<PAGE>   1
                       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 and
     Exchange Act of 1934
     For the quarterly period ended June 30, 1998 or

[ ]  Transition Report pursuant to Section 13 or 15(d) of the Securities and
     Exchange Act of 1934 
     For the transition period from ___________ to ___________.

                         Commission file number 0-27168

                            METACREATIONS CORPORATION
             (Exact name of registrant as specified in its charter)

            Delaware                                95-4102687
    (State of incorporation)         (I.R.S. Employer Identification Number)

                   6303 Carpinteria Ave, Carpinteria, CA 93013
                    (Address of principal executive offices)

                                 (805) 566-6200
              (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 reports), and (2) has been subject to such filing
requirements for the past 90 days.   Yes [X]   No [ ]

As of August 7, 1998, there were outstanding 23,802,537 shares of the
registrant's Common Stock, $0.001 par value per share, which is the only
outstanding class of common or voting stock of the registrant.



<PAGE>   2

                            METACREATIONS CORPORATION

                                    FORM 10-Q

                                Table of Contents


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

Item 1.    Financial Statements............................................   3

              Consolidated Balance Sheets - June 30, 1998 and
                 December 31, 1997

              Consolidated Statements of Operations - Three and six
                 month periods ended June 30, 1998 and 1997

              Consolidated Statements of Cash Flows - Three and six
                 month periods ended June 30, 1998 and 1997

              Notes to Consolidated Financial Statements

Item 2.    Management's Discussion and Analysis of Financial
              Condition and Results of Operations..........................  11

PART II.   OTHER INFORMATION

Item 2.    Changes in Securities...........................................  24

Item 4.    Submission of Matters to a Vote of Security Holders.............  25

Item 5.    Other Information...............................................  26

Item 6.    Exhibits and Reports on Form 8-K................................  26

SIGNATURES ................................................................  27
</TABLE>







                                       2
<PAGE>   3

                          PART I. FINANCIAL INFORMATION

Item 1. Financial Statements


                            METACREATIONS CORPORATION
                           CONSOLIDATED BALANCE SHEETS
                                 (IN THOUSANDS)


<TABLE>
<CAPTION>
                                                                                   JUNE 30,       DECEMBER 31,
                                                                                     1998            1997
                                                                                 -----------------------------
                                                                                 (Unaudited)       (Audited)
<S>                                                                                <C>             <C>      
ASSETS
Current assets:
  Cash and cash equivalents .................................................      $  13,079       $   9,653
  Short-term investments ....................................................         36,456          40,349
  Accounts receivable, net ..................................................         15,996          26,604
  Inventories ...............................................................            778           1,667
  Income taxes receivable ...................................................          4,222           3,324
  Deferred income taxes .....................................................          2,634           2,634
  Prepaid expenses ..........................................................          4,462           3,494
                                                                                 -----------------------------
      Total current assets ..................................................         77,627          87,725

Property and equipment, net .................................................          7,807           7,577
Other assets ................................................................          1,271           1,988
                                                                                 -----------------------------
      Total assets ..........................................................      $  86,705       $  97,290
                                                                                 =============================

LIABILITIES AND STOCKHOLDERS' EQUITY 
Current liabilities:
  Accounts payable ..........................................................      $   4,309       $   4,860
  Accrued expenses ..........................................................          6,232           3,971
  Royalties payable .........................................................            959           1,217
                                                                                 -----------------------------
      Total current liabilities .............................................         11,500          10,048

Stockholders' equity:
  Preferred stock, $.001 par value, 5,000 shares
    authorized - no shares issued and outstanding at
    June 30, 1998 and December 31, 1997, respectively .......................             --              --
  Common stock, $.001 par value; 75,000 shares authorized - 23,801 and 23,606
    shares issued and outstanding at June 30, 1998 and December 31, 1997, 
    respectively.............................................................             24              24
  Paid-in capital ...........................................................        111,161         109,896
  Notes receivable from stockholders ........................................         (3,255)         (3,170)
  Cumulative translation adjustment .........................................           (136)           (135)
  Accumulated deficit .......................................................        (32,589)        (19,373)
                                                                                 -----------------------------
      Total stockholders' equity ............................................         75,205          87,242
                                                                                 -----------------------------
      Total liabilities and stockholders' equity ............................      $  86,705       $  97,290
                                                                                 =============================
</TABLE>


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





                                       3
<PAGE>   4

                            METACREATIONS CORPORATION
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                    (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
                                   (UNAUDITED)


<TABLE>
<CAPTION>
                                                   THREE MONTHS ENDED        SIX MONTHS ENDED
                                                        JUNE 30,                 JUNE 30,
                                                -------------------------------------------------
                                                   1998         1997         1998         1997
                                                -------------------------------------------------
<S>                                              <C>          <C>          <C>          <C>     
Net revenues ................................    $  8,015     $ 18,749     $ 22,438     $ 32,001
Cost of revenues ............................       1,562        3,563        3,893        6,231
                                                -------------------------------------------------
Gross profit ................................       6,453       15,186       18,545       25,770

Operating expenses:
  Sales and marketing .......................       8,537        8,550       16,452       15,881
  Research and development ..................       4,430        3,561        8,649        6,620
  General and administrative ................       1,596        1,409        3,444        3,041
  Costs associated with the write-off
    of acquired in-process technology,
    restructuring and mergers ...............       4,955       16,185        4,955       16,185
                                                -------------------------------------------------
Total operating expenses ....................      19,518       29,705       33,500       41,727
                                                -------------------------------------------------

Loss from operations ........................     (13,065)     (14,519)     (14,955)     (15,957)
Interest and investment income, net .........         672          778        1,386        1,589
                                                -------------------------------------------------

Loss before benefit for income taxes ........     (12,393)     (13,741)     (13,569)     (14,368)
Benefit for income taxes ....................          --       (1,387)        (353)      (1,582)
                                                -------------------------------------------------

Net loss ....................................    $(12,393)    $(12,354)    $(13,216)    $(12,786)
                                                =================================================

Net loss per common share - basic and diluted    $  (0.52)    $  (0.54)    $  (0.56)    $  (0.57)
                                                =================================================

Weighted average number of shares
  outstanding - basic and diluted ...........      23,736       22,825       23,679       22,549
                                                =================================================
</TABLE>


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





                                       4
<PAGE>   5

                            METACREATIONS CORPORATION
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                 (IN THOUSANDS)
                                   (UNAUDITED)


<TABLE>
<CAPTION>
                                                                                    SIX MONTHS ENDED
                                                                                         JUNE 30,
                                                                                 -----------------------
                                                                                    1998         1997
                                                                                 -----------------------
<S>                                                                               <C>          <C>
Cash flows from operating activities:
  Net loss ..................................................................     $(13,216)    $(12,786)
  Adjustment to retained earnings as a result of business combination .......           --          513
  Adjustments to reconcile net loss to net cash provided
    by (used in) operating activities:
      Non-cash restructuring costs ..........................................        2,003           --
      Write-off of acquired in-process technology ...........................           --        5,575
      Depreciation and amortization .........................................        2,039        1,048
      Provision for losses on receivables and product returns................        7,981        1,640
      Provision for losses on inventory .....................................          347          270
      Accrued interest income ...............................................          (85)         (84)
      Changes in operating assets and liabilities:
        Accounts receivable .................................................        2,627       (5,832)
        Inventories .........................................................          107         (505)
        Income taxes receivable .............................................         (534)      (2,024)
        Prepaid expenses and other assets ...................................       (1,790)       1,188
        Accounts payable and accrued expenses ...............................        1,897          123
        Royalties payable ...................................................         (258)         235
        Long-term liabilities ...............................................           --          400
                                                                                 -----------------------
         Net cash provided by (used in) operating activities                         1,118      (10,239)

Cash flows from investing activities:
  Purchases of short-term investments .......................................      (30,548)     (17,578)
  Proceeds from sales and maturities of short-term investments...............       34,441       29,039
  Purchases of property and equipment .......................................       (1,943)      (2,013)
  Purchases of software technology and product rights .......................         (355)         (25)
  Payments in connection with acquisition ...................................           --       (1,233)
                                                                                 -----------------------
         Net cash provided by investing activities ..........................        1,595        8,190

Cash flows from financing activities:
  Repayment of notes payable ................................................           --         (274)
  Proceeds from exercise of stock options ...................................          714          270
                                                                                 -----------------------
         Net cash provided by (used in) financing activities                           714           (4)


Effect of exchange rates changes on cash ....................................           (1)          15
                                                                                 -----------------------

Net increase (decrease) in cash and cash equivalents ........................        3,426       (2,038)
Cash and cash equivalents at beginning of period ............................        9,653       21,605
                                                                                 -----------------------
Cash and cash equivalents at end of period ..................................     $ 13,079     $ 19,567
                                                                                 =======================
</TABLE>


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





                                       5
<PAGE>   6

                            METACREATIONS CORPORATION
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                                   (UNAUDITED)


1.  SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

The accompanying unaudited consolidated financial statements include the
accounts of MetaCreations Corporation and its wholly-owned subsidiaries
(collectively "MetaCreations" or the "Company"). All significant intercompany
accounts and transactions have been eliminated in consolidation.

The accompanying unaudited consolidated financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statement presentation. In the opinion of management, the accompanying
consolidated balance sheets and related interim consolidated statements of
operations and cash flows include all adjustments (consisting only of normal
recurring items) considered necessary for their fair presentation. The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets, liabilities, revenues and expenses.
Actual results could differ from those estimates. The consolidated results of
operations for the period ended June 30, 1998 are not necessarily indicative of
results to be expected for the year ending December 31, 1998. The information
included in this Form 10-Q should be read in conjunction with the Company's
audited consolidated financial statements and notes thereto as of December 31,
1997 and 1996, and for the three years in the period ended December 31, 1997, as
filed on Form 10-K.

Revenue Recognition

During the three months ended March 31, 1998, the Company adopted Statement of
Position ("SOP") 97-2, "Software Revenue Recognition," which superceded SOP
91-1. SOP 97-2 generally requires revenue earned on software arrangements
involving multiple elements (e.g., software products, upgrades/enhancements,
postcontract customer support, etc.) to be allocated to each element based on
the relative fair value of the elements. The fair value of an element must be
based on evidence which is specific to the Company. The revenue allocated to
software products (including specified upgrades/enhancements) generally is
recognized upon delivery of the products. The revenue allocated to postcontract
customer support generally is recognized ratably over the term of the support.
If the Company does not have evidence of the fair value for all elements in a
multiple-element arrangement, all revenue from the arrangement is deferred until
such evidence exists or until all elements are delivered. The impact of adopting
SOP 97-2 was not material to the Company's financial position, results of
operations or cash flows.

The Company provides an allowance for estimated returns at the time of product
shipments and adjusts this allowance as needed based on actual return history.
Such reserves as a percentage of net revenues have varied over recent years,
reflecting the Company's experience in product returns as it has significantly
expanded the proportion of its sales through third-party distribution channels
and increased its product portfolio. The Company expects reserves will continue
to





                                       6
<PAGE>   7

                            METACREATIONS CORPORATION
                    NOTES TO FINANCIAL STATEMENTS (CONTINUED)
                                   (UNAUDITED)


vary in the future. The Company's agreements with its distributors generally
provide the distributors with limited rights to return unsold inventories under
a stock balancing program. The Company monitors the activities of its
distributors in an effort to minimize excessive returns and establishes its
reserves based on its estimates of expected returns.

Comprehensive Income

During the three months ended March 31, 1998, the Company adopted Statement of
Financial Accounting Standard ("SFAS") No. 130, "Reporting Comprehensive
Income." SFAS No. 130 establishes standards for the reporting and display of
comprehensive income and its components in a full set of general purpose
financial statements. Comprehensive income is defined as the change in equity of
a business enterprise during a period from transactions and other events and
circumstances from nonowner sources. Differences between comprehensive income
and net income were not material to the Company's financial position, results of
operations or cash flows for the three and six months ended June 30, 1998 and
1997.

Statement of Financial Accounting Standards Not Yet Adopted

In June 1997, the Financial Accounting Standards Board issued SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related Information." SFAS No.
131 requires publicly-held companies to report financial and other information
about key revenue-producing segments of the entity for which such information is
available and is utilized by the chief operating decision maker. Specific
information to be reported for individual segments includes profit or loss,
certain revenue and expense items and total assets. A reconciliation of segment
financial information to amounts reported in the financial statements would be
provided. SFAS No. 131 requires companies to adopt its provisions for fiscal
years beginning after December 15, 1997, but does not require that segment
information be reported in financial statements for interim periods in the
initial year of application. Management is currently evaluating the requirements
of adopting SFAS No. 131 and the effects, if any, on the Company's current
reporting and disclosures.

2.  RESTRUCTURING

On June 30, 1998, the Company announced and began to implement a restructuring
plan aimed at reducing costs and improving competitiveness. In connection with
the restructuring, management considered the Company's future operating costs
and levels of revenue in 1998 and beyond, and determined that a restructuring
charge of $5.0 million was required to cover the costs of reducing certain
sectors of its workforce and facilities. The restructuring charge included an
accrual of approximately $3.0 million related to severance and benefits
associated with the reduction of approximately 75 positions during July 1998, as
well as the related reduction of certain of the Company's facilities. Non-cash
restructuring costs, which totaled approximately $2.0 million, primarily related
to the write-down of non-strategic business assets made redundant or obsolete
due to the reduction of facilities and/or streamlining of the Company's product
lines. The Company expects completion of the restructuring plan during the
second half of 1998.





                                       7
<PAGE>   8

                           METACREATIONS CORPORATION
                   NOTES TO FINANCIAL STATEMENTS (CONTINUED)
                                  (Unaudited)


The following table depicts the restructuring activity through June 30, 1998 (in
thousands):

<TABLE>
<CAPTION>
                                              Total
                                         Restructuring  Spending/   Balance at
                                             Charges     Charges  June 30, 1998
                                        ----------------------------------------
    <S>                                       <C>         <C>          <C>   
    Write-down of operating assets ....       $2,003      $2,003       $   --
    Severance and benefits ............        1,956          --        1,956
    Vacated facilities ................          531          --          531
    Other .............................          465          --          465
                                        ----------------------------------------
                                              $4,955      $2,003       $2,952
                                        ========================================
</TABLE>

3.  INVENTORIES

Inventories consist of the following (in thousands):

<TABLE>
<CAPTION>
                                                     JUNE 30        DECEMBER 31,
                                                       1998            1997
                                                    ----------------------------
    <S>                                              <C>              <C>   
    Finished goods .......................           $  677           $1,465
    Materials and supplies ...............              101              202
                                                    ----------------------------
                                                     $  778           $1,667
                                                    ============================
</TABLE>

4.  INCOME TAXES

Based upon a review of the Company's deferred income tax assets, available tax
carrybacks, recent quarterly losses, and expected future taxable income, the
Company did not record a benefit for income taxes for the three months ended
June 30, 1998. Management believes that it is more likely than not that any
additional income tax benefit would not be realized at this point in time. The
benefits for income taxes for the three and six months ended June 30, 1997 were
based on the Company's estimated annualized effective tax rate for the year,
after giving effect to the utilization of available tax credits and tax planning
opportunities.





                                       8
<PAGE>   9

                           METACREATIONS CORPORATION
                   NOTES TO FINANCIAL STATEMENTS (CONTINUED)
                                  (Unaudited)
5.  LOSS PER SHARE

The following table provides a reconciliation of the numerators and denominators
of the basic and diluted per-share computations for the three and six months
ended June 30, 1998 and 1997 in accordance with SFAS No. 128, "Earnings per
Share" (in thousands, except per share amounts):

<TABLE>
<CAPTION>
                                             LOSS          SHARES      PER-SHARE
                                         (NUMERATOR)    (DENOMINATOR)   AMOUNT
                                         ---------------------------------------
    <S>                                    <C>              <C>         <C>     
    Three Months Ended:
      June 30, 1998:
        Basic EPS ...................      $(12,393)        23,736      $  (.52)
        Effect of dilutive securities            --             --
                                         ---------------------------
        Diluted EPS .................      $(12,393)        23,736      $  (.52)
                                         ===========================

      June 30, 1997:
        Basic EPS ...................      $(12,354)        22,825      $  (.54)
        Effect of dilutive securities            --             --
                                         ---------------------------
        Diluted EPS .................      $(12,354)        22,825      $  (.54)
                                         ===========================

    Six Months Ended:
      June 30, 1998:
        Basic EPS ...................      $(13,216)        23,679      $  (.56)
        Effect of dilutive securities            --             --
                                         ---------------------------
        Diluted EPS .................      $(13,216)        23,679      $  (.56)
                                         ===========================

      June 30, 1997:
        Basic EPS ...................      $(12,786)        22,549      $  (.57)
        Effect of dilutive securities            --             --
                                         ---------------------------
        Diluted EPS .................      $(12,786)        22,549      $  (.57)
                                         ===========================
</TABLE>

The computation of the diluted number of shares excludes unexercised stock
options which are anti-dilutive. Stock options to purchase 7,112,000 and
6,179,000 shares of common stock were outstanding as of June 30, 1998 and 1997,
respectively, and excluded from the computation.





                                       9
<PAGE>   10


Item 2.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
         RESULTS OF OPERATIONS

The following discussion should be read in conjunction with the unaudited
consolidated financial statements and notes thereto.

The discussion and analysis below contains trend analysis and other
forward-looking statements within the meaning of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of 1934, as amended.
The Company's actual results could differ materially from those projected in the
forward-looking statements. Factors that could cause or contribute to such
differences include, but are not limited to, those discussed in the section
entitled "Factors That May Affect Future Operating Results," as well as those
discussed elsewhere in the Company's SEC reports, including without limitation,
the Company's audited consolidated financial statements and notes thereto as of
December 31, 1997 and 1996, and for the three years in the period ended December
31, 1997, as filed on Form 10-K.

OVERVIEW

MetaCreations was formed in May 1997, as a result of the merger of MetaTools,
Inc. and Fractal Design Corporation, and included the acquisitions of Real Time
Geometry Corp. in December 1996 and Specular International. Ltd. in April 1997,
as well as the previous merger of Fractal and Ray Dream, Inc. in May 1996. The
financial results for the three and six months ended June 30, 1997 include the
pooled financial statements of MetaTools, Inc. and Fractal Design Corporation.

Net revenues decreased during the three months ended June 30, 1998 as a result
of lower than expected demand in the domestic retail channels, weak demand in
Japan, and increased reserves for returns from distributors to reflect lower
demand. The Company believes the recent weakness in the personal computer retail
markets contributed to the overall weak demand for its products in the second
quarter of 1998. On June 30, 1998, the Company announced and began to implement
a restructuring plan aimed at reducing costs and improving competitiveness. In
connection with the restructuring, the Company recorded a one-time charge to
earnings of $5.0 million to cover the costs of reducing certain sectors of its
workforce and facilities to levels more appropriate to current business
requirements.

While the Company has begun refocusing its product line, the Company's future
revenues continue to be substantially dependent upon the continued market
acceptance of the Company's existing leading products: Bryce, Infini-D, Kai's
Photo Soap, Kai's Super GOO, Kai's Power SHOW, Kai's Power Tools, Painter,
Poser, and Ray Dream Studio. In this regard, revenue from the sale of these
products represented a substantial majority of net revenues during the three
months ended June 30, 1998. The Company also has a number of new product
development efforts under way, and a significant portion of future revenues is
dependent upon the timely introduction and ultimate success of these products.

The Company develops substantially all of its products either internally or
occasionally through co-development arrangements with third parties. These
co-development arrangements generally provide the Company with certain exclusive
proprietary, copyright or marketing rights for developed products in exchange
for the payment of one-time and/or ongoing royalties. The





                                       10
<PAGE>   11

Company expects to continue fostering arrangements with external developers as
part of its strategy of expanding its product portfolio. There can be no
assurance, however, that the Company will be able to continue to supplement its
product development efforts in the future through such relationships.

The Company sells its products primarily to domestic and international
distributors, including mail order resellers and retail outlets. The Company
also sells its products to Original Equipment Manufacturers ("OEMs") for
bundling with their hardware or software products and directly to end users,
generally through telesales and direct mail campaigns. Fluctuations in
distributor purchases can cause significant volatility in the Company's
revenues. Distributors generally stock the Company's products at levels which
may fluctuate significantly for a variety of reasons, including the
distributors' ability to finance the purchase of products and to devote shelf
space, catalog space or attention to the products. Distributor purchases may
also be affected by the Company's introduction of a new product or new version
of a product, the Company's end user promotions programs, anticipated product
price increases, the Company's purchases of display space at retail outlets and
other factors. Further, OEM agreements, which generally provide for minimum
guaranteed non-refundable payments to the Company, typically coincide with the
planned introduction of OEM bundled products and are often entered into at the
end of the quarter. The timing of the execution of such agreements can fluctuate
substantially throughout the year, causing volatility in the Company's revenues,
operating results, and cash flows.

Since its inception, the Company has focused on building its product portfolio
and establishing brandname awareness of its products. These activities have
resulted in significant increases in all expense categories. The Company's
recent product development efforts have also entailed significant research and
development expenditures. These higher expense levels combined with costs
associated with periodic restructurings, mergers, and acquisitions, including
the related write-off of acquired in-process technology, and quarterly
fluctuations in net revenues have contributed to the Company's periodic annual
and quarterly losses, as well as fluctuations in its operating results. The
Company intends to continue to invest significant amounts in developing new
markets for its products, as well as maintaining and enhancing brand awareness,
and accordingly may continue to experience losses and volatility of net revenues
and operating results in future periods.

















                                       11

<PAGE>   12

OPERATING RESULTS

The following table sets forth certain selected financial information expressed
as a percentage of net revenues for the periods indicated:

<TABLE>
<CAPTION>
                                     THREE MONTHS ENDED     SIX MONTHS ENDED
                                          JUNE 30,              JUNE 30,
                                     ----------------------------------------
                                       1998       1997      1998       1997
                                     ----------------------------------------
    <S>                              <C>        <C>        <C>        <C>    
    Net revenues ...................   100.0 %    100.0 %    100.0 %    100.0 %
    Cost of revenues ...............    19.5       19.0       17.4       19.5
                                     ----------------------------------------
       Gross margin ................    80.5       81.0       82.6       80.5

    Operating expenses:
    Sales and marketing ............   106.5       45.6       73.3       49.6
    Research and development .......    55.3       19.0       38.6       20.7
    General and administrative .....    19.9        7.5       15.3        9.5
    Write-off of acquired in-process
      technology, restructuring
      and mergers ..................    61.8       86.3       22.1       50.6
                                     ----------------------------------------
        Total operating expenses ...   243.5      158.4      149.3      130.4
                                     ----------------------------------------
    Loss from operations ...........  (163.0)     (77.4)     (66.7)     (49.9)
    Interest and investment
      income, net ..................     8.4        4.1        6.2        5.0
                                     ----------------------------------------
    Net loss before benefit for
      income taxes .................  (154.6)     (73.3)     (60.5)     (44.9)
    Benefit for income taxes .......    --         (7.4)      (1.6)      (4.9)
                                     ----------------------------------------
    Net loss .......................  (154.6)%    (65.9)%    (58.9)%    (40.0)%
                                     ========================================
</TABLE>

Net Revenues

Net revenues totaled $8.0 million for the three months ended June 30, 1998,
representing a 57% decrease from net revenues of $18.7 million for the three
months ended June 30, 1997. Net revenues decreased as a result of lower than
expected demand in the domestic retail channels, weak demand in Japan, and
increased reserves for returns from distributors to reflect lower demand.
Additionally, the Company also believes recent weakness in the personal computer
retail markets contributed to the overall weak demand for its products in the
second quarter of 1998. During the three months ended June 30, 1998, the Company
released three new versions of its products, Infini-D 4.5, Kai's Super GOO, and
Poser 3. International sales accounted for $2.4 million, or 30% of net revenues,
for the three months ended June 30, 1998, compared to $6.6 million, or 35% of
net revenues, for the three months ended June 30, 1997.

Net revenues totaled $22.4 million for the six months ended June 30, 1998,
compared to $32.0 million for the six months ended June 30, 1997, a decrease of
30%. The decrease in net revenues is attributed to lower than expected demand in
the domestic retail channels and in Japan, as well as increased reserves for
returns from distributors necessitated by the reduced demand. International
sales accounted for $7.1 million, or 31% of net revenues, for the six months
ended June 30, 1998, compared to $12.9 million, or 40% of net revenues, for the
six months ended June 30, 1997.





                                       12
<PAGE>   13

The Company recognizes revenue from the sale of its products in accordance with
SOP 97-2, which generally requires revenue earned on software arrangements
involving multiple elements (e.g., software products, upgrades/enhancements,
postcontract customer support, etc.) to be allocated to each element based on
the relative fair value of the elements. The fair value of an element must be
based on evidence which is specific to the Company. The revenue allocated to
software products (including specified upgrades/enhancements) generally is
recognized upon delivery of the products. The revenue allocated to postcontract
customer support generally is recognized ratably over the term of the support.
If the Company does not have evidence of the fair value for all elements in a
multiple-element arrangement, all revenue from the arrangement is deferred until
such evidence exists or until all elements are delivered.

The Company provides an allowance for estimated returns at the time of product
shipments and adjusts this allowance as needed based on actual return history.
Such reserves as a percentage of net revenues have varied over recent years,
reflecting the Company's experience in product returns as it has significantly
expanded the proportion of its sales through third-party distribution channels
and increased its product portfolio. The Company expects reserves will continue
to vary in the future. The Company's agreements with its distributors generally
provide the distributors with limited rights to return unsold inventories under
a stock balancing program. The Company monitors the activities of its
distributors in an effort to minimize excessive returns and establishes its
reserves based on its estimates of expected returns. While historically the
Company's returns have been within management's expectations, the establishment
of reserves requires judgments regarding such factors as future competitive
conditions and product life cycles, which can be difficult to predict. As a
result, there can be no assurance that established reserves will be adequate to
cover actual future returns.

Cost of Revenues

Cost of revenues includes the costs of goods sold, royalties due to external
developers, inventory management costs, freight and handling costs and reserves
for inventory obsolescence. Cost of revenues totaled $1.6 million for the three
months ended June 30, 1998, compared to $3.6 million for the three months ended
June 30, 1997, but remained flat at 19% of net revenues for both periods. The
decrease in cost of revenues resulted from the decrease in net revenues during
the quarter. Royalties represented 3% of net revenues for both the three months
ended June 30, 1998 and 1997.

Cost of revenues totaled $3.9 million, or 17% of net revenues, for the six
months ended June 30, 1998, compared to $6.2 million, or 19% of net revenues,
for the six months ended June 30, 1997. The decrease in cost of revenues as a
percentage of net revenues resulted from the changing mix of product sales.
Royalties represented 3% and 4% of net revenues for the six months ended June
30, 1998 and 1997, respectively.

The Company expects that cost of revenues will increase in the future
commensurate with any increase in net revenues, but may vary as a percentage of
net revenues.





                                       13
<PAGE>   14

Sales and Marketing

Sales and marketing expenses include advertising, promotional materials, mail
campaigns, trade shows and the compensation costs of sales, marketing, customer
service and public relations personnel who promote the Company's products,
including related facilities costs. Sales and marketing expenses remained flat
at $8.5 million for both the three months ended June 30, 1998 and 1997, but
increased as a percentage of net revenues from 46% to 107%. Sales and marketing
expenses totaled $16.5 million, or 73% of net revenues, for the six months ended
June 30, 1998, an increase of 4% over sales and marketing expenses of $15.9
million, or 50% of net revenues, for the six months ended June 30, 1997. The
increase reflected the Company's efforts to expand its sales and marketing
presence and distribution channels through increased advertising, mail
campaigns, and public relations.

The Company expects sales and marketing expenses will continue to increase in
future periods, but such expenses may vary as a percentage of net revenues.

Research and Development

Research and development expenses consist primarily of personnel costs,
consultant fees and required equipment and facilities costs related to the
Company's product development efforts. Research and development expenses totaled
$4.4 million, or 55% of net revenues, for the three months ended June 30, 1998,
compared to $3.6 million, or 19% of net revenues, for the three months ended
June 30, 1997, as a result of operating expenses related to increased headcount.

For the six months ended June 30, 1998, research and development expenses
totaled $8.6 million, or 39% of net revenues, an increase of 31% over research
and development expenses of $6.6 million, or 21% of net revenues, for the six
months ended June 30, 1997. The increase was attributed to additional personnel
hired to expand the Company's product portfolio, enhance its existing products,
and translate its products to foreign languages.

The Company expects research and development expenses will continue to increase
in future periods, but such expenses may vary as a percentage of net revenues.

General and Administrative

General and administrative expenses include compensation costs related to
executive management, finance, and administration personnel of the Company along
with other administrative costs including legal and accounting fees, insurance,
and bad debt expenses. General and administrative expenses totaled $1.6 million,
or 20% of net revenues, for the three months ended June 30, 1998, compared to
general and administrative expenses totaling $1.4 million, or 8% of net
revenues, for the three months ended June 30, 1997. The dollar increase was
attributed to increased reserves for bad debts and increased corporate expenses.

For the six months ended June 30, 1998, general and administrative expenses
totaled $3.4 million, or 15% of net revenues, an increase of 13% over general
and administrative expenses of $3.0 million, or 10% of net revenues, for the six
months ended June 30, 1997. The dollar





                                       14
<PAGE>   15

increase in general and administrative expenses resulted from increased reserves
for bad debts and increased corporate expenses.

The Company expects that its general and administrative expenses will continue
to increase in the future, but such expenses may vary as a percentage of net
revenues.

Restructuring Costs

On June 30, 1998, the Company announced and began to implement a restructuring
plan aimed at reducing costs and improving competitiveness. In connection with
the restructuring, management considered the Company's future operating costs
and levels of revenue in 1998 and beyond, and determined that a restructuring
charge of $5.0 million was required to cover the costs of reducing certain
sectors of its workforce and facilities. The restructuring charge included an
accrual of approximately $3.0 million related to severance and benefits
associated with the reduction of approximately 75 positions during July 1998, as
well as the related reduction of certain of the Company's facilities. Non-cash
restructuring costs, which totaled approximately $2.0 million, primarily related
to the write-down of non-strategic business assets made redundant or obsolete
due to the reduction of facilities and/or streamlining of the Company's product
lines. The Company expects completion of the restructuring plan during the
second half of 1998.

There can be no assurance that such decreases in operating expenses will be
achieved or that, if achieved, that such reductions will be sufficient to
restore profitability to the Company's operations.

Write-off of Acquired In-process Technology and Other Merger Costs

In May 1997, the stockholders of MetaCreations and Fractal approved the merger
of the two companies. As a result of the merger, the Company issued
approximately 9,055,000 shares of MetaCreations common stock for all of the
outstanding shares of Fractal. During the three months ended June 30, 1997, the
Company charged approximately $9.8 million against earnings related to
transaction costs and other costs associated with integrating the two companies.

On April 15, 1997, the Company completed the acquisition of Specular, a
privately held software development company based in Amherst, Massachusetts,
which develops and markets 3-D animation and graphic design tools for
professionals and prosumers. Under the terms of the Purchase Agreement, the
stockholders of Specular received approximately 547,000 shares of the Company's
common stock, valued at approximately $4.1 million, and $1 million in cash in
exchange for all of the outstanding shares of Specular. The Company also issued
450,000 non-qualified stock options to purchase shares of the Company's common
stock to Specular employees at an exercise price of $7 per share, the fair
market value of the Company's common stock on April 16, 1997. The Company has
relocated approximately 13 of Specular's existing engineering and product
management personnel to its Real Time Geometry facilities in Princeton, New
Jersey, closed Specular's Amherst headquarters, and laid-off and provided
severance to approximately 22 of Specular's existing operations, accounting, and
sales personnel. In addition, the Company assumed the net liabilities of
Specular, which totaled $1.6 million at April 15, 1997. The Company charged
approximately $6.4 million against earnings during the three months





                                       15
<PAGE>   16

ended June 30, 1997, comprised of the write-off of acquired in-process
technology of $5.6 million, transaction costs of $300,000, and relocation and
severance costs of $555,000. In addition, the Company recognized a deferred
income tax asset of $900,000 relating to Federal net operating losses and tax
credits of Specular. In accordance with SFAS No. 109, the tax benefits were
first applied to reduce to zero goodwill totaling $280,000, with the remainder
applied against current technology acquired from Specular. After recognition of
the deferred tax asset, acquired current technology totaled $280,000.

Benefit for Income Taxes

Based upon a review of the Company's deferred income tax assets, available tax
carrybacks, recent quarterly losses, and expected future taxable income, the
Company did not record a benefit for income taxes for the three months ended
June 30, 1998. Management believes that it is more likely than not that any
additional income tax benefit would not be realized at this point in time. The
benefits for income taxes for the three and six months ended June 30, 1997 were
based on the Company's estimated annualized effective tax rate for the year,
after giving effect to the utilization of available tax credits and tax planning
opportunities.

Net Loss

Net loss was $12.4 million, or $0.52 per share, for the three months ended June
30, 1998, compared to net loss of $12.4 million, or $0.54 per share, for the
three months ended June 30, 1997. For the six months ended June 30, 1998, net
loss was $13.2 million, or $0.56 per share, compared to net loss of $12.8
million, or $0.57 per share, for the six months ended June 30, 1997.


FACTORS THAT MAY AFFECT FUTURE OPERATING RESULTS

Factors that may affect future operating results include, but are not limited
to, those discussed below, as well as those discussed elsewhere in the Company's
SEC reports, including without limitation, the Company's audited consolidated
financial statements and notes thereto as of December 31, 1997 and 1996, and for
the three years in the period ended December 31, 1997, as filed on Form 10-K.

Seasonality and Fluctuations in Quarterly Results

The Company has experienced in the past and expects in the future to continue to
experience significant fluctuations in quarterly operating results. There can be
no assurance that the Company's future revenues, operating results and cash
flows will not also vary substantially. The Company generally ships products as
orders are received and, therefore, has little or no backlog. As a result,
quarterly revenues, operating results and cash flows of the Company will
generally depend on a number of factors that are difficult to forecast,
including, among others, the volume and timing of and the ability to fulfill
orders received and the timing of and ability to close OEM and licensing
agreements with third parties within a quarter. Quarterly revenues, operating
results and cash flows also may fluctuate due to factors such as demand for the
Company's products; introduction, localization or enhancement of products by the
Company and its competitors;





                                       16
<PAGE>   17

customer or distributor order deferrals in anticipation of new versions of
products; market acceptance of new products; reviews in the industry press
concerning the products of the Company or its competitors; changes or
anticipated changes in pricing by the Company or its competitors; the mix of
distribution channels through which products are sold; the mix of products sold;
returns from distributors; and general economic conditions. Revenues, operating
results and cash flows from the Company's products also may be negatively
affected by delays in the introduction or availability of new hardware and
software products from third parties. The Company experiences some effect of
seasonality in its business, as demand for its products tends to increase during
the quarter ending December 31 as a result of timing of year-end holiday season
buying.

As is common in the software industry, the Company's experience has been that a
disproportionately large percentage of revenues in each fiscal quarter occurs in
the third month of that quarter. Because the Company's staffing and other
operating expenses are based in part on anticipated net revenues, a substantial
portion of which may not be realized until shortly before the end of each fiscal
quarter, delays in the receipt and shipment of orders, including delays that may
be occasioned by failures of third party product fulfillment firms to produce
and ship products, and delays or deferrals in the execution of OEM arrangements
can cause significant variations in the Company's financial position, results of
operations and cash flows from quarter to quarter. The Company will most likely
be unable to adjust spending in a timely manner to compensate for any unexpected
revenue shortfall. Accordingly, any significant shortfall in revenues from the
Company's products in relation to expectations could have an immediate adverse
impact on Company's financial position, results of operations and cash flows.
Additionally, in connection with the Company's recent restructuring, the Company
has focused on reducing its operating expenses to levels more consistent with
expected revenues. However, there is no assurance that such decreases in
operating expenses will be achieved or that, if achieved, such reductions will
be sufficient to restore profitability to the Company's operations.

Due to the foregoing factors, it is likely that the operating results of the
Company for some future quarters may fall below the expectations of securities
analysts and investors. In such event, the trading price of the Company's common
stock could be materially and adversely affected.

Possible Volatility of Stock Price

The price of the Company's common stock has fluctuated significantly in the
past. The management of the Company believes that such fluctuations may have
been caused by announcements of new products, quarterly fluctuations in the
results of operations and other factors. Stock markets in general have also
experienced extreme price volatility in recent months. This volatility has had a
substantial effect on the market prices of securities issued by the Company and
other software companies, particularly graphics software companies, often for
reasons unrelated to the operating performance of the specific companies. The
Company anticipates that prices for the Company's common stock will continue to
be volatile in the future.

Product Transitions and Product Returns

From time to time, the Company and its competitors may announce new products,
product versions, capabilities, or technologies that have the potential to
replace or shorten the life cycles





                                       17
<PAGE>   18

of the Company's existing products. The Company has historically experienced
increased returns of a particular product version following the announcement of
a planned release of a new version of that product. Additionally, as a result of
lower than expected revenues in domestic retail channels and decreased demand in
Japan, the Company increased its reserves for returns during the three months
ended June 30, 1998. Although the Company provides allowances for anticipated
returns, there can be no assurance that product returns will not exceed such
allowances in the future.

The Company has from time to time offered free upgrades to customers who
purchased a product following announcement of a new release and before shipment
of the new version of that product. Such offers can have a negative effect on
revenues, operating results, and cash flows. In addition, the Company may offer
price discounts for new products and product releases in order to facilitate
market acceptance, which also negatively impacts revenue, operating results, and
cash flows. Moreover, the announcement of currently planned or other new
products may cause customers to delay their purchasing decisions in anticipation
of such products. Any of the foregoing could have a material adverse effect on
the business, operating results, financial condition, and cash flows of the
Company.

Dependence on Distributors and on Other Third Parties

While the Company derives some revenues from direct sales, most of its revenues
are derived from the sale of products through third parties. The Company sells
its products worldwide through multiple distribution channels, including
traditional software distributors, hardware and software OEMs, international
distributors, educational distributors, VARs, hardware superstores, retail
dealers, and direct marketers. In addition, the Company's products are
manufactured by third party manufacturing and fulfillment providers.

The Company will be dependent on the continued viability and financial stability
of these third parties. Any termination or significant disruption of the
Company's relationship with any major distributor or retailer, or a significant
reduction in sales volume attributable to the Company's principal resellers
could materially and adversely affect the business, operating results, financial
condition, and cash flows of the Company. The distribution channels through
which the Company's software products are sold have been characterized by rapid
change, significant margin pressures, consolidation and financial difficulties,
including certain of the Company's current distributors and retailers. In
addition, new distribution channels may develop and there can be no assurance
that the Company will be able to effectively distribute its products through
such channels. The bankruptcy, deterioration in financial condition or other
business difficulties of a distributor or retailer could render the Company's
accounts receivable from such entity uncollectable, which could have a material
adverse effect on the Company's business, operating results, financial
condition, and cash flows. Retailers of the Company's products typically have a
limited amount of shelf space and promotional resources for which there is
intense competition, and the Company depends in part upon promotional efforts of
distributors in placing products with retailers. There can be no assurance that
distributors and retailers will continue to purchase the Company's products or
provide the Company's products with adequate levels of shelf space and
promotional support. Failure of distributors or retailers to do so could have a
material adverse effect on the business, operating results, financial condition,
and cash flows of the Company.





                                       18
<PAGE>   19

An integral element of the Company's strategy is to enhance and diversify its
channels of distribution both domestically and internationally. The Company is
currently restructuring its domestic and international sales and marketing force
and continuing to develop distribution relationships with additional third-party
distributors and resellers. The Company's ability to achieve significant revenue
growth in the future will depend in large part on its success in recruiting and
training sufficient sales personnel, distributors, and resellers.

International Operations

International sales represented approximately 30% and 35% of the Company's net
revenues for the three months ended June 30, 1998 and 1997, respectively. A key
component of the Company's strategy is continued expansion into international
markets, primarily Japan and Western Europe. In order to expand its
international presence, the Company will need to retain effective distributors
and hire, retain and motivate qualified personnel internationally. There can be
no assurance that the Company will be able to successfully market, sell,
localize and deliver its products in these international markets.

In addition to the uncertainty as to the Company's ability to expand its
international presence, there are certain risks inherent in doing business on an
international level, such as unexpected changes in regulatory requirements,
problems and delays in collecting accounts receivable, tariffs and other trade
barriers, difficulties in staffing and managing foreign operations, longer
payment cycles, political instability, fluctuations in currency exchange rates,
seasonal reductions in business activity during summer months in Europe and
certain other parts of the world and potentially adverse tax consequences, any
of which could adversely impact the success of international operations. Sales
of products by the Company currently are denominated in U.S. dollars.
Accordingly, any increase in the value of the U.S. dollar as compared to
currencies in the Company's principal overseas markets would increase the
foreign currency-denominated cost of the Company's products, which may
negatively affect the Company's sales in those markets. To date, the Company has
not engaged in currency hedging transactions to reduce the effect of currency
exchange rate fluctuations. In addition, effective copyright and trade secret
protection may be limited or unavailable under the laws of certain foreign
jurisdictions. There can be no assurance that one or more of such factors will
not have a material adverse effect on the Company's international operations
and, consequently, on the business, operating results, financial condition, and
cash flows of the Company.

A significant portion of the Company's net revenues are derived from the Asia
Pacific region, primarily Japan, which has recently experienced weaknesses in
their currency, banking, and equity markets. There can be no assurance that the
financial condition in the Asia Pacific region will improve in the near future
or that the financial condition will not continue to have a material adverse
effect on the Company's international operations and, consequently, on the
business, operating results, financial condition, and cash flows of the Company.
For example, during the three months ended June 30, 1998, these weaknesses had
an adverse impact on demand for the Company's products and, as a result, on the
Company's net revenues from this region.





                                       19
<PAGE>   20

Highly Competitive Markets

The markets for graphics software products such as those offered by the Company
are intensely competitive, subject to rapid change and characterized by constant
demand for new product features, pressure to accelerate the release of new
products and product enhancements and pressure to reduce prices. A number of
companies currently offer products that compete directly or indirectly with one
or more the Company's products. Competitors include, among others, Adobe Systems
Incorporated, Autodesk, Inc., Corel Corporation, Macromedia, Inc., Silicon
Graphics, Inc. (through its Alias/Wavefront division), Microsoft Corporation,
and Broderbund Software, Inc. Many of the Company's competitors or potential
competitors have significantly greater financial, managerial, technical, and
marketing resources. A variety of potential actions by any of these competitors,
including a reduction of product prices, increased promotion, announcement or
accelerated introduction of new or enhanced products or features, acquisitions
of software applications or technologies from third parties, product giveaways
or product bundling could have a material adverse effect on the business,
operating results, financial condition, and cash flows of the Company. In the
event of price erosion, the Company may be unable to successfully reposition
itself to accommodate these actions.

Present or future competitors may be able to develop products comparable or
superior to those offered by the Company or adapt more quickly to new
technologies or evolving customer requirements. In addition, developers of
personal computer operating systems, including Microsoft and Apple Computer, may
incorporate functionality into their operating systems, which may be superior to
or incompatible with the products of the Company, thus adversely affecting the
Company's operating results. In particular, while the Company currently is
developing additional product enhancements that it believes address customer
requirements, there can be no assurance that the development or introduction of
these additional product enhancements will be successfully completed on a timely
basis or that these product enhancements will achieve market acceptance.
Accordingly, there can be no assurance that the Company will be able to continue
to compete effectively in its markets, that competition will not intensify or
that future competition will not have a material adverse effect on the business,
operating results, financial condition, and cash flows of the Company.

Dependence on Key Personnel and Difficulty of Identifying and
Hiring Certain Personnel

The future performance of the Company is substantially dependent on the
performance of its executive officers and key employees. The loss of the
services of any of the executive officers or other key employees of the Company
for any reason and/or the inability to hire executive officers or other key
employees could have a material adverse effect on the business, operating
results, financial condition, and cash flows of the Company. In this regard,
during February 1998, the Company's previous Chief Executive Officer, John
Wilczak, resigned from the Company and was succeeded by Gary Lauer, who most
recently served as President of Silicon Graphics, Inc.'s ("SGI") World Trade
Group and Executive Vice President of SGI's Worldwide Field Operations.
Additionally, the Company's Sr. Vice President, Sales and Marketing; Vice
President, Marketing; and Vice President, Product Management and Design have
left the Company in connection with its recent restructuring. Currently, the
Company is seeking to hire at least two Vice Presidents, Sales and Marketing.





                                       20
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The future success of the Company also depends on its continuing ability to
identify, hire, train and retain other highly qualified technical and managerial
personnel. Competition for such personnel is intense, and the Company has
experienced difficulty in identifying and hiring qualified engineering
personnel. There can be no assurance that the Company will be able to attract,
assimilate or retain other highly qualified technical and managerial personnel
in the future. The inability to attract and retain the necessary technical and
managerial personnel could have a material adverse effect upon the Company's
business, operating results, financial condition, and cash flows.

Rapid Technological Change; Dependence on and Need for New Products and Product
Versions; Potential Delays in Product Releases

The market for visual computing graphics software products, and the personal
computer industry in general, is characterized by rapidly changing technology,
resulting in short product life cycles and strong pricing pressures. As a
result, the success of the Company depends substantially upon its ability to
continue to enhance its existing products, to develop and introduce in a timely
manner new products incorporating technological advances and to meet increasing
customer expectations. To the extent one or more competitors introduce products
that better address customer needs, the Company's business could be adversely
affected. There can be no assurance that the Company will be successful in
developing and marketing enhancements to its existing products or new products
on a timely basis or that any new or enhanced products will adequately address
the changing needs of the marketplace. Also, negative reviews of the Company's
new products or product versions in industry publications could have a material
adverse effect on the Company's financial condition, results of operations, and
cash flows.

The Company intends to continue to increase its research and development
expenditures. To the extent such increases are not accompanied by increased
revenues, the Company's business, operating results, financial condition, and
cash flows would be materially adversely affected. The Company has supplemented
its research and development efforts by exclusively licensing products developed
by or co-developed with third parties. There can be no assurance that the
Company will be able to continue to obtain such outside product development
capabilities on terms favorable to the Company or at all. If the Company was
unable to maintain existing development arrangements or to attract new product
development partners, then the Company would, at a minimum, have to further
increase its research and development expenditures, which could have a material
adverse effect on the Company's business, operating results, financial
condition, and cash flows. In addition, there can be no assurance that such
additional research and development expenditures would result in the production
of commercially acceptable products.

The Company also depends upon internal efforts for the development of new
products and product enhancements. The Company has in the past experienced
delays in the development of new products and product versions. There can be no
assurance that the Company will not experience further delays in connection with
the current product development or future development activities. Also, software
products as complex as those offered by the Company may contain undetected
errors when first introduced or as new versions are released. The Company has in
the past discovered software errors in certain of their new products and
enhancements after the introduction of these products. There can be no assurance
that errors will





                                       21
<PAGE>   22

not be found in new products or releases after commencement of commercial
shipments, resulting in adverse product reviews and a loss of or delay in market
acceptance, which could have a material adverse effect upon the Company's
business, operating results, financial condition, and cash flows.

The market for visual computing graphics software products, and the personal
computer industry in general, is characterized by rapidly changing technology.
There can be no assurances that the further development of the in-process
research and development of the Company will result in commercially viable
products.

Evolving Markets for Computer Graphic Imaging and Internet/Online Design Tools

The markets for computer graphic imaging and Internet/online design tools are
still emerging. There can be no assurance that the markets for the Company's
existing products will grow, that digital graphic and Internet/online content
developers will adopt the Company's products, that sufficient distribution
resources will be available to market the Company's products in a timely manner
or that such products will be successful in achieving market acceptance. The
demand for computer graphic imaging and Internet/online design tools is
dependent upon a number of variables, including the installed base of digital
graphic and multimedia capable personal computers, the widespread availability
of digital media, and the number and expertise of skilled content producers. If
the markets for such tools fail to grow or grow more slowly than the Company
currently anticipates, or if the Company's products fail to achieve market
acceptance, the Company's business, operating results, financial condition, and
cash flows would be materially adversely affected.

Proprietary Rights and Licenses

The Company relies on a combination of copyright, trademark, patent, trade
secret laws, employee and third-party nondisclosure agreements and exclusive
contracts to protect its intellectual and proprietary rights and products. The
Company distributes its software under shrinkwrap license agreements but
generally does not obtain signed license agreements from its end users. In
keeping with software industry standards, the Company does not copy-protect
their software. Accordingly, it may be possible for unauthorized third parties
to copy or reverse engineer the Company's products or otherwise obtain and use
information that the Company regards as proprietary. Furthermore, there can be
no assurance that competitors will not independently develop technologies that
are substantially equivalent or superior to the technologies of the Company.
Policing unauthorized use of the Company's products is difficult, and while the
Company is unable to determine the extent to which software piracy of their
products exists, software piracy can be expected to be a persistent problem. In
addition, the laws of certain countries in which the Company's products are or
may be distributed do not protect products and the intellectual rights to the
same extent as do laws in the United States.

As the number of software products in the industry increases and the
functionality of these products further overlaps, the Company believes that
software increasingly will become the subject of claims that such software
infringes the rights of others. There can be no assurance that third parties
will not assert infringement claims against the Company in the future or that
any such assertions will not result in costly litigation or require the Company
to obtain a license to





                                       22
<PAGE>   23

intellectual property rights of third parties. There can be no assurance that
such licenses will be available on reasonable terms or at all. Furthermore, the
Company licenses certain software products from other companies for distribution
or inclusion in their own products. There can be no assurance that upon the
expiration of these licenses, such licenses will be available again on
reasonable terms or at all, or that similar products could be obtained to
substitute for these products. The inability to license such products could have
a material adverse effect on the Company's business, operating results,
financial condition, and cash flows.

Year 2000 Compliance

Many currently installed computer systems and software products are coded to
accept only two digit entries in the date code field. Beginning in the year
2000, these date code fields will need to accept four digit entries to
distinguish 21st century dates from 20th century dates. As a result, in less
than two years, computer systems and software used by many companies may need to
be upgraded to comply with such "Year 2000" requirements. The Company has
completed implementation of a Year 2000 compliant enterprise-wide information
system. The Company has also initiated an assessment project, both within the
Company and with its business partners, which addresses those other significant
systems that may have Year 2000 compliance issues. The Company presently
believes that with the implementation of the new system and modification to
existing software, Year 2000 compliance will not have a material adverse effect
on the financial condition, results of operations, or cash flows of the Company.
However, there can no assurance that the Company's software contains all date
code changes necessary to prevent processing errors potentially arising from
calculations using the Year 2000 date. Any disruptions in product development or
other operations of the Company as a result of Year 2000 noncompliance could
materially and adversely affect the Company's business, financial condition,
results of operations, and cash flows. The Company believes that the purchasing
patterns of customers and potential customers may also be affected by Year 2000
issues as companies expend significant resources to upgrade their current
software systems for Year 2000 compliance. These expenditures may result in
reduced funds available to purchase products such as those offered by the
Company. Furthermore, there can be no assurance that the Company's customers,
business partners and suppliers are or will be Year 2000 compliant. Failure of
the Company's customers, business partners and suppliers to achieve Year 2000
compliance could materially and adversely affect the Company's business,
financial condition, results of operations, and cash flows.     


LIQUIDITY AND CAPITAL RESOURCES

Historically, net cash used in operating activities and investing activities of
the Company has been significant due to operating losses from acquisitions and
mergers and working capital requirements resulting from the growth of the
Company. Cash and investments totaled $49.5 million at June 30, 1998, compared
to cash and investments of $50.0 million at December 31, 1997. Net cash provided
by operating activities of the Company totaled $1.1 million for the six months
ended June 30, 1998, compared to net cash used in operating activities of
$(10.2) million for the six months ended June 30, 1997. The increase in cash
provided by operating activities is primarily attributed to the decrease in
accounts receivable and to the provision for losses on receivables and product
returns recorded during the six months ended June 30, 1998. Net cash provided by
investing activities totaled $1.6 million and $8.2 million for the six months
ended June 30, 1998 and 1997, respectively. The change resulted primarily from
net sales of short-term investments during the respective periods. Net cash
provided by (used in) financing activities totaled $714,000 and $(4,000) for the
six months ended June 30, 1998 and 1997, respectively, resulting from proceeds
received from the exercise of stock options by the Company's employees during
the respective periods. Additionally, the Company paid off notes payable
totaling $274,000 during the six months ended June 30, 1997, in connection with
its acquisition of Specular.

The Company expects that its working capital requirements will continue to
increase to the extent the Company continues to grow. The Company believes that
its current cash and investment balances, cash provided by future operations, if
any, and available borrowings under the Company's line of credit are sufficient
to meet its working capital needs and anticipated capital expenditure
requirements through at least the next twelve months.





                                       23
<PAGE>   24

STATEMENT OF FINANCIAL ACCOUNTING STANDARDS NOT YET ADOPTED

In June 1997, the Financial Accounting Standards Board issued SFAS No. 131,
"Disclosures about Segments of an Enterprise and Related Information." SFAS No.
131 requires publicly-held companies to report financial and other information
about key revenue-producing segments of the entity for which such information is
available and is utilized by the chief operating decision maker. Specific
information to be reported for individual segments includes profit or loss,
certain revenue and expense items and total assets. A reconciliation of segment
financial information to amounts reported in the financial statements would be
provided. SFAS No. 131 requires companies to adopt its provisions for fiscal
years beginning after December 15, 1997, but does not require that segment
information be reported in financial statements for interim periods in the
initial year of application. Management is currently evaluating the requirements
of adopting SFAS No. 131 and the effects, if any, on the Company's current
reporting and disclosures.


                           PART II. OTHER INFORMATION

Item 1.  LEGAL PROCEEDINGS

None

Item 2.  CHANGES IN SECURITIES

On July 24, 1998, the Board of Directors of the Company announced that it had
declared a dividend distribution of one Preferred Share Purchase Right (the
"Rights") on each outstanding share of the Company's Common Stock. The Rights
are designed to assure that the Company's stockholders receive fair and equal
treatment in the event of any proposed takeover of the Company and to guard
against partial tender offers and other abusive tactics to gain control of
MetaCreations without paying all stockholders the fair value of their shares,
including a "control premium."

Each right will entitle stockholders to buy one one-thousandth of a share of the
Company's Series A Participating Preferred Stock at an exercise price of $38.00.
The Rights will become exercisable following the tenth day after a person or
group announces acquisition of 15% or more of the Company's Common Stock or
announces commencement of a tender offer the consummation of which would result
in ownership by the person or group of 15% or more of the Common Stock. The
Company will be entitled to redeem the Rights at $0.01 per Right at any time on
or before the tenth day following acquisition by a person or group of 15% or
more of the Company's Common Stock.

If, prior to redemption of the Rights, a person or group acquires 15% or more of
the Company's Common Stock, each Right not owned by a holder of 15% or more of
the Common Stock will entitle its holder to purchase, at the Right's then
current exercise price, that number of shares of Common Stock of the Company
(or, in certain circumstances as determined by the Board, cash, other property
or other securities) having a market value at that time of twice the Right's
exercise price. If, after the tenth day following acquisition by a person or
group of 15% or more of the Company's Common Stock, MetaCreations sells more
than 50% of its assets or earning power or





                                       24
<PAGE>   25

is acquired in a merger or other business combination transaction, the acquiring
person must assume the obligations under the Rights and the Rights will become
exercisable to acquire Common Stock of the acquiring person at the discounted
price. At any time after an event triggering exercisability of the Rights at a
discounted price and prior to the acquisition by the acquiring person of 50% or
more of the outstanding Common Stock, the Board of Directors of the Company may
exchange the Rights (other than those owned by the acquiring person or its
affiliates) for Common Stock of the Company at an exchange ratio of one share of
Common Stock per Right.

The dividend distribution was made on August 13, 1998, payable to stockholders
of record on August 13, 1998. The Rights will expire on August 13, 2008.

Item 3.  DEFAULTS UPON SENIOR SECURITIES

None

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

The following matters were approved at the Company's Annual Meeting of
Stockholders held on May 6, 1998:

    (a) The following directors were elected:

<TABLE>
<CAPTION>
          Directors                     Votes For       Votes Withheld
          ---------                     ----------      --------------
          <S>                           <C>               <C>      
          Samuel H. Jones, Jr.          17,449,147        1,238,620
          Bert Kolde                    17,430,183        1,257,584
          Kai Krause                    18,348,616          339,151
          William H. Lane, III          18,393,305          294,462
          Gary L. Lauer                 18,392,581          295,186
          Howard L. Morgan              18,403,894          283,873
          Mark Zimmer                   18,403,419          284,348
</TABLE>

    (b) The stockholders approved the Amendment to MetaCreations 1995 Stock Plan
        to increase the shares reserved for issuance thereunder by 1,500,000
        shares by the following vote:

<TABLE>
          <S>                           <C>       
          For:                          10,124,642
          Against:                       1,109,484
          Abstain:                       1,012,730
          No Vote:                       6,440,911
</TABLE>





                                       25
<PAGE>   26

    (c) The stockholders approved the Amendment to MetaCreations Employee Stock
        Purchase Plan to increase the shares reserved for issuance thereunder by
        300,000 shares by the following vote:

<TABLE>
          <S>                           <C>       
          For:                          11,786,204
          Against:                         411,455
          Abstain:                          49,197
          No Vote:                       6,440,911
</TABLE>

    (d) The stockholders ratified the appointment of PricewaterhouseCoopers LLP
        as independent accountants of the Company by the following vote:

<TABLE>
          <S>                           <C>       
          For:                          18,612,951
          Against:                          41,201
          Abstain:                          26,215
          No Vote:                           7,400
</TABLE>

Item 5.  OTHER INFORMATION

As of March 16, 1998, Alexander Migdal beneficially owned 916,302 shares of the
Company's common stock (including 100,833 shares issuable upon exercise of
options to purchase the Company's Common Stock that were exercisable within 60
days of March 16, 1998). Due to a typographical error, this share number was
incorrect in the Company's 1998 Proxy Statement.

Item 6.  EXHIBITS AND REPORTS ON FORM 8-K

(a) Exhibits

<TABLE>
<CAPTION>
      Exhibit
       Number                           Exhibit Title
      -------                           -------------
        <S>      <C>
         3.6     Bylaws of Registrant, as amended July 24, 1998

        10.5     1995 Stock Plan, as amended May 6, 1998

        10.39    Amendment to Employment Agreement between the Registrant and
                   Gary L. Lauer, dated July 16, 1998

        27.1     Financial Data Schedule
</TABLE>

(b) Reports on Form 8-K

    None








                                       26
<PAGE>   27


                                   SIGNATURES


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





                                        METACREATIONS CORPORATION
                                        (Registrant)



 Date:  August 14, 1998                 /s/ TERANCE A. KINNINGER
                                        -------------------------------
                                        Terance A. Kinninger
                                        Sr. Vice President and
                                        Chief Financial Officer