <C>
/s/   Larry W. Dingus          Dated: August 12, 1998    Acting Chief Executive Officer
-------------------------                                and Director
      Larry W. Dingus


/s/   Ronald R. Maas           Dated: August 12, 1998    Executive Vice President,
--------------------------                               Chief Financial Officer, Principal
      Ronald R. Maas                                     Accounting Officer and Director
</TABLE>


                                      16


<PAGE>   17

                                EXHIBIT INDEX



  Exhibit         
  Number          Description
  -------         -----------

    27            Financial Data Schedule