<PAGE>

                                 UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

                                    FORM 10-Q

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

  For the Quarterly period ended    June 30, 2002
                                    -------------

                                       OR

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

  Commission File Number   1-14007
                           -------

                               SONIC FOUNDRY, INC.
                               -------------------
             (Exact name of registrant as specified in its charter)

                MARYLAND                                    39-1783372
     -------------------------------                    ----------------
     (State or other jurisdiction of                   (I.R.S. Employer
     incorporation or organization)                    Identification No.)


                     1617 Sherman Avenue, Madison, WI 53704
                     --------------------------------------
                    (Address of principal executive offices)

                                  (608)256-3133
                                  -------------
                             (Registrant's telephone
                           number including area code)

Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days
Yes  X  No ____.
    ---
State the number of shares outstanding of each of the issuer's common equity as
of the last practicable date:

                                                     Outstanding
                      Class                         Aug 12, 2002
                      -----                         ------------
             Common Stock, $0.01 par value           27,691,426

<PAGE>

                              SONIC FOUNDRY, INC.
                         QUARTERLY REPORT ON FORM 10-Q
                          QUARTER ENDED JUNE 30, 2002

                                TABLE OF CONTENTS

<TABLE>
<CAPTION>
                                                                                 PAGE NO.
                                                                                 --------
<S>                                                                              <C>
PART I     FINANCIAL INFORMATION

Item 1.    Consolidated Financial Statements

           Consolidated Balance Sheets - June 30, 2002 (Unaudited)
             and September 30, 2001 ..............................................   3

           Consolidated Statements of Operations (Unaudited) -
             Three months ended June 30, 2002 and 2001, and the nine
             months ended June 30, 2002 and 2001 .................................   5

           Consolidated Statements of Cash Flows (Unaudited) -
             Nine months ended June 30, 2002 and 2001. ...........................   6

           Notes to Consolidated Financial Statements (Unaudited) ................   8

Item 2.    Management's Discussion and Analysis of Financial
             Condition and Results of Operations .................................  16

Item 3.    Quantitative and Qualitative Disclosures
             About Market Risk ...................................................  27

PART II    OTHER INFORMATION

Item 2.    Changes in Securities and Use of Proceeds .............................  29

Item 6.    Exhibits and Reports on Form 8-K ......................................  29
</TABLE>

                                       2

<PAGE>

                               Sonic Foundry, Inc.
                           Consolidated Balance Sheets
                        (in 000's except for share data)

<TABLE>
<CAPTION>
                                                                            June 30,      September 30,
                                                                              2002            2001
                                                                      ---------------------------------
<S>                                                                    <C>                <C>
 Assets                                                                    (Unaudited)
 Current assets:
   Cash and cash equivalents                                           $         6,314    $      7,809
   Restricted cash                                                               1,000               -
   Accounts receivable, net of allowances of $745 and $1,075                     4,581           4,065
   Accounts receivable, other                                                      124              26
   Inventories                                                                     403           1,118
   Prepaid expenses and other current assets                                       779           1,085
                                                                      --------------------------------
 Total current assets                                                           13,201          14,103

 Property and equipment:
   Buildings and improvements                                                    2,434           2,409
   Equipment                                                                    13,511          13,823
   Furniture and fixtures                                                          571             542
   Assets held for sale                                                              -              40
                                                                      --------------------------------
      Total property and equipment                                              16,516          16,814
    Less accumulated depreciation                                                7,127           5,010
                                                                      --------------------------------
 Net property and equipment                                                      9,389          11,804

 Other assets:
   Goodwill and other intangibles, net                                           8,222          44,732
   Capitalized software development costs and purchased technology,
      net                                                                        1,433              73
   Long-term investment                                                              -             514
   Debt issue costs, net                                                           717               -
   Other assets                                                                     30             457
                                                                      --------------------------------
 Total other assets                                                             10,402          45,776
                                                                      --------------------------------
 Total assets                                                          $        32,992    $     71,683
                                                                      ================================
</TABLE>

See accompanying notes.

                                        3

<PAGE>

                               Sonic Foundry, Inc.
                           Consolidated Balance Sheets
                        (in 000's except for share data)

<TABLE>
<CAPTION>
                                                                                 June 30,     September 30,
                                                                                   2002            2001
                                                                             ------------------------------
<S>                                                                          <C>              <C>
Liabilities and stockholders' equity                                            (Unaudited)
Current liabilities:
   Accounts payable                                                            $    2,046       $     2,316
   Unearned revenue                                                                    64                83
   Accrued liabilities                                                              1,606             1,719
   Accrued restructuring charges                                                       45               345
   Current portion of long-term debt                                                3,116             4,003
   Convertible debt, net of discount                                                2,763                 -
   Current portion of capital lease obligations                                       922             1,216
                                                                             ------------------------------
Total current liabilities                                                          10,562             9,682

   Long-term obligations, net of current portion                                      294               217
   Capital lease obligations, net of current portion                                   76               525
   Other liabilities                                                                  165                28

Stockholders' equity
   Preferred stock, $.01 par value, authorized 5,000,000 shares, none
     issue and outstanding                                                              -                 -
   5% preferred stock, Series B, voting, cumulative,
     convertible, $.01 par value (liquidation preference at
     par), authorized 10,000,000 shares, none issued and
     outstanding                                                                        -                 -
   Common stock, $.01 par value, authorized 100,000,000
     shares; 27,215,251 and 22,345,503 shares issued and
     27,187,501 and 22,317,753 outstanding at June 30, 2002 and
     September 30, 2001                                                               272               223
   Common stock to be issued                                                          660             5,375
   Additional paid-in capital                                                     166,247           148,188
   Accumulated deficit                                                           (145,013)          (92,248)
   Receivable for common stock issued                                                 (26)              (34)
   Cumulative foreign currency translations/adjustments                               (29)                7
   Unearned compensation                                                              (66)             (130)
   Treasury stock, at cost, 27,750 shares                                            (150)             (150)
                                                                             ------------------------------
Total stockholders' equity                                                         21,895            61,231
                                                                             ------------------------------
Total liabilities and stockholders' equity                                     $   32,992       $    71,683
                                                                             ==============================
</TABLE>

See accompanying notes.

                                        4

<PAGE>

                               Sonic Foundry, Inc
                            Statements of Operations
                                   (Unaudited)

<TABLE>
<CAPTION>
                                                          Three months ended                Nine months ended
(in 000's except for per share data)                           June 30,                         June 30,
                                                   --------------------------------------------------------------
                                                        2002            2001             2002             2001
                                                   --------------------------------------------------------------
<S>                                                <C>              <C>              <C>              <C>
Revenue:
   Software                                        $       4,660    $     4,161      $    12,364    $     12,683
   Services                                                2,574          2,933            7,358           8,193
                                                   --------------------------------------------------------------
     Total revenue                                         7,234          7,094           19,722          20,876

Cost of revenue:
   Cost of software                                          733          1,171            2,702           4,365
   Cost of services                                        1,802          1,793            5,376           6,083
                                                   --------------------------------------------------------------
     Total cost of revenues                                2,535          2,964            8,078          10,448
                                                   --------------------------------------------------------------
     Gross profit                                          4,699          4,130           11,644          10,428

Operating expenses:
   Selling and marketing expenses                          2,061          1,973            6,385          10,140
   General and administrative expenses                     1,586          2,231            4,827           7,922
   Product development expenses                            1,755          1,685            5,418           6,312
   Amortization of goodwill and
     other intangibles                                         -          6,726                -          20,753
   Restructuring charges                                       -              -                -           3,782
                                                   --------------------------------------------------------------
     Total operating expenses                              5,402         12,615           16,630          48,909
                                                   --------------------------------------------------------------
     Loss from operations                                   (703)        (8,485)          (4,986)        (38,481)

Other income (expense):
   Interest expense                                         (207)          (141)            (396)           (513)
   Non-cash interest expense                              (1,299)             -           (2,157)              -
   Interest and other                                        (87)            90             (286)            508
                                                   --------------------------------------------------------------
     Total other income (expense)                         (1,593)           (51)          (2,839)             (5)
                                                   --------------------------------------------------------------
   Loss before income taxes and cumulative effect
     of change in accounting principle                    (2,296)        (8,536)          (7,825)        (38,486)
   Income taxes                                             (208)             -             (208)              -
                                                   --------------------------------------------------------------
   Loss before cumulative effect of change in
     accounting principle
   Cumulative effect of change in accounting              (2,504)        (8,536)          (8,033)        (38,486)
     principle                                                 -              -          (44,732)              -
                                                   --------------------------------------------------------------
Net loss                                           $      (2,504)   $    (8,536)     $   (52,765)        (38,486)
                                                   ==============================================================

Loss per common share:
   Loss before cumulative effect of change in      $
     accounting principle                                   (.09)   $     (0.39)     $      (.30)   $      (1.75)
   Cumulative effect of change in accounting
     principle                                                 -              -            (1.69)              -
                                                   --------------------------------------------------------------
    Net loss per common share -  basic and diluted $        (.09)   $     (0.39)     $     (1.99)   $      (1.75)
                                                   ==============================================================
</TABLE>

                                       5

See accompanying notes.

<PAGE>

                               Sonic Foundry, Inc.
                      Consolidated Statements of Cash Flows
                                   (Unaudited)

<TABLE>
<CAPTION>
                                                                                           Nine months ended
                                                                                               June 30,
(in 000's)                                                                           2002                   2001
                                                                                 ----------------------------------
<S>                                                                              <C>                    <C>
Operating activities
Net loss                                                                         $    (52,765)          $   (38,486)
Adjustments to reconcile net loss to net cash used in operating activities:
   Cumulative effect of change in accounting principle                                 44,732                     -
   Amortization of goodwill, other intangibles, purchased technology and
        capitalized software development costs                                            305                21,121
   Depreciation and amortization of property and equipment                              2,533                 2,566
   Amortization of debt discount and debt issue costs                                   2,157                     -
   Noncash charge for common stock warrants and options                                   168                   550
   Loss on sale of assets                                                                 227                 1,557
   Write-off of long-term investment                                                      514                     0
   Gain on settlement of debt                                                            (238)                    0
   Changes in operating assets and liabilities:
     Accounts receivable                                                                 (606)                4,396
     Inventories                                                                          715                   922
     Prepaid expenses and other assets                                                    222                   750
     Accounts payable and accrued liabilities                                          (3,359)               (2,870)
                                                                                 ----------------------------------
Total adjustments                                                                      47,370                28,992
                                                                                 ----------------------------------
Net cash used in operating activities                                                  (5,395)               (9,494)

Investing activities
Acquisition, net of cash acquired                                                        (579)                 (679)
Purchases of property and equipment                                                      (450)               (1,955)
Sales of property and equipment                                                             4                 1,213
                                                                                 ----------------------------------
Net cash used in investing activities                                                   (1025)               (1,421)

Financing activities
Proceeds from sale of common stock                                                        260                   300
Proceeds from debt, net of commissions and issue costs                                  6,758                   436
Borrowings on line of credit, net                                                           -                   595
Payments on long-term debt and capital leases                                          (1,097)               (2,887)
Cash placed in escrow                                                                  (1,000)                    -
                                                                                 ----------------------------------
Net cash provided by (used in) financing activities                                     4,921                (1,556)
Effect of exchange rate changes on cash                                                     4                   131
                                                                                 ----------------------------------
Net increase (decrease) in cash                                                        (1,495)              (12,340)
Cash and cash equivalents at beginning of period                                        7,809                21,948
                                                                                 ----------------------------------

Cash and cash equivalents at end of period                                       $      6,314           $     9,608
                                                                                 ==================================
</TABLE>

                                        6

<PAGE>

                               Sonic Foundry, Inc.
                Consolidated Statements of Cash Flows (continued)
                                   (Unaudited)

<TABLE>
<S>                                                                            <C>        <C>
Supplemental cash flow information:
   Interest paid                                                               $    277   $     258
Non-cash transactions -
     Capital lease acquisitions                                                      17          86
     Issuance of options for deferred compensation plan                             104           -
     Issuance of warrants for consulting services                                    49          19
     Conversion of exchangeable stock into common stock                           5,375           -
     Common stock and stock options issued for MediaSite                          5,016           -
     Common stock issued for Digital Savant                                         541           -
     Common stock issued for liabilities assumed in MediaSite transaction           125           -
     Common stock to be issued for debt settlement                                  660
     Reclassification of goodwill to fixed assets upon final appraisal of
       International Image                                                            -       1,281
     Cancellation of unvested stock options classified as unearned
       compensation upon acquisition of STV                                           -       1,249
</TABLE>

                                        7

<PAGE>

1.   Basis of Presentation and Significant Accounting Policies

Interim Financial Data

The accompanying financial statements have been prepared in accordance with
accounting principles generally accepted in the United States for interim
financial information and with the instructions to Form 10-Q and Article 10 of
Regulation S-X.

Accordingly, they do not include all of the information and notes required by
accounting principles generally accepted in the United States ("GAAP") for
complete financial statements and should be read in conjunction with the
Company's annual report filed on Form 10-K for the fiscal year ended September
30, 2001. In the opinion of management, all adjustments (consisting only of
adjustments of a normal and recurring nature) considered necessary for a fair
presentation of the results of operations have been included. Operating results
for the nine-month period ended June 30, 2002 are not necessarily indicative of
the results that might be expected for the year ended September 30, 2002.

Revenue Recognition

Revenues from software license fees consist of fees charged for the licensing of
Windows-based software products. We recognize software product revenue upon
delivery, net of estimated returns, provided that collection is determined to be
probable and no significant obligations remain. Software product revenue from
certain distributors is subject to agreements allowing limited rights of return,
rebates, and price protection. Accordingly, we reduce revenue recognized for
estimated future returns, price protection if given, and rebates at the time the
related revenue is recorded or promotion is offered. The estimates for returns
are adjusted periodically based upon historical rates of returns, estimated
inventory levels in the distribution channel, and other related factors. The
estimates and reserves for rebates and price protection are based on historical
rates.

Delivery occurs through the following methods:

..    Direct Distribution: Direct revenues are recognized upon delivery to the
     end-user either via shipment of a boxed product from the Company's
     fulfillment contractor or electronic download. No returns are accepted.

..    Retail Distribution: Retail revenues are recognized upon delivery to a
     third-party distributor, net of allowances for estimated returns, rebates
     and price protection.

..    OEM and System Integrators: OEM and System Integrator revenues are
     generated through partnerships with hardware and software vendors who
     license the right to bundle one of the Company's products with the
     partner's products. Typically, this type of revenue is recognized as the
     partner sells through to the end-user.

                                       8

<PAGE>

..    Consulting: Consulting revenues include fees recorded pursuant to long-term
     contracts, using the percentage of completion method of accounting, when
     significant customization or modification of a product is required.

..    Consignment: Consignment revenues are recognized when a third-party
     reseller delivers the boxed product to their customer.

All desktop software products sold include free installation support and
professional software products sold include 60 days of free telephone support.
Costs associated with free support are accrued at the date of sale because the
free support is not significant. Customers that require additional post-contract
customer support ("PCS") are charged a separate fee either through a telephone
charge or annual subscription charge. Revenue and associated costs for PCS are
recognized as the services are performed or on a straight-line basis over the
contractual period.

Revenues from services are typically recognized when persuasive evidence of a
contract exists, the service has been completed and no significant obligations
of the Company remain, the fee is fixed and determinable and collection of the
resulting receivable is deemed probable. The Company records revenue on a
percentage of completion method, generally by using the number of tapes
completed as a percentage of total tapes included in the contract, when
performing services of a duration of 30 days or more and all criteria for
recognition of service revenue are met other than completion.

We perform ongoing credit evaluations of our customers' financial condition and
generally do not require collateral. We maintain allowances for potential credit
losses and such losses have been within our expectations.

Inventories

Inventory consists of the following (in thousands):

<TABLE>
<CAPTION>
                                                                                     June 30,       September, 30
                                                                                       2002            2001
                                                                             ---------------------------------------
<S>                                                                          <C>                    <C>
Raw materials and supplies                                                            $ 241           $   390
Work-in-process                                                                          26               112
Finished goods                                                                          136               616
                                                                             ---------------------------------------
                                                                                      $ 403           $ 1,118
                                                                             =======================================
</TABLE>

                                        9

<PAGE>

Net Loss Per Share

The following table sets forth the computation of basic and diluted loss per
share:

<TABLE>
<CAPTION>
                                                               Three months ended            Nine months ended
                                                                    June 30,                     June 30,
                                                               2002          2001           2002           2001
                                                          ------------------------------------------------------------
<S>                                                       <C>              <C>            <C>            <C>
Denominator

Denominator for basic and diluted loss per share -
  weighted average common shares                            27,122,342     22,127,533     26,517,529     21,999,981

Securities that could potentially dilute basic
 earnings per share in the future that are not
 included in the computation of diluted loss per
 share as their impact is anti-dilutive:
    Options, warrants and exchangeable shares                1,660,420      1,272,208      2,253,555      1,389,721
    Convertible subordinated debt                            2,908,162              -      1,523,323              -
</TABLE>

Accounting Pronouncements

In August 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards ("SFAS") No. 144, Accounting for the Impairment
or Disposal of Long-Lived Assets ("SFAS 144"), which addresses financial
accounting and reporting for the impairment or disposal of long-lived assets and
supersedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and
for Long-Lived Assets to be Disposed Of, and the accounting and reporting
provisions of APB Opinion No. 30, Reporting the Results of Operations for a
disposal of a segment of a business. FAS 144 is effective for fiscal years
beginning after December 15, 2001, with earlier application encouraged. The
Company adopted FAS 144 as of October 1, 2001. The adoption of the Statement had
no significant impact on the Company's financial position and results of
operations.

Effective October 1, 2001, the Company adopted Statement of Financial Accounting
Standards No. 142, Goodwill and Other Intangible Assets. Under SFAS No. 142,
goodwill is no longer amortized but reviewed for impairment annually, or more
frequently if certain indicators arise. The Company was required to complete the
initial step of a transitional impairment test within six months of adoption of
SFAS No. 142. During the first quarter of 2002, the Company retained an outside
valuation firm to assist in the completion of the transitional impairment test.
It was determined that the remaining goodwill of the services reporting unit
associated with the acquisitions of STV Communications, Inc. and International
Image Services, Inc. was entirely impaired, which resulted in a $44,732,000
charge reflected as a cumulative effect of change in accounting principle. See
Note 5 for additional details.

Subsequent impairment charges for MediaSite or other acquisitions, if any, will
be reflected as an operating expense in the income statement. Had the Company
been accounting for its goodwill under SFAS No. 142 for all periods presented,
the Company's net income and earnings per share would have been as follows:

                                       10

<PAGE>

<TABLE>
<CAPTION>
            (in thousands, except per share data)                Nine months ended June 30,
                                                                 2002                 2001
                                                           ---------------------------------------
            <S>                                            <C>                  <C>

            Reported net loss                               $        (52,765)   $         (38,486)
            Add back cumulative effect of change in
              accounting principle                                    44,732                    -
            Add back goodwill amortization                                 -               20,753
                                                           --------------------------------------
              Adjusted net loss                             $         (8,033)   $         (17,733)
                                                           ======================================

            Basic and diluted - net loss per share
              Reported net loss per share                   $          (1.99)   $           (1.75)
              Cumulative effect of change in accounting
                Principle                                               1.69                    -
              Goodwill amortization                                        -                  .94
                                                           --------------------------------------
                Adjusted net loss per share                 $           (.30)   $            (.81)
                                                           ======================================
</TABLE>

2.     Restructuring Charge

As a result of rapidly changing market conditions, in December 2000 the
Company's Board of Directors authorized management to make a 40% workforce
reduction affecting all divisions of the Company in order to reduce future cash
expenditures. The restructuring charges were determined based upon plans
submitted by the Company's management and approved by the Board of Directors
using information available at the time. As a result of the workforce reduction,
the Company exited four leased facilities and disposed of fixed assets (mainly
computer equipment and trade show assets) that were no longer necessary for
future operations. Future lease obligations of facilities exited were accrued
net of estimated sub-lease income to be generated through the lease term.
Computer equipment and trade show assets no longer necessary for operations were
written down from a carrying amount of $3.1 million to their anticipated net
realizable value. As a result of the workforce reductions, termination of leases
and disposal of fixed assets, the Company recorded restructuring charges of
$3,782,000 during the first quarter of fiscal 2001. In the fourth quarter of
fiscal 2001, the Company refined the net realizable value of equipment no longer
necessary in operations that was identified in the December 2000 restructuring
plan, which resulted in an additional charge of $1,191,000. The remaining
balance will continue to decrease as lease obligations are paid and sublease
income is received.

<TABLE>
<CAPTION>
(in thousands)                                  Severance and      Lease     Fixed asset
                                               Related Charges Terminations   Disposals     Other        Total
                                               --------------- ------------   ---------     -----        -----
<S>                                            <C>             <C>           <C>          <C>         <C>
Charge in December 2000                        $       1,470    $     1,555  $     594    $     163   $    3,782
Charge in September 2001                                   -              -      1,191            -        1,191
                                               -----------------------------------------------------------------
  Total charges                                        1,470          1,555      1,785          163        4,973
Adjustments to December 2000 charge                        -           (503)       503            -            -
Amount paid in fiscal 2001, net                       (1,470)          (707)         -           (2)      (2,179)
Non-cash charges                                           -              -     (2,288)        (161)      (2,449)
                                               -----------------------------------------------------------------
  Accrued liabilities at September 30, 2001                -            345          -            -          345
Adjustments to December 2000 Charge                                    (121)       121
</TABLE>

                                       11

<PAGE>

<TABLE>
<S>                                            <C>              <C>          <C>          <C>         <C>
Amount paid in fiscal 2002, net                                        (179)         -            -         (179)
Non-cash charges                                                                  (121)           -         (121)
                                              --------------------------------------------------------------------------
                                               $           -    $        45   $      -    $       -   $       45
                                              --------------------------------------------------------------------------
</TABLE>

3.     Contingencies

In early January 2001, the Company withheld payment on a $4 million note due to
the former shareholders of International Image pending the resolution of certain
disputed representations made during the acquisition. In January 2001 certain of
the note holders initiated litigation against the Company in Toronto for payment
of the note and in March 2001 the Company initiated a counter action for damages
incurred.

In April 2001, the Company paid certain shareholders $500,000 in full settlement
of $700,000 of the note plus accrued interest originally owed. Litigation with
the remaining shareholders continued.

In October 2001, pursuant to an agreement with the plaintiffs, the Company
deposited $1,000,000 with the Ontario Superior Court of Justice to be held in
trust until settlement of the suit. The transaction was recorded as restricted
cash.

In June 2002, the Company settled $2.8 million of the remaining $3.3 million
note balance plus accrued interest for $1.9 million and 500,000 shares of common
stock valued at $660,000. The difference between the principal and accrued
interest balance and the settlement cost was recorded as a gain, net of certain
legal costs. The payment and issuance of shares did not occur until early July
2002.

A remaining amount of $330,000 to one former shareholder is still in litigation.
We have filed the necessary documentation with the Ontario Superior Court of
Justice for the return of a portion of the $1,000,000 held in escrow.

4.     Acquisitions

On October 15, 2001, the Company completed the asset purchase of MediaSite,
Inc., which provided automated rich media publishing, management and access
solutions. Under terms of the purchase agreement, a wholly-owned subsidiary of
the Company purchased the majority of the assets of MediaSite and assumed
certain of its liabilities in exchange for 3,880,000 shares of the Company's
common stock and 300,000 warrants valued at $1.20 per share. Also as part of the
purchase, the Company capitalized $490,000 in closing costs, $3,101,000 in
assumed liabilities and a $365,000 advance that was issued to MediaSite in
September 2001. Approximately $9,100,000 of intangible assets resulted from the
purchase. The Company obtained an independent appraisal, which resulted in an
allocation of $120,000 to the Carnegie Mellon University license agreement,
$130,000 to the MediaSite trade name and $1,400,000 to acquired technology. All
three were determined to have useful lives of 5 years and will be amortized to
cost of goods sold. The remaining balance of $7,450,000 was assigned to goodwill

                                       12

<PAGE>

and, in accordance with SFAS No. 142, will not be amortized, but will be
reviewed annually for impairment.

On February 12, 2002 the Company's services division purchased all the
intellectual property rights to Media Taxi (TM) from Los Angeles based Digital
Savant, Inc. in exchange for $100,000 and 221,000 shares of the Company's common
stock. Media Taxi is a widely deployed browser-based media asset management
system focused on streamlining the management and distribution of marketing and
publicity materials for the entertainment industry. A large portion of the
acquisition price, $430,000, was assigned to goodwill and, in accordance with
SFAS No. 142, will not be amortized, but will be reviewed annually for
impairment. The remaining $240,000 was assigned to purchased technology and will
be amortized to cost of services over two years.

5.     Goodwill and Other Intangible Assets - Adoption of Statement No. 142

In July 2001, the FASB issued SFAS No. 142 Goodwill and Other Intangible Assets,
which established financial accounting and reporting for acquired goodwill and
other intangible assets and supersedes APB Opinion No. 17, Intangible Assets.
The Company early adopted SFAS No. 142 on October 1, 2001, the beginning of its
fiscal year. SFAS No. 142 requires that goodwill and intangible assets that have
indefinite useful lives not be amortized but, instead, tested at least annually
for impairment. Accordingly, the Company reclassified the net book value of
assembled workforce to goodwill and ceased amortization of all goodwill, on
October 1, 2001. Intangible assets that have finite useful lives, primarily
developed technology and know-how, continue to be amortized over their useful
lives.

The standard also requires that goodwill be tested for impairment annually. In
the year of adoption, the standard required a transitional goodwill impairment
evaluation, which was a two-step process. The first step was a screen for
whether there was an indication that goodwill was impaired as of October 1,
2001. At this time, the Company had two reporting units - software and services.
The entire goodwill balance, which had resulted from the 2000 acquisitions of
STV Communications and International Image, related to the services unit. To
determine if the goodwill was impaired, the company retained an independent
appraisal firm to perform a valuation of the services unit using the criteria
prescribed under FAS 142. As of December 2001, the appraisers completed this
first step, which indicated that goodwill recorded during the 2000 acquisitions
mentioned above was impaired as of October 1, 2001.

For the second step, the Company used the services of the same independent
appraisal firm to compare the implied fair value of the affected reporting
unit's goodwill to its carrying value in order to measure the amount of
impairment. The fair value of goodwill was determined by allocating the
reporting unit's fair value to all of its assets and liabilities in a manner
similar to a purchase price allocation in accordance with SFAS No. 141 Business
Combinations. As of December 2001, the appraisers concluded that goodwill was
100% impaired. Therefore, the Company recorded an impairment loss of $44.7
million as a cumulative effect of a change in accounting principle in its
statement of operations.

The circumstances leading to the goodwill impairment related to: 1) the
decreased demand for digital services such as encoding (especially from dot
coms); 2) significant reductions of STV's

                                       13

<PAGE>

workforce; 3) the company's decreased market capitalization; and 4) a history of
cash flow and operating losses for the services unit. These negative trends
provided evidence that initial growth expectations of STV and International
Image did not materialize. The fair value used to determine the impairment was
based on a combination of discounted cash flow valuation techniques, market
transactions and the prices of publicly traded comparable companies.

6.     Convertible Subordinated Debt

In January and February 2002, the Company completed a $7,125,000 offering of
convertible subordinated debt with several investors. The promissory notes
("Notes") bear interest at 10% per annum and begin requiring the Company to
repay principal (if not converted) in monthly installments commencing on August
1, 2002. The aggregate amount of such monthly installments for all the Notes is
$330,000 with a final installment in the aggregate amount of $1,181,000 due on
the maturity date of February 1, 2004.

In July of 2002, the Company initiated discussions with a majority of the debt
holders for the right to make principal and interest payments in the form of
stock. The proposed agreement would allow the Company, at our discretion, to
issue shares at an 8% discount to the average closing price for the previous
month.

The Notes may be converted into shares of our common stock, in whole or in part,
at any time. The conversion price is $2.45 per share, subject to potential
anti-dilution adjustments. The Investors also received 1,163,000 warrants to
purchase shares of common stock at an exercise price of $2.94.

The Notes include a covenant requiring the Company to have $3 million of
available cash at the end of each quarter.

The Company also paid $502,000 in commissions and issued 154,000 warrants to
purchase common stock at an exercise price of $2.94. The commissions and value
of the warrants are classified as debt issuance costs in the accompanying
balance sheet.

Warrants granted to the Investors and the placement agents expire in February
2006.

The value allocated to the warrants issued was measured at the date of grant
because the number of shares was fixed and determinable. The value was
determined based upon a Black-Scholes option pricing model with the following
assumptions: risk-free interest rate of 3%, dividend yield of 0%, expected
common stock market price volatility factor of 1.5 and the expected life of the
warrants. The valuation of the investor warrants reduced the carrying value of
the debt by $2.8 million and was recorded as a debt discount. The debt discount
recorded for the warrant valuation caused a beneficial embedded conversion
feature valued at $3.5 million and was recorded as an additional debt discount.

The debt discount is being amortized using an effective interest method over the
two-year term of the debt. The unamortized balance of the debt discount at June
30, 2002, was $4,362. The debt

                                       14

<PAGE>

issuance costs are being amortized using the straight-line method over the
two-year term of the debt.

                                       15

<PAGE>

Item 2

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS

The following discussion of the consolidated financial position and results of
operations of the Company should be read in conjunction with the consolidated
financial statements and notes thereto included elsewhere in this form 10-Q and
the Company's annual report filed on form 10-K for the fiscal year ended
September 30, 2001. In addition to historical information, this discussion
contains forward-looking statements such as statements of the Company's
expectations, plans, objectives and beliefs. These statements use such words as
"may," "will," "expect," "anticipate," "believe," "plan," and other similar
terminology. Actual results could differ materially due to changes in the market
acceptance of our products, market introduction or product development delays,
our ability to effectively integrate acquired businesses, global and local
business conditions, legislation and governmental regulations, competition, our
ability to effectively maintain and update our product portfolio, shifts in
technology, political or economic instability in local markets, and currency and
exchange rate fluctuations.

Overview

In accordance with FAS 131 disclosure on segment reporting, the SEC's guidance
has been to present financial information in a format that is used by the
Company's management to make decisions. The Company is a leading provider of
professional rich media solutions with three primary revenue centers:

Desktop Software develops sophisticated software tools used by professionals and
hobbyists for the creation, editing and publishing of digital audio and video.
We currently focus our software efforts on the Sound Forge(R), ACID(TM), and
Vegas(R) Video platforms.

Systems Software (formerly MediaSite) develops automated rich-media applications
and scalable solutions that allow media owners - including entertainment
companies, educational institutions, corporations and government organizations -
to deploy, manage, index and distribute video content on IP-based networks.

Services supplies media digitization, management and delivery solutions for
various industries, particularly the entertainment sector. These services
consist of conversion, reformatting and encoding of television, film and other
video content for multiple delivery platforms.

These three revenue centers, along with their respective production costs, are
analyzed independently from each other. However, because the majority of
operating expenses support all revenue centers, all items below gross margin are
analyzed on a combined basis.

Critical Accounting Policies

                                       16

<PAGE>

We have identified the following as critical accounting policies to our company
and have discussed the development, selection of estimates and the disclosure
regarding them with the audit committee of the board of directors:

       . Revenue recognition, sales returns, allowance for doubtful accounts and
         other credits;

       . Impairment of investments and

       . Impairment of long-lived assets.

Revenue Recognition, Sales Returns, Price Protection and Rebates

We recognize revenue for licensing of software products upon shipment, net of
estimated returns, provided that collection is determined to be probable and no
significant obligations remain. Product revenue from distributors is subject to
agreements allowing limited rights of return, rebates, and price protection.
Accordingly, we reduce revenue recognized for estimated future returns, price
protection when given, and rebates at the time the related revenue is recorded
or promotion is offered. The estimates for returns are adjusted periodically
based upon historical rates of returns, inventory levels in the distribution
channel, and other related factors. The estimates and reserves for rebates and
price protection are based on historical rates. While management believes it can
make reliable estimates for these matters, nevertheless unsold products in these
distribution channels are exposed to rapid changes in consumer preferences or
technological obsolescence due to new operating environments, product updates or
competing products. Significant judgments and estimates must be made and used in
connection with establishing reserves for sales returns, price protection and
rebates in any accounting period. Material differences may result in the amount
and timing of our revenue for any period if we made different judgments or
utilized different estimates. During fiscal 2001, returns from software products
sold to consumer retail distributors were higher than historical rates incurred
in fiscal 2000 and 1999. In response to economic factors affecting the consumer
retail market, we began recording revenues to consumer retail distributors on a
consignment basis in September 2001.

Please refer to Note 1 of our Notes to Consolidated Financial Statements for
further information on our revenue recognition policies.

The preparation of our consolidated financial statements also requires us to
make estimates regarding the collectability of our accounts receivables. We
specifically analyze the age of accounts receivable and analyze historical bad
debts, customer concentrations, customer credit-worthiness and current economic
trends when evaluating the adequacy of the allowance for doubtful accounts.

Impairment of Investments

We periodically evaluate whether any estimated decline in the fair value of our
long-term investment is other-than-temporary. Significant judgments and
estimates must be made to assess the fair value of

                                       17

<PAGE>

our investment and determine whether an other-than-temporary decline in fair
value of our investment has occurred. This evaluation consists of a review of
qualitative and quantitative factors, review of publicly available information
regarding the investee and discussions with investee management. Since our
investment is in a private company with no quoted market price, we also consider
the implied value from any recent rounds of financing completed. Based upon an
evaluation of the facts and circumstances during the quarter ended June 30,
2002, we determined that our investment had a significant decline in fair value
and that we are unlikely to recover most, if any, of our investment.
Accordingly, we wrote off the entire $514,000 balance.

Impairment of long-lived assets

We assess the impairment of goodwill on an annual basis or whenever events or
changes in circumstances indicate that the fair value of the reporting unit to
which goodwill relates is less than the carrying value. Factors we consider
important which could trigger an impairment review include the following:

..    poor economic performance relative to historical or projected future
     operating results;

..    significant negative industry, economic or company specific trends;

..    changes in the manner of our use of the assets or the plans for our
     business; and

..    loss of key personnel

If we determine that the fair value of a reporting unit is less than its
carrying value including goodwill, based upon the annual test or the existence
of one or more of the above indicators of impairment, we would then measure
impairment based on a comparison of the implied fair value of reporting unit
goodwill with the carrying amount of goodwill. The implied fair value of
goodwill is determined by allocating the fair value of a reporting unit to its
assets (recognized and unrecognized) and liabilities in a manner similar to a
purchase price allocation. The residual fair value after this allocation is the
implied fair value of reporting unit goodwill. To the extent the carrying amount
of reporting unit goodwill is greater than the implied fair value of reporting
unit goodwill, we would record an impairment charge for the difference.

The Company evaluates all of its long-lived assets, including intangible assets
other than goodwill, for impairment in accordance with the provisions of SFAS
No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets". SFAS
144 requires that long-lived assets and intangible assets other than goodwill be
evaluated for impairment whenever events or changes in circumstances indicate
that the carrying value of an asset may not be recoverable based on expected
undiscounted cash flows attributable to that asset. Should events indicate that
any of the Company's assets are impaired; the amount of such impairment will be
measured as the difference between the carrying value and the fair value of the
impaired asset and recorded in earnings during the period of such impairment.

We Disclose Pro Forma and EBITDA Financial Information

We release quarterly unaudited financial statements prepared in accordance with
GAAP. We also disclose and discuss certain pro forma and EBITDA financial
information in the related earnings release and investor conference call. Our
pro forma financial information does not include

                                       18

<PAGE>

amortization of purchased technology, restructuring charges, amortization of
goodwill or other purchased intangibles, non-cash interest expense, or
cumulative effect of changes in accounting principle. EBITDA excludes other
income (expense), depreciation, amortization and income taxes.

We believe the disclosure of the pro forma and EBITDA financial information
provides investors with additional benchmarks to evaluate the results of our
ongoing operations. However, we urge investors to carefully review the GAAP
financial information included as part of our Quarterly Reports on Form 10-Q,
our Annual Reports on Form 10-K, and our quarterly earnings releases and compare
that GAAP financial information with the pro forma and EBITDA financial results
disclosed in our quarterly earnings releases and investor calls, as well as in
some of our reports.

The following table shows the Company's pro forma and EBITDA results reconciled
to the GAAP Consolidated Statements of Operations.

                                          Sonic Foundry, Inc
                                          Pro Forma Analysis

<TABLE>
<CAPTION>
(In 000's, except per share data)            Three months ended        Nine months ended
                                                  June 30,                  June 30,
                                           2002          2001          2002         2001
                                        ----------------------------------------------------
<S>                                     <C>            <C>           <C>          <C>
                                        $   (2,504)    $ (8,536)     $(52,765)    $  (38,486)
Net loss

Non-cash interest expense                    1,299            -         2,157              -
Amortization of purchased technology           112            -           232              -
Amortization of goodwill and other
    intangibles                                  -        6,726             -         20,753
Restructuring charges                            -            -             -          3,782
Cumulative effect of changes in
    accounting principle                         -            -        44,732              -
                                        ----------------------------------------------------
Pro forma net loss                          (1,093)      (1,810)       (5,644)       (13,951)
                                        ----------------------------------------------------

Depreciation and amortization                  824        1,014         2,606          2,934
Interest expense                               207          141           396            513
Taxes and Other                                295          (90)          494           (509)
                                        ----------------------------------------------------
EBITDA                                  $      233     $   (745)     $ (2,148)    $  (11,013)
                                        ====================================================
Pro forma net loss per common share -
    basic and diluted                   $     (.04)    $  (0.08)     $   (.21)    $     (.63)
                                        ====================================================

</TABLE>

Results of Operations

The following chart has been presented to add clarification and should be read
in conjunction with the consolidated financial statements.

                                       19

<PAGE>

<TABLE>
<CAPTION>
                                            Three months ended June 30,              Nine months ended June 30,
                                             2002                 2001                2002               2001
                                      -------------------------------------------------------------------------------
 <S>                                  <C>          <C>    <C>          <C>     <C>         <C>      <C>         <C>

  Desktop software license fees       $    4,485   100%   $   4,161    100%    $  11,646   100%    $   12,683   100%

  Cost of desktop software license
     fees                                    639    14        1,171     28         2,449    21          4,365    34
                                      -----------------------------------------------------------------------------
  Gross margin-desktop software
     license fees                     $    3,846    86%   $   2,990     72%    $   9,197    79%    $    8,318    66%

  Systems software license fees       $      175   100%           -      -     $     718   100%             -     -
  Cost of systems software license
  fees                                        94    54            -      -           253    35              -     -
                                      -----------------------------------------------------------------------------
    Gross margin- systems software
  license fees                        $       81    46%           -      -     $     465    65%             -     -

  Services                            $    2,574   100%   $   2,933    100%    $   7,358   100%    $    8,193   100%
  Cost of services                         1,802    70        1,793     61         5,376    73          6,083    74
                                      -----------------------------------------------------------------------------
    Gross margin-services             $      772    30%   $   1,140     39%    $   1,982    27%    $    2,110    26%
</TABLE>

Revenue from Software License Fees

Software License Fees in the Statement of Operations include both desktop and
systems software.

Revenues from desktop software license fees consist of fees charged for the
licensing of Windows based software products. The Company's primary focus is on
the platforms of ACID(R), Sound Forge(R) and Vegas(R) Video. These software
products are marketed to both consumers and producers of digital media. We reach
both our domestic and international markets through traditional retail
distribution channels, our direct sales effort and OEM partnerships.

  Q3-2002 compared to Q3-2001 and YTD-2002 (nine months) compared to YTD-2001
  (nine months)

Net revenues from desktop software license fees increased $324 or 8% from
Q3-2001 to Q3-2002 and decreased $1,037 or 9% from YTD-2001 to YTD-2002. The net
changes resulted from the following items:

       .      $850 of the quarter-to-quarter increase resulted from sales of
              Sound Forge. Version 6 of Sound Forge was released in May 2002 and
              generated over $1.8 million in Q3-2002. Version 5 of Sound Forge
              was released in Q2-2001 with sales of nearly $2 million. An 8%
              decline in Sound Forge sales from YTD-2001 to YTD-2002 can be
              attributed to more significant feature enhancements in version 5.

       .      ACID and ACID Loop sales declined $1.3 million from Q3-2001 to
              Q3-2002. Sales of ACID 3.0 tapered off with the anticipation of
              the August 2002 release of Version 4.0. In Q3-2001, the release of
              version 3.0 of Acid generated nearly $1.9 million. We anticipate
              that version 4.0 will have similar impact on Q4-2002 results.

                                       20

<PAGE>

       .      The growth of Vegas Video has somewhat offset the quarter and YTD
              declines mentioned above. Vegas Video sales of $442 for the
              quarter and $1.6 million YTD are significant increases over the
              2001 totals of $122 and $189. A new version of Vegas Video is due
              out in early 2003.

       .      An additional contributor to the quarter-to-quarter increase was
              an OEM bundling arrangement with Sony. This arrangement netted
              $400 in Q3-2002. This arrangement is not expected to net
              significant additional revenues in future periods.

Gross Margin from Software License Fees

Costs of software includes both desktop and systems software.

Included in costs of desktop software license fees are product material costs,
assembly labor, freight, royalties on third party technology or intellectual
content, and amortization of previously capitalized product development and
localization costs. Despite the YTD decline in software revenues, 2002 software
gross margin dollars have increased over both Q3-2001 and YTD-2001 amounts. The
much-improved margins on a percentage basis can be attributed to:
       .      A reduction in material costs associated with an increase in the
              number of electronic downloads (in Q3-2002, half of the Sound
              Forge sales were delivered in this manner).
       .      Reduced obsolescence and scrap due to lower inventory levels
       .      A shift toward higher priced professional products from lower
              (less than 50%) margin consumer software products.
We anticipate that software margins will continue to exceed 80% in the
foreseeable future.

Revenue from Systems Software

Revenue from our Systems software division, established upon the acquisition of
MediaSite, consist of fees charged for the licensing of software products and
custom software development. The primary focus is on the platforms of MediaSite
Publisher(TM) and MediaSite Live(TM). These software products are marketed to
government agencies, educational institutions, and corporations who need to
deploy, manage, index and distribute video content on IP-based networks. We
reach both our domestic and international markets through reseller networks, a
direct sales effort and Integrator partnerships.

System software revenues in Q3-2002 amounted to $175; the YTD total is $718. The
revenues can be segmented as follows:
       .      MediaSite Publisher sales were $88 for the quarter and $368 for
              YTD. Over half of the YTD Publisher revenues represent what we
              believe to be the first stage of a relationship with a unit of the
              Federal Government, from which we expect to generate additional
              license and support revenues in the future.
       .      MediaSite Live, which was completed in mid-June 2002, experienced
              sales of $50 in Q3-2002.
       .      Custom development for a Federal agency accounted for $37 of
              revenue in Q3-2002 and $252 of revenue YTD. This contract was
              completed in May-2002. Total Federal government system software
              revenue totaled $108 in Q3-2002 and $538 YTD.

                                       21

<PAGE>

Gross Margin from Systems Software

The significant components of cost of systems include:

       .      A 5% royalty on sales of MediaSite Publisher's technology.

       .      Cost of hardware that is bundled with MediaSite Live. Live sales
              should typically result in gross margins of approximately 60%.

       .      Amortization of MediaSite acquisition amounts assigned to
              purchased technology and other identified intangibles. We will be
              amortizing approximately $100 per quarter over the next 5 years
              for the identified intangibles of the MediaSite purchase.

Based on recent projections we anticipate that, especially in the near term,
Live units may become a much more significant portion of system sales.

Revenue from Services

Revenue from services includes tape duplication for broadcast distribution,
broadcast standard conversions, audio and video encoding, as well as fees for
consulting and development services.

Revenue from services declined $359 or 14%, from Q3-2001 to Q3 2002. A decline
in advertising income of entertainment companies led to decreased demand (over
$700) for our traditional duplication and conversion services. This decline was
partially offset by growth in our digital restoration and High Definition
services ($340) and revenues from consulting and the MediaTaxi technology,
acquired from Digital Savant in February 2002, (over $60) during Q3-2002.

Revenue from services declined $835, or 11%, from YTD-2001 to YTD-2002. Reasons
for the change mirror those in the quarter discussion above. Traditional
services declined approximately $1.2 million while Digital Restoration and High
Definition services rose by $600. A decrease in encoding revenues of $375 also
contributed to the overall decline.

Gross Margin from Services

Costs of services include compensation, benefits and other expenses associated
with production personnel, videotape costs, depreciation on production equipment
and an allocation for general and administrative expenses such as facility
costs. These costs have become relatively stable and fixed in dollars since
Q3-2001 and we anticipate no major increases in the near future. Future
fluctuations in gross margin will result primarily from changes in revenue
because: 1) these costs should remain relatively fixed going forward; and 2)
newer offerings, such as MediaTaxi and MediaDub, are lower cost procedures
dependent on software code rather than headcount.

Gross Margin from services declined from 39% to 30% from Q3-2001 to Q3-2002. The
decline relates to the revenue decreases discussed above and demonstrates the
fixed nature of our cost of services. Q3-2002 included $30 of amortization of
MediaTaxi technology acquired in February. Gross margin from services improved
from 26% to 27% from YTD-2001 to YTD-2002. Revenues from services declined $835,
while cost of services declined $707. The decline in cost

                                       22

<PAGE>

of services is related to the Company's restructuring that occurred in Q1-2001,
which included the elimination of duplicate positions, operational and process
improvements, a switch to a temporary labor force for encoding services and a
reduction in depreciation expenses from the write-off and disposal of
underutilized assets no longer needed for the service business.

Operating Expenses

The following chart is provided to add clarification by presenting items as a
percentage of total revenues. For comparison purposes, amortization of goodwill
has been excluded from the 2001 results due to the adoption of SFAS No. 142.
Please see Note 1 of the financial statements for further details. This should
be read in conjunction with the unaudited consolidated financial statements
presented in this filing.

<TABLE>
<CAPTION>
                                                     Three months ended              Nine months ended
                                                          June 30,                       June 30,
                                                     2002           2001           2002            2001
                                               ---------------------------------------------------------------
<S>                                                      <C>             <C>            <C>            <C>
Total revenues                                           100%            100%           100%           100%
Cost of revenues                                          35              42             41             50
                                               ---------------------------------------------------------------
  Gross margin                                            65              58             59             50

Operating expenses

  Selling and marketing expenses                          29              28             32             49
  General and administrative expenses                     22              31             24             38
  Product development expenses                            24              24             27             30
  Restructuring charges                                    -               -              -             18
                                               ---------------------------------------------------------------
      Total operating expenses                            75              83             83            135
                                               ---------------------------------------------------------------
      Loss from operations                               (10)%           (25)%          (24)%          (85)%
                                               ===============================================================
</TABLE>

Selling and Marketing Expenses

Selling and marketing expenses include: wages and commissions for sales,
marketing, business development and technical support personnel; our direct mail
catalog; and co-operative advertising with our software distributors, print
advertising and various promotional expenses for our products, services and
systems. Timing of these costs may vary greatly depending on introduction of new
offerings and entrance into new markets.

Q3-2002 compared to Q3-2001 and YTD-2002 compared to YTD-2001

Selling and marketing expenses as a percentage of revenues and in gross dollars
remained relatively flat for the quarter period and decreased significantly for
the YTD period.

A slight $87 or 4% increase from Q3-2001 to Q3-2002 is attributable to a decline
in catalog and advertising spending being more than offset by increases in
strategy and systems sales and marketing. Expenditures for the direct catalog
campaign decreased $225 from quarter-to-quarter. Over the past year we have
built a larger database of names and no longer have to rent expensive lists for
our catalog campaigns. Also, much of the direct advertising has switched to

                                       23

<PAGE>

email. Coop and other advertising declined $300 from quarter-to-quarter. Much of
the past expenses related to our lower end consumer products which demanded
heavier in store promotions. As sales have shifted, so have the marketing
efforts.

The above items were offset by increases in the new systems software and
business development divisions. The addition of these divisions has added nearly
20 people. Total expenditures - primarily salaries, travel and public relations
- amounted to over $700 in the current quarter.

The YTD decline of $3,755 or 37% in selling and marketing directly resulted from
our December 2000 restructuring. The key actions were: 1) reduction in retail
advertising ($2.2 million of the change); 2) significant staff reductions in
marketing and customer service (over $1 million of the change); and 3) decline
in tradeshows, outsourced customer service, and catalog expenses (over $500 of
the change). Other reductions such as travel have been offset by the growth in
systems sales and marketing efforts.

We anticipate that the continued promotion of our new systems offerings and the
Q4-2002 release of Acid 4.0 will lead to increases in selling and marketing
expenses for the remaining fiscal year. We expect the Q4-2002 level to be near
the Q1-2002 total of $2.4 million.

General and Administrative Expenses

General and administrative ("G&A") expenses consist of personnel and related
costs associated with the facilities, finance, legal, human resource and
information technology departments, as well as other expenses not fully
allocated to functional areas.

Q3-2002 compared to Q3-2001 and YTD-2002  compared to YTD-2001

G&A expenses declined by $645 or 29%, from Q3-2001 to Q3-2002. The decline is
primarily the result of: 1) a $220 reduction in bad debt expense which reflects
2001 write-offs related to audio encoding services to dot coms; 2) $125 of the
change related to salary waiver program for executives that began in December
2001 (under the terms of the salary waiver program, certain executives waived
salary in exchange for stock options); and 3) headcount reductions in G&A and
growth in other cost centers have led to a larger proportion of facilities
(rent, telephone, equipment depreciation) being allocated to cost of services,
sales and product development. The addition of MediaSite's Pittsburgh facility,
which primarily houses sales and marketing and product development staff, had
minimal impact on G&A expenses.

The YTD reduction of $3,095 or 39% is due to the elimination of non-recurring,
integration related expenses and elements of the Q1-2001 restructuring plan
which included the removal of duplicate personnel functions and the
consolidation of facilities. In addition, bad debt expense decreased by $632 for
the nine-month periods.

For the remainder of fiscal 2002 and into fiscal 2003, we anticipate G&A
expenses will remain constant. We feel we have adequate resources and
infrastructure to support future growth.

Product Development Expenses

                                       24

<PAGE>

Product development expenses include salaries and wages of the software research
and development staff and an allocation of benefits, facility and administrative
expenses. Fluctuations in product development expenses correlate directly to
changes in headcount.

 Q3-2002 compared to Q3-2001 and YTD-2002 (nine months) compared to YTD-2001
 (nine months)

Product development expenses increased $70 or 4% from Q3-2001 to Q3-2002. Head
count increased slightly as the addition of the MediaSite staff slightly
exceeded other attrition.

Product development costs declined $894 or 14% from YTD-2001 to YTD-2002. The
decrease resulted from the company-wide restructuring that occurred at the end
of Q1-2001. Headcount at the beginning of that quarter was just over 100. As
part of the restructuring, we eliminated low volume, niche products such as CD
Architect(TM) and Soft Encode as well as the engineering positions required to
maintain these products.

In accordance with SFAS Number 86, the Company capitalizes the cost of
development of software products that have reached technological feasibility and
then amortizes that cost over the anticipated life of the product. No
development costs for our core product line were capitalized during fiscal 2001
or the first three quarters of 2002. Amortization of capitalized software
development was $55 in Q1-2002 and relates to Viscosity(TM), which was a result
of the Jedor acquisition in February 2000. Viscosity was fully amortized in
January 2002.

Going forward we anticipate spending for research and development to remain
relatively stable and we do not anticipate that any fiscal 2002 software
development efforts will qualify for capitalization under SFAS Number 86.

Restructuring Charges

As outlined in footnote 2 to the unaudited consolidated financial statements
included in this report, a restructuring charge of $3,782 was incurred in
Q1-2001. Consistent with management's plan to reduce costs in response to weak
market conditions, the restructuring charge primarily consisted of: 1) an
accrual for 60 days of severance and benefits for domestic employees terminated
on December 20, 2000 as well as severance and other expenses associated with
closing our office in the Netherlands; 2) an asset impairment charge related to
the sale, disposal or write-down of PCs, office equipment and other assets no
longer required; 3) operating and lease termination costs related to the
consolidation of facilities; and 4) miscellaneous charges such as forfeited
tradeshow deposits.

As of June 30, 2002, $45 remained in the restructuring accrual. Certain
equipment disposals resulted in larger write-offs than were originally accrued.
As a result of the under accrual, the restructuring accrual will be $0 by the
end of fiscal 2002. In fiscal 2003, we may incur approximately $100 of rent
expense that was not accounted for under the original accrual. Such expense
would be accounted for in G&A.

Other Income (Expense)

                                       25

<PAGE>

The increase in interest expense was due to the subordinated debt issuance in
February 2002. (see note 6 to the consolidated financial statements). In
addition, other expense included a $219 loss on asset disposals during Q2-2002.
In Q3-2002 we recorded a $514 loss on the write-off of long-term investment, and
a $238 gain on the settlement of debt (see footnote 3).

The amortization of the debt discount and debt issuance costs will approximate
$1.5 million per quarter through the remainder of fiscal 2002. If some of the
debt were converted, the unamortized debt issuance and discount amounts would be
reclassified to equity.

Cumulative Effect of Changes in Accounting Principle

Effective October 2001, the Company adopted Financial Accounting Standards Board
("SFAS") No. 142, "Goodwill and Other Intangible Assets." Under the new rules,
the Company ceased the amortization of goodwill associated with the services
reporting unit, which included the acquisitions of STV Communications and
International Image. Implementation of the new rules also requires an assessment
of the carrying value of goodwill using a number of criteria, including the
value of the overall enterprise as of October 1, 2001. The Company retained an
independent appraisal firm to assist in the assessment, which resulted in a
$44,732 write off of the entire remaining value of goodwill associated with the
services reporting unit. Future impairment charges, if any, associated with
MediaSite or other acquisitions will be reflected as an operating expense in the
statement of operations.

Liquidity and Capital Resources

Cash used in operating activities was $5,395 YTD-2002 compared to $9,494 in
YTD-2001. The decrease of $4,099 consisted primarily of operating cost
reductions identified in the Q1-2001 restructuring. The primary reason for the
change was the net change in loss from operations before amortization of
goodwill and restructuring charges, which improved from $13,946 in YTD-2001 to
$4,986 in YTD-2002. This improvement was offset by payments of liabilities
assumed in the MediaSite acquisition ($2.8 million). Approximately $600 of the
assumed liabilities remain as of June 30, 2002.

Cash used in investing activities was $1,025 in YTD-2002 compared to $1,421 in
YTD-2001. A $1.5 million decline in the purchase of equipment partially offset
by cash from sale of a building in YTD-2001 led to the difference between the
two periods. The reductions in purchases relate to our previous build up of
certain services business lines such as encoding and webcasting. The Investing
activities in the current year also included legal, professional and other
closing costs associated with the MediaSite acquisition while the prior year
included certain payments related to the International Image acquisition. No
significant investing activity is expected for the remainder of 2002.

Cash provided by financing activities was $4,921 in YTD-2002 compared to cash
used of $1,556 in YTD-2001. The primary change was due to additional
subordinated debt, which resulted in $6,592 of net proceeds. In October 2001, we
deposited $1,000 with the Ontario Superior Court of Justice to be held in trust
until settlement of a lawsuit with the former shareholders of International
Image. This $1,000 has been recorded as restricted cash. Payments on other debt

                                       26

<PAGE>

and capital leases decreased $1,790 due to the early 2001 sale of a building,
and corresponding mortgage retirement.

Recent Developments Impacting Liquidity

In June 2002, the Company settled $2.8 million of the remaining $3.3 million
note balance plus accrued interest due the former owners of International Image
for $1.9 million and 500,000 shares of common stock valued at $660,000. The
difference between the principal and accrued interest balance and the settlement
cost was recorded as a gain, net of certain legal costs. The payment and
issuance of shares did not occur until early July 2002.

In May 2002 and August 2002 we made the quarterly interest payment of $175 on
the subordinated debt. Payments are due quarterly over the next two years.
Monthly principal payments of approximately $330 begin in August 2002.

In July of 2002, the Company initiated discussions with a majority of the debt
holders for the right to make principal and interest payments in the form of
stock. The proposed agreement would allow the Company, at our discretion, to
issue shares in lieu of cash at an 8% discount to the average closing price for
the previous month.

The nine-month period included cash expenditures for non-recurring items such as
MediaSite acquisition costs, large settlement payments on the delinquent
accounts payable assumed from MediaSite and cash placed in escrow. With the
expected agreement to pay a portion of the principal payments with stock, we
believe we have access to sufficient resources and operating flexibility to fund
operations and subordinated debt payments for at least the next twelve months.

Item 3.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Derivative Financial Instruments

The Company is not party to any derivative financial instruments or other
financial instruments for which the fair value disclosure would be required
under SFAS No. 107, Derivative Financial Instruments, Other Financial
Instruments and Derivative Commodity Instruments. The Company's cash equivalents
consist of overnight investments in money market funds that are carried at fair
value. Accordingly, we believe that the market risk of such investments is
minimal.

Interest Rate Risk

The Company's cash equivalents are subject to interest rate fluctuations,
however, we believe this risk is immaterial due to the short-term nature of
these investments.

Foreign Currency Exchange Rate Risk

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<PAGE>

All international sales of our software products are denominated in US dollars.
However, the majority of transactions for our services division in Toronto are
denominated in Canadian dollars. Although these transactions are not generally
subject to significant foreign exchange rate gains and losses, they are
translated into US dollars as part of our consolidated financial statements and
therefore fluctuations in the exchange rate will affect our consolidated
financial statements. The Canadian dollar has been stable relative to the US
dollar and we have not engaged in any foreign currency hedging activities.

                                       28

<PAGE>

PART II  OTHER INFORMATION

Item 2. CHANGES IN SECURITIES AND USE OF PROCEEDS

(a) None

(b) None

(c) None

Item 6. EXHIBITS AND REPORTS ON FORM 8-K

(a) Exhibits (see exhibit list)

(b) Reports on Form 8-K
    None

ITEM 6(a)

NUMBER                              DESCRIPTION

2.1     Amendment No. 1 to the Purchase Agreement dated February 11, 2002 by and
        between Sonic Foundry, Inc. and Omicron Partners, L.P, filed as exhibit
        2.1 to the registration statement on Form S-3 filed on April 29, 2002,
        and hereby incorporated by reference.

2.2     Note - Exhibit A to Amendment No. 1 to the Purchase Agreement, filed as
        exhibit 2.2 to the registration statement on Form S-3 filed on April 29,
        2002, and hereby incorporated by reference.

2.3     Warrant - Exhibit B to Amendment No. 1 to the Purchase Agreement, filed
        as exhibit 2.3 to the registration statement on Form S-3 filed on April
        29, 2002, and hereby incorporated by reference.

2.4     Registration Rights Agreement - Exhibit C to Amendment No. 1 to the
        Purchase Agreement, filed as exhibit 2.4 to the registration statement
        on Form S-3 filed on April 29, 2002, and hereby incorporated by
        reference.

3.1     Amended and Restated Articles of Incorporation of the Registrant, filed
        as Exhibit No. 3.1 to the registration statement on amendment No. 2 to
        Form SB-2 dated April 3, 1998 (Reg. No. 333-46005) (the "Registration
        Statement"), and hereby incorporated by reference.

3.2     Amended and Restated By-Laws of the Registrant, filed as Exhibit No. 3.2
        to

                                       29

<PAGE>

        the Registration Statement, and hereby incorporated by reference.

10.1    Registrant's 1995 Stock Option Plan, as amended, filed as Exhibit No.
        4.1 to the Registration Statement on Form S-8 on September 8, 2000, and
        hereby incorporated by reference.

10.2    Registrant's Non-Employee Directors' Stock Option Plan, filed as Exhibit
        No. 10.2 to the Registration Statement, and hereby incorporated by
        reference.

10.3    Employment Agreement between Registrant and Rimas Buinevicius dated as
        of January 1, 2001, filed as Exhibit 10.4 to the Quarterly Report on
        Form 10-Q for the quarter ended March 31, 2001, and hereby incorporated
        by reference.

10.4    Employment Agreement between Registrant and Monty R. Schmidt dated as of
        January 1, 2001, filed as Exhibit 10.5 to the Quarterly Report on Form
        10-Q for the quarter ended March 31, 2001, and hereby incorporated by
        reference.

10.5    Employment Agreement between Registrant and Curtis J. Palmer dated as of
        January 1, 2001, filed as Exhibit 10.6 to the Quarterly Report on Form
        10-Q for the quarter ended March 31, 2001, and hereby incorporated by
        reference.

10.6    Digital Audio System License Agreement between Registrant and Dolby
        Laboratories Licensing Corporation dated July 28, 1997, filed as Exhibit
        No. 10.7 to the Registration Statement, and hereby incorporated by
        reference.

10.7    Digital Audio System License Agreement between Registrant and Dolby
        Laboratories Licensing Corporation dated July 28, 1997, filed as Exhibit
        No. 10.8 to the Registration Statement, and hereby incorporated by
        reference.

10.9    Convertible Debenture Purchase Agreement dated September 13, 1999
        between Purchasers and the Registrant filed as Exhibit No. 10.17 to the
        Current Report on form 8-K filed on September 24, 1999, and hereby
        incorporated by reference.

10.10   Commercial Lease between Registrant and Tenney Place Development, LLC
        regarding 1617 Sherman Ave., Madison, Wisconsin dated October 1, 1999,
        filed as Exhibit No. 10.18 to the Annual Report on form 10-K for the
        period ended September 30, 1999, and hereby incorporated by reference.

10.11   Commercial Lease between Registrant and Hargol Management Limited
        regarding 23 Prince Andrew Place, Don Mills, Ontario, Canada dated
        January 15, 1990, filed as Exhibit No. 10.20 to the Amended Annual
        Report on Form 10-K/A for the year ended September 30, 2000, and hereby
        incorporated by

                                       30

<PAGE>

        reference.

10.12   Commercial Lease between Registrant and the Richlar Partnership
        regarding 1703 Stewart St., Santa Monica, CA, dated August 10, 1995,
        filed as Exhibit No. 10.21 to the Amended Annual Report on Form 10-K/A
        for the year ended September 30, 2000, and hereby incorporated by
        reference.

10.13   Commercial Lease between Registrant and Thomas Seaman regarding 12233
        Olympic Blvd., Santa Monica, CA, dated January 23, 2000 filed as Exhibit
        No. 10.22 to the Amended Annual Report on Form 10-K/A for the year ended
        September 30, 2000, and hereby incorporated by reference.

10.14   Agreement and Plan of Merger, dated as of March 15, 2000, by and among
        the Registrant, New Sonic, Inc., and STV Communications, Inc., filed as
        Exhibit 2.1 to a Current Report on Form 8-K dated April 18, 2000 and
        hereby incorporated by reference.

10.15   Stock Purchase Agreement, dated January 18, 2000, by and among the
        Registrant, Jedor, Inc., and certain principals of Jedor, Inc., filed as
        Exhibit 2.2 to the registration statement filed on Form S-3 on May 12,
        2000 and hereby incorporated by reference.

10.16   Share Purchase Agreement dated as of June 1, 2000, by and among the
        Registrant, Sonic Foundry (Nova Scotia) Inc., Charles Ferkranus, Michael
        Ferkranus, 1096159 Ontario Limited, 1402083 Ontario Limited, Dan
        McLellan, Curtis Staples, Bank of Montreal Capital Corp., Roynat Inc.
        and DGC Entertainment Ventures Corp., filed as Exhibit 2 to the Current
        Report filed on Form 8-K on September 12, 2000, and hereby incorporated
        by reference.

10.17   Voting and Option Agreement, dated March 15, 2000, among the Company,
        certain of its stockholders, and Jan Brzeski, David Fife, Jeffrey Gerst,
        and Fife Waterfield, filed as Exhibit 4.3 to the Registration Statement
        filed on Form S-3 on May 12, 2000, and hereby incorporated by reference.

10.18   Subscription Agreement dated February 8, 2000 between Subscribers and
        the Company, filed as Exhibit 10.19 of a Current Report on Form 8-K
        dated February 14, 2000, and hereby incorporated by reference.

10.19   Registration Rights Agreement, dated February 8, 2000, by and among the
        Company and certain investors, filed as Exhibit 4.5 to the Registration
        Statement filed on Form S-3 on May 12, 2000, and hereby incorporated by
        reference.

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<PAGE>

10.20     Registration Rights Agreement, dated March 31, 2000, among the Company
          and Sony Pictures Entertainment Inc., filed as Exhibit 4.6 to the
          Registration Statement filed on Form S-3 on May 12, 2000, and hereby
          incorporated by reference.

10.21     Buyer Non-Voting Exchangeable Share Option Agreement, dated August 24,
          2000, among the Registrant, Dan McLellan, Curtis Staples, and Sonic
          Foundry (Nova Scotia), Inc., filed as Exhibit 4.3 to the Registration
          Statement filed on Form S-3 on November 7, 2000, and hereby
          incorporated by reference.

10.22     Support Agreement, dated August 24, 2000, between the Company and
          Sonic Foundry (Nova Scotia), Inc. filed as Exhibit 4.4 to the
          Registration Statement filed on Form S-3 on November 7, 2000 and
          hereby incorporated by reference.

10.23     Commercial Lease between Ewart Associates, L.P. and Sonic Foundry
          Systems Group, Inc. (now known as Sonic Foundry Media Systems, Inc.),
          regarding 925 Liberty Avenue, Pittsburgh, PA 15222, dated November 30,
          2001, filed as Exhibit No. 10.23 to the Quarterly Report on Form 10-Q
          for the quarter ended March 31, 2002, and hereby incorporated by
          reference.

10.24     Commercial Lease between Stonewood East and Sonic Foundry Media
          Systems, Inc. regarding 12300 Perry Highway, Wexford, PA, dated
          January 13, 2002 filed as Exhibit No. 10.24 to the Quarterly Report on
          Form 10-Q for the quarter ended March 31, 2002, and hereby
          incorporated by reference.

10.25     Asset Purchase Agreement and Plan of Asset Transfer and Reorganization
          dated September 6, 2001 by and among Sonic Foundry, Inc., Sonic
          Foundry Systems Group, Inc. (formerly known as MediaSite Acquisition,
          Inc.), and MediaSite, Inc., filed as Exhibit No. 2.1 to the Current
          Report on Form 8-K dated October 30, 2001, and hereby incorporated by
          reference.

10.26     Asset Purchase Agreement dated February 6, 2002 by and among Sonic
          Foundry Media Services, Inc. and Digital Savant, Inc, filed as Exhibit
          No. 10.26 to the Quarterly Report on Form 10-Q for the quarter ended
          March 31, 2002, and hereby incorporated by reference.

10.27     Registrant's 2001 Deferred Compensation Plan, filed as Exhibit 4.4 to
          Form S-8 on November 21, 2001 and hereby incorporated by reference.

10.28     Stock Restriction and Registration Agreement between Sonic Foundry,
          Inc., Zero Stage Capital VI Limited Partnership, Saturn Capital, Inc.
          and Saturn Partners Limited Partnership dated October 15, 2001 filed
          as Exhibit 4.4 to Form S-3 filed on December 21, 2001, and hereby
          incorporated by reference.

10.29     Registrant's Amended 1999 Non-Qualified Plan, filed as Exhibit 4.1 to
          Form S-8 on December 21, 2001, and hereby incorporated by reference.

                                       32

<PAGE>

10.30     Software License and Marketing Agreement effective as of March 25,
          2002 between Registrant and Broderbund Properties LLC filed on filed
          as Exhibit No. 99.2 to the Registration Statement on Form S-3 filed
          on August 13, 2002 and hereby incorporated by reference.

10.31     Amended and Restated License Agreement effective October 15, 2001
          between Carnegie Mellon University and MediaSite, Inc. filed as
          Exhibit No. 10.31 to the Quarterly Report on Form 10-Q for the quarter
          ended March 31, 2002, and hereby incorporated by reference

                                       33




<PAGE>

                                   SIGNATURES

This Report on Form 10-Q fully complies with the requirements of section 13(a)
or 15(d) of the Securities Exchange Act of 1934 (15 U.S.C. 78m or 78o(d)) and
information contained in this Form 10-Q fairly presents, in all material
respects, the financial condition and results of operations of the registrant.




Pursuant to the requirement 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.

                               Sonic Foundry, Inc.
                                  (Registrant)

August 14, 2002                     By: /s/ Rimas P. Buinevicius
                                        ------------------------
                                        Rimas P. Buinevicius
                                        Chairman and Chief Executive Officer

August 14, 2002                     By: /s/ Kenneth A. Minor
                                        --------------------
                                        Kenneth A. Minor
                                        Chief Financial Officer and Secretary